There are those who have claimed Ludwig von Mises to be the greatest economist of the 20th century, particularly the first half of the century. Others have claimed that Murray Rothbard is the greatest economist or social scientist of the second half of the 20th century. I agree with both of these claims. These men were great in many different respects. However, the title of the best economist in history, I would give to Richard Cantillon.
My research follows closely Murray Rothbard's writings on Cantillon. I have made some dramatic discoveries—by history of economic thought standards—regarding Cantillon's economics and his influence of the subsequent development of economics. He was the first person to invent economic method and to provide a theoretical model for understanding the economy, but his contributions have never been fully appreciated, until now, the 250th anniversary of the publication of his Essay on the Nature of Commerce in General (hereafter, Essai).
But first, who was Richard Cantillon? Cantillon was a man of mystery. His biographer Antoin Murphy can only date his birth sometime between 1680 and 1690. He was born into an Irish Catholic family that had been dispossessed of its lands by Cromwell's forces. Ironically, his first job was as a clerk for the British Paymaster General during the War of Spanish Succession (1701–13). His employer, James Brydges, was the most successful and notorious war profiteer of the time. After the War, Brydges would become Cantillon's financial patron and would later become one of the largest investors in the South Sea Bubble.
As a young man Cantillon moved to Paris, where he had two relatives in the banking business. In addition to Brydges, one of Cantillon's first banking clients was none other than Lord Bolingbroke, a Jacobite leader in the British Parliament. In 1715 Bolingbroke fled his country in fear of his life, suspecting that he would be arrested for undermining the government. His money was sent to Cantillon, and Bolingbroke lived with Cantillon in Paris for a time and they became good friends. Bolingbroke also lived in the house next to Cantillon in London when Cantillon was mysteriously murdered in 1734.
Cantillon quickly built up a successful banking business and paid off the debts of his bankrupt uncle despite the very chaotic financial conditions in France. The condition of public finances in France was so untenable that the infamous John Law was given carte blanche over French finances, taxation, the mint, a monopoly on international trade, and was allowed to launch his inflation scheme that resulted in the Mississippi Bubble.
Cantillon was deeply involved in the Mississippi Bubble both as an investor and as Law's partner in the company that was supposed to colonize and exploit the lands the company controlled in the Louisiana Territory. He made two fortunes from the Bubble, the first being on the appreciation of company shares, the second by selling shares short that his bank held as collateral against loans made to his customers. As a result, he was one of the wealthiest private citizens in the world.
It was this second fortune, as well as his involvement with John Law, that landed Cantillon in French and English courts for various lawsuits and legal charges, including usury. Murphy found that all this litigation was a catalyst for Cantillon to write the Essai. Murphy also speculates that Cantillon was not murdered, but faked his murder, burned his house to hide the evidence, and escaped to South America.
As a result of the fire, Cantillon's Essai on the Nature of Commerce in General was the only work that survived and it was not published until more than twenty years after Cantillon's "death." Even then it was published anonymously under the name of a printer that had long been out of business. Virtually everyone who has read the Essai has been impressed, although it must be pointed out that readers have had a great deal of difficulty understanding the full import and message of its contents. Economic theory is difficult to understand.
The first major influence that the Essai had was the formation of the Physiocrats in 1756, the year after its publication. The Marquis de Mirabeau based his best-selling book, The Friend of Man, on his reading of the Essai. He encouraged Vincent de Gourney to read the Essai and Francis Quesnay's Tableau Economique is considered an unsuccessful attempt to simplify Cantillon's economics. Cantillon’s influenced extended to Turgot, Adam Smith, Condillac, Say and the French Liberal Tradition.
Among the Austrians, Menger owned a copy of the Essai, Mises owned a copy, and Hayek and his wife translated the Essai into German. Rothbard dubbed Cantillon the founding father of modern economics and he devoted an entire issue of his Journal of Libertarian Studies to retrospective essays on Cantillon's economics.
William Stanley Jevons, one of the co-founders of the Marginalist revolution and generally credited with rediscovering Cantillon, called the Essai "a systematic and connected treatise, going over in a concise manner nearly the whole field of economics. . . . It is thus the first treatise on economics." He dubbed the work "more emphatically than any other single work . . . the Cradle of Political Economy." [1]
Joseph Schumpeter described the Essai "as the first systematic penetration of the field of economics. It bears the stamp of a scientific spirit." [2]
F.A. Hayek wrote that Cantillon was "the first person to succeed in penetrating and surveying nearly the entire range of what today we call economics."
Problems with Cantillon:
The two major shortcomings of Cantillon are that in theory he was an objective cost theorist, and that in terms of policy he was a mercantilist. My findings resolve those problems, but first I want to turn to Adam Smith's invisible hand. Rothbard loves Cantillon stating that he "was the first theorist to demarcate an independent area of investigation—economics—and to write a general treatise on all its aspects." He applauded Cantillon's contributions to methodology. In particular he noted that he "brilliantly began the economic analysis in his Essai with the assumption that the whole world consists of one giant estate." Cantillon shows in his model of the isolated estate that the owner can directly allocate resources to satisfy his demands. Then he changes the model so that the estate owner rents lands to individual farmers who then bring about a system of trade and money prices, but all production is still aimed at meeting the needs of the estate owner, guided by this new system of profits and losses.
I believe that this model is where Adam Smith got his "invisible hand." A cottage industry has sprung up to define the meaning of Smith's phrase "invisible hand" and to play off the widespread recognition and use of the phrase. Spenser Pack says that the invisible hand is about slavery. Syed Ahmad offers us four "invisible hands" while William Grampp offers ten different possibilities. We are told that the invisible hand derives from Smith's theology, that it is an important secular device, and that it is an ironic, but useful joke. Whatever its true meaning, it is important enough that the American Economic Review, the Journal of Political Economy, and the Journal of Economic Perspectives have all recently published articles on the meaning of the invisible hand.
The debate, or rather confusion, stems from the fact that Smith used the term three different times. He used the term "invisible hand" in his History of Astronomy, where he scorned those who attribute a divine presence for things that can be explained scientifically. The second use is in the Theory of Moral Sentiments (1759), where Smith describes the vile landowner who is forced to distribute the majority of the bounty of his land to the peasants in order to obtain the things he wishes—by an invisible hand—so that people get almost the same sustenance as if the land was equally divided, because the classes are mutually interdependent. [3]
The third use of the phrase appears in the Wealth of Nations (1776), [4] where the invisible hand is used as a simile for self-interest—in that people pursuing their self-interest unintentionally promote the general interest and the largest possible production. Only through Cantillon do the combination of uses inThe Theory of Moral Sentiments and The Wealth of Nations make sense.
Cantillon, after establishing the natural inequality of wealth and the pervasive role of entrepreneurship in the economy, developed his model of the "isolated estate." He starts out with the estate owner personally directing all the resources on his estate. Then he moves on to leasing individual farms for rental payments so that everyone is as well off afterward and the owner continues to consume a big chunk of production (1/3 rd of the total). Exchange, markets, and money prices develop, and most importantly the system of profits and losses keeps all the individual farmers in line with market conditions, the wishes of the owner, and the maximization of value.
It is now widely acknowledged that Cantillon presented the self-regulating market long before Smith and that Smith had read Cantillon, but we have in this section of the Essai the connecting ground between Cantillon, Smith, and the invisible hand. In the quote from The Theory of Moral Sentiments, Smith tells how the "unfeeling landlord" need not look after his lands, but is forced to distribute most of what is produced to the laborers. Even though they only try to attain their own desires, they end up distributing their resources a la the invisible hand because the classes are dependent on each other. What at first appear to be two different meanings to the invisible hand came from the same source. You can still debate what Smith meant, etc., but it seems clear that Smith's source of it was his reading of Cantillon.
Rothbard also applauded Cantillon for his contributions to value and price theory, but this has been an area of heated debate and divided discussion in the economics profession. All schools of economic thought want to claim Cantillon for their own, despite his use of the term intrinsic value, which is now the anathema of economists.
Rothbard declares the term intrinsic value "an unfortunate one" and then tries to defend Cantillon by showing that his discussion of market prices is one based on consumer demand and that costs must be covered by market prices or resources will be diverted elsewhere. It is a brilliant defense but still leaves Rothbard with a "big gap" in Cantillon: the question of where the costs of production come from.
I too puzzled over Cantillon's intrinsic value—it is a subject over which a great deal of ink has been spilt in academic journals and books. When you read the Essai you get the distinct impression that Cantillon could not have meant what we understand today as intrinsic value, or that he believed in a truly objective measure of cost. In addition to Rothbard, several scholars have noted a similar impression about Cantillon's intrinsic value, including Joseph Schumpeter, Joseph Spengler, Robert Hébert, David O'Mahony and Guido Hülsmann.
I decided to take a closer look, and what I found is shocking. Cantillon's phrase intrinsic value is actually used to denote opportunity cost—the defining concept of economics. The fact that Cantillon discovered so much of what is today economics should reduce the shock because the concept of opportunity cost is really necessary to think economically.
The first thing I did was to look at the dictionaries, and what I found is that the primary meaning of intrinsic in Cantillon's day (in French and English) was “to place something inside, usually something of value” and the second meaning was that this "something" was intimate and private and difficult to communicate with others. If you combine the two primary meanings (circa 1730) you get "value placed into the good that is private and difficult to communicate with others"—that sounds to me an awful lot like opportunity cost.
The third meaning, which is now dominant, stems from the revolution in the physical sciences that took place after Cantillon's death. This is the sense in which Adam Smith used the term when he referred to the weight of pure metal in a coin or bar of precious metal. Essentially the commonly accepted meaning of the term changed as a result of the revolution in the physical sciences. This meaning was also the use that John Locke made of the term, to refer to the amount of true metal in a coin. But Cantillon attacked Locke's views on money, specifically mentioning that his use of intrinsic value is not the one connecting the purity of gold and silver in bars and coins. [5]
There are several places where Cantillon wrote that intrinsic value is the amount of land and labor used in production of a good, and this is not a correct theory of cost. However, when he discusses value in depth he clearly qualifies and expands on this definition. First, he recognizes that there are different types of land and labor and that they have different comparative advantages. He also recognizes that there are different qualities of each type of land and labor and that higher quality inputs receive greater compensation. Finally, he recognizes that resources can be put to alternative uses, so that the entrepreneur must try to anticipate the best way—among many—to put his lands and labor to use. Taken together, from start to finish, Cantillon's intrinsic value is opportunity cost, in that he recognizes explicitly all the components that the modern term entails.
Not only did Cantillon use opportunity cost implicitly, he used it in a precise and detailed manner for several key illustrations involving land, labor, and capital. The classic textbook illustration of opportunity cost is the decision to attend college, where the decision to attend is affected by both the foregone income of four years and the explicit costs of college. Cantillon (23–24/19/12) gave us the 18 th century equivalent of this illustration when he described a father's decision to send his son to an apprenticeship or keep him on the farm:
A laborer's son at seven or twelve years of age begins to help his father either in keeping the flocks, digging the ground, or in other sorts of country labor which require no art or skill. If his father puts him to a trade he loses his assistance during the time of his apprenticeship and is necessitated to cloth him and to pay the expenses of his apprenticeship for some years. The son is thus an expense to his father and his labor brings in no advantage till the end of some years.
The father loses the cost of the apprenticeship (tuition) as well as the foregone labor (wage income) for a period of seven years (four years). Cantillon went on to use opportunity cost—"the time lost in learning the trade and the cost and risk incurred in becoming proficient"—to help explain the higher wage paid to artisans and craftsmen.
Economists would be correct to object that the cost of clothing should not be included because children must be clothed whether they go to college or not. However, in Cantillon's time children on the farm contributed much to their own upkeep, including the production of their clothing. They assisted in the production of wool and leather and undertook tasks such as weaving and sewing. Therefore, Cantillon included the need to clothe the apprentice in the father's decision because children on the farm participated in the production and upkeep of their homespun clothing, while those in apprenticeships did not. [6] This meant that the father would have an additional expense for the provision of clothing for children sent to apprenticeships. So, what first appears as a typical freshman mistake turns out to be an even more impressive and complete construction of opportunity cost by Cantillon.
The next example is similar to the one Stigler would later point to in John Stuart Mill as an early formulation of the opportunity cost concept:
If a gentleman cuts canals and erects terraces in his garden, their intrinsic value will be proportionable to the land and labor; but the price in reality will not always follow this proportion. If he offers to sell the garden possibly no one will give him half the expense he has incurred. It is also possible that if several persons desire it he may be given doublethe intrinsic value, that is twice the value of the land and the expense he has incurred.
Cantillon described intrinsic value here in terms of the direct expenses and opportunities foregone, stating that the garden's intrinsic value is "the value of the land and the expense he has incurred." He included both the direct expenses of building the gardens as well as the opportunity cost of the land in farming—a masterpiece example of opportunity cost with clear subjective elements that conforms to contemporary practice. It is even reminiscent of modern textbook examples that examine the opportunity cost of capital invested in a small business, the entrepreneur who accepts a lower income in order to become her own boss, and the potential to reap large profits if the demand for her services is high.
The third major example of Cantillon's use of opportunity cost comes in the crucial chapters on the interest rate and usury. Cantillon wrote that the interest rate is the result of supply and demand, but that the rate of interest on a loan must be adjusted by the risk factor. He showed that interest rates will be affected by the size of the loan, the existence and type of collateral, and the type of business, credit history, overall credibility, and time preference of the borrower. He then went on to demonstrate, using logic and examples, that interest is related to the opportunity cost of capital.
To defend the charging of high interest rates, he showed that entrepreneurial borrowing at interest is essentially the same thing as buying capital on credit, where the interest charges are reflected in the higher prices of capital goods purchased on credit. One of his examples was the case of a brewer who sold kegs of beer to alehouses on credit but charged a price high enough to cover an interest charge and the risk of default. "It is customary for the London brewers to lend a few barrels of beer to the keepers of alehouses, and when these pay for the first barrels to continue to lend them more." He found this form of implicit loans to be pervasive between wholesalers and retailers. "All the merchants in a state are in the habit of lending merchandise or produce for a time to retailers, and proportion the rate of their profit or interest to that of their risk."
After constructing his positive case against usury laws based on the opportunity cost of capital, Cantillon mentioned the Casuists, scholastic theologians who wrote on the topic of usury and over time moved towards accepting the concept of interest, the charging of high rates of interest, and eventually to the position that any rate determined in the market and agreed to by both parties was a just price for a loan. Their support of payments of interest was based in part on the concept of opportunity cost. Despite the moral support they provided, Cantillon made the distinction between his analysis and their moral views by deriding the Casuists as "hardly suitable people to judge the nature of interest and of matters of trade" and that they were "wiseacres who were hardly acquainted with trade and always without effect."
Was Cantillon a Mercantilist?
Cantillon is widely interpreted as being a member of the mercantilists, an unorganized, difficult to define group of writers and pamphleteers who dominated public debate before the time of David Hume and the Physiocrats. There is a certain logic to this claim in that Cantillon was a merchant and merchant banker, he wrote during the mercantilist period, he personally knew some prominent mercantilist writers, and he worked with John Law on a great mercantilist project, the Mississippi Bubble. Connecting him further to that label are some prominent statements in the Essai where he speaks favorably of a large supply of money, promoting industry, exports and a favorable balance of trade, and even of regulating industries—these are all signature mercantilist issues.
However, there is something about this claim that Cantillon was a mercantilist that doesn't smell right. Rothbard wrote: "there is no point in wasting time in fruitless speculation on whether or not Richard Cantillon was a 'mercantilist.'" But of course he did spend time defending Cantillon against the charge, noting that Cantillon was the first one to show that the market was self regulating and the he opposed a key tenet of mercantilism—usury laws. Hayek and Lord Robbins took similar views to Rothbard.
Let us begin the analysis of Cantillon's views with the word "regulated." In modern parlance this word quickly conjures up notions of government regulation and regulated industries. In an economic context, the word regulation now generally means regulation by government and to suggest regulating something implies government intervention. Cantillon's statement where he wrote of regulating "each branch of commerce singly," naturally evokes images of tariffs, quotas, and outright trade prohibitions that are so common under mercantilist regimes.
However, the word "regulated" in Cantillon's time did not have the same meaning as it does today. In his day the term simply meant well functioning. For Cantillon, it simply meant good, regular behavior. Every other time he used the word regulated in the Essai he was explaining how the price system regulated markets, and there were other more common French words that did mean government regulation, so that there should be no presumption that he was calling for government regulation of industry.
There was, however, a specific meaning for "regulated" industries. The French economy in Cantillon's day was being strangled by a repressive mercantile regime that would ultimately lead to the French Revolution.[7]In international trade, the French relied not so much on private companies, or even private monopolies, but on government enterprises. As Heckscher, the famous historian of mercantilism (1934, pp. 345–6) noted:
France showed stronger traces of direct state enterprise in foreign trade and in colonization than most other countries, though it was more veiled than in the Iberian peninsula. The very numerous trading companies, which arose at the time of Colbert and later, differed fundamentally from those of Holland and England. Their initiative usually came from the state or, in Colbert's time, from Colbert himself, since he embodied French state power in the economic field. A large proportion of the capital was put up by the king and the royal house, in other words by public means, and, for the rest, it was raised by strong pressure on the part of the authorities on officials and others. The capital risk, too, was largely carried by the king. The directors of the companies were strictly controlled and their treatment was hardly different from that accorded to the intendants of provinces, colonial governors and ambassadors abroad. Finally the management was predominantly in the hands of non-merchants and the merchants proper generally had a poor opinion of the Parisians who were to carry on the trade under high protection. [8]
Thus, Heckscher (1934, p. 351, 452) concluded that while France relied on Colbert's mercantilism and state enterprises, her competitors in England and Holland relied on private business and foreign trade companies, which "in England were called 'regulated' companies." As a merchant banker, Cantillon was highly experienced with all forms of business organization as they related to international trade, as well as their relative advantages and disadvantages. Thus in all likelihood Cantillon was not arguing for government regulation of trade, but against the state-run trading enterprises of France and for private enterprise as it existed in England—the "regulated" company.
Also arguing against Cantillon as a mercantilist, nowhere in the Essai does Cantillon call for tariffs, quotas, or prohibitions that would actually enforce mercantilism. In fact, he argued against the prohibition of exporting gold and usury. It would be a peculiar conclusion indeed, that Cantillon was a mercantilist who advocated mercantilist policy, but never even mentioned the central mercantilist trade policies in a favorable light and even famously attacked two prominent mercantilist policies.
Another statement by Cantillon would also be seen as mercantilist: "It is needful to discourage all foreign manufactures and to give plenty of employment to the inhabitants." But read it in context and we can see that Henry Higgs's translation from the French leaves something to be desired. Right before this line Cantillon writes that you cannot artificially stimulate manufacturing and that what is needed is the production of well-made goods that are highly esteemed by the local population. " This is needful to discourage all foreign manufactures and to give plenty of employment to the inhabitants." There are many such problems with the Higgs translation and I am currently working on a new American translation of Cantillon's Essai with Dr. Chantal Saucier.
And what are we to make of Cantillon's admonition against the Dutch for selling Indian merchandise into Europe, and that it is an "evident disadvantage" to allow Europeans to wear Indian clothing when they can make their own? Has Cantillon violated the principle of comparative advantage and adopted the mercantilist view? To understand Cantillon's remarks it is important to place them within the context of his times. France was ruled by an absolutist monarchy and dominated by a repressive mercantilist economic policy regime. The country was subject to extremely harsh taxation, profligate spending by the King and aristocracy, systemic corruption, and a strong guild system that monopolized labor markets in manufacturing industries.
With tax revenues maximized, France turned increasingly to the granting of monopoly rights to increase revenues. In this manner, government intervention turned the existing local guild and cartel arrangements into uniform national monopolies. Cantillon apparently made calculations that showed that France had comparative advantages in many of these monopolized industries, but they were so highly restricted and inefficient that France even imported a substantial share of its luxury goods. Cantillon's claim is supported by Perelman (2000, p. 131) who noted: "Almost all observers concurred that the French economy was dysfunctional at the time when classical political economy came to France."
More directly to Cantillon's comment on Holland's imports of Indian garments is the matter of calicos (printed cotton textiles), where France banned the production, importation and even the wearing of calicos. The initial boom in cotton textiles put the manufacturers of silk, wool, and linen under intense competition. The ban on imports helped maintain their monopoly profits, while the ban on local production of calicos was necessary because printed calicos differed too much in terms of quality and variety to come under the strict rubric of French regulation. As a result the French cotton textile industry was probably set back by more than a century. Therefore, Cantillon should clearly not be labeled an advocate of trade barriers on imports because a complete prohibition was already in place. Rather, he was arguing for the freedom to produce in France and that the French could produce their own calicos, as they had prior to the prohibition. [9] Placed into the context of the times, Cantillon's conclusions make perfect economic sense. The French were restricting output where they had a comparative advantage.
Cantillon on the money
We come finally to the matter of money and the balance of trade. Cantillon argued that a nation should trade for gold and that it should try to maintain a positive balance of trade against the foreigner. Why did he argue these positions? We know that he did not do it for many of the standard mercantilist reasons. He made a clear break with the mercantilists, who viewed money as wealth, in the opening lines of the