CHAPTER Three

3.3 Mercaintalism

.
 Outline

 Introduction

 The historical background of the period

 Answering the five questions in the school

[email protected]
 The historical background of the period

 The self-sufficiency of the feudal community slowly

gave way to the new system of merchant capitalism.

 Trade flourished both within each country and

between countries, and the use of money expanded.

 Discovery of gold in the western hemisphere,
facilitated the growing volume of commerce and
stimulated theorizing about precious metals.

[email protected]
 HBP…..

 Production was small scale, but increasingly the

merchant interceded between the producer and the

consumer.
 National states were rising, and the most powerful of

them were acquiring colonies and spheres of influence.

 Economic rivalries between nations were intensified.

[email protected]
 HBP…..

 At this time it is not surprising, then, that a body of

doctrine evolved that superseded feudal concepts,

promoted nationalism, gave new dignity and
importance to the merchant, and justified a policy of
economic and military expansion. This body of
doctrine became the mercantilist school.

[email protected]
 MAJOR TENETS OF MERCANTILIST SCHOOL

 Gold and silver are the most desirable form of

wealth.
 Early mercantilists believed g & s as the only form of
wealth in a nation.
 They valued bullion as the way to achieve power and
riches
 A surplus of exports from a country was therefore
necessary to generate payments in hard money.
[email protected]
 Major tenets ………

 Nationalism

 All countries could not simultaneously export more

than they imported. Therefore one’s own country
should promote exports and accumulate wealth at the
expense of its neighbors.
 Only a powerful nation could capture and hold
colonies, dominate trade routes, win wars against rivals,
and compete successfully in international trade.

[email protected]
 Major tenets ………

“The profit of one man is the damage of another…. No profit whatever can possibly be made but
at the expense of another.” Michel de Montaigne
 According to their static concept there was a fixed quantity of
economic resources in the world; one country could increase
its resources only at the expense of another.

Mercantilist nationalism quite naturally led to militarism.

Strong navies and merchant fleets were an absolute

requirement.

[email protected]
 Major tenets ………

 Duty-free importation of raw materials, protection for

manufactured goods and protection for raw materials that could

be produced domestically, and export restriction on raw

materials.

 This emphasis on exports and a reluctance to import has been

called “the fear of goods.”

 The interests of the merchant took precedence over those of the

domestic consumer.
[email protected]
 Major tents ………

 Colonization and monopolization of colonial trade.

 Tax exemption for exporters but not internal traders.

 Strong government

 was needed to promote mercantilist goals.

 The government granted monopoly privileges to companies

engaged in foreign trade.

 It restricted free entry into business at home to limit

competition…….. So and so forth
[email protected]
 Major tenets ………

 Importance of a large, hard-working population.

 a sizable, industrious population would provide a

high labor supply with low wages rate.

 These low wage has two advantages:

1. Enable lower prices on exports, thereby increasing the
inflow of gold

2. Reduce idleness and promote greater participation in the

labor force.
[email protected]
 Major tenets ………

 Bernard de Mandeville (1670?–1733), the Dutch philosopher,

satirist, and medical doctor who settled in London, wrote:
In a free Nation where Slaves are not allowed of, the surest Wealth consists in a
Multitude of laborious Poor…. As they ought to be kept from starving, so they
should receive nothing worth saving…. It is the Interest of all rich Nations, that
the greatest part of the Poor should almost never be idle, and yet continually
spend what they get…. The Poor should be kept strictly to Work, and that it was
Prudence to relieve their wants, but Folly to cure them…. To make the Society
happy and People easy under the meanest Circumstances, it is requisite that
great Numbers of them should be Ignorant as well as Poor.

[email protected]
 Whom Did the Mercantilist School Benefit
or Seek to Benefit?

 This doctrine obviously benefited the merchant

capitalists, the kings, and government officials.
 In HET some suggest that mercantilism can best be
understood as an extreme example of rent seeking
behavior.
 Rent seeking activities are simply attempts by private parties
to increase their profits by securing favorable laws and
regulations from government.
[email protected]
 Whom Did the Mercantilist School Benefit
or Seek to Benefit

 Note: Economic rent is defined as profits beyond those that would be

just necessary to keep the merchant capitalists engaged in their present

activities, that is, just sufficient to compensate them for their

opportunity costs.

 Thus, such laws took the form of grants of monopoly

status, prohibitions against imports, and regulations that

made it difficult for new producers and merchants to

compete successfully against the established ones.

[email protected]
 Whom Did the Mercantilist School Benefit
or Seek to Benefit
 According to this line of reasoning, the government
officials in power were willing to make these laws and
regulations—to dispense economic rent—as a way to
secure benefits for themselves and for the royalty at
whose pleasure they served.

[email protected]
 How Was the Mercantilist School Valid, Useful, or
Correct in Its Time?

 Although arguments for bullions exaggerated,

 they made sense in a period of transition between

the self-sufficient economy of the middle age to the
money and credit economy of modern times.
 i.e. the growth of commerce required more money in
circulation, and the banking system was insufficient to
produce it. Thus, bullion provided a reserve that could be
used.
[email protected]
 How Was the Mercantilist School Valid,
Useful, or Correct in Its Time?

 Great Britain’s trade with the Baltic region and East Indies
required international liquidity by way of precious metal.

 The mercantilists knew that price would rise, or at least

would not fall, if the quantity of money increased as trade
expanded.

 Not only the volume of output expanded at the time but also
the self sufficient household was being drawn into the market
economy.
[email protected]
 How Was the Mercantilist School Valid,
Useful, or Correct in Its Time?
 more money was needed therefor to buy the same volume of
output.
 some mercantilists were also aware that increase in the
amount of gold and silver in circulation reduced interest rate
and promoted business.

[email protected]
 Which tenet of the school become lasting
contribution

Direct contribution
They made a lasting contribution by emphasizing on the

importance of international trade,

 in that context, they also developed economic and accounting
nation of what today is termed as the balance of payment between
a nation and the reminder of the world.

 Beyond these (excluding Petty and Mun) they made little direct
contribution for economic theory as we know it to day.
[email protected]
 Which tenet of the school become lasting
contribution

Indirect contributions.
1.They permanently influenced attitudes towards the merchant.

 If their activities are properly channeled by government, merchants

enriched not only themselves but also the king and the kingdom .

2.Impact on economics by nationalism

[email protected]
 Which tenet of the school become lasting
contribution

3. The privileged chartered trading companies, ancestors of the

modern companies.

4. by promoting free movement of goods unhampered by

tolls, establishing uniform laws and taxes and promoting
people and goods in transit within and between countries.

[email protected]
 Thomas Mun

Life (1571–1641)
 The son of a British dealer in textiles, acquired his wealth and
reputation while he was a merchant in the Italian and Near
Eastern trade.
 After he was elected a director of the East India Company, Mun
became involved in a controversy over that company’s policy of
exporting gold and specifically the company was criticized on:
1. England imported more from India than it exported,
2. England sent precious metals to India to pay for imports.
[email protected]
 Thomas Mun……

 He published a tract in 1621 ‘A Discourse of Trade from

England unto the East Indies’ and argued against this critic
by saying

‘as long as total exports exceeded total imports, the drain of

species from a country in any one trade area did not matter’
 Around 1630 Mun wrote his famous exposition of
mercantilist doctrine in England’s Treasure by Foreign
Trade, published posthumously by his son in 1664.
[email protected]
 Thomas Mun……

 Mun asserted in the title of his book that England’s treasure was gained
by foreign trade.
 His thinking was typically mercantilistic in that he confused the wealth
of a nation with its stock of precious metals and therefore argued for a
favorable balance of trade and an inflow of gold and silver to settle the
trade balance.
 He believed that government should regulate foreign trade to achieve a
favorable balance, encourage importation of cheap raw materials,
encourage exportation of manufactured goods, enact protective tari ffs
on imported manufactured goods, and take other measures to increase
population and keep wages low and competitive
[email protected]
 Thomas Mun……

 He recommends the development of natural resources so that we

don’t have to import so much, the development of national
industries, and so on and so forth ways and means, which will
increase exportations and diminish importations of wares.
 Mun analyzed England’s overall balance of trade rather than its
separate account with each foreign country.
 He thought that increasing imports would increase England’s
stock of precious metal if the wares were exported to some other
country at a profit.
[email protected]
 Thomas Mun……

 Mun reasoned, therefore, that the export of gold should be allowed

to pay for the import of goods, which in turn would increase the
total volume of goods exported.
 His emphasis on importing treasure led to the strange conclusion
that trade at home could not enrich a country. Mun wrote,

“We may exchange either amongst our selves, or with strangers; if

amongst our selves, the Commonwealth cannot be enriched
thereby; for the gain of one subject is the loss of another. And if we
exchange with strangers, then our profits is the gain of the
Commonwealth.
[email protected]
 Thomas Mun……

 The last important contribution of Mun is on invisible items that should be

included in balance of payments,
 He included in the balance of payments the freight charges for shipping
goods, ships lost at sea, insurance, money paid out in supporting foreign
wars, international payment of bribes and funds for espionage ‘expenses
 of travelers, gifts to foreigners and ambassadors, interest on money,
smuggling to evade tariffs, and contributions to religious orders that secretly
sent the money abroad.
 On this last point Mun added, “If this mischief cannot be prevented, yet it
must be esteemed [estimated] and set down as a clear loss to the Kingdom.”

[email protected]
 CHAPTER Three

3.4 The
PHYSIOCRATIC
SCHOOL

[email protected]
 Outline

 Overview of the physiocats

 The historical background of the PS?

 Major tenets of the PS ?
 Whom did the PS benefit or seek to benefit?
 How was the PS valid, useful, or correct in its time ?
 which tenets of the PS become lasting contribution?

 Some important Physiocrats.

[email protected]
 The Historical Background of the
Physiocratic School

 It was a reaction to Mercantilism and the feudal

characteristics of the old region that pervaded French
society.
 The detailed government regulation at the time imprisoned
production in a straightjacket that did not allow:
 improvement of production methods
 change in consumer testes
 The growth of business enterprise and so on and so forth.
[email protected]
 The Historical Background of the PS

 Further the actions of French local authorities:

 Impended the movement of goods through internal tolls, taxes
and tariffs .
 Subjected peasants to taxes on land and on profit of farming
while exempting the nobility and the clergy.
 Varied taxes year to year depending on the whim of the tax
collector the wealth of the peasants.

 Thus incentives for individuals to accumulate wealth and

expand investment were weakened.

[email protected]
 The Historical Background of the PS

Moreover
Tolls and regulations above impeded the grain trade, so that
some area surplus might glut the warehouses while a few
miles a way people starved.
 Merchants and craft guilds, which arose during the
medieval period persisted longer in France. They:
 impended the free entry of labor in certain occupation
 restricted and regulated output
 Fixe price, opposed competition from other towns and abroad…….

[email protected]
 Major tenets of the PS ?

Natural order:- Laws of nature govern human society,

therefore all human activities should be brought in to
harmony with these natural laws.
 The laws of nature in the economic sphere
conferred to individuals:
 the natural right to enjoy the fruits of their own labor,
provided that such enjoyment was consistent with the
rights of others.
[email protected]
 Major tenets of the PS ?
Laissez-faire, laissez-passer

 The phrase is credited to Vincent Gournay.

 It means “let people do as they please without government interference”
 Beyond the minimum absolutely essentials to protect life and property
and to maintain freedom of contract, government should not interfere.

 They accepted it because


it favors freedom of business enterprises at home and free
trade abroad.

[email protected]
 Major tenets of the PS ?

Emphasis on Agriculture

 Only agriculture was productive, because it produced

a surplus, a net product above the value of resources

used in production.

 Industry, trade and other professions were useful

but sterile, producing the value consumed in the from

of raw materials subsistence for the workers.

[email protected]
 Major tenets of the PS ?

Taxation of the land owner

 Because only agriculture produced a surplus, which the

landowner received the in the form of rent, only the

landowner should be taxed.

 A direct tax on the landowner was preferable to indirect

taxes, which increased as they were passed along to others.

[email protected]
 Major tenets of the PS ?

Interrelatedness of the economy

 Quesnay, in particular, and the Physiocrats, in

general, analyzed the circular flow of goods and

money within the economy.

[email protected]
 Whom Did the PS Benefit or Seek to
Benefit

A. The peasants would benefit

 Because onerous obligations to the landowners would end.

B. Business entities
 Would gain from the prescription to remove all restrictions
on production and movement of goods.

C. By advocating the doctrine of laissez-faire, they were

promoting industry, even though this was not their
intention.
[email protected]
 Whom Did the PS Benefit or Seek to
Benefit
D. They were interested encouraging free internal trade
and stimulating the export of farm products and
import of manufactured goods.
 They specially favored capitalistic farms employing
labor and advanced techniques.

E. The direct tax which they favored only hurt

landowning nobility instead of the current or
prospective farm entrepreneurs who paid rent.
[email protected]
 Whom Did the PS Benefit or Seek to
Benefit
F. The physiocrats tried placate the nobility by genuinely

defending their right to own land and receive rent.

 They thought that a tax taking one third of the economic
surplus would be sufficient.
 This, they believed, would not redistribute wealth from the
rich to the poor, because the landowners paid the tax in any
case; rather converting the indirect to direct basis would
lower the overall burden.
[email protected]
 Whom Did the PS Benefit or Seek to
Benefit
 In this view, the nobility would be aided if the
Physiocrats program were enacted.
 But this belief was erroneous; it was based on the
faulty analysis that all taxable surpluses could came
only from land.

[email protected]
 How was the PS Valid, Useful, or
correct in its Time
 Before the industrial revolution, industries were characterized by
extremely low productivity and production of luxuries goods for
the nobility.
 Whilst agriculture often provided the surpluses that could be saved
and reinvested to initiate a rising state of economic growth and
industrial development not only in France but also in USA,
Germany, Japan…
 Thus, assuming all other sectors (except for agriculture) sterile was
explainable
 In promoting laissez-faire, they were opposing obstacles to
capitalistic economic development.
[email protected]
 How was the PS Valid, Useful, or
correct in its Time
 By emphasizing the productivity of agriculture, they were
getting away from the older concept that only commerce
produces and augment wealth.
 The physiocrats emphasized production rather than exchange as a
source of wealth.
 Their support for direct taxes was a valid reaction to the
indirect taxes that pervaded and corroded French society of
their time.
 They argued for capital accumulation through reduced
consumption by the wealth.
[email protected]
 which tenets of the PS become lasting
contribution?
Most of their ideas were wrong:
 Considering industry and trade as sterile
 Only the landlords should be taxed because only land
generated surplus
 They extolled capitalist farmer as the key figure in France
development but they were wrong in two accounts:
1. Industrialists and laborers became the most important figures
in France
2. Small peasant farmers rather than the large farm entrepreneur

[email protected]
become typical in France.
 Which Tenets of the PS Become Lasting
Contribution?
Nevertheless the Physiocrates made several contribution in
economics :
By examining the society as a whole and analyzing the laws that governed

the circulation of wealth and goods, they founded economics as a social

science.
 The law of diminishing returns was first clearly sated by Turgot

 They originated the analysis of tax shifting and incidence that today is an

important part of microeconomics.

 By advocating laissez faire, the Physiocrats turned the attention of

economics to the question of proper role of government in the economy.

[email protected]
 Francois Quesnay (1664-1774)

 A son of landed proprietor

 Trained to be a physician, made his fortune through his

skill in medicine and surgery.
 Quesnay rose to be the courts physician of Louis XV and
Madame de Pompour.
 In 1755 he met Gournay and soon become more interested
in economics than medicine.
 He was the founder and the leader of the Physiocrate
school.
[email protected]
 Francois Quesnay….

 Quesnay noted that small farms are incapable of using

the most productive methods; he favored large farms

managed by entrepreneurs
 Thereby anticipated todays large agricultural
enterprises

 To Quesnay, society is analogous to the physical

organism, both confirmed to the natural order and both

could be understood through thoughtful analysis.
[email protected]
 Francois Quesnay…

 He believed that laws made by people should be in

harmony with natural laws.

 Although he called nonagricultural producers “sterile,”

he did not question the right of proprietors to receive

rent.
 Nature, not the worker, produces the surplus he said.
Therefor the landlord who has a clam on the original
capital investment has a right on the surplus product.
[email protected]
 Francois Quesnay…..

 While he saw himself as the defender of the interests of

the landlords, they alleged him as an attacker because of

his proposal to tax only the landlords.

He argued that:

“an excess of luxury in the way of decoration may

quickly ruin with magnificence an opulent nation.”

[email protected]
 Francois Quesnay…

The famous tableau Economique

It depicted the circular flow of goods and money in an

ideal, freely competitive market.

It the first systematic analysis of wealth which latter

become input-output model.

Quesnay’s Tableau Economique foreshadowed national
income analysis and laid the foundation for statistical work to
describe an economy.
[email protected]
 Francois Quesnay…..

 Quesnay himself tried to estimate the values of annual output

and other aggregates.

 The table also explicitly conveyed the concept of equilibrium

within the economy as a whole, because if one of the

interdependent variables changed, others would change also.

 Furthermore, Quesnay’s table is a predecessor of the input-

output analysis, which Leontief introduced in the 1930s and

which economists still widely use today.

[email protected]
 A.R.J Turgot (1727–1781)

 Anne Robert Jacques Turgot was born of a noble family

of Normandy that for several generations had furnished

the state with able administrative officials.
 As a younger son he was educated for the church, but

after receiving his theological degree he decided instead

to enter the judicial and administrative service.
 Turgot rose in the ranks of government service until he

became the finance minister of France in 1774.

[email protected]
 A.R.J Turgot…..

 He introduced anti-feudal and anti-mercantilist

measures in keeping with physiocratic ideas.
 Freedom of internal grain trade was ordered, and guilds
and privileged trading corporations were abolished.
 He ended the oppressive corvée, the twelve or fifteen
days of unpaid labor required of peasants yearly to
maintain roads, bridges, and canals..
 Turgot cut government spending drastically. So and so
forth.
[email protected]
 A.R.J Turgot….

ANALYSIS ON PRODUCTION AND INVESTMENT

 While Quesnay (in his tableau) and the other physiocrats

assumed input of capital per unit of land was constant.

Turgot assumed it was variable.

 Saving contributed to capital accumulation, which in turn

increased capital intensity and productivity, both in

agriculture and other industries.

[email protected]
 A.R.J Turgot….

 But with increasing in capital intensity there will come

a decline in the rate of return on new investment.

 This is an example of a more general law of

production, the law of decreasing return, that Turgot

probably was the first to formulate in a clear and

precise manner.
[email protected]
 A.R.J Turgot….

“To sow seed on an unploughed piece of land in general is

a waste, but when it has been ploughed once, the yield
increases, and increases farther when the land has been
ploughed a second or third time. Up to certain point the
yield will increase more than in proportion to the input of
labor and capital, but beyond the point the increase will
became less, the soil eventually became so exhausted that
there will be no further increase in yield.”
[email protected]
 A.R.J Turgot….

What is the optimal use of capital in agriculture?

 He points out that it would be a mistake to believe that the

optimum would corresponded to the level of input that maximizes

the increase in production.

 The correct conclusion, he argues, is that the greatest surplus is

attended when the value of production minus the interest on capital

is as large as possible.
[email protected]
 A.R.J Turgot….

 This means that the use of capital should be

increased as long as the marginal productivity is

greater than the rate of interest. The optimal
would be achieved at the point the two are equal.

End of chapter

[email protected]