Nota bene: This post is my next installment of my multi-part review of Adam Smith’s 1784 pamphlet Additions and Corrections to the First and Second Editions of Dr. Adam Smith’s Inquiry into the Nature and Causes of the Wealth of Nations.

After exploring the markets for tobacco, textiles, and wine (see here), Smith devotes the next three “Additions and Corrections” (#7, #8, and #9) of his pamphlet to the market for wheat. More specifically, what was the cause of the gradual fall in the average price of grain, and what would be the net effect of giving grain farmers a bounty or subsidy? To begin, in Addition #7 Smith concludes, “It seems to be altogether impossible that the bounty could ever contribute to lower the price of grain.” (Smith 1784, p. 10) Instead, he draws a direct connection between the price of grain and the value of silver:

“It has happened in France, as well as in England, though in France there was, not only no bounty, but, till 1764, the exportation of corn was subjected to a general prohibition. This gradual fall in the average price of grain, it is probable, therefore, is ultimately owing neither to the one regulation nor to the other, but to that gradual and insensible rise in the real value of silver, which in the first book of this discourse, I have endeavoured to show has taken place in the general market of Europe, during the course of the present century.” (Smith 1784, p. 10)

Smith then explores the effects of farm subsidies in Addition #8. For starters, Smith restates the popular argument in favor of the “corn bounty”. According to this pro-subsidy argument, a bounty for the production of grain will increase the supply of grain in two ways (my emphasis):

“… first, by opening a more extensive foreign market to the corn of the farmer, it [a grain bounty] tends, they imagine, to increase the demand for, and consequently the production of, that commodity; and, secondly, by securing to him a better price than he could otherwise expect in the actual state of tillage, it [a grain bounty] tends, they suppose, to encourage tillage. This double encouragement must, they imagine, in a long period of years, occasion such an increase in the production of corn, as may lower its price in the home market, much more than the bounty can raise it, in the actual fate which tillage may, at the end of that period, happen to be in.” (Id.)

But then Smith explains why the logic of this pro-subsidy argument is totally wrong. Instead of lowering the price of grain in the home market, a bounty will have the opposite effect:

“I answer that whatever extension of the foreign market can be occasioned by the bounty, must, in every particular year, be altogether at the expence of the home market; as every bushel of corn which is exported by means of the bounty, and which would not have been exported without the bounty, would have remained in the home market to increase the consumption, and to lower the price of that commodity.” (Id. at pp. 10-11)

In other words, a corn bounty will encourage grain farmers to divert their grain to foreign markets; as a result, a bounty will lower (not increase) the supply of domestic grain and will thus increase (not lower) the price of grain to domestic consumers. Next, in one of the most original and penetrating passages of Smith’s entire magnum opus, Smith compares the corn bounty to a hidden tax. In fact, according to Smith, farm subsidies impose two hidden taxes on consumers:

“The corn bounty, it is to be observed, as well as every other bounty upon exportation, imposes two different taxes upon the people; first, the tax which they are obliged to contribute, in order to pay the bounty; and secondly, the tax which arises from the advanced price of the commodity in the home-market, and which, as the whole body of the people are purchasers of corn, must, in this particular commodity, be paid by the whole body of the people. In this particular commodity, therefore, this second tax is by much the heaviest of the two.” (Id. at p. 11)

Smith then illustrates his anti-subsidy argument with the following hypothetical example:

“Let us suppose that, taking one year with another, the bounty of five fillings upon the exportation of the quarter of wheat, raises the price of that commodity in the home-market, only sixpence the bushel, or four shillings the quarter, higher than it otherwise would have been in the actual state of the crop. Even upon this very moderate supposition, the great body of the people, over and above contributing the tax which pays the bounty of five fillings upon every quarter of wheat exported, must pay another of four shillings upon every quarter which they themselves consume. But, according to the very well informed author of the tracts upon the corn trade, the average proportion of the corn exported to that consumed at home, is not more than that of one to thirty-one. For every five shillings, therefore, which they contribute to the payment of the first tax, they must contribute six pounds four shillings to the payment of the second.” (Id.)

As a result, the true cost of the corn bounty will be borne by the poor, either directly or indirectly:

“So very heavy a tax upon the first necessary of life, must either reduce the subsistence of the labouring poor, or it must occasion some augmentation in their pecuniary wages, proportionable to that in the pecuniary price of their subsistence. So far as it operates in the one way, it must reduce the ability of the labouring poor to educate and bring up their children, and must, so far, tend to refrain the population of the country. So far as it operates in the other, it must reduce the ability of the employers of the poor, to employ so great a number as they might otherwise do, and must, so far, tend to restrain the industry of the country.” (Id. at pp. 11-12)

What about the effect of the corn bounty on grain farmers? Won’t the increase in the price of corn redound to the benefit of the grain farmers, the ostensible beneficiaries of the corn bounty? Smith addresses this question in Addition #9, and he concludes that the benefit to grain farmers will be negligible at best: “In the purchase of foreign commodities this enhancement in the price of corn may give them some little advantage. In that of homemade commodities it can give them none at all. And almost the whole expence of the farmer, and the far greater part of even that of the landlord, is in home-made commodities.” (Id. at p. 12)

As an aside, why do most economically-developed countries, including the U.S., continue to ignore Smith’s critique of farm subsidies? More generally, why do governments still favor farmers over consumers? Whatever the reason, Smith is not yet done with the subject of subsidies, for he will have much more to say about bounties in Additions #10, #11, and #12. (To be continued.)