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Seven[E]ntertaining to read. . . . Anyone seeking relief from the smarmier-thall-thou politics of our day will find this an agreeably provocative book.
— George Walden
"What would Adam Smith and David Hume have had to say about globalization, human rights, outsourcing and free trade, capital controls, the WTO, the IMF and the World Bank, Islamic fundamentalism, the rise of China and India, the environment, the welfare state, U.S. foreign policy, and every other major issue if they were alive today? The closest you can ever come to finding out is to read this brilliant and provocative book by the last, but by no means the least, of the classical liberals, Deepak Lal."—Ronald E. Findlay, Columbia University
"This splendidly and subtly argued defense of the classical liberal position makes a highly valuable contribution to the globalization debate."—Harold James, Princeton University, author of The End of Globalization
"Deepak Lal's Reviving the Invisible Hand is a brilliant account of modern economic theory and policy written from a rigorous classical liberal perspective. Lal shows a thorough knowledge of classical liberal theory and an enviable ability to apply it to any economy. Furthermore, he demonstrates that the greatest threat to world economic progress and stability comes not from old-fashioned socialism, but from the recent, fashionable modifications of the classical liberal model. It is remarkable that a technical economist should display such competence and originality in areas seemingly far removed from the diagrams and equations of orthodoxy. And his style is rigorous, well-paced, and just a little cheeky."—Norman Barry, University of Buckingham, England, author of Classical Liberalism in the Age of Post-Communism
"This is a thoughtful, well-researched and challenging book. It has a deep historical perspective and offers a broad coverage of the continuing battles between regulation and deregulation, free and managed trade, and between liberty and equality."—Adrian Davies, Long-Range Planning
"[E]ntertaining to read. . . . Anyone seeking relief from the smarmier-thall-thou politics of our day will find this an agreeably provocative book."—George Walden, Seven
The Origins of "Capitalism"
Both economic historians (like Richard Tawney) and sociologists (like Max Weber) have identified the distinctive institutions of capitalism as the midwife of modernity, culminating in the rolling Industrial Revolution. Economists (like Sir John Hicks), however, preferred to talk of the rise of the market economy as the distinctive feature of modernity, in part because of the Marxian connotations of the word "capitalism" and the sundry and unnecessary intellectual baggage it thereby carries. All are agreed that the rise of the West from among a host of (probably richer) ancient Eurasian agrarian civilizations was associated with the rise of capitalism. There are continuing disputes about the nature and timing of this Great Divergence in the relative fortunes of the Eurasian civilizations (see chapter 1).
What Is Capitalism?
But what is capitalism? As the French economic historian Jean Baechler has cogently argued in hisimportant book The Origins of Capitalism, neither Marx's nor Weber's outline of the distinctive features of capitalism allows us to differentiate its essence from the various cited features as they are to be found throughout human history and in many different cultures. For Marx, capitalism was "defined as the conjunction of capitalist ownership of the means of production with the wage laborer who has neither hearth or home." But as Baechler shows, while this might have been true of the full-blown industrial capitalism that was in full flower in Victorian England when Marx was writing, capitalism itself predates this phenomenon.
Nor is capitalism to be identified with markets, profit seeking, banking, bills of exchange, and business firms, for instance. For these are all found in ancient civilizations. Thus
in ancient Mesopotamia there was the Karum ... entrepots and commercial houses where importers, exporters, provisioners, and bankers all conducted their affairs. Occasionally these houses functioned as commercial tribunals ... the Assyrian tablets dating from the 20th and 19th centuries b.c. [from] Cappadocia ... reveal a complete commercial network run by genuine capitalists. In spite of state control, or at least state interference, the Karum had their own commercial activities and developed a series of institutions within which capitalist activity, as defined by Max Weber, took place. Banks undertook and granted loans; large warehouses brought together the merchandise of groups of merchants; bank accounts were opened where most of the operations were made by multilateral balancing of accounts.... By the beginning of the second millennium, at Ur and then at Larsa, capitalism seems to be entirely free of state control. Private entrepreneurs had replaced the temple and palace as disbursers of loans at interest (33 percent per annum); they made advances to wholesale merchants and directed the copper imports.... [By] the sixth to fourth century b.c.... in Nippur and Babylon firms were created through the association of capitalists. They took in money deposits, issued cheques, made loans at interest, and most importantly, participated directly in economic changes by investing in numerous agricultural and industrial enterprises. (Baechler 1975, pp. 37-8)
Similar examples can be multiplied from all the ancient agrarian civilizations.
But these agrarian civilizations looked upon these merchant capitalists as, at best, a necessary evil, as commercial activities were universally held in low esteem. Being intermediaries in the economic process, the merchants produced nothing in a tangible way, and were looked upon as parasites who were satisfying the demands of a tiny urban elite by transferring the rural surplus produced by those who wielded the plough to feed the warriors and priests in the towns. Devoted primarily to profit they became immensely rich, but their wealth was not matched by social acceptance or political power. It was only in the western part of Eurasia in the High Middle Ages that this changed, and the capitalists were eventually able to create an economy where their unceasing search for profit became not only acceptable but the norm. Thus, capitalism as an economic system came about when the merchant and the entrepreneur finally were given social acceptance and protection from the predation of the state.
Who Were the Capitalists?
Before I come to my story of how and why this happened in the western edge of Eurasia, we also need to ask: who were these merchants and why were they universally despised in the ancient agrarian civilizations? The answers are also relevant in explaining the ongoing cultural hatred of capitalism and in particular of its supreme embodiment-the United States of America.
The first point worth noting is that these merchant capitalists were a minority in agrarian economies. Their calling necessarily involved assuming risks and valuing novelty, behavioral characteristics that were not common among the settled agrarian communities, who over the centuries would have learned and adapted to the cyclical risks associated with variations in the climate and other quirks of nature. This learned behavior was fixed through social custom (see chapter 6). Novelty seeking and risk-taking behavior could have endangered these socially accepted ways of making a living. But these are precisely the behavioral attributes that successful capitalists need. This became clear when I was interviewing the aged founder of one of India's leading industrial conglomerates in the late 1960s. He had just chosen his successor from among his heirs to run his business when he died. I asked him how he had made the choice. He told me (probably apocryphally) that a few years before he had given each of his possible successors a large sum of money to set up their own businesses. Nearly all of them made some sort of go of this opportunity, except one grandson who after a year came to see him, crestfallen, saying that he had unfortunately lost all that he had been given on a speculative overseas venture. The old man decided that he was the suitable heir to take over his business!
There is now growing evidence that the behavioral traits which predispose some of us to risky and novelty-seeking behavior have a genetic basis. A recent book, American Mania, by a colleague, Peter Whybrow, director of UCLA's Neuropsychiatric Institute, summarizes this evidence. He begins by noting that human migration is one major form of risky and novelty-seeking behavior. Only a few of our species left their ancestral home in the African savannahs and began that long walk to the ends of the earth which allowed homo sapiens to colonize the world. Who were these earliest migrants? It turns out they had a particular genetic profile. They had a higher percentage of an exploratory and novelty-seeking gene than those remaining behind. As novelty seeking and risk taking "are ... behaviors essential to exploration and migration ... this should be reflected in a distribution pattern of the relevant allele [the D4-7 allele gene] that is similar to the ancient migratory paths of our species." How do we know this? The geneticist Luigi Luca Cavali-Sforza of Stanford University and his colleagues have provided a genetic mapping of the geographical dispersal of homo sapiens from their original home in Africa. Subsequently, Dr. Chauseng Chen of the University of California, Irvine, found that a coherent pattern emerges from this mapping "where those who stayed close to their original homeland have a higher percentage of the common D4-4 allele in the population and a lower prevalence of the exploratory and novelty-seeking D4-7 allele."
Thus in Africa, from where humans began their worldwide migratory dispersal between ten and twenty thousand years ago, those remaining behind who constitute Africa's current population have "a far higher percentage (between 60 and 80 percent) of the [non-migrant version of the D4 gene] D4-4, compared with those who continued the initial migrant expansion of our species across the Asian continent." Within Africa the Bantu, who have migrated the farthest, have a majority of the migratory D4-7 allele gene. In Asia, those Chinese who migrated from the mainland and Taiwan to South East Asia have a "greater percentage of D4-7 allele in the population than the aboriginal population of Taiwan who stayed behind." As our human ancestors crossed the land bridges linking Asia to the Americas in the Ice Age, we should expect that those who walked farthest down the South American peninsula would have had the migratory gene. This turns out to be so, as "those who pushed into the Southern Hemisphere, the Colombians and members of the Karitiana, Surul, and the Ticuna tribes-carry a preponderance of the [migratory] D4-7 allele." By contrast, in Japan the frequency of the migratory gene is very low and in parts of East Asia does not exist at all.
This "migration" gene, as we may call it, is also found in those who evince the most extreme form of risk-taking and novelty-seeking behavior to which the gene predisposes its bearers: addictive behavior which often descends into manic depression (bipolarity). Risk taking and novelty seeking are of course also the hallmarks of the merchant and the entrepreneur. For both migrants and entrepreneurs are "mavericks ... who run at the edge of the human herd. Migrants are a self-selected band of seekers-those of adventurous and curious mind-who in their restless approach to life lie at the extreme of the bell-shaped curve of behavioral distribution." So the migrant gene will be rare. As even during the great disruptions of human history caused by the four horsemen of the Apocalypse "for every two individuals who sought their salvation in migrant flight, ninety-eight remained behind to accept what fate would bring."
It seems likely, therefore, that the capitalists of yore carried this rare migrant gene like their cousins who migrated from the homeland. It would explain why immigrant communities have often produced the merchants and entrepreneurs in so many countries, and why America with three centuries of continuing and substantial immigration would have a higher proportion of the migratory gene in its population, which by predisposing its bearers toward novelty seeking and risk taking would make it the capitalist country par excellence.
But novelty seekers do not make good farmers. Having over the centuries honed agricultural techniques to the natural variations of soil and place and the rhythms of the climate, the ancient sedentary agrarian civilizations of Eurasia would take a dim view of the novelty seekers and risk takers-the merchants and entrepreneurs in their midst. Though the commerce and trade these capitalists undertook would remain a necessary part of the economy, it would not command social approbation. The periodic raids on its merchants' wealth by the predatory state would not have been unpopular in these ancient agrarian civilizations. Thus, though these maverick capitalists existed in all the ancient Eurasian civilizations, it was only in one that they came to be given their head, and their novelty-seeking and risk-taking behavior eventually came to be the economic norm. This marked the emergence of capitalism which led to the Great Divergence between the West and the Rest.
The Great Divergence
My own story of this Rise of the West is contained in my book Unintended Consequences based on my Ohlin lectures. Part of this story is summarized in chapter 6. It contends that the Great Divergence was due to a legal revolution in the eleventh century due to Pope Gregory VII, who in 1075 put the church above the state and through the resulting church-state created the whole legal and administrative infrastructure required by a full-fledged market economy. Many of the specific institutions of capitalism, as we have seen, predate this papal revolution. But they were insecure and most often based on the trust engendered within the extended families of traders and merchants. Furthermore, they did not have the legal protection of the state, which more often than not looked upon them as milch cows for their own predatory purposes. The eleventh-century papal revolution, by creating the church-state, provided a legal bulwark and administrative system whose reach, unlike most of the political states, covered the whole of Western Christendom. It allowed the novelty-seeking and risk-taking capitalists with the migratory gene to securely pursue their enterprise over a larger space and with myriads of strangers. It is thus, in my view, properly looked upon as initiating that capitalism which has changed the world.
This dating of the Great Divergence to the eleventh century also fortunately meshes with the quantitative evidence Angus Maddison has laboriously assembled for the world economy since the beginning of the Christian era. Hicks's identification of the rise of the market economy with the medieval European city-states, where the movement from a revenue to a market economy became manifest, also fits into this time frame. For, although merchants and markets (in the form of "fairs" and shopkeepers) have been ubiquitous in all the Eurasian agrarian civilizations for millennia, it was only when the peculiar needs of a mercantile economy, "the need for protection of property and the need for the protection of contract" were systematically met in a political system that the market economy could take off. These needs were best met in states where "the rulers are themselves merchants or are deeply involved in trade themselves." The city-states of medieval Europe were trading states par excellence and were the seedbeds for the rise of the market economy.
"By the end of the fifteenth century," Joseph Schumpeter in his History of Economic Analysis tells us, "most of the phenomena we are in the habit of associating with that vague word Capitalism had put in their appearance, including big business, stock and commodity speculation and 'high finance' to all of which much people reacted much as we do ourselves." Adding in a footnote, "owing to the importance of the financial complement of capitalist production and trade, the development of the law and the practice of negotiable paper and of 'created' deposits afford perhaps the best indication we can have for the rise of capitalism." But these institutions, which Schumpeter rightly notes were in full flower by the late fifteenth century, did not arise spontaneously. As Harold Berman shows in his important book Law and Revolution, they were the result of the papal legal revolution of Pope Gregory VII of 1075 when he proclaimed: "Let the terrestrial kingdom serve-or be the slave of-the celestial," which inaugurated the church-state.
Excerpted from Reviving the Invisible Hand by Deepak Lal Copyright © 2006 by Princeton University Press . Excerpted by permission.
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Introduction: The Origins of "Capitalism" 1
Chapter 1: Liberal International Economic Orders 17
The Nineteenth-Century LIEO 22
Pax Britannica and Economic Development 32
The End of the First LIEO 36
Recreating a New LIEO 40
Chapter 2: From Laissez Faire to the Dirigiste Dogma 48
Classical Liberalism and Laissez Faire 48
Poverty and Industrialization in Nineteenth-Century Britain 52
"Manna from Heaven" Distributivism 53
Competition and Monopoly 56
The Rise of "Embedded Liberalism" in the United States 59
Chapter 3: The Changing Fortunes of Free Trade 62
The Rise, Fall, and Rise of Free Trade 62
U.S. Economic Policy 65
The New Protectionism 68
The Rise of Preferential Trading Arrangements 71
Another Globalization Backlash? 80
Adjustment Assistance? 85
Whither the WTO? 86
APPENDIX: FREE TRADE AND LAISSEZ FAIRE IN THEORY 91
Chapter 4: Money and Finance 95
International Monetary Regimes 97
International Capital Flows 105
The Global Financial Infrastructure 122
Chapter 5: Poverty and Inequality 127
Poverty Head Counts 128
Income Gaps 135
Foreign Aid 139
Chapter 6: Morality and Capitalism 150
Analytical Framework 151
Changing Material and Cosmological Beliefs 154
Communalism versus Individualism 157
From Victorian Virtues to Modern Values 160
Modernization and Westernization 165
Chapter 7: "Capitalism with a Human Face" 182
Justice and Freedom 183
Social Paternalism and Dirigisme 187
Moral Paternalism and the New Victorians 189
Capitalism and Happiness 192
The Corporation under Attack 195
Chapter 8: The Greens and Global Disorder 205
The Rise of the NGOs 205
Sustainable Development 211
The Greens and Ecological Imperialism 214
Toward World Disorder 227
Chapter 9: Conclusions 231
Posted March 22, 2009
No text was provided for this review.