Thursday, July 11, 2024

Adam Smith's 'Effectual Demand'

"There is in every society or neighbourhood an ordinary or average rate, both of wages and profit, in every different employment of labour and stock...

There is likewise in every society or neighbourhood an ordinary or average rate of rent...

These ordinary or average rates may be called the natural rates of wages, profit and rent, at the time and place in which they commonly prevail.

When the price of any commodity is neither more nor less than what is sufficient to pay the rent of the land, the wages of the labour, and the profits of the stock employed in raising, preparing, and bringing it to market, according to their natural rates, the commodity is then sold for what may be called its natural price...

The actual price at which any commodity is commonly sold, is called its market price. It may either be above, or below, or exactly the same with its natural price.

The market price of every particular commodity is regulated by the proportion between the quantity which is actually brought to market, and the demand of those who are willing to pay the natural price of the commodity, or the whole value of the rent, labour, and profit, which must be paid in order to bring it thither. Such people may be called the effectual demanders, and their demand the effectual demand; since it maybe sufficient to effectuate the bringing of the commodity to market. It is different from the absolute demand. A very poor man may be said, in some sense, to have a demand for a coach and six; he might like to have it; but his demand is not an effectual demand, as the commodity can never be brought to market in order to satisfy it...

When the quantity brought to market is just sufficient to supply the effectual demand, and no more, the market price naturally comes to be either exactly, or as nearly as can be judged of, the same with the natural price. The whole quantity upon hand can be disposed of for this price, and can not be disposed of for more. The competition of the different dealers obliges them all to accept of this price, but does not oblige them to accept of less...

The natural price, therefore, is, as it were, the central price, to which the prices of all commodities are continually gravitating. Different accidents may sometimes keep them suspended a good deal above it, and sometimes force them down even somewhat below it. But whatever may be the obstacles which hinder them from settling in this centre of repose and continuance, they are constantly tending towards it.

The whole quantity of industry annually employed in order to bring any commodity to market, naturally suits itself in this manner to the effectual demand. It naturally aims at bringing always that precise quantity thither which may be sufficient to supply, and no more than supply, that demand." -- Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, Book I, Chapter VII.

I prefer the term 'prices of production' to Smith's 'natural price'. Smith calling something 'natural' does not mean he approves of it, but I prefer to avoid the argument.

I wish I had access to Alex M. Thomas' 2021 article in The European Journal of the History of Economic Thought.

Adam Smith speaks of supply and demand in the above quotation. These are levels of quantities. Neither is a schedule showing how the quantity quantity supplied and demand varies with prices. These supplies and demands are thus not the curves graphed in introductory courses in contemporary mainstream economics.

I think of 'effectual demand' as being dependent on income distribution. It depends on how landlords, for example, divide up their income among savings, consumption on luxury commodities, and consumption of staples.

Some literature builds on and critiques Smith's metaphor of market prices gravitating towards or around prices of production.

Anyways, suppose all industries are producing at the level of effectual demand. Market prices match prices of production. In this situation, the total labor force of the country is distributed among industries in definition proportions. "The masses of products corresponding to the different needs require[s] different and quantitatively determined masses of the total labor of society."

Karl Marx described these quantities of labor being expended in each industry as "socially necessary".

2 comments:

Anonymous said...

Hi Robert. I am happy to send you my EJHET paper; please drop an email to alexmthomas@gmail.com

Anonymous said...

Please, remember this brief comment: https://www.jstor.org/stable/1816860