Adam Smith: Essays on Adam Smith’S Original Contributions to Economic Thought and the Parallels with the Economic Thought of John Maynard Keynes

By MICHAEL EMMETT BRADY

Adam Smiths original, path breaking work on decision making, uncertainty and public policies to minimize the impact of uncertainty in the economy has been overlooked for well over two hundred years. One need only peruse the badly analyzed work of Smith in this area as presented by Henry D MacLeod in his The Elements of Political Economy on pp.212-220 or Henry Sidgwicks The Principles of Political Economy on pp.359-361, as well as the misevaluations of Smiths contributions made by Jacob Viner in 1927, Joseph Schumpeter in 1954, Murray Rothbard in 1995, or Salim Rashid in 1998 to realize that Smiths important contributions were never recognized. The claim that Smith made no original contributions to economic theory or economics is simply false.

• Language: English
• Publisher: Xlibris US
• Release date: Jul 21, 2015
• ISBN: 9781503587328

MICHAEL EMMETT BRADY

Michael Emmett Brady received his Ph.D. degree in Economics from the University of California. He received his B.A. and M.A. degrees from California State University as well as completing all requirements for a B.A. in Mathematics. He has done graduate level work in mathematics

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COPYRIGHT © 2015 BY MICHAEL EMMETT BRADY.

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   ISBN:   HARDCOVER   978-1-5035-8733-5

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      EBOOK   978-1-5035-8732-8

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CONTENTS

Introduction

Essay One

A Comparison–Contrast of Adam Smith, J M Keynes and Jeremy Bentham on Probability, Risk, Uncertainty, Optimism-Pessimism and Decision Making with Applications concerning Banking, Insurance and Speculation

First published in International Journal of Applied Economics and Econometrics, Volume 19, No.4,October –December 2011,pp. 86-111.

Essay Two

Adam Smith’s Theory of Probability and the Roles of Risk and Uncertainty in Economic Decision Making

First published in International Journal of Applied Economics and Econometrics, Volume 23, No.1 (Jan.-Mar.), 2015

Essay Three

From Adam Smith to John Maynard Keynes and Back to Adam Smith: The Circle Closes. The Old Economic Thinking of Smith and Keynes Combined is still Superior to any New Economic Thinking

Essay Four

Adam Smith and J M Keynes on Uncertainty,Degrees of Uncertainty and Public Policy Impacts

Essay Five

A Comparison-Contrast between Adam Smith and Paul Davidson on the Definition and Application of the Uncertainty versus Risk Concept in Economics

Essay Six

Indeterminate Probabilities and Smithian and Keynesian Uncertainty

Essay Seven

Adam Smith, The Wealth of Nations, and the Invisible Hand : A Metaphor For Ambiguity-Uncertainty Aversion by Decision makers

This book is

dedicated to His Excellency, Pope Francis.

The theoretical support for his Economic, Political and Social reform initiatives has been provided by Adam Smith and JM Keynes.

Introduction

Adam Smith’s original, path breaking work on decision making, uncertainty and public policies to minimize the impact of uncertainty in the economy has been overlooked for well over two hundred years. One need only peruse the badly analyzed work of Smith in this area as presented by Henry D MacLeod in his The Elements of Political Economy on pp.212-220 or Henry Sidgwick’s The Principles of Political Economy on pp.359-361, as well as the misevaluations of Smith’s contributions made by Jacob Viner in 1927, Joseph Schumpeter in 1954, Murray Rothbard in 1995, or Salim Rashid in 1998 to realize that Smith’s important contributions were never recognized. The claim that Smith made no original contributions to economic theory or economics is simply false.

Smith’s recognition as a Great economist is currently based on two conventional opinions. The first reason for categorizing Smith as a great economist was that he was a great synthesizer who created the first systematic study of micro, macro, and economic growth. He was able to use the ideas of others, which, supposedly,he did,while simultaneously not giving them credit for their work, in order to create an overarching system of economic thought.

The second reason for Smith’s categorization as a Great economist was that he was able to recognize the operation of an Invisible Hand which, supposedly, led to the coordination of all decision makers’ competing/conflicting expectations in an optimal fashion over time as long as there was no governmental intervention and/or interference in the economy.

Gavin Kennedy has demonstrated for many years that the Invisible Hand was a metaphor used by Smith in lieu of providing the extensive, detailed explanations necessary to explain the reasons why the majority of domestic manufacturers and merchants would choose to trade in their home markets as opposed to moving into foreign markets. The Invisible Hand metaphor allowed Smith to avoid spending a great deal of time, effort, and pages in the Wealth of Nations in explaining the reasoning of these businessmen. Kennedy’s answer, that the home countries business men were risk averse (WN;1776) is correct as a first approximation. However, his analysis needs to be expanded to incorporate a discussion of uncertainty/ambiguity averse behavior besides risk aversion. This is done in an essay in Volume II.

Smith’s actual originality in the fields of Political Economy and Economics is due to the following reasons. First, his understanding of the crucial importance of a society’s ethical foundations or lack of such foundations. Smith realized that the type of society that will result, if built on the sands of egoism, utilitarianism, and libertarianism, is completely different from a society built on the granite of virtue ethics. Smith had a clear understanding of the important role that Virtue Ethics would play in allowing the application of Aristotle’s Golden Mean when applied to evaluating the conditions that would promote economic growth that would lead to a very large middle class and small lower and upper classes. Second, Smith’s understanding of the uncertainty versus risk distinction. Third, his correct analysis of the meaning of uncertainty. Fourth, his realization that it simply would not be possible to apply the purely mathematical laws of the probability calculus to the large majority of decisions undertaken in the real world of partial, incomplete knowledge. Fifth, Smith’s realization that the probabilities would most likely be interval estimates and not numerical and ordinal probabilities. Sixth, his understanding of the importance of fixed capital and the importance that the sober people (middle class) receive the vast majority of bank loans.

Smith’s mastery of virtue ethics,especially his understanding of the role of corruption in economic interactions and undertakings, allowed him to pinpoint the crucial area where corruption, if allowed to take hold and manifest itself, would impose the most damage on society by promoting exactly the opposite result aimed at above-large lower and upper classes and a small middle class.

Jesus also recognized this problem:

Then Jesus said to his disciples, Truly I tell you, it is hard for someone who is rich to enter the kingdom of heaven. Again I tell you, it is easier for a camel to go through the eye of a needle than for someone who is rich to enter the kingdom of God". (Matthew;19:23-24).As in the parable of Lazarus, the rich man has allowed himself to become corrupted and become a prisoner of his baubles,trinkets,ornaments, and other material possessions

Smith recognized that the crucial problem was a banking industry that served the interests of upper class projectors,imprudent risk takers,and prodigals. These categories are the same as J M Keynes’s speculators (Smith used the term speculator in the WN to designate an entrepreneur trying his hand at a number of different businesses) and rentiers. Today,these categories would consist of your Hedge Funds,private equity firms, and banks and bankers like Chase –Morgan and Jamie Dimon.

The Wealth of Nations (1776) is an application by Smith of his Virtue Ethics approach to political economy. At the micro level, Smith recognized,just as Jesus did in his parable of the Good Samaritan, that in order to be able to help your neighbor,you first must have been able to help yourself become a business/financial/commercial success by developing the talents God had given you. This initial application of one of the Four Pagan virtues,prudence, is a necessary condition before a decision maker is able to help others. The Good Samaritan would be in no condition to help others if he has not helped himself first to become a financial success. The Good Samaritan in Jesus’s parable is just such a person. He is not a poor person. A poor Good Samaritan can help no one at all. He has silver coins and a supply of wine and oil with him. He is able to both pay the innkeeper an initial down payment of two silver denarii,in order to care for the traveler who was left for dead by robbers, as well as being able to offer to cover all of the innkeeper’s additional future expenses on his return trip home,because he had made himself a financial success. Thus, while Jesus’s main emphasis in his Good Samaritan parable is that everyone is our neighbor, an additional secondary emphasis in this parable that has been overlooked,is that the potential Good Samaritan can’t actually be an effective Good Samaritan unless he has been able to acquire the resources to,in fact, help others. This leads to the conclusion that the Good Samaritan is well off, if not rich.

Helping others would be the Judeo Christian virtue of charity. This is the virtue that Smith regarded as being the ultimate virtue. However, in order to be able to reach this stage you must first have been able to become a success yourself. You had to be prudent (frugal, circumspect, parsimonious, careful, judicious).Smith’s term for this ultimate virtue in The Theory of Moral Sentiments (1759;sixth edition,1790) is Beneficence.

Both Jesus and Adam Smith realized, as mentioned above, that there was a very great and grave danger once a person had successfully accumulated riches, wealth, money, property, financial independence,etc. from his prudent behavior. He could be corrupted by his wealth.

Smith’s view of economic exchange in the market place is an exchange that is beneficial to both participants. Both participants benefit from the exchange. The concept of handing off a Hot potato or lemon to the other participant in an exchange in the market place is completely foreign to Smith. Such behavior undermines the economic system. The goal of exchange is not to maximize one’s utility by getting the most in exchange and paying the other party the least. The goal is that both parties to the exchange are satisfied with what they have obtained after the exchange has taken place. This leads to the creation of long term trust between the parties that leads to expectations of future trading possibilities that will be beneficial to both parties.

This first volume deals with points of analysis where the work of Smith and Keynes can be shown to be very close. Both Smith and Keynes are advocates of virtue ethics. Following Aristotle’s basic approach that ethics is an attempt to convince and persuade others to do the right thing, Smith seeks to persuade others,as opposed to laying down strict rules of behavior on the grounds that individuals face such a great range of situations that have many particular differences among them, so that no general rule or law will be applicable in the every given case. Smith promotes courage and fortitude, temperance, prudence, and justice. Virtues and Vices are positive and negative character traits, respectively. Jesus made it clear that there are only two laws, not 613 or 619.Adherence to these two laws leads directly to Smith’s emphasis on prudence,magnanimity,and beneficence.

Keynes’s version of virtue ethics comes from G E Moore. Keynes also has many of the same concerns as Smith regarding prudence and justice. Ethics is an attempt to persuade others to do good.

The second Volume deals in greater depth with Smith’s analysis of uncertainty and decision theory.

Essay One

A Comparison–Contrast of Adam Smith, J M Keynes and Jeremy Bentham on Probability, Risk, Uncertainty, Optimism-Pessimism and Decision Making with Applications concerning Banking, Insurance and Speculation

Abstract : Both Smith and Keynes have very similar conceptual approaches to what probability is, how it is used and applied and the areas of application in which it can aid a decision maker. They both accept an interval approach to probability based on inequalities and bounds versus ordinal, subjectivist Bayesian and relative frequency approaches. This led them to have very similar views with respect to analyzing speculative bubbles, lenders versus borrowers risk assessments, the dangers of speculative finance, especially if the bankers themselves are or become speculators and /or are financing speculators, and a policy of maintaining low, fixed rates of interest in order to control the speculative demand for money.

Both Keynes and Smith showed how their very similar constructs led to the creation of a viable insurance industry that would be based on an inexact approach to probability.

Bentham’s views on probability and decision making are directly opposed to those of Smith and Keynes. Bentham can be regarded as the founder of the subjectivist,Bayesian approach to decision making. The modern Subjective Expected Utility (SEU) approach can be traced back to Bentham’s original arguments about the ability of rational decision makers to calculate using precise numerical probabilities and