In an article a few years ago in The Economist (12/7/13) about economic bubbles, the writer noted, “Many economists have struggled to accept that bubbles exist, as that is difficult to square with the idea of efficient markets.” That is to say, economists struggle to accept the evidence before their eyes since that is difficult to square with their a priori theoretical construct. Although economists are not the only practitioners of an academic discipline who prefer their models and theories to reality, they are perhaps the worst offenders in that respect. Economists have erected an edifice of enormous sophistication and complexity, which, sad to say, often bears little resemblance to the real world. The chief structural component of this edifice is the market, the quasi-magical process by which all that is out of kilter in the world can be made right. Thus we may refer to it as the capitalist demiurge, the quasi-deity imagined by some Greek philosophers that constructs and orders all things in this world.
“[B]ubbles [are] difficult to square with the idea of efficient markets.” How do we explain such a flight of unreality? Let us look at some of what is said about market efficiency and competition in order to understand how there could be such a departure from evident reality based on a theoretical assumption.
Two centuries ago, Adam Smith proclaimed that, through the workings of the invisible hand, those who pursue their own self-interest in a competitive economy will most effectively promote the public interest. This concept—that the rough-and-tumble of market competition is a potent force for raising output and living standards—is one of the most profound and powerful ideas in history….1
It is not difficult to see that market competition can achieve benefits at times—”Free competition [is] justified and quite useful within certain limits,” Pope Pius XI noted, but it “cannot be an adequate controlling principle in economic affairs.”2 Competition can stimulate manufacturers to seek more efficient ways of working, to lower artificially high prices, to produce better quality products. But it can equally work to lower wages, to deceive consumers with shoddy products, to push industries toward cheap or quick manufacturing processes that injure the environment. It is no magic or infallible method for running an economy or promoting the public interest. The beneficial efficiency that market competition can sometimes produce is in no way a substitute for intelligent concern for the common good, as Pope Pius likewise pointed out, when he criticized
the “individualistic” school, [who] forgetful or ignorant of the social and moral aspects of economic activities, regarded these as completely free and immune from any intervention by public authority, for they would have in the market place and in unregulated competition a principle of self-direction more suitable for guiding them than any created intellect which might intervene.3
Adam Smith’s analysis of human behavior that led him to the concept of the invisible hand was not only based on a small subset of humanity, but more importantly, it was focused on only one aspect of human conduct and ignored equally important features. The desire for gain is not always the chief motive for people’s economic conduct, let alone the only motive. Economies have functioned with widely differing kinds of incentives over the centuries and over the face of the earth. Even among countries with broadly capitalist economies there are notable differences in their understanding of the goods that an economy must respect or seek, and hence notable differences in worker rights, the place of unions, government regulation, consumer protections, and so on.4 But when a society constantly tells its members that their economic activity is and should be based solely on self-interest, is this not likely to narrow our focus and actually create the kind of mentality it assumes?
Smith and his followers fail to understand the key role that the
legal and tax systems of a society have. Corporations, for example, as we understand them today, with their features of limited liability, perpetuity, and freedom to operate anywhere, originated only in the 19th century. They are purely a creation of laws and court decisions, all of which could be changed. If their limited liability, for example, were taken away and their officers and directors made criminally liable for corporate malfeasance, corporate behavior would no doubt change radically and immediately. Human nature would not change, but it would express itself differently because the legal environment had changed.
In addition to culture and the legal system, economic power—who owns what, who controls what—goes a long way toward determining economic outcomes. A rich corporation or even a rich individual has much more potential economic power than any number of poorer workers. This has historically been the reason for labor organization, to create a situation in which the mass of workers had some bargaining equality with those holding economic power. Necessary as unions have been and are, however, distributists generally think that worker ownership by means of cooperatives would be better. A government that desired to promote social peace and health could favor such cooperatives by granting them guaranteed loans and favorable tax treatment. Of course, the believers in the magic of market efficiency might object, saying that such favorable treatment hindered the free operation of markets. But this is based on a misunderstanding—or perhaps on a myth. There is no such thing as a pure market, a market divorced from economic power, divorced from the cultural outlook of the society in which the market functions, and which is not structured by laws of one sort or another. The type of economic thought that was first formulated by Adam Smith presupposes a culture and a legal system of a particular sort, and regards this culture and this legal system as somehow natural to mankind. But in the history of the human race such cultures and such legal systems were rare or non-existent until recent centuries. Medieval Europe, from which our own society is descended, looked upon economic activity as having an essential but subordinate place in social life. As a result, their approach to the economy stressed different goals. They did not think of the amassing of goods as the purpose of life, nor that laws and institutions should be framed so as to facilitate production with no regard to its purpose. Richard Tawney, in his well-known and extremely important book, Religion and the Rise of Capitalism, conveys some idea of the medieval outlook:
Material riches are necessary; they have a secondary importance, since without them men cannot support themselves and help one another; the wise ruler, as St. Thomas said, will consider in founding his State the natural resources of the country. But economic motives are suspect. Because they are powerful appetites, men fear them, but they are not mean enough to applaud them. Like other strong passions, what they need, it is thought, is not a clear field, but repression. There is no place in medieval theory for economic activity which is not related to a moral end, and to found a science of society upon the assumption that the appetite for economic gain is a constant and measurable force, to be accepted, like other natural forces, as an inevitable and self-evident datum would have appeared to the medieval thinker as hardly less irrational or less immoral than to make the premise of social philosophy the unrestrained operation of such necessary human attributes as pugnacity or the sexual instinct.
And he continues,
At every turn, therefore, there are limits, restrictions, warnings, against allowing economic interests to interfere with serious affairs. It is right for a man to seek such wealth as is necessary for a livelihood in his station. To seek more is not enterprise, but avarice, and avarice is a deadly sin. Trade is legitimate; the different resources of different countries show that it was intended by Providence. But it is a dangerous business. A man must be sure that he carries it on for the public benefit, and that the profits which he takes are no more than the wages of his labor.5
The capitalist order has changed the life of what was once Christendom much more profoundly than most people realize. And it has equally profoundly changed the way most of us, including most Catholics, think about not just economic activity, but about the social order as a whole. But this need not be. We can reframe our thinking. As difficult as this would be, it can be done. G.K. Chesterton said that being a Catholic “is the only thing that frees a man from the degrading slavery of being a child of his age.”6 Just as many Catholics laudably have resisted the notion that sexual pleasure justifies any amount of wrong-doing, up to and including the murder of an unborn child, so we can resist the juggernaut of capitalist thinking and acting. It is hardly possible to withdraw entirely from capitalist-controlled society, but it is always possible to free our thoughts and subject them, not to the pressures of consumer fulfillment, but to the yoke of Jesus Christ the King.
- Paul Samuelson, Microeconomics, 17th ed. (2001), 286.
- Encyclical Quadragesimo Anno, no. 88.
- See, for example, John Groenewegen, “Institutions of Capitalisms: American, European, and Japanese Systems Compared,” Journal of Economic Issues, vol. 31, no. 2, June 1997.
- Richard H. Tawney, Religion and the Rise of Capitalism (1926), 31-32.
- “Why I am a Catholic,” volume 3, p. 127, of Ignatius Press Collected Works of G.K. Chesterton. Originally published in Twelve Modern Apostles and Their Creed, 1926.