prior probability

Alternate title: “The $64 Question: Part 2” (FYI: here is part 1)

Note: Thus far, I have reviewed the first four chapters of Paul Sagar’s Adam Smith Reconsidered; today, I will conclude my review with Chapter 5 (“The Conspiracy of the Merchants”), the last and best chapter of this excellent and well-researched book.

Previously (see here), I wrote about the so-called “Das Adam Smith Problem”: the supposed contradiction between the famous “invisible hand” of Smith’s Wealth of Nations and the “impartial spectator” of his Theory of Moral Sentiments. (In short, one is a cold-and-calculating self-regarding creature, homo economicus; the other is altruistic and full of fellow feeling.) I also mentioned the inherent tension between markets and morality more generally. Paul Sagar, however, identifies a further possible “Adam Smith problem” — perhaps the greatest Smithian paradox of all — in Chapter 5 of Adam Smith Reconsidered.

In brief, Chapter 5 begins with one of my favorite Adam Smith quotes of all time: “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the publick, or in some contrivance to raise prices” (Smith, Wealth of Nations, I.x.c.27, quoted in Sagar 2022, p. 187). Worse yet, using the example of the East India Company, Professor Sagar further adds that these merchant conspiracies not only harm the public; they also threaten a nation’s economic prosperity writ large: “the most pressing dangers to modern commercial societies arose not from the alleged impacts of markets upon morals” but rather from these self-serving and rapacious merchant conspiracies (Sagar, p. 188).

Although it is easy to see why such collusion among the merchant classes is problematic — since they are simply enriching themelves at the expense of consumers — why do I describe the conspiracy of the merchants as “paradoxical”? The paradox is this: on the one hand, the merchant classes “are dangerous to a modern commercial society” (since they will raise prices, obtain ill-gotten subsidies, and bend the rules in their favor), but at the same time, they are also “entirely necessary to [a modern commercial society’s] continued operation and flourishing” (Sagar 2022, p. 207). (As a further aside, I would only add that Smith’s conspiracy of the merchants — and of today’s large corporations, I might add — not only harms consumers and threatens economic growth and prosperity writ large; it can also destabilize the rule of law — and rule of law is an essential ingredient of markets and of a successful commercial society, as Sagar himself correctly notes in Chapter 2 of his book; see here.)

But how can the merchant classes be both necessary and dangerous, or good and bad, at the same time? In a nutshell, they are good when they are pursuing legitimate commercial activities and playing by a fair set of rules that equally apply to all firms, yet they are bad when they try to bend these rules or conspire to raise prices or obtain subsidies or other special favors from those in power at the expense of the general welfare of the public. And this delicate dichotomy, in turn, poses an even deeper and more fundamental Smithian challenge: how can we ever hope to constrain the self-serving rent-seeking activities of merchants (and of large corporations) without stifling their wealth-maximizing commercial activities?

That, in a nutshell, is what I am calling the “Real Adam Smith Problem”, and however this dilemma is solved, Adam Smith deserves to be considered the first public choice theorist as well as the first scholar to diagnose the problem of rent-seeking.