No Morality, No Markets

October 1, 2008

"Little else is requisite to carry a state to the highest degree of opulence from the lowest barbarism, but peace, easy taxes, and a tolerable administration of justice."

Adam Smith had it basically right when he described the essential pre-conditions for widespread economic prosperity. But if the current financial upheaval teaches us anything, it should be how much market capitalism depends upon most people developing and adhering to some rather uncontroversial moral virtues.

Smith himself always understood this. That's why his Wealth of Nations of 1776 should always be read in light of his 1759 treatise, The Theory of Moral Sentiments.

Of course, numerous economic factors underlie the financial meltdown. These include loose monetary policy, massive bank overleveraging, and the subprime-mortgage implosion, not to mention the social-engineering programs pursued by the government-sponsored, New Deal-esque behemoths Fannie Mae and Freddie Mac.

No matter that free markets have raised literally hundreds of millions of Indians and Chinese out of poverty in recent decades. Instead, continental Europeans such as Germany's finance minister, Peer Steinbrueck, loudly proclaim that "Anglo-Saxon capitalism" is "finished", while blithely ignoring the fact that many of the EU's dirigiste economies are presently lurching toward, or are already in, recession.

A little discussed fact, however, is that the financial crisis has also been driven by widespread moral lapses that have manifested themselves just as much on "Main Street" as on Wall Street. One example is the subprime-mortgage fiasco. We now know that thousands of Main Street borrowers lied about their income, assets, and liabilities when applying for subprime loans. Likewise, many lenders failed to do even the most rudimentary checks on borrowers' credit history.

Recklessness also features among the sins underlying our present financial turmoil. On Main Street, thousands of investors mortgaged themselves to the hilt on the highly-imprudent assumption that house-prices could only continue to soar. Meanwhile on Wall Street, investment banks overleveraged themselves, sometimes at ratios of 30-to-1.

Then there is the rampant materialism that has apparently permeated Main Street and Wall Street to equal degrees. The thrifty, even parsimonious Adam Smith would have been appalled by the "I-want-it-all-now" mentality that has helped the personal savings-rate in America to hover around 0 percent since 2005 - the lowest rate since the Depression years of 1932 and 1933.

It's arguable that the same mindset encouraged many on Wall Street, anxious to enhance their bonus prospects, to sell securities they knew were based on collapsing subprime foundations to Main Street buyers blinded by the prospects of quick profits. Such actions aren't illegal. No-one, however, seems in a rush to ethically defend them.

None of these moral failures amount in themselves to conclusive arguments for re-regulation. They are, however, fuelling populist demands for a return to failed interventionist policies of the past. So far, most free-marketers have tried to stem re-regulation pressures by reminding everyone of the powerful economic arguments against such policies. But relatively few - if any - have engaged the financial meltdown's moral dimension.

One explanation for this silence could be that some market-advocates have embraced, consciously or otherwise, the soft relativism so prevalent in Western societies but which renders coherent moral analysis impossible. It may also be that many free-marketers have long been incapable of articulating more-than-utilitarian arguments for markets in particular and liberty in general.

Make no mistake: The modern case for the market - so painstakingly developed against interventionists of all stripes since Smith's time - has been set back years by the disarray on financial markets. The very same calamity, however, should remind us that if we're going to loosen the political bonds imposed on economic liberty by assorted New Dealers and Keynesians since the 1930s, then society's moral bonds require constant renewal and strengthening.

In short, we're learning the hard way that virtues like prudence, temperance, thrift, promise-keeping, honesty, and humility - not to mention a willingness not to do to others what we wouldn't want them to do to us - can't be optional-extras in communities that value economic freedom. If markets are going to work and appropriate limits on government power maintained, then society requires substantial reserves of moral capital.

At the end of his life, Adam Smith added an entirely new section entitled, "Of the Character of Virtue", to the sixth and final edition of his Theory of Moral Sentiments. His reasons for doing so are much debated. But perhaps Smith decided that as he glimpsed a world in which the spread of free markets was already beginning to diminish poverty, he needed to re-emphasize the importance of sound moral habits for societies that aspired to be both commercial and civilized.

It's advice worth heeding today.

Comments

Rose Catacutan: rcatacutan@strathmore.edu

Dr. Gregg,

I do agree that the success of the free market depends a lot on having many people who have the right moral values to run the economy. In my view, this basically means that we need people who are ready to put the interest of society at large over and above their self-interest. However many would argue that this is not the way a capitalist society is meant to function, because capitalism is based on the premise that self-interest is quite compatible with the achievement of societal welfare. I hope that future research be done to bring to light whether people are really capable of going beyond their self-interest for the sake of the common good.

Thank you for this article.

Roger D. McKinney: rdmckinney@cox.net

With all due respect for Dr. Gregg, I understood Smith’s two books differently. It seems to me that “Wealth of Nations” was the application of “Moral Sentiments” to the world of economics. And Smith’s answer to the problem of greed and other immoral acts was the free market. In a truly free market, greedy Scruges will not survive. Only those businessmen who strive to please their customers will survive. Competition within the institutions that protect private property from theft and fraud ensures that immoral businessmen will fail. Smith would say that if we find immorality thriving, then don’t blame the free market, look for state intervention that prevents the free market from keeping immorality in check.

Kenneth David Hall: khall39@yahoo.com

But relatively few - if any - have engaged the financial meltdown's moral dimension.

This is true.

I'd like to think it's true because -- after all -- "...there is none righteous. No, not one."

I'd like to believe that, but I think Dr. Gregg is more likely right in pointing to "soft relativism" and to the populist impulse (wherein greed appears to be some species of communicable disease, transmitted from plutocrats to jes' plain folks).

Well said, Dr. Gregg. I think it's time I took a fresh look at
A Theory of Corruption.

Best regards,
Ken

Johannes van de Ven: jvdv@swissconsultinggroup.com

Mr. Gregg’s points are well taken, especially his remarks on Adam Smith’s late addition to “Theory of Moral Sentiments.” By overemphasizing the theory of the invisible hand and the moral justification for the profit motive, Smith has erroneously been regarded as the ultimate defender of unfettered competition. The widespread belief that ever since Smith labor, land, and capital have become equivalents for wages, rent, and profit, however, is indeed not true. The misinterpretation of his theories of sentiment, sympathy, benevolence and prudence has moreover caused a widening of economics and ethics with dramatic consequences. According to Smith, justice is a derivative of perfect liberty, which in turn is a prerequisite for the well–functioning of the free–market system. Smith’s popular reputation as the rationalizer of greed is incorrect. Any inquiry on business ethics should therefore start with the father of capitalism. Mr. Gregg’s interpretation of Smith is a valuable contribution to today’s debate.

thomas sciarrotta: tomskee@optonline.net

I"M FEELING A LITTLE LIKE THE ODDBALL HERE! I"VE MANAGED TO KEEP MYSELF OUT OF BANKRUPCY FOR THE PAST THREE DECADES WITH A SMALL SUM IN THE BANK. I"VE TAKEN IT UPON MYSELF TO BE FINANCIALLY RESPONSIBLE. I FEEL LIKE I"M IN A ROW BOAT IN THE MIDDLE OF THE OCEAN WITH A BUNCH OF LOONS TRYING TO PUNCH A HOLE IN THE BOATS CORE!!

Phil Lundman: phil@lundman.com

Christ created the church, not a government, to make moral disciples of all nations. We the church are not getting the message across.

Geoff Burkart: geoffburkart@bellsouth.net

Dr. Gregg,

Your article is an outstanding summary for "what ails us" !
Having recently finished a thirty year career in business aviation, I can speak directly to corporate and individual excesses allowed when capitalism and morality are separated and nobody's looking. I am a conservative and fully endorse free market principals. However, since you can't legislate morality, we all have an individual responsibility to avoid extremes in every aspect of society. Greed and fear are some of humanities strongest motivators and recent economic upheavals in the US and soon the world remind me of an old saying, "the choices we make govern the lives we lead". One of the tethers I use in business is...just because we can, doesn't always mean we should.

My hope is, this wake up call moves us back toward personal and social responsibility. My fear is, because many of us are unwilling to stand fast, accept responsibility and pull together, we'll allow the government to infect and further control our lives.

God help us.

Geoff Burkart
Kennesaw, GA.

Dennis in the US: dmc1953@comcast.net

Amen and Amen!
This is only the second time I have seen in literature that understood and connected "the dots" between Smith's two great works. As a Ph.D. candidate, this factor is being highlighted in my dissertation that is currently under way.

Thank YOU for bringing this to the worlds attention!

Dennis

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