The Character and Logical Method of Political Economy

But perhaps the best example which has yet been furnished of the proper use of statistics in the advancement of economic science is afforded by Mr. Tooke in his well-known ‘History of Prices.’ One of the first and most elementary principles in the theory of money is that,
ceteris paribus, the value of money is inversely as its quantity. In the discussions which took place during the earlier part of the present century on the phenomena of prices and the circulation, this principle was assumed as true, not simply hypothetically,
i.e. in the absence of disturbing causes, but as representing the sole, or at least principal, cause regulating general prices. By the ultra-bullionists on the one hand, and by the advocates of an inconvertible currency on the other, it was alike taken for granted that all fluctuations in the prices of commodities are to be attributed, at least in a principal degree, to alterations in the amount of money, including under that term coin and banknotes.
*38 Now the result of Mr. Tooke’s elaborate examination of the commercial and monetary history of that period was to show that no such correspondence between prices and the circulation, as these different authorities assumed, was in fact to be found. Here, then, was an example of that discrepancy between the conclusions of abstract reasoning and actual phenomena, which it is the business of statistical investigation to bring to light. The inevitable inference, therefore, was, either that the logical process by which these conclusions had been established was unsound, or that some cause influencing the phenomena had been overlooked.
*39 Mr. Tooke showed that a mistake in both these respects had been committed; 1st, a mistake of reasoning which failed to discriminate between the character of money (properly so called)
*40 in its effect upon prices, and that of convertible notes issued by banks in the discount of bills; and 2nd, a mistake in overlooking the disturbing influence which other forms of credit, equally with bank notes, when employed as purchasing power, exercise upon prices. The further investigation of this question by Mr. Tooke has resulted in a theory of prices, which, as regards the connection between prices and the note circulation, directly reverses some of the former maxims;—asserting, for example, that the amount of the note circulation, instead of being the efficient cause which determines the general level of prices, is itself an effect of this phenomenon, the fluctuations in which do not follow but precede the fluctuations in the circulation;—and, in addition, affording for the first time an explanation of a large and important class of monetary phenomena.

Such, then, is the method of inquiry in Political Economy, which not only the nature of the case suggests, but which analogy and authority alike support.

§2. In order to illustrate more clearly the character of this method, and the assistance which a clear apprehension of it may afford in discussing economic questions, I shall now take a particular example of an economic law, and examine the nature of the assertion which it contains, and the kind of proof by which it may be established or refuted.

It is a very fundamental law in Political Economy that ‘cost of production regulates the value of freely, produced commodities.’ By the ‘cost of production’ of a commodity, I may as well explain, is meant the labour, abstinence, and risk, which is necessary in order to produce that commodity; and by the expression ‘freely produced commodities’ is to be understood commodities which may be produced in any required quantity by anyone who chooses to go to the trouble and expense of producing them. This then being the meaning of the words, let us consider what is the nature of the assertion which is made, when it is said that ‘cost of production regulates value.’

Is it meant that freely produced commodities invariably and without exception exchange for one another in proportion to their respective costs of production?—in other words, that in every instance in which such commodities are exchanged their costs of production are precisely equal? If this is what the doctrine means, the assertion is clearly untrue. Wheat and barley,
e.g. in this country are freely produced commodities, and a stone of average wheat will, at present prices [1856-57] exchange for little more than a stone of average barley; but the cost of producing a stone of wheat is very much greater than the cost of producing a stone of barley; so much so, that a farmer does not consider himself to be equally well paid if he does not obtain nearly half as much more for the former. Again, take another interpretation; does the doctrine mean that, taking the average of considerable periods, the value of freely produced commodities will be constantly proportioned to the costs of producing them? Neither in this sense can the doctrine bear strict examination. Cotton goods,
e.g. in this country, and tobacco in America, are freely produced commodities. Anyone who has the requisite means at his disposal may engage in the production of either to any extent he pleases; yet, in the exchange of tobacco and manufactured cotton between America and England, even taking the average of long periods, the proportions in which they exchange will not be found to correspond with their respective costs: the quantity of English manufactured cotton which will exchange for a given quantity of American tobacco will, on an average, represent a greater cost.

In what sense, then, is the statement true, that cost of production regulates the value of freely produced commodities? The answer is, it is true hypothetically—in the absence of disturbing causes; or, to express the same thing in a different form, the doctrine expresses not a matter of fact, but a tendency. Thus, to revert to my former example, it is not true, as a matter of fact, that wheat and barley at present exchange in proportion to their respective costs of production; for the quantity of wheat for which a given quantity of barley will exchange represents the result of a greater expenditure of labour and abstinence; but it
is true that wheat and barley
tend to exchange in proportion to their costs of production;
*41 and the proof of this is, that the present high price of barley, as compared with that of wheat, will lead to an increased growth of barley and a diminished growth of wheat next season. It may be that the change in the comparative quantities produced will not be sufficient to bring their values into proportion with their costs, in which case a still further increase will take place in the growth of barley the following year, and a still further diminution in the growth of wheat; or it may be that the change will exceed what is necessary, and that the value of barley as measured in wheat may fall below what its cost of production would require; and in this case, the process in the succeeding year will be reversed. But, whatever be the result, and however calculation may be defeated by the vicissitudes of the seasons and by other causes, the tendency of its value to approach the cost of its production will be constant and unfailing.
*42 It is, to borrow Mr. Mill’s illustration, like the tendency of the ocean to a level, which is as constant and, certain as the law of gravitation, though probably no single square yard of its surface may even for a moment actually attain it. In the example, however, which I have given of the relative value of barley and wheat within the United Kingdom, though the proportions in which these two articles exchange may never at any given moment strictly conform to their costs of production, still, if the average were struck over an extensive period, the correspondence would probably be found to be in most cases sufficiently accurate; just as the average elevation of a cork thrown on the surface of the ocean would be found to represent the level which the whole surface constantly tended to approach. But, in the other example of the exchange of cotton goods and tobacco between England and America, this would not be the case. As I have already observed, if we were to take the average proportions in which these two articles are exchanged even over a considerable period, this average would not be found to correspond with their respective costs of production.

Is it then true that the law fails in this instance? I answer, that it no more fails than the law of gravitation fails when its force is neutralized by the action of friction. The law operates, but its operation is controlled by the force of another principle which intervenes and modifies the resulting phenomena. The case affords an example of a statement which I made on a former occasion, that a law in Political Economy, though logically deduced from indubitable facts of nature, is yet, when applied to external phenomena, true only hypothetically. Thus the law that cost of production regulates the value of freely produced commodities, is a doctrine logically deduced from the unquestionable facts that men desire physical well-being; and are averse to unrequited toil. Looking simply to these principles, it clearly follows that men desire to obtain wealth at the least possible outlay of labour; and consequently that they will not continue to give an article, the production of which costs a given amount of labour, for an article which may be obtained on less onerous terms; and this is only in other words to say that cost of production regulates value. But this is only true on the hypothesis that no other principle intervenes to disturb the direct operation of the two principles just described. For example, love of country may intervene to disturb their operation. An Englishman may prefer permanently to exchange a pound of manufactured cotton for a quantity of raw tobacco which costs less labour, rather than to go to America to grow tobacco for himself. In international dealings, therefore, a new principle, love of country, comes into play, and modifies the action of the primary principles from which the law of cost has been deduced; the result is a deviation of international values from the course which the elementary law would lead us to expect. To recur to the illustration just employed—let us suppose a weight to remain in equilbrio on an inclined plane. No one who understood the meaning of a physical law would say that there was here any failure of the law of gravitation: the law does not fail, but is counteracted by the intervention of another force, friction. And similarly there is no failure of the law of cost of production, when in international trade friction of another kind intervenes to modify the results of its operation. Diminish the friction of the plane in the physical example, and the weight will begin to descend in obedience to the law of gravitation. And, in precisely, the same way, diminish the obstructions to international communication, diminish the force of international prejudices, and the general laws of value will be found immediately to act, and international values will approach more nearly to the respective costs of production of the articles exchanged.

From this conception of an economic law, as expressing a hypothetical, not a positive, truth; as representing, not what actually takes place, but what
tends to, or
would take place in the absence of disturbing causes, we can have no difficulty in perceiving the
kind of proof on which such a law rests, and the
kind of arguments, therefore, by which alone, if questioned, it can be refuted.

Not being an assertion respecting the order of economic phenomena, it can neither be established nor refuted by an appeal to the records of such phenomena—that is to say, by statistical or documentary evidence bearing on the course of industrial or commercial affairs; but, expressing a tendency deduced from certain principles of human nature as they operate under certain physical conditions, it can be established only by proving the existence of such principles and conditions, and showing that the tendency asserted follows as a necessary consequence from these data; or, if questioned, can be refuted only by showing, either that the principles and conditions assumed do not exist, or that the tendency which the law affirms does not follow as a necessary consequence from this assumption. In economic reasonings, therefore, supposing the logical portion of the process to be sound, the appeal must in all cases ultimately be to consciousness or to some external fact—to some mental or physical law. And this, in fact, has been the kind of proof by which all those principles of Political Economy that can be considered as received doctrines have been established, and the issue to which, in the works of its ablest cultivators, all controverted questions have been ultimately reduced.

§3. The readers of the ‘Wealth of Nations’ will remember the passage near the opening of the work, in which the existence of the division of labour is traced to certain principles in human nature coming into operation under the actual circumstances in which mankind are placed. Having referred to the means of persuasion employed by the lower animals in order to gain the favour, of those whose services they require, Adam Smith continues:—

“Man sometimes uses the same arts with his brethren; and, when he has no other means of engaging them to act according to his inclinations, endeavours, by every servile and fawning attention, to obtain their good will. He has not time, however, to do this upon every occasion. In civilized society, he stands at all times in need of the co-operation and assistance of great multitudes, while his whole life is scarce sufficient to gain the friendship of a few persons. In almost every other race of animals, each individual, when it is grown up to maturity, is entirely independent, and in its natural state has occasion for the assistance of no other living creature; but man has almost constant occasion for the help of his brethren, and it is in vain for him to expect it from their benevolence only. He will be more likely to prevail, if he can interest their self-love in his favour, and show them that it is for their own advantage to do for him what he requires of them. Whoever offers to another a bargain of any kind proposes to do this. Give me that which I want and you shall have this which you want, is the meaning of every such offer; and it is in this manner that we obtain from one another the far greater part of those good offices which we stand in need of.”
*43

Similarly, it was by appealing to the principle of self-interest as it operates in commercial transactions, and to the physical properties of the precious metals as portable commodities, that the same writer overthrew the dogmas of the mercantile system, and established the doctrines of free trade.

“No commodities,” he tells us, “regulate themselves more easily or more exactly according to the effectual demand than gold and silver; because, on account of the small bulk and great value of those metals, no commodities can be more easily transported from one place to another—from the places where they are cheap to those where they are dear.”

…”A country,” he continues, “that has no mines of its own must undoubtedly draw its gold and silver from foreign countries, in the same manner as one that has no vineyards of its own must draw its wines. A country that has wherewithal to buy wine will always get the wine it has occasion for; and a country that has wherewithal to buy gold and silver will never be in want of those metals. They are to be bought for a certain price like other commodities, and as they are the price of all other commodities, so all other commodities are the price of those metals. We trust with perfect security that the freedom of trade, without any attention of government, will always supply us with the wine which we have occasion for; and we may trust with equal security that it will always supply us with all the gold and silver which we can afford to purchase or to employ, either in circulating our commodities or in other uses:
*44—

the reason, though not expressed, being clearly implied, that the same self-interest which is sufficient to induce the wine producers in France and Spain to send us their wines, will be sufficient also to induce the producers of gold and silver to send us these metals, if, as in the former case, we are prepared to give them their value in return.

Again, reasoning against another doctrine of the same school—that the regulation of trade by a system of duties and prohibitions was indispensable to the commercial prosperity of the country—Adam Smith thus argues:—

“This is to direct private people in what manner they ought to employ their capitals, and must in almost all cases be either a useless or a hurtful regulation. If the produce of domestic can be bought there as cheap as that of foreign industry, the regulation is evidently useless. If it cannot, it must generally be hurtful. It is the maxim of every prudent master of a family, never to attempt to make at home what it will cost him more to make than to buy. The tailor does not attempt to make his own shoes, but buys them of the shoemaker. The shoemaker does not attempt to make his own clothes, but employs a tailor. The farmer attempts to make neither the one nor the other, but employs those different artificers…. What is prudence in the conduct of a private family can scarce be folly in that of a great kingdom. If a foreign country can supply us with a commodity cheaper than we ourselves can make it, better buy it of them with some part of the produce of our own industry employed in a way in which we have some advantage. The general industry of the country being always in proportion to the capital which employs it, will not thereby be diminished, no more than that of the above-mentioned artificers, but only left to find out the way in which it can be employed with the greatest advantage. It is certainly not employed to the greatest advantage when it is directed towards an object which it can buy cheaper than it can make. The value of its annual produce is certainly more or less diminished, when it is thus turned away from producing commodities evidently of more value than the commodity which it is directed to produce.”
*45

In all this reasoning, I need scarcely remark, the appeal throughout is to the principle of self-interest. Restrictions on trade, if not useless, are hurtful—are prejudicial to the increase of national wealth, because in the operations of trade men naturally seek their own interest, and, consequently, if left to themselves, will naturally employ their industry in that way in which they have some advantage; the general industry of a country, therefore, will not be diminished by freedom of trade, but only be employed to most advantage—which is in other words to say, employed so as to produce the greatest possible amount of wealth.

It is true, Adam Smith afterwards refers to historical facts, and adduces the cases of Spain and Portugal to show the prejudicial effect of the mercantile system on the trade of those countries. You will observe, however, that when he has recourse to history, it is always in illustration or confirmation; he never makes it the basis of his doctrines. He first lays the foundation deep in the principles of human nature and the physical facts of the external world; the subsequent reference to historical events is merely in illustration of the mode in which the laws thus established operate.

Take another example from one of our greatest economic discoverers. One of the most important discoveries in Political Economy which has been made since the time of Adam Smith is the theory of foreign trade established by Ricardo. ‘Previous to this,’ as Mr. Mill observes, ‘the theory of foreign trade was an unintelligible chaos.’ The discovery of Ricardo was briefly this—he showed that the circumstance which determined an interchange of commodities between two nations was not, as had previously been supposed, a difference in the
absolute cost of producing the commodities exchanged, but a difference in the
comparative cost. Corn and iron,
e.g., might both be obtained at less cost in Sweden than in England, and yet no exchange of corn and iron would necessarily take place between Sweden and England; but if the comparative costs of iron and corn were different in these two countries, the principles of self-interest would inevitably lead to an exchange. I have already quoted the passage
*46 in which Ricardo, illustrating this position by a simple hypothesis, was enabled to establish it as a doctrine of economic science by a direct appeal to the motives which engage men in the production and exchange of wealth.

So also, in discussing with M. Say the theory of rent, of profits, of taxation, the question is invariably reduced by Ricardo, either to some acknowledged principle of human action, or to some question of physical fact—to such issues,
e.g., as the following—What is the productive capacity of the soil? Is the ratio of returns to outlay,
ceteris paribus, the same, or greater, or less, as the outlay is increased? Does not the conduct of farmers in resorting to inferior soils prove it to be less? In the cultivation of land, therefore, is there not a point at which the returns pay the capital and labour employed in cultivation, and no more? Will not the self-interest of farmers lead them to push cultivation to this point? Will not the same consideration prevent them from pushing it further? Are there not soils of every possible degree of fertility? Are there not some, therefore, which will merely yield an average profit on the outlay, and no more? Will not the competition of farmers, each guided by considerations of individual self-interest, force up the rent of land till the returns merely leave them the average rate of profits on their capital? Will not the same motive prevent them from raising it further? Is not rent, therefore, determined by the difference between the cost of that portion of agricultural produce which is raised at greatest expense, and that which is raised at less? Supposing a tax on raw produce, the farmer will not pay the tax, for then he would not get the average profits, and rather than submit to less, his self-interest will lead him to withdraw his capital from the land. Will he evade the tax by contracting the area of cultivation and giving a lower rent; or will the wants of consumers induce them to give a higher price rather than diminish their consumption? Will, therefore, the minimum rate of profit, necessary in order to secure the investment of the farmer’s capital, be maintained by a fall in rent, or by a rise in price? On the decision of such points are the laws of rent, of profits, of taxation, made to turn.

These examples, which might be multiplied at pleasure, will suffice to show the
kind of proof on which the great masters of Political Economy have rested their discoveries, and the
kind of issues to which they have reduced their controversies. In every case, where the logical process of an opponent is admitted as correct, the appeal has ultimately been to some mental or physical principle: their method has thus been strictly in conformity with what the nature of an economic law, as I have described it, would require.