Monday 25 November 2013

Use of the metaphor of the "invisible hand"

In the comments section to the previous post on the Foundations of a free society Owen writes,
Shame he mis-quotes Smith. AS never mentioned an invisible hand in reference to markets, in fact he only mentioned it once in Wealth of Nations. Also, AS notion of self-interest was appealing to others self-interest to gain what you wanted, ie mutual trade, nothing selfish about it. I'm not aware of any evidence that markets automatically lead to good outcomes for society, I do think they are the best allocative mechanism though (in most cases).
Butler is not quoting Smith and I'm sure that he is aware of the use Smith made of the term "invisible hand". To quote Butler,, at some length,
Adam Smith is famous for his ‘invisible hand’ idea. Most people take this to mean that our self-interested actions somehow produce an overall social benefit. Our hard bargaining, for
example, creates a market system that allocates resources with great efficiency.

In fact, apart from a mention of the ‘invisible hand of Jupiter’ in The History of Astronomy, Smith uses the phrase just twice in his entire output and not really in the commonly presumed sense. The rich make work for the poor.

In The Theory of Moral Sentiments, Smith suggests that the hand of ‘Providence’ equalises economic rewards. The rich can eat no more than the poor. Their only use for most of the food produced by their land is to exchange it with others – those who supply the luxuries, the ‘baubles and trinkets’, that the rich demand. Thinking only of themselves, the rich provide employment to thousands:
The rich only select from the heap what is most precious and agreeable. They consume little more than the poor, and in spite of their natural selfishness and rapacity, though they mean only their own conveniency, though the sole end which they propose from the labours of all the thousands whom they employ, be the gratification of their own vain and insatiable desires, they divide with the poor the produce of all their improvements. They are led by an invisible hand to make nearly the same distribution of the necessaries of life, which would have been made, had the earth been divided into equal portions among all its inhabitants, and thus without intending it, without knowing it, advance the interest of the society, and afford means to the multiplication of the species.
The only mention of the invisible hand in The Wealth of Nations is in a passage about official monopolies that promote domestic industries over foreign trade. Smith notes that this induces people to commit more capital to home industries, and then slides into the point:
As every individual ... endeavours 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.
These two passages suggest to critics that Adam Smith’s real ‘invisible hand’ concept is far removed from the popular notion of it. In one, the happy outcome of self-interest is attributed to ‘Providence’. In the other, it is a side comment in a discussion about the export trade.

In fact, the critics read too narrowly. The invisible hand idea, as commonly understood, pervades Smith’s work, and would do so even if these two specific references had never existed. For the phrase is a very convenient shorthand for Smith’s idea that human actions have unintended consequences; and that provided a few fundamental rules such as the principles of justice are followed, the self-serving actions of individuals can unintentionally produce a well-functioning and beneficial overall social order.
Or as Craig Smith has point it,
It is the idea of the invisible hand, or more generally the idea of social evolution through unintended consequences, which represents Smith’s chief legacy to the modern world. The recognition that many of the most important human achievements are, as Smith’s friend Adam Ferguson observed, the results of human action, not the product of human design, is a profound lesson to us all. It is this observation which leads Smith to his deep scepticism towards ‘men of system’ who would organise humanity to achieve noble ends.
As to whether markets automatically lead to good outcomes for society, Butler is not claiming that they do and Smith never claimed that they do. What I think most economists would say is that markets lead to good outcomes for society more often than any alternative method of resource allocation. A system of rules are required to achieve this end - such as competition and a system of justice - but as long as these are in place then markets are a better bet to achieve good outcomes than "men of system".


Owen said...

Whoops, may have jumped to conclusions there a bit!! Im too used to seeing invisible hand = markets. Thanks for the clarification.

Owen said...

Further to this, when I first came across the notion that the invisible hand was not what was taught in uni, it was a revelation and I also assumed it was rather the unintended consequences, but reading more im not so sure thats the correct interpretation either eg

Paul Walker said...

Yes, Gavin does take a different view. For a detailed discussion of his view see chapter 12 of Gavin Kennedy, "Adam Smith: a moral philosopher and his political economy" 2nd ed., New York: Palgrave Macmillan, 2010. Also read all of Gavin's excellent blog, Adam Smith's Lost Legacy. To see differing views on the "invisible hand" see "Econ Journal Watch", "Adam Smith and the Invisible Hand: From Metaphor to Myth" by Gavin Kennedy, May 2009 and "In Adam Smith’s Invisible Hands: Comment on Gavin Kennedy" by Daniel B. Klein along with "A Reply to Daniel Klein on Adam Smith and the Invisible Hand" by Gavin Kennedy, September 2009. Also Klein and Kennedy do battle again in "Economic Affairs": "In a word or two, placed in the middle: the invisible hand in Smith's tomes" by Daniel B. Klein and Brandon Lucas and "Adam Smith and the role of the metaphor of an invisible hand" by Gavin Kennedy. There are additional comments on the Klein-Lucas paper by other Smith scholars: "A comment on the centrality of the invisible hand" by Craig Smith and "A comment on the centrality of the invisible hand" by Ryan Hanley. All these are in Volume 31 Issue 1, 2011. A reply by Klein and Lucas appears in Volume 31 Issue 2, 2011: "On the deliberate centrality of an invisible hand: reply to Gavin Kennedy, Ryan Hanley and Craig Smith".