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An Inquiry into the Nature and Causes of the Wealth of Nations is the magnum opus of the Scottish economist Adam Smith, published on March 9,1776 during the Scottish Enlightenment. It is a clearly written account of political economy at the dawn of the Industrial Revolution, and is widely considered to be the first modern work in the field of economics. The work is also the first comprehensive defense of free market policies. It is broken down into five books between two volumes. The Wealth of Nations was written for the average educated individual of the 18th century rather than for specialists and mathematicians.

There are three main concepts that Adam Smith expands upon in this work that forms the foundation of free market economics:

 

Of the Division of Labour
Smith stated that the greatest improvement in the productive powers of labour, and the greater part of the skill, dexterity, and judgement with which it is anywhere directed, or applied, seem to have been the effects of the division of labour. To illustrate this, he describes the extensive division of labour within the "trifling" industry of pin manufacture, along with the astounding resultant productivity, and labourers’ dexterity; then leverages this as an introductory microcosm of the greater, yet less obvious division of labour in the broader economy. The advantages of this division were likely the driving force behind diversification of the trades and industry, and this diversification was greatest for nations with more industry and improvement. Agriculture is differentiated from industry for its comparative lack of division of labour, and the attendant lack of improved productivity; hence, while poor nations could not compete with rich nations in manufactures, they could compete in agriculture.

Smith lists three causes, arising from division, of improved productivity:

the labourer’s dexterity – due to specializing, year-round, in a specific task;
time not wasted passing from one task to the next – as in agriculture – as well as the more consistent and focused effort when working in just one area;
the machines and tools that have evolved in conjunction with increasingly specialised labour.

Of the Principle which gives Occasion to the Division of Labour
Chapter 2 illustrates the growth in division of labour.

"It is not from the benevolence of the butcher, the brewer or the baker, that we expect our dinner, but from their regard to their own self interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages."

That the Division of Labour is Limited by the Extent of the Market
Chapter 3 illustrates the growth in division of labour.

Of the Origin and Use of Money
"A monopoly granted either to an individual or to a trading company has the same effect as a secret in trade or manufactures. The monopolists, by keeping the market constantly understocked, by never fully supplying the effectual demand, sell their commodities much above the natural price, and raise their emoluments, whether they consist in wages or profit, greatly above their natural rate. The price of monopoly is upon every occasion the highest which can be got. The natural price, or the price of free competition, on the contrary, is the lowest which can be taken, not upon every occasion, indeed, but for any considerable time together. The one is upon every occasion the highest which can be squeezed out of the buyers, or which, it is supposed, they will consent to give: the other is the lowest which the sellers can commonly afford to take, and at the same time continue their business."

Of the Real and Nominal Price of Commodities…
See also: Real versus nominal value and Labour theory of value
Chapter 5’s long title is "Of the Real and Nominal Price of Commodities or of their Price in Labour, and their Price in Money". Smith begins by setting out the source of a commodity’s value. He states,

"Every man is rich or poor according to the degree in which he can afford to enjoy the necessaries, conveniencies, and amusements of human life. But after the division of labour has once thoroughly taken place, it is but a very small part of these with which a man’s own labour can supply him. The far greater part of them he must derive from the labour of other people, and he must be rich or poor according to the quantity of that labour which he can command, or which he can afford to purchase. The value of any commodity, therefore, to the person who possesses it, and who means not to use or consume it himself, but to exchange it for other commodities, is equal to the quantity of labour which it enables him to purchase or command. Labour, therefore, is the real measure of the exchangeable value of all commodities. The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it."

This is known as the labour theory of value, a defining feature of classical political economy. Smith then distinguishes between the nominal value of a commodity (in money denomination) and its real value in the labour required to purchase it. According to Smith, while the nominal value of a commodity is subject to fluctuation, this does not change its real value, because the amount of labour required to produce it and bring it to the market remains constant.

For example, the price of a commodity redeemable in silver may be 1:1, as the amount of labour required to produce that commodity is the same as the amount of labour required to retrieve one piece of silver. However, with the discovery of new silver mines in North America, a surge in the supply of silver in the economy may bring the nominal price of the commodity in silver to 1:2. Yet this does not affect the commodity’s real value, because the abundance of silver in the newly discovered mines does not suppose a lesser degree of labour required to retrieve them, but simply a greater availability of silver in the market. It is this greater availability that accounts for the inflation of the price; while the commodity is worth just as much labour now as it was before, it will not command as much power in the economy as before. However, if the price were to rise to 1:2 as a result of technological improvements in the manufacture or transport of the commodity, this would constitute a decline in its real value, because less labour is necessary to produce and market it.

Of the Component Parts of the Price of Commodities
Smith argues that the price of any product reflects the wages of the labourers involved, the rent of the land used to create the product (if applicable), and the "profit of stock," which serves to compensate the capitalist for risking his resources in the commodity’s production.

Of the Natural and Market Price of Commodities
"When the quantity of any commodity which is brought to market falls short of the effectual demand, all those who are willing to pay… cannot be supplied with the quantity which they want… Some of them will be willing to give more. A competition will begin among them, and the market price will rise… When the quantity brought to market exceeds the effectual demand, it cannot be all sold to those who are willing to pay the whole value of the rent, wages and profit, which must be paid in order to bring it thither… The market price will sink…"

"A monopoly granted either to an individual or to a trading company has the same effect as a secret in trade or manufactures. The monopolists, by keeping the market constantly understocked, by never fully supplying the effectual demand, sell their commodities much above the natural price, and raise their emoluments, whether they consist in wages or profit, greatly above their natural rate. The price of monopoly is upon every occasion the highest which can be got. The natural price, or the price of free competition, on the contrary, is the lowest which can be taken, not upon every occasion, indeed, but for any considerable time together. The one is upon every occasion the highest which can be squeezed out of the buyers, or which, it is supposed, they will consent to give: the other is the lowest which the sellers can commonly afford to take, and at the same time continue their business."

Of the Wages of Labour
In this section, Smith describes how the wages of labour are dictated primarily by the competition among labourers and masters. When labourers bid against one another for limited opportunities for employment, the wages of labour collectively fall, whereas when employers compete against one another for limited supplies of labour, the wages of labour collectively rise. However, this process of competition is often circumvented by combinations among labourers and among masters. When labourers combine and no longer bid against one another, their wages rise, whereas when masters combine, wages fall. In Smith’s day, it should be noted, organized labour was dealt with very harshly by the law.

In societies where the amount of labour is in abundance to the amount of revenue which may be used to pay for waged labour, the competition among workers is greater than the competition among masters, and wages fall; inversely, where excess revenue is in abundance, the wages of labour rise. Smith argues that, therefore, the wages of labour only rise as a result of greater revenue disposed to pay for labour. Labour is the same as any other commodity in this respect thought Smith,

"the demand for men, like that for any other commodity, necessarily regulates the production of men; quickens it when it goes on too slowly, and stops it when it advances too fast. It is this demand which regulates and determines the state of propagation in all the different countries of the world, in North America, in Europe, and in China; which renders it rapidly progressive in the first, slow and gradual in the second, and altogether stationary in the last."

However, the amount of revenue must be increasing constantly in proportion to the amount of labour in order for wages to remain high. Smith illustrates this by juxtaposing England with the North American colonies. In England, there is certainly a greater amount of revenue than in the colonies; however, the wages of labour are lower, because more workers would flock to new employment opportunities to which the large amount of revenue gives occasion, eventually competing against each other as much as they did before. By contrast, as capital continues to be introduced to the colonial economies at least at the same rate that population increases to "fill out" this excess capital, the wages of labour there are kept much higher than in England. Smith was highly concerned about the problems of poverty. He writes,

"poverty, though it does not prevent the generation, is extremely unfavourable to the rearing of children… It is not uncommon… in the Highlands of Scotland for a mother who has borne twenty children not to have two alive… In some places one half the children born die before they are four years of age; in many places before they are seven; and in almost all places before they are nine or ten. This great mortality, however, will every where be found chiefly among the children of the common people, who cannot afford to tend them with the same care as those of better station."

Of the Profits of Stock
In this chapter, Smith uses interest rates as an indicator of the profits of stock. This is because interest can only be paid with the profits of stock, and so creditors will be able to raise rates in proportion to the increase or decrease of the profits of their debtors.

Smith argues that the profits of stock are inversely proportional to the wages of labor, because as more money is spent compensating labor, there is less remaining for personal profit. It follows that, in societies where competition among laborers is greatest relative to competition among employers, profits will be much higher. Smith illustrates this by comparing interest rates in England and Scotland. In England, government laws against usury had kept maximum interest rates very low, but even the maximum rate was believed to be higher than the rate at which money was usually lended. In Scotland, however, interest rates are much higher. This is the result of a greater proportion of capitalists in England, which offsets some competition among laborers and raises wages.

However, Smith notes that, curiously, interest rates in the colonies are also remarkably high (recall that, in the previous chapter, Smith described how wages in the colonies are higher than in England). Smith attributes this to the fact that, when an empire takes control of a colony, prices for a huge abundance of land and resources are extremely cheap. This allows capitalists to increase his profit, but simultaneously draws many capitalists to the colonies, increasing the wages of labor. As this is done, however, the profits of stock in the mother country rise (or at least cease to fall), as much of it has already flocked offshore.

Of Wages and Profit in the Different Employments of Labour and Stock
Smith repeatedly attacks groups of politically aligned individuals who attempt to use their collective influence to manipulate the government into doing their bidding. At the time, these were referred to as "factions," but are now more commonly called "special interests," a term which can comprise international bankers, corporate conglomerations, outright oligopolies, trade unions and other groups. Indeed, Smith had a particular distrust of the tradesman class. He felt that the members of this class, especially acting together within the guilds they want to form, could constitute a power block and manipulate the state into regulating for special interests against the general interest:

"People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices. It is impossible indeed to prevent such meetings, by any law which either could be executed, or would be consistent with liberty and justice. But though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies; much less to render them necessary."

Smith also argues against government subsidies of certain trades, because this will draw many more people to the trade than what would otherwise be normal, collectively lowering their wages.

Chapter 10, part ii, motivates an understanding of the idea of feudalism.

Of the Rent of Land
Foreshadowing much of Thorsten Veblen‘s later work, Smith writes,

"With the greater part of rich people, the chief enjoyment of riches consists in the parade of riches, which in their eyes is never so complete as when they appear to possess those decisive marks of opulence which nobody can possess but themselves. In their eyes the merit of an object which is in any degree either useful or beautiful, is greatly enhanced by its scarcity, or by the great labour which it requires to collect any considerable quantity of it, a labour which nobody can afford to pay but themselves."

 

Of the Discouragement of Agriculture…
Chapter 2’s long title is "Of the Discouragement of Agriculture in the Ancient State of Europe after the Fall of the Roman Empire".

How the Commerce of the Towns Contributed to the Improvement of the Country
Smith often harshly criticised those who act purely out of self-interest and greed, and warns that, "all for ourselves, and nothing for other people, seems, in every age of the world, to have been the vile maxim of the masters of mankind." (Book 3, Chapter 4)

Of the Principle of the Commercial or Mercantile System
The book has sometimes been described as a critique of mercantilism and a synthesis of the emerging economic thinking of Smith’s time. Specifically, The Wealth of Nations attacks, inter alia, two major tenets of mercantilism:

The idea that protectionist tariffs serve the economic interests of a nation (or indeed any purpose whatsoever) and
The idea that large reserves of gold bullion or other precious metals are necessary for a country’s economic success. This critique of mercantilism was later used by David Ricardo when he laid out his Theory of Comparative Advantage.

Of Restraints upon the Importation…
Chapter 2’s full title is "Of Restraints upon the Importation from Foreign Countries of such Goods as can be Produced at Home". The "Invisible Hand" is a frequently referenced theme from the book, although it is specifically mentioned only once.

"As every individual, therefore, endeavors as much as he can both to employ his capital in the support of domestic industry, and so to direct that industry that its produce may be of the greatest value; every individual necessarily labours to render the annual revenue of the society as great as he can. He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it." (Book 4, Chapter 2)

Of the extraordinary Restraints…
Chapter 3’s long title is "Of the extraordinary Restraints upon the Importation of Goods of almost all Kinds, from those Countries with which the Balance is supposed to be Disadvantageous".

Of the Agricultural Systems…
Chapter 9’s long title is "Of the Agricultural Systems, or of those Systems of Political Economy, which Represent the Produce of Land, as either the Sole or the Principal, Source of the Revenue and Wealth of Every Country".

 

Of the Expenses of the Sovereign or Commonwealth
Smith uses this chapter to comment on the concept of taxation and expenditure by the state. On taxation Smith wrote,

"The subjects of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the state. The expense of government to the individuals of a great nation is like the expense of management to the joint tenants of a great estate, who are all obliged to contribute in proportion to their respective interests in the estate. In the observation or neglect of this maxim consists what is called the equality or inequality of taxation."

This points to Smith’s more progressive edge, as he was certainly not advocating "flat tax", but something progressively attached to people’s "abilities." For the lower eschelons, Smith recognised the dehumanising effect that the division of labour can have on workers, what Marx later named "alienation". Moreover he pointed out there was one solution, namely government intervention.

…"the understandings of the greater part of men are necessarily formed by their ordinary employments. The man whose whole life is spent in performing a few simple operations, of which the effects are perhaps always the same, or very nearly the same, has no occasion to exert his understanding or to exercise his invention in finding out expedients for removing difficulties which never occur. He naturally loses, therefore, the habit of such exertion, and generally becomes as stupid and ignorant as it is possible for a human creature to become. The torpor of his mind renders him not only incapable of relishing or bearing a part in any rational conversation, but of conceiving any generous, noble, or tender sentiment, and consequently of forming any just judgment concerning many even of the ordinary duties of private life… But in every improved and civilized society this is the state into which the labouring poor, that is, the great body of the people, must necessarily fall, unless government takes some pains to prevent it."

Of the Sources of the General or Public Revenue of the Society
Smith did not believe that the luxury of the rich was a great benefit to society, when set against the hardships of the poor, and he is often cited as the source of the modern idea of progressive taxation, which he advocated on grounds of fairness. In his discussion of taxes in Book Five, he wrote:

"The necessaries of life occasion the great expense of the poor. They find it difficult to get food, and the greater part of their little revenue is spent in getting it. The luxuries and vanities of life occasion the principal expense of the rich, and a magnificent house embellishes and sets off to the best advantage all the other luxuries and vanities which they possess. A tax upon house-rents, therefore, would in general fall heaviest upon the rich; and in this sort of inequality there would not, perhaps, be anything very unreasonable. It is not very unreasonable that the rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion."

The invisible hand
There are two important features of Smith’s concept of the "invisible hand".

Firstly, Smith was not advocating a social policy (that people should act in their own self interest), but rather was describing an observed economic reality (that people do act in their own interest).

Secondly, Smith was not claiming that all self-interest has beneficial effects on the community. He did not argue that self-interest is always good; he merely argued against the view that self-interest is necessarily bad. It is worth noting that, upon his death, Smith left much of his personal wealth to charity.

On another level, though, the "invisible hand" refers to the ability of the market to correct for seemingly disastrous situations with no intervention on the part of government or other organizations (although Smith did not, himself, use the term with this meaning in mind). For example, Smith says, if a product shortage were to occur, that product’s price in the market would rise, creating incentive for its production and a reduction in its consumption, eventually curing the shortage. The increased competition among manufacturers and increased supply would also lower the price of the product to its production cost plus a small profit, the "natural price." Smith believed that while human motives are often selfish and greedy, the competition in the free market would tend to benefit society as a whole anyway. This was later adopted as a universal principle by the laissez-faire economists of the 19th century.

Meritocracy
Meritocracy is a strong theme in the work. Specifically, Smith stresses the critical importance of allowing individuals to achieve what their "God-given talents" will allow them to, without interference from outside forces seeking to shape larger societal outcomes. Smith posits that these outside forces lead to inefficiency in the division of labor and hamstring progress generally.

 

The Wealth of Nations was published in 1776, during the Age of Enlightenment.

It influenced not only authors and economists, but governments and organizations. For example, Alexander Hamilton was influenced in part by The Wealth of Nations to write his Report on Manufactures, in which he argued against many of Smith’s policies. Interestingly, Hamilton based much of this report on the ideas of Jean-Baptiste Colbert, and it was, in part, to Colbert’s ideas that Smith wished to respond with The Wealth of Nations.

Many other authors were influenced by the book and used it as a starting point in their own work, including Jean-Baptiste Say, David Ricardo, Thomas Malthus and, later, Karl Marx and Ludwig von Mises. The Russian national poet Aleksandr Pushkin refers to The Wealth of Nations in his 1833 verse-novel Eugene Onegin.

Irrespective of historical influence, however, The Wealth of Nations represented a clear leap forward in the field of economics, similar to Sir Isaac Newton‘s Principia Mathematica for physics or Antoine Lavoisier‘s Traité Élémentaire de Chimie for chemistry. The Wealth of Nations is also important in a Scottish linguistic context on account of the fact the book is written in English and not in Scots Language, a somewhat rare occurrence for the time.

The first work of economics?
Eleven years prior to the publication of The Wealth of Nations Anders Chydenius, a Swedish priest and economist (living in what is now Finland today), published The National Gain (Den Nationnale Winsten). Chydenius’s work lays out several key principles of liberalism, free markets and free trade, many of which are also to be found in The Wealth of Nations. This has led some to argue that The Wealth of Nations was not the founding work of the modern school of economics after all, but was instead a kind of runner-up.

It is undoubtedly true (as Smith himself admitted) that The Wealth of Nations was composed, in part, of syntheses and analyses of existing political and economic theories. This is especially so with regard to the book’s positions on mercantilism and protectionism (Smith owed much of his work on those subjects to the Physiocrats, for example).

However, it is equally true that The National Gain and works like it, have had nowhere near the international impact that The Wealth of Nations has had. The causes of this state of affairs are outside the scope of this article, but whatever the reasons, Smith’s work continues to be canon in the field of economics down to this day, whereas The National Gain was not influential whatsoever outside of Chydenius’s homeland.

Thus, while it cannot accurately be said to be the "first" modern work of political economy, The Wealth of Nations must still be termed the "founding" work of economics, as it, and no other work, is the progenitor of almost all modern economic theory. Chydenius and others may have been first in the sense of strict timing, but Smith’s work was the first to have a wide influence. It should be noted however that, canonical as Smith’s book may be, one is unlikely to find many economists today who have actually read it, given the technical nature of modern economics.