The Wealth of Nations revisited

OK, so I am on a roll over the last week and you are probably a bit overwhelmed by all of these postings. However, there is much food for thought out there and I am only posting regarding things I believe are essential.

This post has to do with the endless quotations of Adam Smith’s bible of capitalism, “An Inquiry into the Nature and Causes of the Wealth of Nations.” This tome, better known as the Wealth of Nations, was published in 1776 (interesting correlation with the birth of democracy in America, too) and continues to be quoted by dyed in the wool capitalists to this day.

It is the Wealth of Nations that is the source of famous terms such as the “invisible hand.” However, I wanted to share with you one of the principal caveats that Smith himself included when proposing free-markets as a solution for whatever problem ailed you.

Namely, he said that markets only work if all parties to a transaction have equal access to information. After all, if one party to a transaction has greater information then they are able to take advantage of the other party.

For me, the classic example of this is back in the days before the Internet the car dealership that knew their cost and absolute lowest price. The purchaser of the car did not have this information and consequently, many people paid many different prices for the exact same car!

Why do I bring this up now? I bring it up now because there will be many voices in the next several years arguing that the financial crisis should have been handled in a laissez–faire (i.e. hands off) manner. That the public, politicians and regulators didn’t need to get involved and that it was actually interference into the operation of the markets that led to the collapse of the financial system. This is outright horse pucky. Why?

As I have stated on this blog several times, capitalism without regulators is like playing football without rules. Eventually over time football would become a melee. Not at first, but as players started to test the bounds of what was permissible and found that they could get away with anything then they would do just that. That’s why Adam Smith’s admonition that capitalism and free-markets only work when all participants have equal information is so important.

The reason that regulators are necessary is that participants do not have equal information and so there does need to be protection in place for participants in the economy.

Continued flow of information and continued scrutiny of market participants will always be necessary for capitalism to work and flourish. Otherwise we are left to trust that participants are good and honest people who actually do not seek to take advantage of others. And that just is not realistic, is it?

Jason