Capitalism: Separating Myth from Truth
Every single day, I come across misconceptions about capitalism. Some are created in the minds of everyday individuals by the rhetoric taught by particular scholars, but some are by scholars that themselves follow an agenda. I guarantee capitalism is not what you think. This article is not an endorsement, nor is it a critique of capitalism. It is simply a separation of myth from truth, ignorance from knowledge, and misconception from understanding.
Myth #1: Capitalism is an economic system or business model
This myth is produced primarily by scholars that do not truly understand capitalism. Many human history scholars and even economic history scholars do not read or understand the works of many influential market philosophers. Adam Smith is the first to come to mind, of course, but major contributions to Capitalist thought have come from the Austrian Economic school of thought, which included Carl Menger, Ludwig Von Mises, F. A Hayek and Murray Rothbard. The Chicago School of thought also contributed to capitalist philosophy, including scholars such as Milton Friedman and David Friedman. If you read the works of these capitalistic theorists, capitalism is NOT an economic system nor business model. Murray Rothbard explains a free market as “a market not burdened by the interference of violent action” in his economic treatise, Man, Economy, and State. Adam Smith argues that a capitalist state is one in which the economy is run by private property, self-interest, and freedom of choice. All of these aspects are natural to humanity and have existed for several ages.
Therefore, capitalism is not an economic system, nor a business model. For something to be an economic system, it must have an ideology about how an economy is set up or run. After several bouts of research into capitalist thought, I defined capitalism as “a philosophy of natural human action when uninterrupted by monopolized forces.” This simply means that when left alone, humans will interact and voluntarily associate in ways that they see fit (according to their personal value of goods, services, ends, and means)- and this is capitalism.
It is inappropriate to define capitalism as a business model,as well. Capitalistic philosophy has absolutely nothing to do with business. It differs from other ideologies (in practice) because it is laissez-faire. All other economic philosophies include a system in which the economy is controlled. Feudalism is an economic (and political) philosophy that included monopolies over land. “Nobles” were granted land by the government, and the government enforced this charter, or grant, of land. In a fascist economic model, the economy is controlled entirely by the government. Socialism hasn’t necessarily been successful- it has always ended in fascist economic systems, but in theory, socialism is a planned economic system. I will have an entire column on socialism at a later date.
Therefore, capitalism sets itself apart from economic systems and business models in that it does not include anybody controlling or manipulating the free exchanges between consenting individuals.
Myth #2: Capitalism never existed until the last ~300 years
This fallacy often goes hand-in-hand with myth number one. There is an ongoing idea that capitalism didn’t exist until the liberalization and industrialization of western Europe. This is entirely incorrect. As I mentioned above, capitalism is simply where an economy is left alone and free of monopolized aggression. As above, this means that the economy doesn’t have the government manipulating interpersonal exchange. Free exchange has occurred for a very long time. Some rather extreme examples of capitalistic philosophy in action before the last 300 years derive from ancient Iceland, ancient Ireland, and the Indian Ocean Trade network in the 14th-16th centuries.
Ancient Iceland was actually anarcho-capitalist from a political AND economic perspective, but we will focus on the economics for now. There was absolutely no interference on exchange by the government in ancient Iceland. Economist and historian David Friedman said, “Medieval Icelandic institutions have several peculiar and interesting characteristics; they might almost have been invented by a mad economist to test the lengths to which market systems could supplant government in its most fundamental functions.” Of course, Friedman’s analysis is both governmental and economical, but on the economical note, they had a free market. People were free to exchange. There was no executive government in Ancient Iceland. Anarchist scholar Roderick Long wrote about ancient Iceland as well. He said that while it was not anarcho-capitalist (because of political reasons), it was still a free market economy. Anthropologist Jarod Diamond writes, “Medieval Iceland had no bureaucrats, no taxes, no police, and no army. … Of the normal functions of governments elsewhere, some did not exist in Iceland, and others were privatized, including fire-fighting, criminal prosecutions and executions, and care of the poor.”Ancient Iceland prospered for nearly 3000 years until Catholic Christians took over the social order.
Ancient Ireland was also anarcho-capitalist, from both a political and economic perspective. There was a system of law, but the individual chose which “government” they wished to be a part of. On an economic note, it was entirely free market as well. This society differed from Ancient Iceland in that Ancient Ireland was somewhat primal and depended more on family structure than anything else. However, exchange was not burdened by the government, so this can be accurately defined as a capitalist society. Ancient Ireland prospered for over 1,000 years until the British took over in the 17th century.
The Indian Ocean Trade network (8th – 18th century) is different from the other two examples, in that this was not a nation. These individuals participating in trade were totally different individuals, both ethnically and culturally. All of them came from different backgrounds and peacefully participated in uncontrolled trade for hundreds of years. It is magical to analyze when you think about it. Especially when one comes from the mindset of controlled economic systems being the way to prosperity. Meanwhile, Indian Ocean Trade was completely spontaneous and not controlled by any entity. It was simply people coming together to market goods, and sometimes services. It was simply humans voluntarily interacting. This is the magic of the free market, and the magic of capitalism. The Indian Ocean Trade network is a hallmark of capitalism and markets. I am actually surprised that more libertarian and capitalist writers don’t speak of Indian Ocean Trade because it is a true example of free trade.
Myth #3: (Industrial) Capitalism decreases Standard of Living in practice
As noted above, capitalism is voluntary association not inhibited by governmental violence. Many people that make this fallacy are speaking of industrialization in western Europe between the 18th and 19th centuries. While this was not the first example of capitalism, it was partially capitalistic, in that most of the governments allowed people to exchange. However, there was still some trade restrictions, licensing, and cartelization on markets. Still, this was an enormous step towards capitalism from mercantilism, which existed in Britain from roughly the 15th century through the 18th century. But the standard of living increased in Britain SHARPLY between the 18th and 20th centuries. The standard of living increased tremendously. According to a study by Clark in 2005, the wages in Britain between 1850 and 1900 increased by 50%. Also according to studies, the life expectancy increased sharply between 1800 and 1900.
Despite this, we cannot dwell on the successes of the industrial revolution in terms of Standard of Living. Today, economically freer states have much higher standards of living than more economically restricted states. According to a joint research study by the Fraser institute, states in the “most economically free” quartile had 3.27% economic growth on average, while the most economically manipulated quartile had a 1.17% economic growth on average. Also, the freest states have an average life expectancy of 80.1 years, while the most economically manipulated states have an average live expectancy of 63.1 years old. The economically free countries also had more civil and political rights.
But why is this? The reasoning behind this is that capitalism increases productivity. This is a known fact in the economic world. When individual productivity is increased, they are able to produce more, get paid more, and the entire macroeconomic system grows because goods and services are cheaper. When goods and services are cheaper for the consumer, they can purchase greater quantities, and they are able to acquire more wealth and more leisure. This is the primary cause of standard of living.
Myth #4: Capitalism makes the rich richer and the poor poorer
This probably the most common argument against capitalism. However, it is a myth. As noted above, capitalism is a free exchange of goods. A Marxist might say that some people can acquire more wealth and have more control over the economy. But this is only true in a statist system — where the government has any sort of control over the economy.
When a socialist cannot afford something they want, they get sad, and they blame capitalism. What is ignored by this individual is that without capitalistic properties in said economy is that 1). Their ‘economic system’ is not capitalist , 2). The product they desire probably wouldn’t exist, and 3) That produce is valued based on supply and demand.
When supply and demand are skewed in an individual’s favor, the economy is no longer balanced. There is absolutely no merit to the claim that capitalism makes the rich richer and the poor poorer. There is surely no evidence behind it. It is purely from basing opinions on emotion, and is a very difficult way to get a good understanding of an economic philosophy.
In the United States, there is a major wealth disparity problem. The rich on top are very wealthy, and the poor on the bottom are very poor. This is NOT due to free exchange, however! This issue is very complex, but to blame free exchange is fallacious and has no backing or evidence. The reason behind the wealth disparity will be discussed in another article, but the problem is government interference and regulation on businesses. It prevents small businesses from growing and prevents big businesses from hiring individuals and taking risks. This manipulation of the economy is, in fact, the opposite of capitalism!
Research from a joint study by the Fraser Institute shows that economically more free, or capitalist, states have a much more wealthy poor population than economically more poor. The gap is enormous, as well. According to this research, the most economically free states income earned by bottom 10% was on average 9,881 annually. In the most economically manipulated states, the average income earned by the bottom 10% was 1,629. This is an enormous difference and really tells about the source of wealth disparity.
Myth 5: Capitalism causes the business cycle
The business cycle is the constant boom and bust of an economy. An example is from the 1920’s and 30’s. In the 1920s, the Roaring 20’s, the economy was in a boom. People were spending a lot of money, interest rates were low, investments were being made, and every economic class was building up wealth. When interest rates are high, savings build up easier, so more people save their money. When interest rates are low, people don’t save, but instead spend their money.
The reason behind the Roaring 20’s was that interest rates were being suppressed by the government, which forced Americans to invest their money as opposed to saving it. With a flourishing number of investments being made, the number of consumer goods increasing. There was no real demand for these consumer goods, since it was artificially created by the state’s interference. This massive expansion of credit created a bubble which needed to burst, and it all came crashing down in 1929.
The crash in 1929 led to the Great Depression. The crash was entirely due to all of these investments being made without actual market demand to make up for it. The Federal Reserve suppressed interest rates so that Americans would invest their money, however, these interest rates weren’t based on true market demand. This is a blatant example of a manipulation of the economy and is the exact opposite of capitalism.