By the turn of the nineteenth century, the views and doctrines of Adam Smith had swept the board of European opinion, though they had scarcely been embodied in political institutions. Even in France, as will be seen in the second volume of this series, the pre-Smithian subjective utility-scarcity approach to value, as well as the stress on entrepreneurship in the market, continued to be prominent, but only under the cloak of a proclaimed devotion to Adam Smith as the founder of economic theory and free market policy. In the hands of James Mill and Ricardo in England, of J.B. Say in France, and throughout the rest of the Continent, Adam Smith would be treated as the embodiment of the new discipline of ‘political economy’.
There were advantages but probably greater disadvantages to this Smithian dominance over economic thought after the 1790s. On the one hand, it meant at least a moderate appreciation of and devotion to freedom of trade at home and abroad. Even more solidly, it meant a keen understanding and a steadfast adherence to the virtues of saving and investment and a refusal to indulge in proto-Keynesian worry about ‘hoarding’ or underconsumption. Moreover, this adherence to what Schumpeter calls the Turgot-Smith view of saving and investment also meant a determined opposition to wildly inflationary schemes of expansion of money and credit.
On the other hand, there were dire costs to economic thought in this Smithian takeover. Even on the monetary front, Smith had gone against his eighteenth century colleagues in adopting crucial aspects of John Law's inflationary doctrine, in particular praising expansion of bank credit and money within a specie standard framework. In this way, Smith paved the way for later apologetics on behalf of the Bank of England and its generation of credit expansion.
More fatefully, Smith totally set back price and value theory, and led it into a fateful cul de sac, from which it took a century to recover; in some respects, it has never fully recovered. At the root of Smith's drastic changes in theory was undoubtedly his Calvinist contempt for luxury consumer spending. Hence, only work on material goods (i.e. material capital goods) was productive. Hence, too, Smith's interventionist call for usury laws to lower the rate of interest so as to ration savings and channel them away from luxurious consumers and speculative ‘projectors’ to sober prime borrowers. Smith's contempt for consumers also led him to discard the time-honoured subjective utility-scarcity theory of value, and to seek the cause of value not in frivolous consumers but in real cost, or labour pain, embodied into the product. Hence Smith's crucial shift of emphasis in economic theory away from consumer demand and actual market prices, and towards unrealistic, long-run equilibrium. For only in long-run equilibrium does a labour pain, or cost, theory of pricing take on even superficial plausibility. But the exclusive attention to long-run equilibrium led Smith to toss out the entire entrepreneurship-and-uncertainty approach that had been elaborated by Cantillon and Turgot; for in a timeless final equilibrium there is obviously no problem of change or uncertainty.
Smith's labour theory of value led to Marxism and all the horrors to which that creed has given rise; and his exclusive emphasis on long-run equilibrium has led to formalistic neoclassicism, which dominates today's economic theory, and to its exclusion from consideration of entrepreneurship and uncertainty.
Smith's stress on the economy-in-perpetual-equilibrium also led him to discard his old friend David Hume's important insight (even if inferior to Cantillon's) into the international specie-flow-price mechanism, and to the important business cycle analysis that lies clearly implicit in that doctrine. For if the world economy is always in equilibrium, then there is no need to consider or worry about increases in money supply causing price rises and outflows of gold or silver abroad, or to consider the subsequent contraction of money and prices.
In essence, then, the common picture of economic thought after Smith needs to be reversed. In the conventional view, Adam Smith, the towering founder, by his theoretical genius and by the sheer weight of his knowledge of institutional facts, single-handedly created the discipline of political economy as well as the public policy of the free market, and did so out of a jumble of mercantilist fallacies and earlier absurd scholastic notions of a ‘just price’. The real story is almost the opposite. Before Smith, centuries of scholastic analysis had developed an excellent value theory and monetary theory, along with corresponding free market and hard-money conclusions. Originally embedded among the scholastics in a systematic framework of property rights and contract law based on natural law theory, economic theory and policy had been elaborated still further into a veritable science by Cantillon and Turgot in the eighteenth century. Far from founding the discipline of economics singlehanded, Adam Smith turned his back not only the scholastic and French traditions, but even on his own mentors in the considerably more diluted natural law of the Scottish Enlightenment: Gershom Carmichael and his own teacher Francis Hutcheson.
The most unfortunate aspect of the total Smithian takeover in economics was not so much his own considerable tissue of error, but even more the blotting out of knowledge of the rich tradition of economic thought that had developed before Smith. As a result, the Austrians and their nineteenth century predecessors, largely deprived of knowledge of the pre-Smith tradition, were in many ways forced to reinvent the wheel, to painfully claw their way back to the knowledge that many pre-Smithians had enjoyed long before. Adam Smith and the consequences of Smith is an outstanding example of the Kuhnian case in the history of a science: in all too many cases, the development of knowledge in a discipline is not a steady continuous march upward into the light, patiently discarding refuted hypotheses and adding continually to the stock of cumulative knowledge. But rather, the history of the discipline is a zig-zag of great gain and loss, of advances in knowledge followed by decay and false leads, and then by periods of attempts to recapture lost knowledge, trying often dimly and against fierce opposition, to regain paradigms lost.