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A theory of capitalism describes the essential features of capitalism and how it functions. The history of various such theories is the subject of this article.



The conception of what constitutes capitalism has changed significantly over time, as well as being dependent on the political perspective and analytical approach adopted by the observer in question. Adam Smith focused on the role of enlightened self-interest (the "invisible hand") and the role of specialization in promoting the efficiency of capital accumulation. Ayn Rand maintained that capitalism is the only morally valid socio-political system because it allows people to be free to act in their rational self-interest, and asserted that no politico-economic system in history has ever proved its value so eloquently or has benefited mankind so greatly. She defined it as a social system based on the recognition of individual rights, including property rights, in which all property is privately owned, and adduced that capitalism is the unknown ideal: people not knowing its nature, with the tacit compliance and silence of those who know better, and being its foundations battered by a flood of altruism, which is the cause of modern's world collapse.[1] Robert LeFevre, an American libertarian and primary theorist of autarchism, defined capitalism as savings and capital in essence as the savings made by men which are then invested in the tools of production.[2] Some proponents of capitalism (like Milton Friedman) emphasize the role of free markets, which, they claim, promote freedom and democracy. For many (like Immanuel Wallerstein), capitalism hinges on the extension into a global dimension of an economic system in which goods and services are traded in markets and capital goods belong to non-state entities. For others (like Karl Marx), it is defined by the creation of a labor market in which most people have to sell their labor power in order to make a living. As Marx argued (see also Hilaire Belloc), capitalism also differs from other market economies that feature private ownership through the concentration of the means of production in the hands of a few. Capitalism Means Savings

Adam Smith

The first theorist of what we commonly refer to as capitalism is usually considered to be Adam Smith. His 1776 work, An Inquiry into the Nature and Causes of the Wealth of Nations, theorized that within a given stable system of commerce and evaluation, individuals would respond to the incentive of earning more by specializing their production. These individuals would naturally, without specific state intervention, "direct ... that industry in such a manner as its produce may be of the greatest value." This would enable the whole economy to become more productive, and it would therefore be wealthier. Smith argued that protecting particular producers would lead to inefficient production, and that a national hoarding of specie (i.e. cash in the form of coinage) would only increase prices, in an argument similar to that advanced by David Hume. His systematic treatment of how the exchange of goods, or a market, would create incentives to act in the general interest, became the basis of what was then called political economy and later economics. It was also the basis for a theory of law and government which would gradually supersede the mercantilist regime that was then prevalent.

Smith asserts that when individuals make a trade they value what they are purchasing more than they value what they are giving in exchange for a commodity. If this were not the case, then they would not make the trade but retain ownership of the more valuable commodity. This notion underlies the concept of mutually-beneficial trade where it is held that both sides tend to benefit by an exchange.

Although he is often described as the "father of capitalism" (and the "father of economics"), Adam Smith himself never used the term "capitalism". He described his own preferred economic system as "the system of natural liberty." However, Smith defined "capital" as stock, and "profit" as the just expectation of retaining the revenue from improvements made to that stock. Smith also viewed capital improvement as being the proper central aim of the economic and political system.[4]

A major difference between Adam Smith's view of economics and that of present day capitalist theory is that Adam Smith viewed value as a product of labor, and thus operated under the Labor Theory of Value, which was used by basically all economists until the Labor Theory of Value became central to Marxism.

Karl Marx

It is generally considered that the most thorough and enduring critique of the results of capitalism was the one formulated by Karl Marx. According to Marx, the treatment of labor as a commodity led to people valuing things more in terms of their price rather than their usefulness (see commodity fetishism), and hence to an expansion of the system of commodities. Marx observed that some people bought commodities in order to use them, while others bought them in order to sell them on at a profit. Much of the history of late capitalism involves what David Harvey called the "system of flexible accumulation" in which more and more things become commodities, the value of which is determined through the process of exchange rather through their use. For example, not only pins are commodities; shares in the ownership of a factory that manufactures pins become commodities; then options on the stock issued in the company that operates the factory become commodities; then portions of the interest rate attached to bonds issued by the company become commodities, and so on. The prevalence of commodity speculation in modern capitalism significantly shapes its outcomes.

Marx defines "capital" as money and "capitalist production" as the use of money to denominate wealth in money terms; these labels refer to John Stuart Mill's definition of value in a market economy as being the going price for a good or service.

Marx expounded on the Labor Theory of Value to show that according to the Labor Theory of Value (which was the theory of value that was used by Thomas Hobbes, John Locke, Adam Smith, David Ricardo, etc) capitalists (owners of the means of production) exploit workers by depriving them of value that workers themselves create. According to Marx, profit is the difference between the value that the worker has created and the wage that the worker receives from his employer.

Once Marx firmly established this principle, the Labor Theory of Value was criticized and abandoned by supporters of capitalism.

Historical development

During the course of the eighteenth and nineteenth centuries, there was a gradual movement in Europe and in the states that Europeans had founded, for the reduction of trade barriers, in particular restrictions on production and labor, the use of non-standard weights and measures, restrictions on the formation of new businesses, and the curtailing of royal prerogatives that interfered with the conduct of commerce. Two parallel doctrines emerged to describe and justify this process. One was the legal doctrine that the rightful owner of land or exerciser of a property right was the one that could make the best economic use of it, and that this principle must be reflected in the property laws of each nation. The other was the political doctrine of laissez-faire economics, namely that all coercive government regulation of the market represents unjustified interference, and that economies would perform best with government only playing a defensive role in order to ensure the operation of free markets.

The next major revision of the theoretical basis of capitalism began in the late 19th century with the expansion of corporations and finance, the globalization of production and markets, and the increasing desire to tap the productive capacity of the capital sectors of economies in order to secure the markets and resources required to continue economic growth. The state came to be viewed by many, particularly by the wealthy, as a vehicle for improving business conditions, securing markets and gaining access to scarce materials, even when such objectives could only be achieved through military force. In the 1920s this philosophy found its most publicly prominent voice in President Calvin Coolidge's assertion that "the business of America is business". Critics of this period label it "corporatism", while its adherents generally regard it as a logical extension of the "laissez-faire" principles of natural liberty.

Capitalism and imperialism

J. A. Hobson, a British liberal writing at the time of the fierce debate concerning imperialism during the Second Boer War, observed the spectacle of the "Scramble for Africa" and emphasized changes in European social structures and attitudes as well as capital flow, though his emphasis on the latter seems to have been the most influential and provocative. His so-called accumulation theory, very influential in its day, suggested that capitalism suffered from under-consumption due to the rise of monopoly capitalism and the resultant concentration of wealth in fewer hands, which he argued gave rise to a misdistribution of purchasing power. His thesis called attention to Europe's huge, impoverished industrial working class, which was typically far too poor to consume the goods that were produced by an industrialized economy. His analysis of capital flight and the rise of mammoth cartels later influenced Vladimir Lenin in his book Imperialism: The Highest Stage of Capitalism[5], which has become a basis for the neo-Marxist analysis of imperialism.

Although Hobson's works are still read, it is now widely acknowledged that his analysis neglected the mediating impact of a free-floating interest rate on the accumulation of unused capital. His causal economic link between capitalism and imperialism therefore ultimately fails[citation needed], although his discussions of capitalism's cultural impacts may still be valid.They understand the profits and increases of

Contemporary World-Systems theorist Immanuel Wallerstein perhaps addresses better Hobson's counter-arguments without degrading Hobson's underlying inferences. Accordingly, Wallerstein's conception of imperialism as a part of a general and gradual extension of capital investment from the center of the industrial countries to an overseas periphery coincides with Hobson's. According to Wallerstein, Mercantilism became the major tool of semi-peripheral, newly industrialized countries such as Germany, France, Italy, and Belgium. Wallerstein thus perceives formal empire as performing a function that was analogous to that of the mercantilist drives of the late seventeenth and eighteenth centuries in England and France; consequently, the expansion of the Industrial Revolution contributed to the emergence of an era of aggressive national rivalry, leading to the late nineteenth-century scramble for Africa and the acquisition of formal empires.

Democracy, the state, and legal frameworks

The relationship between the state, its formal mechanisms, and capitalist societies has been debated in many fields of social and political theory, with active discussion since the 19th century. Hernando de Soto is a contemporary economist who has argued that an important characteristic of capitalism is the functioning state protection of property rights in a formal property system where ownership and transactions are clearly recorded.[3] According to de Soto, this is the process by which physical assets are transformed into capital, which in turn may be used in many more ways and much more efficiently in the market economy. A number of Marxian economists have argued that the Enclosure Acts in England, and similar legislation elsewhere, were an integral part of capitalist primitive accumulation and that specific legal frameworks of private land ownership have been integral to the development of capitalism.[4][5]

New institutional economics, a field pioneered by Douglass North, stresses the need of a legal framework in order for capitalism to function optimally, and focuses on the relationship between the historical development of capitalism and the creation and maintenance of political and economic institutions.[6] In new institutional economics and other fields focusing on public policy, economists seek to judge when and whether governmental intervention (such as taxes, welfare, and government regulation) can result in potential gains in efficiency. According to Gregory Mankiw, a New Keynesian economist, governmental intervention can improve on market outcomes under conditions of "market failure," or situations in which the market on its own does not allocate resources efficiently.[7] Market failure occurs when an externality is present and a market will either underproduce a product with a positive externality or overproduce a product that generates a negative externality. Air pollution, for instance, is a negative externality that cannot be incorporated into markets as the world’s air is not owned and then sold for use to polluters. So, too much pollution could be emitted and people not involved in the production pay the cost of the pollution instead of the firm that initially emitted the air pollution. Critics of market failure theory, like Ronald Coase, Harold Demsetz, and James M. Buchanan argue that government programs and policies also fall short of absolute perfection. Market failures are often small, and government failures are sometimes large. It is therefore the case that imperfect markets are often better than imperfect governmental alternatives. While all nations currently have some kind of market regulations, the desirable degree of regulation is disputed.

The relationship between democracy and capitalism is a contentious area in theory and popular political movements. The extension of universal adult male suffrage in 19th century Britain occurred along with the development of industrial capitalism, and democracy became widespread at the same time as capitalism, leading many theorists to posit a causal relationship between them, or that each affects the other. However, in the 20th century, according to some authors, capitalism also accompanied a variety of political formations quite distinct from liberal democracies, including fascist regimes, monarchies, and single-party states,[8] while it has been observed that many democratic societies such as the Bolivarian Republic of Venezuela and Anarchist Catalonia have been expressly anti-capitalist.[9] While some thinkers argue that capitalist development more-or-less inevitably eventually leads to the emergence of democracy, others dispute this claim. Research on the democratic peace theory further indicates that capitalist democracies rarely make war with one another and have little internal violence.[10][11] However critics of the democratic peace theory note that democratic capitalist states may fight infrequently or never with other democratic capitalist states because of Political similarity or political stability rather than because they are democratic (or capitalist).

Some commentators argue that though economic growth under capitalism has led to democratization in the past, it may not do so in the future. Under this line of thinking, authoritarian regimes have been able to manage economic growth without making concessions to greater political freedom.[12][13]

In response to criticism of the system, some proponents of capitalism have argued that its advantages are supported by empirical research. For example, advocates of different Index of Economic Freedom point to a statistical correlation between nations with more economic freedom (as defined by the Indices) and higher scores on variables such as income and life expectancy, including the poor in these nations.

External links

  • Capitalism by Robert Hessen - says "capitalism" is a misnomer for "economic individualism" and discusses the emergence of capitalism
  1. ^ Capitalism, Ayn Rand Lexicon
  2. ^ Robert LeFevre on Capitalism
  3. ^ Hernando de Soto. "The mystery of capital". Retrieved 2008-02-26. 
  4. ^ Karl Marx. "Capital, v. 1. Part VIII: primitive accumulation". Retrieved 2008-02-26. 
  5. ^ N. F. R. Crafts (April 1978). "Enclosure and labor supply revisited". Explorations in economic history 15 (15): 172–183. doi:10.1016/0014-4983(78)90019-0. .
  6. ^ North, Douglass C. (1990). Institutions, Institutional Change and Economic Performance. Cambridge University Press. 
  7. ^ Principles of Economics. Harvard University. 1997. pp. 10. 
  8. ^ Burnham, Peter (2003). Capitalism: The Concise Oxford Dictionary of Politics. Oxford University Press. 
  9. ^ On the democratic nature of the Venezuelan state, see [1]. On the current government's rejection of capitalism in favor of socialism, see[2] and[3]
  10. ^ James Lee Ray. "Does democracy cause peace". Retrieved 2008-02-26. 
  11. ^ Hegre, Håvard. "Towards a democratic civil peace? : opportunity, grievance, and civil war 1816-1992".,,contentMDK:20708340~pagePK:210058~piPK:210062~theSitePK:336806,00.html. Retrieved 2008-02-26. 
  12. ^ Mesquita, Bruce Bueno de (2005-09). "Development and Democracy". Foreign Affairs. Retrieved 2008-02-26. 
  13. ^ Single, Joseph T. (2004-09). "Why Democracies Excel". New York Times. Retrieved 2008-02-26. 


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