Part I
THE ELEMENTS
THE ELEMENTS
Economics is the name which people have come to give to the study of Wealth. It is the study by which we learn how Wealth is produced, how it is consumed, how it is distributed among people, and so on. It is a very important kind of study, because it often depends upon our being right or wrong in Economics whether we make the whole State poorer or richer, and whether we make the people living in the State happier or not.
Now as Economics is the study of Wealth, the first thing we have to make certain of is, _What Wealth is_.
I
WHAT IS WEALTH?
The Economic definition of Wealth is subtle and difficult to appreciate, but it is absolutely essential to our study to get it clear at the outset and keep it firmly in mind. It is through some muddlement in this original definition of wealth that nearly all mistakes in Economics are made.
First, we must be clear as to what Wealth is _not_.
Wealth is never properly defined, for the purposes of economic study, by any one of the answers a person would naturally give off-hand. For instance, most people would say that a man’s wealth was the money he was worth. But that, of course, is nonsense; for even if there were no money used his possessions would still be there, and if he had a house and cattle and horses the mere fact that money was not being used where he lived would not make him any worse off.
Another and better, but still a wrong, answer is: “Wealth is what a man possesses.”
For instance, in the case of this farmer, his house and his stock and his furniture and implements are what we call his “wealth.” In ordinary talk that answer will do well enough. But it will not do for the strict science of Economics, for it is not accurate.
For consider a particular case. Part of this man’s wealth is, you say, a certain grey horse. But if you look closely at your definition and make it rigidly accurate, you will find that _it is not the horse itself which constitutes his wealth, but something attaching to the horse_, some quality or circumstance which affects the horse and gives the horse what is called its _value_. It is this _Value_ which is wealth, not the horse. To see how true this is consider how the value changes while the horse remains the same.
On such and such a date any neighbour would have given the owner of the horse from 20 to 25 sacks of wheat for it, or, say, 10 sheep, or 50 loads of cut wood. But suppose there comes a great mortality among horses, so that very few are left. There is an eager desire to get hold of those that survive in order that the work may be done on the farms. Then the neighbours will be willing to give the owner of the horse much more than 20 or 25 sacks of wheat for it. They may offer as much as 50 sacks, or 20 sheep, or 100 loads of wood. Yet the horse is exactly the same horse it was before. The wealth of the master has increased. His horse, as we say, is “worth more.” _It is this_ WORTH, _that is, this ability to get other wealth in exchange, which constitutes true Economic Wealth_.
I have told you that the idea is very difficult to seize, and that you will find the hardest part of the study here, at the beginning. There is no way of making it plainer. One has no choice but to master the idea and make oneself familiar with it, difficult as it is. _Wealth does not reside in the objects we possess, but in the economic values attaching to those objects._
We talk of a man’s wealth or a nation’s wealth, or the wealth of the whole world, and we think at once, of course, of a lot of material things: houses and ships, and pictures and furniture, and food and all the rest of it. But the economic wealth which it is our business to study is not identical with those _things_. Wealth is the sum total of the _values_ attaching to those things.
That is the first and most important point.
Here is the second: Wealth, for the purposes of economic study, _is confined to those values attaching to material objects through the action of man, which values can be exchanged for other values_.
I will explain what that sentence means.
Here is a mountain country where there are few people and plenty of water everywhere. That water does not form part of the Economic _wealth_ of anyone living there. Everyone is the better off for the water, but no one has _wealth_ in it. The water they have is absolutely necessary to life, but no man will give anything for it because any man can get it for himself. It has no _value in exchange_. But in a town to which water has to be brought at great expense of effort, and where the amount is limited, it acquires a value in exchange, that is, people cannot get it without offering something for it. That is why we say that in a modern town water forms part of _Economic Wealth_, while in the country it usually does not.
We must carefully note that wealth thus defined is NOT the same thing as well-being. The mixing up of these two separate things--well-being and economic wealth--has given rise to half the errors in economic science. People confuse the word “wealth” with the idea of well-being. They say: “Surely a man is better off with plenty of water than with little, and therefore conditions under which he can get plenty of water for nothing are conditions under which he has _more wealth_ than when he has to pay for it. He has more _wealth_ when he gets the water free than he has when he has to pay for it.”
It is not so. Economic wealth is a separate thing from well-being. Economic wealth may well be increasing though the general well-being of the people is going down. It may increase though the general well-being of the people around it is stationary.
The Science of Economics does not deal with true happiness nor even with well-being in material things. It deals with a strictly limited field of what is called “Economic Wealth,” and if it goes outside its own boundaries it goes wrong. Making people as happy as possible is much more than Economics can pretend to. Economics cannot even tell you how to make people well-to-do in material things. But it can tell you how exchangeable Wealth is produced and what happens to it; and as it can tell you this, it is a useful servant.
That is the second difficult point at the very beginning of our study. _Economic Wealth consists in_ EXCHANGEABLE _values, and nothing else_.
We must be as clear on this second point as we have made ourselves upon the first, or we shall not make any progress in Economics. They are both of them unfamiliar ideas, and one has to go over them many times before one really grasps them. But they are absolutely essential to this science.
Let us sum up this first, elementary, part of our subject, and put it in the shortest terms we can find--what are called “Formulæ,” which means short and exact definitions, such as can be learnt by heart and retained permanently.
We write down, then, two Formulæ:
1. =Wealth is made up, not of things, but of economic values attaching to things.=
2. =Wealth, for the purposes of economic study, means ONLY exchange values: that is, values against which other values will be given in exchange.=
II
THE THREE THINGS NECESSARY TO THE PRODUCTION OF WEALTH--LAND, LABOUR AND CAPITAL
You will notice that all about you living beings are occupied in changing the things around them from a condition where they are _less_ to a condition where they are _more_ useful to themselves.
Man is a living being, and he is doing this kind of thing all the time. If he were not he could not live.
He draws air into his lungs, taking it from a condition where it does him no good to a condition where it keeps him alive. He sows seed; he brings food from a distance; he cooks it for his eating. To give himself shelter from the weather he moulds bricks out of clay and puts them together into houses. To get himself warmth he cuts down wood and brings it to his hearth, or he sinks a shaft and gets coal out of the earth, and so on.
Man is perpetually changing the things around him from a condition in which they are _less_ useful to him into a condition where they are _more_ useful to him.
_Whenever a man does that he is said to be creating, and adding to, Human Wealth_: part of which is Economic Wealth, that is Wealth suitable for study under the science of Economics.
Wealth, therefore, that thing the nature and growth of which we are about to study, is, so far as man is concerned, the result of this process of changing things to man’s use, and it is through looking closely at the nature of this process that we get to understand what is necessary to it, and what impedes it, and how its results are distributed among mankind.
We must next go on to think out _how_ wealth is so produced. We have already seen what the general statement on this is: Wealth is produced by man’s consciously transforming things around him to his own uses; and though not everything so transformed has true _Economic Wealth_ attaching to it (for instance, breathing in air does not produce Economic Wealth), yet all Economic Wealth is produced as _part_ of this general process.
Now when we come to examine the Production of Wealth, we shall find that _three_ great separate forces come into it; and these we shall find to be called conveniently “Land,” “Labour” and “Capital.”
Let us take a particular case of the production of Economic Wealth and see how it goes forward. Let us take the case of the production of, say, 100 sacks of wheat.
1. LAND.
A man finds himself possessed of so much land, and when he sets out to produce the 100 sacks of wheat, the following are the conditions before him.
There are natural forces of which he takes advantage and without which he could not grow wheat. The soil he has to do with has a certain fertility, there is enough rainfall to make the seeds sprout, and so on.
All these natural forces are obviously necessary to him. Though we talk of man “creating” wealth he does not really create anything. What he does is to use and combine certain natural forces of which he is aware. He has found out that wheat will sprout if it is put into the ground at a particular season, and that he will get his best result by preparing the ground in a particular manner, etc. These natural forces are the foundation of the whole affair.
For the sake of shortness we call all this bundle of natural forces (which are the very first essential to the making of wealth) “LAND.” This word “Land” is only a conventional term in Economics, meant to include a vast number of things beside the soil: things which are not Land at all; for instance, water power and wind power, the fertility of seed, the force of electricity, and thousands of other natural energies. But we must have some short convenient term for this set of things, and the term “Land” having become the conventional term in Economic Science for all natural forces, it is now the useful and short word always used for them as a whole: the reason being, I suppose, that land, or soil, is the first natural requisite for food--the most important of man’s requirements, and the _place_ from which he uses all other natural forces.
We say, then, that for the production of wealth the first thing you need is the natural forces of the world, or “Land.”
2. LABOUR.
But we next note that this possession of natural forces, our knowledge of how they will work, and our power of combining them, _is not enough to produce wealth_.
If the farmer were to stand still, satisfied with his knowledge of the fertility of the soil, the quality of seed, and all the rest of it, he would have no harvest. He must, as we have said, prepare the land and sow the seed: only so will he get a harvest at the end of his work. These operations of human energy which end in his getting his harvest are called “LABOUR”: that is, _the application of human energy to natural forces_. There are no conditions whatsoever under which wealth can be produced without natural forces or “land;” but there are also no conditions whatsoever under which it can be produced without “labour,” that is, the use of human energy. Even if a man were in such a position that he could get his food by picking it off the trees, there would still be the effort required of picking it. We say, therefore, _that all wealth comes from the combination of LAND and LABOUR: That is_, of _natural forces_ and _human energy_.
3. CAPITAL.
At first sight it looks as though these two elements, Land and Labour, were all that was needed; and a very great deal of trouble has been caused in the world by people jumping to this conclusion without further examination.
But if we look closely into the matter we shall see that Land and Labour alone are _not_ sufficient to the production of wealth in any appreciable amount. The moment man begins to produce wealth in any special fashion and to any appreciable extent, a third element comes in which is as rigorously necessary as the two others; and that third element is called CAPITAL.
Let us see what this word “CAPITAL” means.
Here is your farmer with all the requisite knowledge and the natural forces at his disposal. He has enough good land provided him to produce a harvest of 100 sacks of wheat if he is able and willing to apply his manual labour and intelligence to this land. But he must be kept alive during the many months required for the growth of the wheat. It is no use his beginning operations, therefore, unless he has a stock of food; for if he had not such a stock he would die before the harvest was gathered. Again, he must have seed. He must have enough seed to produce at the end of those months one hundred sacks of wheat. So we see that at the very least, for this particular case of production, the natural forces about him and his own energies would not be of the least use to the production of the harvest unless there were this third thing, a stock of wheat both for sowing and for eating.
But that is not all. He must be sheltered from the weather; he must be clothed and he must have a house, otherwise he would die before the harvest was gathered. Again, though he might grow a very little wheat by putting in what seed he could with his hands into a few suitable places in the soil, he could not get anything like the harvest he was working for unless he had special implements. He must prepare the land with a plough; so he must have a plough; and he must have horses to draw the plough; and those horses must be kept alive while they are working, until the next harvest comes in; so he must have a stock of oats to feed them with.
All this means quite a large accumulation of wealth before he can expect a good harvest: the wealth attaching to clothes, houses, food, ploughs, horses for a year.
In general, we find that man, when he is setting out on a particular piece of production of wealth, is absolutely compelled to add to his energies, and to the natural forces at his disposal, a third element consisting of _certain accumulations of wealth made in the past_--an accumulation of food, clothing, implements, etc.--without which the process of production could not be undertaken. _This accumulation of_ ALREADY-MADE WEALTH, _which is thus absolutely necessary to production_, we call _CAPITAL_.
It includes _all kinds of wealth whatsoever which man uses_ WITH THE OBJECT OF PRODUCING FURTHER WEALTH, _and without which the further wealth could not be produced_. It is a reserve without which the process of production is impossible. Later on we shall see how very important this fact is: for every healthy man has energy, and natural forces are open to all, but _capital_ can sometimes be controlled by very few men. If they will not allow their capital to be used, wealth cannot be produced by the rest; therefore those who, by their labour, produce wealth may be driven to very hard conditions by the few owners of Capital, whose leave is necessary for any wealth to be produced at all.
But all this we must leave to a later part of our study. For the moment what we have to get clearly into our heads are these three things: (1) _Natural Forces_, (2) _Human Energy_, and (3) _Accumulated stores and implements_, which are called, generally, for the sake of shortness: _LAND_, _LABOUR_ and _CAPITAL_. In the absence of any one of these three, production of Wealth is impossible. All three must be present; and it is only the combination of all three which makes the process of producing economic values possible.
POINTS ABOUT CAPITAL.
There are _three_ important things to remember about Capital.
1. The first is that what makes a particular piece of wealth into capital is not the kind of object to which the economic value attaches, but the _intention_ of using it as capital on the part of the person who controls that object; that is, the intention to use it for the _production of future wealth_. Almost any object can be used as capital, but no object is capital, however suitable it be for that purpose, _unless there is the intention present of using it as capital_. For instance: One might think that a factory power engine was always Capital. The economic values attaching to it, which make an engine worth what it is are nearly always used for the production of future wealth, and so we come to think of the engine as being necessarily capital simply because it is an engine, and the same is true of factory buildings and all other machinery and all tools, such as hammers and saws and so on.
But these things are not capital _in themselves_; for if we do not use them for the production of future wealth they cease to be capital. For instance, if you were to put the engine into a museum, or to keep a hammer in remembrance of someone and not use it, then it would not be capital.
And this truth works the other way about. At first sight you would say, for instance, that a diamond ring could not be capital: it is only a luxurious ornament. But if you use it to cut glass for mending a window it is capital for that purpose.
2. The second important thing to remember about Capital is that, being Wealth, _it is at last consumed, as all other Wealth is_. Capital is consumed in the process of using it to make more Wealth, and as it is consumed it has to be replaced, or the process of production will break down. Take the case of the farmer we gave just now. He had to start, as we saw, with so much Capital--horses and a plough and a stock of wheat and a stock of oats, etc.; and only by the use of this capital could he procure his harvest of 100 sacks of wheat at the end of the year; but if he is going on producing wheat year after year he must replace the wastage in his capital year after year. His stock of wheat for food and for seed will have disappeared in the year; so will his stock of hay and oats for keeping his horses. His plough will be somewhat worn and will need mending; and his horses, after a certain time, will grow old and will have to be replaced. Therefore, if production is to be continuous, that is, if there are to be harvests year after year, each harvest must be at least enough to replace all the wastage of capital which goes on during the process of production.
3. The third thing to remember about Capital is that Capital is _always the result of saving_: That is, the only way in which people can get Capital is by doing without some immediate enjoyment of goods, and putting them by to use them up in creating wealth for the future. This ought to be self-evident; but people often forget it, because the person who _controls_ the capital is very often quite a different person from the person who _really accumulated_ it. The owner of the capital is very often a person who never thinks of saving. Nevertheless, the saving has been done by _someone_ in the past, and saving must go on the whole time, for if it did not the Capital could not come into existence, and could not be maintained once it was in existence.
Suppose, for instance, a man inherits £10,000 worth of Capital invested in a Steamship Company.
This means that he has a share in a number of hulls, engines, stocks of coal and food, and clothing for the crews, and other things which have to be provided before the steamships can go to sea and create wealth by so doing.
All this capital has been saved by someone. Not by the man himself; he has merely inherited the wealth--but by someone.
Someone at some time, his father or whoever first got the capital together, must have forgone immediate enjoyment and put by wealth for future production, or the capital could not have come into existence. Thus, if the first accumulator of the capital had used his wealth for the purchase of a yacht in which to travel for his amusement, the labour and natural forces used in the production of that yacht would have made wealth consumed in immediate enjoyment, and it would not have been used for future production as is a cargo ship.
In the same way this capital, once it has come into existence in the shape of cargo ships and stocks of coal and the rest, would soon disappear if it were not perpetually replenished by further saving. The man who owns the shares in the Steamship Company does not consciously save year after year enough money to keep the capital at its original level.
Nevertheless, the saving is done for him. The Directors of the Company keep back out of the total receipts enough to repair the ships and to replenish the stocks of coal, etc., and they are thus perpetually accumulating fresh capital to replace the consumption of the old. How true it is that all Capital is the result of saving by _someone_, _somewhere_, we see in the difference between countries that do a lot of saving and countries that do little. Savages and people of a low civilisation differ in this very much from people of a high civilisation. They want to enjoy what they have the moment they have it, and they lay by as little as possible for the future; only just as much as will keep them going. But in a high civilisation people save capital more and more, and so are able to produce more and more wealth.
Now let us sum up in some more Formulæ what we have learnt so far.--
1. =All production of Wealth needs three things: (_a_) Natural forces, (_b_) Human energy, and (_c_) an Accumulation of wealth made in the past and used up in future production.=
2. =These three are called, for shortness: (_a_) Land, (_b_) Labour, (_c_) Capital.=
3. =The last, Capital, (_a_) depends for its character on the intention of the user, (_b_) is consumed in production, (_c_) is always the result of saving.=
III
THE PROCESS OF PRODUCTION
You have seen how the production of wealth takes place through the combination of these three things, LAND, LABOUR AND CAPITAL, and you have also seen how the wealth so produced consists not in the objects themselves, but in the economic values attached to the objects.
Now we will take a particular instance of wealth and show how this works out in practice and what various forms the production of wealth takes.
Wealth, as we have seen, arises from the transposing of things around us from a condition where they are less to a condition where they are more useful to our needs.
Let us take a ton of coal lying a thousand feet down under the earth and no way provided of getting at it. A man possessing that ton of coal would not possess any wealth. The coal lying in the earth has no economic value attaching to it whatsoever. It has not yet entered the process whereby it ultimately satisfies a human need.
A shaft is sunk to get at that coal, and once the coal is reached a first economic value begins to attach to it. Next, further labour, capital and natural forces are applied to the task of hewing the coal out and raising it to the surface. This means that yet more economic values are attached to the ton of coal. These we express by saying that the ton of coal at the bottom of the mine, just hewed out, is worth so much--say 15/-; and later at the pit head is worth so much more--say £1. But the process of production of wealth is not yet completed. The coal is needed to warm you in your house, and your house is a long way from the pit head. It must be taken from the pit head to your house, and for this transport further labour, natural forces and capital must be used, and these add yet another economic value to the coal.
We express this by saying that the ton of coal _delivered_ (that is, at your house) is worth not £1, which it was at the pit head, but £1 10s.; and in this example we see that transport is as much a part of the production of wealth as other work. We also see a further example of the truth originally stated that wealth does not consist in the object itself but in the values attached to it. The ton of coal is there in your cellar exactly the same (except that it is broken up) as it was when it lay a thousand feet under the earth with no way of getting to it. In your cellar it represents wealth. In possessing it you are possessing wealth to the amount of 30s. You could exchange it against 30s. worth of some other thing, such as wheat. But the wealth you thus possess is not the actual coal, but the values attaching to the coal. These economic values are being piled up from the very beginning of the process of production until the process of consumption begins.
Here is another case which shows how the process of production will add values to a thing without necessarily changing the thing itself.
Suppose an island where there is a lot of salt in mines near the surface, but with very poor pasture and very little of it; most of the soil barren and the climate bad. On the main-land, a day’s journey from the island, there is good soil and pasture and a good climate, but there is no salt. Salt is a prime necessity of life, and it comes into a lot of things besides necessaries. To the people of the main land, therefore, salt, which they lack, is of high value. To the people of the island it is of low value, for they can get as much of it as they want, with very little trouble. Meanwhile, meat is of very high value to the people of the island, who can grow little of it on their own soil, while it is of much less value to the people of the main-land, who have plenty of it through their good pastures and climate. Here we have, let us say, 100 tons of salt in the island and 100 tons of meat on the main-land. A boat takes the 100 tons of salt from the island to the main-land and brings back the meat from the main-land to the island. Here wealth has been created on both sides, although no change has taken place in the articles themselves except a change in position. Both parties, the islanders and the main-land people, are wealthier through the transaction, and this is a case where _exchange_ is a direct creator of wealth, and the transport effecting the exchange is a creator of wealth.
Strictly speaking, everything done to increase the usefulness of an object right up to the moment when consumption begins is part of the production of wealth. For instance, wealth is being produced from the moment that wheat is sowed in the ground to the moment when the baked loaf is ready for eating, and the wealth expressed by the loaf, that is, the values attaching to it, are made up by all the processes of adding values from the first moment the seed was sown. When you eat a sixpenny loaf you are beginning to consume values created by the sowing of the wheat and its culture and its harvesting and grinding, and the working of the flour into dough, and the baking, and created by every piece of transport in the process, the carting of the sheaf into the rick, the carting thrashed wheat to the mill, the taking of the flour to the baker, the taking of the baked loaf to your house, and even the bringing of the loaf from the larder to your table. Every one of these actions is part of the production of wealth.
There is attaching to the process of the production of wealth a certain character which we appreciate easily in some cases, but with much more difficulty in others. We have already come across it in discussing Capital. It is this:
_All wealth is consumed._
This is universally true of all wealth whatsoever, though the rate of consumption is very different in different cases.
The purpose of nature is not the purpose of man. Man only creates wealth by a perpetual effort against the purpose of nature, and the moment his effort ceases nature tends to drag back man’s creation from a condition where it is more to a condition where it is less useful to himself.
For some sorts of wealth the process is very rapid, as, for instance, in the consumption of fuel, or in the wasting of ice on a hot day. Man with an expenditure of his energy and brains applied to natural forces, and by the use of capital, has caused ice to be present under conditions where nature meant there to be no ice--a hot summer’s day.
He has brought it from a high, cold place far away; or he has kept it from the winter onwards stored in an ice house which he had to make and to which he had to transport it; or he has made it with engine power. But the force of nature is always ready to melt the ice when man’s effort ceases.
The moment man’s effort ceases, deterioration, that is, _the consumption of the wealth present_, at once begins. And this truth applies at the other end of the scale. You may make a building of granite, but it will not last for ever. The consumption is exceedingly slow, but it is there all the same. And whether the consumption takes place in the service of man (as when fuel is burnt on a hearth) or by neglect (as when a derelict house decays) it is always _economic consumption_.
We may sum up in the following Formulæ:--
1. =Transport and Exchange, quite as much as actual work on the original material, form part of the Production of Wealth.=
2. =All Wealth is ultimately consumed: that is, matter having been transposed by man from a condition where it is less to a condition where it is more useful to himself, is dragged back from a condition where it is more to a condition where it is less useful to himself.=
IV
THE THREE PARTS INTO WHICH THE WEALTH PRODUCED NATURALLY DIVIDES ITSELF--RENT, INTEREST, SUBSISTENCE
We now come to that part of Economics which has most effect upon human society, and the understanding of which is most essential to sound politics. It is not a difficult point to understand. The only difficulty is to keep in our minds a clear distinction between what is called economic law, that is, the necessary results of producing wealth, and the moral law, that is the matter of right and wrong in the distribution and use of wealth.
Some people are so shocked by the fact that economic law is different from moral law that they try to deny economic law. Others are so annoyed by this lack of logic that they fall into the other error of thinking that economic law can override moral law.
You have to be warned against both these errors before you begin to approach the subject of Rent, Profit and Subsistence. Only when we have worked out the principles of these three things can we come back again to the apparent clash between economic law and moral law, the understanding of which is so very important in England to-day.
The motive of production is to satisfy human needs, and the simplest case of production is that of a man working for himself and his family as a settler in a new country. He cuts down wood and brings it where it is wanted; he builds a hut and a bridge with it; he stacks it ready to burn for fuel. The wealth he thus produces by his labour goes to him and his, and because the labour he has to expend is what impresses him most about the process, he calls the wealth produced at the end of it: “Wealth produced by his labour.” He thinks of his labour as the one agent of the whole affair, and so it is the one immediate _human_ agent; but, as we have seen, there are two other agents as well. His mere labour (that is, the use of his brain and his muscles) would not have produced a pennyworth of wealth, but for two other agents: Natural Forces (or Land) and Capital. And we shall find when we look into it that the wealth he thus produces and regards as one thing is also really divided into three divisions: one corresponding to each of the three agents which produce wealth.
Being a settler living by himself and possessing his own land and his own implements, he controls all he produces and does not notice the three divisions. But three divisions there are none the less present in all wealth produced anywhere, =and these three divisions do not correspond to the moral claim man has to the result of his labour=. They are divisions produced by the working of economic law, which is as blind and indifferent to right and wrong as are the ordinary forces of nature about us.
These three divisions are called =RENT=, =INTEREST= (or =Profit=) and =SUBSISTENCE=. In order to see how these three divisions come about we must take them in the order of _Subsistence_ first, then _Interest_, then _Rent_.
1. SUBSISTENCE.
In any civilisation you will find a certain amount of things which are regarded as necessaries. In any civilisation it is thought that human beings must not be allowed to sink below a certain level, and a certain amount of clothes of a certain pattern, a certain amount of housing room and fuel, and a certain amount of food of a certain kind are thought the very least upon which life can be conducted. Even the poorest are not allowed to fall below that standard. This does not mean that no one is allowed to starve or die of insufficient warmth. It means that any particular civilisation (our own, for instance, or the Chinese) has its regulation minimum and lets men die rather than fall below it. This “certain amount,” below which even the poorest people’s livelihood is not allowed to fall, is called =THE STANDARD OF SUBSISTENCE=.
Most people when they first think of these things imagine that there is some very small amount of necessaries which, all over the world, and at all times, would be thought absolutely essential to man. But it is not so. The standard set is always higher than the mere necessity of keeping alive would demand.
For instance, we in this country put into our standard of necessity clothes of a rather complicated pattern. We should not tolerate the poorest people going about in blankets. They must have boots on their feet, which take a lot of labour and material. We should not tolerate the poorest people going about barefooted, as they do in many other countries, nor even with sandals. It is not our custom. They may die of wet feet through bad leather boots and bad, thin clothing of our complicated pattern, but they must not wear wooden shoes or walk barefoot or go about in blankets.
Again, we do not live on anything at random, but upon cooked meat and a certain special kind of grain called wheat. There are some grains much cheaper than wheat; but our custom demands wheat even for the poorest, if there is not enough wheat there is a famine, and famine is preferred by society to the giving up of the wheat standard. Again, we insist upon even the poorest having a certain amount of protection against the weather in the way of houses, which must be up to a certain standard. We do not tolerate their living in holes in the ground or mud huts.
One way and another we have set up a certain _standard of subsistence_ even for the poorest; _and every community in history has, at all times, lived under this idea of a_ MINIMUM STANDARD OF SUBSISTENCE. This is so true that people will suffer great inconvenience, even to famine, as I have said, rather than give up the standard of subsistence. When people are too poor to afford this least amount of what we think necessaries effort is made to supply them by doles or a poor rate, or something of that kind; but the standard is not abandoned.
Well, this _Minimum Standard of Subsistence_ is the first division in the Wealth produced. The prosperous man, tilling his own land and possessed of his own capital, consumes, of course, much more than the bare standard of subsistence would allow. He eats more food and better food, and has more and better clothes and house room and fuel and the rest than the mere standard of subsistence of his civilisation demands. Nevertheless, even in his case the standard of subsistence is there. It is a minimum below which, if things went wrong, he would not fall. Ask him to fall below it and he would simply fail to do so. He would try to produce that minimum amount of wealth in some other way, or if he could not do that he would die.
This “Standard of Subsistence,” which is to be found in its various shapes in every civilisation, may be called “_The Worth While of Labour_.” Human energy would not be forthcoming, the work would not get done, unless at the very least the person doing the work got this Standard of Subsistence. In England to-day it is =set= for a man and his family at something like 35s. to 40s. a week. One way and another, counting for allowance in rent and overtime and so on, even the poorest labourer gets that, and if he did not get it labour would stop. Our civilisation would run to famine and plague rather than go below this minimum.
Another way of putting it is this: Under the standard of subsistence in our civilisation in England a man must, on the average, produce something like £2 worth of economic values a week, otherwise it is not worth while living, not worth while going on.
I say “on the average.” A great many people, of course, produce nothing. But there must be an average production of that amount to keep society going at all, merely in labour, that is, in human energy and brains. As a fact, of course, the average production is much higher. But it could not fall to _less_ than this without the production of wealth gradually coming to an end.
It is very important to recognise this principle in Economics, for it is nearly always misunderstood, and it makes a great difference in our judgment of social problems. You often hear people speaking as though the subsistence of their fellows might fall to any level so long as they had so much weight of food and amount of warmth as would keep them alive. But it is not so. Every society has its own standard, and will rather have men emigrate or die than fall below it: and that standard is the basis of all production. _It must be satisfied or production ceases._
2. INTEREST.
Now, if this “Worth While of Labour” was all that had to be considered, things would be a great deal simpler than they are. Unfortunately, there is another “worth while” from which one cannot get away, and which makes the second division in the produce of wealth. This is the “Worth While of Capital”: called “Profit” or “Interest.”
We must be careful not to mix up “Interest on Money,” that is, the word “interest” in its ordinary conversational use, with true economic interest. Interest on money does not really exist. It is either interest on _Real Capital_ (machines, stores, etc.) for which the money is only a symbol, or else it is usury, that is, the claiming of a profit which is not really there; and what usury is exactly we shall see later on. The thing to remember here is that there is no such thing in Economic Science as Interest on Money.
We have seen that Capital cannot come into existence unless somebody saves. We have also seen that since it is always being consumed and must be replaced, the saving has got to go on all the time, if the production of wealth (to which capital is necessary) is to continue.
Now, as you will see in a minute, capital cannot be accumulated without some motive. You only accumulate capital by doing without a pleasure which you might have at a certain moment, and putting it off to a future time. You go without the immediate enjoyment of your wealth in order to use it for producing further wealth. That means restraint and sacrifice.
But restraint and sacrifice require some motive. Why should a man, or a society, do without a present enjoyment if the sacrifice is not to be productive of future good?
What happens is this: A man says: “On my present capital I can produce so much wealth. If I accumulate more capital I shall, in the long run, have a larger income. I will therefore forgo my present pleasure. I will add to my capital and have more income in the future through my present self-restraint.” Or again: “If I don’t _keep up_ my capital by continual saving to replace what is consumed in production I shall gradually get _less_ income.”
But here comes in a very important law of Economics called “_The Law of Diminishing Returns_.” After a certain point, capital as it accumulates, does not produce a _corresponding_ amount of extra wealth. It produces _some_ more, but not as much in proportion. For instance, if you till a field thoroughly with the use of so many ploughs and horses and so on, you will get such and such a return. If you add a great deal more capital in the shape of food for more labourers and more tillage till you treat the land as a sort of garden, you produce more wealth from that field; but though you may have doubled your capital you will not have doubled your income. You will only have added to it, say, half as much again. If you were to double your capital again, making four times your original amount, using a lot more food for labourers and a lot more implements, you would again have a larger produce, probably, but perhaps only double your original amount: _Four_ times the original amount of capital, and only _twice_, say, the old income.
So the process goes on; and in all forms of the production of wealth this formula applies, and is true: “_The returns of increasing capital, so long as the method of production is not changed, get greater in amount, but less in proportion to the total capital employed._”
Men developing a certain section of natural forces get 10 per cent. on a small capital, perhaps 5 per cent. on a larger one; on a still larger one only 2½ per cent., and so on, if they apply that capital to the _same section_ of natural forces and in the _same manner_.
Well, this advantage which a man gets by adding to his capital at the expense of present enjoyment can be measured.
For instance, a man owning a farm and tilling it himself gets a harvest of 1,000 sacks of wheat. In order to get this result he must have capital at the beginning of every year--ploughs and horses, and sacks of grain and what not--worth altogether 10,000 sacks of wheat. His income, in wheat, is one-tenth of his capital. Every ten sacks of capital produces him an income of one sack a year. He says to himself: “If I were to plough the land more thoroughly and put on a lot more phosphates and slag and get new, improved machinery I might get another fifty sacks a year out of the land, but this new capital will have to be saved.”
He carefully saves on every harvest, exchanging the wheat for the things he needs in the way of new capital, until, after a few years, the implements and the phosphates and slag and the rest on his land, and all his other capital is worth much more than it used to be.
Instead of being worth only _one_ thousand sacks, his capital is now worth _two_ thousand sacks, and he gets the reward for his putting by and doing without immediate enjoyment in the shape of a larger harvest. But though he has doubled his capital he has not doubled his income. Instead of the old income of 100 sacks of wheat he is now getting 150 sacks of wheat. Thus though his income is larger, the _proportion_ of that income to the total capital is less. For 1,000 sacks of capital he got 100 sacks of wheat at harvest; but now for 2,000 sacks of capital he only gets 150 sacks at the harvest. Or (as we put it in modern language), his income is no longer 10 per cent. on his capital, but 7½ per cent. only. He has a larger income, but it is smaller in proportion to the capital invested.
Now, although the 2,000 of capital invested is thus bringing him in a smaller _proportion_ of income than the old 1,000 did, he thinks it worth while: because he is at any rate getting more _income_; 150 sacks instead of only 100. But there must come a time when he will no longer think it worth while to go on saving. Supposing he finds, for instance, that after taking all the trouble to accumulate and apply to his land capital to the value of 10,000 sacks of wheat, he gets only 200 sacks, that is 2 per cent. annual reward for all this saving, he will not think it good enough, and he will stop saving. The point where he stops, the return below which he does not think it worth while to save, marks the _minimum profits of capital_. A man is delighted, of course, to have _more_ profit than this if he can. But the point is, he will not take _less_. Rather than make less than a certain proportion of income to his capital he will stop saving, and spend all he has in immediate enjoyment.
It is this obvious truth which makes the second great division in the produce of wealth. You must, as we have seen, produce enough to keep labour going. That is, you must produce enough to satisfy the standard of subsistence in your society; _but you must also produce enough more to keep capital accumulating_. You must produce, over and above subsistence, whatever happens to be the amount of _profits_ for which capital will accumulate in any particular society (with us, to-day, it is about 5 per cent.).
It is very important to observe that this second division, Profit, or Interest, must always be present, no matter how the capital is owned and controlled, no matter who gets the profit.
Some people have thought that if you were to take capital away from the rich men who now own most of it and to give it to the politicians to manage for everybody, this division, Profit, would disappear. But it is not so. The people who were managing the capital for the benefit of everybody would have to tell the electors that they could not have all the wealth produced to consume as they chose: a certain amount would have to be kept back, and people would only consent to have a certain amount kept back on condition that they got an advantage in the future as a reward of their immediate sacrifice. Even if you had a Despot at the head of the State who cared nothing for people’s opinions, this division of profit would still be there; for it would be mere waste to accumulate capital at a heavy sacrifice to himself and his subjects, unless it produced a future reward.
If the Despot said, “This year you must do without _half_ your usual amount of leisure and without _half_ your usual amounts, pay _double_ for your cinemas and for your beer, and all that in order to earn one hundredth more leisure and amusements next year,” it would be found intolerable.
So it comes to this: There are always present in the process of production two agents, Capital and Labour, and each of these must have in one form or another its “Worth While,” otherwise it won’t go on. You must satisfy the “Worth While of Labour” and you must satisfy the “Worth While of Capital.” If you do not, labour stops working and capital stops accumulating, and the whole business of production breaks down.
(Of course, we must be careful to distinguish between the case of a private man increasing his investments and the general increase of capital as applied to an unchanging area of natural forces. John Smith having £1,000 invested at 5 per cent. can save another £1,000 and another and many more, and still get 5 per cent. But that is because he is saving and makes up for others wasting, or because his saving is so small a proportion of the total Capital of Society that it has no appreciable effect. But if the total Capital of Society be thus increased the Law of Diminishing Returns eventually comes into play.)
3. RENT.
We arrive through this at the third division, _Rent_.
Under some circumstances the “Worth While of Labour” and the “Worth While of Capital” can just barely be earned, and no more. Under those circumstances production will take place, but under worse circumstances it will not.
For instance, where there is very light, sandy soil near a heath a man finds that by putting a thousand pounds of capital on to a hundred acres of land he can get his bare subsistence and £50 worth of produce over: 5 per cent. on his capital. It is worth his while to cultivate that land, just barely worth his while. He also possesses land on a still more sandy part over the boundary of the heath itself. He calculates that if he were laboriously to save another £1,000 and take in 100 acres of the new, worse land, he would make the bare subsistence of the labour employed upon it, but only £10 extra, that is, only 1 per cent. on his new capital. He would say: “This is not worth while,” and the too-sandy bit of land would go uncultivated.
When the conditions are such that the capital and labour applied to them _just_ get their worth while and no more, those conditions are said to be “_on the margin of production_,” which means that they are the worst conditions under which men in a particular society will consent to produce wealth at all. Put them on conditions still worse, and they will not produce.
Now the existence of this Margin of Production creates the third division in Wealth, which is called =RENT=.
_Rent is the surplus over and above the minimum required by labour and capital out of the total produce._ (We must be careful, as we saw in the case of “Interest” not to confuse true economic Rent with “Rent” in the conversational sense. Thus what is called “the rent” of a house is part of it true economic rent, but part of it interest on the accumulated or saved wealth, the _Capital_ of its bricks and mortar and building.)
Take the case of a seam of coal, which at one end of its run crops out on the surface, a couple of miles on is only 1,000 feet below the surface, but dips down gradually until, within twenty miles, it is 10,000 feet below the surface.
Under the conditions of the society in which the coal is being mined, and in the state which the science of mining has reached, it is found that, at a depth of 5,000 feet, this seam is _just_ worth while mining: that is, the capital which has to be accumulated for sinking the shafts and bringing the miners up and down from their work, and raising the coal to the surface, and providing subsistence for the miners at their work, _just barely_ gets the profit below which it would not be worth while to use it.
A shaft sunk at this depth, for instance, and the machinery and stores cost £10,000, and when you get the coal to the surface that coal will pay the standard of subsistence of the labourers and leave £500 profit for capital; that is, 5 per cent. Capital will not accumulate if it gets less than 5 per cent. Labour will not be exercised if it gets less than its standard subsistence; therefore, the coal which lies farther along the seam, deeper than 5,000 feet, will be left untouched. It is not “worth while” to sink a shaft to try and get it. It is “below the Margin of Production.”
[Illustration]
What happens to the coal in the places where it gets nearer and nearer to the surface? Obviously, it is better worth while to sink shafts there than it is at 5,000 feet. You only want the same amount of labour for cutting the coal out, whether it is 5,000 feet below the surface or 2,000, and you want much less capital and labour in sinking the shafts and bringing the coal to the surface and getting the miners up and down. There is, therefore, a surplus. Thus with a shaft only 2,000 feet deep you need, say, only £5,000 worth of capital to get £500 worth of coal over and above the subsistence of the labourers. 5 per cent. on £5,000 is £250--so in that case there is a benefit of an extra £250 _after_ the “worth while” of Capital and Labour are satisfied. Over and above what is just the “worth while” of capital and labour for getting the coal you have in the shallower mines extra value, and that extra value gets larger and larger as the distance of the coal from the surface gets less and less. The deepest mine is on what we call “the margin of production.” It is just worth while to work it. The surplus values in all the shallower mines are called RENT. If a landlord owned the coal in quite a shallow part where it was within a thousand feet of the surface, he could say to the labourers and the owners of capital who were coming to dig it out: “The mine which is working at 5,000 feet is just worth your while. If you work here at 1,000 feet you will have a great deal more than 5 per cent. on your capital, and the subsistence of labour is just the same. All this extra amount of values, however, I must have, otherwise you shall not work my coal.”
Since the Capitalists are content to accumulate capital for a return of 5 per cent. and the labourers to work for their subsistence, the extra amount is paid to the landlord. If one set of people refuse to pay it, there will always be another set of people who will be content to pay it and this extra amount or surplus is called “Economic _Rent_,” which is something, of course, much more strictly defined than, and different from, what we call Rent in ordinary conversation.
Or again, take three farms of equal area but varying fertility. Each requires £1,000 capital to stock it and five labourers to work it. The £1,000 capital demands £50 a year profit. The five labourers need £500 in a year to meet their standard of subsistence. The poorest farm raises just £550 worth of produce a year. The next best raises £750, and the best one £950 worth. Then there is _no_ economic rent on the first; it lies on the “margin of production.” There is £200 economic rent a year on the second, and £400 on the third.
* * * * *
We can sum the whole thing up and say that on the mass of all production there are three charges:
1. =First, the charge for the subsistence of labour.=
2. =Next, the charge of profits, or interest, for the reward of capital, that is, of saving, and lastly=
3. =In varying amounts, rising from nothing at the margin of production, to larger and larger amounts under more favourable circumstances, the surplus value called Economic Rent.=
These three divisions are always present whenever wealth is produced. The same man may get all three at once, as happens when a farmer works good land which is his own. Or again, when one man owns the fertile land and another man provides the capital, and yet another man provides the labour, the three divisions appear as three incomes of Labourer, Farmer and Landlord receiving separately Wages, Profit and Rent. Whether these divisions appear openly, paid to different classes of men, or whether they are concealed by all coming into the same hands, they are present everywhere and always. That is a fixed economic law from which there is no getting away.
Always remember that these economic laws are in no way binding in a social sense. They are not laws like moral laws, which men are bound to obey. They are certain mathematical consequences of the very nature of wealth and its production, which men must take into account when they make their social arrangements. It does not follow because Rent or Interest are present that such and such rich men, or the State, or the labourers, have a right to them. That is for the moralist to decide; and men can in such matters make what arrangements they will. All economic science can tell us is how to distinguish between the three divisions, and to remember that they are inevitable and necessary. But we must wait until a little later on to discuss social rights and wrongs under Applied Economics and continue here for the present to confine ourselves to the Elements of economic law alone.
V
EXCHANGE
=EXCHANGE= is really only a form of production, as we saw in the illustration of the island with salt and the main-land with meat. When the exchange of the things is of advantage to both parties it creates wealth for both, and profitable exchange is, therefore, when it takes place, only the last step in a general chain of production.
But Exchange is so separate an action that students of Economics have agreed to treat it as a sort of chapter by itself, and we will do so here.
The characteristic of Exchange is that you take a thing from a place where it has less value to a place where it has more value, thus adding an economic value to the thing moved and so creating wealth. In the same transaction you bring back something else against it, which has more value in your own place than it had in the place from which you took it, that is again adding an economic value and therefore creating wealth. We saw how this was in the case of the salt and the meat, and so it is with thousands upon thousands of exchanges going on all over the world.
For instance, we in England have grown fond of drinking tea in the last 200 years. But our climate will not allow us to grow tea. Tea can only grow in a very hot country.
Now in very hot countries specially heavy labour upon metal work is not to be expected. Men are not fit for it. But in this cool climate men are fit for it, and also men here have through long practice become very skilful at working metal: smelting iron, for instance, and making it up into machines.
Therefore, there is a double advantage to us and to the people who live in the hot countries where tea is grown if we _exchange_. We send them metal things that we have made and which are useful to them, and which they could hardly make themselves, or only with very great difficulty (and, therefore, at a great expense of energy), and we get from them tea, which we could not grow here except in hot houses: that is, at much more expense of energy than is needed in the countries where tea grows naturally out of doors.
When there are present two or more objects of this kind, such that the exchange of them between two places will benefit both parties, we may speak of “_a potential of exchange_,” stronger or weaker according to the amount of mutual advantage derived.
This word “potential” you will not find yet in many books, but it is coming in, for it is a very useful word. It is taken by way of metaphor from Physical Science. When there is a head of water over a dam, or a current of electricity of such and such an intensity, we talk of the “_potential_” and measure it. For instance, we say this electrical current is double the potential of that, or the head of water working such and such turbines is at double the potential of another head of water in the neighbourhood. In the same way we talk of a “potential” of exchange, meaning a tendency for exchange to arise between two places or people because it is of mutual benefit to both.
Potentials of exchange come into existence not only through difference of climate or differences of habit, but also through what is called the _Differentiation of Employment_, which is also called Division of Labour.
Thus two countries may be both equally able to produce, say, metal work and silk fabrics, and yet if one of them concentrates on getting better and better at metal work and the other on getting better and better at silk fabrics, it may well be that both will benefit by separating their jobs and exchanging the results. And this is true not only of two countries, but of individuals and groups.
The cobbler does not make his own clothes. He makes boots, and by learning his trade and getting used to it makes them much better and in a much shorter time than other men could, and therefore makes a pair of boots with less expense of energy, that is, _cheaper_, than another man would. The tailor can say the same thing about making clothes. So it is to the advantage of the cobbler to exchange his extra boots against the extra clothes the tailor has made.
In general: intelligent societies always tend to build up a very wide-spread system of exchange, because intelligent people tend to concentrate each on the job that suits him best, and also because intelligent people discover differences of climate and soil and the rest which may make exchange between two places a mutual advantage for both.
It is indeed a great mistake to do as some modern people do, and put Exchange in front of Production. Thus you hear people talking as though the trade a country does, the total amount of its exports and imports, were the test of its prosperity, whereas the real test of its prosperity is what it has the power to consume, not what it manages to exchange.
But still, though it comes at the end of Production and must never be made more important than the whole process of Production, Exchange is present universally wherever there is active production of Wealth. Thus the group of people who build ships are really exchanging what they make against the produce of other people who make clothes and grow food and build houses, and the rest of it; and in a highly-civilised country like ours much the greater part of the wealth you see consumed around you has gone through many processes of exchange.
There are a few elementary Formulæ concerning Exchange which it is important to remember.
1. =There is a Potential of Exchange, that is, exchange tends to take place, when of two objects the proportionate values are different in two different communities.=
It is not very easy to understand the meaning of this until one is given an example. Supposing a ton of coal from England to be worth £2 by the time it is delivered in Cadiz, and supposing that making a dozen bottles of wine in England, with all the apparatus of hot-house grapes and the rest of it, came to £5 of expense. Supposing that in Cadiz, from the small coal mines near by, they can produce coal at only £1 a ton, but on account of their climate they can produce a dozen of wine for a shilling. Then you get this curious situation:
It pays the exporting country, England, to sell coal in Cadiz _at less than its English economic value_, and to import the wine from Cadiz. It pays your English owner of coal, although the values attaching to it by the time it has got to Cadiz are £2 a ton, to sell a ton of coal there for only £1, and to exchange that against the wine of Cadiz, and bring that back to England. At first sight it sounds absurd to say that selling thus at a lower value than the cost of production and transport can possibly be profitable. But if you will look at it closely you will see that it is so.
If the Englishman had tried to make his wine at home it would have cost him £100 to make twenty dozen bottles, but when he has sold his coal at Cadiz for £1 he can with that £1 buy twenty dozen of wine and bring it back to England. He is much the wealthier by the transaction, and so is the man at Cadiz. The Cadiz man could have spent his energies in digging out a ton of coal near Cadiz instead of importing it, but the same energies used in making wine produce enough wine to get him rather more coal from England.
2. The second Formula to remember about Exchange is this: =Goods do not directly exchange always one against the other, but usually in a much more complicated way, by what may be called= _Multiple Exchange_.
Of course, the vehicle by which this is done is a currency, or _money_, which I will explain in a moment; but the point to seize here is that exchange is just as truly taking place when there is no direct barter of two things but a much longer and complicated process.
For instance, a group of people called a Railway Company in the Argentine want a locomotive. A locomotive can be produced cheaper and better, that is, with less expenditure of energy for the result, in England than in the Argentine. But on the other hand, England wants to import tea. Now the Argentine grows no tea. What happens? How does England get the tea? That locomotive goes out to the Argentine. An amount of wheat sufficient to exchange against the locomotive goes against it, _not_ to England, but to Holland, a country which, like us, has to import a lot of wheat. As against the wheat sent to Holland, the people in Holland send, say, the cheeses which they make so well, on account of their special conditions, and the consignment goes to Germany. The Germans send out a number of rails equivalent to the number of cheeses and of the wheat and of the locomotive, as they are very good at making rails, and have specialised on it. But they do not send the rails to Holland. They send them to some Railway Company which has asked for them in Egypt. The Egyptian people send out an equivalent amount of cotton, which they can grow easily in their climate, and this cotton goes to mills in India, and against it there comes an equivalent amount of tea, but the tea does not go back to Egypt. It goes to England.
There you have a circle of Multiple Exchange in which everybody profits by the exchange going on, although it is indirect. In the same way, of course, it is true that all of our domestic exchanges at home are multiple. If I write a book which people want to read, whereas I want not books but several other things, boots and fuel and furniture, I do not take my books round to the man who provides boots and to the one who provides fuel and to the one who provides furniture. I go through the process of selling my book to a publisher, and through an instrument he gives me, called a cheque (I will explain this when we come to the point of money), I can obtain boots and fuel and furniture to the amount of the value of the books of mine which my publisher will sell. Yet when exchange is thus highly indirect and multiple it is just as much exchange as though I went and bartered one book for one pair of boots with the cobbler.
3. The third thing to remember about Exchange is of the utmost importance, because it has given rise to one of the biggest discussions of our English politics. The Formula runs thus:--
=Other things being equal, the greatest freedom of exchange in any given area makes for the greatest amount of wealth in that area.=
It ought to be self evident, but it is astonishing how muddled people get about it, when they become confused over details and cannot see the wood for the trees. It ought, I say, to be self-evident that if you leave Exchange quite free, anybody being at liberty to produce what he can produce best, and exchange it for things which other men can produce better than he, both parties will tend to be the richer by such freedom and the wealth of the whole country will be greatest when all exchanges in it are thus left free to be worked by the sense of advantage.
If there were a law, for instance, preventing me from buying etchings, or preventing Jones, the etcher, from buying books, Jones would have to write his own books (or do without them, which is what he would do), and I should have to etch my own etchings, which would be exceedingly poor compared with the wonderful etchings of Jones. We are obviously both of us better off if we are left free to exchange what we can each make best. And so it is with all the countless things made in a State.
This principle applies not only to a particular nation but to the whole world. If you left the whole world free to exchange the whole world would be the richer for it. And any interference with exchange between one nation and another lessens the total possible amount of wealth there might be in the world.
So far so good; and, as I have said, such a truth ought to be self-evident. But here there comes in a misunderstanding of its application, and that misunderstanding has made any amount of trouble. It is so important that I must give it a separate division to itself.
VI
FREE TRADE AND PROTECTION
Nations, as we know, put up tariffs against goods which come from abroad: That is, their Governments tax imports of certain goods and thereby interfere with the freedom of exchange. For instance, the French have a tax of this kind upon wheat. Wheat grown in France will cost, let us say, £1 a sack, but the Argentine can send wheat to France at an expense of only 10s. a sack, because the land there is new, and for various other causes. If the wheat from the Argentine were allowed to come in freely, and the French to export against it things which they can make more easily than wheat they would have more wheat at a less total expense; but they prefer to put a tax of ten shillings upon every sack, that is, to put up a barrier against the import of wheat from abroad, and so keep up the price artificially at home.
When a nation does this with regard to any object that may be imported, if the object can also be produced within the nation (which it nearly always can) it is said to _protect_ that object, and the system of so doing is called =Protection=. The word arose from the demand of certain trades to be “protected” by their Governments without considering whether it was for the good of the whole nation or not. It obviously would be a very nice thing for people who breed sheep, for instance, in this country, if all mutton coming from the Colonies were taxed at the Ports, while the mutton grown inside the country were not taxed; for in this way the value of the mutton would rise in England, and the rise would benefit the sheep owners. But it would be at the expense of all the other people who did not grow sheep, and who would have to pay more for their mutton.
As opposed to this system of _Protection_, and interfering with international exchange by a tariff, intelligent people a long lifetime ago began to agitate for what they called “=FREE TRADE=,” that is the putting of no tariff on to an import, or at least no tariff high enough to give an artificial price to the producer of the same thing at home. Thus, when England was completely Free Trading (which it was until the war) there was a tariff on tea; but that was not Protection, for those who would try to grow tea here would have to grow it in hot houses and at an enormous expense, and the tax on tea, though heavy, did not make it anything like so dear as to make it worth while to produce tea here.
Another principle of Free Trade was that if it was thought advisable to put a tariff on to anything coming into the country which could be produced in the country, then you would have to put what was called “_an equivalent excise_” on the thing produced at home. For instance, in order to get revenue, one might put a tax of a 1d. on the pound on sugar coming from Germany, but, according to the doctrine of Free Trade, you must put a similar excise (that is, a home tax of 1d. on the pound) upon any sugar produced in England. If you did not do that you would be benefiting the sugar manufacturer in England at the expense of all other Englishmen, which would be unjust and also make England less wealthy because it would be inducing Englishmen to make sugar by offering them a reward and so take them away from some production for which they were better fitted.
This idea, that Free Trade must necessarily be of advantage to everybody, and that it was only stupidity or private avarice which supported Protection, was very strong in England, and, in the form you have just read, it seems beyond contradiction.
But if you will look closely at Formula No. 3 written in the last division on page 59 you will see that there is a fallacy hidden in this universal Free Trade theory. It is perfectly true that free exchange over any area tends to make the wealth of all that area greater, and if the area include the whole world, then free exchange all over the whole world, that is, complete Free Trade, would make the world as a whole richer.
_But it does not follow that_ EACH PART _of the area thus made richer is itself enriched_. That is the important point which the Free Trade people missed, and it is this which supports, in some cases, the argument for Protection.
If we allow free exchange everywhere throughout England, England as a whole will, of course, be the richer for it; but it is quite possible that Essex will be the poorer. If we allow Free Trade throughout all Europe, Europe will be the richer for it; but it is quite possible that some particular part of Europe, Italy or Spain, may be made poorer by the general process, and as they don’t want to be poorer they will by Protection and tariffs cut themselves off from the area of free exchange.
=There are conditions where an interference with free exchange over the boundaries of a particular area make that area richer: when those conditions exist, there is what is called an Economic Reason for Protection.=
So we may sum up and say that the theory of universal Free Trade being of benefit to the world as a whole is perfectly true. If we are only considering the world, and do not mind what happens to some particular area of the world, then the case for Free Trade is absolute. But if we mind a hurt being done to some particular area, such as our own country, more than we mind the hurt done to the world as a whole, then we should look at our particular conditions and see whether our country may not be one of those parts which will be drained of wealth by Free Trade and will be benefited by artificially fostering internal exchanges.
In the second part of this book I will go into this again, and show how the discussion arose in England and what the arguments are for and against Universal Free Trade, and how true it is that a sound economic argument for Protection exists.
VII
MONEY
When people begin exchanging by bartering goods one against another they at once find that there is an awkward obstruction to this kind of commerce; at least, they find it the moment there are more than two of them. It is this: That the person they are nearest to for the striking of a bargain may not want, at the moment, the particular thing they have to offer, but something else which a third party has who is _not_ present.
For instance: John is a hunter who has a surplus of skins to offer. He can get skins easier than other people. William, farming good soil, has surplus wheat to offer, and Robert, living near a wood and skilled as a woodman, has extra wood to offer. John wants wood. He takes one of his furs to Robert and says: “I will give you this fur for a cartload of wood.” But Robert may answer, “I don’t happen to want a fur just now. What I do want is a sack of wheat.”
Either no transaction will take place on account of this hitch, or one of these two things will happen: Robert will take the fur from John and give him his cartload of wood, and will then take the fur over to William, and see whether William wants a fur in exchange for some wheat. Or John, very much wanting the wood, will go to William, and if William wants a fur, will exchange it for wheat; then John will take the wheat back to Robert, and exchange it for the wood that he wants.
That is the sort of complicated and clumsy come-and-go that will be continually happening even with quite a few exchangers, and with quite a small number of articles. When it came to a great number of exchangers and a great number of articles the trouble would grow impossible and exchange would break down.
But things arrange themselves thus: It is soon found that one of the things which are being exchanged is easier to carry than the rest, and perhaps lasts longer and also can be easily used in small or large amounts. For instance, in the case of our three producers, John, William and Robert, _wheat_ might easily appear in this character. People always want wheat sooner or later. It keeps well. It is not very difficult to transport, and you can divide it into quite small amounts, or lump it up in large amounts.
So the chances are that when any of the three wanted to benefit by getting rid of some of his surplus produce he would get into the habit of taking _wheat_ in exchange, even if he did not want it for the moment. For he would say to himself: “I can always keep it by me and then exchange it against somebody else’s produce when that somebody else happens to want wheat”. Soon you would find each one of the three would be keeping a little wheat by him for the purpose of saving tiresome journeys to effect complicated double exchanges, and the wheat so used by all three of them would be in effect =MONEY=. It would be used as a common medium of exchange to facilitate the disposal of goods one against the other, without the elaborate business of making special barters, after long search.
Mankind has found, in most cases, that where a very large number of articles were being exchanged _two_ in particular naturally lent themselves to this particular use, and those two were GOLD and SILVER. They have also used bronze, and even iron and in some places rare shells, and all sorts of other things. But gold and silver came to be for nearly all mankind, and are now for all civilised mankind, the objects which most naturally are used as money.
The reason for this is as follows:
The thing which naturally becomes money out of all the things that are exchanged will be that which best combines a certain number of qualities, some of which we have already mentioned, and of which here is a list.
1. It must be portable, that is, a large weight of it must take up little room, so that quite considerable values can be taken easily from place to place--for money has to be always moving from one to another to effect purchases and sales.
2. It must be easily divisible, for one is always wanting to use it in all sorts of amounts, very little and very large.
3. It must keep. That is, it must not deteriorate quickly, or it would have very little use as Money.
4. It must be of an even quality, so that, wherever you come across it, you may count on its being pretty well always the same, and therefore weight for weight of the same value.
5. It must be more or less stable in value. It would be difficult to use as money some object which was very plentiful at one moment and suddenly scarce at another; very cheap this year, and very dear next year--such as are, for instance, agricultural products depending upon the season.
Now of all objects Gold and Silver best fulfil all these requirements. Precious stones are more portable, value for value. A £1,000 worth of diamonds takes up less space and is less heavy than a £1,000 worth of gold. And precious stones are fairly stable in value and also keep very well; but they are not easily divisible. Again, they are not of the same standard value in all cases. They vary in purity. But gold and silver have all the qualities required. Gold hardly decays at all through the passage of time, and silver very little; and each, but especially gold, is valuable for its bulk, and its value is fairly stable, and each is easily divisible and can therefore be presented in any amount, from a tenth of an ounce to a hundred pounds weight.
So, by the mere force of things, Gold and Silver became the Money of mankind. People kept gold and silver by them in order to effect their exchanges, and very soon a producer did not feel himself to be exchanging at all (in the sense of exchanging goods against goods), but thought of the affair as _Buying and Selling_. That is, of exchanging his produce, not against other produce, but against gold and silver, with the object of _later_ re-exchanging that gold and silver for other things that he needed.
Money, once thus established, is called =A MEDIUM OF EXCHANGE= and also =CURRENCY= or =THE CIRCULATING MEDIUM=. It is called “currency” and “circulating” because it goes its round through society, effecting the exchanges, and this running around or circulating gives it its name: “That which is current” from the Latin for “running.” That which “circulates” from the late Latin word for “going the rounds.”
When gold and silver become the money of mankind it is important to be able to tell at once the exact amounts you are dealing with. This, under simple conditions, is done by weighing; but it is more convenient to stamp on separate bits of metal what weight there is in each, and that is called “coining the metal.” All that a Government does when it makes a sovereign is to guarantee that there is so much weight of gold in the round disc of metal which it stamps.
Money does not only fill this main function of being a medium of exchange, that is, of making a vast quantity of complicated exchanges possible, it also has great social value as a measurer or standard, and soon after money comes into use men begin to think of the economic values of things in terms of money: that is, in what we call “=Prices=.”
All things which men produce are fluctuating the whole time in value. There is now rather more of one article, and now rather less. A sack of barley at one moment will exchange exactly against a sack of wheat, and then in a few weeks against rather less than a sack of wheat. Meanwhile, where it used to fetch a lamb in exchange it may, in a few months, need two sacks for a lamb; and so with all the hundreds and thousands of other objects. When we have money the whole mass of transactions is referred to the current medium, and that is of immense social value. For no one could keep in his head all the changing exchange values of a multitude of articles one against the other, but it is easy to remember the exchange values against one standard commodity, such as gold. And whatever the exchange value is in gold we call the =price= of the article.
For instance, when you say that a house is worth £500, that that is the “_price_” of the house, you mean that the amount of gold you would have to exchange to get it is about Ten Pounds weight of the metal. And when you say that the price of a ticket to Edinburgh is £4, you mean that the service of taking you to Edinburgh in the train will be exchanged against about an ounce of the metal gold.
* * * * *
I now come to a most difficult point about money and prices which is rather beyond the elements of Economics, but which it is important to have some idea of, though it is very difficult.
There is a very interesting study in Economics called “_The Theory of Prices_,” showing why _all prices on the average_ (what is called “General Prices,” that is the value of all goods _in general_ as measured against gold) sometimes begin to go up and at other times go down: Why goods as a whole begin to get dearer and dearer in gold money, or cheaper and cheaper. It is a complicated piece of study, and people dispute about it. But the general rules would seem to be something like this: The exchange value of things against gold, or the value of gold, against the things for which it exchanges (that is prices) is made up of two things: _First_, the amount of gold present to do the work of exchange; _Secondly_, the amount of work you can make it do in exchange: The pace at which you can get it to circulate. It is obvious that one piece of gold moving rapidly from hand to hand will do as much work in helping exchanges to be carried out as ten pieces moving ten times more slowly.
If, for any reason, the total amount of gold becomes suddenly smaller or suddenly larger, or if the pace at which it is used changes very quickly, then prices fluctuate violently.
Supposing you could, in a night, take away half the gold in circulation. Then, of course, the remaining gold would become much more valuable. In other words, prices would fall. For if an ounce of gold is rarer and more difficult to get than it was, it will exchange against, that is, “buy” more than it did; this means that “the price of things has fallen.” We used to say, for instance, that a quarter of wheat was worth an ounce of gold. But if we suddenly change the amount of gold so that gold becomes much rarer and more valuable, perhaps an ounce of gold will buy not one quarter but two. The price of one quarter used to be an ounce of gold. Now the price is only half an ounce of gold. Wheat has become cheaper in proportion to gold, and “prices,” that is, values measured in gold, in money, have fallen.
The same thing would happen if you did not lessen the amount of gold in circulation but made the circulation much more sluggish. The amount of gold in circulation would be the same, but as it went its rounds more slowly it would be more difficult to get a certain amount of gold in any one place at any one time.
Prices, then, depend upon the actual amount of money that is present to do the work, _and_ the pace at which it is made to go the rounds: or (to put it in technical terms), on the amount of the currency _and_ its “_efficiency in circulation_.”
Now, there is in the human mind a very strong tendency to keep prices stable. We think of them by a sort of natural illusion as though they were absolute fixed things. We think of a pound, and a shilling, and five pounds as real, permanent, unchanging values. If we find that quite suddenly five pounds will buy a great deal more than it used to, or quite suddenly a great deal less, if we are met by a sudden and violent fluctuation in prices of this kind, our minds tend, unconsciously, to bring things back, as much as possible, to the old position; and I will show you how this tendency works in practice.
Supposing a very great deal of gold, for some cause, were to disappear. People suddenly find prices falling very rapidly. A man with a £1,000 a year can buy twice as many things, perhaps, as he used to buy. On the other hand, a man with anything to sell can only get half the amount he used to get. For gold has become rarer, and therefore more valuable as against other things.
What is the result? _The result is a very rapid increase in the pace at which the gold circulates._ Every purchaser feels himself richer. The gold is tendered for a much larger number of bargains, and though the mind, by this illusion it has of gold value as a fixed thing, cannot bring the actual gold back, what it can do is so to increase the second factor, =Efficiency in Circulation=, as largely as to make up for the lack of gold; and under the effect of this prices will gradually rise again. In the same way, if the mass of current medium by some accident becomes suddenly increased that should lead to an equally sudden rise in prices; but the unconscious tendency of the human mind to keep prices stable sets to work at once. Efficiency in Circulation slows down, the new large amount of currency works more sluggishly, and, though prices rise, they do not rise nearly as much as the influx of money might warrant.
We see, therefore, that the factor in the making of prices called “Efficiency in Circulation” works like a sort of automatic governor, tending to keep prices fairly stable; but of course it cannot prevent the gradual changes, and sometimes it cannot prevent quite sharp changes, as we shall see a little later on. For the moment, the interesting thing to note about Efficiency in Circulation is that we owe to this factor in prices the creation of _paper money_.
If, with only a certain stock of gold to work on, business rapidly and largely increases, if a great many more things are made and exchanged, then, as the gold will have a lot more work to do--and so become more difficult to obtain in any one time or place--that should have the effect, of course, of making it more valuable, that is, of lowering prices.
Now with the beginnings of modern industry, about a hundred and fifty years ago, a vastly greater number of things began to be made than had ever been made before, and the number of exchanges effected multiplied ten, twenty and a hundredfold. The stock of gold, though it was increased in the nineteenth century by discoveries in Australia and California, and later in South Africa, would have been quite unable to cope with this flood of new work, and prices would have fallen very much indeed, had it not been for the creation of _Paper Money_. Paper money was a method of immensely increasing Efficiency in Circulation.
This is how it worked.
A Bank or a Government (but especially the Bank of England, with the guarantee of the Government) would print pieces of paper with the words: “I promise to pay to the bearer of this Five Pounds.” Anyone who took one of these pieces of paper to the Bank of England could get Five Golden Sovereigns. But since this was publicly known, people were willing to take the piece of paper _instead of_ the five sovereigns.
If you sold a man a horse for fifty pounds, you were just as willing to take ten five pound notes for him as fifty sovereigns. They were more convenient to carry, and you knew that whenever you wanted the actual gold you had only to go to the bank and get it.
Because people were thus willing to be paid in paper instead of in the actual gold, a large number of notes could be kept in circulation at any one time, and only a small amount of gold had to be kept in readiness at the Bank to redeem them. In practice it was found that very much less gold than the notes stood for was quite enough to meet the notes as they were brought in for payment. Much the most of the note circulation went on going the rounds, and in normal times it took a long time for a note on the average to be brought back to the Bank.
You can see that this dodge of paper money had the effect of increasing the total _amount_ of the current medium in practice, and of greatly increasing its Efficiency in Circulation. Moreover, it made the Efficiency in Circulation very elastic, because in times of quiet business, more notes would go out of circulation and be paid into the bank, while in time of active business more notes would go on circulating.
_So long as every note was redeemed in gold every time it was brought to the bank, so long as the promise to pay was promptly kept, the money still remained good; the paper currency did not interfere with the reality of the gold values, there was no upsetting of prices, and all went well._
Unfortunately, Governments are under a great temptation, when they have exceptionally heavy expenses, to falsify the Currency. People get so much in the habit of trusting the Government stamp on paper or metal that they take it as part of nature. What the Government is really doing when it coins a sovereign is giving a guarantee that this little disc of yellow metal contains 123 grains of gold with a certain known (and small) amount of alloy to make the gold hard. When the Government has to pay a large amount in wages, or for its Army and Navy, or what not, it is tempted to put in less gold and more alloy and keep the old stamp unchanged, and that is called “Debasing the Currency.”
For instance, the Government wants a hundred tons of wheat to feed soldiers with, and the price of wheat in gold at that moment is Ten Sovereigns a ton. It says to a merchant, “If you will give me a hundred tons of wheat, I will give you a thousand sovereigns.” But when it comes to paying the thousand sovereigns, instead of giving a thousand coins with 123 grains of gold in each, it strikes a baser coin with only a hundred or less than a hundred grains in each, and pays the merchant with these. It is a simple form of cheating and always effective, because the merchant thinks the sovereign is genuine. Only when these bad sovereigns get into circulation they naturally find their level in gold; for people begin to test them, and find that they have not got as much gold in them as they pretend to have. Then, of course, prices as measured in this new base coin rise. If the Government wants to buy another hundred tons of wheat it must offer more than a thousand of the base coins; it must offer, say, thirteen hundred of them. But again it is tempted to put even less gold into the coins with which it pays for the second lot of wheat, and so the coin gets baser and baser, until at last, perhaps, a sovereign will not really be worth half what it pretends to be. Governments in the past have done this over and over again, but it was not until our time that the worst form of debasing the coinage came in.
It came in as a result of the Great War, and we are all suffering from it to-day. This last and worst form of debasing coinage worked, not through cheating about the metal, but through a trick played with paper money.
Before the war, if you got a Five Pound note saying “I promise to pay Five Pounds” the promise was kept and the five golden sovereigns were there for you whenever you went with your note to the bank and asked for them; but when the Government had these very heavy expenses to meet on account of the war, they first began making difficulties about paying when people brought their paper to the bank, and at last stopped paying altogether. At the same time, they did everything they could to get the gold out of private people’s hands and to make them use paper money instead. The consequence was that, people being so accustomed to think of a paper guarantee of the Government exactly as though it were real money, readily took to the new notes and used them as money, thinking of these wretched bits of paper exactly as though they were so many golden sovereigns. The Government could go on printing as many bits of paper as it liked, and they would still be used as though they were real money. So long as the amount of paper printed was not more than _would have been printed_ when the notes were redeemable, and when the currency was on a true “_Gold Basis_,” no harm was done; but of course it paid the Government to go on printing a great many more notes than that, because, when it could make money thus cheaply, it could pay for anything, however great the expense; but at the cost, of course, of debasing the currency more and more.
This kind of money, forced upon people, pretending to be the same as real money but actually without a Gold Basis, is called _Fiat_[1] money, and that is the kind of money the whole world has to-day, except those countries which did not take part in the Great War, and the United States which did not ever give up its gold basis.
Of the different European fighting countries, however, ours did best in this matter. We are still living on Fiat money, and we have much more of it than we ought to have. But the French have more in proportion, so that prices measured in _their_ money are now (1923) more than three times what they would be in gold. The Italians are worse off still. With them it is four times. With the Germans it is millions of times, and their currency has quite gone to pieces; a paper coin in Germany is worth (at the time I write, October, 1923) _ten million_ times less than the real metal coin which it is supposed to represent.
This is one of the very worst things that has happened on account of the war, for as the money now being used all over Europe is not real money, no one feels certain whether he can get his debts really paid, or whether his savings are safe, or whether a contract made for a certain payment a few months hence will be really fulfilled or not. A man may lend a thousand francs or marks or pounds for a year, and then at the end of the year, when he is to be paid back, he may be paid in coin which has got so much worse that he is really receiving only half or a tenth or a thousandth of the real value he lent. A man in Germany sells a hundred sheep for so many marks, to be paid for in a month; and at the end of the month the marks will only buy ten sheep!
This piece of swindling, which has been the note of the last five years, is the first point we have touched on so far where a problem in Economics and the study of economic law brings one up against questions of right and wrong.
It is morally wrong for the Government to swindle people out of their property by making false money. What is the way out, allowing for Economic Law? It is morally wrong that some men should starve while other men have too much: allowing for Economic Law, what is the way out of such evils?
As you go on in the study of Economics you find quantities of questions where you have to decide whether economic laws render possible political actions which you would very much like to undertake, and which seem right and just. Many such actions, though one would like to undertake them, cannot be undertaken because our study of Economics has shown us that the consequences will be very different from what we hoped.
On the other hand, a great many people try to get out of what it is their duty to do politically by pleading that Economic Law prevents it.
Before ending these notes, then, we must go into the main questions of this kind, and see what there is to be said, in the light of economic knowledge, for our present system of society, which is called =Capitalism=; for other systems in the past such as =Slavery=; for =Private Property=; for the various theories of =Socialism=; for and against =Usury=, and so on.
It is necessary to go into these points even in the most elementary book on Economics, because the moment one begins the practical application of one’s economic science these questions at once arise; to answer them rightly is the most important use we can make of economic knowledge.