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Book 4, Chapter 1
Themes
Key
LitCharts assigns a color and icon to each theme in The Wealth of Nations, which you can use to track the themes throughout the work.
Labor, Markets, and Growth
Capital Accumulation and Investment
Institutions and Good Governance
Mercantilism and Free Trade
Money and Banking
Summary
Analysis
Import taxes and bans help national industries establish monopolies over particular markets. Such monopolies prop up the British meat, grain, and wool industries. Rather than expanding a society’s overall economy, such policies just reallocate its resources toward particular activities. People generally prefer to invest their capital near home and in the industries that produce the most value. Since the best way for a country to invest its resource is by promoting the highest-value domestic industries, capital owners are “led by an invisible hand” to do what is best for society, even though they are only thinking about their own interests. This decentralized system is far better than letting a single politician or political council decide where to invest society’s resources.
Import restrictions to protect domestic industries are the first of the six mercantilist policies that Smith rejects. While Britain may not sell as much wool, meat, or grain if it had to compete with other countries for domestic customers, this wouldn’t necessarily be a problem. Competition will lower prices, and if wool, meat, or grain producers have to move their capital to other industries, this would only be because those other industries offer higher profit margins—and thus return more to Britain in the form of economic growth. This passage is also the only place in The Wealth of Nations where Smith actually uses the phrase “invisible hand,” which 20th-century economists have reinterpreted as “the invisible hand of the market” and used as a key metaphor for Smith’s entire theory of political economy.
Themes
As a result, all import restrictions are either useless or harmful. They are useless if domestic produce is already as cheap as imported produce, and they are hurtful if they lead a country to invest its capital in producing something that would be cheaper to import, instead of in more productive industries. These restrictions can help certain industries grow faster, but only in the short term. Since countries often have natural advantages in producing certain kinds of goods, it is always wiser to buy foreign goods than try to produce them. For instance, due to its climate, Scotland should buy foreign wine, not try to produce its own.
If domestic produce is cheaper than imported produce, nobody will choose imports, so import restrictions are a waste of time. And if imports are cheaper than domestic produce, import restrictions are counterproductive—at least from the perspective of the market’s overall efficiency, or its ability to provide the most produce at the cheapest prices. Of course, this doesn’t necessarily mean that the people who most need the produce are most able to purchase it. Import restrictions are still commonly used today because, as Smith points out, they can help domestic industries grow. Some countries are reluctant to rely on imports for industries like defense, while others simply aren’t competitive in any sector and don’t have the wealth necessary to just import everything, which means that their only hope for building robust domestic industry is to temporarily isolate those industries from competition.
Themes
Since most foreign trade consists of manufactured goods, which are easier to transport, import restrictions mainly enrich manufacturers and merchants. The effect is much smaller for rude produce. For instance, massive cattle, salt, and grain imports would not bankrupt British farmers. The bounty on grain exportation might increase exports in most years, but to compensate, it also increases imports in lean years. Accordingly, it mainly affects merchants, not farmers or landowners.
Merchants’ disproportionate power in Parliament helps explain why import restrictions became so popular in Britain. Indeed, since these merchants profit mainly from importing and exporting goods, they don’t care whether markets actually supply consumers with the produce they need, but rather whether that produce happens to flow across international borders. Rude produce imports are far more common today, particularly in the developed world, as wage and rent disparities make the added cost of transporting goods internationally well worth the trouble.
Themes
Import restrictions are justified in two cases. First, they promote industries key to the national defense. Britain protects its shipping industry by banning foreign ships and crews, and by requiring ships to travel straight from exporting countries to Britain (rather than stopping on the way). These rules helped the British outcompete the Dutch, but also seriously limited British foreign trade. Second, for goods that already face taxes on domestic production, import restrictions are justified to preserve fair competition. Some people suggest that domestic taxes on necessities (like salt, leather, and soap) raise all prices, so all imported goods should face taxes, but this effect is difficult to measure. Countries benefit from producing whatever they can make cheaply and importing whatever they cannot, so taxing foreign industry to compensate for tax-burdened domestic industries is foolish. Indeed, only rich countries can afford to enact high import taxes, which are economically damaging.
Relying on foreign nations for defense is risky, because the government doesn’t control the military assets and supply chains that it needs in the event of a conflict. Britain’s conquest of the world and robust foreign trade were two sides of the same coin, both enabled by its strong navy. In this way, this passage offers modern readers an intriguing window into the assumptions about state violence behind Smith’s economic theory: for economic activity to operate according to the market system he lays out, governments must control land, resources, and trade through force, so that they can ensure they get allocated to the right private individuals. Smith’s other example, goods that already face domestic taxes, is far more straightforward. Taxing domestic producers while allowing duty-free imports amounts to giving foreign producers an unfair leg up.
Themes
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In two more cases, import restrictions are sometimes justified. First, when one country raises taxes on a second country’s goods, the second country is justified in retaliating by taxing the first country’s goods—but only to pressure the first country into reversing course. Second, when a country already has large domestic industries and heavy import taxes, it should reduce those taxes gradually rather than suddenly, or else too many workers will lose their jobs and too many businesses will collapse. Still, under a free trade system, goods that are already being exported will remain competitive at home, and fast economic growth will give newly-unemployed workers many new opportunities, as it does to soldiers returning from war.
These two examples show that import taxes serve as a useful political tool because they can control the degree of economic pressure that market actors face. In both cases, the ultimate goal of retaliating with or gradually easing import taxes is to eventually achieve a system of free trade. Smith’s concern for the disruptions that workers and employers face in declining industries again complicates the contemporary image of him as a market fundamentalist who thinks governments should avoid interfering with the economy in any way. While he does clearly think that a free trade system is better overall than a system with tariffs, he also emphasizes that economic shifts cause significant damage to certain sectors of the population, and governments must make a point to counteract that damage by helping people and capital transition to more fruitful sectors.
Themes
Unfortunately, Britain will never really establish free trade because monopolist manufacturers have too much money, power, and influence over Parliament. When their businesses fail, these manufacturers sell off their circulating capital, but they lose the value of their fixed capital. But the slower taxes fall, the less fixed capital they lose.
When merchants and manufacturers run the government, they will do everything possible to maintain their profits, even if the short-term cost of restructuring the economy would produce far greater long-term benefits. Smith’s pessimistic expectations for Britain’s future demonstrate that he sees such business interests as the main impediment to a fair, prosperous economy. Curiously, this is almost the exact opposite of how Smith’s ideas are used today. Namely, he is too often cited in support of deregulation and entrenched corporate power, and too infrequently in the name of worker power and antimonopoly regulations.
Themes
