Economic history (What is it good for?)

I've also noticed that more people are reading JK Galbraith's The Great Crash of 1929.

I sent this email to a friend who referred me to the book mentioned.

Dear Michael..............

Some more thoughts on that book you mentioned "The Myth of the Rational Market' by Justin Cox. I hope you were able to find his Blog site following the link I sent you. It's a curious title he has given his book. He is obviously NOT a great believer in the market delivering quality outcomes, well not for ALL.

Where did this myth begin you may ask. I am proud to say a Scot wrote in 1776 (the same year as the American War of Independence) a famous book called the "Wealth of Nations" (short title!). Adam Smith wrote in his wonderful manuscript arguing passionately that the wealth of a nation is essentially driven by two most important ideas or concepts.....by the 'invisible hand' (his language for the market) and by self interest. He argued passionately that that economic growth and prosperity was assured if we built an economic society around these two things. The Market Economy was born and capitalism built around the relatively new factory system was set to flourish. We had reached utopia or paradise so we thought.

In that phrase 'self interest' is the root of rational behaviour. Of course Man will always operate by self interest rather than the common good or the greater good as the Jesuits would call it (the ‘Magis'). Economists always say 'let us assume' and all their assumptions are assuming (Ha) that Man is rational in his behaviour. For example with reference to the market, consumers will always demand less at high prices and sellers will always supply more at high prices (profit motive) thus creating an inherent conflict in the market. He believed the conflict best resolved by the freely operating market (the invisible hand) which would under a perfect market establish an equilibrium price and quantity (and so on).

I should say that I was introduced to a wonderful concept early in my study of economics, the famous 'Fallacy of Composition". This simply states that what is true for the individual will also be true for the whole!!! I always thought this to be a fallacy and was deeply suspicious of self interest as one of the driving forces of a market economy. How can everyone operating in their own interest be good for the nation as a whole? Every man for himself never works and generates chaos I have always thought. Smith said it would assure the ‘Wealth of A Nation' but from my point of view only wealth for some! It did not take long for critics to emerge and the ultimate critic was obviously Karl Marx (much under appreciated I feel) who clearly thought that the market would only deliver wealth for some and poverty for the many. His solution of socialism was bold but too extreme perhaps and failed as we know in the 20th century probably because it was introduced in a Communist political State. To this day "Das Kapital" remains a mystery to many but Marx clearly had the right idea about market capitalism but maybe the wrong solution.

Adam Smith of course wrote in his book many things about the "Wealth of A Nation (the concept of specialisation for example being pivotal for productivity and growth). To be fair to Smith he wrote in the late 18th century when markets were small and competition fierce. In those days he could not for see the growth of the New Industrial State and the post market economy of John Kenneth Galbraith who clearly had it right in realising that in reality eventually market power would determine outcomes and wealth (for a few)! There is no such thing as a perfect market (a magical invisible hand) and mans behaviour is often far from rational. Look at the superficial frenzy in 'bear and bull' financial markets for example.

On a greater scale the power eventually shifted to big firms first domestically and now globally. Consumer power and labour market power have been swamped by the power of large firms who manipulate the market to suit there ends. This has led to post market ideas and to a realisation that there are great social and economic costs associated with market liberalism. Are not greenhouse gas emissions and climate change one such example? The social cost is great. Man simply must be more vigilant and markets which are set free to operate like an invisible hand are a recipe for potential disaster such as the GFC now filtering down to reach the real economy, economic growth and the loss of jobs. We must learn from this that in modern times the world of Smith and Co cannot simply operate the way Smith so eloquently explained.

It will be interesting to see what a brave new world might look like. Have we learnt from these mistakes? I doubt it but we must be vigilant with markets or we risk prosperity in a brave new world

In all this you may discern the economic philosophy of an old mate who has proud Scottish roots. I love Adam Smith (ha) and still despite my comments regard him as the founding father of modern economics.

cya Steve

We must learn from history.