Mercantilism and Physiocracy Chapter 3 January 26, 2007

Mercantilism (16th – mid 18th centuries) The word comes from the Latin word mercari, which means "to run a trade" Name coined by later economists, including Adam Smith Mercantilist writers were businessmen, people engaged in commerce Keep in mind that there is not really any one “mercantilist” theory Individual writers were usually seeking some sort of policy that would help them in their businesses Most Mercantilists were British

Mercantilism (continued) What are the questions that mercantilists ask? How can a nation gain economic and political power? Mercantilism represented the elevation of commercial interests to the level of national policy

Mercantilism (continued) What are the assumptions that mercantilists make? Total wealth of the world is fixed – economics is a zero sum game. Wealth is measured by the amount of precious metals in the country The goal is a positive trade balance – exports exceed imports

Mercantilism (continued) What is the economic/political/ cultural/social environment of the mercantilists? Emergence of nation-state – move away from feudalism Colonization by European states

Mercantilism (continued) What is the role of the market? Individual mercantilist writers were usually advocating some type of policy in order to increase their own gain/profit Limited role for free markets

Mercantilism (continued) What is the role of government? Restrict imports of manufactured goods via tariffs/quotas Encourage imports of raw materials (colonies) Encourage exports of manufactured goods via subsidies Encourage production, discourage consumption (taxes on imports of finished products) Keep workers uneducated and poor

Mercantilism (continued) How are scarce resources allocated? Again, generally, Mercantilists advocated specific government programs that would benefit them (give them scarce resources) Advocated government intervention, tariffs, charters for trading companies, etc.

Mercantilism (continued) What is the most important contribution made by mercantilists? According to your textbook, “Possibly the most significant accomplishment of the later mercantilists was the explicit recognition of the possibility of analyzing the economy.”  In mercantilist thought, the main focus was on the economy and economic policy, not other social/political/cultural ideas.  There was more of a “scientific” approach developing with respect to economics and other social sciences

Mercantilism (continued) How did the ideas of "liberal mercantilists" pave the way for classical writers like Adam Smith? The case can be made that mercantilism was an early form of capitalism.  According to The European Enlightenment Glossary at Washington State University, “Capitalism is based on the same principle as mercantilism: the large-scale realization of a profit by acquiring goods for lower prices than one sells them.”  http://www.wsu.edu:8080/~dee/GLOSSARY/CAPITAL.HTM 

Mercantilism (continued) How did the ideas of "liberal mercantilists" pave the way for classical writers like Adam Smith? David Hume – price specie-flow mechanism While the textbook includes Hume as a mercantilist, other sources find him to be “virulent anti-mercantilist.”  http://cepa.newschool.edu/het/profiles/hume.htm  He believed that a nation’s welfare was measure by how many goods and services it had rather than its stock of precious metals.  Also, he did not believe international trade to be a zero-sum game, rather he believed that all countries could gain.

Mercantilism (continued) How did the ideas of "liberal mercantilists" pave the way for classical writers like Adam Smith? William Petty is credited with developing some aspects of measurement and methodology  Richard Cantillon developed a supply and demand model for the determination of short run prices.  He also developed a quantity theory of money.

Physiocracy The Physiocrats were a group of French Enlightenment thinkers of the 1760s Led by François Quesnay, the physician of the French court The term “physiocracy” literally translates into “the rule of nature” Their ideas were in direct opposition to the Mercantilists

Physiocracy (continued) What are the questions that physiocrats ask? How do we make the economy strong and encourage economic growth?

Physiocracy (continued) What are the assumptions that Physiocrats make? Only agriculture yields a surplus Agricultural laborers and farmers were the "productive class“ Industrial workers, artisans and merchants were the "sterile" class Landowners were the "proprietor" class, who appropriated the net product as rents Manufacturing takes up as much value as inputs into production as it creates in output, and consequently creates no net product

Physiocracy (continued) What is the economic/political/ cultural/social environment of the mercantilists? French agriculture at the time was still trapped in Medieval (feudal) regulations which shackled enterprising farmers Latter-day feudal obligations -- such as the corvée, the yearly labor farmers owed to the state -- were still in force   The monopoly power of the merchant guilds in towns did not permit farmers to sell their output to the highest bidder and buy their inputs from cheapest source  Long conflict between Britain and France, especially over colonization

Physiocracy (continued) What is the role of the market? Believed that self interest and competition led to best situation for the economy, especially since it would promote growth in agricultural sector Self interest and competition is a hallmark of classical and neoclassical economics

Physiocracy (continued) What is the role of government? Government is a parasite - It lives off the economy and society, but it is not part of it.  It is not part of the natural order They argued for removal of restrictions on internal trade and labor migration, the abolition of the corvée, the removal of state-sponsored monopolies and trading privileges, the dismantling of the guild system, etc.  

Physiocracy (continued) What is the role of government? (continued) If there is any tax, it should be a tax on landed property Any taxes levied throughout the economy will just passed from sector to sector until they fall upon the net product.  As land is the only source of wealth, then the burden of all taxes ultimately bears down on the landowner.  So instead of levying a complicated collection of scattered taxes, which are difficult to administer and can cause temporary distortions, it is most efficient to just go to the root and tax land rents directly.

Physiocracy (continued) How are scarce resources allocated? The market – very limited role for government

Physiocracy (continued) What were some of the "natural laws" that the physiocrats believed to operate with regard to economics? Only land creates value added Incomes flow from sector to sector, and thus class to class.  A "natural state" of the economy emerges when these income flows are in a state of "balance", i.e. where no sector expands and none contracts.  Once the "natural state" was achieved, the economy just continued humming along, reproducing itself indefinitely.

Physiocracy (continued) How did the Physiocrats differ from the Mercantilists? Agriculture v. manufacturing Laissez-faire v. government regulation Welfare based on output rather than accumulation of precious metals