Monday, October 10, 2011

Smith and Keynes

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Adam Smith and John Maynard Keynes were two different people with two different ideas on how the economy should work. Even though they shared many of the same points Smith and Keynes’ ideas were on opposite ends of each other.


Adam Smith believed that a market should be “free”. He believed that with a certain framework the economy would be able to run itself. That framework is self-interest and competition.


“The drive of individual self interest in an environment of similarly motivated individuals will result in competition; and they further demonstrate how competition will result in the provision of those goods that society wants, in the quantities that society desires, and at the prices society is prepared to pay”(pg 55, Wonderful World of Adam Smith).


Smith also believed that wages, prices, and product quantities were self-regulatory. They would always come out to the perfect level because of self-interest and competition. Smith had asked himself the question Why does the market work? His answer was the “invisible hand” or the law of supply and demand. “What he sought was ‘the invisible hand,’ as he called it, whereby ‘the private interests and passions of men’ are led in the direction ‘which is most agreeable to the interest of the whole society’.” While Smith was traveling he was fascinated by the small factories that he saw. He said that these small factories would lead the economy to growth. He saw that a few people working on separate parts of a project was much more efficient than a single person making the whole product. For the market to be productive it must follow two things the law of accumulation and the law of population. The law of accumulation is important because it would lead to investment. The rich capitalists would save up their money and then invest it into their business for more profit. This was important because it created more jobs and more competition. The law of population was harsher. If the level of wages was too low to live on people would die. That would lower the amount of human capital which would then lead to higher wages. Because there was enough to live on less people would die and then wages would lower back down. This continued in a necessary cycle according to Smith. The main point of Smith was that the market needed to run itself without interference. This meant that the government would not be able to interfere. “He is against restraints on imports and bounties on exports, against government laws that shelter industry from competition and against government spending for unproductive ends” (pg 6, The Wonderful World of Adam Smith). An even more threat to the market was monopolies. The government’s sole purpose was to prevent monopolies from happening. That and it should protect the society against the violence and invasion of other societies,, provide and exact administration of justice, and it should erect and maintain public institutions and works which may be in the highest degree advantageous to a great society (pg 68-6, The Wonderful World of Adam Smith).


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John Maynard Keynes believed in a “moral” market. He believed that the market should be left alone until people start dying; then the government should step in to help. His main focus was savings and investments. After the 1800’s he saw that the savers and investors became to separate people. He believed that prosperity cam front the exchange of incomes between people. He saw a problem between the split of investors and savers during the depression. During the depression investors stopped wanting to invest and saving would have no effect because the investors wouldn’t do anything with the money. This is when government is supposed to step in. If business won’t invest then it was the government’s job to fill in. And government would do this by spending money on public works. This would give people jobs and create something that would make the society run more efficiently.


“While investment was the capricious element in the system, consumption provided the great floor of economic activity; hence public works projects were though to attack the problem with a two edged sword buy directly helping to sustain the buying power of the otherwise unemployed and by leading the way or a resumption of private business expansion” (75, The Heresies of John Maynard Keynes).


Even though this helped get the economy out of the depression it caused another problem, inflation. Keynes saw this and according to him the solution was stop investing which meant saving. Keynes believed that the market could run itself to a point. As soon as people started dying government needed to step in. Keynes believed that the market needed to be moral.


Smith and Keynes agreed on many things. They both believed that the market ran itself well to a point. They also believed in saving and investment. Smith called this the law of accumulation. Keynes disagreed with Smith that a free market would was self regulation. He disagreed mostly with Smith’s law of population. He believed that the law of population was the seed of the free market’s destruction.


“Men will not always die quietly. For starvation, which brings to some lethargy and helpless despair, drives other temperaments to the nervous instability of hysteria and to a mad despair. And these in their distress may overturn the remnants of organization, and submerge civilization itself in their attempts to satisfy desperately the overwhelming needs of the individual” (5, The Heresies of John Maynard Keynes).


Smith and Keynes also disagreed with the role of government. Smith believed that the only role of government was to protect the free market from monopolies. Keynes believes that the market should be moral and that government should interfere before people started dying.


Poverty and unemployment are two big problems of the US economy. Economists have been trying to solve these problems for a very long time. For Smith poverty is just part of the law of population. The impoverished are just getting in the way of the society and will eventually die. Unemployment just shows that the law of population needs to happen. Keynes doesn’t really have a solution for poverty but he does for unemployment. He believes that the government should help out by stimulating the investing side of the market. This is also necessary during a recession so that society doesn’t get to the point of people dying.


The order of the five goals for Adam Smith would go as follows Freedom, Growth, Efficiency, Security, and Equity. I think that freedom was the most important because he believe in the “free” market. Individuals decide what they produced and what they consumed. Growth was the second important because the law of accumulation and the law of population focused on the growth of the market. The next important was efficiency. Smith believed the free market was automatically efficient because of competition. Whoever could produce the most out of what they had would probably do better against competition. In Smith’s economy security and equity were of no importance. Security was unimportant because he believed in laissez faire, let the market go where ever. Equity was non existence, you either could afford it or you didn’t have it. I think John Maynard Keynes’ order would go exactly the same way. Freedom was important because people need the choice of what to consume and produce. Growth because if business’ didn’t invest there would be no growth and Keynes focused on investment and saving. Efficiency because according to him public works made a society run more efficiently. Security was actually important because he didn’t want to see another Great Depression. Government was there to help with the security of the market. Equity was also important because Keynes’ market was moral and there are some things that everybody needs to run more efficiently.





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