Re: Adam Smith vs Alexander Hamilton on Manufacturing

[zinov@xxxxxxxxxx]

> I don't follow this logic. Can you give an example with numbers? like $100
> rent, $200 in factory equipment, $300 in revenue, etc.

Imagine that you have $100 that you want to invest. There are two options, one
manufacturing, one agriculture, that will both give you $30 in profit. Suppose
that the former requires $5 in rent, while the latter requires $20 in rent.
The total revenue for the former (manufacturing) must be $135, and the latter,
$150 -- $100 to make up for the initial investment, plus $30 in profit each,
plus $5 in rent for the former, and $20 in rent for the latter.

So, for the two investments to be equally profitable despite paying more rent
in the one case, it must be that the one case is more productive of value. 
The assumption of equal profits to you is based on the fact that you would
presumably not want to invest in a less profitable industry. Agriculture is
more land-intensive, both in terms of time spent using the land, and area, and
so that is why rent is more.

If you consider the land to be capital, note that capital will be left unused
if you choose to invest in manufacturing rather than agriculture. This of
course assumes that there is unused land available.

However, even if actual investments in agriculture are generally more
productive than actual investments in manufacturing, it would not follow that
in all counterfactual situations agriculture investments would be more
productive. An investment in manufacturing might be more profitable, which
would make up for the lesser rent.

> Tariffs can definitely offer enough incentive to overcome averseness to
> risk. Imagine the USA imposed a 1-million percent tarriff on clothing, so
> that a T-shirt that would normally import for $10 now costs $100,000 per
> shirt. A lot of investors who previously would have been averse to
> manufacturing T-shirts in America, because of high costs of labor and strict
> regulations, would probably now be willing to do so given this virtual
> monopoly. Almost anyone can beat a competitor who has to pay a million
> percent tariff.

If the industry to be favoured is supposed to be more productive, then it
should already be more personally profitable. Hamilton suggests that despite
this, some people will still fail to invest in the more profitable industry
due to risk aversion. A tariff would not eliminate the risk, nor someone's
risk-averse disposition. (Hamilton also mentioned that people tend to stick to
what they are accustomed to; similar things can be said in that case.)

Of course, tariffs can make the industry temporarily more profitable, and we
might imagine that this increase in profits is enough to outweigh someone's
risk aversion. But note that we cannot make any economic predictions based on
this. You would need to show that for a particular industry, it is more
profitable but that people nonetheless refuse to invest in it for some other
reason, and that that reason would be outweighed by the increase in
profitability that the tariff brings.
  
Tariffs cannot without limit increase the profitability. If you enact an
1-million percent tariff on the t-shirt, no one is going to buy a t-shirt for
$100,000, they will just abstain from buying it altogether. A domestic
competitor can initially charge more for the t-shirt than they could in
absence of a tariff, but there is still a limit to how much they can charge.
Anyway, immediately enacting extreme tariffs or outright prohibitions would
lead to severe shortages -- people will need to go without that commodity; so
this is not a feasible economic policy. But less extreme tariffs would provide
less incentive to invest in the industry. (A tariff that gradually increases
to a prohibition will not provide the same incentive as an immediate
prohibition, since this allows time for domestic competitors to enter the
market.)

Even with a tariff, the sort of people who would invest will tend towards less
risk aversion. If someone is extremely risk averse, the person might prefer a
near-certain lesser profit to a very large but risky profit.

> Imagine for a moment you are the ruler of a desert kingdom that is rich in
> oil and other precious minerals like silver. Your country is very good at
> mining and exporting raw materials, but not good at agriculture.
> Fortunately, you have a trading partner, the Republic of Farmland. In
> Farmland, the government taxes its own citizens to subsidize farms. Their
> subsidies are so great that your country receives basically *unlimited free
> food*.
> 
> For a while, all is well. One day, however, Farmland declares war in the
> desert, and suddenly you have no food because all trade is halted due to
> war. No investor bothered to spend money on Desert Kingdom's agriculture.
> Farmland produces enough of its own oil supplies, so Farmland can weather
> the storm. Desert Kingdom, relying entirely on foreign trade for food, is
> starved into submission.

This is a separate sort of objection to the one I was responding to. Hamilton
was claiming that foreign artificial encouragements might be the reason that
people fail to invest in a more productive industry. The problem was that this
objection did nothing to respond to the argument.

Your response here is instead one of Hamilton's reasons offered in support of
artificial encouragements (it is not an objection to the argument against
artificial encouragements), namely the concern about 'independence and
security'. Later on in my initial reply, I briefly addressed this sort of
argument and acknowledged that it is stronger than the economic ones.

You say that Farmland produces enough of its own oil supplies, but this seems
unlikely if they were buying significant amounts of oil from Desert Kingdom.
This could be possible if, for example, Farmland exported all of its oil and
imported Desert Kingdom's oil (if the reason it did this was due to some sort
of oil processing, then this would not be relevant; it needs to be usable
oil); but unless Farmland set up this situation with the intention of making
Desert Kingdom dependent on Farmland, then presumably it would not produce
enough domestic oil. This also assumes that Desert Kingdom is highly reliant
on a single country and cannot get enough of its food from elsewhere.

But even if there is a benefit to be had from tariffs here, this would need to
be weighed against the harms. If the tariffs make Desert Kingdom much poorer,
that might outweigh the increased independence. Also, if the only reason
Desert Kingdom is being invaded is economic, then it could simply surrender
and give over its wealth, and end up no worse than if it had kept itself poor
to remain independent.

> Because some critical manufacturing industries require enormous
> amounts of capital that only government can facilitate. For example,
> semiconductor foundries, aerospace manufacturing, automotive factories, and
> weapons defense systems. These industries often require more capital than
> any single man can personally invest.
>
> None of the world's biggest projects (construction of continental railroad
> systems, interstate highways, global ocean shipping networks, space
> exploration, etc) ever happened spontaneously without government
> intervention.

There is no need to rely on the capital of a single man. The capitalists can
pool together their capital if there is an employment of it that is more
profitable.

If there is not enough capital in the country for the employment, then foreign
capital must be relied upon. The government can borrow money from foreign
investors, like Hamilton suggests, but note that private investors can do the
same thing.

As for the 'world's biggest projects', assuming that it is true that these
would not have happened in absence of government intervention, I doubt whether
your explanation is correct. The examples you gave are all plausibly to some
extent cases of public goods, which is a special case I discussed later on in
my initial reply.

Public goods are commodities/services whose benefits cannot easily be supplied
in proportion to payment. In the case of a road, for example, at least if it
is not a toll road, anyone can use it without restriction. So although some
people might be willing to pay for its construction, it might be that everyone
hopes that other people will pay for its construction, and so it does not get
built at all. If tolls can be implemented, the road could be privately owned
and managed. But if they are difficult to implement, which might be the case
for interstate highways using the technology of the past (it would be less
difficult now, with technology such as license plate readers), then it is
unlikely to be privately built; this same reasoning could apply to railroad
and shipping networks. Space exploration is another case where even if people
wanted it to be done, others who did not pay might benefit.

I am pretty sure that the term 'public good' is more recent than Smith so
Smith would not have used it, but Smith did acknowledge that there are cases,
such as military defence or roads, where government funding might be
necessary.

Even if an interstate highway system is not a public good, I suspect that if
a private company did try to implement such a project, there would be
significant public opposition since it would be a monopoly and would probably
require a lot of eminent domain.

I suspect that some big projects have been implemented privately, such as the
United States telephone network that was implemented by AT&T (although maybe
public funding was used? I have not looked into it). If so, then this suggests
that the size of the requisite capital is not the cause.


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