An important aim of Adam Smith's analysis in 'The Wealth of Nations' was to direct a devastating blow to what he regarded as the fallacies of the 'mercantile system'. The nineteenth century especially did its best to obscure the evident fact that Smith was actually much more akin to his predecessors than has often been admitted. For the thinking during this period, free trade versus dirigisme became the much sought after demarcation line. This not only implied that the figure of Smith became distorted, but the points where he differed from his predecessors became blurred. 'Along with this followed that the whole tradition before him became obscure and almost impossible to understand, romanticised into a mercantilist beast, the otherness successfully defeated by Smith and the classics.'
The purpose of this essay is to reappraise the ideas expressed by the mercantilist authors between about 1600 and 1750, in the light of such excortotions by classical writers. The English export crisis of the 1620's may be seen as initiating the body of writings which have come to be termed mercantilist. A careful reconsideration of these works in view of the immediate circumstances that prompted them may be better interpreted by understanding that the two traditions (mercantilist and classical) may be better interpreted by understanding that the two 'policies' were developed in different periods as responses to different sets of economic problems. To this end the aims of the mercantilist authors will be classified, followed by a discussion of the tools of the classicists as they have been applied in attempting to expose the supposed futility of mercantilist theory. Finally, the changing conditions which would lead to the emergence of the classical school are reviewed.
Aims of Mercantilism
Smith hailed Mun for presenting a definitive mercantilist manifesto, which claims that in order to prosper a country must export more than it imports, thereby giving rise to an inflow of specie. This doctrine of a favourable balance of trade led to the balance becoming a measuring rod for whether a certain state was successful in its foreign trade or not. The identification of wealth with treasure has been admonished as one of the most grievous errors of mercantilist thought. It seemingly represented the point of difference between Adam Smith's theory of growth conjointly among nations through trade, and the mercantilist axiom that one nation could grow rich at the expense of a rival state. That Mun's main text 'England's Treasure by Foreign Trade' was published posthumously in the 1660's undoubtedly had some far reaching repercussions. As a consequence, according to Gould, this mercantilist manifesto had been misleadingly looked upon by Smith and other commentators mainly as a political pamphlet, while its analytical and principal side was neglected. From a 1620's perspective, its main focus was in presenting some general explanations to the contemporary depression and acute trading crisis, therefore presenting also, it may be argued, a definitively new view of the economic process.
Thus the main of mercantilism came to be represented as 'an aggressive and fallacious hunt for treasure'. It should be realised however that the period 1620-40 which marked the end of the century long inflationary process that had begun with the discovery of the Americas, also saw the beginning of another century which represented a period of depression. The flow of gold and silver from America was drastically reduced and the struggle among European countries to obtain precious metals almost became a zero-sum game. Economists and merchants were no longer worried about inflation, rather about the lack of money to drive and finance trade. An inflow of precious metals caused by a surplus in the balance of trade in a period in which it was only possible to increase internal monetary circulation by a reduction in external spending, was seen above all as the necessary condition for an increase in production and therefore in wealth. In the British case, devaluation of silver on the Continent, in the early 1620's went unmatched at home, giving rise to an ensuing efflux of silver. This bimetallic outflow was a semi-permenant phenomenon during the period, as was the problem of a clipped and worn coinage. Moreover, the attraction of metal overseas was not necessarily on a bimetallic basis i.e. silver need not have gone only to fetch back gold. Supple argues that such a loss of silver coin coinciding with and reinforcing a drastic slump in English exports, could and did reduce supplies of effective money or 'usable currency'; gold had a much lower velocity of circulation, reduced even more by its eminent suitability as a means of holding wealth in an age which placed a premium on liquidity.
There is no doubt that it was this phenomenon which underlay so many contemporary complaints of a scarcity of money. This phrase was typically used as a generic expression for the manifestation of a typically depressed economy, 'characterised by tight credit conditions, rising interest rates, and a growth in the level of bankruptcies.' This was made possible according to Hinton (1955) by the fact at the time, that most business enterprises employed (by modern standards) a low proportion of fixed capital and a high proportion of working capital.
In assuming however that a deflationary readjustment process would speedily occur, one is attributing to these economies a degree of flexibility they simply did not possess. A total supply of money below normal might exist for some time and the structure of society might considerably extend the period which classical economists presupposed to be one of smooth readjustment. Supple therefore argues that mercantilism seen in this light more readily takes on the appearance of a defence mechanism, rather than the previously mentioned aggressive and fallacious hunt for treasure.
Thus the mercantilist authors did not pursue a favourable balance of trade and the ensuing inflow of precious metals as an end in itself, as has been commonly alleged. Rather, it was thought of as a means to a greater end which is perhaps best and most simply described as prosperity. They did not want more silver (gold was little in question) to hoard it, but in order to have more money. Their notion of money was a simple one and is not easily reproduced in terms proper to modern economics. In fact they defined money in terms appropriate to their purpose, 'an anthropomorphic definition but nonetheless a formal one.' Money, they said was vital spirits, blood, - the life of commerce and trade. To those writers, money, was 'not merely a passive medium of exchange, but an active stimulus to trade.'
Such a definition absolutely and deliberately precluded a distinction between money as capital and as currency. As detailed previously, relative to present day standards, industry was extremely light. In the seventeenth century, a man accumulated money in order to invest it and in investing it, circulated it. It was really therefore capital and currency at the same time. In the economic depression of Mun's lifetime, the common cries were of decay of navigation, of trade, of clothing and rents and scarcity of money. This scarcity was, as outlined, a real phenomenon made possible by the high proportion of working to fixed capital.
Mercantilism, thus, makes more sense viewed as a strategy using foreign trade as a device to keep the domestic economy stimulated. By using the word 'trade' as the mercantilists usually did to include all economic activity, 'their designs for enlarging that trade then became methods of accessing the maximum amount of productive effort which is what full employment is also meant to provide.' National prosperity and strength remain ultimate goals but the export balance and the accompanying increase in the money supply was the initial means, with full employment being the major operational end. This is consistent with the development of the issue by later writers who spoke of a modified balance of trade concept, in which the amounts to be compared are not the money values of goods and services, exports and imports, but, the labour inputs they embodied. Protectionist type policies, promoting value-added exports and restricting imports are consistent with this increasing emphasis on Balance of Employment argument. In exchanging goods of different productive potentials, a favourable balance of employment is obtained by exporting goods which have exhausted this productive potential in exchange for goods which still have this potential. Foreign trade becomes the means of strengthening domestic production of wealth and increasing national employment.
Tools of the Classicals
While the logic of a favourable balance of trade doctrine as seen from a mercantilist viewpoint has been shown, such efforts were deemed largely futile by their nineteenth century successors. Thus the classicals and neo-classicals, reasoning with the aposterior benefits of the international balance of specie flows, the doctrine of comparative costs and Say's law of markets 'denied the mercantilist position as having misconceived the connection between exports and imports and thereby relinquished the advantages of the international division of labour for the dubious benefits of an increasing stock of monetary metal.'
David Hume's formulation of the self-adjusting nature of specie flows demonstrated that price level differentials and therefore trade balance disequilibrium between nations tend to be corrected. Mercantilist commercial policy would therefore have been in the best of cases short lived and in the long-run, futile. It has been generally held that though these writers were familiar with the principles needed to arrive at such a proposition, they were unable to make the final integration or the self-adjusting mechanism. In their defence, the author would argue rather that it may be pertinent to cast some doubts on its validity as it applied to the early modern period.
In the first instance, only under the condition that the countries joined in trade are well monetized does the flow mechanism work effectively. The proposition ignored the possibility that an inflow of specie would affect the average velocity of circulation. In particular, the mechanism simply did not fit the important oriental trade as long as the Indies were primarily a source of merchandise imports rather than a destination of English Exports. Thus to the extent that specie constituted an exportable commodity to the East, where it was either ornamented or merely hoarded in oriental treasure chests, the mechanism was rendered largely ineffective. Moreover, even the most advanced western countries of the period were 'dual economies'. A well-monetized economy in the modern sense of the word simply did not exist. This uneven pace of monetization within countries coupled with intensification of trade between them as was the case during the mercantilist period, is likely to lead to monetary disturbances. The mechanism in its pure form relies on two equilibrating levers, namely commodity price and interest rate movements. To the extent that long term capital flows were insignificant during the period, commodity price movements became the sole equilibrating factor. However the 'conventional nature of prices, institutional stickiness, ignorance and confusion', as described by Supple, ensured a sluggish adjustment mechanism. Since the equilibrating mechanism may at best be deemed fitful, in that prices could not be presumed flexible, the preoccupation with the balance of payments is understandable.
Secondly, though prices in some trades may have been flexible, such an adjustment through a deterioration (improvement) in the terms of trade may have represented not a rebalancing effect but rather a further increase in a trade deficit (surplus). Two important aspects to this way of thinking are, firstly the use (albeit in an approximate way) of the Quantity Theory of Money and secondly the implicit hypothesis of a low price elasticity of demand of imports and exports. Such an argument was put forward by Richard Cantillon but was already in the work of Malynes. Mercantilist theory in this regard was robust therefore from a logical point of view, although the realism of the hypotheses on which they were based should be verified. Evidence does exist however that the theoretical jump made by Hume was a real historical change. Probably in the pre-industrial period the elasticity of exports was not very high, given the marked productive specialisation of the various countries and the relative absence of competition ensured by the wars that ravaged France and the Low Countries. However, as manufacturing production later developed in the main capitalist countries, a certain amount of price competition gathered steam, at least for that type of production, increasing the elasticity of exports and imports. Perhaps at the time of David Hume, and later, of Smith, this effect had become seriously dominant.
In a third instance, it may be postulated that the quantity theory came to be seen not as a theory of the price level but rather as a theory of the level of output. As detailed earlier, the period 1620-40 ended a century long inflationary process, the new worry being the lack of availability of money to finance trade. Thus Mun, writing later than Malynes, did explicitly recognise the elasticity of exports and imports in advocating a judicious pricing policy. Gould maintains that it is in this context that we may best understand Mun's failure to formulate the mechanism in the manner of later thinkers of the classical school rather than as indicative of limited analytical powers on his part. Though perceptive of the relationship between specie amounts, price levels and the balance of payments, empirical conditions presented evidence that stable or falling prices can accompany large gold movements into a country under certain conditions - as demonstrated by contemporary Dutch experience. Under the condition therefore that an increased flow of bullion was used as liquid capital to finance a greater volume of trade, significant upward pressure on prices was avoided. For the period in question, at least, this concept is both theoretically sound and empirically supported. The conception of money, already described, as both capital and currency, facilitated such an interpretation. Where Hume's proposition required the full employment of all productive resources, mercantilists thought that money earned by foreign trade and thus circulated as currency would promote economic activity irrespective of its effect on price. That the analysis here is substantially correct seems to be corroborated by a change in emphasis of the chief function of money between the schools of Malynes and Mun. The earlier school emphasised the measure of value. The newer school attached most importance to the 'medium of exchange aspect of money and attention was diverted to the balance of trade and to the benefits conferred by its furnishing an increased supply of liquid capital.'
An increase in the level of economic activity after an increase in the money supply is of course only consistent with a situation of less than full employment. The great concern of the mercantilists over employment, particularly of labour, may have been forced on them by the unemployment of the sixteenth, seventeenth and early eighteenth centuries, which was quite considerable. It seems, to use today's language, that the unemployment was the result of immobility of factors, of seasonal fluctuations, of the rigidity of certain prices and wages which was produced by the monopolistic practices of the guilds and of frequent and severe deflations. In treating such issues, although they made proposals for increasing labour mobility and for enhancing price and wage flexibility, they do not seem to have placed much reliance on them, placing greater confidence in 'inflationary measures; those which by increasing the money supply would lead to increased spending and employment.' Thus the ceteris paribus conditions in which Hume's propositions would have been a valid criticism of mercantilist aims did not exist at the time of mercantilist writing and in these circumstances, it is time that writers on the history of economic thought stopped using this proposition as though it were in itself a sufficient proof of the futility of mercantilist trade policy.
Classicals also made use of the doctrine of Comparative Costs and Say's Law of Markets as a stick with which to beat mercantilist thought. Thus they argued that even if it were possible to maintain a favourable trade balance, such attempts to interfere with international trade result in a decrease of goods available for consumption, since countries specialising in the production and exchange of those commodities in which they display the greatest comparative advantage will each end up with a greater quantity of goods than delivered by attempted economic self-sufficiency. 'The essential point is however that such a doctrine only becomes applicable in a society where labour and natural resources are fully employed.' Synthesising the pre-Smithian awareness of these historical conditions 'Hume wrote that foreign trade plays an essential part of domestic growth, at least until a good level of economic growth has been realised, that is presumably until the domestic market is sufficiently large and diversified.'. Mercantilist exaltation of exports makes sense when thinking in terms of a society where full employment involves surplus domestic production i.e. surplus in the sense of not being disposable in the domestic market at a profitable price. Effective demand and employment were thus regarded as mutually determined.
The classical theorists were blinded to the acceptability of this idea because of their whole-hearted acceptance of Say's principle, according to which no employment problem can exist. Smith clearly indicated that this was his point of disagreement with earlier writers, where he ranks consumption and the interests of consumers as superior to production. However he implicitly assumed that the economy has no difficulty consuming its goods. Modern inheritors of the classical tradition are predisposed therefore to look upon the central economic problem as one of maximising the quantity of goods and services for consumption, without considering the relevance to that problem of 'a society so organised that there is difficulty in disposing of goods profitably.'
Emergence of the Classicals
In the period when liberal economic doctrine developed however, circumstances were very different from those of the mercantilist period. There was no longer the problem of managing a large amount of permanent unemployment; with the obstacles to price and wage flexibility considerably less formidable than they had been in the preceding three centuries. Improvements in transport brought parts of the economy into closer connection, making competition more feasible. Finally, there was an 'expansion of British foreign trade, resulting from the decline of the Dutch empire at the end of the seventeenth century and from the increased efficiency of manufacturing and shipping which gave Britain a cost advantage in the world market.' The relationship between foreign trade and internal development of production, which is present in seventeenth and eighteenth century literature, has generally attracted the attention of historians less than the contest between 'free trader' and supporters of government control of free trade. 'A contest between two ideas seen as having a common aim.' Hence instead of the classical policy of laissez faire, the mercantilists proposed a policy which would utilise the market whenever possible, supplement and control it where not, having full employment as its proximate objective. There was then this difference of means between the mercantilists and the classicists. There was also a difference in emphasis on proximate ends: the mercantilists stressed the full employment of resources and the classicists, the efficiency of the use of particular resources. The difference between means was not a fundamental one, it was a difference over the amount and kinds of control. The mercantilists did not believe in an economy wholly or mainly directed by the state and neither did the eighteenth century classicists believe in an economy entirely controlled by a competitive market.
Thus, both in international and domestic fields, the mercantilists were far from envisaging a harmony of interests such as the classical discussion was to postulate. Politics during the period held the view that power necessitated trade. Of special importance in a situation of less than full employment were the markets and profits afforded by foreign trade. To the extent in which international trade was viewed as a zero-sum game, it consisted of moving wealth from one country to another. Such wealth may be viewed either as the difference between the values or productive potentials of the commodities exchanged. If in international relations, one country's gain is another's loss, commercial policy specifically and foreign economic policy generally become beggar-thy-neighbour type instruments of economic warfare. In this sense, 'the mercantilists may be said to have considered the pursuit of national gain the solution of the economic problem as they saw it.'
It is easy to believe that mercantilist discourse - 'the science of trade' - disintegrated as a mere consequence of the triumph of free trade opinions. Such a belief is misleading as 'later mercantilist authors successfully straddled the free trade position and that of government regulation.' In this sense the repudiation of government controls was not the outcome of an heroic intellectual achievement. Rather it may perhaps be argued that 'The Wealth of Nations' became possible because Britain had achieved under mercantilism a hegemony in which a competitive advantage in free trade was enjoyed. By such a modification of the assumptions under which the thinking of the mercantilists are judged, the results became more flattering to the men, who after all, were engaged in practical statecraft based on the observation of effects, rather than the construction of a logical but spurious theory.
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