Timeless economics

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Archive for the ‘economic history’ Category

A short understanding of the Invisible Hand theory of Adam Smith

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Adam Smith
Philosopher, 1723 – 1790

Adam Smith was born in Kirkcaldy, Fife, Scotland. The exact date of his birth is unknown; however, he was baptized on June 5, 1723. Smith was the Scottish philosopher who became famous for his book, “The Wealth of Nations” written in 1776, which had a profound influence on modern economics and concepts of individual freedom.

In 1751, Smith was appointed professor of logic at Glasgow University, transferring in 1752 to the chair of moral philosophy. His lectures covered the field of ethics, rhetoric, jurisprudence and political economy, or “police and revenue.” In 1759 he published his Theory of Moral Sentiments, embodying some of his Glasgow lectures. This work was about those standards of ethical conduct that hold society together, with emphasis on the general harmony of human motives and activities under a beneficent Providence.

Smith moved to London in 1776, where he published An Inquiry into the Nature and Causes of the Wealth of Nations, which examined in detail the consequences of economic freedom. It covered such concepts as the role of self-interest, the division of labor, the function of markets, and the international implications of a laissez-faire economy. “Wealth of Nations” established economics as an autonomous subject and launched the economic doctrine of free enterprise.

Smith laid the intellectual framework that explained the free market and still holds true today. He is most often recognized for the expression “the invisible hand,” which he used to demonstrate how self-interest guides the most efficient use of resources in a nation’s economy, with public welfare coming as a by-product. To underscore his laissez-faire convictions, Smith argued that state and personal efforts, to promote social good are ineffectual compared to unbridled market forces.

In 1778, he was appointed to a post of commissioner of customs in Edinburgh, Scotland. He died there on July 17, 1790, after an illness. At the end it was discovered that Smith had devoted a considerable part of his income to numerous secret acts of charity.

Invisible hand theory of Adam Smith

One of the greatest contributions of Adam Smith was the invisible hand theory. He said that if the government doesn’t do anything, there’s a controlling factor of people themselves who can guide markets. I believe that the government should be responsible in defining the property rights, to set up honest courts, to impose minor taxes and to compensate for well defined “market failures” If I sell candies for 1 peso each and Christian sells them for 2 pesos for 3 pieces, he will get all the business making me lose mine so in order to compensate for my loss I should be forced to lower my price as to stay alive in the business. I am guided by an invisible hand which is my self interest to gain profit or as Adam Smith would say everyman for himself.

The theory of the Invisible Hand states that if each consumer is allowed to choose freely what to buy and each producer is allowed to choose freely what to sell and how to produce it, the market will settle on a product distribution and prices that are beneficial to all the individual members of a community, and hence to the community as a whole. The reason for this is that self-interest drives actors to beneficial behavior. Efficient methods of production are adopted to maximize profits. Low prices are charged to maximize revenue through gain in market share by undercutting competitors. Investors invest in those industries most urgently needed to maximize returns, and withdraw capital from those less efficient in creating value. Students prepare for the most needed (and therefore most remunerative) careers. All these effects take place dynamically and automatically.

The way I understand the said theory is by giving my own example;

Joan and Joanne are fresh graduates and are trying to open up a business to help them understand and be aware about the invisible hand. About a month they have realized that people from their hometown had to go the mountains to purchase fruits and vegetables. They conducted a survey to find the most fruits and vegetables in demand of the community. After careful consideration and months of planning they decided to open up a fruit and vegetables business naming it Twin’s fruit and vegetables where they would be the one to purchase wholesale goods and sell it to the people. The people were quite glad about it because it would save them the time and effort to go up the mountains to buy rather just go to Twin’s fruit and vegetable. Things were running smoothly for their business and they were happy about it. They offered free delivery within a certain area and maintain their low prices to satisfy their customers for they have realized that only with the continuous support of the people will they be able stay in business and also discourage other businessmen from entering the market.

It is understood that the invisible hand in this situation is the idea of being the only producer of a certain good by being considerate as to lower the price for the people to be able to afford thus making a good reputation to the said company. If the community is already satisfied with the way things are then they will continue to support the said business making it hard for other businessmen to open market

This was taken from the famous wealth of nations

By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was not part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it. I have never known much good done by those who affected to trade for the public good. It is an affectation, indeed, not very common among merchants, and very few words need be employed in dissuading them from it.

This is as how Adam Smith explained it that being led by an invisible hand is actually profitable in the sense that it uses the will of a person’s self interest which drives him to create more and better ideas to overcome the other competitors as long as he would be doing it in a legal way.





Written by jongart

May 25, 2010 at 11:04 PM

Milton Friedman : The Man Who Always Had Something To Say!

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Milton Friedman was one of the most influential economist of the 2the 20thcentury.He was born July 31, 1912 in BroolynNew York of Russian-Jew parents. He finished his college degree in Rutgers University majoring in mathemetics and economics. He took up masters in economics at University of Chicago and his Phd at Columbia University.

Early in his career he held various positions in the government, working at the Bureau of Economic research, the US Treasury Department, and the National resources committee, while at the same time teaching at University of Chicago. These stints in various areas of economics are influential in his works and books on economics.

Friedman was widely regarded as the leader of the Chicago School of Monetary Economics, which stresses the importance of the quantity of money supply as an instrument of government policy and as a determinant of bussiness cycles and inflation. Before Friedman’s monetary theory, government is willing to have a little more inflation as long as there is a reduction in unemployment. Friedman said this is an illusion. Pumping up demand (by hiring more workers who now have wages to purhcase goods) pushed down unemployment, only by fooling workers into thinking that wages had risen relative to prices making them more willing to offer their labor.

Once truth dawned (prices have increased because many are now chasing the same goods) they will demand more pay and unemployment would rise back to its “natural” rate. If government tried to push unemployment below this “natural” rate, in the long run they would suceed only in pushing inflation even higher.

Mr. Friedman also conceptualize the theory of permanent income hypothesis. This theory set forth that people do not spend on basis of what their income happened to be that year but according to their “permanent income” – what they expected to have year in and year out. In a bad year they will dip into their savings, when they had a surplus they would save. This idea together with his work on monetary analysis and stabilization policy earned him a nobel prize in 1976.

One of his economic ideas, a product of the conditon of his era, the NEW Deal era, is that the market is always rational and efficient. Perhaps repelled by the heavy government oversight of financial markets imposed during the new deal era and by the evidence of wide spread irrational behavior by paticipants in the financial markets. He believed that the market will be the one to correct and cure itself and not some form of regulation and legistlation. But today it would seem that the idea is on the wrong side ofeconomic history. To qoute one writer, “The financial crisis that has engulfed the world in the past two years is not just or perhaps even mainly a tale of greed run riot IT IS THE RESULT of an IDEA that failed. The IDEA which over the past four decades become the dominant belief among those generally regarded as the savviest participants in the financial system, was that the market is always rational and efficient. So much for that.

But this does not diminished the standing of Milton Friedman as a giant in the dismal Science of Econimics. His ideas and contribution remains to the day as influential, powerful, profound and relevant.





The timeless lighthouse

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(This is a guest blog post from a former student.)

Economics and the Philippines’  Century Old Lighthouses

By Ross Harper Alonso

Over 50 brick lighthouses were built in the Philippines by the Spaniards in the 1800s. This was the time when trade served as the fundamental income generating business for Spanish colonists living in Manila and the Manila Acapulco Galleon Trade being the most lucrative. The lighthouses were needed to light the Spanish trading ship’s way. The Manila Galleon sailed the Pacific for nearly 3 centuries, bringing to Spain then cargoes of luxury goods, economic benefits and cultural exchange but there are no maritime records that say if the Filipinos cashed in on all this by imposing tolls, receiving rent or leasing the land where the lighthouses were built till the Galleon Trade ended in 1821 when the Spanish Crown took direct control of the Philippines. It is possible that this was the reason behind one of the many revolts, since all revolts were triggered by the repressive policies of the Spanish Colonial Government against the native Filipinos. This is all water under the bridge now since they left all their lighthouses behind for us to use when we gained our independence from them in 1898 anyway. Question is, “what did the Philippines do with them all these years?”  

                                                 When a Government Agency Fails

This paper aims to explore the kind of future our Century Old Lighthouses could have had if the Philippines considered some of the policies of the British Lighthouse System.

The Philippine Coast Guard is the oldest and the only humanitarian armed service of the country with functions earlier related principally to the protection of the customs service in safeguarding revenue collections and patrolling the coastline. Since 1901 they were in charge of the Lighthouse Service and their keepers. A Philippine lighthouse is an indispensable public service provided by government that Paul A. Samuelson talked about. Perhaps 115 years ago, lighthouses in the Philippines would not have survived if they were not solely government run but this arrangement should’ve changed 50 years ago.

Unlike the Philippines , the British Lighthouse System had authorities which build and maintain lighthouses. Trinity House, the Commissioners of Northern Lighthouses and the Commissioners of Irish Lights. The expenses of these authorities are met out of the General Lighthouse Fund. The income of this Fund is derived from light dues, which are paid by ship-owners. The actual collection is made by the customs authorities at the ports. (Could have been our very own Coast Guard doing the collection here) The money obtained from the light dues is paid into the General Lighthouse Fund, which is under the control of the Department of Trade. The lighthouse authorities draw on the General Lighthouse Fund to meet their expenditures. The Fund is used to pay for the maintenance of colonial lighthouses and the support of retired lighthouse keepers, their widows and children.

An annual Lighthouse Conference was also held in London to discuss budgets and policies. Given the big role our lighthouses played in our history, one wonders why they were never included in the programs of National Historical Commission.

It is very unfortunate that not a single Philippine government official or economist took the time to study the history of the British Lighthouse system and pick out what we could have used to take care of our Century old lighthouses. This country not only lacks vision and the effort to study alternative institutional arrangements for operating our lighthouse services but also reverence for our past.

                                                        Johnny Come Late    

Lately the Philippine Coast Guard admitted they can no longer maintain our lighthouses. Most of the century old Spanish lighthouses are in ruins. Some partially restored. Three years ago the PCG launched the Adopt a Lighthouse Program, a partnership between the private sector and non-government organization to undertake restoration activities geared toward arresting the deterioration of lighthouses nationwide and preserve their historical significance. Like everything else in this country, the guidelines are vague. No one really knows who makes the final arrangements or the MOA. The PCG or the National Historical Institute?

Times have changed. Ships no longer need the lighthouses to help them navigate. Ships and most water vessels are equipped with high tech GPS now therefore lighthouses no longer serve their purpose but this doesn’t mean they’re totally useless. In fact a private organization can now make a fortune managing an old lighthouse. Bed and Breakfast? Small Inn? Renting it out to historians or honeymooners?

The Americans have been making good use of their old lighthouses. Tourists pay to join their heritage tours and bring home a souvenir. People pay Lighthouse foundations to live as lighthouse keepers for weeks and the money earned is used to maintain and restore their lighthouses. It’s really quite a simple operation. The Americans and other countries with historical sites figured out early that they’re cultural heritage is worth something.

Written by Orlando Roncesvalles

March 21, 2009 at 9:30 PM

When a king hires an economist

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the kingdom is at grave risk…

Wizard of Id

Written by Orlando Roncesvalles

March 14, 2009 at 12:50 AM

Shame and greed in financial crises

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Frank & Ernest

The ingredients of financial crises

The history of financial crises is colorful and dramatic. The ingredients are fear, greed, and irrationality. The symptoms are manias, bubbles, crashes, and panics. Read the rest of this entry »

Written by Orlando Roncesvalles

March 5, 2009 at 11:36 PM

Is economic history a part of economics?

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And how do we know? Donald (now Deirdre) McCloskey gave a good answer in 1986.

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Written by Orlando Roncesvalles

March 3, 2009 at 7:22 PM