The Big Three in Economics OTHER ACADEMIC BOOKS BY MARK SKOUSEN The Structure of Production Economics on Trial Dissent on Keynes (editor) The Investor’s Bible: Mark Skousen’s Principles of Investment Puzzles and Paradoxes in Economics (co-authored with Kenna C. Taylor) Economic Logic The Power of Economic Thinking Vienna and Chicago, Friends or Foes? The Compleated Autobiography by Benjamin Franklin (editor and compiler) The Big Three in Economics Adam Smith Karl Marx and John Maynard Keynes Mark Skousen M.E.Sharpe Armonk, New York London, England Copyright 2007 by Mark Skousen All rights reserved. No part of this book may be reproduced in any form without written permission from the publisher, M.E. Sharpe, Inc., 80 Business Park Drive, Armonk, New York 10504. Library of Congress Cataloging-in-Publication Data Skousen, Mark. The big three in economics : Adam Smith, Karl Marx, and John Maynard Keynes / Mark Skousen. p. cm. Includes bibliographical references and index. ISBN-10: 0-7656-1694-7 (cloth : alk. paper) ISBN-13: 978-0-7656-1694-4 (cloth : alk. paper) 1. Economists—History. 2. Economics—Philosophy. 3. Economists—Biography. 4. Smith, Adam, 1723–1790. 5. Marx, Karl, 1818–1883. 6. Keynes, John Maynard, 1883–1946. I. Title. HB76.S58 2007 330.15092’2 dc22 2006020466 Printed in the United States of America The paper used in this publication meets the minimum requirements of American National Standard for Information Sciences Permanence of Paper for Printed Library Materials, ANSI Z 39.48-1984. ~ BM (c) 10 9 8 7 6 5 4 3 2 1 Dedicated to The Big Three in my life, My editor, my friend, and my wife, Jo Ann Skousen vii Contents Introduction ix Photos follow page 104 Chapter 1. Adam Smith Declares an Economic Revolution in 1776 3 Chapter 2. From Smith to Marx: The Rise and Fall of Classical Economics 46 Chapter 3. Karl Marx Leads a Revolt Against Capitalism 64 Chapter 4. From Marx to Keynes: Scientific Economics Comes of Age 105 Chapter 5. John Maynard Keynes: Capitalism Faces Its Greatest Challenge 133 Chapter 6. A Turning Point in Twentieth-Century Economics 163 Chapter 7. Conclusion: Has Adam Smith Triumphed Over Marx and Keynes? 191 Bibliography 219 Index 231 About the Author 243 ix Introduction During the past three centuries, three economists stand out as archetypes, symbols of three distinct approaches to economic philosophy. In the eighteenth century, Adam Smith, a student of the Scottish Enlighten - ment, expounded a “system of natural liberty” (what we might term a liberal democratic order consisting of an unfettered market and limited government), and elucidated how a nation flourishes and advances the standard of living of its citizens. In the nineteenth century, the German philosopher Karl Marx attracted and inspired workers and intellectuals who felt disenfranchised by industrial capitalism and sought radical so - lutions to inequality, alienation, and exploitation of the underprivileged. Finally, in the twentieth century, the British economist John Maynard Keynes sought to stabilize a crisis-prone market system through activist fiscal and monetary government policies. The Pendulum and the Totem Pole The stories and ideas of these Big Three economists are told in context of a larger history I have described in greater detail in The Making of Modern Economics. In the introduction to that work, I describe two possible approaches to writing about the lives and ideas of economists, what I term the spectral versus the hierarchal approach. The most popular method of analysis I describe as a pendulum, by which historians place each economist somewhere along a political spectrum, from extreme left to extreme right. Figure A illustrates the pendulum approach used in many economics textbooks. The Pendulum Approach to Competing Economic Theories Simple though it is, I see several problems with the spectral ap - proach. First, it treats Karl Marx and Adam Smith as coequals, that is, x INTRODUCTION “extreme” in their positions and therefore equally bad. By implication, neither man’s position is sensible and must be rejected. The result is a pendulum-like swing between the two extremes, eventually coming to rest in the middle. Consequently, the moderate, middle-of-the- road position held by John Maynard Keynes appears to be the more balanced and ideal. But is his system the way to achieve growth and prosperity? Or is the middle of the road simply the path toward big government and a cumbersome welfare state? I suggest as an alternative the “hierarchal” approach. In Indian folklore, the higher one’s placement on the totem pole, the higher the rank of significance. Instead of comparing economists horizontally on a pendulum or spectrum, we might choose to rank them by height according to the same standard of achievement. Using this totem pole structure, I would reformulate the diagram according to Figure B. The Totem Pole of Economics I have chosen a ranking system consistent with the opinions of most economists. A large majority of economists and historians of economic thought consider Adam Smith the greatest of the Big Three. His model of competitive markets constitutes the “first fundamental theorem of welfare economics,” what George Stigler called the “crown jewel” of economics, the “most important substantive proposition in all of economics” (Stigler 1976, 1201). Next on the list is John Maynard Keynes. Despite substantial criticism of the Keynesian model, it continues to endure as a mac - roeconomic model in institutional analysis and policy matters. As a defender of bourgeois values, Keynes supported individual liberty, but on a larger scale, he thought that macroeconomic intervention is Figure A The Pendulum Approach to Competing Economic Theories [...]... just the rich and the rulers, but the common man, too The Wealth of Nations offered a formula for emancipating ADAM SMITH DECLARES A REVOLUTION 5 Figure 1. 1 The Rise in Real per Capita Income, United Kingdom, 11 00 19 95 Income of England (1 100 19 95) 18 ,000 GDP per Capita (19 90 $) 16 ,000 14 ,000 12 ,000 10 ,000 8,000 6,000 4,000 Wealth of Nations published (17 76) 2,000 0 1 100 12 00 13 00 14 00 15 00 16 00 17 00... itself to the lowest ranks of the people” (19 65 [17 76], 11 ) .1 1 All quotes from The Wealth of Nations are from the Modern Library edition (Random House, 19 37, 19 65, 19 94) In this book I refer to the 19 65 edition, which has an introduction by Max Lerner There have been many editions of The Wealth of Nations, including the official edition issued by the University of Glasgow Press, but this edition is the most... take issue with my ranking of Marx as “low man” on the totem pole may take comfort in the argument made by some experts in Indian folklore who claim that the figure on the bottom may in fact be the founder or most significant chief in the history of the tribe The Big Three in Economics 1 Adam Smith Declares an Economic Revolution in 17 76 Adam Smith was a radical and a revolutionary in his time—just as... worked together to set in motion the Industrial Revolution It was no accident that the modern economy began in earnest shortly after 17 76 (see Figure 1. 1) The Enlightenment and the Rumblings of Economic Progress The year 17 76 was significant for other reasons as well For example, it was the year the first volume of Edward Gibbon’s classic work, History of the Decline and Fall of the Roman Empire (17 76–88),... after decade During this 3 4 THE BIG THREE IN ECONOMICS age, when the average life span was a mere forty years, the English writer Thomas Hobbes rightly called the life of man “solitary, poor, nasty, brutish, and short” (19 96 [16 51] , 84) 17 76, a Prophetic Year Then came 17 76, when hope and rising expectations were extended to the common workingman for the first time It was a period known as the Enlightenment,... 16 00 17 00 18 00 19 00 19 95 Courtesy of Larry Wimmer, Brigham Young University the workingman from the drudgery of a Hobbesian world In sum, The Wealth of Nations was a declaration of economic independence Certain dates are turning points in the history of mankind The year 17 76 is one of them In that prophetic year, two vital freedoms were proclaimed—political liberty and free enterprise—and the two worked... him to observe that the greater part of his students desert his lectures; or perhaps attend upon them with plain enough marks of neglect, contempt, and derision The discipline of colleges and universities is in general contrived, not for the benefit of 14 THE BIG THREE IN ECONOMICS the students, but for the interest, or more properly speaking, for the ease of the masters” (720).4 In terms of physical... investment, and labor-saving machinery as essential ingredients to promote rising living standards (326) In his chapter on the accumulation of capital (Chapter 3, Book II) in The Wealth of Nations, Smith emphasized saving and frugality as keys to economic growth, in addition to stable government policies, a competitive business environment, and sound business management 12 THE BIG THREE IN ECONOMICS Smith’s... stated, “There is no more engrossing book in the English language” (in Powell 2000, 2 51) Historian Arnold Toynbee asserted that The Wealth of Nations and the steam engine destroyed the old world and built a new one” (in Rashid 19 98, 212 ) The English historian Henry Thomas Buckle stretched the hyperbole even further to claim that, in terms of its ultimate in uence, Smith’s tome “is probably the most... publication of The Wealth of Nations, the Western world began to flourish as never before The spinning jenny, power looms, and the steam engine were the first of many inventions that saved time and money for enterprising businessmen and the average citizen The Industrial Revolution was beginning to unfold, real wages started climbing, and everyone’s standard of living, rich and poor, began rising to unforeseen . (17 76) 16 00 17 00 18 00 19 00 19 95 10 ,000 12 ,000 14 ,000 16 ,000 18 ,000 Income of England (11 00 19 95) Figure 1. 1 The Rise in Real per Capita Income, United Kingdom, 11 00 19 95 Courtesy of Larry Wimmer,. comfort in the argument made by some experts in Indian folklore who claim that the figure on the bottom may in fact be the founder or most significant chief in the history of the tribe. The Big Three in Economics 3 1 Adam. Smith, 17 76 was also an important year for personal reasons. 8,000 6,000 4,000 2,000 0 11 00 12 00 13 00 14 00 15 00 GDP per Capita (19 90 $) Wealth of Nations published (17 76) 16 00 17 00 18 00 19 00 19 95 10 ,000 12 ,000 14 ,000 16 ,000 18 ,000 Income