Many of our
discussions involve the economy, big government, and prosperity. So I decided to provide a brief synopsis of how wealth is created according to Adam Smith. His 5 volumes The Wealth of Nations is extremely difficult to read. I've managed to read at it a bit and read other books that explain it. From that reading I believe I've captured his core principles and can explain it and illustrate it with an example.
Principles of Wealth Creation:
First his 3 principles of wealth creation are
1. People work to meet their needs -- opponents and antagonists call this greed. It is not; people work to meet their needs, or simply put survive. Some people, say a Bill Gates, do this very well and achieve results beyond those essential to meeting their needs. What to do about it is the subject of another discussion.
2. Specialization -- people tend to find something and do it well. A butcher, for example, cuts meat to meet his needs. He doesn't do it out of charity or noble purposes. He simply tries to meet his needs. By doing something well other people are willing to pay him for his services (more precisely his time).
3. Trade -- People
specializing in different things trade. It is this trade that creates wealth.
The 3 principles above ARE the building blocks of the
free market. Let's look at an example of how it works.
Two people Socks and
Gloves specialize in knitting garments. Not surprisingly Socks makes socks and Gloves makes gloves. In their specialty each can make two of their garments in an hour. Socks can make a pair of gloves in 1 hour and Gloves can make a pair of socks in 1 hour.
wardrobes each needs a pair of socks AND a pair of gloves.
1. It will take them each 1-1/2 hours to make
both garments. Socks can knit a pair of socks in 30 minutes (1/2 hour) and a pair of gloves in an hour. So it is 1-1/2 hours to knit his own garments. It is the same for Gloves.
2. If they decide to trade
with each other then Gloves knits 2 pair of gloves in an hour and Socks knits two pair of socks in an hour. In one hour they make a trade and each has a pair of gloves and a pair of socks. By specialization and trade they managed to save 30 minutes each. That 30 minutes can be used to make or do other things. Wealth was created by specialization and Trade. Notice the connection between time and wealth -- that is the essence of wealth creation.
and Wealth Creation:
How does the
government change things? Well government is coercive and so its transactions create no wealth. There is no trade involved in a government transaction. It merely takes wealth that others create for its operations. As government's taking of wealth is approaching 50% of GDP (topic for another discussion) let's assume that 50% of every transaction is taken by the government.
Socks and Gloves do not trade then there is no wealth created and the government gets no revenue.
If they trade then the wealth
created is 1 hour (30 minutes for each of them). The government takes 15 minutes from each of them. Now the marginal benefit to Smith and Socks was reduced by 1/2. So they aren't as motivated to trade, but there is still some benefit and they will trade. Obviously, however, economic growth (more precisely wealth creation) was cut in half by the government's tax burden.
That is why taxation ALWAYS limits
growth. There is NO free lunch. If government is smaller then people benefit more from their trades and are therefore motivated to work harder and trade more. If the government is larger there is less motivation for people to work hard and get ahead. This explains why socialist countries are always poor and capitalist countries are always wealthy. It can be no other way.
the needs statement. When government transfers wealth then citizens receiving benefits have no need to specialize, work and trade. They become a drag on the economy just like the government. In fact from an economic perspective someone receiving government assistance and someone working for the government look exactly the same. The both slow the rate at which wealth is created.
policies MUST make a nation poorer on the principle of reducing wealth creation. That's why socialism fails every time it is tried. There are subtle points in wealth creation, but the key to remember here is that liberals like to transfer wealth -- take it from those who are trading and give it to those who are not. Thus the liberal policies of taxing some to give to others is ALWAYS harmful to economic activity and wealth creation.