George Will's Statecraft as Soulcraft (1983) discusses the struggle for the American economic soul at the end of the 18th century in which the Federalists set the stage for today's economy. As Will points out, the US economic system was, unlike any before it, rationally debated and consciously chosen by the nation's founders.
In the 1780s, Madison and his supporters created a set of arguments recommending a new Constitution which would greatly expand central government power — including new powers to regulate commerce. "The Federalist Papers" describe in close detail how citizens would still be protected from government intrusion (the fighting point of the Revolution) even as the state became more powerful. The Articles of Confederation already guaranteed citizen rights better than any other governing constitution on earth. The "more perfect union" pursued by the Federalists was economic.
Part of the debate at the time was whether the United States would remain a self-sufficient (and isolationist) agrarian economy to serve primarily Jefferson's idealized "yeoman farmer" or embrace the Federalist program for international trade (and debt) to serve the approaching wave of industrialization.
With the Federalist victory, the stage was set for the US to become the first modern industrial state in the New World. Even Jefferson eventually admitted the new model would enhance the nation's prosperity far more than his preferred regime.
The theoretical heart of the economic and political system created by the Federalists was a new, thoroughly secular vision of human nature promoted primarily by two Scottish Enlightenment thinkers: Adam Smith and David Hume.
The new American democracy was founded on the premise that the only universal human motivation — the only one on which any politics or economics can depend — is individual self-interest.
Separation of government powers, democratic representation of the popular "will" and guarantees of rights of individuals against the state were all designed by Madison and the Federalists to accommodate this basic fact of human nature, emphasized by Hume, that each of us acts first for self-advantage. The founders intended to channel a multitude of self-interests into the political and economic "wisdom" of the aggregate society — ie, the market — as envisioned by Smith. The apparatus of democracy was viewed as the aggregator: the free and well-informed voice of the people, specifically expressible in the vote, aided by education, free enterprise, citizen rights and a free press. This apparatus was thought to be the best guarantor of justice in the new state, while the new participatory citizen, shielded from government harassment especially to protect his private property, was free to become an unfettered engine of prosperity: a successful consumer of tangible goods.
These conditions of modern politics and economics were based on a classic assumption that "the will" is the agent of human action. Hume's emotive account of willing was crucial: "motivation" comes from the heart and "desire" drives human striving. Only emotion actually moves the will, according to Hume, and the emotion common to people everywhere is self-interested desire. Smith believed this too.
Despite the modern pejorative, that appears at the heart of our economic system.
In Smith's economics, desire becomes consumer demand. The desire to consume material goods drives the economy. The engine of prosperity is consumption and the engine of consumption is desire.
Dr. Will goes on to discuss what's missing in this picture: soulcraft, or development of citizen virtue. Our system is practically all statecraft, with just enough simple (even crude) soulcraft embedded to preserve the citizen's appetite for things. But soulcraft is beyond the scope of the present essay; it is enough to recommend the book, and acknowledge Will's historical analysis, which serves the rest of my argument.
~~~~~~
Although "capitalism" is often seen as the great unlocker of human productivity and "market value," it is the (Humean) desire inherent in (Smithian) consumption that is the actual foundation of modern economics. If anyone gets eaten in this economy, it's not by wolves, but our own appetites.
It is important to realize that the "consumer economy" discussed every day in the media is better described as a demand-driven economy. Consumption is demand; the consumer is the embodiment of demand. Supply is almost an afterthought. Our productive capacity is so efficient thanks to modern technology and its associated organization of effort and capital, that supply is practically no issue at all (except perhaps for energy and water). Economic activity depends far more on demand. As long as natural resources are available, there is no constraint upon growth of the economy — except for consumer sentiment.
This sentiment-driven economy has become the issue of the age. It is accompanied by an equally sentiment-driven politics. If there are any excesses or shortcomings in our political and economic systems, those will trace to whatever imbalances are inherent in sentiment — in other words, the irrationality of desire.
The emphasis on desire at the root of economics is flawed. It is a source of "moral hazard" over which reason does not prevail.
First of all desire is an emotion. Whether at the group level or in the individual, emotion is inherently unpredictable, capricious, sometimes foolish and not always benign. As a theoretical foundation for rational market activity, then, it is unreliable. Unless emotion suddenly becomes inherently rational, there is little reason to expect that the aggregate outcome of mass sentiment will be rational. In other words there is a basic contradiction between the character of the input (consumer emotion) and anticipated output (market rationality). But most economic theorists (and my stockbrokers) ignore that.
Between this mismatched input and output, Adam Smith placed an invisible hand that resolves the contradiction: magically the market is always right. This seems reasonable as long as there is economic growth. True to our emotional assessment of economics, if our wealth goes up, we don't care about theoretical contradictions. But in a downturn, the hand is more myth than explanation.
An invisible hand in any theory is a sign that knowledge has been exhausted (cause and effect have become mysterious), and beyond this point is ignorance. The contradiction is real, and it strikes as periodic busts in the business cycle. No rational economist can tame the cycle because its source is irrationality.
Second, emotion is exploitable and manipulable. If the public buys into a perception, that perception can dominate the market regardless of its truth or utility. To a great extent, a "bull market" is just a stampede.
"Technique" in management of business and economics quickly reduces to manipulating the emotional rather than rational impulses of individuals and groups. Today the marketeers develop demand to match products, not the other way around, while in politics we are more aware than ever that masters of imagery and message can condition public opinion, creating impressions and influencing beliefs to support nearly any policy.
Despite the projected veneer of "scientific management" of economic policy, the preferred exercise today is psychological management of opinion. Even democracy becomes a commodity. Just buy enough media eyeballs and focus, focus, focus.
The only social behavior the emotive model properly predicts is that our politics and economics will become red in tooth and claw.
It is difficult to argue against the observation that the human being is a bundle of desires. It is a "fact" about human nature that most people think is self evident. The observation itself posesses an emotional appeal that is quick and easy to understand through simple introspection, and nearly impossible to dislodge, once believed. People look out for themselves, the theory goes; self-interest rules action and is the basis — even sufficient justification — for action. Anyone who wants to refute that "fact" (or neutralize it) must battle it with very few weapons at hand.
The motive opposing the dynamics of self-interest is usually presented as "altruism." But as a characteristic of human personality, altruism empirically is so rare in the population, it's a weak basis for morality and as a basis for public policy, it's laughably unreliable. Some people (perhaps the majority) have no altruistic impulses at all, except perhaps what they reserve for their families. As a foundation of public virtue, then, altruism is easily dismissed as a pipedream.
Since modern industrial society is built around this belief in desire, the private citizen's economic and political life resembles mood swings: a boom-and-bust ride on the erratic rollercoaster of emotion. Total economic meltdown is depression. Mid-cataclysm, a president insists there's nothing to fear but fear itself. Speculation drives the market up. The Fed warns against unwarranted euphoria. Companies can lose value by failing to meet expectations. The highest-valued companies market themselves as "cool." We have become the consumer culture of desire envisioned by Smith and we believe it is natural to be so.
Not only do most of us believe the emotive account of human nature, but our daily economic lives are controlled by the belief.
"Consumer sentiment" is one of the metrics normally applied to economic analysis. It is thought to indicate or predict near-term economic activity by measuring consumer willingness to spend. When the sentiment index is down or falling, producers and sellers plan accordingly, either by lowering prices to stimulate demand or by reducing inventory acquisition and production to match expected demand. The sentiment metric drives actual business decisions because it is crucial to the business estimate of sales. That, in turn, is crucial to planning production and investment (ie, speculation). "Business outlook" by itself can move the markets. But that outlook is not completely empirical because its object lies in the future — in the fantasyland of the educated guess.
Various sentiment indexes affect politics and the ordinary citizen's private life as well. A political party must tailor its message to the "mood of the electorate" or face the prospect of defeat — even if its messages are lies. The first issue in every election from the voter's selfish point of view is the pocketbook, except in times of war. The citizen/voter/consumer must consider business sentiment as much as business considers his, for employment and income prospects hinge upon it (influencing future consumption).
Since the economy is demand-driven, intervention in boom-and-bust can be expected to take the form of demand manipulation. This is exactly what we see in the daily news. The preferable form of government intervention in a downturn is artificial stimulation of business activity (lower interest rates, tax cuts, deregulation) to enhance business expansion (ie, speculation), raise employment, therefore boost consumer sentiment and jumpstart demand. (Note how long that chain reaction is. No wonder it barely works.) In a steep emergency, tax cuts might go straight to consumers. In a euphoric bubble, the opposites occur to dampen demand, usually to cool inflation. In the private sector, price intervention occurs before government action, in which cost of production may be temporarily ignored while prices are structured to stimulate a "value buy" sentiment in consumers -- again, to stimulate demand.
The classic "law of supply and demand" still operates, but there is not as much reciprocal inverse causation (where one side up equals the other down) as the phrase implies, due to intense attention to, and manipulation of, consumer sentiment in between.
It is dangerous for any participant in the economic and political spheres (producer, consumer, policymaker) to ignore the winds of sentiment in all spheres. To act or believe otherwise is to run counter to the prevailing winds of an environment which is fundamentally calibrated to "demand" (and thus emotion). The "supply and demand" theory holds only so much water: when supply goes up or down, prices are predictable only as far as demand is predictable. (The per capita supply of horse manure falls every year but there's no demand outside the Beltway, so its price does not skyrocket.)
Hot stock tip of the day: to understand market movement well enough to "beat" it, do not study scarcity and abundance, but rather the psychology of perceptions of scarcity and abundance. Assume that the most powerful producers in the world are the manufacturers and manipulators of sentiment.
If demand reduces to "needs, wants and desires" which are not rational, and the political and economic system is calibrated to it, then rational outcomes in the economic or political systems cannot be expected. To assume otherwise is to miss the fundamentals of the market and increase the risk of economic calamity.
The market is not rational and to believe otherwise is folly. The invisible hand is not the hand of reason.
The philosophical belief in emotion as the ground of action actually is a dangerous thing. If this emotive belief is mistaken — whether false or just faulty or incomplete — then we are operating our society on mistaken assumptions and our belief system obstructs our ability to correct them.
(Don't blame Madison, the Federalists or even Smith. Blame the cynics, first among them Hume.)
Dr. Will goes on to discuss what's missing in this picture: soulcraft, or development of citizen virtue. Our system is practically all statecraft, with just enough simple (even crude) soulcraft embedded to preserve the citizen's appetite for things. But soulcraft is beyond the scope of the present essay; it is enough to recommend the book, and acknowledge Will's historical analysis, which serves the rest of my argument.
~~~~~~
Although "capitalism" is often seen as the great unlocker of human productivity and "market value," it is the (Humean) desire inherent in (Smithian) consumption that is the actual foundation of modern economics. If anyone gets eaten in this economy, it's not by wolves, but our own appetites.
It is important to realize that the "consumer economy" discussed every day in the media is better described as a demand-driven economy. Consumption is demand; the consumer is the embodiment of demand. Supply is almost an afterthought. Our productive capacity is so efficient thanks to modern technology and its associated organization of effort and capital, that supply is practically no issue at all (except perhaps for energy and water). Economic activity depends far more on demand. As long as natural resources are available, there is no constraint upon growth of the economy — except for consumer sentiment.
This sentiment-driven economy has become the issue of the age. It is accompanied by an equally sentiment-driven politics. If there are any excesses or shortcomings in our political and economic systems, those will trace to whatever imbalances are inherent in sentiment — in other words, the irrationality of desire.
The emphasis on desire at the root of economics is flawed. It is a source of "moral hazard" over which reason does not prevail.
First of all desire is an emotion. Whether at the group level or in the individual, emotion is inherently unpredictable, capricious, sometimes foolish and not always benign. As a theoretical foundation for rational market activity, then, it is unreliable. Unless emotion suddenly becomes inherently rational, there is little reason to expect that the aggregate outcome of mass sentiment will be rational. In other words there is a basic contradiction between the character of the input (consumer emotion) and anticipated output (market rationality). But most economic theorists (and my stockbrokers) ignore that.
Between this mismatched input and output, Adam Smith placed an invisible hand that resolves the contradiction: magically the market is always right. This seems reasonable as long as there is economic growth. True to our emotional assessment of economics, if our wealth goes up, we don't care about theoretical contradictions. But in a downturn, the hand is more myth than explanation.
An invisible hand in any theory is a sign that knowledge has been exhausted (cause and effect have become mysterious), and beyond this point is ignorance. The contradiction is real, and it strikes as periodic busts in the business cycle. No rational economist can tame the cycle because its source is irrationality.
Second, emotion is exploitable and manipulable. If the public buys into a perception, that perception can dominate the market regardless of its truth or utility. To a great extent, a "bull market" is just a stampede.
"Technique" in management of business and economics quickly reduces to manipulating the emotional rather than rational impulses of individuals and groups. Today the marketeers develop demand to match products, not the other way around, while in politics we are more aware than ever that masters of imagery and message can condition public opinion, creating impressions and influencing beliefs to support nearly any policy.
Despite the projected veneer of "scientific management" of economic policy, the preferred exercise today is psychological management of opinion. Even democracy becomes a commodity. Just buy enough media eyeballs and focus, focus, focus.
The only social behavior the emotive model properly predicts is that our politics and economics will become red in tooth and claw.
It is difficult to argue against the observation that the human being is a bundle of desires. It is a "fact" about human nature that most people think is self evident. The observation itself posesses an emotional appeal that is quick and easy to understand through simple introspection, and nearly impossible to dislodge, once believed. People look out for themselves, the theory goes; self-interest rules action and is the basis — even sufficient justification — for action. Anyone who wants to refute that "fact" (or neutralize it) must battle it with very few weapons at hand.
The motive opposing the dynamics of self-interest is usually presented as "altruism." But as a characteristic of human personality, altruism empirically is so rare in the population, it's a weak basis for morality and as a basis for public policy, it's laughably unreliable. Some people (perhaps the majority) have no altruistic impulses at all, except perhaps what they reserve for their families. As a foundation of public virtue, then, altruism is easily dismissed as a pipedream.
Since modern industrial society is built around this belief in desire, the private citizen's economic and political life resembles mood swings: a boom-and-bust ride on the erratic rollercoaster of emotion. Total economic meltdown is depression. Mid-cataclysm, a president insists there's nothing to fear but fear itself. Speculation drives the market up. The Fed warns against unwarranted euphoria. Companies can lose value by failing to meet expectations. The highest-valued companies market themselves as "cool." We have become the consumer culture of desire envisioned by Smith and we believe it is natural to be so.
Not only do most of us believe the emotive account of human nature, but our daily economic lives are controlled by the belief.
"Consumer sentiment" is one of the metrics normally applied to economic analysis. It is thought to indicate or predict near-term economic activity by measuring consumer willingness to spend. When the sentiment index is down or falling, producers and sellers plan accordingly, either by lowering prices to stimulate demand or by reducing inventory acquisition and production to match expected demand. The sentiment metric drives actual business decisions because it is crucial to the business estimate of sales. That, in turn, is crucial to planning production and investment (ie, speculation). "Business outlook" by itself can move the markets. But that outlook is not completely empirical because its object lies in the future — in the fantasyland of the educated guess.
Various sentiment indexes affect politics and the ordinary citizen's private life as well. A political party must tailor its message to the "mood of the electorate" or face the prospect of defeat — even if its messages are lies. The first issue in every election from the voter's selfish point of view is the pocketbook, except in times of war. The citizen/voter/consumer must consider business sentiment as much as business considers his, for employment and income prospects hinge upon it (influencing future consumption).
Since the economy is demand-driven, intervention in boom-and-bust can be expected to take the form of demand manipulation. This is exactly what we see in the daily news. The preferable form of government intervention in a downturn is artificial stimulation of business activity (lower interest rates, tax cuts, deregulation) to enhance business expansion (ie, speculation), raise employment, therefore boost consumer sentiment and jumpstart demand. (Note how long that chain reaction is. No wonder it barely works.) In a steep emergency, tax cuts might go straight to consumers. In a euphoric bubble, the opposites occur to dampen demand, usually to cool inflation. In the private sector, price intervention occurs before government action, in which cost of production may be temporarily ignored while prices are structured to stimulate a "value buy" sentiment in consumers -- again, to stimulate demand.
The classic "law of supply and demand" still operates, but there is not as much reciprocal inverse causation (where one side up equals the other down) as the phrase implies, due to intense attention to, and manipulation of, consumer sentiment in between.
It is dangerous for any participant in the economic and political spheres (producer, consumer, policymaker) to ignore the winds of sentiment in all spheres. To act or believe otherwise is to run counter to the prevailing winds of an environment which is fundamentally calibrated to "demand" (and thus emotion). The "supply and demand" theory holds only so much water: when supply goes up or down, prices are predictable only as far as demand is predictable. (The per capita supply of horse manure falls every year but there's no demand outside the Beltway, so its price does not skyrocket.)
Hot stock tip of the day: to understand market movement well enough to "beat" it, do not study scarcity and abundance, but rather the psychology of perceptions of scarcity and abundance. Assume that the most powerful producers in the world are the manufacturers and manipulators of sentiment.
If demand reduces to "needs, wants and desires" which are not rational, and the political and economic system is calibrated to it, then rational outcomes in the economic or political systems cannot be expected. To assume otherwise is to miss the fundamentals of the market and increase the risk of economic calamity.
The market is not rational and to believe otherwise is folly. The invisible hand is not the hand of reason.
The philosophical belief in emotion as the ground of action actually is a dangerous thing. If this emotive belief is mistaken — whether false or just faulty or incomplete — then we are operating our society on mistaken assumptions and our belief system obstructs our ability to correct them.
(Don't blame Madison, the Federalists or even Smith. Blame the cynics, first among them Hume.)
====================
ADDENDUM 11.27.2010:
http://news.yahoo.com/s/nm/20101127/bs_nm/us_usa_stocks_weekahead
S&P 500 ON FAMILIAR GROUND
Bullish sentiment has been on the rise again, a factor that may worry contrarian investors who see bullishness as a "sell" signal.
Bullish sentiment rose 7.4 percentage points to 47.4 percent, according to the latest sentiment survey by the American Association of Individual Investors. Bullish sentiment has now spent 12 consecutive weeks above its historical average of 39 percent despite some drops in November.
(Reporting By Edward Krudy; Additional reporting by Rodrigo Campos; Editing by Jan Paschal)
4 comments [saved with post]:
Lo November 22, 2010 at 1:36 PM
Hey, GC, I really enjoyed this post.......good thinking.
Self-interest + unrestrained desire = total irrationality....
Yep. That's what's wrong with the world. Sigh.
CONSVLTVS November 23, 2010 at 12:40 PM
This is immortal: "To a great extent, a 'bull market' is just a stampede." May I add it to my "Sound Bites" page?
GTChristie November 23, 2010 at 5:45 PM
LOL ... you betcha.
Alan November 27, 2010 at 8:54 PM
Interesting topic. But, please, David Hume and Adam Smith were not Sassenachs!
GTChristie November 29, 2010 [edited]
You are correct, sir! They were Scots! So is half of me! This has been corrected.
GTChristie January 27, 2014 at 10:52 pm
Parting shot:
In my opinion, the first corrective (even if it takes 100 years) is to reorient philosophy — moral, political, economic and indeed the entire theory of human nature — towards reason. Remember the Greeks? Alright then.
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Pro philosophers: Refrain from bleeding until actually shot. Weep at will.
--GC