Evolution of Economic Thought
The
Physiocrats: “The Rule of Nature”
(1756-1778)
Transition
to Liberalism:
In
response to Mercantilism - Both intellectual and institutional forces led to a “liberal” revolution in England and in America.
In France, with “Colbertism”- the
liberal reaction to mercantilism was vast… a group of French economists called
the
Physiocrats
- led
the way!
“Natural
Law and Primacy of Agriculture”
Francois
Quesnay:
The Physiocratic teachings were initiated about the middle of the
eighteenth century by Francois Quesnay (1694-1774) a physician at the
court of Louis XV and Madame de Pompadour.
Born in Méré to a family of laborers, Quesnay was orphaned at thirteen. He could not read until he was 11 but was eventually elected to the Academy of Sciences and hailed as the "Confucius of Europe" (said to have been influenced by Chinese ideas), the "modern Socrates", by his disciples.
He was influenced by the works of the Maréchal de Vauban, Pierre de Boisguilbert and Richard Cantillon. In fact Schumpeter argued, long ago, that Quesnay’s tableau économique was based on Cantillon, but this claim has never been spelled out in detail and seems not to have been generally accepted, since many writers still write of the tableau économique as though it were Quesnay’s alone. But there is evidence that
(a) the relation between Cantillon’s analysis of circulation and Quesnay’s tableau is too close to be a coincidence, but
(b) that the use Quesnay put it to is quite different from its role in Cantillon’s system. (See for example, Cantillon, Quesnay, and the Tableau Economique, Anthony Brewer, Discussion Paper No. 05/577, October 2005 Department of Economics, University of Bristol).
Government
by Nature:
The term physiocracy points to the metaphysical foundations
of his ideas – to his intention to establish the principles of a “government
by nature.” Although ----
Pierre Samuel DuPont de Nemours (a main protagonist of the ideas) coined the
term in 1767.
There
are “natural laws” and once we understand and grasp them we can follow them.
Ordre de la naturel (natural order): the laws underlying the physical world and operating independently of any interference on the part of man.
Ordre
de la positif (positive, i.e. human-idealized order)
–
Probably the Largest Influence on Modern Day Economics:
Early
Circular Flow Diagram: Best way to trace out the effects of the
policies in France was through a circular flow of income and expenditure.
Today's typical circular flow:
The natural state of the economy = balanced circular flow of income - this would emerge under laissez-faire.
Any
policy which enlarged the circular flow was good for economic growth – and vice
versa.
Quesnay then picked out a key factor in the circular flow process and analyzed
the effects on this key factor (as
economists do today).
However, what is NOT thought to be true today was:
the
exclusive productivity of agriculture:
The key factor he selected (and appears to be the largest fallacy of
physiocratic doctrine) was the exclusive productivity of agriculture.
Must
keep in mind that about the middle of the 18th century, agricultural
production was still the main source of the French national income.
Of a total population of 25 million, nearly nine-tenths drew their
livelihood from agriculture. But
the number of landowners was small, about 500,000 and about one-fifth of the
land was owned by the church.
Taxes
levied on this supplied the backbone of public revenue…while nobility and
clergy enjoyed tax exemption.
Wealth and Nature He set out to demonstrate that agriculture was the only real source of national wealth and found philosophical support for that view in his proposition that the creation of wealth was exclusively due to the divine power of nature.
The early circular flow was the famous:
Tableau Economique: Tableau Economique (published in 1758) was the foundation for the doctrine of the physiocrats......and the ancestor of the multisectoral input-output systems of Karl Marx, Piero Sraffa and Wassily Leontief and modern general equilibrium theory (now found in most macro models - Keynes and otherwise).
Basically
it was a graphic presentation of a process designed to show how the exchange
values supplied by nature and incorporated in the products of the soil were
distributed in the course of a period of production among the main classes of
the population.
The
yields of agricultural production provided the elements of the distributive
process.
In other words – this was a circular flow of income and expenditure.
As stated - The larger
the flow the better.
The
net product from agriculture was looked upon as the true source of real wealth.
Production
meant creating a surplus; industry is productive if it makes more than is
consumed in the process.
Manufacturing simply changes the form of goods…although they did become more useful in the process.
But only agriculture is capable of creating additional wealth.
Three classes of sectors:
1) A productive class of agriculturalists (perhaps also
fisherman and miners).
2) A sterile class consisting of merchants, manufacturers,
domestic services, artisans and professional people.
3) A proprietary class, including landlords and those who have
the slightest title to sovereignty of any kind.
The
net product (in money terms – net income) is produced entirely by the first
group and may be used to support its own activities or those of the other two
classes.
This
method of distributing the progressively diminishing net product is continued
until, upon the termination of the entire process, all surplus values have been
absorbed and distributed among the three classes of the population.
The annual repetition of this essentially static process is made dependent upon the recurrent supply of the net product as a free gift of nature introduced from the outside into the economy.
Another Contribution, however was in capital theory:
Advances (capital investment):
A growth of the national
wealth is expected to result only from increased investments applied to
agricultural production, which Quasnay called "advances
1
2) Sovereign (one-time capital investment by the government: roads, bridges, etc.)
3) Primitive (investment on durable producer's goods: cattle, horses, ploughs, etc.) Also known as original advances.
4) Annual (expenditures on wages of labor and non-durable producer's goods: feed, seed, etc.)
These were picked up by A. Smith - original (primitive) and annual became Smith's fixed and circulating capital. Today called fixed and variable.
Therefore
Physiocratic Policy
Sought
policies to encourage the accumulation of capital…which was slowed by
excessive tax burdens.
Quesnay
calculated that the trick was to meet the needs of the treasury while at the
same time doing away with the unreasonable means of assessment (taxes) that
prevented agricultural development.
Another
source of K-accumulation for agricultural investment was land rent, in so far as
landlords were responsible for improvements to the land.
The
mercantilist restrictions on free trade in agriculture kept farm prices (and
therefore land rents) low by restricting demand.
Thus
the physiocrats argued for free trade.
This
would allow capital to flow freely into agriculture and enable the size of the
circular flow to grow.
The
Physiocrats liked private property.
The
landlord was valuable…he made the initial investment in clearing land and
improving it…so he was entitled to a share in the output.
Over the long run even they would be better off with the increase in taxes because of the increase in productivity.
Note
the general equilibrium method
– and
the analogy to the human body. If
one part of the system is affected – this will eventually affect all parts of
the system.
A
distribution in production lead to disturbance in demand, they were mutually
interdependent.
We
should note that the starting point of Quesnay’s analysis was a
concept of physical productivity.
The
net product was originally a physical magnitude – the excess of grain, etc.,
over and above the seeds and other
factors of production.
But
he used a unit of value – where equal values were exchanged for one another.
The Main Modern Day Criticism of Physiocracy
The
ideas held up pretty well prior to the Wealth of Nations in 1776.
Were the manufacturers really sterile?
The pure theory of the Physiocrats did not sufficiently accord with the
facts of their day. This argument
centers on the charge that manufacturers were sterile.
Remember
productive did not mean adding value or creating utility.
“The
real essence of a ‘productive occupation’ says Ronald Meek, according to the
normal Physiocratic use of the term, lay in the inherent capacity to yield a
disposable surplus over necessary cost; and the real essence of a ‘sterile’
occupation lay in its inherent incapacity to yield such a surplus.”
The Economics of Physiocracy p. 379)
So
manufactures were sterile in this sense only under conditions of free
competition – competition would drive their surplus to zero.
They
were perfectly willing to admit that under monopoly – manufactures might
create a surplus.
So this is coming from modern day equilibrium theory -- in the long run, competition will drive down all profits to zero. Today, however, the analysis includes the opportunity cost of the owner. So zero economic profit does not mean a zero accounting profit.
Careful -- all of this assumes perfect knowledge, costless exit and entry, etc.
The Physiocrats real error was assuming that manufactures could never yield a surplus value over
cost under competitive conditions. In many cases, you can -- at least for
a while, as the process changes continuously.
Also,
if competition wipes out surplus in manufactures, why doesn’t it do the same
in agriculture?
This
was a gift of nature (or God).
But
while nature might explain a surplus of physical output, it cannot explain the
existence of a value surplus.
*Need
a general theory of value – which they did not have. As they did not
understand opportunity cost as well.
Also - some would criticize their "method" as
Rothbard did in your reading.
DO ICE FOUR