The global economy has undergone considerable change over the past few decades. Results have been mixed. On the positive side, the digital revolution has significantly improved the quality of life of billions around the world. Technology advances like the smartphone and wireless Internet, and the economic development brought about by globalization have led to the dramatic decline of extreme poverty around the world. However, these benefits have been accompanied by major dislocations in labor markets, benefiting workers in low-cost developing nations while severely impacting workers in advanced economies.
The promise of technological progress and globalization as drivers of growth and prosperity has been a reality for many, but it’s also created winners and losers within nations, leading to rising economic inequality and fueling the rise of populism in countries around the world. What’s going on? I believe that part of the answer to this very important question can be found by exploring the evolution of free-market, free-trade capitalism over the past couple of centuries.
Adam Smith, the 18th century Scottish economist and philosopher, is the father of free market, free trade capitalism, and one of the major figures of The Enlightenment. In the The Wealth of Nations, considered the first modern work of economics, he explained that in a free market, an individual pursuing his own self-interests tends to also promote the good of his community as a whole, and that the free market, while appearing chaotic and unrestrained, is actually guided to produce the right results by a so-called invisible hand.
The past 200 years have seen many variants of capitalism. They’re all generally based on the private ownership of the means of production, their operation for profit, and the accumulation of capital. Neoclassical economics, first formulated in the 19th century, led to a laissez-faire model of capitalism, based on the premise that given all relevant information people will make rational decisions, markets on their own will achieve the right results, and government interventions, - e.g., regulations, subsidies, tariffs, - are almost always a bad idea.
Faith in neoclassical economies was shattered in the 1930s by the Great Depression, giving rise to Keynesian economics, named for British economist John Maynard Keynes. His pragmatic, mixed model of capitalism, based on a predominantly private sector economy but with an appropriate role for the public sector, dominated economic thinking for the next four decades.
Starting in the 1970s, Keynesian economics started to fall out of favor with the return to neoclassicism led by the Chicago School of Economics, which advocated a nearly universal trust in markets, a circumscribed role for government, and a belief that maximizing shareholder value should be a company’s overriding objective.
The Chicago School was highly influential in the second half of the 20th century, especially with former US president Ronald Reagan and Federal Reserve Chairman Alan Greenspan. But, its influence waned considerably after the 2008 global financial crisis, which many believe was largely the result of their narrow views of business and government.
In an excellent 2009 Financial Times article, Harvard economist and Nobel Prize recipient Amartya Sen wrote about the future of capitalism after the financial crisis.
“What exactly is capitalism?,” he asked. “The standard definition seems to take reliance on markets for economic transactions as a necessary qualification for an economy to be seen as capitalist. In a similar way, dependence on the profit motive, and on individual entitlements based on private ownership, are seen as archetypal features of capitalism. However, if these are necessary requirements, are the economic systems we currently have, for example, in Europe and America, genuinely capitalist? All the affluent countries in the world – those in Europe, as well as the US, Canada, Japan, Singapore, South Korea, Taiwan, Australia and others – have depended for some time on transactions that occur largely outside the markets, such as unemployment benefits, public pensions and other features of social security, and the public provision of school education and healthcare.”
Professor Sen noted that in affluent countries, where it’s been most successful, capitalism is pragmatic, not ideologically pure, and that this pragmatism goes back to Adam Smith himself. “It is often overlooked that Smith did not take the pure market mechanism to be a free-standing performer of excellence, nor did he take the profit motive to be all that is needed… People seek trade because of self-interest – nothing more is needed, as Smith discussed in a statement that has been quoted again and again explaining why bakers, brewers, butchers and consumers seek trade. However an economy needs other values and commitments such as mutual trust and confidence to work efficiently.”
In a capitalist system, mistrust and lack of confidence in others have far-reaching consequences and have greatly contributed to generating the financial crisis and making the recovery so difficult, he added. “The economic difficulties of today do not, I would argue, call for some ‘new capitalism,’ but they do demand an open-minded understanding of older ideas about the reach and limits of the market economy. What is needed above all is a clear-headed appreciation of how different institutions work, along with an understanding of how a variety of organisations – from the market to the institutions of state – can together contribute to producing a more decent economic world.”
In 2006, IBM’s then Chairman and CEO Sam Palmisano published The Globally Integrated Enterprise in Foreign Affairs. Palmisano wrote that a combination of recent factors, - e.g., the explosive growth of the Internet and the intensely competitive global marketplace, - makes it mandatory for a company to operate in an increasingly seamless way across national boundaries, locating its operations wherever it makes the most sense in terms of local markets, talent, resources, costs, and opportunities for innovation and differentiation.
Ten years later, Palmisano published a follow-up to his 2006 article, - The Global Enterprise: Where to Now? The article started with a warning he’d presciently written a decade earlier: “The alternative to global integration is not appealing. Left unaddressed, discontent with globalization will only grow. People might ultimately choose to elect governments that impose strict regulations on trade or labor, perhaps of a highly protectionist sort. Worse, they might gravitate toward more extreme forms of nationalism, xenophobia, and antimodernism. The shift… to globally integrated enterprises provides an opportunity to advance both business growth and societal progress. But it raises issues that are too big and too interconnected for business alone or government alone to solve.”
“Today, the world stands at the crossroads described in that article,…” he added. “A rising chorus of nationalism echoes across developed countries; it calls for tighter borders and restrictions on immigration. Global trade negotiations have essentially ceased, and regional trade deals face strong headwinds of opposition.”
Free-market, free-trade capitalism is at a crossroads. While a prime responsibility of business leaders continues to be the viability and prosperity of their own companies, they can no longer focus exclusively on their shareholders while ignoring the interests of customers, employees, and the communities where they live. Companies must work closely with governments around the world to help formulate a more inclusive model for global economic development and technological progress, - a kind of new 21st century Enlightenment.
I am interested in the citation for the following:
“in a free market, an individual pursuing his own self-interests tends to also promote the good of his community as a whole,”... “the free market, while appearing chaotic and unrestrained, is actually guided to produce the right results by this so-called invisible hand.”
Neither of these quotes can be found in Wealth of Nations, I assume they are from a book on Smith?
Posted by: J Bufton | July 29, 2019 at 12:40 PM