What is Capitalism and how does it work? L/O – To understand the advantages and disadvantages of the Capitalist system

Ideology Ideology = a system of ideas and ideals, especially one which forms the basis of economic or political theory and policy. This year you will be studying the different political and economic ideologies that affected 20th century history. This first is Capitalism which is both a set of ideals (ideology) and an economic system.

What happens if there is no competition? What is Capitalism? Free Market = people are free to use/sell their private property without outside interference. Capitalism = an economic system in which the means of production (capital) are privately owned and goods and services are produced for profit in a free market. People set up businesses using capital (land, factories, wealth) in order to produce goods/services to make money, thereby creating more capital for themselves (profit motive). Prices and distribution of goods are determined by competition between producers in a free market (supply/demand). Profit Motive = The desire to produce goods in order to gain more wealth (greed?) What happens if there is no competition?

What is Capitalism? Capitalism relies on the voluntary exchange of labour in return for wages/capital. This is a mutually beneficially arrangement. Individuals pursue their own self-interest by working for wages but in doing so, they promote the social interest of society by helping others out. In a sense, Capitalism is based on greed and self-interest (individualism) but it actually benefits the whole of society. http://www.youtube.com/watch?v=IYO3tOqDISE

What is Capitalism? Do we need government then? Capitalists believe that governments should NOT interfere with the economy. The free market will distribute goods to people in the most efficient and cheapest way. For example, what happens if there is a shortage of baby milk? Do we need government then? Language, scientific knowledge and law all grew out of free exchange & voluntary production = principle of mutual benefit. The Capitalist economy works in the same way.

Advantages/Disadvantages of Capitalism Best wealth creation tool known to man Is the most efficient system with less waste, produces only what people demand. Increases standard of living for many Is natural! Humans naturally form capitalist economic relations – based in human nature – desire for self- preservation and greed! Capital can accumulate in the hands of the few who control production (monopoly) Profit Motive forces wages down, poor w/conditions Can also lead to over- production/recession and unemployment Reduces the worth of a human to a monetary value – system is based on greed! Which isn’t good! meritocracy

Who created modern Capitalism? Adam Smith (1723-1790) was a Scottish political economist and moral philosopher. In Wealth of Nations (1776) he founded the modern discipline of economics and provided the rationale for free trade, capitalism and libertarianism. Free market appears chaotic but is guided by an ‘invisible hand’ to produce the right amount of goods. If shortages occur (i.e. baby milk), prices rise, establishing a profit margin that provides an incentive for others to enter production, leading to surplus again. The system is therefore ‘self-regulating’. (Doesn’t need management)

Who created modern Capitalism? Adam Smith attacked government interference in the economic process (tariffs on imported goods) Government restrictions on trade caused inefficiency and high prices. Laissez-faire was needed (let them do), let the free market do what it wants! Thus Capitalism is born.

History of Capitalism Capitalism evolved naturally in many cultures around the world but it was in Europe that Capitalism first developed into its modern form. The historical analysis of Capitalism has shown that it developed in four key stages: Pre-Capitalist Feudal System (pre- 14th century) Mercantilism/Merchant Capitalism (14th-18th) Industrial Capitalism (18th-20th) Modern Capitalism (19th-20th)

The Feudal Economic System In Medieval Europe, a hierarchy of King, Lords/Barons and Knights ruled all the land and means of production. Wealth came from ownership of land. Because Peasants were forced to work for their Lord, they had no interest in technological innovation. Because Peasants produced to sustain their own families, they had no interest in co- operating with one another. Peasants had no power, money or free time to invest in their own capital (land).

Manorial/Feudal System

Feudal System

The Feudal System As Lords owned the land, they relied on force to guarantee that they were provided with food. As they were not producing food to sell on the market, there was no competitive pressure to innovate production. Lords spent all their wealth on military equipment or lavish consumption, they therefore had no incentive to invest in developing new productive technologies. Result = the Feudal System actually prevented capitalism from growing! The Feudal Manor (village area) was self-sufficient which limited the growth of a free-market.

How did Feudalism end? The Black Death and resulting Famine in Europe meant that there was a severe shortage of labour for agriculture. Peasants could now demand real wages for their work instead of servitude. The Lord’s needed them! Peasants therefore became WAGE- EARNERS! They could rent their own land, invest in their own capital and now had an incentive to innovate production methods to make more money. New technologies & exploration opened up the world to trade in the 15th C. Richer peasants, merchants and lords could invest in new commodities and trade.

Merchant Capitalism Mercantilism = a system of trade for profit. European merchants, backed by governments, made profits from the buying and selling of goods (which were still largely produced by non- capitalist production methods) Under Mercantilism, the State (government) became the regulator of the economy, not the local guild. Merchants invested capital in companies like the British East India Company, seeking a return on investment.

End of Merchant Capitalism These government-owned and protected merchant companies became very wealthy and dominated international trade. It made their governments very rich. However competition was non-existent as governments tried to keep all profits to themselves. There was no ‘free- market’. The Industrial Revolution would soon bring an end to government control of the economy and its Merchant system.

Industrial Capitalism Industrial Capitalism = an economic system that relies on investment of capital in machines & technology that are used to increase production of marketable goods Adam Smith and other economic liberals realised that more wealth could be created with less not more government interference in the economy. Government-owned merchant companies held monopolies in trade and production. There was little competition therefore no desire to innovate production.

Industrial Capitalism The Industrial Revolution enabled a new class of entrepreneurs to invest in new production methods. The only thing that held them back was government regulation and control. The sheer speed of the revolution meant that competition grew exponentially. Governments decided to help this grow by removing government barriers to trade (laissez-faire economics) as suggested by Adam Smith. Banks also grew as industry needed more investment and finance than governments could provide.

Modern Capitalism Private businesses could now create more wealth than the governments themselves. The need for big, strong governments was reduced. The role of government was now just to ensure the smooth operation of free markets. The State was now just a vehicle for improving business conditions, securing foreign markets and gaining access to resources (colonialism). ‘The business of America is business.’

Need for an alternative? By the 20th century, it was clear that Capitalism, whilst making businesses fabulously wealthy, wasn’t working for everyone. Laissez-faire economic policies reduced government protection for workers. Wage earners lived and worked in terrible conditions, with wages reduced by factory owners keen to boost profits. It seemed as if Capitalism was just another method of exploitation, benefiting a small minority who owned all the capital. The people who owned the wealth even seemed to control the government through political parties and pressure groups. Surely there was a better system?