THE LIBRARY
OF
THE UNIVERSITY
OF CALIFORNIA
IRVINE
GIFT OF
JERRY ROHACEK
G. G. rACLElS
OUTLINES OF ECONOMICS
THE MACMILLAN COMPANY
NEW YORK BOSTON CHICAGO
ATLANTA SAN FRANCISCO
MACMILLAN & CO., LIMITED
LONDON BOMBAY CALCUTTA
MELBOURNE
THE MACMILLAN CO. OF CANADA, LTD.
TORONTO
OUTLINES OF ECONOMICS
(REVISED EDITION)
RICHARD T. JELY, PH.D., LL.D.
PROFESSOR OF POLITICAL ECONOMY IN THE UNIVERSITY OF WISCONSIN
REVISED AND ENLARGED BY
THE AUTHOR
AND
THOMAS S. ADAMS, PH.D.
PROFESSOR OF POLITICAL ECONOMY IN THE UNIVERSITY
OF WISCONSIN
MAX O. LORENZ, PH.D.
ASSISTANT PROFESSOR OF POLITICAL ECONOMY IN THE UNIVERSITY
OF WISCONSIN; DEPUTY COMMISSIONER IN THE WISCONSIN
BUREAU OF LABOR AND INDUSTRIAL STATISTICS
ALLYN A. YOUNG, PH.D.
PROFESSOR OF ECONOMICS IN LELAND STANFORD JUNIOR
UNIVERSITY
THE MACMILLAN COMPANY
1909
All rights reserved
COPYRIGHT, 1893,
BY HUNT & EATON.
COPYRIGHT, 1908,
BY THE MACMILLAN COMPANY.
First published elsewhere. Reprinted May, 1900; July, October,
1901; August, 1903; July, September, 1904; July, 1905; January,
August, 1906; July, 1907; April, 1908.
New edition, revised and enlarged, September, October, 1908;
January, August, 1909.
Xoriuooti
J. 8. Cashing Co. Berwick & Smith Co.
Norwood, Mass., U.S.A.
PREFACE
SINCE the first edition of the Outlines of Economics was pub-
lished fifteen years ago, there has been considerable progress in
economic discussion. In this revision an attempt has been made
to include so much of the new thought as seems to have established
itself. No chapters remain unaltered, most of them have been
entirely rewritten, and some new ones have been added. But the
plan of the former edition has been retained. This book differs
from the Elementary Principles of Economics, published in 1904
by Ely and Wicker, in that it is a more advanced treatise, and in-
tended primarily for college and university use; whereas the latter,
although used in a number of higher institutions, is intended pri-
marily for high schools.
Four persons have taken part in this revision, but a free inter-
change of criticism has, it is hoped, resulted in a unified product.
Numerous passages, amounting in the aggregate to many pages,
have been printed in smaller type. Such are the passages which,
either from their greater difficulty or from their subsidiary char-
acter, may best be omitted by a teacher pressed for time. More-
over, for classes in which the time limits are too narrow to permit
careful study of the whole text, it may be found expedient to omit
Book III, on Public Finance ; while, on the other hand, some
teachers may wish to take this Book up for independent study.
Considerable attention has been given to the questions at the
close of each chapter, and an endeavor has been made to frame
these so as to require a mastery of principles to answer them.
Perusal of the text alone will not enable one to answer them all.
In some cases it will be necessary to use the references to literature
given at the close of chapters. There are also cases in which the
correct answer must be a matter open to differences of opinion.
It is hoped and believed that the questions will give rise to fruitful
class discussions.
VI PREFACE
The aim of the authors has been to cover the entire field of eco-
nomics, feeling that in this way they best serve the purposes of
those students who are going to carry their studies further as well
as those whose systematic school study of economics will end with
the present treatise.
At certain points in the discussion of distribution, use has been
made of the so-called "productivity theory." In order that there
may be no misapprehension, it may be well to say here, what is
repeated in the text, that in our view this theory has little or no
ethical significance, and that its principal value is as an expeditious
method of approaching the supply and demand theory, with which
it is in complete harmony. When properly handled, it has the
pedagogical virtue of leading the student directly to a study of the
innumerable forces which condition supply and demand. But to
regard the productivity theory as an end, is to mistake the problem
for its solution; and to pass from this theory lightly to the imme-
diate solution of those problems which the theory of distribution
is designed to explain, is to offer, in place of scientific explanation,
a mass of pretentious platitudes.
Valuable suggestions have been received from Dr. H. C. Taylor
and from Dr. W. H. Price, both of the University of Wisconsin.
In conclusion, I wish to express my high appreciation of the
work of my friends and colleagues in the revision of this book.
RICHARD T. ELY.
MADISON, WISCONSIN,
July, 1908.
CONTENTS
BOOK I. INTRODUCTION
PACK
PREFACE v
CHAPTER I. THE NATURE AND SCOPE OF ECONOMICS
Diversity of economic study, 3 ; Definition of economics, 4 ; A
social science, 5 ; Studies man in process of development, 6 ; Econo-
mic laws, 7 ; Principal divisions of economics, 15.
CHAPTER II. THE CHARACTERISTICS OF THE PRESENT ECONOMIC
SYSTEM
Human and physical conditions of economic activity, 16 ; Private
enterprise and state activity, 1 6 ; Division of labor and exchange,
18; Mutual dependence, 19; Economic classes, 19 ; Private prop-
erty, 20; Inheritance, 21; Contract, 21 ; Vested interests, 22;
Freedom, 23 ; Competition and markets, 24 ; Cooperation, 26 ;
Monopoly, 26 ; Custom, 27 ; Authority and benevolence, 27.
CHAPTER III. THE EVOLUTION OF ECONOMIC SOCIETY
Basis of the economic stages, 29 ; Direct appropriation, 30 ;
Primitive man, 31; Pastoral stage, 32; Agricultural stage, 33;
Manorial economy in England, 34 ; Handicraft stage, 35 ; Gilds,
35 ; Domestic system, 36 ; Agricultural changes, 37 ; The mercan-
tile system, 37 ; Patents of monopoly, 38 ; Industrial stage, 39 ;
Other classifications, 39.
CHAPTER IV. THE EVOLUTION OF ECONOMIC SOCIETY (Continued}
England in 1760, 43 ; Revolt against restrictions, 43 ; Mechani-
cal inventions, 44 ; Agricultural changes, 46 ; Effects of industrial
revolution, 47 ; The factory system, 47 ; Expansion of markets and
industrial specialization, 48 ; Evils of the transition, 48 ; Competi-
tion and laissez-faire, 49 ; Reaction against the passive policy, 50 ;
Quality of goods, 50 ; Protection of labor, 51 ; Labor organizations,
53 ; Extension of government enterprise, 54..
Viii CONTENTS
CHAPTER V. THE ECONOMIC DEVELOPMENT OF THE UNITED STATES
Economic stages in American industrial history, 56 ; Sectional-
ism, 57 ; Characteristics of the American people, 58 ; Growth of
population, 59 ; Changes in the birth rate, 60 ; Slavery and the
negro problem, 6l ; Immigration, 62 ; Natural resources, 66.
CHAPTER VI. THE ECONOMIC DEVELOPMENT OF THE UNITED
STATES {Continued")
Mercantilism in America, 70; American industries in 1776, 72 ;
The Industrial Revolution in America, 72 ; The development of
agriculture, 75 ; Manufactures, 76 ; Transportation, 80 ; The labor
movement, 83 ; State regulation of industry, 86.
BOOK II. PRINCIPLES AND PROBLEMS
PART I. INTRODUCTION
CHAPTER VII. ELEMENTARY CONCEPTS
Motives in economic activity, 93 ; Utility, 95 ; Free and econo-
mic goods, 95; Effort, 96; Waiting, 96; Services, 96; Personal
qualities as goods, 97 ; Wealth, 98 ; Wealth and income, 98 ; In-
dividual and society, 98 ; Wealth and value, 99 ; Capital and other
forms of wealth, 100 ; Capital goods and capital value, loo ; Social
and individual capital, 101 ; National wealth and national divi-
dend, 101.
PART II. CONSUMPTION
CHAPTER VIII. CONSUMPTION
Consumption denned, 106 ; Productive and final consumption,
106 ; Human wants, 107 ; Law of diminishing utility, 107 ; Differ-
ent uses for the same commodity, 108 ; Marginal utility, 108 ; The
economic order of consumption, 1 10 ; Future wants, 1 1 1 ; Alleged
present consumption of future products, H2; Consumption and
saving, 113; Luxury, 113; Ideal distribution of wealth, 114;
Harmful consumption, 116; Statistics of consumption, 117.
PART III. PRODUCTION
CHAPTER IX. PRODUCTION
Production defined, 121 ; The factors of production, 122 ; Saving
and capital formation, 123 ; Production and sacrifice, 124; Cost of
production and expense of production, 125 ; Separation in owner-
ship and organization of factors, 126 ; The undertaker, 127 ; Kinds
CONTENTS
of division of labor, 127; Advantages of division of labor, 128;
Effect upon the worker and the product, 129; Territorial division
of labor, 131 ; Productive organization of the American people, 132.
CHAPTER X. BUSINESS ORGANIZATION
Nature of business units, 136; The corporation charter, 141;
Corporation capital and securities, 143 ; Overcapitalization, 144 ;
Forms of capitalization, 146 ; Corporation management, 147 ; Ad-
vantages and social aspects of corporations, 148; Trusts, 150;
Publicity, 153; Federal control, 154.
PART IV. VALUE AND EXCHANGE
CHAPTER XI. VALUE AND PRICE
Meaning and significance of value, 156 ; The market, 158 ; Con-
ditions of competitive valuation, 159; Supply and demand, 160;
Nature of demand, 160; Elasticity of demand, 163; Consumer's
surplus, 164; Nature of supply, 165 ; The determination of price,
167 ; Producer's surplus, 169.
CHAPTER XII. VALUE AND PRICE {Continued}
Normal value, 170; Different conditions of supply, 172; Con-
stant and variable expenses, 174; Joint expenses of production,
177; Surplus of bargaining, 177; Non-reproducible goods, 178;
Monopoly value, 1 79 ; Retail prices, 1 79 ; Public authority and
value, 179; Imputed value, 181 ; Valuation of production goods,
182; Other theories of value, 183.
CHAPTER XIII. MONOPOLY
The idea of monopoly, 187; Partial monopoly, 191 ; Classifica-
tion and causes, 192 ; Public and private, 193 ; Social and natural,
194 ; Local, national, and international, 196 ; monopoly price, 197 ;
Law of monopoly price, 201 ; Class price, 202 ; Monopoly price,
high price, 206 ; Monopolies and distribution of wealth, 208 ;
Public policy toward monopolies, 209 ; Relation of monopoly to
trusts, 211.
CHAPTER XIV. MONEY
Definitions, 214 ; Metallic money, 216 ; Coinage, 217; Seignior-
age, 217; The standard of value, 221; Limited coinage, 224;
Bimetallism, 225 ; The gold standard, 234 ; Government paper
money, 234 ; Colonial and Revolutionary bills of credit, 235 ; The
greenbacks, 236 ; Hat money, 241.
CONTENTS
CHAPTER XV CREDIT AND BANKING
Credit transactions, 243 ; Personal credit, 246 ; Bank credit, 247 ;
Bank notes, 250 ; State banks of issue, 250 ; The national banking
system, 251; The reserve system, 252; The New York money
market, 253 ; Speculation and the New York money market, 255 ;
The independent treasury system, 257 ; The movement of money,
258 ; Elastic currency, 260 ; A central bank, 262 ; State and pri-
vate banks, 263.
CHAPTER XVI. OTHER PROBLEMS IN MONEY AND BANKING
Crises, 267 ; Effects of changes in the value of money, 270 ;
The standard of deferred payments, 271 ; Index numbers, 272;
The value of money, 275 ; The production of gold, 280.
CHAPTER XVII. INTERNATIONAL TRADE
Nature and advantages of international trade, 284 ; Law of com-
parative costs, 285 ; Restrictions on international trade, 286 ; Bal-
ance of trade, 288 ; Foreign exchange, 292 ; Regulation of gold
supply, 296.
CHAPTER XVIII. PROTECTION AND FREE TRADE
The case for protection, 300 ; Arguments of free-traders, 305 ;
Conclusions, 311.
PART V. DISTRIBUTION
CHAPTER XIX. DISTRIBUTION AS AN ECONOMIC PROBLEM
Distribution controlled by existing institutions, 317; The dis-
tributive process, 318; Distribution as valuation, 319; Law of
diminishing productivity, 319-326 ; Marginal productivity, 326-
331 ; Marginal productivity and valuation, 331 ; Social aspects of
diminishing productivity, 332.
CHAPTER XX. THE PERSONAL DISTRIBUTION OF WEALTH
Wealth and income, 335 ; Absolute and relative well being, 335 ;
Concentration of wealth and large scale production, 335 ; Methods
of measuring concentration of wealth and income, 336 ; Statistics
of distribution, 337 ; Causes of poverty and riches, 341 ; The diffu-
sion of wealth, 343 ; Modifying wealth acquisition, 345.
CHAPTER XXI. THE RENT OF LAND
The services of land, 349 ; Rent under uniform intensivity of cul-
tivation, 351; Rent under actual conditions, 354; The different
uses of land, 357 ; The capitalization of rent, 359 ; Rent and social
progress, 360 ; The unearned increment, 363 ; Urban lands, 365.
CONTENTS xi
CHAPTER XXII. THE WAGES OF LABOR
Wages as the price of labor, 367 ; Demand for labor, 368 ; Labor
saving machinery, 369 ; Supply of labor, 371 ; Growth of popula-
tion, 373 ; Subsistence theory of wages, 376 ; The standard of life
and wages, 377 ; Supply of labor in different occupations, 380 ;
The wage contract, 381 ; Wages and efficiency, 382.
CHAPTER XXIII. LABOR PROBLEMS
Types of labor organizations, 387 ; Jurisdiction disputes, 388 ;
Economic justification of labor organizations, 389 ; Labor organiza-
tions and monopoly, 390 ; Methods and policies of labor organiza-
tions, 391 ; Educational and fraternal activities, 394 ; The strike,
395 ; Employers' associations, 400 ; Agencies of industrial peace,
401 ; Trade arbitration, 403 ; Voluntary arbitration, 404 ; Com-
pulsory arbitration, 404 ; Profit sharing, 406 ; Industrial democracy,
408 ; Cooperation, 409.
CHAPTER XXIV. INTEREST
Definition, 416; Inadequate explanations, 417; Why interest
can be paid, 418 ; The necessity of interest, 419 ; The investment
and replacement of capital, 420-428 ; The expense and value of
capital, 428 ; Capital and land, 431 ; Capital and consumption
goods, 434 ; The rate of interest, 435 ; Gross and net interest, 437.
CHAPTER XXV. PROFITS
The entrepreneur's wage, 440; Speculative gains, 441 ; Chance
gains, 445 ; Gains of bargaining, 446 ; Non-competitive profits,
446 ; The social dividend, 448.
PART VI. THE RELATION OF THE STATE TO INDUSTRY
CHAPTER XXVI. NECESSITY OF STATE ACTIVITY
The state and the meaning of state activity, 458 ; State and gov-
ernment, 459 ; Purity and efficiency of the state in relation to eco-
nomic activity, 459 ; general statement of the necessity of state
activity, 460 ; The state and the fundamental institutions of society,
460 ; Property, private and public, 461 ; trade-marks, copyrights,
and patents, 463 ; Public property, 465 ; Inheritance of property,
466 ; Contract, 466 ; Ethical level of competition, 467 ; The con-
sumer, 467 ; Monopolies, government ownership, etc., 468 ; The
state as the guardian of the permanent interests of society, 468.
xii CONTENTS
CHAFFER XXVII. TRANSPORTATION
Scope and significance, 471 ; The railway system of the United
States, 472 ; Railway competition, 473 ; Pooling and consolidation,
475 ; The movement of rates, 475 ; The level of rates, 477 ; Rela-
tive rates, 478 ; Distance, 480 ; Government ownership, 479 ;
Regulation of railways, 481 ; The Interstate Commerce Commis-
sion, 483.
CHAPTER XXVIII. INSURANCE
Nature of insurance, 485 ; Law of probabilities, 486 ; Origin and
development, 486 ; Forms of insurance organization, 489 ; Life
tables, 490; The reserve, 491 ; The surplus, 491 ; Endowments,
492 ; Industrial insurance, 493 ; State insurance, 493 ; State regu-
lation, 494.
CHAPTER XXIX. ECONOMIC ACTIVITIES OF MUNICIPALITIES
Importance of municipal activity, 496 ; Character of municipal
activities, 498 ; Protection through competition, 501 ; Methods of
public regulation, 503 ; Municipal management, 507 ; Municipal
home rule, 512.
CHAPTER XXX. SOCIALISM
Socialism defined, 515; Distributive justice, 515; Varieties of
socialism, 516 ; Communism, 519 ; Socialism an extension of exist-
ing institutions, 519; The strength of socialism, 520; The weak-
ness of socialism, 521 ; Social reform, 523 ; The socialist movement,
524 ; Anarchism, 525.
CHAPTER XXXI. AGRICULTURAL PROBLEMS
Size of farms, 528 ; Ownership and tenancy, 533'; Farm labor,
536 ; Farm indebtedness and agricultural credit, 538 ; Tenancy vs.
encumbered ownership, 540 ; Marketing of farm products, 543 ;
Speculation, 546 ; Education and organization, 548.
BOOK III. PUBLIC FINANCE
CHAPTER XXXII. PUBLIC EXPENDITURES
Nature and significance of public finance, 555 ; Expenditures of
public and private economics contrasted, 558; The proper propor-
tion between the total income of society and public expenditures,
560; Economy vs. parsimony, 564; Historical development, 566;
Development of public expenditures with respect to regularity and
irregularity, 570; Terms used in public expenditures, 572; Classi-
fication of public expenditures, 573.
CONTENTS xiii
CHAFFER XXXIII. PUBLIC REVENUES FROM LOANS AND
GOVERNMENT OWNERSHIP
Classification, 580 ; Temporary revenues and public debts, 582 ;
Public domains, 586; Land policy of the United States, 587; Forest
lands, 589; Mineral lands, 591; Success of our land policy, 593;
Land nationalization and municipalization, public industries, 595;
Public industries, 597.
CHAPTER XXXIV. PUBLIC REVENUES: DERIVATIVE REVENUES,
FEES, SPECIAL ASSESSMENTS, AND TAXES
Definitions, 605; Fees, 606; Special assessments, 608; Taxes,
610; Justice in taxation, 612; Progressive taxation, 616; The
shifting of taxes, 619.
CHAPTER XXXV. PUBLIC REVENUES: FEDERAL, STATE, AND
LOCAL TAXES
Direct and indirect taxes, 625; Customs duties, 627; Internal
revenue duties, 631 ; Taxes on transactions, 633; Inheritance taxes,
637; General property tax, 640; Corporation taxes, 645; Business
and license taxes, 648; Poll taxes, 649; Federal control of taxa-
tion of interstate commerce, 650; Separation of sources of state and
local revenues, 651.
BOOK IV. HISTORY OF ECONOMIC
THOUGHT
CHAPTER XXXVI. HISTORY OF ECONOMIC THOUGHT
The development of economic thought, 657 ; Economic ideas in
the ancient world, 658 ; The Middle Ages, 661 ; Modern times,
662 ; Adam Smith, 664 ; The classical school, 665 ; Socialism,
668 ; The sociologists, 669 ; The historical school, 669 ; The eco-
nomic optimists, 670 ; Early American economists, 672 ; The
Austrian school, 673 ; Present condition of economic thought, 674.
APPENDIX A : Statistics of Public Expenditure 677
APPENDIX B : Subjects for Essays and Courses of Reading . . . 685
INDEX 697
BOOK I
INTRODUCTION
OUTLINES OF ECONOMICS
CHAPTER I
THE NATURE AND SCOPE OF ECONOMICS
THE most striking characteristics of the great field of knowledge
the Outlines of which we attempt to sketch in the present volume
are its rich diversity and spacious amplitude. Starting from psychol-
ogy in its analysis of the human needs which explain or condition
wealth, it traverses the entire field of social activities and institu-
tions arising from man's efforts to supply his material needs. It
touches on one side the physical sciences from which it borrows
some of its most fundamental principles; occupies joint terri-
tory at places with politics, ethics, and law, although their
respective jurisdictions are in the main distinct; and forms at
once the most fertile and most thoroughly developed province of
the broad science of human society. Within its borders, if we
may continue to compare the scientific possibilities of economics
with the natural resources of an opulent territory, opportunity is
offered for the exercise of every mental aptitude and every scientific
method. The historian's gift is needed to unravel the past and
trace the development of the industrial institutions whose present-
day problems, in turn, offer indefinite scope for the studies of the
more practical student with a taste for administration or business
management. For the legal mind there are the subtle problems
of property, inheritance, labor legislation, and corporation control;
for the mathematically inclined, insurance and modern statistics;
for students with practical political interests, the tariff, currency
reform, and a score of important problems in which economics
and politics are inextricably interwoven; for the philanthropic,
unemployment, accident insurance, and a number of social prob-
3
4 OUTLINES OF ECONOMICS
lems growing out of the maladjustments of modern industry.
Animating the entire subject, blended of course with the love of
truth for truth's sake common to all sciences, is the persistent
hope that by systematic study we may eventually abolish the ma-
terial poverty which deadens and dwarfs the lives of millions of
our fellows. Economics is a science, but something more than a
science; a science shot through with the infinite variety of human
life, calling not only for systematic, ordered thinking, but for
human sympathy, imagination, and in an unusual degree for the
saving grace of common sense.
To define such a subject adequately in a few sentences is mani-
festly impossible. It is frequently said that economics treats of
man's efforts to earn a living, and this definition is not inaccurate
if by "man" we understand "mankind," and if we fully appre-
ciate that the individual's efforts to turn an honest penny's profit
receive but little attention in comparison with the community's
efforts to feed, clothe, and shelter itself. Satisfaction of social
need, and not individual profit, is the objective point of the science.
So, similarly, economics has been characterized as the philosophy
of human industry; and this description is illuminating provided
we interpret "industry" broadly enough. Even the old tradi-
tional definition, that economics is the science of wealth, is true
enough if we clearly understand that there can be no wealth with-
out man, and that the science which deals with wealth, so far
from being a "gospel of mammon," necessarily begins and ends
in the study of man. As we prefer to define it, however, econo-
mics is the science which treats of those social phenomena that are
due to the wealth-getting and wealth-using activities of man.
Economics treats of Man. The supreme importance of man
in the study of wealth has not always been appreciated by those
who have expounded the science. Too often they have considered
man simply as a producer of wealth, the one "by whom" the
necessaries, conveniences, and luxuries of life are created, whereas
the infinitely greater truth is that man is the one "for whom"
they are all produced. Of course no one denies this truth, but
one might almost as well deny it as to leave it out of account.
The result of such neglect is that men devise with great skill
THE NATURE AND SCOPE OF ECONOMICS 5
rules by which man may be made the best possible manufactur-
ing machine. It sometimes quite escapes the notice of these
persons that in making man the best possible manufacturing
machine they may make him a very poor sort of a man; that in
teaching him to supply his wants very bountifully they may pre-
vent his developing and correcting those same wants. They for-
get that there are two kinds of poverty one a lack of goods for
the higher wants, the other a lack of wants for the higher goods.
To become rich in goods while losing at the same time the power
to profit by them is unfortunately one of the commonest retro-
gressions in human experience. We do not mean that the whole
problem of human development is the subject of economics, but
simply that manhood, rounded human development, is the goal
of all social sciences, and none must consider their subject so
narrowly as to exclude that object.
Another common mistake has been to regard as of chief im-
portance the economic activities of one particular class, especially
the employer. Other men were treated simply as "a factor in
production." An English writer speaks of dear labor as one of
the chief obstacles to England's economic prosperity. Could
anything be more utterly an oversight of general human well-
being? Dear labor should be the very goal of England's eco-
nomic effort, for that means abundant supply of the wants of the
great mass of her people ; and the fact that labor is dear, so far
from being an obstacle to prosperity, is the very proof and sub-
stance of that prosperity. A glance at history indicates that men
have made these mistakes not only in theory but in practice.
Industries have been developed to majestic proportions while
man was sinking into deeper degradation ; wealth has grown
at the expense of that human weal in whose service it won its
name.
Economics treats of Man in Society. This is one of those
truisms which only history can make real to us. As we pass from
the savage and cannibal, up through all the stages of development,
we find an ever-increasing interdependence among men. Man is
least dependent when he wants least, cares least, has least, knows
least, and is least. With every betterment of condition and char-
6 OUTLINES OF ECONOMICS
acter he/ is more dependent than before, more dependent and yet
more free. The beginnings of barter are a confession of mutual
need; the coining of money is a declaration of dependence to all
men. We look with pride upon a century of progress, but that
progress has consisted in little else than a growth of dependence,
an ever-increasing departure from that rude kind of literal self-
help in which each one does everything for himself. Our fathers
drew water, each for himself, in "the moss-covered bucket," while
our mothers dipped candles for the evening's light. If one was
negligent, the rest did not suffer. To-day a network of pipes radi-
ate from a common center to enter a thousand households. An
engineer makes a blunder at the station, and thousands are in
darkness or drought. Progress is a passage from independence
to dependence, from distrust to confidence, from hostility to amity,
from helplessness to helpfulness, while the great law of social
solidarity gains ever-increasing importance. Our science, then,
is interested primarily in man in his relations to others, and not
in man by himself. Moreover, as a science which studies the pres-
ent in order that it may predict and prepare for the future, and
discovering that interdependence is the law of progress, it must
not hesitate to shape its principles with reference to a solidarity
which shall grow more rather than less, stronger rather than
weaker.
Economics treats of Man as in Process of Development. Few
truths are more easily admitted or more persistently ignored than
that of change in human life and condition. History makes it
real. Man now wanders about by force of necessity and age-long
habit, now starves rather than be moved from his home. Land
is now free to all, now parceled out with well-nigh absolute right
of individual possession. The seemingly eternal features of the
social structure are gone in a few generations. Nothing so invali-
dates theories, laws, general principles, institutions, and enter-
prises as this great law of change of which we seldom take full
account. Take, for instance, bequests. Nothing is commoner
than for a man to leave a legacy under specified and detailed
regulations, binding for all time. One leaves money to endow a
religious service in a language which in a few generations no one
THE NATURE AND SCOPE OF ECONOMICS 7
understands; another founds a college to teach certain doctrines
which in a century no one believes; and so on indefinitely. These
and a thousand other laborious efforts of statesman, warrior, or
philosopher quite lose their worth for the future because their
authors assumed that the future would be like their present. Even
the wages system and the division between capital and labor which
seem rooted in the constitution of society are scarcely two centu-
ries old as a general system. One must never forget in the study
of economics that the phenomena with which it deals are per-
vaded by the spirit of life, moving forward or backward, pro-
gressing or decaying, under those influences which control the rise
and fall of social institutions. The science is biological rather
than mechanical.
The Laws with which Economics Deals. The evolutionary
character and complexity of economic phenomena, which account
for much of the charm of the subject, endow it also with unusual
difficulties. Conclusions true for one generation are invalid in
the next. Terms and definitions appropriate to one stage of in-
dustry are misleading in a succeeding stage. Generalizations valid
for one nation and government are inapplicable to another. Even
those laws or uniformities which the science prizes as the finest
product of its research are but statements of probabilities dec-
larations of what is most likely to occur for the mass of men in
the long run under certain specified circumstances.
In no department of knowledge, consequently, is there greater need of
temperate statement and of that humility of mind which is the surest safe-
guard against bigotry and dogmatism. No system of economics is appli-
cable unchanged to all times and all places : the premises of the arguments
change ; the ingredients of nearly every problem present themselves in differ-
ent proportions; and the conditions of almost every question vary from
country to country and from generation to generation. The student must not
expect rules of thumb by which he can decide offhand the economic problems
of the particular city or country district in which he is for the moment inter-
ested. No general treatise on economics can authoritatively decide the
practical problems of particular times and places; although the economist,
before all other students, is forced to deal with practical problems. What
such a treatise can do is to point out mistakes of logic common in the current
discussions of economic questions, call attention to obscure factors some-
times of great importance which the practical man is likely to overlook,
8 OUTLINES OF ECONOMICS
give solutions of typical problems which are likely to arise, and thus afford a
training which will assist the student in solving practical problems for himself.
The peculiar and distinctive office of the economic scientist, however, is
to emphasize the less tangible truths, the remoter consequences, the deeper
and consequently less obvious forces of economic society. The impulses
of the moment, the immediate demands of the hour, the present "fact" that
stares us in the face (and sometimes blinds us), are not likely to lack vigorous
champions ; and to preserve the balance there is need of a craft of thinkers
far enough removed from the battle to preserve the wider outlook, mindful
of the lessons of the past, jealous for the rights of the future, insistent upon
the less obvious truths. This is why economics so frequently appears to
the practical man strained and academic. This impression arises from a
difference of emphasis which in the main is as salutary as it is inevitable.
The academic quality of the economist's work arises sometimes from igno-
rance, sometimes from pedantry, but more frequently from his courageous
insistence upon the importance of the less tangible truths and the distant
consequences of present action.
Is not economics, then, a science based upon natural law ? The
question is largely a verbal one. What do we mean by natural
law? In the narrowest sense natural laws are the habits of na-
ture which know absolutely no variation. Such are gravitation
and chemical affinity; and the sciences based upon such laws
astronomy, physics, and chemistry were the first to develop,
and have attained a maximum degree of exactitude. The term
" science " is sometimes used in a way to imply only sciences of
this character. These sciences are more properly known as
exact sciences, and they are characterized by the fact that the
relations with which they deal can usually be expressed quanti-
tatively.
When we come in contact with life, however, and especially
with its higher forms, the exactness with which an astronomer
predicts an eclipse or a chemist anticipates a reaction becomes
impossible. Not that life is without laws; very far from it. There
is, in the first place, the basis of physical nature, with its perfect
regularity, upon which all life rests and to which it must conform.
Then, too, there are laws governing life directly and pertaining to
it. These form the subject of the group of sciences known as
biology. We must remember, however, that all we can say of
natural laws is that they are habits, not compulsory necessities of
THE NATURE AND SCOPE OF ECONOMICS 9
nature, and the laws of life seem to differ from those of inanimate
nature in that they are not quite invariable habits. Variability
seems to be inherent in life, increasing as life rises in the scale of
development. It is often assumed, to be sure, that these laws are
as invariable as any other, and that this seeming variability is
only a greater complexity which we do not yet understand. How-
ever that may be, the result is the same for the present. The sci-
ences of life are not exact in the sense we have defined. We must
further note that in so far as a science deals with facts which seem
to be governed by no invariable law, or whose law has not been
discovered, it must content itself with a description of this part
of its subject. Thus we have the term " descriptive science." We
might better speak of the descriptive part of a science, for all
sciences are able in part to reduce their facts to law.
What has been said of the sciences dealing with life applies to
an even greater extent to those sciences which deal with man. It
is perfectly true, of course, that within certain limits man is gov-
erned by absolutely invariable laws. He is as much bound by
gravitation as anything else, and if he falls over a precipice, we
can predict the results as certainly as though a stone fell over.
But, without entering the bog of discussion as to the nature of
human freedom, we may safely assume, for practical purposes,
that man is also, within certain limits, a law unto himself. No-
where do we find an element of variability so great and so seem-
ingly ultimate as here. We must remember, therefore, that the
sciences which deal with man deal with a being who is modified
by his environment, but who has the power of modifying that envi-
ronment by his own conscious effort.
Let us consider very carefully what this means. It does not
mean simply that man modifies his environment because he has
been modified by it and so reacts upon it, just as things do when
they come in contact. If we accept this view, we shall come to
Herbert Spencer's theory of natural selection. The forces at work
accomplish their own results, according to this theory, whether
man will or will not, simply by natural action and reaction. This
implies that man is modified by his environment, and that he in
turn modifies that environment without conscious effort. This
10 OUTLINES OF ECONOMICS
theory is based on an assumption that man has no power of initi-
ating an influence, and consistently concludes that social develop-
ment, like geological development, must be left to work itself out.
Mr. Spencer, however, goes farther, and stoutly maintains that
man, by conscious effort, especially by collective or state effort,
not only does not help this development, but actually hinders it.
In this the whole theory is abandoned, for it is plain that if man
by conscious effort can hinder a process, he can help that process
in the same way, if he only has enough wisdom and sense. These
it is the purpose of science to give him.
In opposition to the theory of natural selection, or unconscious
development, has been urged the theory of artificial selection, or
conscious development. Ages of natural selection made of the
potato a lean, watery, unpalatable tuber; a few years of artificial
selection made it a valuable food product and a table delicacy.
Compare the development of domestic animals in the last few
years, under man's conscious guidance, with then- slow and meager
development in a state of nature. Man has precisely this power
of consciously modifying the natural and artificial elements of his
environment, and this power continually enlarges.
So, when we ask if economics deals with natural laws, we really
ask whether this being, whose activity in a certain line we are
studying, is governed by such laws. It we mean by this to ask
whether his action is characterized by absolutely invariable hab-
its, like the forces of physics, we must plainly answer, no. If
man had no power of initiative, or, on the other hand, were so
perfectly rational as to always do the wisest thing, there would be
a regularity in his action which might perhaps form the basis of
a complicated, but exact, science. As it is, all social sciences are
approximate and partly descriptive. There is much in man's ac-
tion which is exceedingly (though not perfectly) regular, and hence
we have general, though apparently not invariable, laws. There
is a part of his action, however, that seems as yet to be capricious,
and we can only make note of it till we have more knowledge.
The laws of economics are not comparable to the laws of inani-
mate nature in invariability, but they are of very general applica-
bility, and are wholly in line with the action and intent of nature,
THE NATURE AND SCOPE OF ECONOMICS II
and are, in this sense, "natural." But the laws of economics are
not natural laws in the sense in which the word is often used;
namely, laws external to man and not at all the product of man.
The laws of economics have been designated as social laws to
distinguish them from those of physical science. Social laws de-
scribe tendencies, or regularities, which appear especially in the
consideration of large masses of facts. Human mortality serves
as an illustration. When and how a certain man, as A, will die,
is proverbially uncertain; but when we speak of hundreds of thou-
sands of lives, we can predict with such an approximation of accu-
racy that a vast business-like life insurance can be built upon
the regularity of the action of death.
The foregoing discussion enables us to answer in a word the
much-mooted question, "Is economics a science?" It is not an
exact or mathematical science, though certain portions of the sub-
ject may possibly become so. It is an approximate and partially
descriptive science, like all sciences dealing with man, or even
with life. The inexactness of the social sciences is due to the very
thing which gives them their supreme value, the nature of man
and the greatness of their subject.
The Relation of Economics to other Sciences. We have al-
ready referred briefly to the relations between economics and some
of the other sciences, but the topic is one which requires fuller
treatment. In one sense, economics may be said to be dependent
upon practically every other science, since the discoveries in every
field of knowledge almost inevitably react upon the industrial life
of man. Modern chemistry, to take a single example, has revo-
lutionized some industries, wholly created others, and, through
the agency of the pure food laws, may claim most of the credit
for entirely suppressing others. From psychology economics takes
the axiomatic principles upon which the laws of value rest; from
physical science the law of diminishing returns which plays such
an important part in the theory of distribution; and from mathe-
matics the methods by which to ascertain how insurance may be
safely supplied against accidents, death, and loss by fire. But
it is to the sister sciences dealing primarily with man that eco-
nomics is most vitallv related.
12 OUTLINES OF ECONOMICS
Man has been busy from the first in several lines of effort. He
has talked, worshiped, fought, studied, and each of these lines
of effort has developed its own faculties and institutions. For
convenience we may arrange these in eight groups, as follows:
language, art, education, religion, family life, society life, politi-
cal life, economic life. Each of these is the subject of a science
more or less developed. The group of society life that is, the
life of polite society, calls, parties, balls, and the like has been
studied but little, and we know few of its governing principles. 1
Language, on the other hand, is a science which has attained to
very complete development. The rest lie scattered between these
extremes.
A peculiar feature of these activities is that they are all of them
collective activities, activities which one man cannot well carry on
alone. This is obviously true of family and political life, language,
and others, and on careful examination it proves to be true of
the rest. It is now admitted, after many experiments, that art
and even religion do not thrive in solitude. It would seem that
if a man could do anything by himself, it would be to get a living;
but our brief study of history impresses us with the insignificance
of all such effort and the inevitable tendency of men to drift to-
gether in their economic activity. If it were possible for men to
live in isolation, every one of the eight lines of effort we have men-
tioned would soon dwindle into insignificance or altogether cease.
So these sciences are all of them social sciences; and as the sci-
ences that deal with life are now grouped together under the name
biology (science of life), so the social sciences are grouped under
the title of sociology, or the science of society, although some
sociologists do not define the word "sociology" in this broad sense
of an all-embracing science of human association.
Economics, then, is a branch of sociology. We have already
defined it as the science which treats of those social phenomena
that are due to the wealth-getting and wealth-using activities of
man. We may speak of the wealth-getting and wealth-using
1 An attempt to examine scientifically some, at least, of the phenomena of
polite society has been made by a learned jurist, the late Professor Rudolph von
Ihcring, in his Zweck im Rtcht. Cf. also Veblen, The Theory of the Leisure Class.
THE NATURE AND SCOPE OF ECONOMICS 13
activities in all their relations as economic life or economy. Ac-
cordingly, economics is the science which deals with the economy
of man. A useful distinction in language is thus made between
economy, the life itself, and economics, the science dealing with
that life. If this distinction could always be observed, much con-
fusion would be avoided.
We have economies of various sorts: the economy of an indi-
vidual, of a family, a tribe, a city, a state, or a nation, and we
have, correspondingly, many economic units. The dominant unit
in ancient Greece, for example, was the household, which included
the family and all the slaves and other dependents. These lived
together and formed a little group by themselves. The economic
life of Greece meant, largely, a sum of the economic activities of
these households, each of which strove to be sufficient unto itself.
It is interesting to know that many a well-managed Southern
plantation before the late Civil War endeavored to produce all the
means of life on the plantation, and in this respect, as in others,
resembled a Greek household. But as time has progressed, these
old groups have been partially dissolved, and in many instances
in modern times the individual, in his economic activity, consti-
tutes a unit, although the family is still the prevalent economic
unit. It is a natural outcome of industrial progress, as already
explained, that the relations between these units have multiplied
indefinitely in number and in importance. This is simply another
way of describing the growing interdependence of men. Eco-
nomics deals especially with the mutual relations of economies of
all kinds, private and public. It is chiefly, if not exclusively, a
science of human relations, and without these relations could not
exist.
Because of the organic connection of these relations in their
common origin, man, and because economics deals with the indi-
vidual as he is, and not with an artificially simplified "economic
man," it is impossible wholly to dissociate the social sciences,
and particularly impossible to divorce economics completely from
ethics and politics. This does not mean that these sciences are
all one and cannot be profitably subdivided. On the contrary,
because of the limitations of the human mind, they must be
14 OUTLINES OF ECONOMICS
studied separately so far as is possible. Scientific progress, like
industrial progress, comes largely through specialization and the
division of labor. Man cannot profitably study things in general.
What it does mean is that there is some territory common to all
these sciences, and that occasionally the economist is forced to
pass ethical judgment and to decide political questions. In the
consideration of railway rates, for instance, the economist is not
only compelled to pass judgment upon what is just and reasonable,
but he discovers upon investigation that by common consent what
is fair or reasonable is decided largely upon economic grounds.
The same is true of the apportionment of taxes, in which subject
ethical, legal, and economic questions are inextricably interwoven.
Commercial policies, restrictive regulations, and sumptuary laws
have been the very stuff and subject-matter of the science of eco-
nomics from its very beginning. In analyzing the progress of
the past or the conditions of the present, we are forced to pass
judgment upon the success or failure of many laws and policies
which are still in force or under active discussion. Many of these
must be indorsed or repudiated either solely or largely upon
economic grounds; and because of these facts, the economist can-
not, even if he would, refrain from passing judgment upon laws
and political policies. Nevertheless, as was stated before, eco-
nomics does not undertake the complete and systematic study of
law, ethics, and politics, and its conclusions must almost always
be supplemented by non -economic considerations which the
economist may not have taken into account.
In the preface to the first edition of his Principles of Economics, Professor
Marshall seems to dissent from the views here expressed, maintaining that
" the laws of economics are statements of tendencies expressed in the indica-
tive mode and not ethical precepts in the imperative." But even this most
cautious and consistent of economists cannot refrain from laying down
ethical precepts in many parts of his work. On almost the very last page
he declares that : " The most imperative duty of this generation is to provide
for the young such opportunities as will both develop their higher nature, and
make them efficient producers. And an essential condition to this end is
long-continued freedom from mechanical toil ; together with abundant
leisure for school and for such kinds of play as strengthen and develop the
character." *
1 Marshall, Principles of Economics, 5th ed., p. 720.
THE NATURE AND SCOPE OF ECONOMICS 15
Principal Divisions of Economics. This view of the inevitably
practical character of economic science is carried out in the treat-
ment of the subject in the following pages. The history and evo-
lution of economic society, sketched in Book I, are followed, in
Book II, by a discussion of the consumption, production, exchange
and distribution of wealth. These subjects are treated in close
connection with those illustrative economic problems of which
the so-called ''economic theory," at its best, is but a more com-
prehensive and consequently more abstract analysis. Book III
has been reserved for the subject of public finance, which, in the
opinion of the authors, constitutes as integral a part of economic
science as the subjects of money or international trade. In Book
IV is given a brief sketch of the history of economic thought.
QUESTIONS
1. What is the most essential characteristic of economics? Define eco-
nomics.
2. Is man or goods the more prominent thing in economic study? Does
economics teach the student how to get rich ?
3. What determines ultimately whether a man is poor or not? What
kinds of poverty are there ?
4. What is meant by "dear labor"? Is it a good thing for society in
general? for employers in general? for an individual employer?
5. What is the difference between natural and artificial selection? Which
applies to human society ?
6. Are practical ethical and political judgments the chief ends and prod-
ucts of economic science ?
7. Is economics concerned with the negro question? asset currency?
prohibition? anti-trust laws? race suicide? protection?
REFERENCES
CAIRNES, J. E. The Character and Logical Method of Political Economy.
COSSA, L. An Introduction to the Study of Political Economy.
INGRAM, J. K. .4 History of Political Economy. Chap. VII.
KEYNES, J. The Scope and Method of Political Economy.
MARSHALL, ALFRED. Principles of Economics, 5th ed., Appendix C.
MILL, J. S. Essays on Some Unsettled Questions of Political Economy.
SIDGWICK, HENRY. The Scope and Method of Economic Science.
WAGXER, A. " On the Present State of Political Economy." Quarterly
Journal of Economics, Vol. I.
CHAPTER II
THE CHARACTERISTICS OF THE PRESENT ECONOMIC
SYSTEM
IT is the object of the present chapter to give a descriptive
survey of the fundamental institutions and forces of the existing
economic order.
Our Environment. Lying back of all of our economic activity
is the fact that we live in an environment in which the things that
we desire are not furnished spontaneously in unlimited quantities.
Whether it be looked upon as due to the niggardliness of nature
or to the insatiability of human wants, the fact is that, for the most
part, the material things that we use must be economized. We
must put forth effort and exercise self-denial in order to enjoy
the good things of life. Those human arrangements which help
to determine how much of effort, of self-denial, and of enjoyment
is to fall to the lot of each of us are the characteristics to which
we now turn our attention. There are, however, a number of
social institutions which do not fall within the scope of the pres-
ent chapter. We deal here only with the social conditions directly
underlying our economic activity, which is but one aspect of our
social life. We must leave to the sociologists and other students
of society a discussion of such topics as the family, religion, mo-
rality, ceremonial institutions, and the nature of government,
although, to be sure, these also have their effect upon the
economic sphere and are in turn affected by it. In the present
chapter also we omit a study of the economic significance of our
physical environment, which receives independent treatment in
books on economic geography.
Private Enterprise and State Activity. We live in an age when
private enterprise, for the most part, is relied upon to furnish us
16
THE PRESENT ECONOMIC SYSTEM 17
with the necessities and enjoyments of life. The cultivation of
the soil, the exploitation of the mines, transportation, the various
stages of manufacture, and the distribution of the finished prod-
uct are all left mainly 1 to private initiative. The discovery of
new processes, invention, and experimentation are carried on
mostly by private individuals or corporations who take upon their
own shoulders the risk of failure. The State, on the other hand,
participates in this activity in a variety of ways. It maintains
order, promotes the public health and safety, provides roads, and
takes charge of some industries completely. In its educational
institutions the State, through its agents, undertakes various ex-
periments, and encourages the growth and diffusion of knowl-
edge, an indispensable condition of continuous advancement of
our economic life. The state university and the experiment farms
may be mentioned, and also the large and extremely useful De-
partment of Agriculture of the United States, with its annual
expenditure now exceeding six million dollars. Certainly in the
vast majority of the enterprises with which we are familiar, pri-
vate and public activities are combined in varying proportions.
Let us take the case of an industry which is as nearly private,
perhaps, as any we can find, that of agriculture, and notice
the part which public activities play in securing the farmer's re-
sult. First, we may say that the farmer owns the farm that he
cultivates; this is private property. But how comes it that the
farm is his? Why does not a stronger man drive him off and
take the farm himself ? Plainly because the State protects him in
the possession of the farm. When he bought the farm, he took
his deed to a government official, who recorded it, and thus gave
him an additional guarantee of possession. A neighbor's dog
kills his sheep, and an appeal to the State compels the neighbor
to redress the grievance. Another, far below, dams a river and
backs the water up so that it overflows his land. Another appeal
to the State removes the dam or secures compensation. When
wheat is raised, the farmer hauls it to market by a road built, not
by private, but by public, activity. The railway lowers the price
1 This applies especially to the United States and England so far as transpor-
tation is concerned ; it would scarcely hold true of the world as a whole.
C
l8 OUTLINES OF ECONOMICS
of his wheat by a discriminating rate, and again government in-
terferes in his behalf. But manifold and important as are the
regulations of the government, State activity seems very much
restricted when we reflect that it might extend over the entire
industrial field. To-day the distinctive characteristic of our eco-
nomic life is private, not public, enterprise.
Division of Labor and Exchange. It is commonly taken for
granted that every man should prepare himself for some special
occupation, that one should plow while another builds or sings.
Hardly any civilization seems possible without some industrial
specialization, but our own age is peculiar on account of the ex-
tent to which this has been carried. The introduction of machin-
ery and the development of large-scale production have split up
so minutely the work of men that the products which they turn
out are not only not of immediate use to themselves in most cases,
but they are also useless to any one else until combined with the
results of other men's labor, often performed years before or after-
wards. It is a long and complicated process from the man who
mines the ore which is to reappear in a steel plow, to the man who
bakes the bread. The effects of this specialization of employ-
ment are far-reaching :
(i) It implies the exchange of goods. If we produce things
we do not need, we must find some one else who does want them
and some one who has the things we desire. Money, banks, and
transportation agencies could largely be dispensed with if each
family produced for itself alone. There would be none of the
complex problems that center about the question of how much
each of us is to receive in exchange for his services. One of the
striking characteristics of this process of exchange is the great
extent to which it is automatic. There is no government official
whose business it is to discover how much of each commodity
will be needed, and to direct that that amount shall be produced. 1
Men are legally allowed to engage in almost any undertaking that
attracts them, and yet we take it for granted that somehow things
will get produced in the proper proportions. A hundred men are
1 The government does help, however, in collecting and publishing information,
as in the case of crop reports.
THE PRESENT ECONOMIC SYSTEM 19
set to work in a factory making nothing but hats, many more
than they or their friends can use, but the manager has faith that
heads will be found to wear them all. Farmers confidently pro-
ceed to raise wheat, never troubling themselves about the grind-
ing and baking. Neither workmen nor employers in general
know why wages are as they are. Men lend money or goods, now
for one price, now for another, but few know why they demand
interest or why the rate changes. These processes go on visibly
before us, but the governing laws are hidden except to the care-
ful investigator. In this respect they are like the laws of physi-
ology. We eat and digest our food, but how many people know
how or why digestion takes place? It is easy, however, to over-
emphasize this idea, for a great deal of our economic activity is
conscious and volitional. When we decide to make a law or levy
a tax, we do it consciously, considering arguments, and finally
will the thing in question. Further, in the large business con-
solidations, much knowledge regarding the course of trade is
obtained directly through special agents or reports and is made
the basis of conscious action.
(2) Specialization of work and exchange of goods just referred
to, necessarily implies mutual dependence. Instead of a number
of distinct, self-sufficient units, we have a coherent society where
one individual relies upon many others to complete his own one-
sided economic activity. A strike of the street car employees, or
of the teamsters, or the destruction of an electric lighting plant,
would each send a shock of inconvenience through a community.
A prolonged railway strike would be felt as a national misfortune.
Indeed, this interdependence is international in its scope. Eng-
land relies on other nations to send her food in exchange for her
manufactured products, and many a German workman would be
in distress if there should be a sudden failure in our cotton crop.
Economic Classes. In part, also, the specialization of work is
responsible for the division of society into classes, but only in
part. The difference in the work of the carpenter, machinist, or
railway brakeman does not result in the formation of classes of a
higher and lower rank. On the other hand, the professional brain
worker enjoys some social esteem that does not fall to the lot of
20 OUTLINES OF ECONOMICS
the manual worker. But doubtless the most important basis of
social classification is the possession of wealth. The power to
spend freely, while not the only test, is to-day the most widely rec-
ognized test of social status, regret it as we may.
Private Property. We proceed now to examine the founda-
tion stones of this system of private enterprise. Private property
is the most important of these.
The leading English writers of economic treatises have usually taken the
institution of private property as something to be assumed as a starting
point in their discussions. John Stuart Mill, indeed, made an excellent
beginning in the discussion of property and inheritance in his Principles of
Political Economy, but other English writers have not generally followed
up his lead. It is to the merit of the German writers that they have critic-
ally examined these fundamental institutions in their economic bearings.
The work of Professor Adolph Wagner may be mentioned especially in this
connection.
For our present purpose we may define private property as. the
exclusive control over valuable things by private persons. It is
to be distinguished from mere possession. The possessor has the
use of the thing for the time being, but unless he is at the same
time the owner, he is dependent upon the will of another for the
use of it. Ownership implies the right of excluding other per-
sons from the enjoyment of a thing. The exclusive right must
be recognized and guaranteed effectively by third parties. If I
defend my exclusive right of control over some valuable thing
against your claim simply by the strength of my right arm, I have
not thereby established the right of private property. My ex-
clusive right of control must be recognized by others and must
be maintained by them. Over against private property we have
public property, and there are some things, such as air, which
fall in neither of these categories. The sphere of private property
at present includes, not only food, clothes, and other things of
personal use, but it also includes the instruments of production
land, buildings, and machinery. In the most important pro-
ductive processes the tools are in general not owned by the per-
sons who use them. Hence our present wage system.
It may be said that property is the chief seat of social authority. As
property carries with it the exclusive right to control things, others may have
THE PRESENT ECONOMIC SYSTEM 21
access to these things only on conditions named by their owners. If
we look about us, we find men organized and acting together under
direction for purposes of production. In a factory we find an organization
of men like that of an army. We discover men moving here and there and
performing arduous tasks in obedience to command. If we examine the
nature of the authority which some thus exercise over others, we shall find
that it resides in property. The law of the land to some extent establishes
the authority of man over man ; but where one man obeys another because
the law in so many words tells him to do so, we find a hundred men obeying
others because these others have the authority which resides in exclusive
control over valuable things. Indirectly this latter sort of authority rests
back upon the laws in so far as these are responsible for the establishment of
property. But the chief seat of authority in society is based only indirectly
upon the government ; it rests immediately upon private property.
Inheritance. Inheritance is often regarded as a necessary part
of the right of private property, and it is true that the entire abo-
lition of the right of inheritance would result in a great enlarge-
ment of the public sphere of property at the expense of the private
sphere, unless gifts were made to accomplish the same object as
the system of inheritance. But strictly speaking, we have here to
do with two rights. Private property is an exclusive right of con-
trol, whereas inheritance is concerned with the transmission of
this right from one generation to another.
As in the case of private property itself, the right of inheritance
is not recognized to-day as an absolute one. Detailed regulations
exist on our statute books regarding the descent of property where
no will is made, and also regarding the making of wills, and there
is an increasing tendency to limit the right of inheritance by taxa-
tion. Some features of the present law of inheritance well illus-
trate the tendency of institutions to persist after the conditions
that gave rise to them have disappeared. The recognition which
we give to the claims of very distant relatives to a share in an
estate where there are no near relatives, and where no will has
been made, had its origin at a time when blood relationship played
a much more important part in society than it does at present.
Contract. Scarcely second to the right of private property is
the right of contract, for the maintenance of which we are equally
dependent on the State. Some sort of contract lies at the basis
of all associated activity. To secure the condition of such activity,
22 OUTLINES OF ECONOMICS
it is necessary, first, that men should be allowed to bind them-
selves; and second, that they should be compelled to respect the
agreement thus entered into. The entrance into a valid contract
is ordinarily voluntary, but once entered into with due formality,
the State will use its superior power to enforce it. To the anar-
chistic mind this seems oppressive, and it must be admitted that
a state of society is conceivable in which the element of force
would be removed from the idea of contract, but something else
would have to be substituted to make the keeping of agreements
the general rule. There are doubtless many people living to-day
with whom the feeling of honor or fear of social disapprobation
would be sufficient for the enforcement of contracts, just as these
persons might not need the threat of a jail sentence to keep them
from stealing.
The economic ties which hold men together in industrial society on their
legal side are very generally contracts. The organization of an industrial
corporation implies many contracts. Our property is acquired very largely
through contract, and through contract we determine the conditions under
which we do our work, such as the length of the working day. The conti-
nuity of our economic life rests upon contracts, which bind together past,
present, and future. Still, all that we have by no means comes to us through
contract. "Contract" does not exhaust the significance of parentage, home,
and education, and much wealth changes hands through gifts and inheritance.
Vested Interests. 1 A few words should be said about vested
interests. Vested interests may be denned as pecuniary interests
which are legally recognized to be such that they cannot be im-
paired by public action without indemnification. Vested inter-
ests generally arise through property and contract. Outside of
property and contract, however, there may be vested interests.
Leeds was compelled by a feudal arrangement to grind its corn,
grain, and meal at the lord's mill till well on in the last cen-
tury, and finally had to pay 1 3,000 to terminate this obligation.
When Prussia bought the railways, the railway presidents were
indemnified for the loss of their positions by large payments; in
other words, their offices were looked upon as vested interests.
England is the classic land of vested interests. An office in the
army was until recently looked upon as such, and so was an
'The term " vested rights " is also used.
THE PRESENT ECONOMIC SYSTEM 23
appointment in the Established Church. It is generally held that
saloon keepers in England have a vested interest in their busi-
ness, so that they must be indemnified if their licenses are taken
from them. Workingmen have frequently claimed that they have
a vested interest in the advantages which their acquired skill gives
them, and consequently that if through industrial changes this
skill ceases to be of as great value as formerly, they ought to be
indemnified and in some way their former income continued.
This claim of the workingmen, however, unlike many other claims
put forward in the name of vested interests, has not received rec-
ognition, either by Parliament or the courts. Vested interests,
apart from property and contract, are of less significance in the
United States than in most countries, but they may become of
more significance in the future.
Freedom. The words " liberty " and " freedom " have given rise
to some of the deepest philosophical discussions, but we may avoid
confusion if we say that the freedom to do certain things is legally
guaranteed at the present time, such as moving from one part
of the country to another, choosing one's own occupation, and
acquiring property. These, together with the absence of chattel
slavery and imprisonment for debt, are characteristic features of
the present economic order as distinguished from past conditions.
The right to manufacture and sell what and when one pleases is a
comparatively recent one. It has often been greatly limited by
despotic governments, and the right has been made a matter of
sale for the purpose of raising revenue. Most such limitations
have been of the nature of abuses, and our own time has seen the
abolition of an immense number of hampering and vexatious re-
strictions designed for plunder rather than for the promotion of
private enterprise. So far as the absence of legal restrictions on
the actions of individuals is concerned, the past century has been
distinctively an age of liberty.
Restrictive laws, however, are not the only limitations on our
freedom of action. The system of private property itself means
that certain individuals in the community have power to command
other people to work, and the lack of an income under our present
regime implies the lack of the real freedom to do things. The
24 OUTLINES OF ECONOMICS
cost of a railway ticket may be quite as effective as a legal barrier
would be in preventing movement from one state to another. It
is said that we are free to acquire unlimited property. True, the
law does not expressly prohibit such acquisition, but as a matter
of fact many persons do not acquire much property. Again, we
say involuntary servitude, except as punishment for crime, has been
abolished, yet men are compelled to work by the threat of eco-
nomic distress, in most cases quite as effectively as by means of
the slave-driver's whip, for the counterpart of legal freedom is
the economic responsibility of the individual. "Sink or swim,"
says the State to the millions struggling for worldly goods. That
is the end of the matter according to the laissez-faire theory. The
modern State helps men to learn to swim. Again, the choice of an
occupation is free according to the law, but we may find that a
long and expensive course of training is necessary, or we may be
compelled to conform to trades-union regulations, and always it is
necessary to find some one who deems our services valuable. The
right to establish enterprises is granted to all alike according to
the law, but to-day it would be difficult and hazardous to embark
upon the refining of oil or the manufacture of steel. Practically,
the freedom to establish new enterprises has been growing less
and less in this era of large-scale production.
Competition and Markets. As a result of the legal conditions
that have been mentioned, we find men engaged in many kinds
of rivalry. Our economic society is often called "competitive"
for this reason. But when this term is used, not all forms of
rivalry are meant, for even if private property and free contract
were abolished, some form of struggle might still persist. There
might still be conflicts between races and nations, and the men of
any single nation might still vie with one another to prove their
superiority in the eyes of womankind or to gain positions of pub-
lic honor and power. The kind of competition which is distinc-
tive of the present economic order is the all-pervading endeavor
to obtain the largest possible amount of wealth in exchange for
commodities produced or services rendered. If we except the
idlers, the parasites, and the cheaters, men are everywhere en-
deavoring to discover what other people want urgently, and then
THE PRESENT ECONOMIC SYSTEM 25
to satisfy that want in the most efficient manner possible. On the
other hand, they attempt to give as little as possible of their own
products in exchange for the things they themselves desire. Busi-
ness competition thus has two sides: rivalry in rendering a serv-
ice, and alertness in exacting a return. Each individual takes
part in the competitive contest in two ways: first, as a seller of
goods or services, in which case he finds that others are anxious
to render the same service; and second, as a buyer of the things
he wants, in which case he finds that these same things are sought
after by other people.
The intensity of the competitive struggle is subject to a good
deal of variation. At times it may be characterized as cut-throat,
where the slashing of prices has for its object the elimination of
one or more of the contestants. But the rivalry is not necessarily
so fierce. In some lines of business many competitors may con-
tinue to exist side by side indefinitely, each competitor being con-
fronted by the ever present threat that if his service becomes very
poor, some other man will outstrip him. Various as may be the
character of competition, now predator)', now a friendly rivalry,
there is no resting place in the contest unless one secures some
special privilege as a shelter. He who is energetic, and wins suc-
cess in a certain line of business, must continue to defend himself
from a host of imitators who are anxious to snatch his gains from
him. Most of the competitors are successful in getting something,
some more than others, but many fail altogether. These last, the
inefficient, whether made so by sickness, by inherited weakness,
or by lack of proper training, fall by the wayside and must be cared
for by private charity or by the State. The process is cruel in
many of its details, but there is also a beneficent aspect in the
sifting out of the incompetent and in the encouragement of the
strong.
Here, again, reference may be made to the automatic character
of the present industrial system. It is through competition and
bargaining in the market that a price is fixed, and it is to the vari-
ations in this price that business men look for indications as to
what people want rather than to the reports of some government
official, although such reports are of some assistance. Price is
26 OUTLINES OF ECONOMICS
the universal barometer that indicates changes in the demand for
goods of all kinds.
Competition has been spoken of as a struggle, a contest, ac-
companied by success and failure, elation and disappointment.
But the State sets limits to the rivalry it makes regulations and
acts as an umpire to compel fair play. It attempts to eliminate
fraud and brute force; it trains the rising generations for an en-
trance into the struggle by a system of free education; it insists
that no person shall sacrifice the life and limb of another in the
rush for wealth; and it protects children and women when they
seem compelled to labor under unhealthful conditions. Those who
fail entirely in the struggle it tries to rescue from suffering. In
short, the State, as will be explained more fully in a later chap-
ter, aims to raise the plane of competition, changing it from bru-
tal warfare into a contest in which there are prizes for all, but in
which the prizes are graded according to the energy and ability
of the contestants.
Cooperation. The statement that our age is one of competi-
tion is misleading if it gives the impression that every individual
is continually struggling against all of his fellows. On the con-
trary, the achievements of modern industrial civilization would be
impossible without a far-reaching cooperation between individ-
uals. Employers and employees may quarrel and bargain about
the wage contract, but when they have settled their relations for a
week or a year, they become cooperators during that period in
the conduct of the business enterprise in which they are engaged.
Again, there is an unconscious cooperation between those who
work upon a commodity in the different stages of the process from
raw material to finished product. The division of labor itself
necessarily implies cooperation. Competition merely determines
the conditions on which the cooperation takes place. If these
conditions could be determined in some other manner, it would
be possible to conceive of the elimination of competition from our
industrial system, but cooperation is so vital and fundamental
that its elimination would mean a return to barbarism.
Monopoly. Everywhere in the industrial field the tendency
toward monopoly is present. Business men endeavor so far as
THE PRESENT ECONOMIC SYSTEM 27
possible to shelter themselves from the effects of the competitive
struggle by means of some privilege, but if none is to be found,
and if competition becomes very keen, they endeavor to combine
with other business men. But while this attempt to escape com-
petition is universal, it is only under certain conditions that it is
at all likely to succeed. The success is least in agriculture and in
the mercantile business, where new enterprises are started rather
easily because no special privileges stand in the way and because
no very large capital is required to work efficiently. It is greatest
in mining and transportation, where special privileges are present
and where large capital is required. Scarcely anywhere is it pos-
sible wholly to escape competition, and we are still warranted
in speaking of the present era as a competitive rather than a
monopolistic age.
Side by side with the growth of monopoly there is an increase
in government interference in industry. The desire of the busi-
ness man is to be uncontrolled, but wherever he succeeds in throw-
ing off the control exercised by his competitors, he inevitably
substitutes that of the government official.
Custom. Custom plays an important part in our economic
activity as well as in every other department of social life, although
its sway is not so marked as in former ages or among primitive
peoples. The custom of giving gratuities, or tip*, to servants is
in many places so strong as to have almost the force of law. Again,
to-day much of our personal expenditure is controlled by what
custom has declared to be proper rather than by any act of our
own individual reason. Any attempt to lower wages which would
make impossible the maintenance of a customary standard of liv-
ing would be stubbornly resisted. Custom is the result of habit,
and is continually broken into by our tendency to imitate a leader
who proposes a new line of action. Recent events in the spelling
reform movement afford an illustration. While custom may have
its beneficent aspect in preventing hasty and impulsive changes,
it frequently retards progress and causes our legislation and judi-
cial decisions to lag behind industrial development.
Authority and Benevolence. In the preceding pages frequent
reference was made to the limitations upon the rights of private
28 OUTLINES OF ECONOMICS
property, inheritance, contract, and freedom. Public authority
may be looked upon as one of the forces governing the economic
process. The conduct of private enterprises is continually being
interfered with by State authority. Legal rates of interest are
established, and "reasonable" railway charges are substituted
for actual charges. The authoritative fixation of wages is a
future possibility.
Benevolence, or the caritative principle, may be mentioned as
another force in economic society, modifying and supplementing
in many ways the work of competition.
QUESTIONS AND EXERCISES
1. Attempt to classify the leading occupations in your city with respect
to the social prestige attaching to them.
2. Describe the property relations existing in the Amana Society, or in
other communistic groups.
3. What regulations concerning the inheritance of property are in force
in your state ?
4. To what extent are gambling contracts valid ?
5. Compare the legal freedom of workingmen to-day with the conditions
described in the Wealth of Nations, Book I, Chap. X, Part II.
REFERENCES
BAKER, C. W. Monopolies and the People, Chaps. X and XI.
BLISS, W. D. P. Encyclopedia of Social Reform (new ed.), article on
Amana Community. See also on sample subject, Ely, R. T., in
Harper's Monthly Magazine, October, 1902.
ELY, R. T. Evolution of Industrial Society, Part II, Chaps. I, VII, or XI.
GREEN, T. H. Liberal Legislation and Freedom of Contract, Works, Vol.
Ill, p. 365.
MILL, J. S. On Liberty, Chap. IV.
MILL, J. S. Principles of Political Economy, Book II, Chaps. I and II.
NICHOLSON, J. SHIELD. Principles of Political Economy, Vol. I, Book II,
Chaps. II-VIII.
PATTEN, S. N. Development of English Thought, pp. 22-23.
STEPHENS, J. F. Liberty, Equality, and Fraternity.
SIDGWTCK, HENRY. Principles of Political Economy, Book II, Chap. XII.
WEBB, SIDNEY and BEATRICE. Industrial Democracy, Vol. II, pp. 562-572.
CHAPTER III
THE EVOLUTION OF ECONOMIC SOCIETY
IN the preceding chapter were described the fundamental insti-
tutions of the present economic order. Here a brief sketch will
be given of the origin and development of these institutions. Such
a study is advisable in a general survey of the field of political
economy because many of the problems and proposed reforms
which are met with raise questions as to the soundness of the
very foundations of our present economic life, and these can only
be understood when they are viewed as historical products.
The evolution of economic society is but one of many stand-
points from which the development of mankind may be consid-
ered. The history of literature, the history of government, the
history of religion, each treats of man in one line of his activities.
Many thinkers have considered the economic activities of man-
kind as the fundamental factor in social progress, determining in
the long run even our ethical and religious conceptions. Prob-
ably human life is too complex for any such simple explanation.
The economic factor, however, is clearly of the most fundamental
importance in the sense that the higher things in life cannot be
cultivated if man's entire time is spent in getting a mere subsist-
ence, so that economic progress, or gaining control over the forces
of nature, must accompany general social advancement, at least
for the mass of the community. Under primitive methods of
production, only a select few can have this leisure time.
The Economic Stages. Many attempts have been made to
divide economic history into stages through which mankind passed
in arriving at modern industrial civilization. These attempts have
been the subject of lively criticism, but it appears that the classifi-
cation which in the past has been most widely used is still, with
29
30 OUTLINES OF ECONOMICS
some modifications, the most serviceable, and in the main, this
will be followed in the present chapter.
The basis of this classification is the increasing power of man
over nature. This is the fundamental fact in man's economic
development, and his position in the scale of economic civilization
is higher in proportion as this power over nature increases. In-
creasing control of nature is accompanied by changes in man
himself, especially by a growth and diversification in his wants,
so that we may say that economic civilization consists largely in
wanting many things and in learning how to make and use them.
From this standpoint economic history may be divided into the
following stages :
I. Direct Appropriation.
II. The Pastoral Stage.
III. The Agricultural Stage.
IV. The Handicraft Stage.
V. The Industrial Stage.
I. DIRECT APPROPRIATION
The economy of primitive man is characterized by finding things
ready to use instead of making them. It is not intended to assert
that the lowest examples of mankind that we know do absolutely
nothing in the way of transforming the materials of nature for
use. The lowest types know the use of fire and have rude tools,
but, nevertheless, the farther back we go, the more direct do we
find the reliance on nature. One cannot read descriptions of the
Negritos, Veddahs, Fuegians, or native Australians without being
impressed with the similarity between the economy of these peo-
ples and that of the lower animals. But there are many tribes
commonly regarded as savages that show a great advancement
over those that have been mentioned. Among the North Ameri-
can Indians, for example, we find a rude sort of cultivation of the
soil along with hunting and fishing. Such soil cultivation has
been termed " hoe-culture," and is to be distinguished from agri-
culture with the aid of domesticated animals found in a later stage
of development.
THE EVOLUTION OF ECONOMIC SOCIETY 31
This kind of agriculture is found in its highest state of development among
the negroes of Africa. " The ground for cultivation," says Ratzel, " is cleared
by means of fire, or with the hatchet or small ax. On the east coast a broad
chopper with a spear-shaped blade and short handle is also used. The
lance or spearhead has, in general, to serve many peaceful purposes. Larger
trees are killed by barking. Thorny branches are placed as a border to the
fields, under the shelter of which close, quick hedges gradually grow up. The
ground is broken and cleared of weeds with a wooden spade sharpened to an
edge at either end. Many peoples have hitherto not ventured to use iron
tools, since they keep away the rain. When the ground has been got ready,
somewhere about the beginning of the rainy season, the sower walks over
the field, scraping a hole with his naked foot at every step, into which he lets
some grains fall from his hand ; the foot covers them up, and if the good
witch doctor makes rain enough, and the bad one does not keep it back, there
is nothing more to be done until harvest, unless to hoe the weeds once. . . .
To the present day the plow is practically strange to them." *
The following characterization of the economy of primitive man
applies with varying force to the many tribes that may be placed
in this first stage.
Characteristics of Primitive Man. The range of wants is nar-
row, as the savage is almost completely satisfied if he obtains mere
subsistence of the rudest sort. In the satisfaction of these few
wants he is, according to our modern standards, remarkably inef-
ficient. P>om the best natural resources he manages to get a
very poor living, depending as he does largely on the spontaneous
products of nature. Magic and ritual are very generally relied,
upon as aids to wealth production. Primitive man is improvi-
dent, for he does not feel keenly the uncertainties of the future,
and fails to make provision for them. Hence we find him sub-
jected to alternate periods of starvation and plenty. Only a scanty
population is possible in this stage, as a tribe must have a large
expanse of territory from which to draw its sustenance. The
place of abode is easily changed, and warfare with neighboring
tribes frequent. Cannibalism is found among many primitive
peoples. Private property in land is absent, although the begin-
ning of the institution of ownership appears in the recognition of
the individual's right to articles of personal use. There is little
division of labor. What one man can do, all can do. The soil
1 Ratzel, History of Mankind, trans, by A. J. Butler, Vol. II, pp. 380-382.
32 OUTLINES OF ECONOMICS
cultivation by the women and the specialized work of the medi-
cine man are exceptions. As each tribe is economically self-suffi-
cient, the development of trade is slight. The beginning of
slavery may be observed, but this institution plays no impor-
tant part in the economy of primitive man, except among the most
advanced tribes.
II. THE PASTORAL STAGE
In the older accounts of economic evolution, the impression is
given that hunting peoples learned to domesticate animals arid
then led a pastoral life, later learning to subdue the vegetable
kingdom, and then becoming agriculturalists. This view is not
accurate. It is possible that the domestication of animals was
developed in regions where considerable progress had been made
in hoe-culture. As this knowledge spread, certain tribes became
and remained pastoral nomads in regions where agriculture was
impossible. But whatever the actual steps may have been, the
pastoral peoples represent a type of culture that is lower than that
of the agricultural stage (as distinguished from hoe-culture), and
higher than that of the hunter. Within this stage also are classed
together tribes of varying advancement. Illustrations of existing
pastoral life are found in the tribes of central Asia, many of the
Arabian and African tribes, and the Todas of India. Attempts
have been made to trace the pastoral stage in the early history of
the Hebrews, Germans, Greeks, and Britons.
Characteristics of Pastoral Peoples. Some marked features of
the first stage are found also among pastoral peoples. A fixed
abode is not possible, as food must be found for the herds and flocks.
Cities do not develop. Moreover, while the land will now sup-
port many more inhabitants per square mile than before, much
land is still needed for pasture, and there is frequent collision and
warfare between neighboring tribes. It follows also that there is
very little private ownership of land among these peoples. Tribes
as a whole lay claim to certain districts and try to keep other
tribes from pasturing on them. In this stage there are frequently
individual accumulations of wealth, consisting mostly of herds or
THE EVOLUTION OF ECONOMIC SOCIETY 33
flocks, and thus the contrast between rich and poor makes its ap-
pearance. Customary rules regarding the inheritance of wealth
are recognized. But this early wealth does not produce com-
merce to any considerable extent, simply because there is little
division of labor either between localities or within the tribe.
III. THE AGRICULTURAL STAGE
In this stage there is an enormous increase in man's power over
nature. The production of wealth is increased especially by the
use of animal power in cultivating the soil. One result is to in-
crease population. Land which under the more primitive meth-
ods of production would give a scanty support to a small tribe
for a part of the year will now maintain a whole community with
a fixed abode. It is necessary for human development that men
should live in definite places and have homes and a country.
This results in new relations between men, new duties, new arts,
and new possibilities. The beginning of the institution of private
ownership in land falls within this stage, although it is difficult to
trace the actual steps in the process.
A most important characteristic of this period is slavery. Slav-
ery begins long before improved agriculture, but it now attains
its full magnitude as an institution. There have been many dis-
cussions as to whether slavery is right or wrong. It is both.
There is a time in human development when slavery represents a
step in human progress. The slavery of the early period we are
now considering was inevitable, and is not to be judged by modern
standards. We now know that free labor is better than slave
labor, especially in the later stages of industrial development;
but, inasmuch as primitive man is induced with difficulty to work
at all, slave labor is a great improvement on free idleness.
Commercial intercourse is still comparatively slight in this stage.
Fixed residence develops village communities, and these are econom-
ically self-sufficient. They produce the things that they consume,
and as a rule have not surplus products to dispose of to others.
Hence money does not at this time perform important functions
in the life of every day. The economic condition of Europe dur-
D
34 OUTLINES OF ECONOMICS
ing the middle ages before the growth of cities illustrates the
agricultural stage.
The Manorial Economy in England. England was almost
wholly agricultural for three centuries following the Norman Con-
quest. In the thirteenth century the population for the most part
lived in villages or manors, each controlled by a lord to whom
the rest of the inhabitants were bound by customary rules to ren-
der certain assistance in the cultivation of the lord's land. The
villagers were of various classes, according to the amount of land
which they held and according to the services which they were
required to perform. The land of each tenant was not a com-
pact area, but was composed of strips scattered in the three
great fields into which the arable land was divided for purposes
of crop rotation.
Some handicraftsmen were also found upon the estate, but they do not
occupy an important place in the economy of the village. For the most part,
they were probably slaves or household servants. Slaves in England con-
stituted at the time of the Conquest about nine per cent of the population,
but "in some of the eastern and midland shires do not appear at all, or fall
to a percentage of four or five," while they rise to as much as twenty-four
per cent in other parts of the country. "We cannot but explain this by the
supposition that in the later stages of the English conquest a greater number
of the British cultivators were spared, so that in these districts slaves came to
form a considerable part of the rural population. Absolute slavery, how-
ever, disappeared in less than a century after the Conquest, and the servi
became customary holders of small plots, like the cotters elsewhere, but on
more onerous conditions." l
While these manors were largely self-sufficient in their economic
life, there was, to be sure, some trade. England exported raw
products to the continent and received back some of the finer
forms of manufacture. But the ordinary needs of the very frugal
life which the tenants had to live were supplied by products of
the village itself. During the centuries following the Norman
Conquest important changes took place in the manorial system:
(i) a rapid growth in the number of free tenants; (2) the com-
mutation of customary services into fixed payments in money or
kind; and (3) the appearance of a class of agricultural laborers
1 See Ashley, English Economic History, Vol. I, pp. 17-18.
THE EVOLUTION OF ECONOMIC SOCIETY 35
dependent on the wages which they received. In contrasting the
manorial economy with the village of the present day, Professor
W. J. Ashley has pointed out the following differences: (i) Now
farmers live in separate homesteads among the fields they rent,
but then all the cultivators lived side by side in the village street.
(2) Now each farmer follows his own judgment as to his agricul-
tural operations, but in this early period he took his share in the
common method of cultivation, which was regulated by custom
enforced by the manor courts. (3) To-day, if the landlord him-
self engages in farming, his management is independent of that
of his tenants, but under the manorial system he depended almost
exclusively upon the labor of his tenants, who contributed plows,
oxen, and men. Finally, (4) aside from the great gulf between
lord and tenants, there was then no such social separation between
the cultivators as there is to-day between large and small farmers.
The manorial economy of England was a type, though somewhat
more systematically developed, of conditions on the continent of
Europe.
IV. THE HANDICRAFT STAGE
This stage begins with the development of towns as centers of
trade and handicraft in the latter part of the middle ages, and ex-
tends to the introduction of power manufacture in the latter part of
the eighteenth century. During such a long period many changes
took place in the economic life of the people of Europe, but so
far as the expansion and satisfaction of wants is concerned, the
power over nature, the whole period is in marked contrast with
the modern era of machine production.
Gilds. The growth of trade in the town brought with it the
merchant gild, the purpose of which was to regulate the conduct
of trade and to keep a monopoly of it for the merchants of the
town. Merchant gilds appeared in all the larger towns of Eng-
land in the twelfth century. But a new class was developing in
the towns, the craftsmen who were engaged in the making of
things for sale. As this handicraft grew in importance, the mer-
chant gild was superseded by the craft gild, which in England
attained its fullest development in the first half of the fourteenth
36 OUTLINES OF ECONOMICS
century. Each craft had its gild, which specified in detail how
the business should be carried on, how many should be admitted
to it, and how the trade should be learned. This growth in spe-
cialization meant also a growth in trade, but in this early part of
the handicraft period, commerce was much restricted as compared
with that of the present day. The towns made exchanges mostly
with the country surrounding them, there being as yet no national
or world market of any importance. Plainly such a general sys-
tem of exchange cannot be carried on by barter, and in this period
money became increasingly important.
The agricultural stage had in the greater part of Europe cul-
minated in the feudal system. The nobility maintained order
and attended to the fighting while the serfs tilled the soil. The
manufacturing cities became the rivals of the feudal lords, who
felt their power threatened, and hence they bitterly opposed the
cities. The cities were free, and the serfs who fled to them were
accepted and made freemen.
The Domestic System. With the beginning of the modern
period the town system gave way to a larger economy. The
towns lost the control of trade. The gild system was succeeded
by the domestic system, which prevailed in England from the
middle of the fifteenth to the middle of the eighteenth centuries.
As in the gild system, industry was carried on by hand in a small
way, but the functions of merchant and workman were now sep-
arated. The gild master sold the goods which he produced in his
shop directly to the customers who were to use the goods, but
under the domestic system the workman came to be less inde-
pendent. He received the raw material from a middleman, to
whom he also delivered the finished product. Much of this work
was done outside of the towns, the artisans thus being enabled to
devote part of their time to agriculture. Defoe, in his tour
through Great Britain (1724-1726), describes the methods em-
ployed as follows :
The land " was divided into small inclosures from two acres to six or seven
each, seldom more ; every three or four pieces of land had an house belonging
to them, . . . hardly an house standing out of a speaking distance from
another. . . . We could see at every house a tenter, and on almost every
THE EVOLUTION OF ECONOMIC SOCIETY 37
tenter a piece of cloth or kersie or shaloon. ... At every considerable
house was a manufactury. . . . Every clothier keeps one horse, at least,
to carry his manufactures to the market, and every one generally keeps a
cow or two or more for his family. By this means the small pieces
of inclosed land about each house are occupied, for they scarce sow corn
enough to feed their poultry. . . . The houses are full of lusty fellows, some
at the dye-vat, some at the looms, others dressing the cloths ; the women or
children carding or spinning, being all employed, from the youngest to the
oldest."
The domestic system should be distinguished from the mano-
rial economy of the agricultural period, for the production under
the domestic system was not for home consumption simply, but
for the market.
Agricultural Changes. During the handicraft period there
were also important changes in the agricultural life of England.
The most prominent of these is the process of inclosing the com-
mon fields for the purpose of pasturage during the Tudor period.
Later, the farmers practiced what was known as "convertible hus-
bandry"; that is, the pasture was plowed up every few years for
raising crops. This, again, has been superseded by the modern
system of crop rotation.
The Mercantile System. The decay of town authority did not
imply that industry and commerce were left to the free play of
competition. The supervision of the central government took
the place of that of the towns. The national system of regula-
tion has been called the Mercantile System, which prevailed in
England in the sixteenth, seventeenth, and most of the eighteenth
centuries. Its essential idea is the guidance of economic affairs
in such a way as to increase the commercial and military power
of the nation as a whole. The navigation laws which the student
has met with in his study of American history were a part of this
system. An attempt was made to create a "favorable" balance
of trade and to maintain a good supply of the precious
metals. Agriculture was fostered with the aim of promoting the
growth of population. The mercantile system has often been de-
scribed as consisting chiefly of trade restrictions, but it is the con-
tention of Professor Schmoller that in its essence the system meant
"the replacing of a local and territorial economic policy by that
38 OUTLINES OF ECONOMICS
of the national state." Within the nation it tended to make
trade free.
It was characteristic of the mercantile system, too, to interfere
in the conduct of internal trade. Prices, wages, and the rules of
apprenticeship were fixed by public authority. The quality of
goods was inspected by public officials. Patents of monopoly on
the sale of certain commodities, such as gunpowder, matches, and
playing cards, were extensively granted by royal authority to fa-
vored individuals or companies, ostensibly to foster new industries.
"At the Council of York, Charles was obliged to declare many of the
industrial patents void; but enough remained to call forth an indignant
declamation from Sir J. Colepepper in the Long Parliament: 'I have but
one Grievance more to offer unto you ; but this one compriseth many ; it
is a nest of wasps, or swarm of vermin, which have overcrept the land,
I mean the monopoler and polers of the people. These like the frogs of
Egypt, have got possession of our dwellings, and we have scarce a room free
from them ; they sip in our cup, they dip in our dish, they sit by our fire ;
we find them in the dye-vat, wash-bowl, and powdery tub ; they share with
the butler in his box, they have marked us and sealed us from head to foot.
Mr. Speaker, they will not bate us a pin ; we may not buy our own cloaths
without their brokage. These are the leeches that have sucked the com-
monwealth so hard that it is almost become hectical. And some of these
are ashamed of their right names; they have a vizard to hide the brand
made by that good law in the last Parliament of King James; they shelter
themselves under the name of a corporation ; they make bye-laws which
serve their turns to squeeze us and to fill their purses ; unface these and they
will prove as bad curs as any in the pack. These are not petty chapmen, but
wholesale men.' " 1
A full account of this stage in English history would deal with
(i) the regulation of labor, including the Statute of Artificers
passed in the reign of Elizabeth, which provided that all able-
bodied men might be compelled to serve as agricultural laborers,
and that all artificers, rural or urban, should undergo an appren-
ticeship of at least seven years. In this same reign provision was
made for the assessment of wages by the Justices of the Peace.
Every year in each locality the justices were to assemble, and,
" calling to them such discreet and grave persons ... as they
1 Cunningham, English Commerce and Industry, Modern Times, Part I pp.
307-8.
THE EVOLUTION OF ECONOMIC SOCIETY 39
shall think meet, and conferring together respecting the plenty or
scarcity of the time," they were to fix the wages for every kind
of manual labor, skilled or unskilled, by the year, week, or day,
and with or without allowance of food. (2) The stage would deal
further with the development of systematic poor relief by civil
authority ; (3) the encouragement of shipping and of (4) the im-
migration of foreign artisans to introduce new industries; (5) the
regulation of the corn trade; (6) the establishing of plantations
in the colonies; (7) the regulation of the coinage; (8) the develop-
ment of banking, insurance, and foreign commerce, and the decay
of the old notions regarding the sinfulness of interest taking.
V. THE INDUSTRIAL STAGE
In the latter part of the eighteenth century, the slow-going
methods of the handicraft stage were radically changed by the
Industrial Revolution. The fundamental feature of this change
is the introduction of power manufacture. The industrial revo-
lution and the chief features of the Industrial stage will be dis-
cussed in the following chapter.
Before proceeding to the consideration of the last stage, it may
be well to notice some of the other views which have been expressed
concerning the periods of economic development. The German
economist, Hildebrand, has taken as his principle of classification
the method of exchanging goods, and from this standpoint he gets
the following three stages : (i) barter, (2) money, and (3) credit.
All three methods of exchanging, to be sure, are in use at the pres-
ent time, but the extensive use of credit is the new and character-
istic thing about present-day exchange. It has been objected that
the period before the use of money became prominent is charac-
terized not so much by the barter of goods as by the fact that
exchange itself is unimportant.
Another writer (Biicher) has divided economic history accord-
ing to the length of time which elapses between the production
and the consumption of commodities, as follows:
1. The independent domestic economy.
2. The town economy.
3. The national economy.
OUTLINES OF ECONOMICS
In the first stage the interval between the production and con-
sumption is small. Things are produced where they are consumed,
as in the village communities of the early middle ages. In the town
economy the interval is somewhat greater. The artisans in the
town produce for the consumption of other persons, for the most
part in the immediate neighborhood, so that the producer meets
the consumer without intermediaries. In the third stage, produc-
tion is for a national market, so that goods may pass through many
hands before reaching the consumer. Possibly, according to this
view, a fourth stage might be added, that of a world economy.
Again, we might pay attention chiefly to the condition of labor.
Beginning with a condition where there is no distinct laboring
class, we pass through slavery and serfdom to free labor, regu-
lated at first by law and custom, and then the free laborer arranges
THE ECONOMIC STAGES
STANDPOINT
FROM
BOCHER'S
FROM
HILDEBRAND'S
FROM
THE LABOR
ILLUSTRATIONS
FROM ENGLISH
OF PRODUC-
STANDPOINT
STANDPOINT
STANDPOINT
HISTORY
TION
I.
Direct Ap-
Prehistoric
propriation
2.
Domestic
Barter
Laboring
Pastoral
Economy
class not dif-
Before Christ
Economy
ferentiated
3-
Slavery and
nth-i4th
Agricultural
Serfdom
Centuries
4-
Handicraft
Town
Economy
Money
Economy
Free Labor
governed
by Custom
I3th-i8th
Centuries
5-
Industrial
National
Economy
Credit
Economy
Individual
Contract
Group
i8th Century
to the Pres-
ent Time
Contract
THE EVOLUTION OF ECONOMIC SOCIETY 41
the conditions of work by individual contract, and finally to an
increasing extent by group contract or collective bargaining.
These various classifications are not contradictory; on the con-
trary, they supplement each other. Still other divisions are pos-
sible. In the preceding table these various points of view are
correlated and applied to the history of England.
QUESTIONS AND EXERCISES
1. Write a description of the economic life of a tribe in one of the first two
stages.
2. What are the theories concerning the origin of cannibalism ?
3. What is the extent of slavery in Africa at the present time ?
4. Sketch the development of the woolen industry in England to 1760.
5. Give an account of the origin of the Bank of England.
6. Summarize the history of poor relief in England.
REFERENCES
ANDREWS, C. M. The Old English Manor.
ASHLEY, W. J. English Economic History, Vol. I.
BUCHER, KARL. Industrial Evolution (trans, by S. M. Wickett).
CHEYNEY, E. P. Industrial and Social History of England, Chaps. I to VII.
CUNNINGHAM, W. Growth of English Industry and Commerce, Vol. I
(Middle Ages) and Vol. II (Mercantile System).
ELY, R. T. Evolution of Industrial Society, Part I, Chap. III.
LUBBOCK, SIR JOHN. Prehistoric Times, Chap. I.
MORGAN, L. H. Ancient Society, Chap. I.
PRICE, L. L. A Short History of English Commerce and Industry, Chaps. I
to VIII.
PRICE, W. H. English Patents of Monopoly.
RATZEL, F. History of Mankind (trans, by A. J. Butler), 3 vols.
SCHMOLLER, G. The Mercantile System (Economic Classics, edited by W. J.
Ashley).
SEEBOHM, F. The English Village Community.
STANLEY, H. M. In Darkest Africa, Vol. I, Chap. XXIII.
WALLACE, A. R. Russia (edition of 1905), Chap. VIII.
WARNER, T. Landmarks in English Industrial History, Chaps. I to XIV.
CHAPTER IV
THE EVOLUTION OF ECONOMIC SOCIETY (Continued)
The Industrial Revolution. The passage from the handicraft
to the industrial stage in England is generally known as the In-
dustrial Revolution. It has been objected that this term is mis-
leading because the introduction of the modern factory system
required many years and was but the working out of conditions
that had been long maturing. It is true that the growth in the
division of labor, the expansion of commerce, and the technical
progress of former ages were necessary preliminaries to the in-
dustrial revolution, but there is little danger of overemphasizing
the importance or the rapidity of the change. The period from
1770 to 1840, the span of a single life, is, after all, a short period
from the standpoint of the historian. Yet the changes of this
period swept away the inefficient methods that had been used for
centuries, and caused profound modifications in social structure.
To understand the nature of this movement, we must review the
condition of things before it began.
England in 1760. England was at this time largely self-suffic-
ing in its economic life, producing for itself its food and other
articles of ordinary consumption, although compared with medi-
aeval days there had been a marked expansion of international
and colonial trade. Woolen goods were the most important ex-
port. The imports consisted largely of wines, spirits, rice, sugar,
coffee, oil, and furs, and some wool, hemp, silk, and linen yarn.
Within the nation, too, there was not such a degree of specializa-
tion of industry in particular localities as is found at the present
day, although the beginning of such localization had clearly been
made in the textile and iron industries. On the whole, however,
the commerce between the different sections of the country was
42
THE EVOLUTION OF ECONOMIC SOCIETY 43
slight. The means of transportation were exceedingly poor, not-
withstanding the growth of turnpike roads. The roads were de-
scribed by a traveler as "most execrably vile." Such was their
condition that pack horses were still a common means of getting
goods to market. Rivers were important highways, canal build-
ing having barely begun.
The system of hand manufacture was still in general operation.
Although the workmen under the domestic system were no longer
owners of the material upon which they worked, yet the tools
they used were their property. The beginnings of certain fea-
tures of the factory system, however, are to be seen long before
the use of power machinery, for in some cases workmen were em-
ployed in large numbers in buildings owned by the employer, who
also furnished the mechanical equipment. But to a large extent
manufacturing was combined with agriculture, not only in the
textile trades, but in other branches also. "At West Bromwich, a
chief center of the metal trade, agriculture was still carried on
as a subsidiary pursuit by the metal workers."
The mediaeval system of common field tillage was extensively
used, a large part of the land being still uninclosed. The culti-
vation was exceedingly poor, but important experiments tending
toward a "new agriculture" were being made in the second quar-
ter of the eighteenth century by JethroTull and "Turnip" Town-
shend. Of the whole number of farms, approximately one half
"were owned and occupied by the various classes of freeholders
and copyholders; that is, by land-owning farmers."
The mediaeval notion of government was still nominally in force.
Detailed and special legislation was supposed to be the means of
securing a well-ordered trade, as explained in the preceding chap-
ter. But a tremendous revolt had begun against this whole sys-
tem of government. This revolt had its religious and political as
well as its economic aspect. The same year that Thomas Jeffer-
son wrote the Declaration of Independence, asserting that all
men are by nature equal, Adam Smith published the Wealth
of Nations, the most influential book ever written on economics.
"Every individual," said Smith, "is continually exerting himself to find
out the most advantageous employment for whatever capital he can command.
44 OUTLINES OF ECONOMICS
It is his own advantage, indeed, and not that of the society, which he has in
view. But the study of his own advantage, naturally, or rather necessarily,
leads him to prefer that employment which is most advantageous to society.
. . . What is the species of domestic industry which his capital can employ,
and of which the produce is likely to be of the greatest value, every in-
dividual, it is evident, can, in his local situation, judge much better than any
statesman or lawgiver can for him." l
The Mechanical Inventions. During the last half of the eight-
eenth century the progress of invention was exceptionally rapid.
Kay's flying shuttle (1738) had facilitated the weaving process to
such an extent that it became difficult to secure enough yarn from
the spinners. Hand spinning was improved by Hargreave's
"jenny" about 1767; Arkwright, in 1771, made a practical success
of roller spinning (a method patented long before), using horse
power, and later, water power. Crompton combined these two
processes in 1779. After 1785 steam power was applied to cotton
spinning, and then it was the weaving process that was felt to be
too slow. Cartwright began his experiments in 1784, but the
power loom did not come into general use until early in the nine-
teenth century.
The improvement in the steam engine also made possible great
advances in the iron industry, of fundamental importance in an
age of machinery. The production of English iron was over sev-
enty-five times as great in 1840 as it had been in 1740.
The need for better transportation was met by improved roads,
by the building of canals (especially 1790 to 1805), and by the
development of steam locomotion. The germ of the modern rail-
way is seen in the tramways used in the coal mines. Cast iron
rails were used as early as 1738. The first tramway to be used
for public purposes was chartered in 1801, the cars to be drawn
by horse power. Trevithick made a locomotive in 1803 that was
of practical use. In 1814 Stephenson constructed a locomotive
that could draw a load of thirty tons at the rate of three miles an
hour. The Stockton and Darlington road was opened in 1825
with a Stephenson locomotive that made fifteen miles an hour,
but two years later the directors of the road considered the advisa-
bility of abandoning the use of locomotives. In 1829 the direc-
>A. Smith, Wealth of Nations, Book IV, Chap. II.
THE EVOLUTION OF ECONOMIC SOCIETY
45
tors of the Liverpool and Manchester Railroad arranged a prize
contest to determine the practicability of steam locomotion. The
success of Stephenson's "Rocket" in meeting the requirements of
the contest demonstrated that the new method of locomotion had
come to stay.
"A general survey of the growth of new industrial methods in the textile
and iron industries marks out three periods of abnormal activity in the evolu-
tion of modern industry. The first is 1780-1795, when the fruits of early
inventions were ripened by the effective application of steam to the machine
industries. The second is 1830 to 1845, when industry, reviving after the
European strife, utilized more widely the new inventions, and expanded under
the stimulus of steam locomotion. The third is 1856-1866 (circa), when the
construction of machinery by machinery became the settled rule of industry." *
It is impossible here to review all the lines of progress in inven-
tion and discovery. This progress is not confined to mechanical
matters, and taken as a whole, undoubtedly has been much more
rapid in the nineteenth than in any preceding century.
Mr. Alfred Russel Wallace says that " to get any adequate comparison with
the nineteenth century we must take, not any preceding century or group of
centuries, but rather the whole preceding epoch of human history." A
basis for his statement is given by the following comparative lists of great
inventions and discoveries. One hesitates to make such a comparison, but
it possesses some interest :
OF THE NINETEENTH CENTURY OF ALL PRECEDING AGES
1. Railways i. The Mariner's Compass
2. Steamships 2. The Steam Engine
3. Electric Telegraphs 3. The Telescope
4. The Telephone 4. The Barometer and Thermometer
5. Lucifer Matches 5. Printing
6. Gas Illumination 6. Arabic Numerals
7. Electric Lighting 7. Alphabetical Writing
8. Photography 8. Modern Chemistry Founded
9. The Phonograph 9. Electric Science Founded
10. Rontgen Rays 10. Gravitation Established
11. Spectrum Analysis n. Kepler's Laws
12. Anaesthetics 12. The Differential Calculus
13. Antiseptic Surgery 13. The Circulation of the Blood
14. Conservation of Energy 14. Light proved to have Finite
Velocity
1 Hobson, Evolution of Modern Capitalism, new edition of 1907, p. 89.
46 OUTLINES OF ECONOMICS
OF THE NINETEENTH CENTURY OF ALL PRECEDING AGES
15. Molecular Theory of Gases 15. The Development of Geometry
1 6. Velocity of Light directly
measured, and Earth's Ro-
tation experimentally shown
17. The Uses of Dust
18. Chemistry, Definite Propor-
tions
19. Meteors and the Meteoritic
Theory
20. The Glacial Epoch
21. The Antiquity of Man
22. Organic Evolution established
23. Cell Theory and Embryology
24. Germ Theory of Disease, and
the Function of the Leuco-
cytes. 1
Agricultural Changes. During the Industrial Revolution there
were also important changes in agriculture. Bakewell, in the sec-
ond half of the eighteenth century, improved the breeds of sheep
and cattle. The inclosing of the common fields proceeded with
great rapidity, not, as in the sixteenth century, for the purpose of
sheep raising, but to permit of more efficient tillage of the soil.
Between 1760 and 1850 over seven million acres were inclosed in
England. The small land-owning farmer was crowded out, partly
because more investment per acre was needed with the new agri-
culture, partly because "gentlemen farmers" (men who had made
money in other pursuits and took up agriculture because it was
fashionable) bought them out, and because the price of land was
greatly increased by the desire of wealthy men to build up family
estates. To-day practically all English farmers are tenants. The
small farmer, who under the domestic system was also frequently
a handicraftsman, was thus crushed between the new agriculture
and the new industry.
"Hitherto the rude implements required for the cultivation of the soil,
or the household utensils needed for the comfort of daily life, had been made
at home. The farmer, his sons, and his servants in the long winter evenings
carved the wooden spoons, the platters, and the beechen bowls, plaited wicker
1 Wallace, The Wonderful Century, pp. 154-155.
THE EVOLUTION OF ECONOMIC SOCIETY 47
baskets, fitted handles to the tools, cut willow teeth for rakes and harrows
and hardened them in the fire, fashioned ox yokes and forks, twisted willows
into the traces of other harness gear. Traveling" carpenters visited farm-
houses at rare intervals to perform those parts of work which needed their
professional skill. The women plaited the straw for the neck collars, stitched
and stuffed sheepskin bags for the cart saddle, wove the straw and hempen
stirrups and halters, peeled the rushes for and made the candles. The
spinning wheel, the distaff, and the needle were never idle; coarse hand-made
cloth and linen supplied all wants; every farmhouse had its brass brewery
kettle. . . . All the domestic industries by which cultivators of the soil
increased their incomes, or escaped the necessity of .selling their produce,
were now supplanted by manufactures." *
Effects of the Industrial Revolution. As has already been indi-
cated, the Industrial Revolution introduces one of the great stages
in the development of man's power over nature. But along with
the new opportunities came also new dangers and perplexing
problems.
(i) The Factory System. The use of expensive machinery
and steam power made it impossible for men to carry on their
work in their own homes. The factory supplants the home as
the typical unit of production. Instead of working by themselves
or with a few assistants, men now to a much greater extent than
before must congregate in cities, and submit to a new discipline in
large groups organized for purposes of production. This brought
with it a new division of society into classes. The machine and
the workshop, as well as the raw material and the product, are at
no stage in the productive process owned by the men who do the
manual work. The masses become wage earners. Now, in some
industries not one in a hundred can by exceptional ability become
an independent employer, and the workman knows that he is a
workman for life. So we have now two industrial classes, laborers
and capitalists, with a great gulf between them which compara-
tively few men can cross, and with interests which often seem
irreconcilable. What the ultimate effects of the new system of
production will be cannot be stated, but it has been suggested
that these changes in external relations are affecting also men's
1 Prothero, quoted by Cunningham, Growth of English Industry and Com-
merce, Modern Times, Part II, p. 722.
48 OUTLINES OF ECONOMICS
habits of thought. Can we expect the institution of private prop-
erty to seem as natural and sacred to those who have nothing to
do with the buying and selling of products as to those who engage
much in pecuniary transactions? It has been suggested that the
feeling that we have a right to the product of our own labor is
merely a survival of the era of small-scale hand manufacture.
(2) The Expansion of Markets and Industrial Specialization.
Along with the new methods of production there has been a change
from restricted local markets to national and even world markets.
Improved methods of transportation make it possible for different
branches of production to be localized in regions where there are
special facilities for raw material or power. This implies greater
economic interdependence and greater liability to trade fluctua-
tions and disturbances. One great advantage of the old slow-
going system of manufacture and trade was its regularity. As the
area of the market increases, manufacturers find it more difficult
to decide what and how much to produce. Trade fluctuations
have increased in severity with the growth of large-scale produc-
tion. This is due not merely to the changing and enlarging de-
mand which cannot be calculated, but also to the fact that manu-
facture itself is constantly being disturbed by improvements which
cannot be foreseen. It is possible that a still larger scale of manu-
facture hereafter will bring steadiness in industry, but whatever
the cause of these fluctuations, the effect upon the wage earner is
demoralizing. If he were wise enough to save his earnings dur-
ing good times, and so have something for hard times, he would
not suffer so much. But very few people who live in abundance
can do this; how much less those whose condition even in good
times is one of meager comfort !
Evils of the Transitional Period. The condition of the English
working classes in the latter part of the eighteenth and early nine-
teenth centuries was undoubtedly worse than in any other period
in the history of the country. It is difficult to say to what extent
this was due to the introduction of the factory system. In addi-
tion to the new methods of manufacture there were wars, peculiar
facts about land ownership, duties, and taxes. There is some
evidence that the condition of child workers under the domestic
THE EVOLUTION OF ECONOMIC SOCIETY 49
system was often worse than in the factories, their parents prov-
ing the hardest taskmasters.
"The evils and horrors of the industrial revolution are often vaguely
ascribed to the ' transition stage ' brought about by the development of ma-
chinery and the consequent ' upheaval.' But the more we look into the matter,
the more convinced we become that the factory system and machinery merely
took what they found, and that the lines on which the industrial revolution
actually worked itself out cannot be explained by the progress of material
civilization alone ; rather, the disregard of child-life, the greed of child-labour,
and the maladministration of the poor law had, during the eighteenth century,
and probably much farther back still, been preparing the human material
that was to be so mercilessly exploited." *
But whatever the causes, the facts that have been revealed re-
garding the conditions in English mines and factories of this period
are amazing. The picture includes cruelty to apprenticed chil-
dren, excessive hours, and unhealthful conditions of work. The
evils were worst in the smaller factories, the owners of which were
hard pressed by relentless competition. Outside of the factories,
also, those who attempted to continue to work in their homes in
the old way suffered from irregular employment and low earn-
ings. The distress of the hand-loom weavers affords an illustra-
tion.
Competition and Laissez-faire. We have seen that Adam
Smith advocated liberty. He asserted that every man, if allowed
to do as he pleased, would sooner or later do that for which he
/as best fitted, and would consequently work where he could get
the most wages. Every man would buy what suited him best,
and, after some experiment, manufacturers would make what was
called for. If one line of work was more profitable than another,
more men would go into it and by their competition would bring
prices down. If men cheated their customers, the men would go
somewhere else, and cheating would not pay. Everywhere men
would look out for their own interests and would make the bar-
gain that was most advantageous to themselves. This system of
balanced self-interests resulting from competition was the best
regulator possible, infinitely better, he claimed, than the old-time
laws, which only incumbered the development of industry. If
1 Hutchins and Harrison, A History of Factory Legislation, p. 13.
E
50 OUTLINES OF ECONOMICS
the policy of industrial freedom were adopted, he prophesied a
great increase in the national production of wealth.
This view gained in favor during the Industrial Revolution. Not
that a wholesale repeal of the old laws occurred, such things
never happen in England, and are difficult anywhere, but there
is a quiet and effective way of changing laws by changing men's
ideas regarding them and leaving them unenforced. A law that
has been long observed has often to be long dead before people
gain the courage to repeal it. So the law requiring seven years'
apprenticeship before one could enter certain trades quietly died
during the eighteenth century, and when, finally, in the labor
troubles early in the nineteenth century, some workmen in desper-
ation discovered the old law and prosecuted employers for violat-
ing it, the law was first suspended and then repealed, as being
plainly ill adapted to the new condition of industry. So, little by
little, the old laws were repealed or forgotten, and men were left
free to bargain and manufacture as they pleased.
This policy of laissez-faire, or letting things drift, was very gen-
erally accepted by the economic writers who followed Adam Smith,
and was clearly reflected in the parliamentary debates. The uni-
versal free play of competition came to be the prevailing ideal in
this first phase of the industrial stage. It was in keeping with
this spirit that England became a free-trade nation in this period,
the last step being taken when the "corn laws" were repealed in
1846, the act going into effect in 1849.
The Reaction against the Passive Policy. It may be said that
by 1850 the abandonment of mercantilistic ideas was complete in
England, but long before this date a new system of legislation was
enacted for the purpose of controlling industry. The government
could not ignore the actual condition that resulted from competi-
tion and the introduction of machinery. We have now to con-
sider some of the main lines of development of industrial regula-
tion.
(i) The Quality of Goods. In repealing the laws for the in-
spection of wares it was urged that cheating would not pay and
would cure itself. Indeed, it was said that the very inspection of
wares by the government was the cause of fraud; for, the govern-
THE EVOLUTION OF ECONOMIC SOCIETY 51
ment brand being often put on carelessly, men bought poor goods,
because of the brand, which they would have rejected if they had
examined them. The abolition of the laws would result in each ex-
amining goods for himself, it was asserted. It is hardly necessary
to say that these hopes were not realized. Men might be trusted
to attend their own interests if they knew enough to do so, but
they do not. Who can tell the quality of baking powder, or ground
spices, or patent medicines, or many other things that are misrep-
resented when offered for sale? For these the ordinary buyer's
knowledge is worthless; an expert must be employed. Such has
been the experience of the English people and also, more recently,
of the people of the United States, and the law now provides for
the inspection by government experts of many articles of food.
The theory that men will ruin their business prospects if they cheat,
and so will be deterred from cheating, has been utterly exploded
by this great English experiment. The reputation for honesty is
undoubtedly a source of strength to many business houses; but
many a man has perpetrated an audacious fraud upon a country
for a few years and retired with a fortune when his cheating began
to be known. The inspection of goods by the State is a principle
now fully recognized, the only question being how far it should
be applied.
(2) The Protection of Labor. As a result of a series of epi-
demics of infectious fevers, public attention was called to the con-
dition of the apprenticed children in cotton factories. In 1 796 the
Manchester Board of Health reported upon the unhealthful con-
ditions under which the children worked, pointing out that "the
untimely labour of the night, and the protracted labour of the
day, with respect to children, not only tends to diminish future
expectations as to the general sum of life and industry, by impair-
ing the strength and destroying the vital stamina of the rising gen-
eration, but it too often gives encouragement to idleness, extrava-
gance and profligacy in the parents, who, contrary to the order
of nature, subsist by the oppression of their offspring." In 1802
the first factory act was passed to protect the health and morals of
pauper children in cotton factories. The apprentices were not to
vrork more than twelve hours by day, and after 1804 not at all by
52 OUTLINES OF ECONOMICS
night, but the law was not effectively administered. After much
agitation, in which Robert Owen took a prominent part, a second
step was taken in 1819. The act prohibited children under nine
years from working in cotton mills, and no person under sixteen
was to be employed more than twelve hours per day. As with the
act of 1802, the enforcement of the law was left to the justices of
the peace. In 1833 regulations as to conditions of work for chil-
dren and young persons were made for all textile factories, and
special inspectors were provided to enforce the law. In the fol-
lowing years the controversy concerning labor legislation was vio-
lent and bitter. After a report by a committee revealing shameful
conditions in the mines, an act was passed in 1842 prohibiting the
employment of women and children underground. In 1844 wo-
men were included in the protective factory legislation and the
half-time system for children was enacted. The Ten Hours' Act
of 1847 limited the working day to ten hours. Subsequently, pro-
tective legislation was made to cover industrial establishments gen-
erally. These various laws were consolidated in 1878, and again
in 1901. Laws now in force provide for (i) the fencing in of
dangerous machinery; (2) sanitation in factories; (3) a minimum
age and schooling for children at work; (4) limitation of the hours
of work for women and children. There is no direct regulation
of the hours of adult male workers, nor of the wages of any
class of workers.
Another important line of legislation that has been made neces-
sary by the extensive use of machinery deals with the liability of
employers in cases of accidents to their workmen. Under the
common law a workman was entitled to receive damages when
injured as a result of the negligence of his employers, but he was
supposed to assume the ordinary risks of the business. When
the injury was caused by the workman's own negligence or by
the negligence of a fellow- workman, the employer was not respon-
sible. The Employers' Liability Act of 1880 gave the workman a
right to compensation also in certain cases where the injury was
caused by the negligence of other employees, but in 1897, by the
Workmen's Compensation Act, a radical departure was made from
previous legislation. The employer is now liable to pay damages
THE EVOLUTION OF ECONOMIC SOCIETY 53
even when there has been no negligence on his own part, and even
when the accident has been due to the neglect of the injured work-
man himself, except only in cases of "serious and willful miscon-
duct." This principle now applies also to agriculture, shipping,
and mercantile and domestic employments, and certain trade dis-
eases have been made to count as accidents.
(3) Labor Organizations. Modifications in the working of
free competition have also been effected by the voluntary organi-
zation of the worker, not only by their influence upon legislation,
but also by direct dealings with employers. We have noticed the
gilds, which played a large part in the history of the middle ages.
These, however, were not like modern trades unions. They were
unions of men who worked, but not exclusively of wage earners,
nor in the interests of wage earners even chiefly. They were
formed of masters. But combinations of the wage-earning classes
are found long before the Industrial Revolution. They do not
become prominent, however, until the nineteenth century. Laws
prohibiting the combination of laborers had been passed at inter-
vals since the middle ages, and in 1800 Parliament, finding that
unions were increasing, passed a most comprehensive law to sup-
press them, declaring illegal "all agreements between journeymen
and workmen for obtaining advances of wages, reductions of hours
of labor, or any other changes in the conditions of work." Under
this law many workmen were prosecuted and severely punished,
but in vain. In 1824 Parliament confessed the law a mistake,
and repealed it along with previous laws relating to combinations
of workmen. Trades unions thus tolerated grew at an astonish-
ing rate, but they were still subject to legal persecution. Judicial
decisions, especially, were adverse to them, as the courts regarded
them as agreements in restraint of trade. But in 1871 a law was
passed which declared that the purposes and actions of trades
unions were not to be deemed unlawful as being in the restraint
of trade, and in 1875 the legality of trades unions was still further
recognized by the provision that acts which were not punishable
as crimes when done by one person should not be indictable as
conspiracy when done by two or more in furtherance of trade dis-
pute, and finally, in 1906, the courts were forbidden to entertain
54 OUTLINES OF ECONOMICS
actions for damages against trades unions. In this same year
peaceful picketing was legalized.
(4) The Extension of Government Enterprise. The reaction
against a laissez-faire policy is further shown by a growth in the
sphere of industry directly managed by the government. We find
municipalities operating street railways and furnishing water, gas,
and electric light. Municipal enterprise includes also in various
places markets, docks, dwellings, baths, race courses, oyster fish-
eries, slaughterhouses, milk depots, employment bureaus, sewage
farms, theaters, and many other lines of activity. Again, the na-
tional government conducts the postal savings banks, the parcels
post, and the telegraph and telephone systems.
Summary. In this chapter a brief- sketch has been given of
England's attempt to deal with a new set of forces. An immense
increase in production has taken place, due in part to competition,
more to machinery. But the distribution of this wealth, growing
directly out of the principles of competition so long as they were
unrestrictedly applied, was such that poverty grew rapidly, and
some said even faster than wealth, and the laboring population
of the realm sank into deeper distress and degradation. The par-
tial benevolence of employers, which would fain have mitigated
this disaster, was, as a rule, neither welcomed nor tolerated by the
competition which had made itself law. Not until this benevo-
lence was formulated, generalized, and enforced by disinterested
legislation was the horror of the situation diminished. When we
hear the principle of "a fair field and no favor" and "no State
intervention" advocated by a man strong in the consciousness of
personal advantages, we must remember that he is a century be-
hind his time, and that he has not read or has not profited by one of
the most dolorous chapters in human history. The English nation,
after a trial of free competition and no interference, as thorough
as could well be made, has undeniably returned to the principle
of governmental activity which she had abandoned, a principle
which recognizes as the function of the State the protection
of the citizens, and the furtherance of their material and social
well-being, by every law and every activity which offers a reasona-
ble guarantee of contributing to that end. It is to be noticed fur-
THE EVOLUTION OF ECONOMIC SOCIETY 55
thermore that, as a matter of fact, all this activity of the State con-
tributing to material and social well-being has also increased free-
dom as a positive, constructive force. It has promoted the growth
of individual powers and enlarged the scope of activity of the
average citizen. It has not tended to slavery, as Herbert Spencer
long ago maintained, but its tendency has been in the direction of
the sort of liberty that is really worth while ; namely, liberty as a
power of development and of contributing (in the words of the
philosopher T. H. Green) to the "common good."
QUESTIONS AND EXERCISES
1. What is the origin of the terra " laissez-faire " ?
2. What laws are in force in your state regarding the inspection of food and
other articles offered for sale?
3. Give a detailed account of the development of one of the great inven-
tions.
4. Give a sketch of the enactment and repeal of the "corn laws."
5. Give an account of the development of monopolies and trusts in Eng-
land.
REFERENCES
BEARD, C. The Industrial Revolution.
CHEYNEY, E. P. Industrial and Social History of England, Chaps. VIII
and IX.
CUNNINGHAM, W. Growth of English Industry and Commerce, Modern
Times, Part II. Laissez-Faire.
HOBSON, J. A. Evolution of Modern Capitalism, Chaps. Ill and IV.
HOWE, F. C. " Municipal Ownership in Great Britain," Bulletin of the
United States Bureau of Labor, January, 1906.
HUTCHINS and HARRISON, A. A History of Factory Legislation, Chap. II.
PRICE, L. L. Short History of English Commerce and Industry, Chaps. IX
andX.
TAYLOR, H. C. " The Decline of Land-owning Farmers in England," Bulletin
of the University of Wisconsin, Economics and Political Science Series,
No. 142.
TOYNBEE, A. The Industrial Revolution.
VEBLEN, T. B. The Theory of Business Enterprise, Chap. IV.
CHAPTER V
THE ECONOMIC DEVELOPMENT OF THE UNITED STATES
THE economic development of the United States has in some
respects been very unlike the economic development of England,
and yet very like it in other respects. Let us note in the first place
the points of difference, the factors and characteristics of our eco-
nomic history which are peculiarly American.
Economic Stages in American Industrial History. The transit
of civilization from Europe to America, as an American historian 1
has finely phrased it, thrust the European laws, customs, and in-
dustrial technique of the seventeenth century into the primitive
environment of a wilderness, and for the moment the wilderness
dominated. Industry was forced to begin at the beginning and
retrace as the child is said to retrace the mental development
of mankind the industrial evolution of the race.
The American people have thus, during the comparatively brief
historical period which has elapsed since the settlement of this
country, run the whole gamut of industrial evolution, passing
through with striking rapidity all the stages differentiated in the
preceding chapters. There was slaughter of captives in the In-
dian wars, enslavement of Indians, particularly but not only
in the Spanish colonies, later the introduction of negro slavery
and modified serfdom in the bond or indented servants, then
the individual wage contract, still supreme among agricultural
laborers, and finally, collective bargaining through the great
trades unions of the present generations. In a similar way,
practically all the stages differentiated in the table given on page
40 may be traced in the industrial evolution of the United
States.
1 Edward Eggleston, Transit of Civilization, New York, 1900.
56
ECONOMIC DEVELOPMENT OF THE UNITED STATES 57
Naturally it is not to be supposed that American industrial so-
ciety worked its own way unaided through all those economic
stages which the race, with "painful steps and slow," has labori-
ously traversed in its upward march. Stimulated by European
culture, we hurried through the earlier stages, for the most part,
retracing them merely as an incident of frontier conditions, and
skipping some such as the pastoral stage in many sections
of the country. On the other hand, it must not be inferred that
we have everywhere passed beyond the so-called primitive
stages. Barter is still the commonest mode of exchange in some
parts of the country, and there are comparatively few rural dis-
tricts in which credit transactions have in the main taken the
place of money transactions. It is interesting to observe that,
owing to the progressive Western movement of the population of
the country, the stages in the history of man's productive efforts
appeared in regular order from West to East. Thus, a few years
ago, the country of the frontier was occupied by hunters and
trappers; next were great stretches of country almost entirely de-
voted to grazing; farther east, agriculture predominated; trade
and commerce were active, especially in the country east of the
Mississippi; manufacture on a large scale was prominent in the
North Atlantic and North Central groups of states; while finally
the large industrial combinations which mark the latest step in
development were confined (with respect to legal residence at
least) to the Atlantic seaboard.
Sectionalism. This phenomenon of the contemporaneous ex-
istence of several industrial stages, side by side, under the same gov-
ernment, has laid upon this country some of the hardest problems
which it has had to solve. The ever present but ever reced-
ing frontier has continually created a set of interests antagonis-
tic to those of the settled industrial and commercial communities.
Shays's Rebellion in 1786 was in part a protest of the more
thinly settled debtor communities against the determination of
the commercial centers to introduce the sound currency which a
developed commerce requires. The federal Constitution was
adopted and the present government created in order, largely,
to strengthen national credit, insure taxation, remove trade
58 OUTLINES OF ECONOMICS
barriers, and provide a sound currency; and the opposition to the
ratification of the Constitution came largely from those agricul-
tural and thinly settled communities that wanted to keep paper
money, evade debt payment, and resist the collection of taxes.
During the earlier history of the country wildcat banking and in-
flated currency regularly followed in the wake of the frontier.
Tariff legislation, with its different appeal to the agricultural
and industrial sections of the country, has been another prolific
source of territorial conflict. After the War of 1812, the manu-
facturing centers of the North redoubled their efforts for protec-
tion. This was strenuously resisted by the South, where manu-
factures had practically gained no hold, and the struggle of the
sections over the tariff led to Nullification in South Carolina and
the acceptance by the South of the doctrine of secession. The
Civil War itself was largely a sectional quarrel growing out of
ceaseless friction between a section which had reached the indus-
trial stage and a condition of free-wage contract with a section
which had been held in the agricultural stage by the retention of
slavery. As a late illustration of sectional conflict arising from
the natural clash of districts in different stages of economic devel-
opment, we have the free-silver campaign of 1896, when the min-
ing, agricultural, and debtor communities of the West and South
arrayed themselves against the industrial and creditor communi-
ties of the East and North. The typical political struggles of the
past have been territorial and sectional; now that the frontier
has disappeared, the typical political struggles of the future will
take the form, possibly, of class against class.
Characteristics of the American People. Although the frontier
has disappeared, the pioneer work of "winning a continent from
nature and subduing it to the uses of man" has left an indelible
impress upon the American character. In the beginning the dan-
gers and hardships of the frontier acted as a powerful selective
force in determining the character of our earlier immigrants, giv-
ing us an unusually restless, mobile, and enterprising people. The
process of settlement which followed merely emphasized these
qualities and added others of a kindred nature. The primitive
settler, following the trapper and the trader into the wilderness,
ECONOMIC DEVELOPMENT OF THE UNITED STATES 59
was forced to depend upon himself for protection and subsistence;
he expected little aid from the government, was unused to the
restraints of law, and a little contemptuous of its possibilities, either
for good or for evil. The process of settlement, then, merely con-
firmed the American in that excessive individualism which has
made him independent and resourceful, to be sure, but partial to
the spoils system, tolerant of lynch law and labor violence, indif-
ferent to waste and weakness in the administration of his govern-
ment.
At the same time the great natural wealth of our land and the
ease with which it could be secured from the government have
taught our people, particularly in the West, to regard nature rather
than thrift as the source of wealth, to exploit rather than create,
to work and study as we farm extensively. As a people, we are
optimistic but careless, generous but wasteful, buoyant but boast-
ful. Industrially, we have risen to our exceptional opportunities
with spirit, playing the commercial game at times with excessive
energy and devotion; but we have come to emphasize quantity
rather than quality, product rather than finish. We "lead the
world" in the use of labor-saving machinery, but depend largely
upon Europe for our skilled artisans.
Growth of Population. The mere growth of the American peo-
ple has been as striking as it is familiar. In 1640 there were about
25,000 persons, excluding Indians, in British North America;
about 260,000 at the end of the seventeenth century according to
Bancroft; according to the same authority the million mark was
reached in 1743; and in 1790 the first federal census showed a
population of 3,929,214 in the United States alone. In the next
hundred years the population doubled every twenty-five years on
an average, and although the rate of increase has fallen off some-
what since the Civil War, we are still growing at a marvelous pace,
the population of continental United States being estimated at
82,574,195 in ^QS-
Despite this enormous increase, there has been at no time any
evidence that the population of this country was multiplying more
rapidly than the means of subsistence. Wages and incomes in
general have risen, not without interruption, but with compara-
60 OUTLINES OF ECONOMICS
tive steadiness, over long periods; and the dismal predictions of
overpopulation which were so common in the first half of the nine-
teenth century have been signally discredited as practical propo-
sitions applicable to the American people of this epoch. The
exploitation of national wealth, the perfection of business organi-
zation, and the invention of labor-saving machinery have more
than kept pace with the population; and it has been discovered
that over long periods prosperity and high wages tend to depress
rather than to raise the birth rate, even of the wage-earning popu-
lation. We are in no danger of a " devastating torrent of chil-
dren."
On the contrary, the real problem of the twentieth century, or
at least the problem that has evoked the greatest discussion, is
found in the steady decline of the birth rate. According to some
of the most eminent authorities, the race is dying at the top, the
ablest and most successful people have the smallest families; and
this constant sterilization of the ablest stock of the race is, in the
opinion of such authorities, second in importance to no problem
which Western civilization is called upon to solve. It is not that
we want more people. Population is still increasing with suffi-
cient rapidity. The problem lies in the apparent failure of the
most efficient individuals to multiply as rapidly as certain classes
of the less efficient. Other authorities, it should be added, main-
tain that this "race suicide" has been going on for centuries, that
it has not in the past, and will not in the future, lower the vitality
or general efficiency of the race. Such writers view with compla-
cency the ceaseless sterilization of the upper classes, maintaining
that the process stimulates the ambition of the abler members of
the lower classes by creating room at the top, and that so long as
the habits and ideals of the upper classes remain wholesome, there
is no cause for regret that the individuals who compose these
classes are not self-perpetuating. Social heredity, not personal
heredity, the preservation of sound morals, wholesome customs,
and habits of social helpfulness, together with the opening up of
new opportunities, are the important factors.
Second only in importance to "race suicide," and intimately
connected with it, is the problem created by the rush to the city.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 6l
In 1790 about 33 Americans in every thousand lived in a city of
8000 inhabitants or more, in 1900 more than 33 in every hundred
lived in a city of this size. The mere facts in this connection are
familiar to every one and need no elaboration. Their importance
lies in the fact that the rush to the city is apparently universal,
that it has been going on for centuries, and that it indefinitely com-
plicates and aggravates the social, industrial, and political prob-
lems of our time. "Race suicide," for example, is more attribu-
table to social conditions created by city life than to any physical
incapacity of the women of this generation to bear children; the
evils commonly charged to the factory system are due as much
to city crowding as to the factory system itself; and, speaking gen-
erally, whatever plan of reform for existing evils we devise or
champion, we must reckon with this deep-rooted and persistent
force which draws to the city so much of the best talent and abil-
ity which the rural districts produce.
Slavery and the Negro Problem. From the earliest period of
settlement, one of our fundamental industrial problems has been
to get enough labor to exploit the great national wealth of the
country. The first solution attempted was by importing bonds-
men or indentured servants. "Nearly all the immigrants that
came (to Virginia) between 1620 and 1650 were bondsmen," and
in 1680 an English official estimated that about 10,000 persons
were kidnaped or "spirited away" to America every year. This
class of indentured servants consisted of runaway apprentices,
penniless debtors, kidnaped children, honest laborers, vagrants,
and criminals of all kinds. They were sometimes subject to the
most inhuman treatment, but, because they had white skins, soon
melted into the free population and never created a race problem.
The first negro slave landed in Virginia in 1619. For about
thirty years they did not increase very rapidly, but after that, and
until the close of the eighteenth century, they multiplied with
greater rapidity than the white population. In 1790 there were
750,208 negroes or persons of negro descent in this country, con-
stituting 19.3 percent of the population. Since 1790 the negro
population has steadily declined in relative importance, and in
1900, numbering 8,840,789 in all, it constituted only n.6 percent
62 OUTLINES OF ECONOMICS
of the general population. The relative decline of the negro popu-
lation is probably not due to white immigration, since the natural
growth of the white population is markedly greater than that of
the negroes in the South, where white immigration has been un-
important.
The negro problem to-day, in so far as it is an economic as dis-
tinguished from a political or social problem, arises from the tend-
ency of the negroes to concentrate in the cities and in a narrow
district of the cotton-growing states known as the black belt;
from their shiftlessness, their ignorance, their dependence upon
credit advances in the farming districts, and their alarming con-
centration in a few occupations, some of which particularly as
they practice them are neither educational, uplifting, nor devel-
opmental. In 1900, for instance, 63 per cent of the male and 90
per cent of the female negro breadwinners were employed in un-
skilled trades, and the proportion confined to the unskilled
trades shows no signs of diminishing. This condition of affairs is
due in some degree to the economic inertia and shiftlessness of
the negroes themselves, but it is also due in part to the race preju-
dice of their white brethren, which, unfortunately, shows no abate-
ment with the passage of time. The trades unions, for instance,
evince a growing disinclination to receive negroes as members on
the same status as white workingmen. Vigorous efforts are now
being made in the South to provide industrial training of a sys-
tematic kind for the negroes, and in the future the rather men-
acing movement of the present day may be checked or wholly
reversed.
Immigration. Next in importance to the negro question is
the problem of immigration. We have always had an immigra-
tion problem. "Governor Thomas Dongan, in 1685, made a re-
port to the King of England full of dreadful forebodings as to the
future of the 'Royal Province' of New England unless the tend-
ency to overcrowding were promptly checked. . . . George Wash-
ington and Thomas Jefferson are both recorded as opponents of
an unrestricted policy of immigration, and it may be safely asserted
that no considerable period has elapsed since their day without
producing eloquent and forceful advocates of a rigid restrictive
ECONOMIC DEVELOPMENT OF THE UNITED STATES 63
immigration policy." 1 Owing, however, to the extraordinary in-
crease of immigrants in recent years the number rose from
223,299 in 1898 to 1,285,349 in 1907 unusual interest in the
subject has been aroused, the restrictive features of our law have
been repeatedly strengthened, and a commission has been ap-
pointed by Congress to investigate the subject.
Most of the alarm which has recently been expressed, however,
is due to the change in character, rather than the increase in vol-
ume, of our immigration. Instructive statistics bearing upon this
point are given in Table I on the following page. From this
table it appears that until nearly the last decade of the nineteenth
century, most of the immigrants came from the United Kingdom,
Germany, and northwestern Europe, while since that time the
arrivals have been largely from southern Europe; and it is charged
that the new immigrants are more illiterate, more given to crime,
of poorer physique, and possessed of less property than the earlier
immigrants. "These people," it has been said, "have no history
behind them which is of a nature to give encouragement. They
have none of the inherited instincts and tendencies which made
it comparatively easy to deal with the immigration of the earlier
time. They are beaten men from beaten races, representing the
worst failures in the struggle for existence. Centuries are against
them, as centuries were on the side of those who formerly came
to us." 2
There can be no doubt about the real gravity of the problem.
In times past charitable associations, and even certain foreign gov-
ernments, "assisted" the poorest and neediest of their citizens to
migrate to this country; famine and revolution in Europe spurred
the impecunious and the radical to take refuge among us; regu-
larly, also, the tide of immigration has ebbed and risen in close
correspondence with the business prosperity of this country, arti-
ficially swelling our laboring population in times of industrial ac-
tivity, encouraging our industrial managers in their spasmodic,
jerky methods of production, and thus augmenting the severity of
1 Commissioner of Immigration, Robert Watchorn, in The Outlook, Vol. 87,
p. 900.
* Walker, Discussions in Economics and Statistics, " Restriction of Immigra-
tion," p. 447.
OUTLINES OF ECONOMICS
our alternating periods of industrial depression. Moreover, in
certain industries the immigrant with his relatively low standard of
living has driven out the native workman; and most of the immi-
grants have shown an unfortunate tendency to linger in the cities
of the eastern seaboard, swarming in the slums and intensifying
all those social evils which have their origin in urban congestion.
In the light of history, on the other hand, the immigration prob-
lem is far less alarming than it is in the dry light of recent statistics.
In the first place, the statistics themselves, as ordinarily published,
TABLE I
TOTAL NUMBER OF IMMIGRANTS (IN THOUSANDS) AND PROPORTION COMING
FROM DESIGNATED COUNTRIES BY SPECIFIED PERIODS : 1821-1906.'
1821
1851
1861
1871
1881
1891
1901
1850
1860
1870
1880
1890
1900
1906
Total Number, ooo
omitted
241:6
2?o8
2TIC.
2812
C247
3844
4074
Per cent
Germany
24. 2
36.6
34.0
2?. 6
27.7
14.1
4.7
Great Britain
I .O
16.1
26.2
IQ. <;
115.4
8.0
e.4
Ireland
42.3
1C. 2
18.8
ic.e
12.1;
IO.S
4.4
Norway, Sweden, and
Denmark
0.7
0.9
5-4
8.6
12-5
9-9
7.0
Total
82.2
89.0
84.4
69.2
68.1
43-4
21. 1
Austria Hungary . .
O 4.
2.6
6 7
Itrc
24 C.
Italy
O.2
O.T
O.C.
2.O
C.Q
17.1
2C..O
Russia and Poland. . . .
O.I
O.I
O.2
1.8
S-
15-4
17.7
Total
o-3
0.4
I.I
6.4
17.6
48.0
67.2
All other Countries. . .
i7-S
10.6
I4-S
24.4
14-3
8.6
II.7
Grand Total
IOO.
IOO.
IOO.
IOO.
IOO.
IOO.
IOO.
f Data from Adams and Sumner : Labor Problems, p. 73, and the Statistical Abstract,
1006, p. 56. These figures are not exact and not altogether comparable, owing to changes in
the immigration year, the distinction of nationalities, and the immigration laws. For the ef-
fect of these changes, see Boeckh : The Determination of Racial Stock among American Im-
migrants, Publications of the American Statistical Association, December, 1006 ; and Willcox,
National Civic Federation Review, November, December, 1906, p. 7.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 65
are misleading, because they take no account of the large number
of immigrants who return to Europe. In the second place, the
importance of the number of immigrants depends largely upon
its relation to the population of the country; and relative to the
population immigration seems to be declining rather than increas-
ing. For instance, immigration reckoned in proportion to the
population was heavier in the period 1850-1855 than in the period
1900-1905. In the next place, the attraction of the city for the
immigrant has been exaggerated. While a great majority of the
immigrants are forced to locate temporarily in our large seaboard
cities, the later and more trustworthy studies indicate that the
immigrants are less rather than more disposed to remain perma-
nently in the cities than our native population, and that the new
immigrants show no greater tendency to stagnate in the cities than
the earlier immigrants. Finally, it is to be noted that our immi-
gration laws regarding the exclusion of diseased, criminal, im-
moral, feeble-minded, and indigent persons are constantly becoming
stricter and their administration more efficient. In addition to
the plainly undesirable classes just noted, Chinese laborers have
been excluded since 1882, aliens under contract to take up par-
ticular work since 1885, and anarchists since 1903.
Surveying the whole history of immigration, three general con-
clusions may be drawn which must be fully considered by those
engaged in the solution of the present problem.
(i) We have, as a people, shown a marvelous ability to assimi-
late rapidly people of diverse races, tongues, and religions, amal-
gamate them and stamp them with the characteristic qualities of
the American. Even at the close of the eighteenth century, about
one fifth of the population spoke some other language than Eng-
lish as their mother tongue, and probably one half of the popula-
tion were of other than Anglo-Saxon blood. The heterogeneous
character of the population is illustrated by the fact that nine of
the men most prominent in the early history of New York repre-
sented as many different nationalities. (2) We have failed, how-
ever, to amalgamate the negro and the Chinese; the incidental
feature of a dark skin creates especially difficult problems; and
it is this fact which makes the suggested exclusion of Japanese
66 OUTLINES OF ECONOMICS
laborers worthy of serious consideration. The high qualities of
the Japanese, their industry, intelligence, and native refinement
make them in many respects the most desirable kind of immi-
grants; but it is conceivable that they might come to this country
in sufficient numbers to create a problem similar in character and
gravity to the negro problem; and if investigation show that there
is real probability of such a result, they should be excluded, even
though the danger be attributable to race prejudice of the natives
rather than the clannishness and exclusiveness of the Japanese
themselves. (3) In the main, however, the traditional policy of
this country has been "to improve rather than to check immigra-
tion," and the burden of proof is upon those persons who would
restrict immigration by arbitrarily limiting the number of immi-
grants.
Natural Resources. Next to the character of the people with
which this continent has been stocked, the most powerful factor
in shaping the economic development of the United States has
been its enormous natural wealth. With a territory (excluding
Alaska and our insular possessions) more than three fourths as
large as all Europe, indented, particularly on the eastern coast,
with a large number of good harbors, intersected by internal water-
ways that make communication cheap and easy, endowed with
water power that in the opinion of one authority is probably "more
valuable than those of all other lands put together," marked by
every variety of climate and soil, covered in many places, at least
originally, with magnificent forests, and liberally stocked with
almost every variety of mineral wealth, it is not surprising that at
the present time the United States "leads the world" in the pro-
duction of iron and steel, cotton, coal, coffee, gold, silver, dairy
products, corn, wheat, lead, lumber, tobacco, petroleum, and hogs.
It would be strange, indeed, with the vast mineral and agricultural
resources at our command, if we did not "lead the world" in
many things.
Of the 2,972,584 square miles of territory in continental United
States, about three fourths at one time or another has belonged to
the central government. The possession of this vast common treas-
ure by the United States has played an important part in digni-
ECONOMIC DEVELOPMENT OF THE UNITED STATES 67
fying and strengthening the federal government. But the lavish
alienation of the public lands in endowing free schools, subsidiz-
ing railways, and other internal-improvement companies, and in
providing free homes for the landless, has been an even more po-
tent factor in hastening our economic development; even though
it has led, as has been said with some justification, "to the ravish-
ment rather than the development of our natural resources." The
public domain and its disposition are discussed at some length
in a later chapter, but one aspect of this subject the part which
free land has played in our economic development is so vitally
important that it requires special notice at this point.
While it was not until the passage of the Homestead Act in
1862 that land could be legally acquired without cost by simple
occupation and cultivation, it is practically true to say that since
the seventeenth century any enterprising citizen, by the exercise
of a minimum amount of industry and frugality, could secure a
homestead large enough to support himself and family. This op-
portunity offered to the artisan a free choice between wage ser-
vice and farming, constantly depleted the ranks of mere laborers,
operated to keep wages at least as high as the earnings of a " no-
rent" homestead, and kept fresh and vigorous that sturdy feeling
of independence that has been the distinguishing mark of the
American workingman. By 1904, for instance, the national gov-
ernment had given away, under the Homestead and Timber Cul-
ture Acts, 106,240,464 acres of land; and in addition to this,
278,001,612 acres had been sold at less than cost, that is, at less
than the cost of acquisition, management, survey, patenting, and
the like.
How long the public lands will hold out it is impossible to say.
Notwithstanding the fact that the national government is dispos-
ing of its lands at the rate of from fifteen to twenty million acres
a year, there is still left if we count Alaska almost as much
territory as we have alienated since the adoption of the Constitu-
tion. Much of this is worthless or unavailable; but irrigation and
dry farming are constantly reclaiming large districts formerly re-
garded as worthless, and the railways and some of the Western
states still possess large quantities of ordinary farming land which,
68 OUTLINES OF ECONOMICS
fortunately, they are willing to sell at low prices. All in all,
we are tempted to say, there is still enough cheap land to exert in
the West that influence upon industry, wages, and the distribution
of wealth generally which has come to be the distinguishing
mark of the American social economy. But this is a matter of
dispute.
Fifteen sixteenths of the population reside in the eastern
half of the United States, and in the East land has become costly,
trade and manufactures taken together have outstripped agricul-
ture, and a large majority of the people lack the inclination and
necessary training, even if they possessed the courage and energy
to avail themselves of the cheap land of the West. Whatever
the amount of this cheap land, its importance has diminished and
must continue to diminish, as an outlet for the population upon
whose economic condition it formerly exerted so salutary an influ-
ence. Considering the population as a whole, the conclusion seems
irresistible that we have reached, if indeed we have not already
passed, the parting of the ways; and the assistance that in the
past free land rendered in maintaining wages and restraining the
evil tendencies of the modern system of capitalistic production
must in the future be secured from other sources. The distinc-
tive Americanism of the past was generated, as has been said, in the
performance of our national task "of winning a continent from
nature and subduing it to the uses of man"; 1 it was a product
of the frontier. But the frontier has now disappeared.
QUESTIONS
1. What peculiar characteristics mark the economic stages of the United
States ?
2. Is the pastoral stage through which the people of our Great Plains have
passed essentially different from the pastoral stage through which the people
of Israel passed ?
3. Enumerate the great sectional struggles which have disturbed the
United States. Why does radicalism accompany the frontier?
4. Has the frontier and the work of settlement left a permanent impress
upon the American people? Of what kind?
5. How rapidly is the population increasing at the present time? Are the
richer or poorer classes multiplying more rapidly ? Can you state the reason ?
1 Bogart, Economic History of the United States, p. i.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 69
6. What are the distinctively economic factors of the negro problem?
7. When did the immigration problem first alarm residents of this
country? What charges are directed against the "newer immigrants "?
8. Have we shown an ability to assimilate all kinds of immigrants?
What has been the historical policy of this country toward immigration ?
9. What part did the public domain play in bringing about and preserv-
ing the Union? in maintaining wages?
10. How does the growing size of the country modify the influence
exerted by free land ?
REFERENCES
BOGART, E. L. Economic History of the United Stales. Contains bibli-
ography.
BRUCE, P. A. Economic History of Virginia.
COMAN, KATHERINE. The Industrial History of the United States. Con-
tains bibliography.
COMMONS, J. R. Races and Immigrants in America.
ELY, R. T. Studies in t)ie Evolution of Industrial Society.
EMERY, H. C. " Economic Development of the United States," in The
Cambridge Modern History, Vol. 7, Chap. XXII.
LIBBY, O. G. " The Geographical Distribution of the Vote of the Thirteen
States on the Federal Constitution," 1787-1788, Bulletin of the Uni-
versity of Wisconsin, Economics, Political Science, and History Series,
Vol. i, No. i.
McMASTER, J. B. A History of the People of the United States.
McVEY, F. L. Modern Industrialism, Part I, Chap. III.
SEMPLE, ELLEN C. American History and its Geographical Conditions.
SHALER, N. S., Ed. The United States of America.
TURNER, F. J. " The Significance of the Frontier in American History."
Fifth Yearbook of the National Herbart Society. First edition in
Report of the American Historical Association, 1893, pp. 197-227.
WEEDEN, W. B. Economic and Social History of New England.
CHAPTER VI
THE ECONOMIC DEVELOPMENT OF THE UNITED STATES
(Continued)
IN the preceding chapter attention was confined to certain fun-
damental and peculiarly American conditions which have influ-
enced the economic development of this country. They form the
background and setting of the picture. When we come to fill in
the details, however, the general effect is very similar to that pro-
duced by the description of English industrial development given
in Chapter IV. There are differences, of course, differences
important enough to make this separate discussion of American
economic evolution necessary. But, on the whole, it is surpris-
ing how rapidly we have developed the industrial maladies and
economic problems of the old world.
Mercantilism in America. In the American colonies, as in
England itself, the Industrial Revolution was preceded by a period
in which trade and industry were subject to minute regulation by
the government. Bounties were freely offered in several colonies
for the manufacture of leather, iron, paper, silk, and cloth; land
grants were made and taxes remitted particularly in the support
of the iron industry; and in order to encourage the home manu-
facture of shoes, for instance, the General Court of Massachusetts
in 1640 commanded that every hide "be sent to a tannery under
penalty of a, 12 fine," while "leather searchers" were appointed
to see that the law was obeyed.
This early colonial regulation was restrictive as well as protec-
tive. In the New England colonies, in the seventeenth century,
laws were repeatedly passed prohibiting idleness, fixing the hours
of labor, and prescribing rates of wages, with appropriate penal-
ties for workmen who took or employers who paid more than the
70
ECONOMIC DEVELOPMENT OF THE UNITED STATES 71
legal rate. In the Boston Town Records of 1635, for instance,
we find this resolution: " That Mr. William Hutchinson, Mr. Wil-
liam Colborne and Mr. William Brenton shall sett pryces upon all
cattel, comodities, victuals and labourers and Workmen's W 7 ages
and that noe other prises or rates shalbe given or taken." * But
the restrictive laws, in general, failed dismally. The abundance
of cheap land and the independent spirit generated by the pioneer
life prevented the enforcement of obnoxious colonial laws, and
eventually led the colonists into armed resistance against the re-
strictive legislation of the English government.
English Colonial Policy and the Navigation Acts. In accord-
ance with mercantilist views of colonial relationships, English
statesmen of this period looked upon a colony as a community
which was to supply raw materials for the industries of the mother
country, secure its manufactured goods from the mother country,
and so far as trade with the rest of the world was concerned, buy
and sell through the mother country. In accordance with this
general policy, England gave bounties for the production in
America of raw materials such as flax, indigo, naval stores, barrel
staves, and the like, but restricted manufacturing proper by
prohibiting, for instance, the erection of mills for slitting or rolling
iron, and furnaces for making steel and fettered our commerce
in a variety of ways. It is unnecessary to enter into the details of
this conflict, which is familiar to every student of American his-
tory. The English laws were not so severe as might be inferred
from our brief statement of their nature and purpose; they were
laxly enforced; and it is to be remembered that England encour-
aged some industries while she attempted to destroy others. Eng-
lish colonial policy of this period was not so much malicious as
mistaken. The important points for us are these: that it did
not seriously hamper the development of American industry in gen-
eral, while it did strengthen and stimulate in the American peo-
ple that spirit of individualism which the industrial opportunities
of the new world and the frontier conditions of the time combined
to create. As a consequence the new nation, created in 1789, was
1 Governor Winthrop's Journal, printed at Hartford, 1790, p. 188; reprint
of 1853, PP- 377-38i-
72 OUTLINES OF ECONOMICS
pledged to the doctrine of individual liberty, and its constitution
contained specific guarantees of personal freedom not only in
matters political, but in industrial and social relationships as well.
American Industries in 1776. When the Revolutionary War
broke out, American industry was still in a primitive stage. The
extractive industries were, relatively, the most advanced. Large
quantities of lumber and timber products were exported to Eu-
rope; the fisheries were in a prosperous condition; and shipbuild-
ing had reached a really remarkable stage of development, in
1775 "nearly one third of the tonnage afloat under the British
flag had been built in American dockyards." Agriculture, how-
ever, was carried on in the most wasteful and unscientific way,
owing to the cheapness and fertility of the soil; and manufacturing
was still in the household stage. In the Middle and New England
Colonies spinning and weaving, the manufacture of shoes and food
products, were carried on within the home; and, in fact, the typi-
cal farm household of this period constituted almost an independ-
ent economic unit, raising or making what its occupants consumed,
and buying little save salt and a few necessary iron implements.
Of manufacturing for sale and export, however, there was little
worth mention. The absence of adequate means of transport was
largely responsible for this state of affairs. The roads were little
more than widened Indian trails. Some years later, when con-
ditions were considerably improved, the roads were still so poor
that " Madison spent a week going from New York to Boston by
stage, while the cost of cartage of a cord of wood for a distance
of twelve miles was three dollars." Agriculture, however, was the
dominant industry of the country. In 1787 less than one eighth
of the working population was engaged in manufactures, fishing,
navigation, and trade combined.
The Industrial Revolution in America. The Industrial Revo-
lution was sudden, and in its consequences momentous in America
as well as in England. The Revolutionary War, by interrupting
trade with Europe, threw the American people upon their own
resources: goods that had hitherto been imported had now to be
manufactured at home; a large number of new industries sprang
up rapidly; and the idea became prevalent that the new nation
ECONOMIC DEVELOPMENT OF THE UNITED STATES 73
must make itself industrially as well as politically independent of
the old world. The state governments endeavored to foster the
new industries by protective tariffs, and this policy was later con-
tinued, in a moderate form, by the federal tariff act of July 4,
1789. Prizes were offered by various societies, and even by cer-
tain state governments, for the introduction of the new machines
and methods which were revolutionizing industry in England.
Attracted by one of these offers, Samuel Slater, "the father of
American manufactures," who had been apprenticed to a manu-
facturer of cotton machinery, and was particularly familiar with
Arkwright's machines and processes, came to this country in 1 789,
and in the following year started the first cotton factory at Paw-
tucket, Rhode Island.
The factory system secured its first real foothold, however, be-
tween 1806 and 1815, when the Non-Intercourse Acts, the Em-
bargo, and the War of 1812, by suppressing trade with Europe,
forced the American people to do their own manufacturing, and
turned large amounts of capital, which had previously been em-
ployed in trade and shipping, into manufactures. The growth
during this period of isolation was extraordinary. In 1804 only
four cotton mills were in operation. "In 1807 there were fifteen
cotton mills running 8000 spindles and producing 300,000 pounds
of cotton yarn annually. In 1811 there were eighty-seven mills
operating 80,000 spindles, producing 2,880,000 pounds of yarn
per year and employing 4000 men, women, and children. In 1815
500,000 spindles gave employment to 76,000 persons, with a pay-
roll of $15,000,000 per year." l It is hardly necessary to add that
when resumption of peace with Great Britain opened the new
American industries to the fierce competition of the older English
manufacturers, increased protection was granted in the tariff acts
of 1816, 1824, and 1828. A little later, in the Middle Atlantic and
New England states, the period of factory production had fully
arrived. A separate class of wage earners was appearing, who
were especially appealed to by new arguments concerning wages
in the tariff discussions; workingmen's parties were organized;
strikes and trades unions multiplied, and the latter were combined
1 Coman, Industrial History of the United States, p. 181.
74 OUTLINES OF ECONOMICS
into municipal and state federations; in the thirties and forties
radical reformers linked the "white slaves" of the North with the
negro slaves of the South and worked for the abolition of both
"wage and chattel slavery"; the factory town and the city slum
became recognized economic conditions, and the dangers of the
latter were multiplied by the heavy immigration after 1845. By
the middle of the nineteenth century the Industrial Revolution
was in full sway, and the economic triumph of modern capitalism
was assured.
As might be supposed, the Industrial Revolution produced far
less suffering and want in the United States than in England.
The evils attributable to the Industrial Revolution in England
were of two kinds. One arose from the rapidity and magnitude
of the industrial change itself; the other was due, not to the change,
but to the system under which the new industry was conducted
the system of capitalistic industry working in a regime of practi-
cally unregulated competition. In our country the evils resulting
from transition alone were slight. Our manufacturing industries
were scarcely started when the spinning jenny, the power loom,
and the steam engine were introduced, and so almost from the
beginning the factory system seemed the natural one. Thus, the
change which in England was a revolution was in America an
evolution, a process of construction with little destruction. And
for a time even those evils inherent in the system itself were miti-
gated and disguised by the immense natural wealth of this country,
the ease with which land could be obtained, and the unusual mo-
bility of our working people, which permitted them to take quick
advantage of the unusual opportunities open to them.
But, as will appear in the following pages, these ameliorating
agencies served only to check and delay, not to destroy, the evil
possibilities of the new industrial system. As free land has be-
come less and less abundant, the wage earners of the East have
had forced upon them conditions of life which have kept down,
although they have not absolutely lowered, their standard of life.
Extremes of wealth and alienation of social classes have become
so great as to arouse the apprehension of all thoughtful men.
Labor riots that call for military interference testify to the fact
ECONOMIC DEVELOPMENT OF THE UNITED STATES 75
that we have not escaped, that in the future we can hope less and
less to escape, the friction that accompanies all unfraternal re-
lations among men. We have been greatly blest in that we have
escaped the worst results so long.
The Development of Agriculture. The presence and power
of those economic forces which softened the asperities of the new
industrial system in America are revealed in a particularly strik-
ing way in the history of American agriculture. In England, it
will be remembered, the changes in agriculture intensified the
evils of the industrial revolution, led to the consolidation of small
farms into large landed estates, and put the actual business of
farming largely into the hands of tenants. In the United States,
however, practically none of these tendencies has shown itself at
least, not in an alarming form. There is a constant migration
from the country to the city, to be sure, but this is in no sense
due to the consolidation of farms. Thus between 1870 and 1900
the proportion of all breadwinners (persons ten years of age and
over gainfully occupied) engaged in agriculture fell from 47.6 to
35.6 per cent. On the other hand, more persons are still employed
in agriculture than in any other branch of industry; and owing
to the opening up of old Indian reservations for farm settlement,
the constant alienation of the public domain, and the breaking
up of Southern plantations and "bonanza farms." the number of
farms seems to have increased quite as rapidly as the general
population.
/
The great improvement which has taken place in agricultural methods
and machinery enables the relatively smaller farm population to satisfy the
demand for agricultural produce even more completely than in the past.
That is to say, the machine power introduced into farming has more than
taken the place of those persons and their descendants who have abandoned
agriculture. It has been estimated, for instance, that in 1895 it actually
required only about 120,000,000 days' work to produce the nine principal
farm crops of that year, whereas, had they been produced by the methods
and machinery of 1850, at least 570,000,000 days' work would have been
required. 1
1 H. W. Quaintance, "The Influence of Farm Machinery on Production and
Labor," Publications of the American Economic Association, Third Series, Vol 5,
No. 4, pp. 27-29.
76 OUTLINES OF ECONOMICS
Notwithstanding the improvement of farm methods and ma-
chinery, the agricultural industry shows no real tendency to assume
a capitalistic form. The average farm of to-day is smaller than it
was fifty years ago, and although it represents somewhat more
capital, the increase of the capital investment is not great, is much
less, in fact, than the increase in the wealth of the average individ-
ual. Moreover, a majority of American farmers own the farms
they cultivate, and the statistics indicate that it is still compara-
tively easy for an enterprising farm laborer to rise to the status
of tenant and from that condition into the ranks of the farm pro-
prietors. 1
Manufactures. In agriculture, as we have seen, the passage
of time has not brought about a highly capitalized form of indus-
try, the typical farm represents only a small investment and is
tilled by its owner, there is no sharp distinction between employees,
unions of wage earners are practically unknown, and passage from
the wage earning to the employing class is still comparatively
easy. In manufactures, practically all these conditions have been
reversed since the end of the eighteenth century. And it is the tone
of the manufacturing industry rather than that of agriculture
which represents the keynote of the modern economic movement,
because agriculture is constantly decreasing while manufacturing
and allied industries are constantly increasing in relative im-
portance. At the beginning of the last decade of the eighteenth
century, seven eighths of the working population were employed
in agriculture, and the manufactured products of the coun-
try were valued at $20,000,0x30. Half a century later, in 1840,
77.5 per cent of the breadwinners were employed in agriculture,
16.5 per cent in trades and manufactures alone, and the products
of the manufacturing industries were valued at $483,278,215.
Fifty years later, in 1890, 35.7 per cent of the workers were
in agriculture, 24.4 per cent in manufacturing and mechanical
pursuits, and the manufactured products were valued at
'Tenancy seems to be increasing in the United States, but the authorities differ
in their interpretation of the phenomenon, some regarding it as a favorable and'
others as an unfavorable sign. This and other questions touched upon in the
preceding paragraphs are discussed at greater length in a later chapter.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 77
$9,372,437,283. In 1905, to cite the latest figures, the value of
the products had reached the enormous sum of $16,866,706,985.
The change in the character of the industry has been even more
striking than its growth and expansion. In the first place, ma-
chinery and capital have become increasingly prominent. In
1850, for instance, $556 worth of capital was invested for each
wage earner, while in 1900 the average amount of capital per
wage earner was SiSso. 1 In the second place, the organization of
the industry has changed, so that the individual owner and ordi-
nary partnership are rapidly being replaced by the corporation.
At the beginning of the nineteenth century, corporations, though
not unknown in commerce and banking, were very uncommon in
the manufacturing industries. In 1905, incorporated companies
employed 70.6 per cent of the wage earners and manufactured
73.7 per cent of the goods produced in all the manufacturing
industries.
This change in organization has been a powerful factor in de-
stroying the personal relation between the owners of capital and the
wage earners who man their plants, and has thus helped to widen
the growing breach between capital and labor. It has also con-
tributed greatly to the concentration of industrial control. Law
and custom in this country have combined to make the small
stockholder in the largest corporations a virtual nonentity so far
as practical participation in the management of the corporation
is concerned; and the individual or clique of "insiders" who
own a bare majority of the stock rule the business despotically.
Incorporation, then, instead of introducing a greater measure of
real industrial cooperation and thus democratizing industry, has
too frequently turned out to be an ingenious device by which en-
ergetic promoters borrow or secure the spare savings of the com-
munity on the most flexible terms and with a minimum of respon-
sibility. The corporation thus, while it appeared to be diffusing
the ownership of industry, has in reality worked toward the con-
centration of industrial control.
1 Owing to variations in the definition of "capital" and other similar changes,
the statistical comparisons made in this and the preceding paragraph are not very
accurate, and are to be accepted as illustrations rather than measurements.
78 OUTLINES OF ECONOMICS
Other forces, moreover, have been working toward industrial
concentration, the most powerful of which, perhaps, has been ex-
cessive competition. For many decades in this country the unre-
stricted competition of rival manufacturers made them almost
Ishmaelites in their business relations with one another. Tied
down to their large investments of fixed capital, they were com-
pelled to stand and fight without quarter. In every such war
the number of combatants tends to decrease. As old rivals are
killed off, the successful acquire greater skill and greater power
in the conflict. With the passage of time greater and greater
equipment is required to give any hope of a successful struggle,
and some of the contestants, learning prudence from the struggle,
combine to increase their fighting power. The inevitable result,
whether through simple survival of the fittest or through combi-
nation, is a marked increase in the sixe and importance of the in-
dustrial unit. Between 1900 and 1905, for instance, the number
of establishments in the factory industries increased only 4.2 per
cent, but their capital increased 41.3 per cent, and the value of
their products 29.7 per cent. In many of our most important in-
dustries the number of establishments is actually decreasing. In
the manufacture of agricultural implements between 1880 and
1905, to take a single illustration of the many that might be cited,
the number of establishments decreased from 1943 to 648, while
the capital grew from $62,109,668 to $196,740,700, the wage earn-
ers from 39,580 to 47,394, and the value of the products from
$68,640,486 to $112,007,344. There are industries, of course, in
which no such consolidation has taken place, but they are unim-
portant in comparison with those in which it has. The extent to
which the giant industry and large-scale production have come
to dominate our manufacturing industries in the year 1905 is
shown in the following table, which will repay careful study. Es-
tablishments of the largest size, i.e. those whose annual output
exceeds $1,000,000, constitute less than i per cent of the number
of establishments, but manufacture nearly 40 per cent of all the
goods. Nearly three fourths of the wage-earners are employed in
industries having a capital of more than $ 100,000 each.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 79
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8o OUTLINES OF ECONOMICS
Recently the movement toward large-scale industry has taken
on another phase. In addition to concentration or centralization
of industry, we are now having a rapidly increasing integration
of industry. Large business concerns are finding it profitable to
carry on under one management several closely related industries.
For illustration, take the case of the United States Steel Corpora-
tion. Here we have united under one management the American
Bridge Company, the American Sheet Steel Company, the Ameri-
can Steel Hoop Company, the American Steel and Wire Company,
the American Tin Plate Company, the Federal Steel Company,
the Lake Superior Consolidated Iron Mines, the National Steel
Company, the National Tube Company, and the Carnegie Steel
Company. Of the last itself, Mr. Charles M. Schwab says, in his
testimony before the Industrial Commission (Vol. XIII, p. 448) :
"The Carnegie Company were large miners of ore mined all
the ore that they required themselves, to the extent of over
4,000,000 tons per year. They transported a large percentage of
it in their own boats over the lakes; they carried a large percent-
age of it over their own railroad to their Pittsburg works, and
manufactured it there, by the various processes, into a great vari-
ety of iron and steel articles I think perhaps a larger general
variety of steel articles than almost any other manufacturing con-
cern."
Transportation and Railways. The industrial concentration of
which we have been speaking does not necessarily lessen competi-
tion at all. It merely gives the business into the hands of increas-
ingly powerful rivals among whom competition may be all the
more bitter because of the size of the contestants. But in the
principal transportation industries time has amply demonstrated
that another rule prevails: competition has utterly failed to pro-
tect the consumer, and the progress of consolidation has operated
to emphasize and strengthen the inherently monopolistic character
of the industry.
The history of transportation in this country since the estab-
lishment of the Union falls into three stages. The "turnpike
period" extends from 1790, the year in which the first turnpike
was constructed, until 1816, when steam navigation upon the Ohio
ECONOMIC DEVELOPMENT OF THE UNITED STATES 8l
River became fairly regular. The second stage, the "river and
canal period," ends with the panic of 1837, and is marked particu-
larly by the introduction of steam travel on the Hudson (1807),
the Ohio, and Mississippi rivers (1808 to 1817) and the opening of
the Erie Canal in 1826. The last stage, the "period of the railway,"
extends from about 1840 to the present time. Of course, in con-
trasting these periods, it is not meant to suggest that canals were
not built before 1790, or that turnpikes are not important at the
present time. As a matter of fact, a canal was built in Orange
County, New York, as early as 1750; and there are few economic
needs of greater importance at the present time than the improve-
ment of our roads. These "periods" merely indicate the kind of
transportation facilities which at different times have been most
prominent in the minds of the people.
In the development of the railway, certain approximately defi-
nite stages may also be distinguished. Between 1830 (when the
first railway the Baltimore and Ohio was opened for traffic)
and 1840, the railways were short, local lines used in large degree
to supplement or piece out the rivers and canals. In the next
period, 1840 to 1870, many new roads were built, and the process
of "linear consolidation" the linking together of local com-
panies into through trunk lines began. By 1869 both the New
York Central and the Pennsylvania had effected through connec-
tions with Chicago. In the same year, the completion of the Cen-
tral and Union Pacific railways linked the Pacific Ocean with the
eastern railways, and the continent was spanned.
The period between 1870 and 1890 is marked by three striking
developments. First, it was a period of feverish expansion: the
railway mileage of the country increased from 52.000 to 160,000
miles, more than 200 per cent. Secondly, the completion of sev-
eral through routes from the Atlantic seaboard to Chicago brought
about a period of destructive competition, which led to discrimina-
tion and rebating in through traffic and the overcharging of local
or non-competitive traffic. "Wherever competition appeared,
discrimination followed; and in the scramble for business the
stronger shippers were favored at the expense of the weaker.
Where there was no competition the public felt that they were
82 OUTLINES OF ECONOMICS
being oppressed by a monopoly, to make up for sacrifice rates
elsewhere a feeling which was intensified by the absentee own-
ership of the western roads." l Thirdly, this condition of demor-
alization led to a double reaction. The railways sought to re-
strain competition by the creation of pools and traffic agreements,
while the people sought to protect themselves through legislation
and the creation of railway commissions. The Federal or Inter-
state Commerce Commission was established in 1887.
The last period, from 1890 to the present time, has been marked
by an unprecedented amount of consolidation and combination
among competing roads, and by a general acceptance of the
truth that the railway industry is inherently monopolistic and
must be subjected to public control. Thus, at the same time that
the control of the magnificent railway system of this country
greater in extent than all the railways of Europe combined has
fallen into the hands of seven or eight groups of men or "inter-
ests," dominated by a number of men small enough, some one has
said, to sit about the same table, the people themselves have per-
fected administrative machinery strong enough, it is hoped, to
hold the great monopoly in check. Complete monopoly and effect-
ive public control are being perfected at the same time, and
with this dual consummation there closes a great epoch in eco-
nomic thought and public policy. The new Interstate Commerce
Act of 1906 is a public recognition of the fact that the old prob-
lem of private competition versus public regulation has given way
to the new problem of public regulation versus public ownership.
It would be almost impossible to exaggerate the part which transportation
agencies, and particularly the railways, have played in the economic develop-
ment of this country. Ours is a country of "magnificent distances," and
because of this fact, it was particularly necessary that superior means of
communication and transportation should be early introduced, if the country
was to be held together. After the Revolutionary War there was real danger
that the settlers west of the Alleghanies would be completely alienated.
Washington was quick to realize this fact. "The Western settlers," he wrote
to the governor of Virginia, shortly after the Revolutionary War, " stand as it
were upon a pivot. The touch of a feather would turn them any way. They
have looked down the Mississippi until the Spaniards, very impoliticly, I
1 H. C. Emery in The Cambridge Modern History, Vol. 7, p. 706.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 83
think, for themselves, threw difficulties in their way ; and they looked that
way for no other reason than because they could glide gently down the
stream, without considering, perhaps, the difficulties of the voyage back again,
and the time necessary to perform it in ; and because they have no other means
of coming to us but by long land transportations and unimproved roads."
This danger was averted by the building of the Cumberland Road, the
introduction of steam navigation on the Ohio, and the completion of the Erie
Canal. Later it looked as if the use of the Mississippi and other natural
avenues of communication would link the Middle West more closely to the
South than the northeastern states, thus giving the South a preponderant
influence in the inevitable struggle over slavery. This problem, however,
was solved by the railways, which, unlike the rivers, ran east and west rather
than north and south. The railway was thus a strong factor in the preser-
vation of the Union. And since the Civil War, Western settlement has fol-
lowed the railroad. It has been the great pioneering agency of the last half
century, and is entitled to as much credit as the public land policy for the
rapid settlement of the West.
In the development of our transportation facilities, however, the State has
been from the very first an active partner of private enterprise. Not only
has the State built roads, canals, and railways of its own, but it subsidized
the private companies which engaged in similar enterprises, with prodigal
liberality. Of the total state debts $170,806,187 in all contracted prior
to 1838, $60,201,551 were chargeable to canals, $42,871,084 to railways,
$52,640,000 to banks, $6,618,868 to roads, and $8,474,684 to miscella-
neous objects. After the panic of 1837 there was little direct construction
by the State of internal improvements, but national, state, and local govern-
ments vied with one another in assisting private companies by exemptions
from taxation and by grants of land, money, and credit. How much these
subsidies amounted to we do not know, but the aggregate must have been
enormous, as appears from the statistics of land grants. " During the twenty-
one years between 1850 and 1871, at which time land grants were discontin-
ued, more than 159,000,000 acres were placed at the disposal of railroad
corporations by the federal government and 55,000,000 by the state govern-
ments." * In their origin and genesis, therefore, as well as in their essential
nature, the railways are quasi-public institutions.
The Labor Movement. In the preceding pages we have seen
how capitalistic industry under a regime of free competition passed
from an earlier period of cut-throat rivalry to a later period of com-
bination amounting in many cases to monopoly. A similar phe-
nomenon is discernible in the labor movement. At the beginning
of the nineteenth century there were probably less than a dozen
1 Cf. Bogart, Economic History of the United States, pp. 195, 308, passim.
84 OUTLINES OF ECONOMICS
trades unions in the United States, and we actually know of the
existence of only one. Between 1825 and the panic of 1837, how-
ever, they multiplied rapidly, and efforts were made to unite the
scattered "locals" of separate trades into broader national unions,
and to confederate the unions of different trades into municipal
and district federations. These efforts were only partially suc-
cessful, however, and it was not until after 1850 that permanent
national unions were established, and not till the organization
of the Knights of Labor in 1869 that a fairly permanent national
federation was created. The Knights of Labor reached the zenith
of its power about 1886, and since the panic of 1893 its place has
been gradually taken by the American Federation of Labor, with
which most American unions, except the Railway Brotherhoods
and the socialistic unions west of the Mississippi River, are affili-
ated. In 1893 tne membership of the American Federation of
Labor numbered about 250,000. By 1906 it had grown to ap-
proximately 1,444,200. These figures give some idea of the strik-
ingly rapid growth of trades unionism in the last fifteen years. As
the membership of the American Federation of Labor is usually
understated, and as there are probably from 500,000 to 700,000
members in organizations not affiliated with the American Fed-
eration, we conclude that the aggregate membership of American
labor organizations at the close of the year 1906 amounted to
about 2,300,000 persons, mostly men.
There are thus at least five periods distinguishable in the history
of American trades unionism: the germinal period, 1789-1825; the
revolutionary period, 1825-1850, so called because of the close con-
nection in this period between trades unionism and more radical
reforms such as socialism and cooperation; the period of nation-
alization, 1850-1865; the period of federation, 1865-1893; and
the period of collective bargaining, 1893 to the present time. We
speak of the present epoch as the period of collective bargaining
because it is only in recent years that employers and the general
public have recognized that the trades union is here to stay, and
must be regarded as an irrepressible, permanent institution with
which many employers of labor must bargain, whether they like it
or not.
ECONOMIC DEVELOPMENT OF THE UNITED STATES 85
The avowed aim of the trades union is a complete combination
of all the workers in a given occupation or industry. The Broth-
erhood of Locomotive Engineers, for instance, probably counts
among its members more than 90 per cent of all the locomotive
engineers in North America, although there are few trades
which are so completely organized as this. With the passage of
time, moreover, the trades unions have made increasing use of
the monopolistic principle of the closed shop the principle which
leads union men to refuse to work with nonunion men, and which
finds expression in the trades-unionist's new commandment: " Thou
shall not take thy neighbor's job." Very recently several authori-
tative court decisions have held that labor combinations, particu-
larly national or international combinations, are contracts or
agreements in restraint of trade, and as such are illegal under the
federal or state anti-trust acts. This is but official recognition of
the fact that the forces which have led to the rapid development of
trades unionism since the Industrial Revolution are the same forces
which explain industrial combination and consolidation. The
anti-trust acts need amendment: not all combinations in restraint
of trade, but only unreasonable combinations, should be prohibited.
The development of powerful combinations in the labor world
has engendered a counter movement among the employers, which
expresses itself concretely in the modern employers' association.
Such organizations are not new; we have record of such an associa-
tion among the master shoemakers of Philadelphia in 1789. But
in recent years these associations have become permanent, formal,
and aggressive. They fight the labor organizations with their
own weapons, matching the lockout against the strike, the black
list against the boycott, and the "labor bureau" against the "un-
fair list" with which the reader of trades-union journals is familiar.
Most of the employers' associations, like most of the trades unions,
have associated themselves for common action in a large national
federation, the Citizens' Industrial Association of America, with
which, in December, 1903, there were affiliated sixty national em-
ployers' associations, sixty-six state and district associations, and
three hundred and thirty-five local or municipal associations of
employers.
86 OUTLINES OF ECONOMICS
The bitter conflict between organized labor and organized capi-
tal has forced the State, in the interest of industrial peace, to
inaugurate "Wage Boards" and Boards of Arbitration and Concili-
ation. Some of these, such as the New Zealand Court of Arbitra-
tion, are empowered to enforce their awards upon employers and
employees; while others, like the Canadian and some of the
American State Boards of Arbitration, have no power to settle
disputes authoritatively, although they may make "compulsory
investigations" and publish their finding as to the equities of the
case. These and similar topics, however, are reserved for more
detailed discussion in a later chapter.
State Regulation of Industry. The growing interference of
the State in the conflict between capital and labor brings us natu-
rally to the general subject of the State in relation to industry.
When the American colonies were planted, mercantilism was the
dominant political philosophy ; but, as we have seen, mercantil-
ism gave way to a philosophy of individualism in the eighteenth
century, under the combined influence of the reaction against the
English Navigation Acts, the natural antipathy of a frontier com-
munity to legal restraint, the philosophy of Locke, and in a minor
degree the teachings of the French physiocrats. The triumph of
individualism, as a philosophical system, came at the critical pe-
riod when our State and federal constitutions were in the making,
and it thus became intrenched in the organic law of the nation,
giving constitutional sanction to the doctrine of laissez-faire, and
establishing a constitutional guarantee of freedom oj contract, in ac-
cordance with which adult men were left "free" to work as long
as they "pleased" (or were compelled), for whatever wages they
were "pleased" (or forced) to accept. Under the influence of
these doctrines, for instance, our courts have annulled such whole-
some regulations as laws prohibiting payment of wages in store
orders, and statutes limiting the hours of labor of men in bake-
shops, or other exhausting occupations. Decades of experience
have amply proved that the average wage earner is too weak to
protect himself against many evils; but our constitutional law
has made it exceedingly difficult for the State to protect him. For-
tunately, however, the American people have a fashion of bend-
ECONOMIC DEVELOPMENT OF THE UNITED STATES 87
ing their constitutional law to fit the facts, not blinding them-
selves to the facts by worshiping the law; and in recent years
the Supreme Court of the United States has progressed so far as
to sanction a state law restricting the hours of labor of men in
underground mines and smelters, although many of the state
Supreme Courts are far less enlightened.
It is impossible to show in detail how the free trade and indi-
vidualistic tendencies of the Revolutionary period gave way to a
constantly growing programme of State interference. The doctrine
of laissez-faire was never adapted in its entirety, and year by
year we have moved farther and farther away from it. State in-
terference began with the adoption of a tariff act in 1789, "for
the support of the government, for the discharge of the debts of
the United States, and tlie encouragement and protection of manu-
factures"; reached almost a maximum in the Embargo Act of
1807; showed itself in the policy of internal improvements and
State aid to turnpike, canal, and railroad companies; brought us
the great mass of labor and factory legislation which has been
adopted by so many states since the Civil War; led in turn to the
Interstate Commerce Act of 1887 and the Sherman Anti-Trust Act
of 1890; and finally culminated in the new Interstate Commerce
Act, the National Meat Inspection Law, and the National Pure
Food Law. Excessive competition among laborers, which forced
them to accept work under conditions destructive of physique and
morals, has led to the factory acts, prohibition of child labor, and
limitation of the hours of labor of women; excessive competition
leading to the adulteration of products and their manufacture
under insanitary conditions has given us the Meat Inspection and
Pure Food laws; excessive competition among corporations, lead-
ing to combination and oppressive monopoly, has brought us the
anti-trust acts and regulation through state and national commis-
sions. Whether the individualistic character of industrial society
endures or disappears, individualists and socialists alike are now
agreed that the State must interfere. As a prominent English
statesman expressed it, "We are all socialists now," although he
merely meant by this statement that the passive theory of govern-
ment has been wholly discredited.
88 OUTLINES OF ECONOMICS
Up to the present time State interference has had as its princi-
pal object the improvement and preservation of competition. The
conscientious manufacturer who would not poison consumers for
the sake of swelling his profits, the high-minded employer who
would not "sweat" women and children merely to reduce the cost
of production, the delicately scrupulous shipper who would not
undermine a rival by forcing a common carrier to pay him rebates,
all these have suffered as much from the abuses of competition
as the general public itself. Industry under the competitive regime
is a rough game played for high stakes, and if it is to be played
fairly, there must be intelligent rules of the game and an umpire
powerful enough to enforce them upon all contestants alike. If
the manufacturers of Massachusetts are prohibited from employ-
ing children under fourteen years of age while those of South Caro-
lina are encouraged to do so, decency is penalized, and the vic-
tory goes to the contestant guilty of the greatest number of fouls.
State interference, as we have said, has had as its principal
object the maintenance of competition upon a higher and more
wholesome basis. But this has not been its sole object. Our re-
cent regulation of public utility companies aims not to bolster up
or preserve competition among such companies, but to introduce
a substitute for competition; and the strong movement now on
foot to modify the Federal Anti-Trust Act is partially based upon
a recognition of the possibility that perhaps regulated monopoly
may prove on the whole more beneficial than regulated competi-
tion. Upon this point we pass no judgment; time alone can tell.
Whether it is desirable, whether in the long run it will be possible,
to check the monopolistic tendency of the age and thus maintain
a competitive as distinguished from a socialistic regime of indus-
trial society, may be said to be the supreme economic problem of
the twentieth century.
QUESTIONS
1. How do you account for the failure of the early colonial restrictive
legislation ?
2. What was the effect of English colonial policy and the Navigation Acts
upon American manufactures? shipbuilding? American political philoso-
phy?
ECONOMIC DEVELOPMENT OF THE UNITED STATES 89
3. What was the condition of American agriculture in 1776? of manu-
factures? shipbuilding? transportation?
4. Was the Industrial Revolution as important in this country as in Eng-
land? Was it attended with as much suffering? Why?
5. What part has been played by war in the tariff and industrial history
of the United States ?
6. In what respects has the agricultural development of this country
differed from that of England ? from that of the manufacturing industry ?
7. What changes have taken place in the organization of manufacturing
industries in the last century?
8. What are the principal causes and effects of industrial concentration?
9. What is the difference between industrial concentration and integra-
tion? between large-scale production and monopoly?
10. W 7 hat stages are distinguishable in the history of transportation and
railways in this country?
11. What part did the State play in the development of railways? Is
railway consolidation a recent phenomenon?
12. What movement has the development of trades unionism elicited from
employers? from the State?
13. How did the doctrine of non-interference secure such a strong foothold
in American constitutional law? What has been the principal object of
State interference up to the present time ?
REFERENCES
(See also References for Chapter V)
BISHOP, J. L. History of American Manufactures.
BRYN, E. W. Progress of Invention in the Nineteenth Century.
Census Reports. Tenth Census, Agriculture, p. 131. Twelfth Census,
Manufactures, Part I, Chap. II, I-VI, XVII, XXXIX.
DEVVEY, D. R. Financial History of the United States.
HADLEY, A. T. Railroad Transportation, its History and its Laws.
JOHNSON, E. R. American Railroad Transportation, and Ocean and
Inland Water Transportation.
RABBENO, UGO. The A merican Commercial Policy.
SCMNER, W. G. History of Banking in the United States.
TAUSSIG, F. W. Tariff History of the United States.
WEBER, A. F. The Growth of Cities in the Nineteenth Century. Columbia
Studies in History, Economics, and Public Law, Vol. II.
WELLS, D. A. Recent Economic Changes.
BOOK II
PRINCIPLES AND PROBLEMS
PART I
INTRODUCTION
CHAPTER VII
ELEMENTARY CONCEPTS
IN political economy many of the technical terms employed are
often misunderstood because the same words a.re used in ordi-
nary speech with inconsistency and confusion. We have often to
choose between the alternatives of being inconsistent and of vio-
lating current usage. The present chapter is devoted to a defi-
nition of some of the fundamental notions in political economy.
The statement is sometimes made that economics is a mere
bread-and-butter science, and this charge is not without some
foundation, since the science studies men in their endeavor to
make a living, but it would be an error to suppose that we are
concerned with only the sordid aspects of human nature. This
is apparent if we enumerate the motives which impel men to
acquire wealth.
Motives in Economic Activity. (i) There is, in the first
place, the endeavor to satisfy one's strictly personal wants, giving
rise to the struggle for food, shelter, comforts, amusement, etc.
These things are wanted for their own sake, because of the pleas-
urable effect which they produce upon the individual acquiring
them. We have here, in short, the motive of self-maintenance
and development. (2) But every normal individual feels such a
degree of affection for certain other people that he is also anxious
for their maintenance and development. Striving for the wel-
fare of others is a second motive which impels men to labor for
the acquisition of material things, and in many cases is more effec-
tive as a spur to endeavor than the first. A man will hold him-
self to the daily grind more persistently when he feels some one
93
94 OUTLINES OF ECONOMICS
is dependent upon him than when he is standing alone. (3) A
third motive is the desire to gain the esteem of one's fellows.
This motive may take the form of an endeavor to do one's part
and to be deserving of the companionship of the class of people
whom we admire. But much of our wealth acquisition is motived
by the hope of impressing our fellows with a sense of our own
importance, to show that we are successful, admirable, enviable.
When the income permits, old coats are discarded, not because
they cease to give protection, nor because they have become aes-
thetically objectionable, but because the wearers wish to make a
favorable impression upon other people. Half the pleasure of
owning fine houses comes from the fact that most people do not
have them. This motive is not always a conscious one, since
our standards of beauty or propriety may themselves have been
the result in part of this desire for distinction. Now that bi-
cycles are within the means of workingmen, it is no longer fash-
ionable to ride these machines.
Somewhat similar to the desire for distinction is (4) the desire
for power. Men like to dominate and command their fellows,
and this want may be satisfied by means of the dollar as well as
with the sword; hence our Napoleons of Finance, Captains of
Industry, and Railway Kings.
(5) Again, the desire for activity for its own sake may be men-
tioned. Enforced idleness is as painful as prolonged labor, ex-
cept to the degenerate. This desire may result in the production
of goods, but more commonly it requires the use of goods that
have been produced, as, for example, the implements of athletic
exercise. Finally, (6) religion or the ethical impulse may be an
important factor in controlling the economic activity of the indi-
vidual. Observe, for instance, the difference in the history of
communistic experiments in which religious feeling has been
strong and those in which it has been weak.
In this discussion the use of the word "motive" must not be
taken to mean that all of the economic life of the individual is a
consciously rational one, in which pleasures are balanced against
pains in such a way as to secure the maximum surplus of satis-
factions. Man is, it is true, a rational being, and as such pursues
ELEMENTARY CONCEPTS 95
definite lines of action under the influence of conscious motives;
but he is also a creature of instincts and habits, and much of the
economic activity of the individual has to be interpreted as the
working out of instinct and habit. We speak, for example, of
such things as the "instinct of workmanship," the "habit of in-
dustry," the "habit of saving," and the like. The foregoing
analysis of the motives in economic activity is, however, broad
enough if we remember that "pleasure" is something that is not
always consciously sought, but is often to be understood as the
result of the functioning of inherited instincts and acquired
habits.
Utility. As a result of these motives, human beings are striv-
ing for the possession of certain things. These we call goods or
utilities. To understand the meaning of the term "utility" in
economks, we must recall the central fact of our science, that eco-
nomics is a science of man. Goods may be of interest to chemistry
and physics merely as things, but they have no significance what-
ever in economics until they come into relation with man. That
fact in man which reflects upon things a new character and makes
them goods is the fact of human wants. Anything that is capable
of satisfying a human want is a good or a utility.
We need here to guard against a misunderstanding which the
word "utility" sometimes suggests. There is a tendency to con-
found it with the idea of benefit, and to suppose that articles are
useful just in proportion as they are beneficial. But in economics
these two ideas cannot be taken as identical. Utility is the power
to satisfy wants, not the power to confer benefits. Cigars are as
useful in the economic sense as bread or books, for all three sat-
isfy wants. Economic wants may be serious, frivolous, or even
positively pernicious, but the objects of these wants are all alike
"utilities" in the economic sense.
Free and Economic Goods. But it is apparent that the wants
we have mentioned are very unlike in character. Air and water,
for instance, we seldom think of as things we want at all. We
usually have them in abundance and without exertion, so that,
though they satisfy wants as vital as any we know, we seldom
spend any time thinking about them or our dependence upon them
96 OUTLINES OF ECONOMICS
These are free goods, that is, goods that exist in quantities suffi-
cient to supply all wants for them. Land in a new country is
frequently a free good. But the list of things that are free is
quickly exhausted. On the other hand, goods that are the ob-
jects of exchange are called economic. Economic goods are those
which exist in quantities less than sufficient to satisfy all wants
for them. Hence, we must economize in the use of them, are
willing to undergo sacrifice to obtain them, and usually they are
obtained only by exertion. It is, however, their scarcity and
not the fact that they have cost labor that makes them economic
goods. Land, for example, a free gift of nature, is one of our
most important categories of economic goods at the present time.
Effort. Fortunately, the supply of economic goods can, in
most cases, be increased by human exertion applied to the ma-
terials of nature; but this exertion, if carried beyond ft certain
point, is irksome and has an important effect upon our economic
life. If the labor force of the community were unlimited, a
great many of the goods which we now use sparingly would be
as free as air. Idealists have pictured for us a condition of the
future where a few hours' work per day for each individual (an
enjoyable means of working off surplus energy) will be sufficient
to supply us with all of the goods that we have time to consume.
At present, however, most of us find that our consumption is
limited by the pain of additional effort. The end of our eco-
nomic activity is, therefore, not only to get the greatest amount
of satisfaction, but also to minimize the amount of painful labor.
Waiting. Another fact that persists in our economic life is
the necessity for waiting. The people of the United States wish
to have the Panama Canal, but they cannot get it without years
of waiting. They must spend millions of days of labor with no
benefit in return for a long time to come. This waiting has
often been called abstinence; but that suggests that the waiting
is always painful, which is not true, as we shall see later in dis-
cussing the subject of interest.
Services. Goods have been commonly divided into (i) ma-
terial things, such as food, clothes, and books, and (2) personal
services, such as the advice of a physician or lawyer.
ELEMENTARY CONCEPTS
97
The advisability of the distinction has been denied, Actors and singers,
it has been urged, sell us perishable material things, i.e. light and sound
waves of a peculiar kind. A recent writer also considers the distinction con-
fusing because it obscures the fact that material things give off services just
as human beings do. The piano yields services as does the singer. From
this point of view persons are durable economic goods along with cattle and
wheelbarrows. But, on whatever ground the distinction is made, it is im-
portant to recognize that among the things that contribute to our well-being
are some personal services that are so perishable that they must be
used with the direct cooperation of some other human being, while in other
cases the services are, as it were, stored up in some inanimate material things,
and the relation between the producer and consumer becomes an impersonal
one. The service of a musician, for example, is personal and must be used
the moment it is rendered ; the purchase of a musical instrument, on the other
hand, means the purchase in a lump of a long series of uses.
Personal Qualities as Goods. The central point in our science
is the conception of man in his relations to his environment, and
hence it does not seem reasonable to include the personal quali-
ties of men under the head of goods. Good health and techni-
cal skill make a man's services more valuable and assist him in
the acquisition of wealth, but they are a part of him rather than
of his possessions. It is his services that he sells, and it is these
that we have placed under the head of goods. When we con-
sider the importance of the priceless heritage which the present
generation has received in the shape of knowledge and skill, we
might make these a separate category as immaterial goods.
On this point Professor Marshall says : " German economists often lay
stress on the non-material elements of national wealth ; and it is right to do
this in some problems relating to national wealth, but not in all. Scientific
knowledge, indeed, wherever discovered, soon becomes the property of the
whole civilized world, and may be considered as cosmopolitan rather than a
specially national wealth. The same is true of mechanical inventions and
of many other improvements in the arts of production ; and it is true of music.
But those kinds of literature which lose their force by translation may be
regarded as in a special sense the wealth of those nations in whose language
they are written. And the organization of a free and well-ordered State is to
be regarded for some purposes as an important element of national wealth."
But knowledge does not exist in a disembodied state, and we
shall omit nothing and avoid some confusion if we divide all
goods into material things and personal sendees.
98 OUTLINES OF ECONOMICS
Wealth. Political economists have frequently called economic
goods wealth, thus excluding free goods. Some writers, however,
include free goods in the idea of wealth. The truth is, that this
term cannot be defined satisfactorily unless we specify whether
we are speaking from the individual point of view or from the
social point of view. From the individual standpoint, wealth
means valuable claims to goods; from the social point of view,
we shall regard wealth as an aggregate or stock of goods. This
excludes personal services from the category of wealth, for they
disappear as soon as rendered, and in an inventory of existing
wealth, personal services would not appear.
Wealth and Income. Wealth refers to the stock of goods on
hand at a particular time. Real income, on the other hand, has
reference to the satisfaction which we derive from the use of
material things or personal services during a period of time.
Money income should, perhaps, refer to the value of the goods
consumed and services enjoyed, although in popular speech and
by many economists the word is used in the literal sense of the
net amount of money that comes in, whether it is spent for en-
joyable things or is saved. In this book we shall use the term
" money income " in the latter sense.
The Individual and Society. One distinction runs all the way
through political economy, and that is the distinction between
the social and the individual standpoint. That which is wealth
to the individual is often not wealth to society. An individual
holding a government bond finds that he can exchange it for the
things he wants almost as readily as though it were gold or some
other commodity. He recognizes that the paper itself cannot be
used directly for any useful purpose, yet he prizes it because it
represents an indisputable claim on the services or commodi-
ties of other people. If the bond should be destroyed, the holder
as an individual would suffer loss, but society as a whole would
be neither richer nor poorer, and society, exclusive of the bond-
holder, would have gained at his expense. From the social stand-
point the bond is not wealth at all, but only an evidence of a legal
right to a part of the social wealth. All property rights are sim-
ply claims to a part of the social wealth or income. The claims
ELEMENTARY CONCEPTS 99
to concrete, material things, such as farms and store buildings,
are included by an individual when he enumerates his wealth;
the farms and store buildings are social wealth. Again, in mak-
ing an inventory of his wealth, an individual would not ordinarily
include such an item as the post office, which is public and not
private property; but, strictly speaking, the post office is owned
jointly with other members of society. A successful patent is
frequently looked upon as an item of wealth, but it is simply a
means by which the owner gets more from other people in return
for his services. If the patent is declared invalid, others gain
what he loses (not counting the check to the inventive impulse).
Again, "good will" in business is frequently paid for as though
it were an economic good, and is wealth from the individual
point of view, but it is not social wealth. If a business man loses
his established trade, his competitors are the gainers; society
as a whole is not affected. This distinction between individual
and social wealth, however, is valid only when we look upon the
social wealth as composed of concrete material objects. When
we are measuring the amount of wealth in dollars, no such dis-
tinction can be drawn. To attempt to say how much an item
of wealth is worth from the social point of view and how much
from the individual point of view, would be futile. The owner
of a franchise that is declared invalid suffers financial loss; the
community suffers no loss, for the tangible property which yields
the enjoyable services is not affected. Here is a valid distinction
between the individual and social points of view, but from any
point of view it cannot be denied that the selling value of the
property has been decreased.
Wealth and Value. In the preceding paragraphs wealth has
been spoken of as consisting of particular things. A lead pencil
and the year's crop of wheat are both wealth. How shall we
measure the amount of wealth that these objects represent?
Since the items of wealth are composed of very heterogeneous
objects, we cannot use such units of measure as bushels, pounds,
or feet. We must select a measure that has reference to some
quality common to all kinds of wealth. This quality is the power
to give satisfaction to those who have unsatisfied wants, and a
100 OUTLINES OF ECONOMICS
measure based upon this quality is value. This is a subject
which will be discussed in detail later, the valuation of goods and
personal services being the central problem in economic theory.
It is sufficient to say at this point that high value in an object
implies the existence of important unsatisfied wants which this
object is capable of satisfying. Thus, free goods have no value,
not because they do not satisfy important wants, but because
these wants do not ordinarily go unsatisfied.
Capital and Other Forms of Wealth. Some material things,
as well as personal services, yield satisfaction to human beings
directly. From clothes, dwellings, food upon the table, musi-
cal instruments, and the like, we derive enjoyment directly.
These are consumption goods. Other goods are of service only
indirectly. A plow, we say, is useful, but we cannot eat or wear
it. It simply helps to produce the things that we can enjoy.
Such articles are production goods.
The distinction is a matter of degree. Even the food upon the table is not
quite ready to be enjoyed. It must be handled with knives and forks.
This has led some writers to make no distinction between wealth and capital
goods. But it has been pointed out that great differences in degree are more
important than many differences in kind. The distinction, it may also be
noted, is not made on the ground of durability. Consumption goods may
be very durable, such as a painting or work of fiction.
Production goods, again, are divided into capital goods and
land. Land is a gift of nature; capital goods machinery,
warehouses, raw material, etc. are produced by man. Other
differences between these two classes will be discussed later.
Capital Goods and Capital Value. Capital goods, as well as
other forms of wealth, are of such a heterogeneous nature that
we cannot measure them by such units as pounds or inches.
Here, again, we must select some quality that is common to all
of them, which is value, and this can be measured in terms of
dollars. Very frequently the value of capital goods is confused
with the concrete good itself. A typewriter is a tangible, material
capital good; its weight is measured by pounds; its bulk by cu-
bic inches; its value by dollars. In this book the word " capital "
is frequently used as a short expression for either of the phrases
ELEMENTARY CONCEPTS
101
" capital goods " and " capital value," but it will always be clear
from the context which is meant.
Social and Individual Capital. The individual may include
items in an enumeration of his capital which are not capital
from the standpoint of society. The landlord who has dwell-
ings to let regards them as part of his capital, but from the social
standpoint they are consumption goods. We may call such
goods acquisitive capital. Again, a street railway may consider
its franchise as a part of its capital, but from the social standpoint
a franchise is not capital at all, nor even a good, but is simply a
right to use the streets in a certain manner. Destroy the fran-
chise, and the items of social capital would not be directly les-
sened.
Figure i will make clear these various distinctions:
Circle A B represents goods.
Circle AC represents economic
goods.
Circle AE represents producers'
goods.
Circle AF represents land.
Zone BC represents free goods.
Zone CE represents consumers'
goods.
Zone DE represents acquisitive
capital.
Zone EF represents social capi-
tal.
FIG. i
The National Wealth and the National Dividend. Attempts
have been made to ascertain the total wealth of a nation. The
latest estimate made for the United States by the census authori-
ties is given on the following page.
Such a table is useful, even though it may contain some rather
arbitrary estimates, as showing the relative importance of dif-
ferent classes of our material equipment. Notice the small total
value of the metals used as money and the relatively large value
embodied in real property. It is rather surprising that manu-
facturing machinery, tools, and implements are worth less than
102
OUTLINES OF ECONOMICS
ESTIMATES OF WEALTH FOR 1900 AND 1904
FORMS OF WEALTH
1904
1900
Real property and improvements
taxed
$55,510,228,057
6,831,244,570
4,073,791,736
844,989,863
3> 2 97>754,i8o
1,998,603,303
11,244,752,000
2,219,966,000
227,400,000
585,840,000
123,000,000
846,489,804
275,000,000
562,851,105
1,899,379,652
7,409,291,668
495,543,685
408,066,787
2,500,000,000
5,750,000,000
$46,324,839,234
6,212,788,930
3,306,473,278
749,775,97
2,541,046,639
1,677,379,825
9,035,732,000
1,576,197,160
211,650,000
400,324,000
98,836,600
537,849,478
267,752,468
402,618,653
1,455,069,323
6,087,151,108
424,97 ,592
326,851,517
2,000,000,000
4,880,000,000
Real property and improvements
exempt
Live stock
Farm implements and machinery
Manufacturing machinery, tools,
and implements
Gold and silver coin and bullion
Railroads and their equipment. .
Street Railways, etc. :
Street railways .
Telegraph systems
Telephone systems
Pullman and private cars ....
Shipping and canals
Privately owned waterworks. .
Privately owned central elec-
tric light and power stations
All other :
Agricultural products
Manufactured products
Imported merchandise
Mining products
Clothing and personal adorn-
ments
Furniture, carriages, and kin-
dred property
Total
$107,104,192,410
$88,517,306,775
our live stock. But great care should be taken in comparing
the total wealth as estimated in this and in preceding census
valuations and in drawing conclusions as to the significance of a
growth in national wealth measured in dollars.
In addition to the difficulty of getting accurate information
on these various items, there are several things to be kept in
mind in making use of such an estimate. First, the returns are
ELEMENTARY CONCEPTS
103
made in money, so that fluctuations in the value of money will
show a change in the total valuation even if there is no change
in the relation between the wants of a community and its goods
other than money. Again, free goods are not included in such
an estimate. Also, a good deal of public property does not have
a money estimate put upon it. Who would attempt to say what
our rivers and harbors are worth, and yet why should not these
be included in the estimate if our canals are?
It seems that much that is included in the estimate is wealth
from the individual standpoint only, but not from the social, as
in the case of the valuation of a business whose value consists
largely of patents or monopolistic privileges. In the table above,
for example, the value of railways in 1904 was obtained by capi-
talizing their net earnings. Is this sum properly included in an
estimate of the total amount of wealth in the United States?
The inclusion is proper if we are confining ourselves to a state-
ment of the sum of the values of property rights, but it is mislead-
ing if we wish to show the relative importance of railways and of
property in a competitive industry, or if we are discussing rail-
ways in relation to the public welfare. A similar line of thought
is suggested with reference to land values. Ten years ago we
had about the same area and the same quality of land as we now
have, so that its high value to-day cannot mean that we are better
equipped with natural resources.
We must be on our guard against attaching improper signifi-
cance to estimates of total wealth. Changes in total value are
not an accurate index of changes in well-being. It is possible
that an increase in concrete material goods will actually decrease
the total quantity of wealth measured in dollars. A hundred
bushels of wheat at $i per bushel have a higher selling value
than two hundred bushels at 40 cents per bushel. If by some
magical process all goods could be made free as air, there would
be no value whatever. An estimate of the value of our stock of
wealth also necessarily omits to take account of personal services.
It is obvious also that per capita wealth has a more direct rela-
tion to well-being than total wealth. Individual wealth and value
connote scarcity; well-being implies abundance. Nevertheless.
104 OUTLINES OF ECONOMICS
under present conditions, it is probable that an increase in per
capita individual wealth, when not due to fluctuations in the value
of money, also indicates an increase in well-being. There is no
likelihood of our being able to increase the quantity of economic
goods to such an extent as to render them free and hence value-
less; and, on the other hand, as will be more fully explained
later, new wants are constantly developing, and value is at bottom
the power to minister to unsatisfied wants.
The national income is a concept which takes account of the
services rendered directly by persons as well as of the material
things that are used. The national income, objectively consid-
ered, is a gigantic stream of food, clothes, comforts, personal ser-
vices, etc., which is used up in the direct satisfaction of wants in a
specified period, such as a year, by the millions of individual acts
of consumption. Some writers would include also the additions
to our industrial equipment, such as new machines; but they
may also be regarded as promises of an enlarged future income
of society, not a part of its present real income. These two views
correspond to the two definitions of income on page 98.
It is difficult to make an accurate estimate of the national in-
come in terms of its money value, and not much confidence can
be placed in the estimates that have been made. A reliable cal-
culation of this kind would, however, be useful as an index of
the maximum gain that might be derived by the mass of the people
from agitation for a more nearly equal distribution of wealth. It
would be interesting to know what the scale of living would be if
the national income were equally distributed. At present we do
not know whether a family of five persons would have $800 or
$1600 to spend.
The national income may be looked upon as the national divi-
dend, the sum total of good things to be divided among the vari-
ous families or individuals. The forces determining the size of
this dividend, the manner of its division, and the saneness of its
use are the main topics for discussion in political economy, and
hence it will be our purpose in subsequent chapters to describe
the general tendencies in the consumption, the production, and
the distribution of wealth and income.
ELEMENTARY CONCEPTS 105
QUESTIONS AND EXERCISES
1. Does the following statement agree with the definitions in the text?
"The true basis for an estimate of a nation's wealth is to be found in the en-
joyments of its members." Hadley, Economics, p. 4.
2. Are the following wealth : air ? whisky ? a copyright ? Lake Michigan ?
skill as a carpenter ? good health ?
3. Discuss the following : " Among the motives which lead men to accumu-
late wealth, the primacy, both in scope and intensity, therefore, continues to
belong to this motive of pecuniary emulation." Veblen, Theory of the
Leisure Class, p. 34.
4. State the significance of the following : " A horse is not wealth to us if
we cannot ride, nor a picture if we cannot see, nor can any noble thing be
wealth except to a noble person." Ruskin, Munera Pulveris, p. 10.
5. Discuss the following statement : " In 1770 Arthur Young reckoned the
income of England to be 120,000,000; in 1901 the income may be roughly
set down at 1,600,000,000. Making correct allowances for population
and for prices, this growth of income would signify a large increase of com-
modities per head ; but would it tell us that we are working and living some-
what better than our ancestors?" Hobson, The Social Problem, p. 43.
REFERENCES
CARVER, T. N. The Distribution of Wealth, Chap. III.
CLARK, J. B. The Philosophy of Wealth, Chaps. I and III.
FISHER, IRVING. The Nature of Capital and Income, Chaps. I and II.
HOBSON, J. A. The Social Problem, Book I, Chap. V.
LESLIE, T. E. C. Essays in Political Economy, Chap. I.
MALLET, B. A Method of Estimating Capital Wealth from the Estate Duty
Statistics, Journal of the Royal Statistical Society, March, 1908.
MARSHALL, ALFRED. Principles of Economics, Book II.
RUSKIN, JOHN. Munera Puheris, Chap. I.
SIDGWICK, HENRY. The Principles of Political Economy, Book I, Chap. III.
SMART, WILLIAM. Studies in Economics, Chap. VIII; and Distribution of
Income, Book II.
SPAHR, C. B. The Present Distribution of Wealth in the United States,
Chap. V.
VEBLEN, T. B. The Theory of the Leisure Class, esp. pp. 24-34.
WAGNER, ADOLPH. Crundlegung der politischen Oekonomie, 3d ed., VoL
I, pp. 83-135.
Special Census Reports, 1907, Wealth, Debt, and Taxation.
PART II
CONSUMPTION
CHAPTER VIII
CONSUMPTION
Consumption Defined. Consumption in economics means the
use of goods in the satisfaction of human wants, which is the pur-
pose of a large part of our economic activity, but it is not the sole
purpose, since activity is to a certain extent an end in itself. Nev-
ertheless, in economic society as it is organized to-day we are per-
haps justified in looking upon consumption as the motive force
behind production. Wants are so far from satisfied at present
that men look for work, not because they seek to be rid of surplus
energy, but because they crave the goods which their wages will
buy. The power of unrestricted consumption seems to be the
prevailing ideal. Industry, furthermore, is organized and con-
ducted primarily to satisfy the consumer, not the worker. This
fact is the basis of the Consumers' League, which aims to improve
conditions of production by asking the consumer to refuse to pur-
chase the goods of unfair employers.
A study of the consumption of wealth falls only partly within
the domain of economics, for the use of wealth is a large part of
the problem of life. Passing judgment on the standards accord-
ing to which the rationality of certain wants is to be measured
does not directly concern the economist.
Productive and Final Consumption. When used without quali-
fication, the word " consumption " in economics is commonly taken
to refer to the use of goods to satisfy wants directly. But some
goods, such as machines and raw materials, are used up in the
production of other goods. This we may call productive consump-
tion, while that consumption which attains the ultimate goal of
106
CONSUMPTION
107
economic activity directly in the satisfaction of wants is final con-
sumption. It is now less necessary than it was in the days of Car-
lyle and Ruskin to insist that food consumed by laborers is not
productive consumption. They consume, not merely for the sake
of production, but also for the sake of satisfaction. Man is our
final term.
Human Wants. In the study of human wants as a starting
point in economic theory, two facts stand out prominently: the
expansion in the number and variety of the wants, and the satia-
bility of any particular one of them. As man has progressed from
savagery to civilization, the variety of things he desires and even
considers necessary to his existence has expanded enormously.
His interests become more varied, his capacity to enjoy becomes
larger, and he lives a fuller and more complex existence. There
are indeed those who would have us "return to nature " and live
a simple life, but taking the world as it is, we may assume that
there is no limit to the capacity of the community to use more
goods.
But when we turn to the consideration of some particular want
by itself, the matter is wholly different. Our nerves grow weary
of a repeated stimulus, and any attempt to continue indefinitely
the enjoyment of some sensation results in satiation. A phono-
graph record grows stale after a number of repetitions. An apple
does not always have the same degree of utility for any one of us,
van-ing from the highest degree, if we are on the point of starva-
tion, to disgust, if a considerable number have just been con-
sumed.
Law of Diminishing Utility. This fact is of fundamental im-
portance in the study of economics and has been dignified by the
term "the law of diminishing utility." In formal words: The
intensity of our desire for additional units of any commodity de-
creases as we consume successive portions. It should be observed
that an interval of time between the successive acts of consump-
tion may permit our nerves to recuperate so that no diminution in
the degree of utility is apparent. Again, the increase in a person's
stock of an article held for the purpose of exchange, such as money,
can cause a decrease in the utility of an additional unit only to the
Io8 OUTLINES OF ECONOMICS
extent that all of his wants are being satisfied, since such an ex-
changeable commodity in reality stands for all commodities avail-
able to him. Again, consumption of certain articles may result
in the development of new related wants. The amateur pho-
tographer, for example, finds that the crude pictures which de-
lighted him at first give him less and less pleasure, but his interest
in photography may continue to increase because he sees an end-
less variety of results to be achieved.
Different Uses for the Same Commodity. In the preceding
paragraph mention was made of the different degrees of intensity
of a particular want. The utility of a commodity may also vary
because of its capacity to satisfy different wants of varying im-
portance. Thus water, first of all, satisfies thirst. The impor-
tance of this utility is altogether incalculable, for without it we
should die. Then it serves for bathing, a use which certainly
seems essential, but one which is far less urgent than the foregoing.
If we had to do without one or the other, there is no doubt which
we should prefer. Then it serves for washing dishes, clothes, and
a multitude of such things, then for sprinkling lawns and streets,
then for fountains, artificial ponds, etc. All these uses and many
more are economic, because men will and do pay for water to
satisfy these wants.
Marginal Utility. It must be evident, therefore, that to say
that a certain thing is a utility is very indefinite. That merely
tells us that it is capable of satisfying some want, perhaps impor-
tant, perhaps unimportant. We become definite only when we
have specified the degree of utility possessed by the commodity.
This is commonly called its final or marginal utility, because when
we think of a commodity as consumed in successive portions, the
present is the last or marginal unit consumed. Marginal utility
means simply the importance which is attached to an additional
unit of the commodity at the present moment. This individual
valuation of a unit of the commodity may be spoken of as its sub-
jective value. This is to be distinguished from its market value,
or what can be obtained in exchange for the commodity, which is
a resultant of many individual valuations. Market value will be
discussed in subsequent chapters.
CONSUMPTION
FIG.
A clearer notion of subjective value (or marginal utility) may
be given with the help of Figure i, following. We return to
our illustration of water, which we remember had numerous
uses of various degrees of importance. We have marked off dif-
ferent portions of the base
line representing quantities
of water available for man's
use. The first quantity, ab,
is just enough for drinking
purposes. Suppose this is
all the water to be had.
There will be no question
of sprinkling lawns or even
of bathing under such cir-
cumstances. What will be
the utility of water? Evi-
dently the extent of the service which it renders us, and as this is
the preservation of our life we cannot estimate it. We will indi-
cate it by the area above the line ab which runs upward indefi-
nitely as the curved line fails to close in. What will be the impor-
tance of another portion of water at this point of supply ? As this
additional portion which we desire is not needed for drinking but
for a less important purpose, the subjective value of the water
will now depend upon this less-important want. Now suppose
we have three portions of water, represented by the lines ab, be,
and cd. We now have enough for all our wants, down to sprin-
kling the lawn and the street. We are willing to pay something
for more water for this purpose, but how much? As much as
when we had only water enough to drink ? By no means. The
next want on our list is comparatively unimportant, and of course
we value an increased supply accordingly. With two or three
more portions of water all our wants are satisfied, and water will
have for us no value whatever. Its marginal utility will have
become zero. As the amount of water is increased, the subjec-
tive value falls according to the curved line hi, till finally it touches
the base line, where the utility of the water ceases and it has no
value at all.
no
OUTLINES OF ECONOMICS
It should be carefully noted that marginal utility tells us noth-
ing about the total subjective value of the whole stock of the com-
modity. It refers solely to the present value of an additional unit,
or the sacrifice that would be occasioned by the loss of a unit.
We cannot get the total subjective value by multiplying the margi-
nal utility by the number of units, even though they be all alike.
The very term "marginal" tells us that the conception implies
successive additions, and the present value of an additional unit
tells us nothing definite about the marginal utility at a previous
period. If we wish to ascertain the total subjective value of a
stock of a commodity, we have simply to treat it as one large unit,
and ask what would be lost if it were taken away. By this test
all air would be found to have an immeasurable utility, at the
same time that the marginal utility, that is, the subjective value
of an additional quart, would be nothing. Thus it will be seen
that the cause of subjective value is utility under a condition of
scarcity; that is, such a limitation of the supply that all wants
cannot readily be satisfied.
The Economic Order of Consumption. What has been said
regarding the way in which our individual estimates of the im-
portance of a commodity are determined will help to explain how
we make our choices in attempting to obtain the largest amount
la
Ib
Ic
Id
2 a
2c
FIG.
FIG. 3
of satisfaction with the income at our disposal. Evidently we must
spend each succeeding dollar for purchasing that commodity of
CONSUMPTION
III
which a dollar's worth will give the greatest satisfaction. Let Fig-
ures 2 and 3 show the declining importance of two commodities
which an individual is consuming, and suppose that each unit
of each commodity costs one dollar. If the individual has ten
dollars to spend upon these two commodities, his order of con-
sumption will be as follows: he would begin with 2a, but another
unit of commodity 2 would give him less satisfaction than a
unit of commodity i. Hence, his consumption will continue as
follows :
la, 2b, 20, ib, ic, id, zd, 2e, le.
In this illustration it was assumed that a unit of each commodity
had the same cost. In this case, the unit consumed is always the
one that has the largest marginal utility. But where the cost of
the units is different, cost must be considered also, and we com-
monly do so by asking ourselves whether the thing we are buying
is worth as much as other things which could be obtained with
the same expenditure. Thus we are constantly abstaining from
the further consumption of one thing, not because our wants for
it are fully satisfied, but because something else of equal cost
appears at that moment to be more important.
Future Wants. Not all of the goods for which we strive are
wanted for present consumption. We recognize that we shall
have needs next month or next year, and we attempt to make some
preparation for them. These future wants, it is true, usually ap-
1m
Ib
Ic
Id
FIG. 4
Z fit Sf i * C |*^*J _
FIG. 5
peal to us less vividly than if they were present, but we attach a
definite importance to them and grade them, and they enter into
112 OUTLINES OF ECONOMICS
our calculations when we spend money, modifying the order oi
our consumption. This will be seen from Figures 4 and 5. Let
us suppose that in Figure 4, a, b, c, d, c represent the diminishing
importance of successive units of a commodity for present con-
sumption, and that Figure 5 shows the importance of similar quan-
tities of the same commodity for future consumption. Then la
would be consumed first, i.e. in the present. But a second unit
now would be less important in this individual's estimation than
the saving of a unit for future use. The second unit, therefore,
that is consumed would be 20,, and then the order would be as
follows: ib, 2b, ic, etc. Thus this individual has saved two out
of five units, i.e. 2d and 2b, with the same sort of mental calcu-
lation as he would use in deciding to spend a nickel for a peach
rather than for a pear. But if some one should ask him to spend
his fifth dollar for 20 instead of for ic, he would require some extra
inducement to repay him for the loss in enjoyment. It thus ap-
pears that a certain amount of saving is done without irksome-
ness, which emerges only when the saving is carried beyond a
certain point.
Alleged Present Consumption of Future Products. We often
hear of consumption in advance of production. It is said people
live on the future. It is frequently argued that during the Civil
War we were consuming faster than we were producing. It is
alleged that the federal bonds represented the consumption of
future earnings. But it must be apparent that it is impossible
to consume faster than we produce unless we consume past sav-
ings by not replacing worn-out equipment. We cannot eat to-day
the wheat or potatoes of to-morrow, nor can we wear coats before
they are made. What is alleged can only be true of the individual
consumer within the nation, or in case of the nation as a whole
when the capital or other wealth of the country is diminishing,
whereas during our Civil War it increased. What really hap-
pened was this: we as a nation became indebted to some extent
to foreigners, and within the nation some of us gained while the
rest were losing. Bonds do not represent a present consumption
of future wealth, but a special use of productive power for which
a government agrees to remunerate its owners in the future. If
CONSUMPTION n-j
war can be carried on with the aid of bonds, it can, leaving out
of consideration what foreigners send us, with a sufficiently per-
fect taxing machinery, conceivably always and practically some-
times, be carried on without bonds. It is only a question of how-
to get hold of the means of producing powder and bullets. War
was formerly carried on without bonds; they are a comparatively
recent contrivance. Consumption can never anticipate future
production for the nation as a whole taken by itself; it can only
anticipate future ownership.
Consumption and Saving. It is difficult to say in practice at
what point consumption should stop and saving begin, but the
principle itself is clear. So much, and only so much, should be
saved as will maintain a maximum final consumption over long
periods of time. It is conceivable that the present generation
might deny itself everything except the barest necessities and
labor to increase the productive equipment to be used in the future;
but the next generation could not pursue the same policy, for
some one must consume the products of the factories built to-day,
otherwise the building of them was wasted effort.
To provide for old age or for possible accident may be a suffi-
cient motive for saving in some cases, but saving is stimulated
when the goods saved will bring an increase. It is, therefore,
necessary to an extensive saving that the conditions of profitable
investment should be provided; and if wealth is to be widely dif-
fused, opportunities for investment should be readily available.
It is a perceived opportunity to make an investment with proba-
bility of increase which stimulates saving above everything else.
Another important condition is security. If the investments of a
country fluctuate between loss of principal and unreasonable profit,
the condition is one to encourage speculation rather than saving.
Among the institutions which encourage saving are private
property, corporations, cooperative enterprises, savings banks,
and insurance.
Luxury. Luxury is the name of a vague something which
society has always viewed with a sense of mingled tolerance and
condemnation. In the first place, it is clear that people ordinarily
consider as luxuries many things in themselves innocent and de-
i
114 OUTLINES OF ECONOMICS
sirable, as silk dresses, jewels, pictures, etc. No one but an ascetic
will condemn as wrong in themselves things that appeal to taste
and finer appreciations, and yet we feel that the use of such things
is often unjustifiable. Second, the popular idea of luxury recog-
nizes a difference in persons. We cannot help condemning in
one person what we approve in another. Third, we judge luxury
differently at different times. There is a continual transfer of
articles from the list of luxuries into that of comforts and neces-
sities. This transfer is brought about by the consensus of social
judgment, and is increasingly acquiesced in by all. So we see
that the term " luxury " does not apply to goods of a certain char-
acter, but to certain goods in their relation to time and person.
For the purpose of discussion, we shall define luxury simply as
excessive consumption. But what determines whether consump-
tion is excessive or not ?
The answer to this question depends, first, upon our idea of
right living, and second, upon our idea of a just distribution of
wealth. The former question we shall not discuss. It is that
of the simple life versus the complex and varied life, and may be
left to the sociologists, philosophers, and moralists. But what is
a just distribution of wealth? In the world's speculation upon
this subject, three ideas stand out prominently: (i) equality,
(2) product, (3) needs. Let us examine these three bases of
distribution.
The ability of men to use wealth sanely is enormously unequal,
and there is no probability that this inequality will soon be re-
moved. To distribute wealth equally, therefore, would be to use
goods where they satisfied trifling wants or none at all. But in
addition to its wastefulness, an equal distribution is further objec-
tionable because of the discouragement it might give to the ener-
getic members of the community. Would a man continue to
work hard if his lazy neighbor received as much as he ? There
is only one sense in which we must regard men as equal, and that
is that the happiness of one is as important as the happiness of
another.
That wealth should be distributed according to what men pro-
duce is perhaps the most widely held idea at the present time,
CONSUMPTION ue;
sometimes on the ground that it is theirs by natural right, which
is fallacious, and sometimes on the ground that such a method
of distribution is a cure for laziness. There is, however, great
difficulty in applying this test accurately under the complex con-
ditions of modern industry. Who shall say what the president of
a great life insurance society is producing? How many dollars'
worth has a physician produced who has saved a man's life?
However satisfactory the test of productivity may be in the case
of a man who produces a pair of shoes with his own implements
and labor, it fails at many points under modern industrial condi-
tions, and its failure has become increasingly apparent with the
growth of large-scale production and monopoly.
Those who are impressed with the difficulty of saying what a
man has produced, suggest that we ascertain what he needs. This,
it is true, is not capable of exact determination; but any wide
departures from justice might be agreed upon by judicial inquiry.
Needs are the basis of the distribution within the family. The
solidarity of the family demands it, and this is but the epitome
and type of the solidarity of society. It is unquestionably in the
interest of society that those with the highest capacities should be
allowed to attain the fullest development of all their powers, pro-
vided these powers are used in the service of humanity. What
is necessary to make a man a good citizen? That, according to
this third view, is the ultimate test of a just distribution.
It is not necessary for us to select as a practical programme any
one of these tests and wholly reject the others. The first, equal-
ity, reminds us that the lowliest human being is to be looked upon
as an end, not as a means to the happiness of others; the second
is safe and convenient so far as it can be definitely applied; but
the final test, so long as we are social beings, will always be that
of needs, understanding by "needs," not what the individual asks
for, but what is required for a full development of his powers.
While, then, justifiable consumption will, according to these
principles, be exceedingly variable, can any one for a moment
claim that such principles now govern consumption? Immense
sums are squandered on passing caprices whose satisfaction can-
not by any standard be considered necessary. On the other hand,
Il6 OUTLINES OF ECONOMICS
multitudes of fine natures with keen appreciations and large ca-
pacities for development and present enjoyment are left without
the means for either. So long as these things exist, so long as a
vast amount of the world's wealth is destroyed by vulgar and in-
competent consumption which might impart satisfaction of a high
order if consumed otherwise, and by others, the moral sense of
the world will condemn luxury as a social wrong.
And what is the excuse for this abuse ? Usually the simple fact
of ownership. "It is ours," they say. But for what? Simply
because the interests of production require capital to be massed
under specialized control. There is no more reason why a mil-
lionaire should consume all the income he controls than there is
why a philosopher or an artist should withhold from society the
satisfactions afforded by his genius. A successful manufacturer
once expressed the opinion that a man has the right to put down
silk velvet on a muddy crossing to walk on if he is rich enough
to afford it. When a man tramples in the mire the fruit of human
industry, he tramples with it human rights and humanity, and he
should expect humanity to avenge the affront. The right of pri-
vate property, like other social institutions, is ever on trial. The
obsolete objection is sometimes urged that luxury gives employ-
ment to labor. Does not philanthropic and productive expendi-
ture do the same? But that is not the question. What comes
of the employment? The payment of wages only helps men to
get more of existing goods from other persons. That may be
good for those workmen individually, but the only way to help
society as a whole is to give men useful employment, to aid and
encourage them to produce needed goods. Every employment of
labor which encourages production of luxuries is a misdirection
of social energy, an encouragement to society to spend its money
for that which is not bread and its labor for that which satisfieth
not.
Harmful Consumption. We have been careful to avoid the
impression that luxury consists in the use of pernicious goods.
It is a common query, "Why should I not have this if it does me
no harm?" This we have tried to answer in the preceding para-
graphs. A luxury may be a positive good in itself, a satisfaction
CONSUMPTION Iiy
which society may well hope to make general, but it is a good
which society cannot yet afford because other and greater wants
are yet unsatisfied. But there is another kind of consumption
which is objectionable in an entirely different way, not because
it is excessive or premature, but because it is harmful in itself.
Such are frequently drugs and alcoholic beverages. As we have
said before, these wants are as economic as any other, and we
have no intention of assuming the function of the physiologist or
the moralist in enumerating the evils which come from the con-
sumption of certain goods. But in one respect we have a distinct
part in this discussion. All production is for the sake of man,
and consumption is its final term. But in turn man is the prin-
cipal factor in production, and as the consumption of certain
goods affects him, the result is necessarily transmitted to the pro-
ductive process. Now the consumption of certain goods clearly
unfits men for efficient production, lessening bodily vigor, blunt-
ing the perception, and these goods the economist regards as harm-
ful in the sense of being destructive of human energy.
Statistics of Consumption. Instructive investigations have been
made as to the relative importance of the leading items in the fam-
ily budget. The late Ernst Engel, the former distinguished head
of the Prussian Statistical Bureau, advanced the theory that it
might be possible by a careful study of a sufficient number of
family budgets for a period of years to indicate the broad changes
in consumption, and thus by a sort of social signal service to pre-
dict the coming of industrial storms. Nothing has been so far
accomplished along this line, but Engel's tables are interesting.
From Table I (page 118) he deduces the following four propo-
sitions :
First. That the greater the income, the smaller the relative
percentage of outlay for subsistence.
Second. That the percentage of outlay for clothing is approxi-
mately the same, whatever the income.
Third. That the percentage of outlay for lodging or rent, and
for fuel and light, is invariably the same, whatever the income.
Fourth. That as the income increases in amount the percent-
age of outlay for sundries becomes greater.
n8
OUTLINES OF ECONOMICS
TABLE I
ENGEL'S LAW SAXONY
ITEMS OF EXPENDITURE
PER CENT OF THE EXPENDITURE OF THE
FAMILY OF
A Workingman
with an Income
of from $225
to $300 a year
A Man of the
Middle Class
with an Income
of from $450
to $600 a year
A Man in Easy
Circumstances
with an Income
of from $750
to $1000 a year
i. Subsistence
62.0
16.0
I2.O
s-.
2.O
I.O
I.O
I.O
95-o
5-
55-]
18.0
I2.O
5-Oj
3-5
2.0
2.O
2-5
90.0
IO.O
50.0"
18.0
12.
5-o.
5-5
3-o
3-o
3-5.
85.0
'S-o
2. Clothing
*. Lodging. .
4. Heat and light
5. Education, public worship,
etc
6. Legal protection ' . .
7. Care of health
8. Comfort, mental and bodily
recreation
Total
1 00.0
IOO.O
IOO.O
Subsequent investigations in the United States have confirmed
in a general way the conclusions of Engel, but the correspondence
is not exact, as will be seen from Table II (page 119), from the
reports of the United States Bureau of Labor, summarizing the
expenditure of over two thousand families in 1891 and over eleven
thousand in 1903.
A recent careful study of two hundred families in New York
gives the following division of expenditures :
BRANCH OF EXPENDITURE
AMOUNT SPENT
PER CENT or TOTAL
Food
$367 A2
A.1
Rent
Clothing
88 4?
10 6
Light and Fuel
42 J.6
C T
Insurance
12 1Z
7 O
Sundries
147.31
17.6
Total
8*6 2?
IOO O
CONSUMPTION
The author of this study comes to the conclusion that a "fair liv-
ing wage for a workingman's family of average size in New York
City should be at least $728 a year, or a steady income of $14.
TABLE II
EXPENDITURES OF AMERICAN FAMILIES INVESTIGATED BY THE
UNITED STATES BUREAU OF LABOR
(From the Seventh [1891] and Eighteenth Annual Reports [1903])
PER CENT OF TOTAL EXPENDITUB
Food
Clothing
Rent
Fuel and
Miscella-
Light
neous
1891
1003
1891
1903
1891
1003
1891
1003
1891
1003
Under $200
49.6
5-9
12.8
8. 7
15-5
16.9
8.1
8.0
14.0
15-6
$200 or under
$?oo . . . .
4.4.3
47.7
14.3
8.7
14.7
18.0
7.6
7.3
IO 2
18.8
wsy*"
$300 or under
H-T-O
*T/ "O
*t* o
/
**T* /
/
/
iy..*
$400
4C 6
48 I
I4.I
IO.O
1C o
18 7
7 O
71
18 \
16.1
$400 or under
o***
^"* - "
**T*
ij.w
*"/
/"
*
10.3
Ss;oo
4C..I
46 o
14.4
1 1. 4
1C. -I
18.6
6.6
67
18.6
i6<;
wyw
$500 or under
1O *
t"-y
*T't
"*T
^J'O
"/
v3
Sooo - .
43-8
46.2
IS-3
I2.O
15-2
18.4
6.6
6.2
19.1
17.2
$600 or under
STOO
A.I 2
1 C.
le.o
12 O
jc e
18.";
e
c.8
21.6
IO 4
V/vw
$700 or under
41 *
too
*o - y
i^.y
1 jO
**-*o
J'V
J "
iy.^
$800
*8 Q
4.1 4.
16.3
ia.c
ic 6
18.1
e.'i
C.5
27.
21.6
$800 or under
sr**jr
41 .-4
* v *o
*O'J
*j-"
J'O
JO
o y
$900
38.1
41.4
J5- 1
13-6
16.1
17.1
5-3
5-
25-5
23.0
$900 or under
$1000
34-3
39-9
1 6.8
14.4
14.9
17.6
4-7
5-
29.1
23.2
$1000 or under
$1 IOO . .
34-7
38.8
'7-5
i5- r
IS- 1
17-5
4-5
4-9
28.1
23-7
$i 100 or under
$ i 200
70 7
3.7 7
16 c
14
12.2
16.6
?.O
4-7
*6.7
26.1
$1200 or over .. .
J^'l
28.6
jl 1
36.5
w*3
IS-7
*H-y
IS-7
12.6
17.4
o y
3-
*? /
S-o
o /
40.1
25-4
All
41.1
43- 1
15-3
13-0
IS-I
18.1
5-9
5-7
22.7
20.1
120 OUTLINES OF ECONOMICS
a week. Making allowance for a larger proportion of surplus
than was found in these families, which is necessary to provide
adequately for the future, the income should be somewhat larger
than this; that is, from $800 to $900 a year." l
QUESTIONS AND EXERCISES
1. If you had four sacks of corn all alike, could you tell which is the
marginal one ?
2. If an individual estimates his present wants as 10, 8, 6, 3, i, and his
future wants as equivalent to the present value of 9, 7, 5, 2, o, and if he has
$9, and if each want is satisfied with $i, how many dollars will he save?
3. Give as many expressions as possible that are equivalent to the term
"subjective value."
4. Comment on the following : " Doubtless the best thing to do about them
(the spendthrifts) is to do nothing not even to worry about their waste
of money. Their waste of money, in fact, is the least silly thing they do, for
the money is in constant flux and serves its purpose." World's Work, June,
1906, p. 7597.
5. Comment on the following words of Adam Smith: "Nothing is more
useful than water ; but it will purchase scarce anything ; scarce anything can
be had in exchange for it. A diamond, on the contrary, has scarce any value
in use, but a very great quantity of goods may frequently be had in exchange
for it." Wealth of Nations, Book I, Chap. IV.
6. Point out the differences in the tables of consumption statistics quoted
in the text.
REFERENCES
BOHM-BAWERK, E. VON. Positive Theory of Capital, Book III, Chaps. 3
and 4.
CARVER, T. N. "How Ought Wealth to be Distributed?" Atlantic
Monthly, 1906, Vol. 97, p. 727.
DEVINE, E. T. Economics, Chaps. V and VI.
HOBSON, J. A. The Social Problem, Book II, Chap. VII.
JEVONS, H. S. Essays in Economics, Chaps. II and III.
KELLEY, F. " Aims and Principles of the Consumers' League." American
Journal of Sociology, Vol. V, p. 289.
MARSHALL, ALFRED. Principles of Economics, Book III.
MAYO-SMITH, RICHMOND. Statistics and Economics, Book I, Chap. II.
MORE, L. B. Wage-Earners' Budgets.
ROWNTREE, B. S. Poverty, Chaps. VI, VII, and VIII.
SMART, WILLIAM. Introduction to the Theory of Value, Chaps. I to VI.
Eighteenth Annual Report of the United States Bureau of Labor.
1 More, Wage-Earners' Budgets, New York, 1907, pp. 208 and 269.
PART III
PRODUCTION
CHAPTER IX
PRODUCTION
Production Defined. Man creates no new matter. Neither
the farmer nor the merchant adds one atom to the existing material
of the earth. Yet they are both properly called producers because
they increase our supply of economic utilities. Production, then,
means the creation of economic utilities by the application of
man's mental and physical powers to the materials of nature.
The act of production can be reduced to the following three opera-
tions: (i) changing the form of things, (2) changing their place,
and (3) keeping them until such times as they are wanted ; in other
words, production adds to the materials of nature, form utilities,
lime utilities, and place utilities. It has seemed to some that the
farmer is more truly a producer than the manufacturer, and the
manufacturer than the merchant; but such is not at all the case.
All of these industrial classes help at some stage in the process
of getting the materials of nature ready for consumption. The
miner gets iron ore from the ground, the manufacturer trans-
forms it into stoves, the railway company transports them, and
the merchant keeps them until they are wanted. One stage is as
essential as another if wants for stoves are to be satisfied. It
may well happen that the utilities produced by the merchant
could be produced with a smaller expenditure of economic force,
and that by a better organization of the factors of production saving
could be effected; or it may be that at times the merchant has
been able to secure a larger return for a given effort than the
farmer, but this is no justification whatever for the popular
impression that he is not a productive worker.
122 OUTLINES OF ECONOMICS
Factors of Production. It has been customary to speak of
three factors of production nature, labor, and capital. Under
nature are included all forces external to man, as the wind, the
movement of water, attraction of gravitation, cohesion, etc. Fre-
quently these things furnished by nature are called simply land,
because, of what belongs to external nature, it is with land that
we have principally to do in political economy.
Labor, as a factor of production, includes human activities of
every sort, intellectual as well as physical, which have economic
significance. We might better, perhaps, substitute man for labor
as the second factor. Labor is supplied by human beings and is
different from material goods because it is always connected with
a personality. Moral and intellectual qualities increase its pro-
ductiveness. Temperance, trustworthiness, skill, alertness, quick
perception, a comprehensive mental grasp, all these and other
qualities belonging to the soul of man are of paramount impor-
tance. Man's mere physical strength in itself is a poor thing,
being surpassed by that of the lower animals, but man is far more
productive, and even as a slave sold for more than the lower
animals.
Man can get but little from nature with his unaided hands. The
instruments which assist him, as we have seen, are called capital;
in other words, capital is every product which is used or held for
the purpose of producing or acquiring wealth. By this definition,
land is evidently excluded from the category. The nation's capital,
then, consists of tools, machinery, business buildings, transporta-
tion systems, raw material, etc. We may here again caution the
reader against confusing these concrete goods with their value.
Capital cannot be looked upon as an independent factor of produc-
tion, since it is derived from the labor of man applied to nature.
This fact has led some persons to say that capital is simply stored-
up labor, but this overlooks the important element of time re-
quired for production with the aid of capital. When we say that
to print a book according to present-day methods requires the co-
operation of labor and capital, we do not deny that the type-setting
machines and printing presses which are used are themselves the
product of other kinds of labor. To substitute capital for labor
PRODUCTION
I2 3
may seem to be simply substituting one kind of labor for another.
But a long time elapses between the digging of the iron ore and the
actual using of the machines in printing. Capitalistic production,
as distinct from simple hand labor, is merely a different method
a roundabout method of applying human labor to the materials
of nature. It is this time element which gives rise to the problem
of interest to be discussed in a later chapter.
" Capital is an intermediate product of nature and labour, nothing more.
Its own origin, its existence, its subsequent action, are nothing but stages in
the continuous working of the true elements, nature and labour. They, and
they alone, do everything from beginning to end in bringing consumption
goods into existence. The only distinction is that sometimes they do it all
at once, sometimes by several stages. In the latter case the completion of
each stage is marked outwardly by the appearance of a fore-product or inter-
mediate product, and capital has emerged. But, let me ask, is a thing any
the less the work of its author that it is not produced all at once, but in in-
stallments? If to-day, by allying my labour with natural powers, I make
bricks out of clay, and to-morrow, by allying my labour with natural gifts,
I obtain lime, and the day after make mortar and so construct a wall, can it
be said of any part of the wall that I and the natural powers have not made it ?
Again, before a lengthy piece of work, such as the building of a house, is
quite finished, it must naturally be at one time a fourth finished, then a half
finished, then three quarters finished. What, now, would be said if one were
to describe these inevitable stages of the work as independent requisites of
house-building, and maintain that, for the building of a house, we require,
besides building materials and labour, a quarter-finished house, a half-finished
house, a three-quarters finished house ? In form perhaps it is less striking,
but in effect it is not a whit more correct, to elevate those intermediate steps
in the progress of the work, which outwardly take the shape of capital, into
an independent agent of production by the side of nature and labour." *
It has been customary to distinguish fixed capital, which lasts
for a succession of operations, and only a part of the value of which
passes over into the product with each use, from circulating capital,
which is used up in one act of production. Coal used in a loco-
motive is an example of circulating capital; the car in which the
coal is hauled is fixed capital. The difference is one of degree only.
Saving and Capital Formation. From the individual stand-
point, saving means the postponement of consumption. To lend
1 Bohm-Bawerk, Positive Theory of Capital (trans, by W. Smart), p. 96.
124 OUTLINES OF ECONOMICS
to another, and thus secure a claim on his services for the future, is
an act of individual saving, but this does not necessarily result in
saving from the social standpoint. An act can be termed social
saving only when the total social income in the future will be in-
creased thereby. It is conceivable that this might take the form
of merely hoarding up finished consumption goods in anticipation
of a famine, but that is not the kind of saving that is typical of
modern industrial nations. It is true that we frequently produce
durable consumption goods which will be used for a long time in
the future. The construction of a public library building in part
involves social saving. But true social saving may also consist
in bettering the industrial equipment of society. To provide more
and better machines it is necessary to use some of the labor which
might be used to increase our present income. If all of the labor
now used in the construction of new milling machinery, ovens, etc.,
were employed in turning into bread all of the flour we now have
on hand, we could doubtless greatly increase temporarily our
present income in bread, but it would be at the expense of the
future income. Thus the saving which results in the formation
of social capital requires two things: (i) abstaining from the
largest possible income to-day, and (2) using part of our labor in
bettering the industrial equipment. Individual saving, however,
itself commonly results in social saving also, as will be explained
in a later chapter.
Production and Sacrifice. Over against the enjoyment re-
sulting from wealth consumption lies the discomfort of wealth
production. Enjoyment, we have
seen, grows less and less as the
consumption of a particular good
is continued, but the irksomeness
of producing it, on the contrary,
grows greater and greater the
x longer labor is continued. Let
FIG. i
us take the case of Robinson
Crusoe picking berries. We may represent the diminishing
utility of the berries to him by the line ab (Fig. i), and the in-
creasing irksomeness of picking them by the line cd. He would
PRODUCTION
I2 5
not pick more than Ox, because the xih berry costs him just as
much pain as it yields him pleasure, and any further continuance
of gathering fruit would result in an excess of pain. The degree of
utility represented by mx, then, represents at the moment that the
xih berry is picked and eaten, both the marginal utility and the
marginal disutility, or marginal pain or sacrifice.
Each of us is continually making such comparisons balancing
the pleasure of further consumption against the pain of further
production. Many persons who are working eight or ten hours a
day could increase their income somewhat by working twelve
hours, but the additional discomfort is greater in their estimation
than the additional fruits of their labor would be worth. To be
sure, much of our economic action goes on unconsciously. We
accept a position, considering its advantages and its disadvantages
in a general way as compared with the income it yields, but once
we enter upon the work, we accept the daily grind as inevitable,
and, in spending our income, think not of the pain it causes
us, but simply of how we can get the maximum satisfaction
from it.
In discussing future wants we saw that postponing the con-
sumption of goods from the present to the future began to be irk-
some only after a certain amount of goods had been saved. Under
present methods of production, it has just been explained, a large
amount of this postponement of consumption is required. Ma-
chines must be made, and the result of this labor cannot be enjoyed
until these machines have been used up in making finished
products. This means that some one must wait for the result, and
in many cases this is irksome. Thus production may require, in
addition to the pain of labor, the sacrifice of irksome -waiting or
abstinence. This is a point which will be discussed further in the
chapter on interest.
Cost of Production and Expense of Production. The preceding
paragraphs explain the most fundamental sense in which the term
"cost of production " is used, i.e. (i) the subjective cost of painful
labor or irksome waiting. But (2) the phrase is commonly used to
refer to the expense of production, that is, the number of dollars'
worth of labor and capital goods spent in getting an article on the
126 OUTLINES OF ECONOMICS
market. (3) A third meaning is also found, which may be termed
opportunity cost. Let us say that a person is confronted by the
alternative of engaging in either of two occupations. He may be
either a lawyer or a merchant, but he has not the time to be both.
If he chooses to be a lawyer, he sacrifices his opportunity of being
a merchant. In some cases this form of sacrifice is not easy to dis-
tinguish from the first. If a man is hesitating whether to accept a
position requiring nine hours' work per day or one requiring ten
hours, shall we think of him as considering the irksomeness of the
tenth hour, or the leisure which he would be sacrificing? But
where the opportunity that is sacrificed is an occupation or busi-
ness, this "opportunity-cost" is simply one way of looking at
the fact that we aim to get the greatest possible return for our
labor.
Organization of the Productive Factors. The three factors,
land, labor, and capital, must be brought together for purposes of
production. In the case of many farmers and small-scale manufac-
turers, all three are furnished by the same person, but under our
system of private property, a marked differentiation of ownership
takes place as industrial development becomes more complex.
In a large-scale establishment it is the exceptional case where the
majority of the laborers have any share in the ownership of the
capital, but generally the owners of the capital are also the owners
of the land. In American agriculture, ownership of the land and
the capital by the same person is also widespread, but in England
at the present time it is the rule that the landowner and farmer are
different persons. On the other hand, factories are frequently
built upon leased ground, and much land is farmed in America by
tenants who furnish their own capital. Separation in the owner-
ship of the productive factors and accurate accounting make neces-
sary a distinct valuation of the services of each one of the factors.
The Entrepreneur, or Undertaker. The one who manages a
business for himself was formerly called an undertaker, or ad-
venturer, but the first word has been appropriated by one small
class of business men, and the latter has acquired a new meaning,
carrying with it the implication of rashness and even dishonesty.
We have consequently been obliged to resort to the French language
PRODUCTION
127
for a word to designate the person who organizes and directs the
productive factors, and we call such a one an entrepreneur; but
recently the term " undertaker " has been more frequently em-
ployed with this broad general meaning.
The function of the entrepreneur has become such an important
one in modern society that it is often convenient to regard him
as a fourth factor in production, distinct from other classes of
laborers. He has been well called a captain of industry, for he
commands the industrial forces, and upon him more than any
one else rests the responsibility of success or failure. A business
which has achieved magnificent success often becomes bankrupt
when, owing to death or other causes, an unfortunate change in
the entrepreneur is made. The prosperity of an entire town has
sometimes been observed to depend upon half a dozen shrewd
captains of industry.
Division of Labor. A characteristic feature of the organiza-
tion of the factors is what is commonly called a division of labor,
but this term suggests a number of related ideas which must be
distinguished, (i) We may mention first a separation of occupa-
tions, each one being independent of the other, as is shown, for
example, in the splitting up of medical work into various special-
ties, and again, entirely new occupations are continually appearing.
(2) We also find production divided into stages, each one giving
rise to a commercial product, but not to a finished consumption
good. This becomes clear if we think of the history of almost any
article of daily use : the making of bread presupposes the flour and
wheat stages. (3) We have in the third place what is most com-
monly referred to by the term " division of labor," where the pro-
ductive process is divided into minute parts, and one part given
to each laborer. The organization of a cotton mill affords an
excellent illustration :
In cotton mills, as in all other textile mills, there are men of skill and ex-
perience who superintend or oversee the work in various buildings and in
the rooms and yards. These supervisory employees have assistants, and
the division of superintendence is carried down to the sections of rooms, so
that all sections have their supervisors, known variously as section bosses,
section hands, section girls, and third hands. The following list of occupa-
128 OUTLINES OF ECONOMICS
tions will indicate the extent to which division of labor is carried in this
industry: alley boys (or girls); bundle boys; filling and roving carriers;
belt makers, blacksmiths, carpenters, machinists, masons, painters, steam
fitters, and other mechanics, including sometimes electricians and battery-
men ; roll coverers ; helpers ; laborers (unskilled) ; bale openers ; picker
hands or cotton shakers; lap tenders; card brushers; first and second
breaker hands; finisher pickers; card boys; card hands; waste hands;
wastemen; card clothiers; card strippers; card grinders; combers; lap-
head hands; doublers; drawing -frame tenders ; rail way -head tenders; slub-
bers; speeders, fly-frame tenders; jack tenders; rovers; spinners; bobbin
boys; yarn pourers; piecer and doffer; back boy; band boys; doublers
and twisters ; winders ; yarn untanglers ; spool boys, white spoolers ; warp-
ers ; slasher tenders ; size makers ; reel hands ; dye-house hands (with further
subdivisions) ; beamers and splitters ; beam carriers ; warp drawers ; harness
menders; harness brushers; handers-in; twisters-in; loom fixer; pattern
makers; putters-up oi^amples; cloth weavers; weavers of designs; yarn
carriers ; smash piecers ; spare weavers ; inspectors ; trimmers. The finish-
ing of the cloth is a separate industry. 1
This form of the division of labor may also exist without the
use of complex machinery, as in the slaughtering and meat-
packing industry.
"It would be difficult to find another industry where division of labor has
been so ingeniously and microscopically worked out. The animal has been
surveyed and laid off like a map ; and the men have been classified in over
thirty specialties and twenty rates of pay from 16 cents to 50 cents an hour.
The 5o-cent man is restricted to using the knife on the most delicate parts of
the hide (floorman) or to using the ax in splitting the backbone (splitter) ;
and wherever a less skilled man can be slipped in at 18 cents, i8| cents, 20
cents, 21 cents, 22^ cents, 24 cents, 25 cents, and so on, a place is made for
him and an occupation mapped out. In working on the hide alone there are
nine positions at eight different rates of pay. A 2o-cent man pulls off the
tail, a 22^ cent man pounds off another part where the hide separates readily,
and the knife of the 4o-cent man cuts a different texture and has a different
"feel" from that of the 5o-cent man. Skill has become specialized to fit the
anatomy." *
Advantages of Division of Labor. The advantages of a divi-
sion of labor have been enumerated as follows: (i) A gain of time.
A change of operations costs time. Less time is also consumed in
1 From the Glossary of Occupations in the volume on Employees and Wages.
Twelfth Census, Special Reports, 1903.
2 Commons, Trade Unionism and Labor Problems , p. 224, in a chapter appear-
ing originally in the Quarterly Journal of Economics, Vol. XIX, p. i.
PRODUCTION
129
learning one's business, as the labor of each is more simple.
(2) Greater skill is acquired, because each person confines himself
to one operation. (3) Labor is used more advantageously.
Some parts of an industrial process can be performed by a weak
person, others require unusual physical strength; some require
extraordinary intelligence, some can be performed by a man of
very ordinary intellectual powers, and so on indefinitely. Each
one is so employed that his entire power is utilized, and work is
found for all, young and old, weak and strong, stupid and intel-
lectually gifted. (4) Inventions are more frequent, because the
industrial processes are so divided that it is easy to see just
where an improvement is possible. Besides this, when a per-
son is exclusively engaged in one simple operation, he often sees
how the appliances he uses could be improved. Workmen have
made many important inventions. (5) Capital is better utilized.
Each workman uses one set of tools, or one part of a set, and keeps
that employed all the time. When each workman does many
things, he has many tools, and some are always idle. (6) Finally,
where the division of labor results in the simplification of opera-
tions, it facilitates the substitution of machinery with mechanical
power in place of direct human labor. "It is the largeness of
markets, the increased demand for great numbers of things of
the same kind, and in some cases of things made with great accu-
racy, that leads to subdivision of labor; the chief effect of the im-
provement of machinery is to cheapen and make more accurate
the work which would anyhow have been subdivided." l
Effects upon the Worker. The effect of the introduction of
machinery upon wages will be discussed in a later chapter, but
here some attention should be given to the effect of division of
labor and machinery upon the life of the worker. It is frequently
said that when labor is rendered simple it loses both its attractive-
ness and its educational value. A man can like his work when
he manufactures a whole watch, bearing the impress of care and
skill, but who can like the mere routine of feeding material into
some machine ? A workingman becomes a mere cog in a great
mechanism, driven at a certain speed, day after day, with no
'Marshall, Principles of Economics, 4th ed., p. 334.
K
130 OUTLINES OF ECONOMICS
further interest in the result of his labor than that it is the source
of his daily wage. But much may be said on the other side. To a
large extent the heaviest labor is done with mechanical appliances,
and those movements which are very simple and regular are precisely
the ones which are likely to be taken over by machinery, leaving
to human beings the work which requires intelligence and skill.
"Looked at broadly, is the average work of a laborer in a machine industry
less dignified, less agreeable, less humanizing than it was before the industry
reached the machine stage ? From the nature of the question, it is danger-
ous to dogmatize, because neither the affirmative nor the negative is capable
of being demonstrated. The negative view seems to rest mainly upon the
assumption that it is more dignified to be occupied with a great many purely
mechanical operations than with a very few. The old-fashioned shoe-
maker, for example, was largely occupied with purely mechanical opera-
tions, most of them of a very elementary nature, such as a machine can do
quite as well as a man. Each of these operations required great concen-
tration of attention, leaving him very little opportunity for other forms of
mental activity. He was the slave of each particular task as truly as a
modern machine worker can be said to be the slave of his single task.
But the old-fashioned shoemaker had to turn from one kind of work to an-
other. This increased the difficulty, and, on the whole, required of him a
greater amount of concentration than is now required of the operator of a
machine. The latter, who has but one routine task to learn, learns it
easily, and can carry it out without very intense concentration of mind.
His mind, therefore, would seem to be freer than that of the old hand
worker, though there was more variety to the work of the latter. Whether
this greater variety is to his advantage or disadvantage would be difficult
to determine offhand. It looks as though the operator of a machine in a
shoe factory, being relieved of the necessity of acquiring several forms of
specialized manual dexterity, would be in a better position for free mental
activity than the old-fashioned shoemaker." l
It seems that those who declaim against factory life do not dis-
tinguish those things which are temporary and those things which
are inherent in the system. Long hours, insanitary conditions of
work, and frequent industrial accidents need not be inevitable ac-
companiments of the use of machinery. It is the efficiency of
machine methods that makes leisure possible for the workingmen,
and when they learn to use that leisure sanely, their condition will
*T. N. Carver, "Machinery and the Laborers," Quarterly Journal of Eco-
nomics, February, 1908, p. 230.
PRODUCTION I3I
be far in advance of what it could be under more primitive methods
of production.
The charge is also brought against machine production that it
is antagonistic to the development of art. Machine production
means uniform production. It is possible that a growth in the
desire for what is beautiful rather than cheap will limit the use of
machinery in some directions (e.g. we may insist upon more hand
work in the making of furniture), but an extensive use of machinery
will always be necessary as a servant of art, and that in two ways:
(i) for an appreciation of art there must be leisure, or at least
leisurely work, and without machine methods this is not possible
for the masses; (2) there is much work that is preliminary to the
work of the artist, and that can be done by machinery. Will a
building be less artistic because much of the heavy work of dress-
ing the stone is done by machinery?
Territorial Division of Labor. The concentration of a certain
industry in a particular region is often called the territorial division
of labor, or the localization of industry. Illustrations are seen in
the prominence of the boot and shoe industry in Massachusetts;
the collar and cuff manufacture in Troy, New York ; oyster can-
ning in Baltimore; the manufacture of gloves in Gloversville and
Johnstown, New York ; of coke in the Connellsville district,
Pennsylvania; of brass ware in Waterbury, Connecticut; of carpets
in Philadelphia; of jewelry in Providence, Rhode Island. Attleboro,
and North Attleboro; slaughtering and meat packing in Chicago;
the manufacture of plated and britannia ware in Meriden, Con-
necticut; and the manufacture of silk in Paterson, New Jersey.
The following causes of localization have been mentioned: (i) prox-
imity to raw material, (2) accessibility to markets, (3) presence of
water power, (4) favorable climate, (5) availability of labor,
(6) availability of capital, and (7) the momentum of an early start.
The explanation of how these causes have operated in particular
instances is left as an exercise for the student. 1
1 Consult Hall, "The Localization of Industry," Census Bulletin, No. 244 (also
found in Twelfth Census, Manufactures), and Ross, "The Localization of
Industry," Quarterly Journal of Economics, Vol. X, p. 247- Also the Federal
Census of Manufactures for 1905, Vol. I, Chap. XII.
132
OUTLINES OF ECONOMICS
Productive Organization of the American People. According
to the Census of 1900, nearly two fifths of the total population and
about one half of the population ten years of age and over are
engaged in gainful occupations. In the following table the extent
to which persons in each age group are gainfully employed is shown
for each sex :
TABLE I
NUMBER OF MALES AND OF FEMALES OF EACH SPECIFIED AGE ENGAGED
IN GAINFUL OCCUPATIONS COMPARED WITH THE TOTAL NUMBER OF
THE SAME SEX AND AGE :
AGE GROUPS
MALES 10 YEARS OF
AGE AND OVER.
PER CENT OF TOTAL
IN EACH GROUP
FEMALES 10 YEARS OF
AGE AND OVER.
PER CENT OF TOTAL
IN EACH GROUP
10 to 15 years
26 i
IO 2
1 6 to 20 years
768
12 1
21 to 24 years
m i
10 8
2C to id. vears . .
06 i
3S to 44. years . .
96 6
it 6
45 to 54 years
os e
14 7
? <j to 64 vears . .
no o
65 years and over.
68 4
Age unknown
TO 6
2A 2
Aggregate .. .
80 o
18 8
The fact that women at work in their own households are not
counted as gainful workers is apparent from this table. The
effect of school attendance is seen in earlier age groups. In the
column for the female workers the effect of marriage is seen in the
decline in the percentages after twenty years. Old age makes its
influence felt in both columns.
The following table shows the distribution of the gainful workers
among the five main classes of occupations. The most striking
facts are the decline in the relative importance of agricultural pur-
suits and the increase in the relative importance of trade and
transportation :
' Twelfth Census, Special Report on Occupations, 1904, p. cxviii.
PRODUCTION
TABLE II
DISTRIBUTION BY MAIN CLASSES OF PERSONS ENGAGED IN GAINFUL
OCCUPATIONS x
IQOO
1890
1880
Agricultural pursuits
If 7
Professional service
A. 1
A O
Domestic and personal service
IQ 2
18 t
IQ 6
Trade and transportation
16 4
IA 1
10 8
Manufacturing and mechanical pursuits. .
24.4
24.4
21.8
IOO.O
IOO.O
IOO.O
The broad territorial division of labor is seen when these per-
centages are given separately for groups of states :
TABLE III
PER CENT OF GAINFUL WORKERS IN EACH CLASS OF OCCUPATIONS BY
GROUPS OF STATES: 1900 2
AGRICULTURE
PROFESSIONAL
SERVICE
DOMESTIC AND
PERSONAL
TRADE AND
TRANSPOR-
TATION
FISHING
MINING AND
QUARRYING
MANUFACTURES
PROPER
North Atlantic
12. C
4.8
21.6
21.8
O.7
2.3
l6.7
South Atlantic
qo.8
3.0
20. o
IO.C
0.6
I.O
14.1
North Central .
?6.6
<r.O
18.4
17.4
O.I
1.7
20.8
South Central
67.4.
2.Q
1C. 2
Q.I
O.I
I.O
8.3
Western
27. -z
c.7
21.8
IQ.4
o.s
7.4
17.
In Table IV the various occupations differentiated in the Census
Report on Occupations have been classified somewhat in accord-
ance with their natural ranking, the amount of skill they require,
and the educational influence which they exercise over the people
who follow them. In each element of the population the females
1 Twelfth Census Special Report on Occupations, 1004, p. btxxvi.
* Special Report on Occupations, 1904, pp. xciv and cii.
J 34
OUTLINES OF ECONOMICS
are found to a larger extent than the males in the lower grades of
skill. For both male and female negroes, the percentage of those
engaged in unskilled labor is very large. For the other elements
of the population there is an upward trend out of this lowest
grade.
TABLE IV
PERCENTAGE OF NATIVE AND FOREIGN BORN ELEMENTS AND NEGROES
ENGAGED IN THE SPECIAL GROUPS OF OCCUPATIONS CLASSIFIED BY
SEX : 1880, 1890, AND 1900
NATIVITY AND SEX
YEAE
PROPRIETARY
PROFESSIONAL
CLERICAL
SKILLED
LABOR
FACTORY
LABOR
UNSKILLED
LABOR
Native Born
Males
1880
3C QI
7.12
d.2Q
ii. si;
<;.8*
-to.-io
Native Born
Females
1890
1900
1880
35-82
3 I '4I
-1.28
3-74
3-9 6
7-<;4
6-75
9.00
1.61
J 4-59
15.20
1.62
6.26
6-43
20.65
32.84
34-oo
66.30
Foreign Born
Males
1890
1900
1880
7.72
8.67
27.81
9-32
12.50
2.O2
5-36
12.50
2.78
2.IO
2.8 3
I7-S8
23.40
29.00
I3-25
52.10
34-5
36.56
Foreign Born
Females
1890
1900
1880
24.77
23-3 6
4.l6
2-15
2-45
2.t;6
4.18
5-"
.82
19.98
19-45
1.58
12.78
14.19
^o. 37
36.14
35-44
60. ?2
Negroes
Male
1890
1900
1890
7.08
7-95
26.65
2.52
2.94
i. 20
2-39
4.70
.3Q
1.82
I. 7 I
6. 07
27.46
30.18
2. -27
58.37
52.52
62.72
Negroes
Female
1900
1890
25.98
C.4.C
'*5
,QO
.46
.08
5-5 1
3-92
2.QI
62.98
OO.o6
1900
6.07
1.19
.12
.04
2.86
89-72
Prepared by Mr. H. J. Dahl, of the University of Wisconsin, from the Reports of the
Twelfth Census, and from Mr. W. C. Hunt's monograph, entitled. Workers al Gainful Occu-
pations, published in the Bulletin of the Department of Labor, No. n, July, 1897.
PRODUCTION
QUESTIONS
J 35
1. Is the employee in a planing mill in a worse position than the old-time
carpenter who has to do his planing by hand ?
2. Is an insurance agent a producer of wealth?
3. What would happen if there should be too much saving?
4. When you spend money, do you ordinarily think of how hard you had
to work to get it?
5. Why is Massachusetts the center of the boot and shoe industry ?
REFERENCES
CARVER, T. N. The Distribution of Wealth, Chap. II.
FISHER, IRVING. The Nature of Capital and Income, Chaps. V and VI.
HOBSON, J. A. The Social Problem, Book II, Chap. II.
MARSHALL, ALFRED. Principles of Economics, Book IV.
VEBLEX, T. B. The Theory of Business Enterprise, Chaps. II and IIL
Valuable collateral reading will be found in recent bulletins of the
Census Bureau describing specific branches of production.
CHAPTER X
BUSINESS ORGANIZATION
THE dominance of " business" in our present social economy is
so familiar and commonplace a thing that we are apt to forget its
real significance. But it indicates, as nothing else does, the
cleavage that exists in modern times between money making and
the other things of life between exchange economy and domes-
tic economy. Commerce and manufactures have each in turn
been brought under the dominion of business enterprise; busi-
ness methods and motives are also of the first importance in
agriculture, although in this last field production for domestic
use still continues and promises to continue hand in hand with
production for the market.
"Business" means profit seeking. It does not cover so broad
a field as does "production," nor is it quite the same thing as
"production for the market." Business is acquisitive rather
than productive, and while acquisition usually implies produc-
tion, this is not invariably the case. The economic world, in its
business aspect, is a world of buying and selling rather than of
making and using things; it is a.world in which prices, expenses,
debts and credits, and contractual relations are the dominating
things rather than the technical processes of production or the
ultimate costs of production as measured in human effort and
sacrifice.
The Nature of Business Units. Under competitive conditions
profit seeking involves risk taking. The business world is made
up of profit-seeking, risk-taking units, entrepreneurial units.
We are apt to think of business units as concrete things, com-
posed of individual men or groups of men. In an ultimate
sense this is true, but for present purposes we may more profit-
136
BUSINESS ORGANIZATION
137
ably view business units as abstract things, the centers or
foci of the contractual and other legal relations that bind the
business world together. These relations are recorded and stated
more or less fully in the accounts of each business unit; ulti-
mately, however, they are matters of legal fact, and, as we shall
see, the legal aspect and the accounting aspect of these relations
are not always identical.
Without entering into either the general theory or the details
of accounting, we may note that the simplest general way in
which a business unit can be described by its accounts is by
means of the income statement, which is a simple record of money
receipts and money expenditures during a given period, such as
a month or a year. Of more significance, however, in the present
connection, is the balance sheet, which is the statement of the
assets or resources and the liabilities or obligations of the busi-
ness unit as they exist at a particular time. The income state-
ment is a historical record, the balance sheet a photographic
snap-shot. 1 The following is a simplified form of balance sheet
for a small manufacturing establishment :
ASSETS
Land and buildings $190,000
Machinery and fixtures. . . 50,000
Raw materials, goods in
process, and finished
goods on hand 60,000
Accounts receivable 8,000
Cash on hand and in banks 7,000
Total assets $315,000
LIABILITIES
Original capital invested. $200,000
Income reinvested 60,000
Accounts payable 30,000
Profits 25,000
Total liabilities $315,000
The itemized assets explain themselves, but the meaning of
the various liabilities may not be so clear. In this statement all
the items of the liabilities except "accounts payable" refer to the
liabilities of the business unit, as an abstract entity, to the owner
1 The profit-and-loss statement is another important exhibit. It differs from
the income statement in that it is a showing of the amount of sales in a given period
compared with the expense of producing the particular things sold. Accurate
profit-and-loss statements represent the highest achievements of modern account-
ing and cost-keeping methods.
138 OUTLINES OF ECONOMICS
or owners of the business, the amount which would be left if
the business were sold as a whole at a price just equal to the
total imputed value of the assets minus the actual outstanding
obligations (the accounts payable). 1 It will be noted that the
item called "profits" is the variable by which the account is
balanced. On such a showing as this the owners might decide
to take $5000 out of the business as dividends, or personal profits,
as the case may be. This would reduce the "cash " to $2000 and
correspondingly reduce profits. They may decide, also, per-
manently to retain $10,000 of their earnings in the business.
"Profits" would then be reduced to $10,000, and the "income
reinvested" or "surplus," as it is often called, would be increased
to $70,000. In practice "surplus" and "profits" often constitute
only one item in the accounts. In the case of corporations the
"original investment" item is called "capital" and represents
the par value of the corporation's securities, whether the full
amount has been actually paid in or not. Surplus profits in such
cases can be easily converted into "capital" by means of "stock
dividends."
In the legal aspect, however, the business does not always
appear to have so distinct a unity of its own. This varies with
the form of business organization, of which there are three im-
portant types: the individual entrepreneur, the partnership, and
the corporation.
The Individual Entrepreneur. Any individual may set him-
self up as a business man, an entrepreneur, without any legal
formality except the payment of the license fee which most states
impose on some kinds of business undertakings, such as liquor
dealing, and which some states, especially in the South, impose
upon many kinds of undertakings. The individual entrepreneur
still dominates the field in agriculture, small retail trade, and in
local "shop industries."
In the legal aspect the obligations of a business conducted by
1 The form of balance sheet given in the text is in reality a simple adaptation
of the kind of balance sheet used in the published statements of corporation
accounting. But if the individual proprietor of a small business keeps an accurate
ledger account with himself, the result is the same so far as the independence of
the business as an accounting unit is concerned.
BUSINESS ORGANIZATION 139
an individual entrepreneur are the personal obligations of the
entrepreneur. All of his possessions of whatever kind * are
jeopardized by his business risks. If the entrepreneur conducts
two distinct business undertakings, the assets of one may be
seized, if necessary, to secure the liabilities of the other. The
personal liability of the individual entrepreneur is accordingly
said to be unlimited. The usefulness of this kind of business
organization is limited, obviously, to small undertakings, where
the capital and credit of the individual business man are adequate.
Partnerships. A "firm" or partnership represents a joint
undertaking by individual entrepreneurs. Partnerships are most
common in mercantile undertakings of moderate size, in small
manufacturing establishments, and in the professions. This join-
ing of interests makes larger undertakings possible, but relatively
increases the personal liability of the individual members of the
firm. For each member is personally liable for all of the obliga-
tions contracted by the firm, as well as those contracted in the
ordinary course of business by any other one member of the
firm. 2 The partners may have a contract binding among them-
selves as to their respective contributions (of money or time),
shares in profits, and liabilities. But a member released from
personal liability by an agreement of this kind is still liable for
all obligations incurred by the firm. The agreement only gives
a basis for instituting legal proceedings to recover the amount of
his personal losses from the other members of the firm.
Aside from (i) the excessive personal liability involved, the
partnership is open to objection from the business man's point
1 The "exemption laws" of some states constitute an exception which does
not affect the principle involved.
2 This refers to the status of the ordinary partnership under common law.
The statutes of some states provide for a special form of limited partnership, in
which one or more of the partners are special partners, who are not personally
liable, save for their investment in the business, and who are allowed to take no
active part in the management of the business. In a few states there is a special
form called a limited partnership association, in which the liability of all the
partners is limited. These are practically joint-stock companies with non-
transferable shares. The partnership in commcndam, which still exists in Louisi-
ana as a heritage of the civil law, is essentially like the statutory limited partnerships
of other states.
140 OUTLINES OF ECONOMICS
of view, because : (2) It is impossible for a partner to retire from
a firm without dissolving the partnership and, possibly, break-
ing up the business. The death or insolvency of any partner has
the same effect. (3) A new member cannot enter the firm nor
can a member transfer his interests to another person without
the consent of all the members of a firm, requirements which
naturally follow from the nature of a partnership. (4) The
partnership form of organization is not adapted to undertakings
requiring large investments of capital and hence requiring the
cooperation of a large number of persons. What advantages the
partnership has come from the ease with which it can be organ-
ized and dissolved, and from its elasticity, that is, the ease
with which the contractual relations among the partners, bind-
ing as among themselves, can be altered to suit any contingencies
that may arise.
The Corporation. The federal census of 1905 showed that
although less than one fourth of the manufacturing undertakings
included in that enumeration were organized as corporations,
yet these produced nearly three fourths of the total manufactur-
ing product (measured in money value). Most banks and insur-
ance companies are corporations, while in the field of railway
transportation corporations are in almost exclusive control. Ac-
count should also be taken of the large and growing number of
mercantile undertakings organized as corporations.
In the case of the corporation the legal view and the account-
ing view of the business unit are practically identical. While
the ordinary partnership is in law simply a group of individual
entrepreneurs, the corporation is regarded, for some purposes, as
a "person." To the incorporated business unit, an abstract
thing, as we have seen, the law imputes some of the attributes
of personality, and of a personality distinct from that of the
individual men who are the stockholders of the corporation. 1
Municipalities, universities, monasteries, guilds, etc., were commonly
incorporated by royal charter long before business corporations of the
"Several states authorize the organization of "joint-stock companies" which
are like corporations in all essential particulars, and are sometimes called "quasi-
corporations." In theory they are incorporated partnerships with transferable
shares and (usually) with limited liability.
BUSINESS ORGANIZATION 141
modern kind arose, for this did not occur until the rise of "capitalism"
in the seventeenth century. The great trading and colonizing companies,
such as the British East India Company, the Virginia Company, the Guinea
Company, etc., were the prototypes of the modern business corporation.
In.connection with these trading companies the joint-stock principle, which
had already been used in a few isolated instances of banking, was developed.
This was the practice of issuing certificates to those who made contributions
to the "joint stock" (or capital) of a company, which entitled the holder
to a proportionate share in the profits accruing to the joint stock. The
modern business corporation, like these early trading companies, is based
essentially on the combination of the joint-stock principle with the legal
recognition of the business unit as a distinct entity.
At the beginning of the nineteenth century what few corporations there
were in America were, for the most part, banks, insurance companies, or
canal and turnpike companies. The introduction of railways in the third
decade of the century greatly stimulated the organization of corporations,
because these new undertakings required larger investments of capital than
could be furnished by any individual or firm. State enterprise, it is true,
promised at one time to be an important factor in canal and railway building,
but such state undertakings were usually planned with the purpose of de-
veloping natural resources, attracting immigration, and building up the
.trade of particular districts and particular cities rather than of getting money
profits. Most of these state undertakings had succumbed by 1840, so that
the field was left open for business enterprise. In the general expansion and
reorganization of business that followed the Civil War the corporation form
of organization began to be more generally used for all kinds of business
undertakings. The growing importance of corporations in business life is
partly an effect and partly a cause of the growing size of the business unit.
The Corporation Charter. The corporation is a creature of
the state, its right to exist being dependent on a charter or on
articles of incorporation, granted or approved by the state. In-
corporation formerly necessitated a special act of the legislature
in each case. This gave opportunity for favoritism and monop-
oly and subjected corporations of all kinds to hostility and
suspicion. Most corporations are now organized under general
laws, whereby any group of men can secure a corporation charter
by complying with certain prescribed conditions. In fact, all
but six states now have constitutional provisions against the
granting of charters to business corporations by special act.
It was formerly a common practice to grant corporation char-
ters in perpetuity, but the decision of Chief Justice Marshall in
142 OUTLINES OF ECONOMICS
the Dartmouth College case, whereby the corporation charter
was declared to constitute a binding contract between the state
and the corporation, which could not be altered or amended by
the state except with the consent of the corporation, has led to
the general practice of limiting the life of corporations to terms
of from twenty to one hundred years, fifty years being a common
period. The corporation may, of course, secure a new charter
at the expiration of the old, but the limited term gives the state
the opportunity to change the requirements of the charter from
time to time, or to refuse reincorporation altogether, as may seem
most desirable. Most states, moreover, now specifically reserve
the right to alter or amend the corporation charter at pleasure.
Corporation charters, or articles of incorporation, usually con-
tain details relating to such matters as the purpose or purposes
for which the corporation is formed, its principal place of busi-
ness, the number of its directors, and the amount of its capitali-
zation.
Lack of Uniformity in State Laws. Many difficulties in the
public control of corporations have arisen from the fact that
while charters are granted by individual states, the activities of
many business corporations extend over the boundaries of many
states. Moreover, some states are much more lenient than
others in such matters as the control of capitalization, require-
ments as to publicity, limitations on the scope of activity of a
single corporation, taxes and fees, etc. New Jersey has become
known as the "home of corporations" despite the fact that some
states have even more lenient laws than New Jersey. New Jersey
has been favored, however, on account of the proximity of New
York City, the real home of most of the greater corporate in-
terests of the country, as well as on account of its early start
and the adaptability of its laws to the most modern type of cor-
poration, the holding company. (See p. 150.)
Other states, with stricter laws, could not prevent corporations
organized under lax laws from doing business within their terri-
tory so far as that business is interstate. So far, however, as a
corporation organized under the laws of one state carries on any
part of its business wholly within the borders of another state,
BUSINESS ORGANIZATION 143
the latter state has the right of refusing to recognize it as a cor-
poration; that is, the right to treat it as a mere partnership. In
practice, however, one state freely recognizes the corporations of
another state under the rule of "interstate comity." In fact,
many corporations transact all their business outside the borders
of the state which chartered them. The real standards, therefore,
are the laxest standards, not the highest. More use on the part
of American states of the power of exacting certain standards
from "foreign corporations," as they are called, is much to be
desired.
Corporation Capital and Securities. In a strictly legal sense
the capitalization of a corporation is the amount of its authorized
capital stock. This capitalization represents, in theory, the
amount of money actually invested in the business by the original
stockholders. As a matter of fact, the full amount of the au-
thorized capital is rarely paid in at the organization of a new cor-
poration. The capitalization is apt to be, in practice, a purely
arbitrary thing, a nominal money sum divided into units or
shares, the relative holdings of different individuals being meas-
ured by the number of shares they own.
Corporation stock is divided into two general classes, pre-
ferred stock and common slock, although many corporations issue
only the latter. Preferred stock represents a prior claim on the
earnings of the corporation. A corporation which has "6 per
cent preferred stock" outstanding can pay no dividends to its
common stockholders until it has paid 6 per cent dividends on
its preferred stock. Preferred stock may be cumulative (in which
the prior claims to dividends accumulate from year to year, if
unpaid) or non-cumulative. It may or may not have any claim
on any part of the surplus profits remaining after a certain rate
of dividend has been paid on the common stock. There may be
several different grades of preferred stock, first preferred,
second preferred, etc.
In the popular use of the word the capitalization of a corpora-
tion includes also its funded debt. The funded debt is represented
by bonds, which are interest-bearing promises to pay certain sums
of money at definite times in the future. There are many differ-
144 OUTLINES OF ECONOMICS
ent kinds of bonds, but three principal classes are: (i) mortgage
bonds, (2) collateral trust bonds, (3) income and debenture
bonds. The first class is based on a mortgage of all or of a specific
part of the property of a corporation. Collateral trust bonds are
secured by the pledge of securities issued by other corporations,
but owned by the corporation issuing the bonds. They have
been much used in financing railway consolidations. Income
and debenture bonds are usually secured only by the earning
capacity of the business. Industrial corporations make less use
of bonds than do railways, and confine themselves usually to the
mortgage bond type, of which, however, there are many sub-
ordinate varieties. In the case of many corporations the mort-
gage security behind an issue of bonds is in itself not of great
importance, for the property mortgaged is apt to be worthless
except as an integral part of a unified business establishment.
The mere power of foreclosure, however, gives mortgage bond-
holders a position of strength in the reorganization of insolvent
corporations.
Bonds are sometimes said to represent "creditor interests,"
and stock "entrepreneur interests." This statement is sugges-
tive and is fairly accurate. In fact, however, stock and bonds
are simply different kinds of equities in a business, conveying
the right to receive income, to share in the distribution of the
assets in case of insolvency, and to have a voice in the manage-
ment. Stockholders alone participate in the management of the
corporation, although bondholders are often able to dictate
policies when the affairs of a corporation are in a precarious con-
dition. Bonds differ from stock in being terminable at a definite
period of time in the future. In practice, however, the bonds of
great corporations are usually replaced by new issues as rapidly
as they mature.
Overcapitalization. Much has been said about the over-
capitalization of corporations, "stock-watering," as it is called.
Only a few states require that all the nominal capitalization
should represent capital actually invested. In most states, more-
over, it is not difficult for a corporation to increase its capitali-
zation from time to time in order to secure funds from the sale
BUSINESS ORGANIZATION
'45
of securities, or (in the case of stock-dividends) in order to afford
a basis for the distribution of surplus profits without employing
an excessively high interest rate. It is this last cause of in-
creased capitalization that is of special importance in this con-
nection.
On the one hand it is urged that capitalization is a nominal
thing, that it is immaterial whether a corporation pays 12 per
cent dividends on $1,000,000 of capital stock or 6 per cent
dividends on $2,000,000 of capital stock. On the other hand it
is said that capitalization should not be a merely nominal thing,
but that it should represent the actual amount of the investment;
that, without regard to the amount of capitalization, regularly
recurring dividends of 12 per cent suggest excessive profits in a
way that 6 per cent dividends do not.
The argument in favor of a closer correspondence between
capitalization and real investment is especially strong in the
case of railways and other transportation corporations with
quasi-public functions, municipal public service corporations,
and corporations enjoying natural monopolies of all kinds. For
there is a growing feeling that such corporations are in a peculiar
sense social trustees, to whom have been committed certain
public economic functions that might very properly be per-
formed by the state, if that course were deemed the more advan-
tageous. That such corporations should be restricted to the
payment of a reasonable dividend on reasonable capitalization
would seem to be a proposition that is scarcely open to question. 1
Yet excessive profits are what make excessive dividends possible,
and whether profits are excessive or not can be determined in
most cases without reference to capitalization by the compulsory
use of adequate accounting methods.
Overcapitalization should be looked at also from the point of
view of the investor, a point of view too often overlooked.
When overcapitalization is permitted, it is frequently extremely
difficult and often, indeed, impossible for the ordinary investor
to know precisely what he is buying when he purchases a share
1 It is better to curtail excessive profits by public control of rates, prices, and
services than by arbitrarily limiting the dividend rate.
L
146 OUTLINES OF ECONOMICS
of stock of an overcapitalized company. It helps to approxi-
mate equality of opportunity for all when there is an exact cor-
respondence between investment and capitalization. If a person
buys a share of national bank stock at $4000, he at once knows
that the original investment was $100. The apparently high
price immediately challenges attention, and the investor is led to
look into the grounds of the high price. There are cases in which
such a price would prove a remunerative investment, but it is
well to warn the investing public by prohibition of overcapitali-
zation. It has been strongly urged, and with some ground, that
it is in every way highly desirable that the corporate property of
the country should be more widely distributed ; and to promote
this end, every measure which gives the average man a "square
deal" in investments must be strongly favored.
While overcapitalization has thus many undesirable features,
it has nevertheless sometimes been unduly emphasized in discus-
sions of corporation reform, to the neglect of other and more
important points.
In this connection we should note the difference between the
"capitalization" and the "capital" of a corporation. The busi-
ness world uses the term "capital" in two ways: it speaks of the
total permanent investments, the amount of money "tied up,"
in a business as its capital, and it also speaks of the total sell-
ing value of the business as a whole as its capital. This last may
depend in part on such intangible things as monopoly power or
good will. It is measured by the "capitalized" earning capacity
of the business, or, approximately, by the market value of the
corporation's securities, as distinct from the par values which
measure the nominal capitalization of the corporation.
Form of Capitalization. A significant feature of recent de-
velopment in corporation finance is the multiplicity of types of
corporate securities. It is no uncommon thing, for example, for
the equities in a railway corporation (in addition to the floating
debt, or accounts payable) to be divided among a dozen or twenty
varieties of bonds and two or three varieties of stock. This
multiplicity of securities is of advantage to the corporation in
that it enables it to offer to investors and speculators a carefully
BUSINESS ORGANIZATION 147
graded assortment of risks, a fact which makes the total sell-
ing value of a corporation's securities greater than it would other-
wise be. This complex kind of capitalization has, however, some
undesirable features. If the owners of a particular security,
the common stockholders, perhaps, control the corporation,
they may desire to increase the value of their securities for specu-
lative purposes by the payment of unearned dividends, very
properly a criminal proceeding according to the laws of some states
a proceeding which would be opposed to the interests of the hold-
ers of all the other securities of the corporation. Moreover, in
cases of insolvency and reorganization, it is a difficult matter to
untangle and to adjust equitably the rights of the holders of the
different kinds of securities.
In times of prosperity corporations often pay for extensions of
their plants from the proceeds of bond sales, because it is esti-
mated that the earning power of such extensions will more than
suffice to pay the interest on the bonds and will afford a hand-
some surplus for the stockholders. Corporations thus accumu-
late in prosperous times an unwieldy load of fixed charges in the
form of interest on bonds, a fact which is apt to be a source
of difficulty in less prosperous years. In periods of financial
stringency these fixed charges are a common cause of insolvency,
receiverships, and consequent reorganizations, from which the
bondholders are apt to emerge as stockholders, and in which
the stockholders are apt to lose their holdings. The legal restric-
tion of the securities issued by any one corporation to one kind
of stock and three or four varieties of bonds is both feasible and
desirable. Nor should the bonded debt be allowed to greatly
exceed the amount of the paid-up capital stock.
Corporation Management. The management of business cor-
porations is, as a rule, in the hands of boards of directors, elected
by the stockholders from among their own number. The details
of management are in the hands of officers, chosen usually by the
directors. In principle this system achieves something like repre-
sentative government of the affairs of the corporation. In prac-
tice, in the larger corporations, some of the directors are apt to
be "dummy directors," usually employees of the corporation,
148 OUTLINES OF ECONOMICS
made directors in order to complete the number prescribed in
the charter, or are the representatives of great financial in-
terests, and often of competing interests. Directors of this latter
sort are not primarily concerned with the management of a cor-
poration in the interests of its stockholders and bondholders.
They are directors for the purpose of guarding special interests,
and in many cases for the purpose of preventing "competition"
from becoming anything more active than an armed peace.
In many cases the real direction of a corporation's policies is
in the hands of an "executive committee " or "finance committee "
of three or five directors representing the person or persons in
actual control of the corporation.
Advantages of the Corporation as a Form of Business Organ-
ization. From the point of view of the business man the cor-
poration presents decided advantages over the partnership for
all undertakings of considerable size. Some of its points of
superiority are: (i) Stockholders usually have no personal lia-
bility for the corporation's obligations except so far as the full
par value of their stockholdings has not been paid up. 1 (2) The
relative permanence and stability of the corporation are of decided
advantage, especially in undertakings requiring large invest-
ments of capital in relatively fixed and permanent forms. (3) The
concentration of executive power in the hands of directors and
officers leads to efficiency in management. (4) The transfer-
ability of corporation securities makes it possible for stockholders
to enter or leave the undertaking at pleasure. (5) The division
of the securities into small units and into different grades and
classes affords opportunities to all kinds of investors, the small
and the large, the conservative and the venturesome. (6) All of
the advantages named make it easier for the corporation to
attract and to use efficiently large amounts of capital, furnished
by many different investors.
Social Aspects of the Growth of Corporations. That corpora-
tions do possess desirable features, from the point of view of
1 Exception should be made of banking and insurance corporations, in the case
of which "double liability" on the part of the stockholders is common. A few
states impose some measure of personal liability upon the stockholders of all
corporations organized under their laws.
BUSINESS ORGANIZATION
149
business interests, is a fact clearly evidenced by the unprecedented
growth of this form of business organization. In the main, effi-
ciency for business purposes, for money making, means efficiency
from the social point of view, productive efficiency, also. But,
nevertheless, the two viewpoints are not identical, and what is
desirable from one point of view is not always desirable from
the other point of view.
The gap between money making and service to society (never
quite identical things) is distinctly widened when those in control
of a corporation's policies subordinate the profits to be obtained
by the sale of its products to the profits to be obtained by specu-
lation in its securities. Many of our greatest corporations are
directed by men to whom fluctuations in capital values (as repre-
sented in the prices of securities) are a much more important
source of personal income than are the net earnings of such
corporations. The payment^ of unearned dividends, the non-
payment of earned dividends, the direction of a corporation's
policy for the benefit of the holders of one kind of security among
the different ones issued by the corporation, the effecting of cor-
porate combinations and reorganizations that will affect the stock
exchange rather than the produce market, these are some of
the more obvious results of the unfortunate relation between
corporation management and speculation in corporation securi-
ties.
It should also be noted in this connection that the growth of
corporations is bringing with it a subtle but very significant
change in the nature of the institution of private property. So
far as a large and increasing proportion of productive wealth is
concerned, we are losing that direct relation of ownership be-
tween men and goods which Arthur Young had in mind when he
said, "The magic of property turns sand into gold." We often
have, instead, several layers of corporation securities interposed
between the ultimate owners and the ultimate objects of owner-
ship. The effect of this will undoubtedly be to bring about the
more thorough domination of business principles in the business
world. Sentiment, the honored traditions of long-established
firms, the "pride of ownership," the joy of workmanship (which
150 OUTLINES OF ECONOMICS
may be felt by the employer who turns out a good product, as
well as by the workman) are bound to yield yet more completely
to the sway of the cold logic of corporation accounts and stock-
market quotations. The adequacy of purely business principles
as the foundation of our economic life will be tested more thoroughly
under the corporation form of organization than ever before.
Trusts. A distinctive feature of the economic development
of the past thirty years has been the combination of individual
corporations into larger concerns, or trusts. The "trust," in the
technical sense, involved either giving a board of trustees the
absolute control of the actual properties of the different con-
cerns in the combination, or what amounted to the same thing,
assigning the stock of each corporation, with its voting power,
to them in exchange for "trust certificates," on which dividends
were paid. The Standard Oil Trust of 1882 was the first com-
bination of this kind, but it was speedily followed by several
others. In 1890, in a case brought by the state of New York
against the sugar trust, the trust agreement was held to be illegal
under common law. Corporate combinations were not destroyed
by this decision. They changed, however, to a more definitely
coherent form, that in which a single great corporation domi-
nates the consolidation.
In most cases, this corporation, which is usually organized
for the purpose, does not own the actual plants of the various
concerns in the combination, but simply owns all or a majority of
the stock of each. It is accordingly called a " holding company."
The holding company exchanges its own securities for the securi-
ties of constituent companies, or, when necessary, it buys the
securities of the constituent companies with funds secured from
the sale of its own securities, sometimes by the sale of bonds
secured by the pledge of the securities of constituent companies
as collateral. Not only in industrial consolidations, 1 but also in
railway and electric railroad mergers has the holding company
device become important.
1 A very complete list of "trusts," prepared by Mr. Byron W. Holt for the
World Alumnae (1908), contains the names of about 250 industrial combinations,
most of which are holding companies.
BUSINESS ORGANIZATION 15!
From the point of view of business organization the holding
company is simply an extension of the principle of the corpora-
tion. The holding company needs for purposes of control only
a majority interest in the stocks of its subsidiary corporations.
Various holding companies may in turn be combined by means
of one larger holding company, and the process may, and
does, go even further. An individual capitalist may, by an
investment of $1,000,000, for example, control a holding company
with a stock issue of $2,000,000, which in turn may control cor-
porations with $4,000,000 of stock outstanding, 1 and some of
these last may in their turn be holding companies. The result
is a tremendous concentration of industrial and financial power,
with the minimum of liability. The uncontrolled use of the
holding company device leads to neglect of the interests of the
minority stockholders in the various corporations concerned; to
difficulty in fixing the legal responsibility for corporate mis-
deeds; to an undesirable complexity in the economic and legal
relations of the holders of securities in the different corporations,
and to the subordination of industrial to speculative ends.
The "trust problem," however, has attracted more attention
as a problem of monopoly than as a problem of business organi-
zation. The problem of monopoly will be considered in another
chapter. Here it is sufficient to note that combination and
monopoly are not identical things, that we may have either one
without the other. It is true, however, that the movement toward
combination originated as one manifestation of the efforts of men
engaged in competitive undertakings to escape from the restraints
imposed upon them by the fact of competition. Price agreements,
selling bureaus, division of territory, limitation of output, pool-
ing, etc., are other forms of the same general effort.
The specific motives usually mentioned as the most important
causes of corporate combinations are (i) the greater economy of
the large-scale business; (2) the elimination of purely competi-
tive expenses (some kinds of advertising, for example) ; (3) the
1 It is assumed, for convenience, that the stock in each case is worth par and
that the ownership of half of it will give substantial control. In the case of in-
dustrial combinations ownership of all the stock of the subsidiary companies by
the holding company is not uncommon.
152 OUTLINES OF ECONOMICS
power to limit output and control price. The first of these fac-
tors suggests the difficult question of the most profitable size of
the business unit. Without discussing this point in detail in this
connection we may note that the significant thing is the most
economical size of the industrial plant rather than of the busi-
ness unit itself. Some of our present-day business units are so
large that they operate a number of duplicate plants. To that
extent, at least, they are larger than is necessary to secure maxi-
mum technical efficiency. Whether competitive expenses and
competitive prices are eliminated by combination depends on
whether the combination has any real basis of monopoly power
over and above the mere fact of combination, which, taken alone,
can give at most only a temporary monopoly.
It is plain, however, that if any or all of these three classes of
advantages do exist in the case of a particular combination, the
earning power of the combination will be greater than the total
earning power of the separate concerns before consolidation,
a difference which will be reflected in the value of the securities
of the holding company. It is this increment in capital value,
due to the real or expected advantages of consolidation, that has
been the chief cause of such combinations. The organization of
trusts has in many cases been effected by professional "pro-
moters," whose connection with an undertaking does not con-
tinue any longer than is necessary in order to secure the profits
of consolidation. A few great trusts like those which dominate
in the oil, sugar, steel, and tobacco industries have been con-
spicuously successful in a business way. Many others were
"made to sell "; that is, were organized only in order that profits
might be gained through the sale of their securities, and have
been weighted down by a capitalization not justified by their
actual earning capacity. Some of these have already been re-
organized, with diminished capitalization; others, possibly, only
await the test of a prolonged period of financial depression.
Anti-trust Laws. Most states have statutes and some have
constitutional provisions against "combinations in restraint of
trade." These are aimed primarily against the large corpora-
tions of the kind described, although if strictly construed they
BUSINESS ORGANIZATION
'53
also make illegal the whole mass of price agreements and trade
restrictions, general and local, which are a much more common
and characteristic feature of modern business than is generally
supposed. Anti-trust statutes have accomplished but little, be-
cause they have been aimed at forms rather than at facts, at
symptoms rather than at fundamental causes. If there is mo-
nopoly, with resulting high and discriminatory prices, the social
action needed is the rooting out of the fundamental cause of
monopoly, or, in some cases, a frank recognition of the fact of
monopoly, coupled with the proper public regulation of prices
and services. If evils appear in the undue concentration of
financial power, and in the dominance of speculative motives in
business management, the social action needed is more stringent
control of the methods, purposes, and conditions of corporation
organization and corporation management. The corporation
problem and the monopoly problem are distinct things. The
"trust problem" may mean either one thing or the other.
The Sherman anti-trust act of 1890 is a federal law, making
"combinations in restraint of trade" criminal, so far as the
field of interstate commerce is concerned. It has the defects of
the similar enactments of the individual states. It has been
used to some extent by the government as a means of breaking
up railway combinations, but the results of this application of
the Sherman act have been generally considered to be unfortunate.
Publicity. There is a general agreement among students of
corporation problems that greater publicity as to the details of
corporate management is much to be desired, both as an end
in itself, and as constituting a basis for the intelligent control
of corporations. We may distinguish four kinds of publicity:
(i) opening of accounts and records to the inspection of stock-
holders; (2) opening of accounts and records to the proper admin-
istrative officials of the state or federal governments; (3) periodi-
cal financial statements to stockholders; (4) periodical financial
statements to proper administrative officials.
Of these different kinds of publicity the second, third, and
fourth are unquestionably desirable. The publicity of railway
accounts and the development of uniform railroad accounting
154 OUTLINES OF ECONOMICS
under the interstate commerce law has been of great benefit to
the public, to investors, and to the railways themselves. In re-
spect to the first kind of publicity mentioned, it can hardly be
thought right that every small stockholder should have an un-
limited right of access to a corporation's books, especially in
competitive undertakings.
Federal Control of Corporations. It has been suggested by
many writers that the unfortunate effects of the lack of uniform
state requirements as to publicity, capitalization, purposes of
corporation organization, etc., could be remedied to some extent
by federal action. Canal, railway, and bridge companies have
in the past been chartered by the federal government, just as
national banks are now. It would be legally possible and eco-
nomically advisable to require at least a federal license from all
corporations engaging in interstate commerce. Moderate and just
requirements as to publicity, and possibly as to capitalization
and other things, might very well be imposed as the price of a
federal license. Aside from the present lack of uniformity in
state laws, the mere size of modern business corporations and the
extent of their operations make it difficult for any individual
state or states to control them efficiently.
QUESTIONS AND EXERCISES
1. What are the terms under which corporations are chartered in your
own state? What "anti -trust" laws are in force there?
2. Explain the various items in the published balance sheet of some in-
dustrial corporation.
3. What limitations should be attached to the statement that "a corpora-
tion is a fictitious person."
4. Does the word "capital" mean the same thing in accounting and in
economics ?
5. Report on the history of one of the following: United States Steel
Corporation; American Sugar Refining Company; American Tobacco
Company; International Harvester Company.
BUSINESS ORGANIZATION
REFERENCES
155
BENTLEY, H. C. Corporate Finance and Accounting.
Commissioner of Corporations, Annual and Special Reports.
CONYNGTON, THOMAS. Corporate Management ; and Corporate Organization.
FREUND, ERNST. The Legal Nature of Corporations.
GREENE, T. L. Corporation Finance.
HALLE, E. L. VON. Trusts, or Industrial Combinations and Coalitions in
the United States.
HORACK, F. E. The Organization and Control of Industrial Corporations.
Industrial Commission, Report, Vols. I, II, XIII, XVIII, XIX. (See
general index in Vol. XIX under "Combinations," "Corporations,"
"Capitalization," etc.)
JENKS, J. W. The Trust Problem.
MEADE, E. S. Trust Finance.
MONTAGUE, G. H. Trusts of To-day.
MOODY, JOHN. The Truth about the Trusts.
RIPLEY, W. Z. (ed.). Trusts, Pools, and Corporations.
SPARLING, S. E. Business Organization.
WILGUS, H. L. Should there be a Federal Incorporation Law for Commercial
Corporations ?
WOOD, W. A. Modern Business Corporations.
PART IV
VALUE AND EXCHANGE
CHAPTER XI
VALUE AND PRICE
IF every family produced all the goods needed to supply the
wants of its members, most of the problems which to-day confront
economic science would not exist. Most of the world's workers
are, however, contributing their services either directly or indirectly
(through the production of goods) toward the satisfaction of the
wants of others. One's economic well-being to-day depends pri-
marily on two things: the money income which can be got from
others in return for one's services or for the use of one's land or
capital, and the amount of things that can be bought with this
money income. The federal census of 1900 showed that about
93 per cent of the men over twenty years old and about 1 8 per cent
of the women of corresponding age were employed in money-mak-
ing occupations; and this number does not include those land-
lords and capitalists whose income was derived entirely from
their investments. The work of the housewife and the services of
friendship embody utilities, that is, satisfy human wants, just as
do money-making activities, but they are not measured in terms
of dollars and cents. The production of wealth is in these days
mostly "for the market," and wants are satisfied very largely by
goods obtained from the market. Most goods get from those who
produce them to those who use them only by the processes of
exchange.
The Meaning and Significance of Value. One of the most
fundamental of all economic problems relates to the ratios at
which goods are exchanged for one another. These ratios are
156
VALUE AND PRICE
157
called exchange values. The exchange value of a good is the quan-
tity of other goods that can be obtained for it. Exchange value is
often called objective value, and is to be sharply distinguished
from subjective value, which, it will be remembered, measures
the importance attached by an individual to a particular unit of a
commodity. In this chapter the word " value " is to be understood
as meaning exchange value. It is evident that the value of a
commodity will vary with conditions of time and place, and that
at any particular time and place it might be expressed in a num-
ber of different ways. A pair of shoes might be exchanged for
four bushels of wheat, for two hats, or for other quantities of other
commodities. In this sense any one commodity will have not one,
but many, exchange values. It is, however, customary to-day to
express the values of all commodities in terms of one other com-
modity, money. Price is exchange value expressed in terms of
money. There are 23.22 grains of gold in our monetary unit, the
gold dollar. Thus, when we say that a pair of shoes is worth four
dollars, we indicate that they have four times the value of 23.22
grains of gold. When the words " value " and " price " are used in-
terchangeably, as will sometimes be the case in this chapter, there
is implied the assumption that the value of money is constant an
assumption which, of course, does not entirely correspond with
the facts.
The process by which the ratios at which goods are exchanged
is determined is called " valuation." This word is used in a narrow
sense as referring to the fixing of the exchange values of commodi-
ties; in a broader sense it includes also the determination of the
different rewards received by those who have contributed to the
production of these commodities. In this broad sense the prob-
lem of valuation is the problem of the distribution of wealth. Im-
agine the case of a mechanic employed at a particular time in
the manufacture of machinery that will be used in a flour mill.
The final product of the mechanic's labor the only product
directly useful in the satisfaction of human wants is the flour,
or bread made from the flour. To the making of this final prod-
uct thousands besides our mechanic farmers, agricultural la-
borers, railway officers and employees, other mechanics, and so
158 OUTLINES OF ECONOMICS
on in a practically endless list have contributed. What deter-
mines the value of the final product? What proportion of this
value goes to the mechanic? What is his share worth to him as
the means of getting the necessaries of life ? Of these three ques-
tions, the first and third fall within the problem of the valuation
of commodities; the second, relating to the valuation of the me-
chanic's services, falls within the problem of the distribution of
wealth. At present we are concerned with valuation in its nar-
rower sense, although the principles to be developed apply also
in the case of the valuation of the services of the factors in pro-
duction. The significance of the subject of value in economic
science lies in the fact that, within the conditions set by existing
institutions, and within the limits set by the total production of
wealth, human welfare, so far as it is dependent upon the pos-
session of economic goods, is largely determined by the process of
valuation.
The Market. It is conceivable that the values of goods might
be fixed by public authority, or that the production of the most
important commodities might be monopolized. Then, too, it is
possible to imagine a condition of society in which custom should
have such power that values, when once established, would be
changed very infrequently. Still another possibility would be a
regime of competition in which every man would be left free to
buy and sell as he pleased at such prices as he could get. The
first three factors public authority, monopoly, and custom
are among the things which determine the ratios at which goods
are actually exchanged to-day; but the dominant factor is the
fourth one mentioned the free competition of the market.
In this connection we mean by the market, not a particular
place for buying and selling, but the general field within which the
forces determining the price of a particular commodity operate. For
some commodities, especially perishable ones, like fresh milk and
cream, the market is distinctly a local one. In the case of great
staple commodities like wheat and cotton, the market is a world
market, for it is impossible that the prices of wheat or cotton in
Europe should differ for any considerable time from their prices
in America by more than the expense of transportation. So-called
VALUE AND PRICE
159
"international" securities, such as government bonds and the
stocks and bonds of certain great corporations, afford even a better
example of goods for which the market is a world market. Some
commodities are used only in a particular locality or country,
although produced in many different places. The American con-
sular reports frequently contain advice to American manufac-
turers as to special kinds and varieties of goods used in different
foreign countries. The cotton mills of England, Germany, and
the United States all make special grades of cotton cloth designed
especially for the Oriental market. Much more numerous, how-
ever, are the goods which, although of wide and general consump-
tion, are produced in but few localities. This is especially evi-
dent in the case of agricultural and mineral products, but it is
increasingly noticeable in manufactures.
Along with this localization of industry there has been a broad-
ening of the field of consumption of many commodities. Among
the factors which have contributed to this result may be men-
tioned, first, the increasingly cosmopolitan character of modern
life, a result of more generally diffused facilities for higher edu-
cation, as well as of the growing ease of travel and communica-
tion, and secondly, what has been called the "standardization of
taste," a result in part of modern advertising methods and of
the standardization of products which is one of the fundamental
features of modern machine industry. Notwithstanding the bar-
riers which still exist in the form of protective tariffs and local
prejudices, a dominant feature of modern markets is the localiza-
tion of production and the extension of the field of consumption.
The Conditions of Competitive Valuation. It is often assumed
that competitive prices are in some way "natural" and right
prices. To guard against this error it is only necessary to remind
ourselves that competition operates under the limitations imposed
by the fundamental institutions of the existing social order. In
the analysis of valuation under purely competitive conditions, we
shall assume the existence of private property, since, strictly
speaking, it is the property rights in various goods that constitute
the things that are bought and sold. It is necessary, also, to as-
sume the existence of the right of free contract the right of
160 OUTLINES OF ECONOMICS
each man to sell for what he can get, and to buy for as little as he
can bargain to pay. So far as society limits the right of private
property and the right of free contract, it alters the conditions
of competition and correspondingly affects the values fixed by
competition.
Supply and Demand. The only goods which are valued in the
market are economic goods; that is, such goods as combine the
characteristics of utility and scarcity. This statement is a truism,
for no one will pay for things that he does not want or for things
that can be obtained freely. Utility and scarcity affect the mar-
ket value of goods through the operation of the forces of demand
and supply. The general "common-sense" explanation of the
valuation of goods takes the form of the statement that values are
determined by supply and demand. When rightly interpreted,
this statement cannot be criticised, but it is often used in an en-
tirely erroneous sense. Producers do not usually throw their
goods unreservedly on the market, accepting any price that can
be got for them, nor do consumers generally demand definite
amounts of goods, without reference to the price of them. An
entirely accurate statement, and one that is less apt to be misin-
terpreted, is that prices are among the factors determining supply
and demand. It may seem, accordingly, something like arguing
in a circle to attempt to explain value by using the formula of
supply and demand; but the fact is that the explanation of value
is to be sought in the action of mutually dependent forces, rather
than in any one principle. Our next task is, therefore, the analy-
sis of supply and demand.
The Nature of Demand. Mere desire for a commodity is not
demand for it. The desire of the poor man for the counterpart
of his wealthy neighbor's automobile is in no sense demand.
Effective demand is sometimes defined as desire coupled with the
ability to pay. But to make demand really effective there must
be added to these the inclination to buy: desire must be intense
enough to lead to purchase. As has been shown in a previous
chapter, intensity of desire cannot be thought of as existing for
a commodity in general, but only for particular units of a com-
modity. The intensity of one's desire for an additional unit of a
VALUE AND PRICE 161
commodity depends upon the extent to which one's wants are
satisfied by one's existing supply of that commodity. This is the
same as saying that the intensity of our desire for a commodity
is measured by its marginal utility.
Every person tends to keep the marginal utilities of the differ-
ent kinds of commodities he consumes equal. Either by a con-
scious balancing against each other of the pleasures to be ob-
tained from two or more possible purchases, or oftener, by simply
buying the things which we want more than we want other things,
we tend to keep our unsatisfied wants in a state of approximately
equal intensity. Every person thus has what has been called a
margin of consumption, which is measured by the utility that
would be obtained by the expenditure of another dollar (or any
other small amount of money) for any one of the things that he
consumes. An important thing in the explanation of demand is
the fact that this margin of consumption differs for different per-
sons, as well as for the same persons at different times. An
individual's margin of consumption depends primarily on his
income, but also on his tastes and habits, his instinct for saving,
and the extent to which he estimates present wants more highly
than future wants. Then, too, one's desires are constantly chang-
ing under the influence of whim, fashion, satiety, sellers' adver-
tising, education, travel, reading, and new experiences of all kinds.
Expenditures of all sorts are thus called into being by the neces-
sity of maintaining the level of the margin of consumption. The
advertiser may succeed in making us think that we want his goods
more than we want other things that we could purchase with the
same amount of money; reading may so stimulate our desire for
travel that we are willing to curtail other expenditures in order
to secure it. Education ought to affect the quality as well as
the quantity of our wants.
But even if our desires were constant, changes in prices would
in themselves effect continual alterations in the proportions of
various things that make up our purchases. If the price of a
commodity decreases to such an extent that an additional dollar's
worth has a utility greater than our margin of consumption, we
normally purchase it. If the price rises, we normally curtail our
M
162
OUTLINES OF ECONOMICS
expenditures for this particular commodity, and may even, under
some circumstances, become sellers of it (as in the case of the
householder who has bought a large supply of coal at five dollars
per ton, and who, when the price rises to ten dollars, is willing to
sell part of it). Some of the foregoing discussion may seem to
be a statement of what is obvious and commonplace, but the neg-
lect of these seemingly obvious factors is responsible for more
than one erroneous explanation of the way in which values are
determined.
The Demand Curve. The relations between price and de-
mand may be shown concretely by the analysis of the condi-
tions in a hypothetical
market. Imagine the case
of an isolated community
in which there is consider-
able use of wood as a fuel.
The conditions might be
such as are represented
graphically in Figure i. In
this diagram distances
measured from O along
the horizontal line OX represent different amounts of wood, while
distances measured vertically from the line OX represent prices.
Assuming that the conditions of demand were as represented in
the diagram, if the price of wood were MP dollars a cord, OM
cords of wood would be bought. If MP represents a relatively
high price for wood, this might mean that many families would
choose to go without wood, using other kinds of fuel instead.
Others would be content with a scanty supply. If, however, the
price were reduced to M'P' dollars per cord, some of the families
who would have refused to buy at the higher price would purchase
wood, while others would increase their purchases, so that OM'
cords would be bought. Similarly, at the price M"P", the amount
bought would be OM" cords. Other possible prices might be in-
dicated on the diagram, so that, in general, the curve DD' (which
we may call the demand curve) represents the relation between
price and the amount demanded. The rectangle OM'P'A' rep-
VALUE AND PRICE 163
resents the total amount the community pays for wood when the
price is M'P', just as the rectangle OM"P"A" represents the
total amount paid when the price is M"P". It often happens
that this total value is less when the price is low than when the
price is high, although the amount bought at the lower price may
be double or treble the amount that would be bought at the higher
price. This means not only a better satisfaction of wants with a
smaller expenditure of money, but also that more money is avail-
able for the purchase of other things; so that there is a general
lowering in the margin of consumption a better satisfaction of
wants in general. If, however, the relations between price and
demand were such that the rectangle OM"P"A" would be larger
than the rectangle OM'P'A', the existence of the lower price
would necessitate curtailing expenditures for other things. This
might involve only a decreased use of substitutes for wood, such
as coal; more often, however, it would mean a diminished con-
sumption of a number of other things. But any decrease in the
price of any commodity of general consumption, other things re-
maining equal, means always a lowering of the margin of con-
Sumption of all persons increasing their use of the commodity in
question. For the lower price would not be accompanied by the
purchase of a larger amount of wood if the additional wood did
not satisfy more intense wants than would other things that might
be purchased with the money.
In this way the demand for any one commodity is affected by
the demand for any other commodity. The competition of the
market thus embraces not only the buying and selling of a given
commodity (like wood) , but also the buying and selling of all com-
modities. In this sense the wood dealers compete with the grocers
and the tailors, as well as with coal dealers and with each other.
The Elasticity of Demand. By the elasticity of demand we
mean the extent to which the amounts demanded vary with changes
in price. In every family in poor or moderate circumstances
the housewife carefully economizes in the use of eggs during
periods when they are high in price, using them more freely when
the price is lower. In such a case the demand for eggs is an elastic
one. Relatively inelastic are the demands of most families for
1 64
OUTLINES OF ECONOMICS
FIG. 2
such things as flour and salt. Other commodities, such as sugar,
may occupy an intermediate position. Figures 2 and 3 repre-
sent, respectively,
elastic and inelas-
tic conditions of
demand. With-
out giving further
concrete exam-
ples, the follow-
ing propositions
respecting elas-
ticity of demand
maybe stated:
(i) Demand for
necessities is in
general less elastic than demand for luxuries. (2) Demand for
commodities the use of which constitutes a habit is less elastic
than demand for commodi- Y
ties the use of which is gen-
erally a matter of conscious
decision. (3) The more
adequate the substitutes for
a particular commodity the
more elastic will be the
demand for it. (4) The
demand of persons of large
income is less elastic than
that of persons in poor or
moderate circumstances. (5)
A corollary of proposition
Jour is that the higher the
general level of well-being
in a community, the less elastic will be the demand for most
commodities.
Consumers' Surplus. Whatever the price of a competitively produced
commodity may be, there are almost always some buyers who would have
paid more if it had been necessary. Referring to Figure i, if the price is
M'
FIG. 3
VALUE AND PRICE 165
M'P', those who are just willing to pay that price, who would either have
bought less or bought none if the price had been higher, may be called the
marginal buyers. These are relatively few in number, however, as compared
with those who would have bought even if the price had been higher. The
utility of the marginal purchases to the buyers is but little more than the
utility of other things that could have been bought with the same amount of
money : in such cases the utility of the purchase only about equals the sacri-
fice involved. In the case of all other purchases, however, there is a surplus
of utilty over costs (whether costs are measured as money costs or as the
utility of the other possible purchases which are given up) which is called
consumers' surplus (or sometimes consumers' rent, or buyers' gains). It
might be supposed at first thought that if the price were, for example, M'P'
(Fig. i), the area included between the horizontal line A'P' and the curve
DP' would represent consumers' surplus. This is not exactly true, however,
and that for two reasons: in the first place, the satisfaction of additional
wants which a lower price makes possible may make the more important
wants less intense. A man might be willing to give ten dollars for a cord of
wood in order that at least one room in his house could be heated during the
winter. He might also be willing to give seven dollars a cord for two cords,
so as to heat two rooms, but the heating of the second room might render the
heating of the first room less important to him. He might not be willing,
for example, to give ten dollars plus seven dollars in order to have the two
rooms heated. In the second place, utility itself is to a large extent affected
by price. So far as our purchases satisfy what has been called the desire for
distinction, or represent what Professor Veblen has called "conspicuous
consumption," a lowering of the price of a commodity would lessen its utility
to us. The successful production of artificial diamonds at a low cost would
lessen the desire which most people have for natural ones. If touring cars
were less an indication of one's ability to spend money freely, they would be
less esteemed by a good many people. On the other hand, it might occur in
some cases that a certain amount of decrease in the price of a commodity,
permitting a more general consumption of it, would increase the esteem in
which it is held by those who are glad to follow fads. In general, we must say
that even if we had absolutely complete statistics of the actual relation of
prices to demand, consumers' surplus would still be an incommensurable
thing. It is nevertheless a real thing, and is especially significant as con-
stituting one of the differences between real income and money incomes.
It should be noted, however, that consumers' surplus relates only to one's
consumption of a particular commodity, taken by itself, for as we have seen,
the amount which we are willing to spend in the purchase of any one com-
modity depends not only on the price of that commodity, but also on the price
of the other commodities that make up our purchases. The surpluses which
a consumer gets in his different lines of consumption cannot be added to-
gether to form a total.
1 66 OUTLINES OF ECONOMICS
The Nature of Supply. The amount of goods that will be sup-
plied in a given market at a given time depends, like the amount
demanded, on the price. "Forced sales," in which goods are
offered for whatever can be got for them, form about the only
important exception. The effect of price on supply varies, how-
ever, according to the length of time that is taken into considera-
tion. The work that is being done to-day in the extension of old
factories and the building of new ones, the construction of rail-
ways, the taking up of new land, is based on estimates of future
prices, the present prices of agricultural and manufactured prod-
ucts and of railway transportation being of significance only so
far as they indicate what future prices will be. The merchant's
stock in trade is bought on an estimate of future business condi-
tions; the amount of land the farmer allots to wheat and corn,
respectively, depends on his estimate of the relative prices the
two will bring after the harvest. In a similar way the amounts of
goods that can be supplied to the market to-day are limited by
the estimates which business men and farmers have made in the
past of the prices which buyers are willing to pay to-day. It
would be possible, though not necessary for our purposes, to ana-
lyze the way in which the amount of the capital and labor which
have thus been applied to the production of things that will
satisfy present wants was partially determined by conditions which
existed still farther back in the past, and so on in an indefinitely
receding series. The amount of goods available for the market
of to-day is thus limited not only by past estimates and conditions,
but also by present estimates of future conditions. Every seller
has the option of selling at the present price or of waiting for
possibly higher future prices an option which is limited only by
the perishability of his goods and the urgency of his need for
money. And the most urgent need for money does not neces-
sarily force an immediate sale if his opinion as to the future
value of his goods is a reasonable one, for in this case it is
usually easy to borrow money on the strength of the marketable
value of the goods.
The Supply Curve. In the analysis of the conditions of sup-
ply existing in a particular market at a particular time we do not
VALUE AND PRICE
167
M
M' M"
FIG. 4
have to take account of the limitations imposed by the forms which
productive efforts have taken in the past. At any given time a
certain definite amount of a commodity is available for the market:
this forms what may be called
the potential supply. The pro-
portion of this potential supply
that sellers will be willing to part
with at a particular time will de-
pend primarily on the prices they
can get. If the price of a unit
of a commodity is M' P' (Fig. 4),
the sellers will be willing to sell
a certain number of units of it,
which may be represented by
OM'. If the price were as low as PM , however, some sellers
would prefer to wait for higher prices, the amount thus withheld
from the market being represented by MM'. At the price M" P",
however, an additional supply (M'M") of the commodity would be
forthcoming from sellers who were not tempted by the price M'P'.
In general, the supply curve SS' represents the relations between
price and the amount that will be supplied in a particular market
and at a particular time.
The Determination of Price. The foregoing discussion of the
TT nature of demand and
of supply makes it pos-
sible to advance another
step in our analysis of
the determination of
price, by asking our-
selves what will be the
result of the simultane-
ous operation of the
forces of demand and
f
supply. This condition
is represented graphic-
ally in Figure 5, where the demand curve and supply curve are
combined in one diagram. If the curve DD' represents the
M'
M
FIG. 5
1 68 OUTLINES OF ECONOMICS
potential demand in a particular market at a particular time, and
the curve SS' represents the potential supply, the price which
would be fixed by the free working of competitive forces would
be PM, located at the point where the two curves cross. At this
point demand and supply are equal, both being represented by
OM . It is impossible that the price should be fixed at any other
point, M' P', for example. For if M"Q be drawn so as to equal
M' P', it will be evident that at this price OM" units will be de-
manded, while only OM' units will be supplied. Most of the
buyers, however, are willing to pay more than M' P' if necessary,
so that in order to secure their share they will bid the price up
until the supply equals the demand. This is what John Stuart
Mill meant when he said that "value always adjusts itself in such
a manner that the demand is equal to the supply," a state-
ment which has often been misinterpreted, and consequently un-
justifiably criticised.
Producers' Surplus. Just as the area APD (Fig. 5) has sometimes been
considered, not altogether accurately, to represent a " Consumers' Surplus"
(of utility over costs) , so the area APS has been considered to correspond to
what has been called " Producers' Surplus " or " Sellers' Gains." This sur-
plus should not be thought of as corresponding to the actual profits of the
sellers; that is, as being in any way a surplus of value over and above the
expenses of production. It cannot be too strongly emphasized that the
analysis of demand and supply thus far presented relates only to the condi-
tions existing in a particular market at a particular time. All that we can say
is that when OM units are sold at the price of MP per unit, the total re-
ceipts of the sellers are represented by the rectangle OMPA ; while the area
OMPS represents what they would have been willing to sell the same
amount of goods for, had they not been able to get a larger return. There
is, as we shall see, a relation between the prices of things and the expense
of producing them, when a considerable period of time is taken into con-
sideration. At any given time, however, sellers are mainly governed by the
relative profitableness of selling at existing prices or waiting for higher
ones. The only kind of surplus which the area APS represents is an intan-
gible, hypothetical thing.
QUESTIONS
1. Is there such a thing as "intrinsic value"? What is usually meant
when the expression is used?
2. How would you apply the concept of marginal utility to a non-divisible
good, like a house ?
VALUE AND PRICE 169
3. Does the tendency of each individual to maintain the equilibrium of
his margin of consumption result in the maximum satisfaction of his wants?
4. What relation is there between the amounts which a college student
pays for room rent, for food, for clothing, for books, and for athletics ?
5. Which of your customary purchases would you still make if prices
were doubled ? Which would you curtail ? Which would you omit ?
6. Illustrate the propositions relating to elasticity of demand (p. 164) by
concrete examples.
REFERENCES
BOHM-BAWERK, E. VON. Positive Theory of Capital, Book IV, Chaps.
I-VI.
CARVER, T. N. Distribution of Wealth, Chap. I.
CUNYNGHAME, HENRY. Geometrical Political Economy, Chaps. Ill and IV.
HADLEY, A. T. Economics, Chap. III.
HOBSON, J. A. Economics of Distribution, Chaps. I and II.
MARSHALL, ALFRED. Principles of Economics, 4th ed., Book III and Book
V, Chaps. I and II. Or [abridged] Economics of Industry, 3d ed.,
Book III and Book V, Chaps. I and II.
MILL, J. S. Principles of Political Economy, Book III, Chaps. I and II.
WIESER, F. VON. Natural Value, Book II, Chaps. I-V.
CHAPTER XII
VALUE AND PRICE (Continued)
SOME of the most important factors in the determination of ex-
change values are not revealed by an analysis of the conditions
existing at a particular time. We have assumed, for example,
an existing potential demand and an existing potential supply,
and have shown how these result in the equilibrium of actual
demand and supply at a certain price. An explanation of why
potential demand and potential supply are as they are necessi-
tates taking a considerable period of time into consideration.
The demand side of this particular problem need not detain us.
It has already been suggested that demand will change with
changes in incomes, tastes, fashions, and the like. The effect
of these influences is so obvious that it may be taken for granted.
With reference to the other side of the problem, however, it has
been pointed out that the potential supply of the present is lim-
ited by conditions set by past industry. The amounts of dif-
ferent kinds of consumption goods that are ready for present
use depends upon the direction which the work of production has
taken in the past. What, in the long run, is the relation between
supply and value ? To answer this question we shall have to
push our analysis somewhat farther.
Normal Value. The dominant motive that guides farmers and
business men in their investments of labor and capital is the de-
sire for money profits. By profits we mean in this connection
the difference between the expense involved in producing goods
and the money that can be obtained for them. If it were always
an easy matter for business men to change their interests and
their energies from one line of production to another, and if
capital and labor could likewise be freely transferred from one
undertaking to another, it is hard to see how profits in any one
competitive business could be for any length of time much higher
170
VALUE AND PRICE
171
than in other competitive businesses. Managerial ability, labor,
and capital would gravitate always toward those employments
which promise the greatest profits. The effect would be a con-
tinual tendency toward equality of advantage in different lines
of business. This does not mean necessarily an equality of
profits as between individuals in any given line of business, for
the amount of profits depends largely upon the skill and enter-
prise of the individual business man. In a state of free compe-
tition, with managerial ability as free in its selection of oppor-
tunities as we have assumed, the profits of any business would
hardly be larger, for any period of time, than the business man
could get as salary by working for others for if working for
others offered a greater return than assuming the risks of busi-
ness for himself, he would naturally choose the salaried position,
and -vice versa. Purely competitive profits, under conditions of
absolute "fluidity" of business ability, of labor, and of capital,
would thus tend to adjust themselves according to the ability of
the individual business man; that is, to equal what we shall later
describe as the "wages of management." If we include the
value of the business man's services among the expenses of pro-
duction, we may, obviously, state the tendency which we have
described as a tendency toward the equality of the prices received
for the products of any particular business and the expenses of
producing them.
The assumptions we have made do not, however, exactly cor-
respond to the conditions of actual business. Managerial ability,
labor, and capital are all specialized to a greater or less extent,
so that they cannot be changed from one employment to another
without loss of efficiency. But it is not necessary for the valid-
ity of our analysis that all managerial ability, all labor, and all
capital should be fluid enough to change from industry to indus-
try economically. There are always a certain number of business
men who are anxiously watching for the most inviting busi-
ness opportunities; there is always a certain amount of labor
awaiting the most remunerative employment, and there is always
a certain amount of money awaiting investment in those forms
of capital goods which produce the greatest value. These facts
172 OUTLINES OF ECONOMICS
are enough to give substantial truth to the statement that in any
competitive industry the price of the commodity produced tends
to equal the cost of producing it. When the price of bicycles
was high, as compared with the expense of producing them,
existing bicycle factories were extended and new ones were built.
The supply of bicycles was thus so increased that they could not
be sold except at a much lower price. On this account and be-
cause of the cessation of demand, the profits in the manufacture
of bicycles became relatively low, and many former bicycle fac-
tories are now used for other purposes. If the excess of the
price of wheat over the expense of producing it promises to be
greater than the excess of the price of corn over the expense of
producing it, farmers will raise less corn and more wheat, and the
result will be higher prices for corn and lower prices for wheat.
On account of this tendency of prices to equal the expenses of
production, the expense of producing a unit of a commodity is
called its normal value. It must be clearly understood that
normal values relate only to a tendency not to the actual
prices of the market.
Different Conditions of Supply. The strength of the tend-
ency of actual competitive values to equal normal values depends
upon the length of the period of time that is taken into considera-
tion. The longer the period of time, the larger will be the pro-
portion of managerial ability, labor, and capital that can be trans-
ferred from one industry to another. To build and to equip new
factories and to extend old ones takes time; the supply of skilled
labor in any occupation can often be increased but slowly, for
many trades involve an apprenticeship of three or more years.
In the undertakings that are becoming less profitable, although
capital specialized in the form of machines may not be useful for
other purposes, yet such machines need not be replaced as they
wear out; while a skilled laborer cannot take up another trade
without loss of efficiency, yet the incoming supply of laborers
may begin their apprenticeship in those occupations in which
there is a greater demand for labor.
While the conditions of long-period supply are thus such as to
result in a constant tendency toward the equalization of normal
VALUE AND PRICE
173
value and market value, this tendency may never work itself out
completely. For market values themselves are constantly chang-
ing under the influence of changing demand. The goal toward
which productive effort is working is a constantly shifting one.
Moreover, the expense of production itself often depends upon
the amount produced. The efforts of entrepreneurs to adjust
production to prices result inevitably in a readjustment of the
conditions that determine the expenses of production. Three
forms of productive undertaking may be here distinguished:
those in which increased production is accomplished with in-
creasing, decreasing, or constant expense.
If transportation facilities and other controlling conditions
remain constant, the amount of wheat raised in the United States
cannot be substantially increased without resort to lands less
well adapted to the production of wheat, or the more intensive
cultivation of lands already in use. Either alternative means
(as will be shown in a later chapter in more detail) the use of
relatively more labor and capital in producing the additional
wheat than was required for the wheat produced under the for-
mer conditions. This fact means that the production of wheat
cannot be substantially increased except at an increased expense
per bushel. When this condition of increasing expense is met
with, and it holds true generally in agriculture, normal
value is fixed by the expense of production of the most expensive
part of the supply. That is, normal value tends to equal margi-
nal expense. If the price of the product is not high enough to
repay the cultivation of the poorest lands used, they will cease to
be cultivated. If the price of the product is appreciably higher
than the marginal expense, farmers will find it profitable to push
cultivation still farther, up to the point where the new marginal
expense equals the price.
In many manufacturing and commercial businesses, however,
it is cheaper to produce on a large scale, so that an increase in
amount produced means a relatively smaller expense per unit of
product. In such cases a general increase in production means
a decrease in the normal value of the product. At any definite
time a given product will be produced by a number of different
174 OUTLINES OF ECONOMICS
establishments of varying grades of efficiency, and if these are all
to continue in operation, the price received for the product must
be sufficient to cover the expenses of production of the least effi-
cient of them. It is the supply coming from these least efficient
establishments that adjusts itself most accurately to changes in
price. From this point of view, we may say that in manufac-
tures, as in agriculture, normal values equal marginal expenses.
But this fact is not very significant, for as soon as we take a longer
period of time into consideration, we recognize that the higher
price which enables the marginal establishment to produce at
all, also enables the better establishments to produce on a larger
scale. The reduced expenses of production necessitate, through
competition, a lowering of the price, and the less efficient estab-
lishments find themselves forced out by the very conditions that
permitted them to produce at all. From the long-time point of
view, it is minimum, rather than maximum, expenses of produc-
tion that measure normal values in industries of decreasing ex-
penses. There is by this process a continual elimination of the
inefficient producers and a continual insistence upon higher stand-
ards of efficiency on the part of the superior producers. The
minimum expenses of production to-day become the marginal
expenses of production to-morrow.
The condition of decreasing expenses dominates in most of the
great factory industries of the present. 1 Its effect is sometimes
offset by the increased cost of raw material produced under con-
ditions of increasing expenses. The diminution of expenses
which accompanies an increase in the amount of the business is
of special significance in railway transportation, and in a number
of other monopolistic businesses. The telephone business, how-
ever, is alleged to be subject to conditions of increasing expenses.
Some writers hold that the dominance of the condition of de-
creasing expenses in any business is enough to make it monopo-
listic in tendency.
In many hand industries, such as tailoring and cigar making,
the expense of production per unit does not vary to any great
1 Some qualifications of this statement are suggested in the following section
on "Constant and Variable Expenses."
VALUE AND PRICE
FIG. i
extent with the amount produced. Figures i, 2, and 3 illustrate
supply under the conditions of increasing, decreasing, and con-
stant expenses, respectively :
These diagrams illustrate the
relations between price and
supply when a considerable
period of time is taken into
account and must be carefully
distinguished from the supply
curve described in the preced- j
ing chapter, which related
only to the conditions of
supply at a particular time.
The "supply" illustrated in
these long-period supply
curves is about the same as
the "potential supply" of
the preceding chapter.
Constant and Variable Ex-
penses. There is no better
illustration of the necessity
of keeping definite periods of
time in mind when discussing
problems relating to valuation r
than that furnished by the
problem of the apportionment
of specific expenses of produc-
tion to particular units of
products. In almost any
industrial establishment, any
increase in product will be
attended by some specific in-
1
P'
MM' A
FIG. a
P'
M
M'
FIG. 3
crease in expenses: more raw
material and more labor will
be used, possibly more power; although the increased expenses
for labor and power may not be proportionate to the increase
in production. Such expenses are called variable expenses, and
176
OUTLINES OF ECONOMICS
are to be contrasted with constant expenses, which remain
approximately the same, no matter what the amount pro-
duced is. The interest on the capital invested in the factory
building and its equipment of machinery is a constant expense;
the expense of management and general office expenses will be
increased but slightly by an increase in the annual product of an
establishment. It is often assumed that wherever only a part
of the expenses varies with the amount produced, the industry is
ipso facto one of decreasing expenses. Whether this assumption
holds true or not depends on the length of the period of time we
take into consideration. It is true that factories are built with
a certain maximum capacity, and until that maximum capacity
is utilized, production may be increased without a proportionate
increase in expenditure. When the maximum is reached, how-
ever, more equipment, and often more buildings, will be needed
before there can be a further increase in product. There is often
a certain most efficient size of plant; an increase in business be-
yond the capacity of the most efficient size of plant necessitates
either a curtailing of the business or a duplication of the plant.
When business conditions are such as to warrant temporarily
pushing the output
of a plant beyond
its normal capacity,
the result usually
is, as every manu-
facturer knows, that
this increased out-
put is produced at
relatively increased
expenses of produc-
O 1 jf j/"^ X tion. Many seem-
FIG. 4 ingly constant
expenditures (like
interest on the cost of the plant) are variable in the long run.
Such expenditures increase, but only at considerable intervals
of time. A supply curve corresponding to the conditions of
production in such a business might be something like Figure 4.
VALUE AND PRICE 177
When the product reaches OM units, and again when it reaches
OM' units, fresh investments of large amounts of capital are neces-
sary. From the long-time point of view, such a business might
very possibly be one of approximately constant expenses; although
of course the other economies of large-scale production may be
sufficient to bring them under the rule of decreasing expenses.
The problem which the economist has to deal with here is analo-
gous to the difficult one which the accountant has to face in fac-
tory cost keeping. Careful analysis of the relations of constant
and variable expenses in different modern businesses must pre-
cede any broad generalization.
Joint Expenses of Production. When the production of one
commodity is inevitably accompanied by the production of one
or more other commodities, it is often impossible to assign a defi-
nite part of the total expense of production to any one of the com-
modities. It is obviously impossible to separate the expenses
of producing tenderloin steaks from the expenses of producing
soup bones, or either one of these from the expenses of producing
hides. Mutton and wool, cotton and cotton seed, coal gas and
coke, are familiar examples of commodities produced under
conditions of joint expense. Modern methods for the utilization
of industrial by-products have greatly increased the list of com-
modities produced under conditions of joint expense. Such com-
modities have only a collective normal value, which is equal to
the joint expenses of production. The potential supply is governed
by the total price which the producer thinks he can get for the
joint products, as compared with the joint expenses of produc-
ing them. The division of the total price into specific prices for
the separate commodities is determined by the potential supply
and by the conditions of demand that exist at any one time for
the separate products.
The Surplus of Bargaining. Demand and supply do not al-
ways fix price at a definite point. The price of horses of any
given grade, for example, is fixed only approximately by market
conditions. In the sale of a horse there is room for consider-
able latitude of opinion as to the price that should be paid. If
the lowest price that the seller will take is considerably below
178 OUTLINES OF ECONOMICS
the highest price that the buyer will give, just where between
these limits the actual price will be finally fixed will depend
upon the relative skill at bargaining of the seller and buyer. In
the case of a horse trade, this opportunity for the "higgling of
the market" has become proverbial, but in many other kinds
of exchanges the efficient bargainer has an opportunity to get
for himself a surplus above his minimum selling price, or below
his maximum buying price. Real estate transactions furnish
a good example. In the case of the great commodities of the
world market, like wheat, cotton, and iron, the price is set so
accurately by market conditions that the gains of bargaining
are relatively small. In general, the wider the market, the more
general the use of the commodity, the greater the ease with which the
commodity can be sorted into standard grades (as in the case of
wheat and cotton), the more accurately will competitive forces fix a
definite price. Goods which cannot be standardized, each unit of
which possesses some unique qualities, give most scope for the varia-
tions in the valuations of individual buyers and sellers. In such
cases supply and demand do not fix a price point, but only cer-
tain limits within which the price must fall. The widening of
the market, however, and the increasing standardization of
commodities an effect of machine production are bringing
a larger and larger proportion of goods into the field where the
uniform market valuations dominate.
Non-reproducible Goods. Some economic writers have made
a special class of such goods as great works of art. These are
absolutely unique, in that no copy can have anything like the
value of the original. The price of such non-reproducible goods
has an upper limit fixed by the highest subjective valuation set
upon it by any possible buyer. The lower limit will be either
the seller's own subjective valuation, or the second highest valu-
ation set by any competing buyer, according as one or the other
of these two is the higher. Between the upper and lower limit
the exact fixing of the price is a matter of pure bargaining. Such
cases should not be confused with ordinary monopoly price, as
has been done by some writers. The products of almost all the
industrial handicrafts, as well as the products of the avowedly
VALUE AND PRICE
I 79
artistic pursuits, possess a non-reproducible element of individ-
uality, that removes them to a greater or less extent from the
operations of the law of normal value. A commodity may pos-
sess this quality of uniqueness to such an extent that it is not
affected at all by the forces determining the value of the general
class of goods to which it belongs, and in this case its owner may
be said to have a monopoly of it. But it is better to look upon
the valuations of such non-reproducible goods as determined by
individual valuations and the process of bargaining. The "nor-
mal " price of such goods is simply the highest price that can be
got for them a statement which does not hold true of most
monopoly goods. For monopoly goods are not necessarily unique
or non-reproducible. They differ from ordinary competitive
goods, however, in that they cannot be reproduced except by
the monopolist.
Monopoly Values. The subject of monopoly price will be
discussed in connection with an analysis of the general subject
of monopoly in a later chapter. It is sufficient in this connection
to note that the monopolist gets a special power over the price
of his product through his ability to control the supply of it.
The monopolist, like any other seller, seeks to get the price that
yields the greatest net returns, but unlike the competitive seller,
he is not hampered by an inability to fix the price very much
above the cost of production.
Retail Prices. The retail prices paid by the individual con-
sumer do not always respond to the variations in wholesale prices
brought about by changes in supply and demand. There are
sometimes tacit or explicit local price agreements between local
merchants, which apply even to competitively produced goods.
Some retailers consistently sell a few kinds of goods at less than
cost to attract custom for the goods on which they may make a
profit. Merchants who make a specialty of a high class of goods,
and thus cater to a wealthy clientele, are apt to exact higher prices
for ordinary goods than do those merchants who have to deal with
a poorer class of customers. Custom has more effect on retail
than on wholesale prices. The prices of various articles sold as
"men's furnishing goods" form a good example of the influence
l8o OUTLINES OF ECONOMICS
of custom. Retail prices are also governed by the value of the
coins that are in general use, and are generally expressed in
round numbers. In the long run, demand and supply govern
retail prices, but they do not set a definite price point so accu-
rately as they do in the case of wholesale prices.
Public Authority and Value. In the middle ages there was
considerable speculation by theologians and legists about the
subject of "just price" the value at which things ought to
exchange for other things. This idea denotes an important
difference between the mediaeval and modern concept of value.
Professor Ashley has put it clearly in these words: "With Aqui-
nas, the greatest of the mediaeval schoolmen, it [value] was some-
thing objective; something outside of the will of the individual
purchaser or seller; something attached to the thing itself, exist-
ing whether he liked it or not, and that he ought to recognize.
And as experience showed that individuals could not be trusted
thus to admit the real value of things, it followed that it was the
duty of the proper authorities of state, town, or gild to step in
and determine it, and what the just and reasonable price really
was." This "just and reasonable price" was very often thought
to be that price which would afford a reasonable compensation
for the labor of the producer. When in more modern times
theological speculations began to yield precedence to inquiries
into "natural laws," the idea of just price was supplanted by
the idea of "natural price." Sometimes this was interpreted as
determined by the value of the labor put into a commodity (this
was the dominant idea during the eighteenth century), but the
growth of capitalistic production necessitated the recognition of
the other elements in the expense of producing a commodity as
part of its natural value. Modern economic science, as we have
seen, applies the term "normal value" to the expense of produc-
ing a thing, but interprets it only as an important factor control-
ling the long-period fluctuations of competitive exchange value.
The adjective "natural," with its misleading implications, has been
abandoned. Yet the competitive system is to-day so thoroughly
accepted as the "natural" economic order, that there is, as we
have previously noted, a deep-seated conviction that normal
VALUE AND PRICE' l8l
competitive prices (measured by the expenses of production)
are natural and just prices. This conviction is, however, brought
face to face with the fact of the growth of a large industrial field
in which monopoly, rather than competition, rules. The ques-
tion of just price is again a live issue as it was before the growth
of the competitive system. Public authority is frequently invoked
to insure that the prices fixed by holders of municipal franchises
and other monopolists are just and reasonable. The chief fun-
damental test which our courts are able to apply to the reason-
ableness of any particular price is its conformity to what the price
would have been under competitive conditions. Thus it is often
asked if a particular monopoly charge gives a more than normal
return upon the capital invested. The determination of what
the expense of producing a particular commodity or service really
is, is often a difficult, or even impossible, task (the distinction
between constant and variable expenses being frequently a stum-
bling-block), but, given the general acceptance of the competi-
tive system, it is hard to see what other standard could be used.
Moreover, the general consensus of recent court decisions is that
the Fifth and Fourteenth Amendments to the Federal Constitu-
tion, prohibiting the taking of property without due process of
law, prevent federal and state governments from going farther
than this in the regulation of monopoly charges. 1 And even this
power is not conceded, except in the case of businesses affected
with a distinct public interest, such as those conducted by so-
called public-service corporations. In fixing prices for its own
services, such as postal charges, the government is controlled by
other considerations. These will be discussed in the chapters
on public finance.
Imputed Value. The only things to which market valuations
1 It is the view of some courts that not only concrete physical objects, but also
the "franchise value" that has resulted from the ability of a company to charge
monopoly prices in the past must be counted as "property" in the meaning of the
Constitution. So far as this view governs the public regulation of monopoly
prices, it is impossible to reduce them to a competitive standard. It should be
possible, however, in any particular case, to prevent any increase in this acquired
franchise value; that is, to subject public-service monopolies to competitive
standards so far as the increase of their earnings is concerned.
1 82 OUTLINES OF ECONOMICS
actually apply are the specific units of goods that are actually
bought and sold. We are accustomed, however, to impute these
market values to all other existing goods of the same kinds. When
wheat is sixty cents a bushel, the only bushels of wheat actually
valued by the market at that price are the ones actually sold at
that price. Yet we impute or ascribe the same value to all other
bushels of the potential supply of wheat in the same market. It
is obvious that all of the potential supply could not be sold at once
except at a very much lower price. Any seller could, however,
add a small amount to the supply, without materially affecting
the price. Exchange value, as a concrete fact, emerges only in
the actual process of exchange. The value imputed to goods
not in the actual process of exchange is a hypothetical value:
the price which could be obtained for any particular unit of a
good under existing market conditions. This concept of im-
puted value in economics is in some ways like the concept of
potential energy in physics. A body of a given mass raised a
certain distance above the earth has a certain amount of poten-
tial energy, which, if the body be allowed to fall, will be realized
in an equivalent amount of actual energy. To make the analogy
between potential energy and potential value complete, how-
ever, one would not only have to conceive of the force of gravi-
tation as continually fluctuating, but also to imagine that the
amount of actual energy realized would be relatively diminished
according to the mass of the number of the bodies let fall at any
particular time.
Notwithstanding the hypothetical nature of this imputed
value, it is often treated as though it were a real thing. Statis-
tical attempts to state the wealth of a nation in terms of dollars
and cents are only estimates of the sums of these potential values,
and involve the hypothesis stated above. A merchant's inven-
tory of his stock in trade is often accompanied by an estimate
of its potential value. Whether this value will be realized or
not depends upon the constancy of business conditions, the ca-
prices of fashion, and whether it can be sold in the regular course
of trade or whether it has to be disposed of at a forced sale. A
good many kinds of consumption goods, such as household fur-
VALUE AND PRICE 183
niture, are not customarily thought of by the owner in terms of
exchange value. It is often necessary for purposes of taxation
to ascribe value to them, but it should be remembered that this
imputed value is purely hypothetical.
The Valuation of Production Goods. In our analysis of ex-
change value it has been assumed that the commodities valued
were wanted by consumers for the satisfaction of their wants;
that is, that they were consumption goods. It is possible to
say that producers' goods capital and land have a mar-
ginal utility for the producers, which measures the importance
attached to the possession of them. While one could thus, with
substantial accuracy, include producers' goods in the scope of
the foregoing analysis, there is a more instructive way of ap-
proaching the problem of the valuation of land and capital. Con-
sumption goods have value because they satisfy human wants;
that is, they yield an income of satisfactions, while production
goods are valued because they have the power of gaining a money
income for the owner. Just as the value of consumers' goods
varies with the intensity of the wants they satisfy, so the value
of producers' goods varies with their power to yield a money
income. The valuation of producers' goods will, accordingly,
be discussed in the chapters on the rent of land and interest.
Other Theories of Value. The older economists used to em-
phasize the relation between the value of a thing and the amount
or the expense of the labor spent in producing it, a relation
much closer under the old methods of hand production than it
is at present. The development of a systematic labor theory
of value was, however, the work of Karl Marx, the founder of
modern "scientific" socialism. This theory is, in essence, that
labor produces all value and that the interest on capital and the
rent of land are deductions from the real wages of labor de-
ductions that are made possible only by the existence of the sys-
tem of private property in producers' goods. It is so obvious
that things do not exchange to-day in proportion to the amount
of labor involved in producing them, that to point this out in de-
tail, as some economists have done, is unnecessary. Karl Marx
reallv meant that labor costs constitute the "natural" values
1 84 OUTLINES OF ECONOMICS
of things, or the ratios at which they ought to exchange. But
the only "natural" values that can be recognized from the mod-
ern scientific point of view are the values that really exist the
actual values of the market. Nor can we say that things ought
to exchange in proportion to their labor costs, without begging
the whole question in favor of the abolition of private property
in land and capital. Moreover, it will be shown later that rent
and interest would not be eliminated, although they might be
changed in form, by a change from private to common owner-
ship of producers' goods. Although the labor theory of value
is still held by many followers of Marx, its place in the creed of
scientific socialism is diminishing in importance.
The relation between value and the expenses of production
has sometimes been stated in such a way as to lead to the infer-
ence that cost of production is the cause of value. The cost of
production theory of value, when so stated, is open to much
the same objections as the labor theory. Suppose I perfect a
machine at the expense of ten thousand dollars which will blow
soap bubbles at the rate of a thousand an hour. Will it be worth
ten thousand dollars ? Certainly not ; but why not ? The theory
of costs will not explain it. To say that the labor and materials
have not been wisely used is simply to say that the machine has
no value, which is just what we are trying to explain. As a
fact, it is not worth ten thousand dollars simply because no one
is willing to give ten thousand dollars for it. The expenses of
production do not create value, but there is a sense in. which
value is the cause of the expenses of production. That is, men
think it worth while to expend money in producing things be-
cause they think that the products will have value enough to
recompense them for the expenses of production.
Many of the economists who have written in the past about
the subject of value took the facts of demand for granted, and
devoted most of their treatment of the subject to an examina-
tion of the relation between value and the expenses of produc-
tion. This was in part an expression of a general tendency to
regard the production of wealth as something to be desired for
its own sake; the fact that the satisfaction of human wants is
VALUE AND PRICE 185
the real goal of most economic efforts being underemphasized.
In more recent years economic writers have developed the analy-
sis of human wants; the fact that utility in the economic sense
is not utility in general, but the utility of a particular unit of a
commodity, being the most significant point in this new analysis.
Some writers have even gone so far as to take the facts of supply
for granted, and to assume that value is explained when mar-
ginal utility is described. Marginal utility is, as we have seen,
the equivalent of subjective value the importance an indi-
vidual attaches to the possession of a particular unit of a com-
modity. To say that the marginal utility of an object determines
its exchange value is, however, to argue in a circle, for the mar-
ginal utility of a commodity to me depends on the intensity of
my wants and the extent to which they are satisfied. But the
extent to which our wants are satisfied depends very largely upon
the difficulty or expense of acquiring the things that satisfy them.
In this sense value determines marginal utility. The concept
of marginal utility does, however, aid us in understanding the
causes of exchange value, because it forms a bridge by which
we can pass from the definite money units in which exchange
values are measured to the indefinite, subjective units of satis-
faction in which we measure the utility of goods.
As a determining cause of value, utility has a logical priority
over scarcity, in the sense that demand is usually the cause of
supply. Yet in the analysis of the actual valuation process we
have to recognize that utility and scarcity, demand and supply,
are forces operating simultaneously, neither of which can be
neglected without obscuring the fundamental facts of the market.
QUESTIONS
1. Is there any relation between the price of a lead pencil and the expense
of producing it ?
2. What elements of a farmer's expenses are "constant"? What are
" variable" ?
3. What different possible standards of just price can you suggest ?
4. Draw diagrams illustrating the fixing of normal value under different
conditions of long-period supply, the conditions of demand being assumed to
be constant.
l86 OUTLINES OF ECONOMICS
5. What different possible meanings can be attached to the expression
''natural value" ?
6. Discuss the following statement :
"The fact is that labor once spent has no influence on the future value of any
article ; it is lost and gone forever. In commerce bygones are forever by-
gones ; and we are always starting clear at each moment, judging the value
of things with a view to future utility." Jevons, Theory of Political Econ-
omy, p. 164.
REFERENCES
FLUX, A. W. Economic Principles, Chaps. IV and V.
MARSHALL, ALFRED. Principles of Economics, 4th ed., Book V, Chaps. Ill,
IV, V, VI, VII, XI, XII. Or [abridged], Economics of Industry, 3d
ed., Book V, Chaps. III-VIII.
MILL, J. S. Principles of Political Economy, Book III, Chaps. Ill and IV.
SELIGMAN, E. R. A. Principles of Economics, Chaps. XVI, XVII.
WIESER, E. VON. Natural Value, Book V, Chaps. I-VI.
CHAPTER XIII
MONOPOLY
The Idea of Monopoly. One of the economic terms most fre-
quently used nowadays is monopoly, and at the same time it
is one of those terms which are peculiarly vague and ill-defined
in popular discussion. Even in law and economics, contradictory
meanings have been attached to the term, although recently there
has been a marked clarification of thought both on the part of
economists and jurists. This has been a natural result of the
discussion of the subject; and this discussion in turn has been a
necessary outcome of an economic situation in which monopoly
has played and is still playing a large r61e. While there has been
confusion of thought with respect to monopoly, all have agreed that
something to be called monopoly has existed, and that it has been
the cause of perplexing scientific and practical problems.
In economics, as in life, categories shade off into each other, and
at the boundaries discrimination is difficult. It is best, therefore,
to find highly developed, plainly marked types to furnish us the
subject-matter for definition and to compare one type with another.
This is an especially desirable mode of procedure in the present
case, because the term " monopoly " at once suggests the term " com-
petition," with which it is inevitably contrasted. When monopoly
exists, competition is thought of as absent. A state of full and
free competition, on the other hand, is incompatible with mo-
nopoly.
Competition means a market with rival sellers and buyers,
and prices determined, on the one hand, by efforts of sellers,
acting independently of one another, to dispose of commodities
and services, and on the other hand, by efforts of purchasers,
acting independently of one another, to secure commodities and
services. Competition means goods and services freely produced;
187
1 88 OUTLINES OF ECONOMICS
in other words, without control by combination. We have seen
the forces that under competition limit producers and purchasers,
and thus determine value.
Monopoly, as the term contrasted with competition, means com-
bination and unified action, signifying restraint on the free offering
of commodities and services by rival sellers and on the free pur-
chase of these commodities and services by rivals who desire to
secure them. The word " monopoly " itself means a condition in
which there is a single seller and by extension a single purchaser,
and signifies unity in management of some kind of business in
some essential particular.
The particular in which unity is secured in the case of monopoly
may be in production, it may be in sales, it may be in purchases;
or it may be in any two or all three of these particulars. This
use of the term " monopoly " gives us a clear scientific concept which
is workable; and on its basis we may then formulate this definition
of monopoly: Monopoly means that substantial unity of action
on the part of one or more persons engaged in some kind of business
which gives exclusive control, more particularly, although not solely,
with respect to price.
A few points in our definition require comment. Price is
essential, and must be regarded as the fundamental test of monop-
oly, even if it is obvious that price formation and price control
do not exhaust monopoly, since its import reaches beyond price.
The other things than price control which monopoly carries with
it flow from such control and are not secure without it. A cer-
tain unity of action may be obtained without the establishment of
monopoly, since it does not give rise to monopoly until the power
to control price is secured.
It is possible that monopoly may not prevent price from falling
below cost, and such a condition of price is quite compatible with
the definition given. The advantage of unified action may be
that loss is diminished. Sometimes a monopoly will give, perhaps,
simply normal returns; sometimes there is loss, as in the case of
an unprofitable copyrighted book; sometimes it might happen
that the monopoly price would be exactly the same as the com-
petitive price; sometimes it may go, and generally will go, above
MONOPOLY 189
the competitive price, 1 although there might be other gains than
those resulting from higher price.
The precise definition given here of monopoly appears in the
main to be in accordance with the best English usage, and also to
be in harmony with the meaning given to the corresponding word
in other modern languages by those who use these languages
with discrimination. If we search our dictionaries for the
meanings of monopoly, it will be seen that there runs through them
all the notion of exclusiveness or unity as the dominating thought,
as the essential thing for which the mind is more or less success-
fully struggling and the thought about which other things are
grouped.
When we search our law books and judicial utterances on the
subject of monopoly, unsatisfactory as they have been to all in-
terests involved and contradictory to one another in their
interpretations in various particulars, we find, nevertheless, a
sound tendency to emphasize unified control of business as an
essential characteristic of monopoly. Lord Coke, in the seven-
teenth century, laid emphasis upon the exclusive nature of mo-
nopoly, when he said that it consisted of power granted "to any
person or persons, bodies politic or corporate, for the sole buying,
selling, making, working, or using of anything, whereby any per-
son or persons, bodies politic or corporate, are sought to be re-
strained of any freedom or liberty that they had before, or hindered
in their lawful trade." 7 Blackstone, in his Commentaries on the
Laws of England, gave almost precisely the same definition in
the following century. Recent American decisions lay emphasis
on exclusiveness as a test of monopoly.
The Idea of Monopoly and Industrial Evolution. But the
meanings of economic categories change with industrial evolution.
Even such terms as freedom and liberty have to be newly inter-
preted with every new stage and even with every marked phase in
a stage of economic life. Naturally monopoly has acquired a new
significance, requiring new interpretation, which even courts are
1 This point is discussed later in the present chapter, vide p. 206.
2 Coke, 3 Institutes, 181. Quoted by C. F. Beach, Sr., in his Monopolies and
Industrial Trusts, 5.
1 90 OUTLINES OF ECONOMICS
gradually learning to give. The earlier legal definitions made
monopoly proceed from an express grant of public authority.
Lord Coke says: " A monopoly is an institution or allowance by
the king, by his grant, commission, or otherwise ;" and Black-
stone uses similar language in denning monopoly " as a license or
privilege allowed by the king."
Historically, this source of monopoly power is of paramount
importance. From early times, English sovereigns granted mo-
nopolies either for public or private reasons, and they became a
grievous burden. Queen Elizabeth, in particular, sinned in this
respect, regarding the right to grant monopolies as " one of the
fairest flowers" in her prerogative, and it was not long before
the citizen found himself restrained and shut in on every side by
a privileged class of monopolists. 1
Our forefathers were so deeply impressed with the evils which
they had suffered at the hands of the monopolists in old England
that in the Bills of Rights and elsewhere in the early constitutions
of our commonwealths they frequently inserted severe denun-
ciations of monopolies, and prohibited them unqualifiedly; and
these declarations and prohibitions still last in several states.
Two illustrations will suffice. We read the following utterance in
Article 39 of the Declaration of Rights which forms part of the
constitution of Maryland : " Monopolies are odious, contrary to
the spirit of a free government and the principles of commerce,
and ought not to be suffered." And the people of Texas still
cherish Section 26 of Article I of their constitution, which among
other things declares that " monopolies are contrary to the genius
of a free government, and shall never be allowed."
While the spirit of monopoly is as old as man, there was until
this century comparatively little opportunity for monopoly on
any large scale save as it proceeded from express grants of public
authority. These grants were sometimes made for public purposes,
and sometimes they proceeded from mere abuse of monarchical
power, and were given to favorites of royalty. We cannot now
stop to discuss their merits and demerits, but call attention to the
1 For a scholarly treatment of Elizabethan monopolies, see English Patents
of Monopoly, by W. H. Price.
MONOPOLY ! 9I
fact that they became odious, and were prohibited both in England
and in this country, exception being made of patents, copyrights,
and trade-marks. At the present time, however, monopolies pro-
ceed from the nature of industrial society, and are of far greater
significance in our economic and political life than ever before.
The really serious monopolies of our day are far more subtle,
and have for the most part grown up outside of the law, and even
in spite of the law.
And this has at last received full recognition in an utterance of
the Supreme Court of the United States in which the idea of mo-
nopoly, as stated in our definition, is reproduced; l and thus, for-
tunately, law and economics are brought into harmony, as they
always should be.
Complete and Partial Monopolies. We have taken a perfect
type of monopoly to furnish us with our definition; but there are
imperfect types, or incomplete monopolies, as well as complete
monopolies. We have a partial monopoly where there is a unified
control over a considerable portion of the industrial field, but not
over a sufficient portion to give complete domination of the whole
field. It can easily be understood that if 90 per cent of a
given business, but no smaller percentage, would afford control
over the whole business, 80 per cent, while it would not be
sufficient for domination, might carry with it an advantage to
the person or persons enjoying unified control over the 80 per
cent, yielding an excess above competitive returns which we
may properly designate as one sort of surplus value. Busi-
nesses must often be in this position, and a monopoly may
be obliged to go through several stages of partial monopoly be-
fore it reaches a position where it can exercise unified control
over the entire business. After all, it is a question of degree of
control; and nearly, if not quite all, economic distinctions are
matters of degree.
But we must distinguish sharply between a condition of mo-
nopoly and other conditions, if we are to think clearly and ac-
curately. One thing which does not yield monopoly is mere limi-
tation of supply, and it is strange that even an economist of the
McKenna, J., in National Cotton Oil Co. v. Texas, 197 U. S. 139.
192 OUTLINES OF ECONOMICS
ability of John Stuart Mill should have found the essential feature
of monopoly in this limitation ; for this at once makes monopoly
cover the entire field of economic activity, inasmuch as economic
activity is for the acquisition of valuable things, and things lack
value whenever their supply is adequate for the satisfaction of
all wants. It is only things limited in proportion to human desires
that have value.
Nor may we say that a valuable thing is monopolized because
its supply is limited and also graded in quality. Land exists in
quantities to which physical nature has assigned limits, and the
supply of land exists in grades varying in fertility and desirability
of situation, and as a consequence of this gradation we have the
rent of land. Land is not, however, a monopoly, and it is mis-
leading to speak of it as a natural monopoly. Nowhere do we
find monopoly either in the ownership or in the cultivation of
land, but everywhere competition competition among unequals,
to be sure, but still competition.
Land rent is a differential gain, a gain due to the superiority of
the land owned by rent receivers over that cultivated by those
who are making use of land which affords nothing beyond returns
to labor and to capital. Now we must distinguish between the
broad concept of differential gains enjoyed by those in competi-
tive pursuits, and the monopolistic gains which are based on the
absence of competition.
Just as sharply must we distinguish between competitive busi-
nesses of large magnitude and monopolies. Department stores
in no city in the world enjoy monopolies, but are subjected to the
steady, permanent pressure of competition. There are those who
call every business operating on a vast scale monopoly, and would
put in the same economic category a gasworks without a compet-
itor and a huge retail dry-goods establishment with rivals at every
hand, ready to seize every opportunity for an advantage over it,
and certain to ruin it if its managers relax their intense activity
and watchfulness.
Classification and Causes of Monopolies. As our first step in
the treatment is the formulation of the idea of monopoly, our
second must be the classification of monopolies with an examina-
MONOPOLY
193
tion of their causes. Comparatively little can be said about mo-
nopolies that is applicable to all monopolistic businesses. Here,
as everywhere else in economics, we need analysis.
Many classifications of monopolies have been given, but we must
here confine ourselves to the three which seem of the greatest
importance to the general student.
First Classification
A. Public Monopolies.
B. Private Monopolies. 1
C. Quasi-public Monopolies.
Public Monopolies are those businesses which are owned and
operated by some political unit, and this political unit is the direct
and immediate beneficiary ; in other words, to this political unit in
the first place flow all the benefits of monopoly. A Private Mo-
nopoly, on the other hand, is a monopoly owned and operated by a
private person ; it may be a natural person, that is, a human
being, or some association of natural persons, as a partner-
ship, or it may be a private corporation. In this case the first and
immediate beneficiary of the benefits of the property and business
is the private person, although large benefits may flow to the
general public.
It is believed that this great fundamental distinction between
public and private monopolies is essential both to clear thinking
and to sound public policy. Whoever undertakes to tell us what
is true about monopolies, and what is wise for society to do with
respect to monopolies, must make it plain whether he is talking
about public monopolies or whether he is discussing private mo-
nopolies. We may also have an intermediate class designated as
Quasi-public Monopolies. An illustration is afforded by state-
owned railways operated by private corporations; although prac-
tically, in the United States, these differ in their management
little from the privately owned railways.
1 In our classifications the coordinate classes will be indicated by the same
letters or marks. The capital letters will indicate the chief classes; the Roman
numerals, classes subordinate to them; and the Arabic, classes subordinate to
those indicated by Roman numerals, and so on.
O
194 OUTLINES OF ECONOMICS
Second Classification. The second classification of monopolies
is made with reference to the source of monopoly power, and is
based upon a different principle of classification, so that this second
classification will cut across the first. We have again two main
classes, and these are: A. Social Monopolies; B. Natural Mo-
nopolies. These are further classified as follows :
A . Social Monopolies.
I. General welfare monopolies.
1. Patents.
2. Copyrights.
3. Trade-marks.
4. Public consumption monopolies.
5. Fiscal monopolies.
II. Special privilege monopolies.
1. Those based on public favoritism.
2. Those based on private favoritism.
B. Natural Monopolies.
I. Those arising from limitation of supply of raw ma-
terial.
II. Those arising from peculiar properties inherent in
the business.
III. Those arising from secrecy.
Social Monopolies. Businesses are social monopolies when they
are made monopolies not by their own inherent properties, but either
by legislative ~ enactment or by forming so close a connection with
great natural monopolies that they partake of the nature of the latter.
As already stated, in old times kings and queens frequently
granted exclusive business privileges to favored persons, and per-
mitted no one except those named to engage in such undertakings.
Such monopolies, however, became so odious that sovereigns were
compelled to cease granting them. Governments still create
exclusive privileges by patent and copyright laws, but they do so
in behalf of the general public. Authors and inventors are given
exclusive rights over their productions for a limited period. These
monopolies have justified themselves through the stimulus which
they have given to invention and authorship.
MONOPOLY I95
The trade-mark is a legal monopoly similar to the patent and the
copyright. In connection with lavish advertising, trade-marks
in recent days have been made the basis of enormous profits. 1
Public consumption monopolies and fiscal monopolies call for
a word of special comment. They are to be distinguished the one
from the other only by the object which the government has in
view in establishing them. If the government manages for itself
or grants to another a monopoly of the liquor traffic with the object
of regulating the consumption, the monopoly is a public consump-
tion monopoly. If, on the other hand, the chief object is not
regulation, but income, the monopoly is a fiscal one. Often the
two objects are so blended that it is difficult or impossible to say
to which class the resulting monopoly belongs.
Our classification names two kinds of special privilege monopo-
lies. Those monopolies which are due to special tariff advantages
or to other legislation are rightly said to be based on public favorit-
ism. The other class of special privilege monopolies consists of
those which grow up through special favors granted by other
monopolies, especially natural monopolies, such as railways.
Natural Monopolies. Natural monopolies are those which
depend for their existence on natural forces as distinguished from
social arrangements. They grow up independently of man's will
and desire, and sometimes even in direct opposition to it. The
words which we have used in our classification will sufficiently
explain the different sources from which they arise. By far the
most important of all monopolies are natural monopolies of the
second class, chief among which are the following: wagon roads
1 The full treatment of trade-marks involves theoretical points which would
necessitate a discussion too lengthy for the present treatise. They are used largely
in competitive businesses, and help to establish what is termed good-will. They
are an aid to the shrewd and capable in the general effort to escape what may be
designated as the "dead level" of competition. They are a monopoly not in the
sense of giving exclusive control of one sort of business, but in the strictly legal
sense that no one else may use them. A clever device, coupled with excellence and
advertising, may have very high value. The purchaser of oysters, for example,
may feel that when he buys oysters of a particular "brand" (trade-mark), he is
getting oysters, plus something else ; or, in other words, not merely oysters such
as others sell, but a peculiar excellence which can nowhere else surely be had.
It is merely this "plus something else" that is a monopoly. Great importance is
attached thus to "establishing a brand."
196 OUTLINES OF ECONOMICS
and streets, canals, docks, bridges and ferries, waterways, harbors,
lighthouses, railways, telegraphs, telephones, the post office,
electric lighting, waterworks, gas works, street railways of all
kinds. Whenever there is a decided increment in gain resulting
from combination, -we have a tendency to monopoly -which will over-
come all obstacles. This increment of gain, which is the cause of
monopoly, is always present in businesses that occupy peculiarly
favorable spots or lines of land, and that furnish services or com-
modities which must be used in connection with the plant. This
may be said to be the law of natural monopolies.
Many economists believe that combination and production on the largest
possible scale give a decided increment in gain, and thus produce monopolies
to be designated as "capitalistic monopolies." The question really turns
upon the degree of growth of a business unit which adds to the rate of gain ;
and the position is taken in this book that in most kinds of business the point
of maximum efficiency is reached long before the point of monopoly is reached.
One or two very cogent reasons may, however, be stated. An exhaustive
study of the cases cited in support of the alleged tendency to monopoly in-
herent in large capital has failed to reveal a single one in which the monopoly
did not enjoy one or many of those monopoly advantages which we have al-
ready mentioned and explained. Moreover, many cases in which the pos-
session of large capital seemed on the surface to be a dominating influence,
have been cases in which the monopoly was so short-lived as to furnish little
support to the argument of those who cited them. After all, whatever may be
the advantage conferred by large capital, we must remember that capital is
so plentiful that one gigantic plant can always find a rival whenever a slight
margin of profit invites its establishment.
Our conclusion, then, maybe stated as follows: There is a great
and growing field of industry in which competition is not natural
or permanently possible, for reasons explained in the text; there
is another field within which monopoly does not and cannot exist,
and within which social monopoly is unlikely to arise.
Third Classification
A. Local Monopolies
These are monopolies extending over a relatively small area.
The gas supply of any city is an illustration. There are various
monopolies which are confined to a single locality. Then there
MONOPOLY
I 97
are temporary local monopolies which, under peculiar exigencies,
may arise. Two young men in Chicago a few winters ago
cornered the market on eggs, and made fifteen thousand dol-
lars out of the operation. The weather was so cold that eggs
could not be shipped to the city, and for a few days these
speculators had a monopoly.
B. National Monopolies
C. International or Universal Monopolies
There have been various attempts to secure universal monopoly,
of which the copper monopoly of 1889 affords an illustration.
These are more or less arbitrary divisions, because a protective
tariff may enable a monopoly to exist in one country when the
same article or service is not monopolized in another country.
There are attempts to establish monopolies beyond the nation,
but how large will be the number of cases in which success will
be achieved, remains to be seen. There is no doubt that the oil
companies of the United States and Russia are endeavoring to
establish an international and even a world monopoly.
The area of monopoly is a topic that in an extended treatise would
require an elaborate treatment, for it has a significance which has
as yet not been anywhere adequately presented. We can narrow
down the area of monopoly until nearly every producer of goods
or seller of services has a monopoly. A may be the only seller
of shoes on a particular street of his city or in a particular block
or building on his street. No one is especially disturbed or in-
convenienced by a monopoly of so limited an area. In general,
it may be said that,
The larger the area, other things being equal, the more significant
is the monopoly.
Monopoly Price. Price in general depends upon marginal
utility, and that depends upon the intensity of desire and upon
the difficulty or ease of obtaining goods or services for the satis-
faction of desire. If payment is made in money or in money in-
struments, price depends on the relative abundance of the supply
198 OUTLINES OF ECONOMICS
of money and its instruments. 1 We see that price, then, depends
upon limitation of supply in all cases, because it is the limitation
of supply which gives us the utility of a particular concrete good, or
our marginal utility. As the supply increases, the desires satisfied
are of a lower and lower order until the point of satiety is reached,
where all desires are satisfied and where value entirely disappears.
We now reach the chief peculiarity of monopoly price, which is
found in the power of the monopolist over supply. The very con-
cept of a unified control over business means power to control
and limit supply. Supply is limited by the monopolist at that
point where he gets the greatest returns, and if he receives surplus
returns, they are due to the fact that he is in a position to compel
men to forego satisfaction.
Under competition in the case of freely reproducible goods,
supply is limited by cost of production. If the cost of production
were nothing, there would be no limit to supply until all wants
were satisfied. Competition in its very nature means that supply
is not within the control of a single producer; and this fact gives
us the protection that competition affords to society; and it is
on this account that the courts regard competition as one of the
main pillars of our present social order.
Now as the supply is not determined as under competition by
the cost of production, it is determined by the desire of the mo-
nopolist to secure the maximum of revenue possible in the existing
state of demand. In other words, the monopolist, freed from com-
petition, and governed only by demand, is able to adjust supply to
demand in such a way that the price will stand at the point of
highest net return. In determining what price shall be fixed and
what quantity supplied, in other words, what is the point of
highest net returns, the monopolist consciously or unconsciously
proceeds according to the following principles :
i. He realizes that, other things being equal, every increase of
his monopolized product will result in lowering its price, while
every decrease in the supply will result in a higher price.
1 And abundance of money will depend upon marginal cost of production of
the precious metals. This subject is treated elsewhere, as also the general subject
of price, which is here presented only in abbreviated form for present purposes.
MONOPOLY
199
2. Of the expenses of production there are some that in a well-
organized business vary roughly in proportion to variation in the
supply. It will frequently happen that if the product is doubled,
the cost of raw material will be about doubled. Such expenses
may be called variable expenses.
3. Other expenses, within the limits of maximum efficiency,
remain more nearly the same, no matter what may be the amount
of the product. These, called the fixed or constant expenses,
include the cost of plant, salary of superintendent, interest on
bonds, etc.
It follows from the above principles that the monopolist, in a
case of this kind, since he is seeking the maximum net revenue
from his business, will pay little attention to fixed charges in
establishing the price of the product, but will consider chiefly
the variable expenses in connection with the probable demand
for his goods at various points. 1
An Illustration. We may illustrate by an example the opera-
tion of these principles. The following table shows in parallel
columns the number of sales of a monopolized good at different
prices; the total resultant earnings; the variable expenses; the
fixed expenses; the total expenses; and finally, the net revenue or
monopoly profit :
S
M
O
H
fa S3
t
M
sl|
SB
2 W fc
< 15
s a
< 1
H < S
s
g s
^ u
^ S
^ s
H S
z.
H
H
8
w
9
OS 0* ^
o S
h
5 "
M
P-t w
H <
< x g
H < x
fa X
H x
R
P
W
> w
> W
H
M
&
S5
!s
$.10
600,000
$ 60,000
$.03
$ 18,000
$50,000
$ 68,000
-SS.cco
.09
800,000
72,000
03
24,000
50,000
74,000
2,OOO
.08
1,200,000
96,000
3
36,000
50,000
86,000
+ 10,000
.07
1,800,000
126,000
.O^
54,000
50,000
104,000
+ 22,000
.06
2,500,000
150,000
.O "?
75,000
50,000
125,000
+ 25,000
5
3,500,000
175,000
3
105,000
50,000
155,000
+ 20,000
.04
5,500,000
22O,OCO
03
165,000
50,000
215,000
+ 5,000
1 This subject would require further treatment in a larger work, but the limit
of space and proper proportions compel us here to confine ourselves to the broad
general statement.
200 OUTLINES OF ECONOMICS
Study of the table will show why, in the case assumed here, the
monopoly price will stand at six cents. Competition, if it were
present, would keep on increasing the supply as long as normal
profit could be obtained. In our illustration the lowest price at
which production could be carried on so as just to secure a profit
above the expenses of production would be four cents; and four
cents would therefore be the competitive price, or the price deter-
mined by the balancing of marginal utility against marginal cost
of production. But since the monopolist has such control over
the production that he can control the supply, he will cut off pro-
duction at 2,500,000 units, at which point demand will fix a price
of six cents, and will give the largest net return, viz. $25,000.
But the case here assumed is one that is far simpler than the cases frequently
presented by real life. We should have to take many different illustrations
even to approximate the rich complexity of economic life. We have, for
example, assumed constant fixed charges, and such an assumption is one that
is frequently helpful, because it often corresponds to actuality. But "fixed
charges," so called, are, from the long-time point of view, variable. The
constant charges of a street-railway system imply a street-railway system at a
particular time and place and a street-railway system of a particular kind,
e.g. one with single track and switches. If a street-railway system is enlarged
so as to necessitate "double-tracking" and a new power plant, we will have
new fixed charges. But anything like an exhaustive discussion of these
points requires so much space as to be suitable only for special treatises. 1
The Effect of a Tax. Our numerical illustration may be made to convey
a lesson regarding the influence of taxation upon monopolies and monopoly
price. Fixed expenses have no influence in determining the price. If,
therefore, a fixed tax, say of $5000 a year, were to be laid upon this monopoly,
it would not result in an increase of price. A study of the table will show that
with such a tax the net revenue at price .08 would be $5000; at price. 07,
$17,000; at price .06, $20,000; at price .05, $15,000; at price .04, nothing.
Thus price .06 will still be the point of maximum net revenue, and hence the
monopoly price. On the other hand, a variable tax, for instance, a tax of one
cent per unit, would result in this case in raising the monopoly price. In
our illustration, such a tax would make the net revenue at the price .08,
$2000; at the price .07, $4000; at the price .06, nothing; at the price .05,
$15,000. Thus, though the monopoly would find its profits greatly curtailed
by such a tax, consumers would be compelled to pay one cent more per unit
for the monopoly product. The possible advantage which society might
1 See references to literature at the close of the chapter. See also the treatment
of Constant and Variable Expenses in Chapter XII on Value and Price.
MONOPOLY 201
draw from the tax would therefore be wholly or in part offset by the increased
cost of the commodity. Such a raising of the price will not take place, however,
if the demand at the higher price is not sufficient to make as great a net
revenue as at the lower price. We may conclude, therefore, that fixed taxes,
or taxes on the net revenue of a monopoly, cannot be shifted wholly or in part
by a change in price ; while taxes laid in proportion to the amount of business,
since they contribute an addition to the variable expenses, may be wholly or in
part shifted by a change in price.
A Law of Monopoly Price. It is sometimes said that the price
of a monopolized good depends solely upon the will of the monop-
olist. In the strict sense of the phrase this is not true. As our
explanation has shown, the monopolist is forced by economic mo-
tives to establish such a price as will give the maximum net reve-
nue. There are certain conditions on the side of demand which
therefore have a decisive influence in determining monopoly price.
We may group the most important of these in a general statement
which may properly be called the law of monopoly price: The greater
the intensity of customary use of the monopolized commodity or
service, the higher the general average of economic well-being, and
the more readily wealth is generally expended, the higher will be
the monopoly price which will yield the largest net returns.
The phrase, intensity of customary use, may require explanation.
It signifies simply the strength of custom with respect to the use
of a monopolized article. If the people of France, for example,
are accustomed to use large quantities of tobacco, there a gov-
ernment monopoly, and if they cling with a high degree of in-
tensity to this custom, it will obviously be possible profitably to
raise the price a great deal above competitive price; whereas, if
the custom is one that is relatively weak, that is, weak as com-
pared with the force to which they cling to their customary con-
sumption of other articles, a very high price will so diminish
consumption as to lessen net profits.
Thus monopoly, without any effort of its own, shares in the in-
creasing wealth of a country, and absorbs a considerable part of
it. It is, for example, among other influences, the larger wealth
and the greater willingness to spend freely that makes monopoly
more profitable in the United States than in Germany or other
European countries. The search for other illustrations of the
202 OUTLINES OF ECONOMICS
law should prove an interesting and valuable exercise for the
student.
Class Price. Thus far we have assumed that the monopolist
charges one uniform price and sets the price at the point which
yields him the largest net returns. But it is obvious that his gains
will be increased if he is able to vary his price. His gains would
be highest if he could charge each individual that price which would
yield the largest net returns, taking into account the number of
sales and profits on each. A rich man and a free spender might
pay double the current rates for gas or electric light without
diminishing his consumption in the least. But in the case of any
large modern business it is obviously impracticable to fix a price
for each individual, even were there no legal difficulties in the way,
as there are in the case of the great monopolistic businesses such
as gas and electric lighting, railway transportation, etc. The
next best thing for the monopolist is to divide his public into classes,
and to charge to each class that price which will yield the largest
net returns. In the table already given, we found that six cents was
the monopoly price on the hypothesis of one uniform price, but
obviously, if the eight-cent and seven-cent prices could be secured,
and six cents reserved as a price for sales that could not be made
at eight or seven cents, the profits would be still higher. This
gives rise to what, in its broad, general terms, we call class price.
The monopolist seeks in every possible way to divide his community
into classes and to secure from each the highest possible price.
We observe a remarkable development of class price in the case
of our railways; and, unless legal obstacles are interposed, this
development will doubtless go still farther. We have special
trains with an extra charge. We have privately owned railway
coaches; our drawing-rooms and single seats in "parlor cars";
our ordinary first-class tickets ; and our second-class tickets, the
purchasers of which frequently ride in the " day coach " with
the first-class passengers. Then we have single tickets, fifty-trip
family tickets, monthly commutation tickets, etc., with enormous
variations in price. We may go farther and say that the whole
American railway rate system of " charging what the traffic will
bear " is a consummate example of monopoly prices.
MONOPOLY
203
Nor need it be supposed that in all its ramifications class price
is a bad thing. It is, when ignorance and need are exploited by
a special high price ; frequently it works well when an attempt
is made to reach a class of limited means with a very low price,
as in the case of early and late workingmen's trains, etc.
Monopoly price will vary with use also ; and this is one special
subhead under class price, and may be designated as use price.
The typical instance is that of two prices frequently charged for
gas : a higher when it is used for illuminating purposes ; a lower
when it is used for fuel.
Monopoly price necessarily varies from country to country,
from place to place, and from time to time. This follows neces-
sarily from our law of monopoly price, and is a matter of familiar
observation. The monopoly price yielding the highest net returns
is lower among the careful, prudent Germans with relatively small
incomes than it is among the free-spending Americans with rela-
tively large incomes often easily earned.
A difficulty suggests itself at this point, and this is found in the
departure from uniformity of price of non-monopolized articles and
services. We have to consider the question: Are the apparent
class prices in competitive businesses class prices in the true sense
of the term ? If so, wherein does the competitive class price differ
from the monopolistic class price? To answer this question we
must first of all consider the distinction between what we may
term " commodity competition " and " business unit competition."
When we speak about commodity competition, we have refer-
ence to that competition with respect to a commodity which gives
uniform price, if competition works perfectly. We think of the
great staples like wheat and wool, those staples which have a
world market. But the competition between retail business men
is a competition of a different sort. It is the competition of one
business unit as such with another business unit as such. It is
a kind of competition that exists between the grocers in the same
city, or mammoth department stores in New York and Chicago.
It is competition which is frequently very sharp ; but even when it
is the sharpest, it does not mean in retail trade real commodity
competition. It does not mean that the prices of all goods sold
204 OUTLINES OF ECONOMICS
are the same, but it means this: where we have sharp competition
the gains are in proportion to expenditure of economic energy,
using that term " economic energy " as a composite term imply-
ing a certain output of economic force, whether this takes the form
of labor or capital or business management.
Each one of the business units will make a specialty of some
one line of commodities upon certain days. Special prices will
be offered ; but that means something very different from the class
price which we have considered in our discussion of monopoly.
Every one will agree that that is the case. The consumer considers
very generally the prices charged as a whole. He knows very well
when he goes to one retail establishment that for a certain par-
ticular article he may be paying a little bit more than he would
pay in some other store ; but the retail purchaser as a general rule
does not consider each individual price, but he considers all the
prices that he pays. It is intolerable for the consumer to go
about a town searching for the lowest price of every little com-
modity, to buy a paper of pins at one place because it is a little
cheaper than at any other place, to buy a pound of butter at one
place, a pound of sugar at another. People do not ordinarily
do that.
Now each retailer looks upon his business as a unit. He tries
to derive from the business as a whole the greatest profit. Each
one is putting his capacity into the business. One says, " I can
do better if I sell this article at cost, or if I sell that article some-
what below cost." It was not very long ago that' a large depart-
ment store in New York City sold the popular magazines at less
than was paid for them. That was not a class price in any sense
of the term. That was a certain expenditure for advertising
purposes.
To some extent people do go about and try to get all the special
prices in each particular establishment, but that is not done usu-
ally, so far as purchases as a whole are concerned. On the other
hand, there is a limitation very often in the arrangement that a
store will sell only so much one pair of gloves or so many yards
of silk at a special price to one customer. But we are dealing
here with a different sort of phenomenon from class price.
MONOPOLY 205
In wholesale business there is an attempt to unite the business
unit competition and the commodity competition. Here the pur-
chases are very much larger, and a person does not hesitate, to
a certain extent, to go from one wholesaler to another wholesaler
to make a particular purchase of some articles. Many persons
would be a little bit ashamed to divide their groceries among a
half-dozen grocers so as to get at each place the articles selling at
a special price. When we have a unity of these two sorts of com-
petition, then we have what we may call perfect competition,
where we have a competition between the business units which
includes a commodity competition, so that all articles are selling
at the same price and each dealer has net returns in proportion
to what he puts in of economic energy.
It is in the nature of competition to cater to various economic
classes in the community, and this is an entirely different phenome-
non from that in the case of the gas company charging two different
prices for an article according to the use to which it is put. Every
retailer considers the class to which he will cater. Retailers tell
us that such is the case. One will say, " We try to cater to the
fashionable, wealthy people, the high-toned people." Another
will say: " I do not try to reach the so-called ' best people ';
I try to cater to the middle class. My training fits me better to
cater to this middle class than to cater to the fashionable people.
If I find that I can do this too, very well; but I especially cater
to the middle class." 1 We find that at stores like Marshall Field's
they recognize the various classes of the community and try to
reach the various classes of the community by their basement
department, and by their first floor, and the upper floors. But
that does not mean the absence of competition in the business as
a whole; but, taking the business as a whole, it competes with other
retail establishments in Chicago. Here we have a different class
1 It must not be overlooked that there is a variation in cost of doing a retail
business dependent upon the class of people to which a particular retailer caters.
Over against the higher prices charged, let us say by a fashionable grocer, we have
to put the higher quality of service. People of wealth and fashion require prompt
service, involving expense. Also, frequently the shops that cater to fashionable
people give very long credit and lose heavily in many cases. These are consider-
ations of a different kind from those mentioned in the text.
206 OUTLINES OF ECONOMICS
price from that we have considered. We have a competitive class
price which, if the competition is perfect, yields no surplus. This
does not mean that some will not gain more than others in com-
petitive business. The gain is in proportion to the output of
energy.
Monopoly Price High Price. It is often said, and frequently
even in judicial decisions, that the monopolist can charge any price
that he pleases. We have already seen that this is not the case.
The law of monopoly price shows that the price, even in the case
of monopoly, is determined by economic forces. It is conceivable
that there may be cases in which monopoly price will exactly coin-
cide with competitive price, although the probabilities would be
against a frequent coincidence of this kind. There are also cases
where monopoly price may be even lower than competitive price.
If a monopolist should be able to effect great savings as compared
with the expense of doing business under competition, it could
theoretically happen that the price which would yield the largest
net returns would be a lower price than would be possible under
competition. Probably, and in fact almost certainly, under a
condition of competition, letters could not be carried as cheaply
as they are.
Generally there are strong reasons for the position that mo-
nopoly price is high price. Monopoly is formed for the sake of
gain. Gain may be secured in two ways by monopoly : first,
through economies of production; and it is alleged by trust pro-
moters that these economies are a chief motive in their activity.
There are some gains of this kind, but it is too early to say precisely
what they are. When we compare a monopolistic business with
a competitive business organized on such a scale as to secure the
maximum of efficiency, the gains of competition in alertness and
inventiveness, stimulated by rivalry, have recently been too little
considered.
The second source of gain in monopoly is found in the ability to
charge high price. In confirmation of the position that monopoly
price is high price, we may refer to history, the utterances of which
seem to be clear and distinct. At any rate, there can be no doubt
that, in the opinion of historians who have treated the subject,
MONOPOLY
207
monopoly means high price. Hume, in his treatment of monop-
oly in his History of England, speaks of the price of monopolized
articles as exorbitant, and cites the price of salt, the price of which
had been raised by monopoly tenfold and even more. The pro-
duction or sale of salt, or both, is frequently a government mo-
nopoly, and it is generally conceded that in all cases of monopoly
the price has been so extremely high as to be a real popular griev-
ance; and it is generally necessary to inflict severe penalties to
prevent the people from securing the salt at a lower price from
non-authorized sources. But of still greater significance are the
results of the investigations of the Industrial Commission of the
United States, as seen in the Preliminary Report of 1900 (Vol. I
of the complete report). It is there made evident that when
monopoly appears in a form at all clear and well-defined, the
tendency is plain to increase the margin between the prices of
finished products and raw materials. 1
The courts of the world have made it clear in their judicial ut-
terances that they regard monopoly price as high price; and, as
their opinions are based upon cases actually brought before them,
we cannot do otherwise than attach great importance to their
view.
Wherever commissions have been formed with power to regulate
monopoly price, and these commissions have been comprised of
independent and strong men, there has been a marked tendency
to reduce monopoly price; because unregulated monopoly price
has been found to be excessive and unjust. The judicially minded
Railroad Rate Commission of Wisconsin affords an illustration.
This Commission has authorized a higher price in a few cases, but
generally has been forced to lower prices, although in the notable
case of passenger rates it did not go so far as the legislature. The
investigations of the Railroad Rate Commission led the members
to believe that a reduction from three cents to two and one half
cents per mile for all the leading railways in Wisconsin was just;
whereas, subsequently, the legislature lowered the rate to two cents
1 See Report in Vol. I (Industrial ^ Commission), by Professor J. W. Jenks.on
" Industrial Combinations and Prices," pp. 39-57 ; and also Chap. VIII, " Prices,"
in the same author's work, The Trust Problem.
208 OUTLINES OF ECONOMICS
per mile. But even the decision of the Commission (which was
accepted by the railways) was a reduction of over 16 per cent.
Investigations held have resulted very generally in a lower price
for gas. All important investigations of street-car service in the
great cities of the United States have terminated in the conclusion
that the monopoly price of five cents per passenger is a high price.
The recent settlements with the street-car companies of Chicago
have been based upon an agreement to maintain a five-cent fare
and to give to the city of Chicago 55 per cent of the net gains.
According to the statements of the interested parties, even this will
leave a very handsome return for the owners of the street-car
properties.
In the next place, we refer to the experience and observation of
men when they have had dealings with well-defined monopolies.
The express companies and the oil business afford illustrations
falling within the experience and observation of nearly all readers
and students of this work.
Monopolies and the Distribution of Wealth. We have not the
precise statistical data which will enable us to state the exact
influence of monopoly upon the distribution of wealth. We have,
however, sufficient data to warrant the opinion that the high
price of monopoly and the gains resulting from the exclusive posi-
tion of the monopolist give us a large privileged class in countries
of modern civilization, but especially in the United States. An
advantage of the monopolist in the United States is found in the
law of monopoly price, coupled with the failure to regulate monop-
oly as carefully in our country as it has been regulated in Europe,
generally speaking. Ours is a country in which there is large
wealth, in which wealth is easily acquired, and in which conse-
quently people spend freely. Monopoly price must, then, be excep-
tionally high price and yield exceptional gains. Even when the
increment of price is comparatively small, it has large significance
in the case of the sale of a vast number of units of services or com-
modities. The difference between a four-cent street-car fare and
a five-cent street-car fare may not appear to be great, but it is a
difference of 25 per cent and is enormous.
All the many investigations that have been held recently in
MONOPOLY
209
various lines of business (especially in railways, beef industry,
coal mining, etc.). point to monopoly as a prime cause of the so-
called swollen fortunes of this country. In this and other countries
some histories of families distinguished for wealth have been written,
and probably few if any cases could be found in which some mo-
nopoly element had not entered. Various lists of rich men have
been published, among them one published by the New York Sun
in 1855, and one published by the New York Tribune in 1892.
These lists cannot by any means be presumed to be accurate, and
yet they do afford very considerable evidence of the sources of
large fortunes, and point to monopoly as a prime cause of the mod-
ern enormous fortunes. This is a subject which in itself would
require a larger book than the present one for adequate treatment.
The student must attempt by observation and study to carry for-
ward the lines of investigation and thought here suggested, being
constantly on his guard against undue haste in generalization.
Public Policy with Respect to Monopolies. It is possible to
throw out only a few suggestions in this place. As many monopo-
lies have come as a result of underlying laws of industrial evolu-
tion, they cannot all be abolished. Experience and the nature of
industries like railways, gas works, etc., falling under the head of
" public utilities," so called, should be conclusive. We must have
monopoly in these cases, and the only question we are concerned
with is, " What kind of monopolies shall we have ? " Again, we
cannot abolish monopoly simply as a result of legislative enact-
ment. The anti-trust laws of our states, so generally failures,
should be conclusive as to this point. On the other hand, legis-
lation is not powerless, but it must be in accord with the laws of
industrial evolution. The problem is abolition of undesirable
monopoly where this is feasible; and very generally regulation
rather than destruction. Here, again, we have the experience
of the United States and of other modern nations as confirmation.
We may, to begin with, admit that unregulated monopolies in
private hands have always been odious and are opposed to the
principle of the laws of civilized nations. They are opposed to
that endeavor to secure equality of opportunity which is funda-
mental in modern democracy and which manifests itself as a red
210 OUTLINES OF ECONOMICS
thread running through American history. Even George Wash-
ington, generally looked upon as so calm and self-contained,
denounced monopolizers and wished they might be " hunted down
as pests of society " and " hanged on a gallows five times higher
than the one prepared for Haman." * It is not so much high price
that disturbs the modern man as it is inequality of opportunity;
and this general sentiment has been very clearly and forcibly
expressed in court decisions. It makes little impression upon the
American public when it is attempted to show that the Standard
Oil Company has lowered price. The enormous fortunes to which
it has given rise suggest that price has been higher than it should
be, yielding far greater than competitive gains; but even if it could
be proved that the price had been voluntarily lowered, it would
not be convincing, because we are disturbed by the alleged engross-
ment of opportunities by a few members of the community and
not open to others. Nor would it satisfy the American public to
be convinced of the sincerity of the professed benevolence and of
the personal integrity of the leaders of this gigantic undertaking.
The question is one of the action of economic forces, largely im-
personal; the leaders are often really coerced by these forces;
and from one point of view are to be looked upon as their
victims.
Obviously, the first step in a treatment of monopolies is to dis-
criminate between monopolies owned and operated by organized
society (that is, nation, state, or city, and managed in the general
interest) and private monopoly. If it is true that a certain portion
of the industrial field is naturally monopolistic, special privilege
can be removed by government ownership. This is the first and
most obvious method. The difficulties of government ownership
are such, however, that another method is by many advocated
as preferable and is, as a matter of fact, being thoroughly tried
in the case of railways in the United States. And that is the method
of public control of monopolies privately owned and operated.
The public control, to secure equality of opportunity, must so
regulate monopolies and limit price that the gains will be no higher
than those produced by equally wise investments and equally wise
1 Bullock, Essays on the Monetary History of the United States, p. 67.
MONOPOLY 211
and prudent management in the field of competition. 1 Some-
times it is stated that owners of railways and other monopolistic
enterprises should have a competitive return upon all the money
that they have invested. This would give them a position of spe-
cial privilege, inasmuch as in the competitive field a great deal of
money is lost. It is only wise investment and careful management
in the field of competition that can secure returns equal or supe-
rior to the current rates of interest. Imprudently invested capi-
tal is lost in the field of competition; and when it is imprudently
and unwisely invested in the field of monopoly, it cannot justly
claim any return.
Finally, democratic sentiment demands that there should be no
needless extension of the field of monopoly through favoritism,
as seen in rebates and special rates of railway transportation com-
panies.
The Relation of Monopoly to Trusts. The development of
industry is treated elsewhere in this work, and it is shown that, as
a result of the forces inherent in industrial society, we pass over
from labor aided with few and simple implements, scarcely more
than an extension of hands and feet, so to speak, to labor aided
by increasingly complicated and costly tools, and then we find
labor supplemented and even replaced by machines, ushering
in the era of capitalism; and, as this transition is made, industry
is conducted on an ever larger and larger scale. The business unit
grows from the small, isolated shop to such a mammoth concern as
the United States Steel Corporation, owning an appreciable propor-
1 This does not mean that in the case of old enterprises price must always be so
reduced that the gains shall yield a competitive return only on the physical value
of a plant. The principle of vested rights or interests has to be given a certain
r&le. These have often been created by society rather than by private persons, and
faith must be kept. In the case of railways and the telegraph, the American nation
and states have deliberately encouraged a wasteful policy of competition which
is in large measure responsible for high capitalization. It would not be right
to place upon holders of these properties all the burdens of a mistaken public
policy in the past. What is needed is to declare a public policy for the future
and to base returns for the future upon future actual investments in the case of
public utilities. In any case, we should have a physical valuation of railways,
gas works, etc., as a help in determining fair prices for present and future. Now
and here we can do no more than to throw out these suggestions in regard to a
pressing present problem of great magnitude.
212 OUTLINES OF ECONOMICS
tion of the wealth of a vast nation. These large business units, as a
result of evolution, are commonly designated as trusts; but they
present simply the problems of large-scale industry unless they com-
prise elements of monopoly. This indeed very often, perhaps usually,
happens in the case of the largest industrial establishments. They
have been aided by rebates and other favors from railways, and
they have made themselves master of peculiarly rich and espe-
cially limited supplies of natural resources, such as petroleum oil,
anthracite coal, and the Mesabi iron range. The trust problem
resolves itself into two classes of problems: first, the class of prob-
lems belonging to large-scale business; and second, the class of
problems falling under monopoly. The discussion of so-called
trusts can be profitably considered under these two categories.
There is no magic in the mere word " trust," although it seems to
have power to awaken alarm and has helped produce precipitate
legislative action; whereas action must be preceded by an analy-
sis of the trust problem into its proper elements to make possible
its satisfactory solution.
QUESTIONS AND EXERCISES
1. Has bigness anything to do with monopoly? Do you know any small
business which is a monopoly ? Do you know any very large business which
is keenly competitive? Contrast a state of competition with a state of
monopoly.
2. Define monopoly and discuss each point in the definition.
3. Describe as fully as you can the relation of industrial evolution to
the idea of monopoly.
4. Do you think that monopolists now show a worse spirit than formerly ?
a better spirit? Describe the monopoly established by Joseph in Egypt.
(Genesis, Chap, xlvii). What good effects did it have? Is it apparent
that it had evil effects?
5. What do we understand by partial monopolies ? What is there, strictly
speaking, illogical in the term ? Is this a sufficient reason for not using it ?
6. Contrast land-ownership with monopoly.
7. Explain the importance of classification of monopolies, and especially
of distinguishing between private and public monopolies.
8. State the main classes of monopolies, and give the divisions and sub-
divisions in each class.
9. A public tobacco monopoly exists in France and produces large revenues.
The business is said otherwise to be well managed. Do you see any benefits
MONOPOLY
213
that would accrue from the establishment of such a monopoly in the United
States? any evil effects?
10. Define monopoly price and show how it is determined.
11. What does class price mean? Compare monopoly class price with
competitive class price. Explain "use price."
12. Contrast "commodity competition" with "business unit competition."
13. Why do we think of monopoly price as high price ? Do you know any
monopoly price which is a low price? What do you mean by high price?
by low price ?
14. What relation has monopoly to large fortunes? to small fortunes?
W T hat, if any, to poverty?
15. What is the wise public policy with respect to monopolies ?
16. Describe the relation of trusts to monopolies.
LITERATURE
BAKER, C. W. Monopolies and the People, Part II.
BULLOCK, C. J. Introduction to the Study of Economics, Chap. XI. " Trust
Literature : A Survey and Criticism." Quarterly Journal of Economics,
Vol. XV, 1901, pp. 167-216. Reprinted in Ripley's Trusts, Pools,
and Corporations, pp. 428-473.
ELY, R. T. Monopolies and Trusts, Chap. Ill, pp. 102-104; also Chap. VI,
pp. 229-231.
HOBSON, J. A. Evolution of Modern Capitalism, new and revised ed., 1907,
Chap. IX.
JENKS, J. W. The Trust Problem.
National Civic Federation Report, 1907 : Municipal and Private Operation
of Public Utilities. 3 vols.
PRICE, W. H. The English Patents of Monopoly.
Report of the Chicago Conference on Trusts.
Report of the United States Industrial Commission, Vols. I and II.
RIPLEY, W. Z. Trusts, Pools, and Corporations; Railway Problems.
SHAW, ALBERT. Municipal Government in Great Britain; also, Municipal
Government in Continental Europe, Chap. VI.
CHAPTER XIV
MONEY
THE vast system of valuation and exchange, which is the most
characteristic single feature of present-day economy, rests upon
the use of money. Some economic writers have pictured an im-
aginary primitive state of "barter economy," in which, before the
use of money, goods were exchanged directly for goods. But what
little definite information there is on this point leads to the belief
that about as soon as men began to exchange things, and conse-
quently to attach exchange value to them, they began to use some
kind of money some commodity or commodities for which things
were generally exchanged, and in terms of which the values of other
things were generally measured.
These earliest forms of money were crude and simple, but they
sufficed to meet simple needs. As exchange economy has ad-
vanced through the growth of individual and industrial specializa-
tion and the localization of industry to the present complex division
of labor, the monetary system has developed pari passu, the most
conspicuous feature of this development in modern times being the
growing importance of credit as a means of effecting exchanges.
Industrial and commercial progress has led to monetary progress,
and has, in turn, been stimulated and made possible by it.
Various Meanings of the Word "Money." The word "money,"
like so many other terms with which economics has to deal, has
in common usage no restricted technical meaning, but may denote
any one of a number of different things. It sometimes means
individual wealth of any sort. A "monied" man is simply a
wealthy man. This is, however, only a colloquial and purely de-
rivative meaning. A second, and very common, use of the word is
in the sense of generally exchangeable purchasing power, whether
214
MONEY
215
this be embodied in concrete forms of money, or exist only in
the intangible form of credit. Money in this sense is synonymous
with "money funds." The "money market" is the market for
loanable money funds. When we speak of "money income,"
"money expenditures," "money investments," etc., we refer to
this exchangeable purchasing power.
Other meanings of the word " money " suggest that, for some
purposes, a distinction may he made between "money" and
credit instruments. But to look for any definite line of demar-
cation, consistently followed in common usage, or even in eco-
nomic writings, would be a vain search. The element of credit
is found in most forms of money, even, as we shall see, in some
kinds of metallic money. A useful and important distinction, how-
ever, is made by the very common practice of restricting the term
"money" to those instruments of general acceptability which pass
freely from hand to hand as media of exchange. The particular
things included in this third concept of money vary for different
periods and for different countries. In the United States this
freely exchangeable medium includes the metallic and paper money
issued by the federal government, together with national bank notes.
Checks drawn by individuals upon their bank accounts are not
money, or money instruments, in this sense, because they do not
pass freely from hand to hand as media of exchange. They can be
used only in making payments to persons who know and have con-
fidence in the drawer, indorser, or holder of the check.
This third meaning of the word " money" possesses, as has been
suggested, the sanction of a very common and prevalent usage; it
corresponds, moreover, to the technical definition given to the word
by many economic writers, and to the official usage of the United
States Treasury. Some writers, however, have drawn the line
between money and other means of payment somewhat differ-
ently, either refusing to count bank notes as money, thus limiting
the term to money instruments issued by the government, or nar-
rowing the application of the term yet further by using it to denote
only metallic money, all other media of exchange being counted
only as promises to pay money.
Yet another, and still more restricted, meaning is attached to the
2l6 OUTLINES OF ECONOMICS
word when it is employed to denote only that part of the stock of
metallic money which serves as a standard of -value as well as a
medium of exchange. Although this extreme limitation of the
meaning of the word " money" is neither common nor justifiable,
the distinction suggested by it is a fundamental one. For, as
we shall see presently, the value of all other media of exchange
is determined by their relation to what is best distinguished by
calling it standard money.
All these different uses of the word " money " imply distinctions of
greater or less significance, but for purposes of economic analysis
the most important concepts are the second, third, and last in the
foregoing enumeration. Recognition of the fact that exchangeable
purchasing power, money instruments of general acceptability, and
the standard of value are different things is indispensable to clear
thinking in this field. In this chapter the word " money " will be
employed in the sense of money instruments of general accept-
ability.
Metallic Money. The earliest and simplest forms of money
were commodities. Particular commodities came to serve as
money, not because they were arbitrarily designated as such by
king or chieftain, but because they possessed some properties which
made them exceptionably exchangeable. In some cases a primi-
tive community came to use a commodity as money because it was
something for which they had a dependable "foreign market" -
something, that is, which they customarily sold to other communi-
ties in exchange for their products. In other cases a commodity
which a community did not itself produce, but which it got only in
the course of trade with other communities, became the money
commodity. Or, if for any reason a particular commodity came
to be particularly esteemed as a mark of wealth or a badge of social
prestige, it was very apt to be used as money. But whatever the
original ground of the choice, a commodity which a community
once began to think of as money had its exchangeability, and con-
sequently its suitability for monetary uses, increased in a cumulative
way, just as to-day most of us are willing to accept anything as
money which we think we can use as money.
A great variety of commodities have at one time or another been
MONEY
217
used as money. Some typical examples are cattle, grain, furs, oil,
salt, tobacco, ivory, shells, and tea. But with the advance of politi-
cal and economic civilization the metals have, through the process
of the survival of the fittest, proven themselves everywhere to.be
preeminently and indisputably the best money commodities.
Copper, silver, and gold have each in turn been chosen as the prin-
cipal money metal of the civilized world, the transition from the
cheaper to the dearer metals indicating the growth of exchange and
the consequent need of larger money units.
Metals, and especially the precious metals, have certain qualities
that give them a peculiar fitness to serve as money. They are
durable, easily recognized and tested, and may be divided into
homogeneous units of convenient form and weight. Moreover, as
compared with most other commodities, the precious metals are
relatively stable in value a fact that arises in part from their
durability, for any one year's output of the mines makes but a
comparatively small addition to the total stock of metallic money.
Coinage. When metals were first used as money, they passed
from hand to hand simply by weight, or, in some cases, in the form
of ornaments. Coinage speedily developed, however, as a con-
venient way of certifying to the weight and fineness of money units. 1
Such a guarantee is naturally of little avail unless it is generally
recognized as authoritative. On this account the coinage of money
has almost universally been regarded as a prerogative of the sov-
ereign. In England, even under the divided sovereignty of the
middle ages, the coining of gold and silver was generally a privilege
belonging to the king alone. The lesser feudal lords and the char-
tered cities issued token coins, made of the baser metals, and in-
tended especially for local use, but if they possessed the right of
coining the precious metals, it was through a special grant of the
king.
Seigniorage. Sovereigns have in the past very often viewed
the monopoly of coinage as an opportunity for personal profit. By
1 The names of many ancient coins and of some modern ones are also the
names of weights, although it has generally happened that through successive
debasements of the. coinage these names have lost their original significance.
The Greek talent, the Jewish shekel, the Roman as, the English pound, and the
French livre are familiar examples.
2l8 OUTLINES OF ECONOMICS
calling in the stock of metallic money in the country for recoinage,
they have frequently reduced the weight of coins without changing
their nominal value, thus increasing the number of coins, so that a
handsome profit was netted for the royal treasury. Debasement
of the currency was a favorite financial expedient of Henry
VIII, of England, and of Philip the Fair and Louis XIV, of
France.
Somewhat less reprehensible in theory, although amounting to
about the same thing in its effects, was the common practice of
making a charge for coinage, called seigniorage. This practice
was based on the idea that it was possible to maintain a dif-
ference between the value of a coin and the value of the bullion
put into it. 1 A great deal has been written about the possibility
of seigniorage, for the subject is one that involves considerations
that are fundamental in monetary theory. It has been often said,
for example, that it is the "government stamp," rather than the
metallic content, that gives value to a coin. Leaving aside the
matter of limited or subsidiary coinage (which will be considered
presently), we may dispose of this statement by saying that if it
means that the use of certain metals as money decreases the supply
of them available for other purposes, and thus increases their value,
it is a truism; but if it means that in coinage we can add an arbi-
trary and intangible element of value to the metallic content of the
coin, the statement is a false and misleading doctrine that has been
disproved over and over again by the monetary experience of
almost every country.
There is, however, a stronger statement of the theory of seignior-
age. If the only way in which I can convert bullion into a medium
of exchange is by being content with 750 ounces of money for every
looo ounces of bullion I take to the mint, will not the coins have a
value one third greater than that of the metal they contain ? May
not their "metallic content" be said to be, in a figurative sense,
one third more than their weight, because they cost me that much
more in bullion? If their bullion value sinks below this point,
bullion will not be brought to the mint, as it would be worth more
1 Under Philip the Fair, of France, the seigniorage charge went as high as
50 per cent. Charges of from 2 to 15 per cent were more common.
MONEY
219
than the coins one could get for it ; just as when the value of the
coins rises above this point the supply of bullion would be stimu-
lated so that as a result the value of the coins would tend to maintain
this fixed relation to the value of bullion. Confidence in the sta-
bility of the government may be assumed in this reasoning; and
as a matter of fact, it is probable that in a completely isolated
community the government could, through wise and careful regu-
lations, maintain a constant rate of profit on the coinage, with-
out endangering the stability of the monetary system.
The fundamental difficulty with seigniorage is, however, that in
foreign trade coins pass current only as bullion, so that when
seigniorage was charged, the prices of imported goods, measured
in money, were necessarily higher than their prices measured in
bullion, by an amount equal to the seigniorage. It was impossible
that one ratio could long be maintained between the value of coined
money and the value of bullion in domestic trade and another ratio
in foreign trade. The interdependence of the prices of all kinds
of goods prevented that. Money prices, in general, always rose ;
that is, the value of the coins sank to the level of the value of the
bullion they contained. Under these conditions no one would
voluntarily undergo the loss inseparable from taking bullion to the
mint for coinage, and with the cessation of coinage the profits from
coinage stopped. Every possible expedient, short of the absolute
prohibition of foreign trade, was tried by sovereigns in their efforts
to retain these profits. 1 But market forces were found to be
stronger than royal regulations, which at best only served to retard
somewhat the depression in the value of the official coinage.
About the only effective way of getting seigniorage profits was for
the sovereign to admit that the coins in circulation possessed only
their bullion value, and then to call in the currency for recoinage
1 The use of any other circulating medium than the official one was prohibited ;
no one was allowed to sell imported gold or silver, whether in bullion or coin,
save to the royal mint ; if there were mines within the country, they were some-
times prohibited from disposing of their products except to the royal mint ; gold-
smiths were forbidden to melt down coin or to purchase more bullion than they
needed, and this they were forbidden to buy at less than the mint price; restric-
tions were placed on the export of bullion ; these and other similar methods were
tried, but all to no avail. Cf. W. Lexis, article "Miinzwesen," in Handworterbuch
der Stuatswissenschaften.
220 OUTLINES OF ECONOMICS
into smaller pieces, in the manner that has already been mentioned,
thus starting afresh with a new seigniorage charge. The result
was invariably a repetition of the process of a more or less rapid
depreciation in the purchasing power of the coins, leading often to
further debasements of the currency.
Modern nations have abandoned the attempt to secure profits
from their monopoly of the coinage. Since 1666 England has
made no charge whatever for coining bullion into standard money. 1
Most of the countries of continental Europe make a charge just
sufficient to cover the expense of coinage. This charge is some-
times called seigniorage, but it is usually, and more properly, called
brassage. The United States made no coinage charge until 1853,
when a charge of one half of i per cent was made for coining
standard money. This was reduced in 1873 and was abandoned
entirely in 1875. At present the United States exchanges gold
coins, weight for weight, for bullion of standard fineness (nine
tenths gold, one tenth copper) brought to the mint in lots of one
hundred dollars or more in value. For crude bullion, or bullion
not of standard fineness, gold coins are exchanged containing as
much fine gold as is contained in the bullion, less a trifling charge
for assaying, refining, and for the alloy. 2
Instead of viewing coinage as a profitable prerogative of the
government, we have come to view it as a government duty, to be
performed at government expense. The question of seigniorage
versus gratuitous coinage is no longer a live issue. But the student
who has grasped the significance of the lesson contained in the his-
tory of seigniorage has taken an important step toward the under-
1 In practice most of the gold bullion coined in England is supplied to the mint
by the Bank of England, which is required by law to purchase it at the minimum
price of 3 175. gd. per ounce. An ounce of bullion makes 3 175. io$d. in
gold coin, the difference going to compensate the bank for the delay involved in
getting the bullion coined at the mint. In the United States the waiting devolves
upon the government, for gold coins, or, at the option of the depositor, checks
upon United States subtreasuries or upon depository banks are paid to depositors
as soon as their bullion can be weighed and assayed.
2 The coinage mints are at Philadelphia, San Francisco, New Orleans, and
Denver. In addition there are assay offices at New York, Carson, Boise, Helena,
Charlotte, St. Louis, Deadwood, and Seattle, which receive bullion on the same
terms as the mints, plus an additional charge of one eighth of i per cent.
MONEY 221
standing of monetary theory. There is no mysterious element of
intangible value created by the operation of coinage. The coinage
of standard money is now in law, and always has been in fact, a
device for dividing the standard money metal into convenient units
of certified weight and fineness.
The Standard of Value. We have seen in an earlier chapter
that prices are exchange values measured in terms of money.
Goods and services are exchanged for money in certain ratios, and
these ratios constitute the prices of the goods and services. Some
writers have made a distinction between the functions which
money performs as a medium of exchange, and its functions as a
measure of value. These are not, however, two different functions,
but merely two different aspects of the same thing. By the very
process of exchanging a commodity for money, we of necessity
measure its value in terms of money, and only as a medium of ex-
change does money measure value. We may speak of a pound
weight as an instrument used in weighing or as a measure of weight,
but we would all recognize that this refers only to two aspects of
the same thing.
In the United States the actual medium of exchange with which
we measure values is heterogeneous in that it comprises a variety
of coins, made from different metals, together with several kinds of
paper money of many different denominations. But it is homo-
geneous in that first, all these different forms of money are alike in
name, that is, they are dollars, or multiples or fractions of a
dollar, and second, these various kinds of dollars are identical
in value. This familiar and very satisfactory condition of uni-
formity in the units in which we measure value does not, however,
suggest to us the real nature of the value of money in the way that a
less perfect monetary system would.
It would be possible to have a number of different monetary
units, just as the weight or size of an object may be stated in terms
of either the metric system or the English system of weights and
measures. In fact, before the United States had an adequate
monetary system of its own, the actual medium of exchange con-
sisted largely of English, French, Spanish, and Portuguese coins,
and there were as many different ways of stating prices, that is, of
222 OUTLINES OF ECONOMICS
measuring values, as there were units of value. 1 Nor does the
mere name of "dollar" give to different pieces of money a uniform
value. The silver dollar of Mexico is worth only about half as
much as the silver dollar of the United States, although it is of ap-
proximately the same size. More significant, however, is the fact
that in the United States we have had at different times "dollars"
of unequal value.
What is it, then, that gives uniformity to the dollar as a unit of
value in our present monetary system ? To say that various kinds
of money are equal in value because they will purchase the same
amounts of goods is, obviously, to argue in a circle. But the an-
swer is found in the fact that they are interchangeable, and so long
as any number of kinds of money, all named in dollar units, are
freely exchangeable, dollar for dollar, it is impossible that a dollar
in one kind of money should be worth more than a dollar in any
other kind of money. We do not refer here to the fact that the
different kinds of money are exchanged for each other at par in
business transactions and in banking, for this is a result, rather
than a cause, of the uniform value of the money units. The ex-
changeability that underlies the uniform value of our different
kinds of money is maintained by the federal government.
All coins smaller than a dollar are by law exchangeable at the
United States Treasury for "lawful money," which includes gov-
ernment notes, silver dollars, and gold coins. Government notes,
in turn, are simply promises to pay, which are redeemable in gold
at the government Treasury. While there is no definite legal man-
date requiring the redemption of silver dollars in gold, yet the cur-
1 An instructive bit of monetary experience may be found in the efforts of
some of the colonies to reduce this foreign money, especially Spanish money,
to the English system of pounds, shillings, and pence, in which accounts were
generally kept. They were not content with a simple official statement of the
actual ratios between the different value units, but sought to give an artificially
enhanced value to the foreign coins by increasing the number of shillings to which
they were to be considered equivalent. The result was not, however, an increase
in the value of the coins, but a decrease in the value of the nominal "shilling"
in which accounts were kept. This was the origin of the now rapidly vanishing
use of the word "shilling" as equivalent to 12^ cents in some localities and to
1 6$ cents in others. The student may find an instructive parallel in this experi-
ence and the official statements of coin values by which sovereigns tried to retain
their seigniorage profits.
MONEY
223
rency act of 1900 makes it the duty of the Secretary of the Treasury
to maintain all other forms of money at a parity with gold a
requirement which means that he would have to redeem silver
dollars in gold if such action should at any time be needed to
maintain their parity. Gold certificates and silver certificates, are
simply a mechanism for putting gold and silver money into circu-
lation in convenient form. They are analogous to warehouse re-
ceipts, because they represent gold coins and silver dollars that are
stored in the government Treasury to the full amount of the certifi-
cates issued, and which may be obtained at any time in exchange
for the certificates. National bank notes, which constitute a large
part of our actual circulating medium, are redeemed at the federal
Treasury in government notes. In practice the government is con-
tinually receiving all kinds of money, including silver dollars, and
exchanging other kinds of money for them.
The significant thing is that all other kinds of money are exchange-
able, directly or indirectly, for gold coin. In the case of gold coin,
there is* a further kind of exchangeability the unlimited and
free convertibility of gold coin and gold bullion. So long as any
one can secure gold coin in any amount for the same weight of gold
bullion of standard fineness, and so long as gold coin can be freely
melted down into gold bullion, it is impossible that there should be
any difference between the value of a gold coin and the value of its
metallic content. We have, then, not only the interchangeability of
all parts of the circulating medium, but also the positive physical
identity of one part of it and the material of which this part is made.
Gold, whether in coin or bullion, constitutes the standard of value,
for it is the value of gold that fixes the value of the dollar. The
measuring of values in terms of dollars through the exchange of
goods and services for money of different sorts, the equalizing of
the values of dollars in all varieties of money through their ex-
changeability, and the automatic standardization of the value of
the dollar through the free and unlimited coinage of gold l ; these
are the fundamental facts of our monetary system.
1 In fixing the value of coins at the value of their metallic content, unlimited
coinage is of more importance than free coinage, as the history of seigniorage
shows. Some writers have emphasized the importance of the legal tender quality
224 OUTLINES OF ECONOMICS
Gold coins, because their value as bullion is equal to their value
as coins, constitute standard money. The gold dollar weighing
25.8 grains, and containing 23.22 grains of fine gold, is by law the
unit of value. The coinage of the gold dollar was discontinued in
1890, but the gold coins that are minted contain precisely this
amount of gold per dollar.
Limited Coinage. Gold is the only metal which is made into
coins by the United States government for any one who deposits
bullion at the mints or assay offices. All other coins are made
from metal purchased from time to time for that purpose as Con-
gress may direct. In none of these coins is the bullion worth as
much as the coin. In 1878, when the United States began the
limited coinage of silver dollars, the value of the 371^ grains of pure
silver in a silver dollar was about 89 cents. The value of silver de-
clined steadily until 1902, when 371^ grains of silver were worth
only 41 cents. Since that time there has been a slight upward move-
ment, but nevertheless the present (1908) bullion value of a silver
dollar is only about one half its value as a coin. The bullion value
of the smaller silver coins is still less, for they contain but 347.22
grains of silver to the dollar, while the bullion value of our nickel
and bronze coins is yet smaller, relatively.
Such coins are sometimes called "token coins," the implication
being that the fact that they pass from hand to hand at their full
nominal value is merely a matter of habit or usage, supported by
general acquiescence. More accurately, however, they are credit
coins, because the excess of their coin value over their bullion value
depends ultimately, as we have seen, upon the good faith and credit
of the government, evidenced by their redeemability in gold. If,
for example, a catastrophy should overthrow the present federal
government, and if the new government should refuse to recognize
the obligations of the old, nothing could prevent these coins from
sinking to their bullion value.
in this connection. But experience has shown that while the fact that money must
be accepted by a creditor at full value sometimes makes an otherwise undesirable
kind of money a "generally acceptable medium of exchange," it does not suffice
to maintain its value, so far as prices made after such money has been issued are
concerned.
MONEY
225
A very considerable profit accrues to the government from this
limited coinage. The difference between the amount paid for
silver bullion from 1878 to 1907, and the value of the coins made
from it, amounted to $143,000,000. In the accounts of the federal
treasury this profit is called seigniorage, but it is to be carefully
distinguished from real seigniorage, a charge exacted for the
conversion of standard bullion into standard coin. If the federal
government should issue a general balance sheet of the kind used
in corporation accounting, the credit element in its outstanding
limited coinage would properly appear as a liability, which might
be greater or less than the profits that had accrued on such coinage,
depending upon whether the present value of the bullion in the
coins happened to be greater or less than the prices which the gov-
ernment had paid for it.
Bimetallism. A monetary system like the present one of the
United States is a single standard system, because only one com-
modity is used as a standard of value. The double standard system,
under which two different commodities serve concurrently as
legal standards of value, has, however, been used in the past
by many governments, including our own, and its superiority
over the single standard system has been alleged by many advo-
cates. Practically the only commodities that civilized nations
have used as standards of value in modern times are gold and
silver. The question of the double standard resolves itself,
accordingly, into the question of the bimetallic standard, which
means in practice the unlimited coinage of both gold and
silver.
Bimetallism does not mean, in theory, as might be supposed, the
establishment of two different monetary units of different names,
one measured by the value of a certain amount of silver, the other
by the value of a certain amount of gold, prices being measured
according to convenience in terms of either unit. On the contrary,
it contemplates the establishment of one nominal unit, such as the
dollar, to be measured at the same time by the value of either a defi-
nite amount of gold or a definite amount of silver. More concretely
this means the opening of the mints to the unlimited coinage of both
gold and silver into dollars, or dollar multiples, the amount of silver
Q
226 OUTLINES OF ECONOMICS
in a silver dollar and the amount of gold in a gold dollar being
established by law.
Many of the arguments that have been advanced by bimetallists
have related to the alleged immediate advantages to be secured
from the adoption of the double standard under particular condi-
tions of time and place. One argument, however, of more general
significance is based on the probable greater stability in value of
the double standard. Silver and gold are produced under some-
what different conditions, and are used for somewhat different pur-
poses. It has been suggested that tendencies toward fluctuations
in the value of silver and gold would, therefore, be as apt to be in
opposite directions as in the same direction, and that so far as they
were in opposite directions they would tend to counterbalance each
other.
Most opponents of bimetallism, while admitting that, if feasible,
it might possess some advantages, deny its possibility. The diffi-
culty is, they maintain, that while the ratio of the weight of gold in
the monetary unit to the weight of silver in the monetary unit has
to be fixed and definite, the ratio of the value of gold to the value of
silver is not fixed and definite, but is subject to the fluctuations
of the market. If one metal is relatively undervalued and the other
relatively overvalued by the legal ratio, the result will be that only
the overvalued metal will be brought to the mint for coinage, for the
undervalued metal will be worth no more than the overvalued one
as coin, but will be worth more as bullion. The actual result will
be, in such a case, not a bimetallic standard, but a single standard
composed of the metal which, at the mint ratio, is the cheaper.
Moreover, if, by a change in the relative market values of the two
metals, this one in turn becomes undervalued by the mint ratio,
the standard coins composed of that metal that are already in use
will, according to Gresham's law, 1 disappear from circulation,
being hoarded, melted down, or exported, and the other metal will
take its place as the actual standard of value.
1 Gresham's law is that "bad money drives out good,'"' or that "the cheaper
money drives out the dearer." Sir Thomas Gresham, master of the mint under
Queen Elizabeth, came to this conclusion as a result of his observation of the
difficulties encountered by that sovereign in her attempts to improve the condition
of the debased, worn, and mutilated coinage bequeathed to her by her predecessors.
MONEY
227
All but the most extreme bimetallists would admit the impossi-
bility of establishing and maintaining a coinage ratio between the
two metals that would differ by any considerable margin from the
ratio corresponding to their market values, but they maintain that
a mint ratio established as nearly as possible to the prevailing
market ratio will have a steadying influence upon the latter that
will tend to prevent any wide divergence between the two. If one
metal should rise in value to such an extent that it would not pay
to use it as money, more of the other metal would be used for mone-
tary purposes, thus decreasing the supply of it available for other
uses and consequently enhancing its value. The net effect would
be, it is claimed, a tendency toward the equilibrium of the value of
the two metals at the coinage ratio.
The appeal to history has been used both by bimetallists and
their opponents. The claim of the monometallists that legal bi-
metallism is apt to mean actual monometallism, with the relatively
cheaper metal as the standard, has been substantiated many times
in the monetary experience of different nations. The automatic
change from one single standard to the other, following a change
in market values, is also a phenomenon that has been illustrated by
a large number of concrete cases. On the other hand, the bimetal-
lists are able to point to some apparently successful bimetallic sys-
tems, such as that of France in the eighteenth century. But it is a
significant fact that no real bimetallic system has been able to en-
dure for any considerable time except when the annual production of
gold and silver was relatively small and relatively stable, and where
international trade was a relatively unimportant item. There is no
scientific student of monetary problems who believes that it would
be possible for any nation to maintain independently the double
standard under the present conditions of a large and fluctuating
annual production of the precious metals, coupled with an inter-
national commerce of vast proportions.
International bimetallism, that is, the adoption by each of the
leading nations of a bimetallic standard, at a ratio fixed by national
agreement, has had many supporters, even among those who do not
believe in the practicability of national bimetallism, and repre-
sentatives of different nations have assembled in several inter-
228 OUTLINES OF ECONOMICS
national monetary conferences for the discussion of this subject
International bimetallism would remove one difficulty experienced
in the attempts made by different nations to maintain independent
bimetallic systems at even slightly differing ratios, and that is,
the tendency for each metal to flow from the countries in which it is
relatively undervalued in the mint ratio to the countries in which
it is relatively overvalued. Other difficulties, however, would still
remain, and the possibility of maintaining an actual bimetallic
standard even under international agreement, supposing that were
possible, is open to very serious doubt.
The waning of public interest in the question of bimetallism in
recent years is of great significance, because it indicates that the
real moving forces behind the bimetallist propaganda have not been
any real or assumed points of superiority of general significance
that may be imputed to a multiple standard, but rather that certain
specific results that would flow from the adoption of bimetallism
at a particular time and place have been desired. More specific-
ally, bimetallism has been supported by those who have desired
"cheaper money," and these have been particularly active when
the monetary standard in actual use has been increasing in value;
that is, when prices in general have been decreasing. The recent
great increase in the world's production of gold has, temporarily at
least, taken bimetallism out of the list of economic problems of
general public interest.
Bimetallism in the United States. The national monetary sys-
tem was established by act of Congress in I792. 1 The mint was
opened to the free and unlimited coinage of both gold and silver,
the silver coins containing 371^ grains of fine metal per dollar, and
the gold coins 24! grains per dollar, the ratio of 15 to i being thus
established. It was soon found, however, that gold was worth in
the market slightly more than fifteen times as much as silver, and
1 The act of 1792 followed in detail the -recommendations of a Report of the
Establishment of a Mint, by Alexander Hamilton, then Secretary of the Treasury.
Hamilton incorporated some of the recommendations contained in earlier reports
by Robert Morris and Thomas Jefferson. Hamilton's Report has been frequently
reprinted, but it, together with the reports of Morris and Jefferson and other
pertinent documents, may be conveniently found in the Report of the International
Monetary Conference of 1878.
MONEY
229
as a consequence but little gold was brought to the mint for coinage,
while the gold that was coined illustrated Gresham's law by speedily
disappearing from circulation.
Silver dollars, too, disappeared from circulation, but for another reason.
They were somewhat lighter than the Spanish dollars which were in general
circulation at the time, and would, under the operations of Gresham's law,
have driven the latter out of circulation, had it not been that the Spanish
dollar commanded a slight premium over the American dollar in ordinary
purchases. But the American dollars, on account of their new and attractive
appearance, could be used as 'dvantageously as the Spanish dollars in trade
with the Spanish possessions in America. They were consequently taken
from the country for that purpose, while Spanish dollars were brought
back and were often recoined into a larger number of American dollars.
This wasteful coinage of silver dollars was stopped in 1806 by order of
President Jefferson, leaving the mint open to the coinage only of gold, smaller
silver coins, and minor coins. As a matter of fact American coins made up
only an insignificant part of our circulating medium before 1834.
Realizing the impossibility of maintaining a gold coinage under
such conditions, Congress, in 1834, changed the legal ratio to 16 to i
by reducing the weight of the gold dollar. By this step, however,
they went too far in the other direction, for silver was undervalued
at this ratio, and while the number of gold coins increased, but little
silver was brought to the mint, and silver coins quickly disappeared
from circulation. In order to secure a supply of small change,
Congress was forced, in 1853, to abandon the principle of the free
and unlimited coinage of silver coins smaller than a dollar, and to
order that they should be coined, as at present, only from bullion
purchased by the government at the market price. At the same
time the weight of these subsidiary coins was reduced by one
seventh to insure their being retained in circulation.
The discovery of gold in California, in 1848, and in Australia, in
1851, suddenly increased the world's supply of gold by an unprece-
dented amount. In fact, the careful estimates of Dr. Soetbeer indi-
cate that as much gold was produced in the third quarter of the
nineteenth century as in the preceding three centuries and a half
following the discovery of America. The result was to increase the
discrepancy between the mint ratio and the actual market ratio of
gold and silver, although the production of silver had also been
230 OUTLINES OF ECONOMICS
greatly increased. Gold was brought to the mint for coinage in
enormous amounts, a condition that lasted even after 1861, when
paper currency began to be used almost exclusively as the medium
of exchange.
In a general revision of the coinage laws, enacted in 1873, the
silver dollar was dropped from the list of coins that could be manu-
factured at the mint. Although this action was almost unnoticed
at the time, a fictitious significance has, in subsequent years, been
attached to it. Silver was practically "demonetized," that is, its
free and unlimited coinage was actually prevented, by the estab-
lishment of the ratio of 1 6 to i in 1834. The act of 1873 gave legal
recognition to an existing fact.
But a sudden depreciation in the value of silver, which began at
about this time, brought the question of bimetallism again into the
foreground. Since the seventeenth century the relative values of
gold and silver had fluctuated only between relatively narrow mar-
gins, and in no year since the establishment of the United States
mint had the average annual value of an ounce of gold been less
than 15 or more than 16^ times the value of an ounce of silver. In
1875, however, the market ratio fell to 1 6.6 to i; by 1878 it was
18 to i; by 1886 it was 20.8 to i; and in 1894 it was 32.6 to i. 1 It
is evident that if the opportunity for the free and unlimited coinage
of silver at the ratio of 16 to i had still existed, there would have
been another sudden change in the actual standard of value. Gold
would have been undervalued by that ratio, and would have disap-
peared from circulation, and silver would have taken its place. It
was the realization of this fact, coupled with the knowledge that the
silver standard would mean a "cheaper dollar," that led to a popu-
lar agitation for the free and unlimited coinage of silver which
continued for more than twenty years.
The first tangible result of this agitation was a compromise meas-
1 The causes of this unprecedented decline in the relative value of one of the
precious metals were complex and intricate. The following may be mentioned,
however, as contributing circumstances: (i) Cessation of an extraordinary de-
mand for silver in India which had existed since 1850; (2) Stoppage of the unlim-
ited coinage of silver in several European countries; (3) Discovery of large silver
mines in the United States; (4) Increase in the value of gold, as evidenced by a
general decrease in the prices of commodities.
MONEY
2 3 I
ure, the Bland-Allison Act, passed by Congress in 1878, which in-
stituted the limited coinage of silver dollars by authorizing the sec-
retary of the treasury to purchase at market prices not less than
$2,000,000 nor more than $4,000,000 worth of silver bullion per
month, and to coin it into dollars. The results of this enforced
coinage were satisfactory to neither party to the controversy. The
amount of silver coined was in excess of the demand for that bulky
kind of money, even though as much as possible was put into circu-
lation in the form of silver certificates, and although the govern-
ment tried to favor the distribution of silver by paying the expense
of transporting it to the localities where it was wanted. The move-
ment in favor of the unlimited coinage of silver continued to gain
in strength, however, its advocates claiming that "more silver,"
rather than less, was needed.
A second compromise was effected in the Sherman act of 1890,
which provided for the increase in the amount of silver purchased
to 4,500,000 ounces each month, which was to be paid for in treas-
ury notes. These treasury notes were to be full legal tender, and
were redeemable in gold or silver coin at the discretion of the secre-
tary of the treasury. The silver was to be coined only so rapidly as
was found necessary for the redemption of the treasury notes. The
increase in the amount of silver purchased was a concession to the
advocates of the unlimited coinage of silver; the fact that the circu-
lating medium based immediately on these purchases was com-
posed of treasury notes, which were injected into circulation in
proportion to the market value of the silver purchased, was a con-
cession to their opponents.
The soundness of the principles embodied in the Sherman act
was soon tested by a period of financial and industrial depression.
Gold had to be exported to Europe in large quantities to settle an
adverse balance of trade, and the government found difficulty in
maintaining its own gold reserve, which was already seriously
threatened by a decline in customs receipts, accompanied by an in-
crease in federal expenditures. The gold reserve was at that time
simply the amount of gold in the treasury that was available for the
redemption of other forms of money, especially the United
States notes, or greenbacks, that had been first issued during the
232 OUTLINES OF ECONOMICS
Civil War, but which did not become actually redeemable in gold
until 1879. During this scarcity of gold the banks were able to
secure gold for their own reserves or for export by presenting
United States notes at the treasury for redemption in gold. Under
the law the notes had to be immediately reissued, and were used in
government payments, but no sooner was this done than they were
again returned by the banks for redemption in gold.
The workings of this "endless chain " by which gold was pumped
from the government treasury were aggravated by the fact that the
treasury notes authorized by the Sherman act were used for the
same purpose. Although they were payable either in gold or silver
coin, they were actually redeemed on demand in gold. This was
at the urgent insistence of President Cleveland, who believed, with
good reason, that a refusal to redeem them in gold would probably
have forced the silver standard upon us, by destroying the ex-
changeability of silver and gold and thus putting an end to their
parity, and that it would certainly have injured the credit of the
government and put it to a disadvantage in the bond sales that
were needed to replenish the gold reserve. Under the operations
of the Sherman act the government was virtually exchanging gold
coin for silver bullion at a time when gold was sorely needed and
when the value of the purchased silver was steadily depreciating.
The gold reserve sank from $190,000,000 in 1890 to $95,000,000
in 1893. I n J une f tne latter year the closing of the mints of India
to the unlimited coinage of silver gave an added impetus to the
downward movement of the value of that metal. These facts led
Congress, in a special session called in 1893 f r tnat purpose, to
order, though with obvious reluctance, that the purchase of silver
under the Sherman act should be stopped.
The agitation for the free and unlimited coinage of silver con-
tinued, however, and with increased vigor, and it was made the sole
issue in the presidential campaign of 1896. It was alleged that the
yet continuing industrial depression could be alleviated only by
"more money" and "cheaper money." It was claimed by many
intelligent people that the unlimited coinage of silver would not
drive gold from circulation, but would increase the value of silver
and decrease the value of gold until they met at a parity established
MONEY
2 33
by the desired legal ratio of 16 to i. The most effective argument
of the protagonists of silver was found, however, in the admitted
fact that the value of gold, as shown by changes in the general price
level, had been increasing. All indications pointed toward a con-
tinued decrease in the annual production of gold, and a consequent
further increase in its value. This, it was argued, was a hardship
to those who had borrowed money on long time obligations, such
as mortgages, because they would be forced to repay in value or
purchasing power more than they had borrowed. 1
This agitation was, in fact, simply one of a series of cheap money
movements that have characterized the economic development of
the United States, and which have sprung from the fact that the
expense of opening up and developing new lands has necessitated
expenditures of capital in an amount far beyond the resources of
the actual settlers. Newly settled regions have usually been
debtor regions, and there is more than mere coincidence in the fact
that demands for cheap money have always been voiced most
loudly on the frontier. 2 This does not mean that a cheap money
movement is essentially dishonest; that it represents the conscious
attempts of debtors to escape the payment of their lawful debts.
The life and vigor in this movement for the unlimited coinage of
silver was put into it by men who saw the imputed value of their
assets sinking and the difficulty of paying their debts increasing in
a financial crisis for which they were not individually responsible.
Money funds were hard to get because individual credit, the founda-
tion of bank credit, was lacking. This scarcity of money funds
was confused, naturally, if erroneously, with the scarcity of
"money" in the sense of standard money, gold; and the remedy
was sought in an action that would give more and cheaper standard
money.
The defeat of the advocates of bimetallism in 1896 would prob-
ably not have stopped the agitation for the unlimited coinage of
silver, had it not been for the return of prosperous conditions,
1 This argument raises the problem of the standard of deferred payments,
which is to be considered in Chapter XVI.
2 Cf. C. J. Bullock, Essays in the Monetary History of the United States,
Part I.
234 OUTLINES OF ECONOMICS
coupled with an enormous increase in the world's annual produc-
tion of gold, which has brought with it a general increase in prices.
The single gold standard was formally and definitely recognized
by law in 1900. All of the silver bullion purchased under the
Sherman act has been coined, and silver dollars sufficient in
amount to retire the treasury notes have been set aside for that
purpose. These treasury notes (which should not be confused
with United States notes, or greenbacks) are accordingly on sub-
stantially the same basis as silver certificates. Up to June 30, 1907,
their amount had been reduced from $156,000,000 to $6,000,000.
No silver dollars have been coined since 1904, and under the present
law no more can be coined until Congress authorizes the special
purchase of bullion for that purpose.
The Dominance of the Gold Standard. Within the last few
years gold has been accepted more generally and more definitely
than ever before as the standard money metal of the world. The
change from a silver, or bimetallic standard, to the gold standard
is often a difficult and expensive national undertaking, but it brings
the advantages of a more stable unit of value and of increased
facility in international exchange. In October, 1906, the silver
standard prevailed only in Bolivia, four of the countries of Central
America, China, Persia, and the Straits Settlements. 1
Government Paper Money. In metallic money of limited
coinage, there is, as we have seen, a considerable element of credit
value added to the actual bullion value of the coins. In paper
money the element of credit is alone present. Government paper
money is composed of instruments which bind the government to
pay, and usually to pay on demand, equivalent amounts of metallic
money, usually standard money.
Government paper money also differs from metallic money of
limited coinage in respect to the motives which give rise to and regu-
late its issue. Subsidiary coins are issued by the government in
response to the demand for a circulating medium for use in small
transactions and in making change. The public convenience is the
first consideration; the profit accruing to the government on such
coinage is a secondary thing. In issuing government paper money,
1 Report of the Director of the Mint, in Finance Report, 1907, p. 297.
MONEY
2 35
however, fiscal motives have predominated. When hard pressed
to swell the government income to cover an increase in expenditures,
those responsible for the financial policies of a government have
sometimes deemed it advisable for the government to make use of
its own notes, promises to pay, in discharging its obligations.
These differ from government bonds, which are often issued in
similar circumstances, in that the bonds bear interest, are sold to
voluntary buyers, and are usually payable at a definite time in the
future, while government notes are usually non-interest bearing,
represent a forced, rather than a voluntary loan, and are usually,
in form at least, payable on demand, or in practice, at an indefinite
time in the future. They are, moreover, issued in convenient form
for monetary use, and are usually made legal tender, so that they
pass from hand to hand as a medium of exchange. The forced
loan which they represent is therefore shifted from those who first
receive the notes from the government in payment for goods or
services.
Colonial and Revolutionary Bills of Credit. Paper money
issues have frequently been used in the United States as a means of
meeting a fiscal emergency, especially those springing from the
extraordinary expenditures occasioned by wars. The expense of
sending troops to the Indian wars was one of the things that led
most of the American colonies to issue paper money. The history
of these colonial "bills of credit," as they were called, illustrate two
dangers that seem to be inseparable from the use of this financial
and monetary device. In the first place, it was very easy to suc-
cumb to the temptation of paying ordinary as well as extraordinary
expenditures in this easy way. Some of the colonies got entirely
out of the habit of taxing themselves to meet current public ex-
penses. The refusal to levy taxes was a prolific cause of disputes
between colonial assemblies and royal governors.
In the second place, because no money was raised for the pur-
pose, these bills of credit were not redeemed promptly. Their
value, as compared with metallic money, fell because people lost
confidence in their redeemability. As the currency depreciated,
it took continually larger issues of it to meet the government ex-
penditures, and each increase in the amount in circulation led to a
236 OUTLINES OF ECONOMICS
further fall in value. After the currency had become practically
worthless, it was a common practice of the colonies to repudiate it
in whole or in part, and to start afresh with bills of a " new tenor."
Any attempt to restrict this reckless use of public credit was met
with determined resistance from the "cheap money" advocates of
that day. There were frequent complaints of the scarcity of money,
especially from the more newly settled districts. The greater the
quantity of money issued, the more insistent was the demand for
still further issues. In short, this colonial experience in itself gives
sufficient basis for the inference that from the monetary as well as
the fiscal point of view, the use of paper money easily degenerates
into a bad habit.
Again, in the Revolutionary War, paper money issues were made,
this time by the Continental Congress as well as by the individual
colonies. The Continental Congress was really driven to this action
by its lack of the power of levying taxes. Its bills became practi-
cally worthless, although every effort was made to maintain their
parity with metallic money by appeals to patriotic sentiment.
After the formation of the national government a few of them were
redeemed at one cent on the dollar.
It was our unfortunate colonial and revolutionary experience
with paper money which led to the insertion of the wise provision
in the federal Constitution which forbids the individual states to
issue bills of credit or to make anything but gold and silver legal
tender in payment of debts.
The Greenbacks. The federal government made no important
issues of paper money until the Civil War. 1 It was not generally
foreseen that that conflict would be so long continued and intense
as it was, and Congress consequently neglected to make adequate
provision for taxes that would help to meet the increased expendi-
tures and to sustain the government credit in the borrowing opera-
tions that were necessary. In 1861 the secretary of the treasury
was authorized to issue at his discretion $50,000,000 in "demand
'The federal government issued treasury notes in the war of 1812 and the
Mexican War, and during the panics of 1837 and 1857. Most of these issues were
interest bearing, however ; none of them were legal tender, and none of them got
into common use as media of exchange.
MONEY
2 37
notes," which, although they were not legal tender, could be used
in all payments to the government. These were redeemed promptly
on demand until the end of the year, when the withdrawal of gold
from the banks by depositors for hoarding, and by the government
for its own uses, led first the banks and then the government to
suspend specie payments, that is, to refuse to pay their current
obligations in gold.
In 1 86 1, moved by the absolute necessity of providing some kind
of money for the federal treasury, Congress authorized the issue of
$i 50,000,000 in legal tender notes, 1 or greenbacks, as they came to
be called. It was hoped, moreover, that this increase in the circu-
lating medium would improve the market for government bonds
for which the greenbacks were at first made convertible at par.
This action was not taken without strenuous opposition on the part
of those who foresaw some of the disastrous consequences of large
paper money issues. But as in earlier American experience with
paper money, succeeding issues met with less and less resistance.
All together, greenbacks to the amount of $450,000,000 were
issued during the war.
It was the general expectation when the greenbacks were issued
that they would be retired as soon as possible after the conclusion
of the war. But when such action became possible, it was opposed
by many who thought that the reduction of the circulating medium
would decrease prices, impose additional burdens upon debtors,
injure business interests, reduce the public revenues, and hamper
the government in the refunding of its public debt. In 1866, how-
ever, Congress authorized the gradual retirement of the greenbacks,
but repealed the act in 1868. The amount in circulation in 1874
was $382,000,000, and in that year a bill requiring the definite in-
crease of the issue to $400,000,000 was prevented from becoming
law and thus establishing a dangerous precedent only by the veto
of President Grant. Some greenbacks were retired under the pro-
visions of an act of 1875, but in May, 1878, there were $346,681,000
outstanding, and as a law then enacted provides for their constant
reissue after being received or redeemed at the treasury, the amount
still stands at that figure. The part that they played in the financial
1 Including the "demand notes," which were now made legal tender.
238 OUTLINES OF ECONOMICS
difficulties of 1890-1893, together with the history of the treasury
of the notes of 1890, has been described in connection with the dis-
cussion of bimetallism.
At present the greenbacks constitute a useful and acceptable part
of the stock of money. But if another financial crisis should
deplete the government treasury, they would very likely prove
again to be a source of difficulty. Their retirement is feasible under
present conditions, but would be most difficult to accomplish under
the very financial conditions under which they would be most dan-
gerous.. The currency act of 1900 provides for a gold reserve of
$i 50,000,000, to be held against them to insure their redeemability.
Jf the reserve falls below $100,000,000, the secretary of the treasury
is directed to replenish it from the proceeds of bond sales. Al-
though this gold reserve also constitutes part of the real security
behind our silver dollars, it could safely be diminished in amount
if the greenbacks were retired.
Economic Effects of the Greenbacks. The greenbacks are in
form promises to pay, but they are not promises to pay on demand,
nor at any specific time. During the period of the suspension of
specie payments they were not actually redeemable in gold, nor
was gold in general circulation as a medium of exchange except on
the Pacific coast. Gold was, however, in addition to its industrial
uses, employed as money in international trade, in the payment of
interest on government bonds, and for customs duties (for which
the greenbacks were not legally receivable). There was thus a
-constant demand for gold money, which was met by its sale as a
commodity in the New York market. The gold market was highly
speculative, the daily and even the hourly fluctuations in the price
of gold in greenbacks being considerable. Notwithstanding these
speculative features the prices paid for gold indicated very accu-
rately, in the long run, how much, in the expert judgment of market
specialists, the value of the greenbacks had depreciated.
Everything that was thought to affect the probability of the ulti-
mate redemption of the greenbacks in gold influenced their price.
Among these factors were the quantity of greenbacks issued, the
condition of the federal treasury, the military successes and re-
verses of the Union cause, and, in later years, the prospects for the
MONEY 2 39
resumption of specie payments. Greenbacks reached a parity
with gold two weeks before the resumption of specie payments on
January i, 1879. A fact of special significance is that until July,
1863, the greenbacks were convertible at par into 6 per cent gold
bonds. These bonds formed an actual standard of value for the
greenbacks, and although themselves depreciated, exercised for
the time being a steadying influence upon their value.
As the common medium of exchange consisted almost entirely of
greenbacks l and of bank notes convertible only into greenbacks,
prices were measured in greenback "dollars" and naturally rose as
the gold value of the greenback depreciated. Reference to the
table on page 240 will show a rough correspondence between
changes in the general level of prices, expressed in greenbacks, and
changes in the value of gold, measured in greenbacks. But the
price of commodities rose relatively higher than did the price of
gold, and declined less rapidly. 2 Retail prices, in turn, declined
less rapidly than did wholesale prices. Wages advanced more
slowly than prices; maximum wages were not paid until 1872,
seven years after retail prices and eight years after wholesale prices
had reached their maximum.
That there was not a closer correspondence between the movement in gen-
eral prices and the changes in the gold value of the greenback was due to two
sets of influences: (i) Even if greenbacks had not been issued, and if prices
had been measured in gold, there would have been marked fluctuations in
prices, not only such as continually occur in normal years, but also those
due to such exceptional things as the withdrawal of a large number of men
from industry and agriculture to military service, the shifting of productive
effort in response to the enormous demand for military supplies, the period
of extraordinary business activity, of railway building, and of agricultural
and industrial expansion that followed the war, the reaction and financial
crisis in 1873, and the return of prosperous conditions in the last years of the
1 Subsidiary coins did not go out of circulation until 1862, when the value
of the greenback dropped below the value of the bullion in these coins. Postage
stamps and notes and tokens issued by cities and by business firms were for a
while used as small change. In 1863 the situation was helped by the issue
of fractional paper currency in denominations as low as three cents.
* The more detailed figures, of which the table given here is only a summary,
show that the prices of commodities also advanced more slowly than did the price
of gold. For an illuminating discussion of these price changes see MitchelL
Gold, Prices, and Wages under the Greenback Standard, Chap. V.
240
OUTLINES OF ECONOMICS
TABLE I
PRICES AND WAGES IN THE GREENBACK PERIOD 1
YEAR
AVERAGE
ANNUAL PRICE
OF GOLD IN
GREENBACKS
JULY
WHOLESALE
PRICES '
AVERAGE ANNUAL PRICES *
AVERAGE
WAGES
Wholesale
Retail
1860
100
IOO
IOO
IOO
1861
95
94
107
99
1862
"3-3
1 20
109
*3 r
104
1863
I45- 2
155
148
1 68
119
1864
203.3
236
225
215
142
1865
157-3
183
224
219
155
1866
140.9
191
203
208
164
1867
138.2
170
J 77
'93
167
1868
139-7
165
180
190
170
1869
133-0
158
172
177
179
1870
114.9
145
156
1 66
179
1871
111.7
137
144
5S
184
1872
112.4
139
138
151
185
1873
113.8
140
M3
148
183
1874
III. 2
138
144
M5
175
1875
114.9
129
134
140
163
1876
III.5
118
1 20
135
153
1877
104.8
114
117
!34
M3
1878
100.8
99
99
127
142
1879
IOO.O
98
93
123
139
1 Compiled from Gold, Prices, and Wages under the Greenback Standard, by Wesley C.
Mitchell. The figures in the price column are " index numbers," that is, they are obtained
by counting the price of each commodity in each year as a percentage of its price in 1860, and
then averaging the various relative prices thus obtained for each year. The figures in the
wage column are computed in a similar way. In the " price of gold " column parity between
greenbacks and gold is represented by 100.
92 commodities. 331 commodities. * For 78 establishments.
greenback period. 1 (2) The depreciation in the value of the greenback in
gold was measured quickly and accurately in the gold market, but the move-
ment of prices was hampered by habit, custom, existing contracts, local
influences, etc. We have seen in the discussion of value that retail prices
are less sensitive to changing market conditions than are wholesale prices.
1 This statement is subject to the limitation implied in the fact that general
commercial conditions were themselves caused in part by the influence of the
cheap and fluctuating medium of exchange.
MONEY
2 4 I
Wages, in turn, are usually less mobile than retail prices. All these things
interacted. Wages, to give only one example, constitute an important part
of the expenses of producing commodities, and the sluggish movement of
wages kept the expenses of production from advancing, and, later, from
falling as rapidly as would otherwise have been the case, and must have had
a^corresponding effect on the prices charged for commodities.
Aside from these general changes, the minor fluctuations, the short-
time variations in prices, were unusually wide and numerous,
a fact which may be attributed to the uncertain value of the medium
of exchange. Such fluctuations were apt to upset all business cal-
culations; chance became more important and foresight less im-
portant as a factor in profits. Under such conditions an intense
and reckless spirit of speculation was bred, with unfortunate
effects on business morality as well as on economic conditions.
As a fiscal expedient, the greenbacks led to results as disastrous
as those which attended their use as money. The government was
forced to sell bonds for depreciated greenbacks, but in order to
maintain its credit it had to pay the interest and ultimately the prin-
cipal of these bonds in gold. Supplies for the army were paid for
in depreciated greenbacks, but these greenbacks had to be ulti-
mately redeemed in gold. It has been estimated that the use of
the greenbacks increased the cost of the Civil War by nearly
$600,000,000.
Fiat Money. After 1873 the advocates of cheap money were
not content with merely opposing any reduction in the quantity
of the greenbacks. They went so far as to urge that the amount of
paper money should be greatly increased, and that the use of
metallic money should be definitely and permanently abandoned.
Bank notes were also attacked because they were issued by "privi-
leged corporations." The question came to be an important politi-
cal issue, and in 1876 it brought about the organization of the
Greenback party, which figured in three presidential campaigns,
and which polled more than a million votes in the congressional
elections of 1878. In more recent years similar demands were
voiced by the Populist party.
The theory of money which formed the basis of the contention
of the members of the Greenback party is sometimes called the
"fiat money" theory. Those who held this theory of money saw
242 OUTLINES OF ECONOMICS
no significance in the fact that the greenbacks were in form prom-
ises to pay and that they were generally regarded as only tem-
porarily irredeemable. In their view they were simply "dollars,"
made such by the expressed will of the government. Nor did they
see any significance in the fact that during the seventeen years of
the suspension of specie payments over $500,000,000 in United
States gold coins issued from the mints. As a matter of fact the
fiat money advocates were misled by what some logicians have
called the "jingle fallacy." That the "dollar" of the ordinary
medium of exchange and the "dollar" as a standard unit of
value were different things did not occur to them.
If they had succeeded in eliminating the credit element in the
value of the paper currency by ceasing to print "promises to pay"
(as they actually proposed to do), and had instituted a new name
for the money unit, possibly (to reverse the spelling) "rallod,"
they would surely have encountered difficulty in getting people
to accept pieces of printed paper, informing them that " This is a
rallod," as money. It is hard to see how "the supply of money as
compared with the demand for it," on which the fiat money advo-
cates counted to fix the value of their money units, would have
helped matters very much. Nor would the convertibility of fiat
money into interest-bearing bonds, which was suggested by some,
have given us a standard of value. For the bonds would have
been simple promises to pay a certain sum in fiat money units, with
interest at a certain rate, also in fiat money units. The difficulties
that would have been encountered in international trade would
alone have sufficed to make fiat money impossible.
Some writers have referred to the greenbacks as the "standard
of value" during the suspension of specie payments. As a matter
of fact gold, under the operations of unlimited coinage, was the ulti-
mate standard, and the standard dollar was the gold dollar. The
value of the greenback dollar, in which prices were measured, was
the value of the gold dollar, discounted according to the outlook for
the ultimate redemption of the greenbacks in gold. The green-
backs were at most only a "secondary standard" of value.
(For Questions and References, see the following chapter.)
CHAPTER XV
CREDIT AND BANKING
Credit Transactions. Thus far, in our discussion of money, we
have failed to take account of the fact that the greater part of ex-
changes are credit transactions, which do not directly or immedi-
ately involve the use of money (in the sense of generally acceptable
money instruments). A credit transaction is a transfer of goods,
services, or money, for a future equivalent. In a "cash" transac-
tion there are only two elements, the goods sold and the money
paid for them. But in a credit transaction a third element time
is added. The introduction of this third element leads to ex-
ceedingly important results. In the first place it makes possible an
enormous number of exchanges in which the buyer is either unable
or disinclined to render a present equivalent. In the second place
it obviates, to a very large extent, the necessity of using money.
Suppose, for example, that A and B are the only inhabitants of
an isolated community. Three ways of making exchanges are
open to them. They can use a system of direct exchange or
barter, which will prevent A from getting goods from B unless he
has some equivalent which he is willing to give up and which B
is willing to accept. Or, they may use one commodity as money,
in which case the purchasing power of either A or B at any given
time will be governed by the amount of that particular commodity
that he possesses, rather than by the total amount of all his posses-
sions. But by combining a system of credit with their use of
money, they will be able to make transfers freely, for in an occa-
sional balancing of accounts most of the payments due each other
will cancel, leaving only a relatively small amount to be paid in
money.
Something very much like this third process is continually going
on in contemporary economic life. The process is more complex,
243
244 OUTLINES OF ECONOMICS
however, because A actually sells things to one person or group of
persons, and buys them from other persons. And it is very likely
that these two groups, the sellers and the buyers in A's transactions,
have no direct business transactions with each other in which their
respective claims against A and debts to A can be canceled. If,
however, we take all buyers and all sellers into account, and if we
could push our analysis of the complex network of credit relations
far enough, we would find points of contact between A's credits
and his debts. That is, if A gives a promissory note in exchange
for a purchased good, this promissory note might be passed on
from hand to hand until it got into the possession of some one who
is indebted to A, if the path it should take were known. The
difficulty is that the path is not known. The institution of banking,
however, provides clearing centers, where credits and debts are
balanced against each other and canceled.
A, for example, has a "deposit" in a local bank, which means
that he has the right to demand payments from it at any time up to
the amount of his deposit. He usually makes a payment to B,
not by a promissory note, but by a check, an instrument order-
ing the bank to pay B the specified amount. This check will be
presented for payment by B at a bank where he has a deposit, but
the "payment" will usually be made by adding the amount of the
check to B's deposit. If it is the bank where A also has his deposit,
the transaction is settled by the simple process of debiting A's de-
posit and crediting B's. If it is another bank in the same town,
and if the town is a small one, the check will enter into the daily
exchange by the two banks of such claims against each other, the
daily balance in favor of either bank being usually settled in money.
In the larger cities a further economy in the use of money is
achieved by means of the clearing house, to which a representative
of each bank brings daily all of the checks drawn against other
local banks which it has received since the last "clearing." At
the clearing house the checks are turned over to the representatives
of the banks against which they are drawn, but the balances are not
settled between the individual banks. Instead, a balance is struck
between the total sum of each bank's claims against other banks
and the total claims of other banks against it. Each bank then
CREDIT AND BANKING
245
pays to the clearing house, usually in money, or receives from it,
as the case may be, the amount of balance due to it or from it.
This system achieves a great economy of both time and money. 1
If the banks in which A and B keep their deposits are in different
towns, A's check will probably be sent by B's bank to a bank in a
neighboring large city, in which B's bank has its own deposit ac-
count. If A's bank is also in the territory tributary to this same
city, the check may be sent by the city bank directly to A's bank
for collection, or to its own correspondent bank in the same town.
If A's bank is in another part of the country, the check will be sent
to a bank located in a large city in that region, which will attend
to its collection. 2 Thus a check drawn on a local bank in California,
deposited in a local bank in Illinois, will very likely be collected via
Chicago and San Francisco. The balances of credits and debits
which are thus created between city and country banks are settled
to a very large extent by means of crediting and debiting deposit
accounts in city banks, thus obviating by that much the necessity
for frequent shipments of money. In general, we have in the
United States a continuous balancing and cancellation of debts and
credits, first, in each locality; second, between each important city
and its tributary territory, and, third, between the different impor-
tant cities. Much the same process is characteristic of international
exchange, but that is a topic which will be treated in another
chapter.
1 Over $95,300,000,000 in checks and drafts passed through the New York
Clearing House in the year ending September i, 1907. The money balances
paid amounted to $3,800,000,000, or only 4 per cent of the total clearings. The
average cash payments required during the last fifty-four years have amounted
to 4.64 per cent of the clearings. In times of financial stringency clearing houses
sometimes allow the payment of balances in "clearing house certificates," issued
to individual banks upon the basis of approved securities deposited with the
clearing house. In some cases the banks have temporarily put such certificates
into general circulation as an emergency currency.
2 The London Clearing House clears for all England in a very simple and
efficient way. A country bank sends its daily receipts of checks on banks in other
towns to the London bank in which it keeps a deposit. In a daily "country clear-
ing" these checks are distributed to the London banks with which the banks on
which the checks are drawn keep accounts. The mere territorial extent of the
United States makes such a scheme unworkable here. Various proposals have
been made, however, for central clearing houses that will make clearances for
limited districts.
246 OUTLINES OF ECONOMICS
Personal Credit. If a man does not hoard money on the one
hand, or fail to pay his debts on the other hand, his expenditures
(including investments) are bound to be, in the long run, approxi-
mately equal to his income. But for a business man a continuous
equality of income and expenditure is impossible. At some times
his deposit account will be built up more rapidly than he checks it
out; at other times his need for means of making payments will
outrun his receipts. If, for example, he is a contractor, whose ex-
penses of production are fairly constant, but whose product is paid
for only when completed, or a merchant, who replenishes his stock
of goods twice a year but whose sales are distributed throughout
the year, or a farmer who must pay his harvest expenses before he
sells his crops, he may find it necessary to utilize his credit. Now,
his personal credit, his power of purchasing things without immedi-
ate payment, will depend to some extent on his personal ability and
integrity. But, nevertheless, the fundamental measure of his
credit" will be the amount of his realizable wealth. This, however,
is apt to consist largely of property that is not "for sale," his
stock of consumption goods and his income yielding land or
capital.
These things do not have to be sold in order to convert them into
means of payment. To meet a temporary need they may be made
the basis of credit, through the process of hypothecation, a name
which means the conditional transfer of property rights. The
hypothecation may be definite and formal, as when a mortgage is
given on specific items of property or when valuable credit instru-
ments of various sorts (such as government or corporation bonds,
bills of lading, warehouse receipts, etc.) are put into the actual pos-
session of the creditor as "collateral security " ; or it may be simply
implied, as in the case of an "unsecured" personal note, for practi-
cally all of the property of a borrower, over and above the items
specifically hypothecated for certain debts is, in legal fact, hypothe-
cated for his remaining debts. It is important to note, too, that
future values, rather than present values, constitute the basis of
present credit. The lender's interest is in the question of the ade-
quacy of the value of the security at the time when payment be-
comes due. Present values being equal, a borrower can secure a
CREDIT A.\:> BAXKIXO
247
larger amount of credit when market conditions are improving
than when they are declining.
A man's probable future income and the probable future value
of his property, then, constitute the real measure and foundation
of his individual credit. His individual credit, however, is of very
little use to him as a means of payment. Some difficulties in the
way of using individual notes as media of exchange have already
been suggested. 1 There is another difficulty in the fact that his
personal notes will not be willingly accepted by others in lieu of
money payments unless they know him, the value of his property
and the extent to which it is already hypothecated. Moreover,
these same difficulties stand in the way of such notes being passed
from hand to hand through successive indorsements.
Bank Credit. In order to make it readily available as a medium
of exchange, personal credit has to be transformed into bank credit.
Instead of using his own note as a medium of exchange, a business
man will normally have it "discounted" by his banker. If the
note is for sixty days, for example, the business man yields the right
to demand a specific amount of money from him in sixty days, in
exchange for a deposit credit, the right to receive on demand the
same amount of money less the discount. 2 The business man adds
the note to his liabilities and a deposit to his assets. The bank adds
the note to its assets and the deposit to its liabilities.
Having converted his personal credit into a bank deposit, the
business man can now use it as a means of payment through the
checking system that has been described. Ordinary commercial
banking consists, in large part, of this purchase of personal credit
1 It is true, of course, that business men often accept their customers' notes in
payment of accounts, or as an equivalent for goods purchased. These notes,
however, do not usually pass any farther as a medium of exchange, but are in-
dorsed by the business man and presented to a bank for discount. Such notes,
usually known as "trade paper," constitute a large part of the securities of many
commercial banks.
2 Discount is simply one form of interest. Banker's discount differs from
ordinary interest in that it is computed as a certain per cent of the total amount
that is repaid, while ordinary interest is computed as a per cent of the amount that
is loaned. Discount is deducted from the principal of the loan in advance; in-
terest is paid at the maturity of the loan or (on long time loans) at stated intervals.
On demand or "call" loans and on time loans on collateral security "interest"
rather than "discount" is charged.
248 OUTLINES OF ECONOMICS
and sale of banking credit. The bank builds up assets in the form
of loans and discounts at the same time that it builds up its obliga-
tions in the form of deposits.
The security behind the deposits in any bank consists of : (i) loans
and discounts, which in turn rest back upon personal credit or upon
specifically hypothecated property (as in the case of loans on col-
lateral security); (2) bonds, mortgages, and other securities owned
by the bank, which, if necessary, may be sold for the benefit of the
depositors, unless specifically pledged as security for bank note
issues; (3) the bank's own deposits in other banks, together
with the checks or similar claims against other banks that are in
its possession; (4) its other property (building, fixtures, etc.);
(5) (in national banks and some state banks) the personal liability
of the bank's stockholders; 1 (6) its stock of money.
But that these assets should suffice to cover the deposit liabilities
of a bank is not in itself sufficient to maintain its solvency. Much
depends upon the character of the assets, the amount of money
included in them, and the ease and quickness with which other
parts of the assets can be converted into money. Each deposit
account is an obligation of the bank to pay in actual money if it is
demanded. The depositor cannot use checks for all kinds of pay-
ments, but will often have to draw on his deposit account for
money. Even when payments are made by checks, those who re-
ceive them will often prefer to cash them rather than to deposit
them. Moreover, the process of the cancelation of credit obliga-
tions is, as we have seen, not altogether perfect. Balances arise
between individual banks in the same city, between city and
country, and between different cities that very often have to be
settled in money.
A bank accordingly has to keep enough actual cash on hand to
enable it to meet any demands that may be made upon it for money.
1 Even in case some of the bank's loans or securities prove worthless there
is a margin of safety for the depositors in the fact that some of the assets of the
bank represent the original investments of the bank's stockholders ("capital")
or profits which they have put back into the business ("surplus"), and on such
assets the depositors have the first claim. Moreover, in national banks and some
state banks the stockholders are personally liable up to an amount equal to the
par value of their holdings.
CREDIT AND BANKING
249
As deposits constitute the most important cash obligations of a
bank, the size of this money reserve, as it is called, is normally fixed
for safety's sake at a certain per cent of the amount of the deposits.
This proportion varies according to the location of a bank and the
nature of its business. In practice it varies in different commercial
banks from as low as 5 per cent to as high as 35 per cent of the
deposits.
If its reserve increases, a bank is at liberty to increase its deposits
by extending its loans and discounts, attracting these, possibly, by
lowering the discount rate. If the reserve is decreasing, the bank
must, for safety, contract its deposits by restricting its loans and
discounts, or by taking measures (such as the sale of securities for
money) that will replenish the reserve. 1 In order that the ratio of
reserve to deposits may be maintained near the point where the
right balance is struck between profitableness on the one hand and
safety on the other hand, it is necessary that the bank's assets should
be as fluid as possible. This is best accomplished by confining
most of the loans or discounts to notes or bills of exchange that are
payable in thirty, sixty, or ninety days, or, at most, in four or six
months, so that a constant flow of maturing obligations makes it
possible for a bank to expand or contract its loans and discounts,
and hence its deposits, as seems most advisable.
There is in the larger cities of the United States, especially in
New York, a growing use of bank loans payable on demand. This
enables the banks to keep their outstanding loans much closer to the
maximum allowed by the state of their reserves than would other-
wise be the case, but the practice has, as we shall see presently,
other effects that are not so desirable.
By the "money market" is usually meant the market for ex-
changeable purchasing power in the form of loanable funds ; that is,
in reality, the bank credit market. The amount of bank credit
available, the freedom with which banks will make loans on certain
1 Some banks maintain a "bond reserve" of high grade securities that may be
sold to enable the bank to meet an extraordinary demand for money or to enable
it to extend its loans and discounts when necessary. Such investments are
normally made by commercial banks when the demand for loans does not absorb
the funds at the bank's disposal, that is, when money reserves are unprofitably
large.
250 OUTLINES OF ECONOMICS
kinds of securities, and the interest and discount rates charged for
bank credit are among the things that make up what is called "the
state of the money market." But it should be clear to the reader
that the state of the money market depends, primarily, on two things:
first, the amount and nature of the personal credit that can be converted
into bank credit, and second, the amount of money in the bank reserves.
Bank Notes. There is one way, however, in which banks can
meet some of the demand for money without drawing on their re-
serves and thus reducing their power of extending credit. This is
by the issue of bank notes, which are simply the promises of banks
to pay money on demand, issued in convenient and familiar form
for use as paper money. These notes are paid as money to cus-
tomers of a bank who want the proceeds of their borrowings in cash,
and to depositors and to holders of checks who prefer money to
deposit credit. Bank notes pass readily from hand to hand as
money, and at the present time constitute an important part of the
circulating medium in most countries.
Bank notes are like deposits in that both are demand liabilities
of banks. Bank notes, however, circulate among persons who have
no means of informing themselves as to the solvency of the banks
issuing them. The holders of bank notes are accordingly usually
given special protection by laws which regulate the conditions of
their issue and redemption.
State Banks of Issue. Before the Civil War the actual circu-
lating medium of the United States consisted in very large part of
notes issued by banks operating under state laws. The notes
issued by some of these banks were as "good as gold" because the
banks redeemed them promptly in gold, a fact which was due in
some cases to wise and rigid state regulation of banking, and in
other cases, fewer in number, to conservative use of the too exten-
sive privileges granted by lax state laws. But the notes of other
banks were depreciated and in many cases were absolutely worth-
less.
Public ignorance of the real nature of banking gave rise to the
supposition that wealth could be mysteriously manufactured by
means of a bank charter and a printing press (the fiat money theory
applied to bank notes). This and the ever recurring demand for
CREDIT AND BANKING 25!
cheap money were responsible for the situation. Prohibited by the
Constitution from issuing their own bills of credit, many of the states,
especially in the South and West, responded to the clamor for cheap
money by making it possible for their citizens to organize "banks"
and issue their own bills of credit, imposing few or no requirements
as to the actual investment of capital, the accumulation of assets,
or the restriction of note issue. 1 In the panics of 1814, 1837, and
1857 but few banks maintained specie payments. Even so late as
1860, although the hard lessons of experience had brought some
improvements, especially in the older states, the bank note circula-
tion was of decidedly varying quality. "Bank note reporters"
and "counterfeit detectors" had to be issued periodically in order
to give to business men the latest quotations and information relat-
ing to the depreciated currency they had to receive in the ordinary
course of business. After 1861 the" suspension of specie payments
led to a general depreciation of bank notes as compared with gold
because most of them were thereafter redeemable only in green-
backs.
The National Banking System. The successful state banking
system of New York was the model after which Congress, following
the recommendations of Secretary Chase, patterned the national
banking system which it established in 1863. The primary,
although not the only, motive that led to this action was the desire
to provide an artificial market for government bonds, which at the
time were a drug on the market. National banks were required to
use government bonds as the assets behind note issues, and further-
more, the national banks were, in 1866, given a monopoly of the
note issue privilege by the imposition of a prohibitive tax of 10
per cent per annum upon the note issues of state banks.
The details of the national banking law have been amended from
time to time, but the general principles of the regulation of the note
issue remained unchanged until Congress passed the Aldrich act in
1908. As the law has stood since 1900, national banks may not be
organized unless the stockholders contribute a minimum capital,
1 Some states circumvented the constitutional prohibition mentioned by es-
tablishing their own banks for the manufacture of paper money. The Bank of
Kentucky was the most famous of these.
252 OUTLINES OF ECONOMICS
varying from $25,000 for places of less than 3000 population to
$200,000 for places of more than 50,000 population. Three limita-
tions are put on the ordinary issue of circulating notes: (i) They
must not exceed in amount the capital stock of the bank. (2) United
States government bonds have to be purchased by the bank in
amount sufficient to equal, dollar for dollar, the quantity of the
notes issued, and these bonds have to be deposited with the treas-
urer of the United States as security for the redemption of the notes.
(3) Each bank must maintain in the United States treasury a re-
demption fund in "lawful money" equal to 5 per cent of its note
issue. As this last requirement indicates, bank notes are redeem-
able at the federal treasury. They may also be used in all pay-
ments to the government except customs duties, although they are
not legal tender.
The Reserve System. While the note holder is thus protected
by a special kind of security set aside for the purpose, the depositor
in a national bank is protected only by its general assets. These,
however, are regulated to some extent by the federal government.
There are restrictions, for example, intended to prevent the bank
from tying up its funds in long-time investments, from lending too
much to one person or firm, or to directors or officers of the banks.
Five times a year national banks have to furnish full statements of
their condition to the comptroller of the currency at Washington.
Each bank is also examined twice a year, without notice, by federal
bank examiners.
But the most important requirement relates to the money re-
serves that must be held by national banks. Banks in "central
reserve cities " (which at present are New York, Chicago, and St.
Louis) are required to maintain a "lawful money reserve" 1
equal to at least 25 per cent of their deposits. Banks in other
"reserve cities" (including at present about forty cities) are also
required to maintain 25 per cent reserves, but their deposits
in the national banks of the central reserve cities may be
counted for one half of this amount. In all other places the banks
are required to hold a 15 per cent reserve, three fifths of which
1 Including all kinds of United States money except subsidiary silver, minor
coins, and national bank notes.
CREDIT AND BANKING
2 53
may consist of deposit accounts in banks in central reserve cities
or other reserve cities. In all cases the funds kept by the banks
with the United States treasurer for the redemption of their notes
are counted as part of their legal reserves.
The New York Money Market. Under the operations of this
system the cash reserves of the national banks are centered in New
York. This appears clearly in Table I, which shows that on the
date specified more than a third of the cash reserves of the 6544
TABLE I
DEPOSITS AND RESERVES OF NATIONAL BANKS: AUGUST 22, 1907'
LOCATION
No. OF
BANKS
DEPOSITS '
RESEKVE
CLASSIFICATION OF RESERVE
Amount '
Ratios J
Lawful
money in
bank '
Due from
reserve
agents
Redemp-
tion fund'
New York
38
M
8
306
6178
825-7
262.9
116.8
1423-4
2627.2
221.3
66.6
27.6
362.3
443-5
26.8
25-3
23.6
25-5
16.9
218.8
66.1
26.8
190.3
199.6
2.6
0-5
0.7
6-3
17.2
Chicago
St. Louis
165-7
226.7
Other reserve cities
Country banks . .
Total
6544
5256-1
1121.4
21-3
701.6
392-4
27-3
1 Compiled from Report of the Comptroller of the Currency, 1007, pp. 222-224.
' Millions of dollars. Per cent.
national banks in the United States were in the vaults of thirty-
eight New York banks. 1 These figures do not, however, convey
an adequate idea of the national importance of the New York bank
reserves. New York is the great wholesale market for foreign ex-
change, the chief center of gold movements to and from Europe,
the principal importing and exporting center for commodities,
in short, the chief market place of the continent and the focus of
financial operations. All state banks, private banks, and trust
companies of importance find it to their advantage to maintain
deposit accounts in New York, both for their own use, and in order
1 The bulk of the deposits of out of town banks were in from twelve to twenty
banks which make a specialty of this kind of business.
254 OUTLINES OF ECONOMICS
that they may supply New York exchange to their customers.
Even the deposit accounts of national banks in New York are in
the aggregate considerably larger than the amount they are allowed
to count as part of their reserves.
All together the deposits of other banks constituted more than
half of the $825,700,000 of deposits in New York national banks
in August, 1907. Moreover, something very much like the reserve
system obtains among other than national banks, the banks in
smaller places keeping deposits in national or other banks in larger
cities, which in turn keep deposits in New York. The trust com-
panies, and some of the state banks l keep in general very much
smaller reserves in their own vaults than are required of national
banks, a fact which makes the strain on the New York bank
reserves all the greater. Recent legislation in New York has
raised the reserve requirements of state banks and trust com-
panies in that state.
Like an inverted pyramid upon its apex, the great structure of
bank credit in the United States rests, in large measure, upon the
money reserves of the New York banks. Every important change
in the demand for money or credit in any part of the country has an
effect on the New York money market; similarly, every important
disturbance in the New York money market affects financial con-
ditions throughout the country.
The central reserve system leads to a great economy in the use
of money, and it seems to be a natural and necessary feature of
modern banking, for something like it is found in all of the leading
commercial nations, although, in Europe, the central reserves
are kept in one great bank in each country. Some dangers seem
to attend its use in the United States, but these are in large measure
attributable to other features of our banking system, chief among
which are the dominance of speculative influences in the New York
money market, the independent treasury system, and the lack of
elasticity in our bank note issues.
1 Savings banks keep reserves that average for the United States only four
fifths of one per cent of their deposits. On account of the nature of their busi-
ness, which is not banking in the commercial sense, they are a negligible factor
in this connection.
CREDIT AND BANKING
2 55
Speculation and the New York Money Market. As Table II
shows, a large and increasing proportion of the loans of New York
banks are not based on "commercial paper " ; that is, on the notes
and bills of exchange that arise in the ordinary course of business,
but are either time loans on collateral security or demand loans,
nearly all of which are secured by collateral. Most of these col-
TABLE II
LOANS AND DISCOUNTS OF NEW YORK NATIONAL BANKS ON SPECIFIED
DATES l
(In millions of dollars.)
CHARACTER OP LOAN
1890
1896
1901
IOO6
On demand
IO2
no
27O
1O 1
On time, with collateral security
A-I
60
I 2O
IJQ
On time, secured by commercial paper
152
144.
2O T,
240
1 Compiled from Reports of the Comptroller of the Currency.
lateral securities are the stocks and bonds of corporations, and the
loans, especially the demand or "call" loans, are used for the
greater part in financing speculation in such securities. This sys-
tem is partly responsible for the excessive and useless expansion of
speculation over and above the amount that is necessary to secure
the best results for the economic interests of the country. Here
we are concerned, however, with its effects on the money market.
The supply of call loans depends primarily on the amount of the
surplus reserves of New York banks; that is, the excess of the re-
serves over and above the legal minimum of 25 per cent of
the amount of the deposits. If the weekly statement of the clearing
house banks l shows a relatively large surplus reserve, this means
that the banks can safely expand their loans, the knowledge of
which fact has a stimulating effect on speculation. If, however,
the surplus reserve is low, the banks are bound to restrict their
loans of all kinds and to "call" some of their demand loans.
1 Some of the banks in the clearing house are state banks, but by the rules of
the clearing house these were required to maintain the same reserve as national
banks even before recent legislative enactments.
256 OUTLINES OF ECONOMICS
When the reserve is below the legal limit demand loans have to be
called in large quantities in order to enable the banks to meet press-
ing demands for credit on the part of their regular customers. 1
The precipitate calling of demand loans by some banks simply in-
creases the demand for credit at other banks, which in turn have to
curtail their loans. Such a condition of the money market leads
to a depression in the price of speculative securities, which is in-
creased by the forced sales of securities in order to obtain the money
funds that had previously been lent on them; the fall in the price
of securities leads brokers to demand more "margins" from the
customers for whom they have bought securities, and it leads the
banks to demand more securities as collateral for their outstanding
loans. Under such conditions the interest rate on call loans some-
times goes as high as 125 per cent, or even higher. 2
If the ruling prices of speculative securities have been higher than
industrial conditions would warrant, such a disturbance of the
money market is apt to be long continued, and might easily develop
into a general financial crisis. The call loan market is essentially
1 The rigidity of the New York bank reserves is itself an element of danger to
the money market. The Bank of England protects its reserves when they are
threatened by the simple process of raising its discount rate. The effect of this
is to restrict the loans of other banks as well as of the Bank of England to the
more necessitous borrowers. Under our national banking law limiting the rate
of interest, further loans have to be stopped absolutely when the reserve goes below
the legal minimum. The New York bank reserve is accordingly a real reserve
only in the sense that it makes it possible for the banks to meet extraordinary
demands for ready cash. So far as the extension of credit is concerned, it is not
a reserve, but a dead line. In practice the law is not rigidly observed, a warning
from the comptroller of the currency being the only penalty exacted for a tem-
porary deficit in the reserves. Nevertheless the reserve does not often fall more
than one or two points below the legal minimum. The sudden curtailment of
loans which the rigidity of the reserve entails is one of the things that tends to
convert an incipient panic into a real panic.
3 That is, the rate on what may be called marginal call loans, effected at the
stock exchange by bankers' agents, or by individuals or corporations. Many
banks continue to make call loans to their regular customers at such times at
rates not exceeding 6 per cent. Under normal conditions the rate on call loans
is lower than the rate on time loans. For the period 1901-1906 the bank rate
on call loans averaged 3.3 per cent as against an average rate of about 4.5 per cent
on time loans. Excessive variability is the chief characteristic of the call loan
rate. Cf. W. A. Scott, "Rates on the New York Money Market," Journal oj
Political Economy, Vol. XVI, pp. 273-298.
CREDIT AND BANKING
2 57
speculative, and it is unfortunate that the condition of the supply
of credit for the normal commercial needs of the country should be
periodically unsettled on account of this fact. In no other great
money center of the world do call loans occupy the important place
that they do in New York. 1
The Independent Treasury System. The United States govern-
ment is to a very large extent its own banker. It keeps its own
money in its own strong boxes, quite after the fashion of a mediaeval
monarch. The strong boxes in this case are, however, the vaults
of the treasury in Washington and of nine sub-treasuries located
in important cities. Apart from the fact that the government
revenue and the government expenditures are naturally not dis-
tributed evenly throughout the year, the government has the further
difficulty that a close balance of revenues and expenditures for any
given year must be wholly accidental. Even if the federal budget
were carefully and scientifically constructed, as it is not, the public
revenues would be liable to uncertain fluctuations, a result in
part of the importance of customs receipts among them. The gov-
ernment, furthermore, receives most of its income in money, not
in bank credit instruments. When a surplus accumulates in the
government treasury, that much money is taken out of circulation,
which reduces the bank reserves, and contracts the amount of bank
credit available.
The government is permitted, however, by the national bank act
of 1863 to deposit money in selected national banks. Some secre-
taries of the treasury have made little use of this privilege, but in
recent years such deposits have become more common.
Until 1902 banks had always been required to deposit government bonds
with the federal treasury as security for federal deposits, but in that year and
again in 1906 Secretary Shaw offered to accept approved state and munici-
pal bonds in lieu of a certain amount of government bonds, on condition
that the latter should be immediately used as security for increased note
issues. In 1897 only 168 banks were government depositories. In 1907
1 The control of groups of powerful banks by great chains of "financial Inter-
ests" is another anomalous condition of the New York money market. For
an account and criticism of this situation as it existed in 1903, see C. J. Bullock,
"The Concentration of Banking Interests in the United States," Atlantic
Monthly, Vol. 92, pp. 182-192.
s
258 OUTLINES OF ECONOMICS
there were 1255, which held on June 20 of that year $167,000,000 out of a
total treasury balance of $422,000,000. Part of this increase is attributable
to the effect of a law enacted in 1907 allowing custom receipts to be deposited
in banks. Previously to this deposits could only be made from the proceeds
of internal revenue duties and miscellaneous receipts. The Aldrich act of
1908 provided for the payment of one per cent interest on all government
deposits except the active checking accounts.
The government has, on several occasions, come to the rescue of the banks
by cash purchases of its own bonds. The decline in the market price of
government bonds in periods of financial stringency makes these purchases
relatively advantageous to the government. The periodic shifting of govern-
ment deposits to localities where money is most needed, the temporary
deposit of gold in New York banks equal in amount to their engagements of
gold for transportation from Europe, and even the arbitrary withdrawal
of government money from the banks when it was "not needed," in order
that it might not be made the basis of speculative activities but kept till the
time when it "was needed," * have been recent developments in the relation
of the treasury to the money market.
In favor of this system as at present developed it may be said that a sur-
plus in the government treasury constitutes a real cash reserve, the wise use
of which by the secretary of the treasury may possibly avert a serious crisis.
But there are dangers in intrusting so much financial power to one man.
If used without discretion it is bound to do more harm than good. More-
over, some of the recent treasury operations have not been free from the
suspicion of favoritism to certain banks. It is to be feared, too, that the
knowledge that the government surplus will, in time of necessity, be put at
their disposal, will tend to encourage unsound banking by relieving the
banks of the proper responsibility for the maintenance of their own reserves.
All in all it seems probable that a definite and known policy with regard to
government deposits is better than the recently developed system of un-
certainty and arbitrary action.
The Movement of Money. The demand for loanable funds
varies locally, according to the business conditions that exist in dif-
ferent parts of the country. These differences make loans worth
more in some localities than in others, and result in some shifting
of bank credit. New York banks, for example, sometimes invest
in "out of town" commercial paper when this is more profitable
than employing their funds at home. More frequently, interior
banks place loans in New York, either through their correspondent
banks there, or by the purchase of securities from note brokers.
1 See Finance Report, 1906, p. 41.
CREDIT AND BANKING
259
This shifting of credit, however, is unimportant as compared with
the movement of money itself. Money is continually flowing from
New York to the interior and from the interior to New York, ac-
cording as it can be more profitably employed in bank reserves in
one place or the other. Similar movements take place between the
various cities of the country. This movement, it will be noted, is
not one that is apt to disturb financial conditions. On the con-
trary, it tends to prevent extreme local fluctuations in money market
conditions by leading to the expansion of credit where it is most
needed, and similarly, to the contraction of credit where it is least
needed.
There is another kind of money movement, however, which is
not so fortunate in its effects upon the money market. The amount
of money needed as an actual medium of exchange varies for dif-
ferent seasons and for different localities. The demand for money
to serve as the basis of credit in bank reserves and the demand for
money as an actual medium of exchange are different and compet-
ing demands. When more money is needed as a medium of ex-
change, reserves have to yield and credit has to be contracted.
The most important movement of this sort is in response to the
annual demand for money to be used in "moving the crops."
Harvest expenses are very largely wages, and these have to be paid
in cash. Many farmers, moreover, insist on receiving money pay-
ments when they sell their crops. The cotton crop of the South
and the grain crop of the West necessitate the conversion of bank
deposits in those regions into money, and to the negotiation of loans
on the security of the crops, the proceeds of which are also taken in
cash. The banks in these sections of the country in turn convert
their deposits in other banks into money, and in large part this
money is obtained, directly and indirectly, from the New York
bank reserves. The movement of money from New York to the
South and West usually commences in August of each year and
continues through November, when the return movement sets in,
continuing usually till February. Despite the fact that the New
York bankers are forewarned of this movement, it always reduces
their surplus reserves and leads to stringent and often precarious
Conditions in the New York money market, conditions which are
260
OUTLINES OF ECONOMICS
frequently reflected in difficulties in the money market throughout
the country.
Elastic Currency. To the arbitrary flow of money to and from
the treasury, and to its movement to and from the interior, there
must be added the movement of gold between this and other coun-
tries. This will be discussed in another place; it is sufficient to
note at this point that this external money movement is at the same
time a cause and effect of changing money market conditions.
That these money movements affect the supply of bank credit as
they do is partly attributable to the inelastic character of our bond-
secured bank currency. Under the provisions of the national bank
law that have been described, the variations in the amount of
bank notes outstanding bear a close relation to variations in the
price of government bonds, and these variations are affected by
many other things than money market conditions, and in recent
years have been very small.
As will be seen in Table III, the creation of the two per cent
bonds, payable in 1930, stimulated the issue of bank notes, because
TABLE III
AMOUNTS OF BANK NOTE CIRCULATION SECURED BY SPECIFIED
CLASSES OF BONDS : 1900-1907 l
SECURITY
March 13,
1900
Oct. 31,
1903
Oct. 31,
1004
Oct. 31,
1005
Oct. 31,
1906
Oct. 31.
1907
Loan 1908, 3*s . .
Loan 1907, 4's . .
Loan 1925, 4's . .
Loan 1004, 5*5 . .
Loan 1891, a's . .
Consols 1930, 2's
Panama Canal . .
$56,164,820
130,302,250
14,697,850
21,906,350
20,400,150
$1,797,580
2,797,200
1,410,100
718,650
$1,922,940
5,857,500
1,791,600
$2,215,540
4.050-350
4,465,000
$3.73-7oo
25,124,650
4,602,100
$6,473.080
10,732,900
376,003,300
416,972,75
483,181,900
492,170,650
14,482,080
532,543,550
17,245,380
Total
243,651,420
382,726,830
426,544,790
493,912,790
539,653,180
566,994,910
From Report of the Comptroller of the Currency, Finance Report, 1907, p. 390.
the federal tax is only one fourth of one per cent semiannually on
bank notes secured by two per cent bonds as against one half of
one per cent on notes secured by bonds paying a higher rate of
interest. The relative stability of the amount issued in more recent
years is noticeable, what increase there was being a natural
CREDIT AND BANKING 2 6i
result of the increasing number and size of banks. Nor does the
amount of note issue respond to any marked extent to the regu-
lar seasonal demands for money to move the crops or to the less
regular operations of the treasury department or of the foreign
exchanges.
Students of banking problems have for many years thought that
it would be better to allow the national banks to issue part, if not
all, of their notes on the security of their general assets, thus placing
them on the same basis as deposits. It is clear that if this were
done any sudden increase in the demand for money as a circulat-
ing medium might be met by the creation of bank credit in the form
of bank notes, or by the shifting of bank credit from the form of
deposits to the form of note issues. "Asset banking," as this is
called, is used in Canada, and enables the banks there to furnish
money for crop moving purposes without endangering their re-
serves. Most of the great national banks of continental Europe
also issue notes on the security of their general assets.
To achieve real elasticity it is necessary to provide for the ready
contraction of note issues when the special demand for money is
over as well as to provide for their ready expansion in time of need.
It seems probable that this could best be accomplished under the
difficult conditions that prevail in the United States by a system
similar in some ways to that governing the Reichsbank of Germany,
whereby all note issues above a certain amount are subject to a
special tax. This should be coupled, however, with a more ade-
quate mechanism for redeeming the notes than the present one,
and it would be desirable to graduate the tax according to the
amount of the excess note issues outstanding.
The first tangible result of years of discussion of this subject in Congress
and elsewhere was the Aldrich act of 1908. This measure supplements the
existing system by permitting banks which have outstanding notes secured
by government bonds equal in amount to 40 per cent of their capital to in-
crease their circulation in one or both of two ways. First, on the security
of approved state, county, or municipal bonds deposited with the treasurer
at Washington, such note issues being restricted to 90 per cent of the par
value of the bonds. Second, through the voluntary organization of "Na-
tional Currency Associations," which are to be composed of not less than
ten banks in contiguous territory whose combined capital is not less than
262 OUTLINES OF ECONOMICS
$5,000,000. Banks in such associations can issue notes to an amount not
exceeding 30 per cent of their capital and surplus on the basis of securities
deposited with the association, if the securities are approved by the associ-
ation and by the comptroller of the currency. Such securities may be (i)
bonds of the kind that may be used for the extension of note issue under the
alternative plan already mentioned, in which case the issue may be 95 per
cent of the par value of the bonds, or (2) two-name commercial paper of
not over four months' duration, or the bonds or other securities of corpora-
tions, in which case the issue must not exceed 75 per cent of the face value
of the securities. The association is responsible for the maintenance of the
redemption fund of each of its members. A bank's entire note issue must
not exceed its capital and surplus.
The extra note issues authorized by the Aldrich act must not at any time
exceed $500,000,000 in the aggregate, and are taxed at the heavy rate of 5
per cent per month for the first month and i per cent for each additional
month up to a maximum of 10 per cent. Very little can be expected from
the Aldrich act in the way of securing elasticity of the currency. The first
of the two alternative methods may possibly be helpful, but the excessive
rate of taxation will tend to prevent its extensive use save in extreme emer-
gencies. It is difficult to organize national currency associations save in
important financial centers, and the provision for the use of corporate securi-
ties only projects into the field of note issue what is already an unfortunate
tendency of deposit banking in the United States. The Aldrich act may
afford some relief in periods of the most extreme stringency in the money
market but it does not advance us very far toward the desired goal of a cur-
rency that will automatically expand and contract with business needs.
Some favor the issue of such a currency by the government instead of the
banks, but this would be undesirable. There are no such points of contact
between the government treasury and the needs of the business world as
exist in the case of the banks. Government paper currency can be controlled
in amount only by arbitrary methods. It is by very nature inelastic.
A Central Bank. The great national banks of European coun-
tries, such as the Bank of England, the Bank of France, and the
Imperial Bank of Germany, combine the functions of our independ-
ent treasury system, the general note issue functions of our national
banks, and the function of the New York national banks as cus-
todians of the central reserve. That is, they have a practical
monopoly of the privilege of issuing notes; 1 they hold the govern-
1 In England and Germany some other banks than the central banks have a
limited right to issue notes, but this is only a survival, a vested right, which in
various ways is gradually being extinguished.
CREDIT AND BANKING
263
ment funds and act as fiscal agents of the government, and they
hold the ultimate banking reserves of their respective countries.
The United States Bank (1791-1811) and the Second Bank of
the United States (1816-1811) were institutions of this kind. In
each case Congress refused to recharter the bank at the expiration
of its original twenty-year charter. In each case, also, this oc-
curred when the country was temporarily under the dominance of
a strong democratic sentiment opposed to political or financial cen-
tralization in any form. Jealousy on the part of state banks was,
however, the immediate cause of the demise of the first United
States bank, while the second succumbed to the still more potent
hostility of Andrew Jackson. There are many who think that the
abandonment of the independent treasury system and the re-
establishment of a great central reserve bank would be the best
solution of our currency difficulties. Such a bank might very
properly be limited to the field of issuing notes, and receiving the
deposits of and making loans to the government and other banks.
The Present Position of State and Private Banks. The figures
in Table IV give only a partial idea of the present position of bank-
TABLE IV
NUMBER OF BANKS AND AMOUNT OF DEPOSITS IN SPECIFIED KINDS OF
BANKS: 1907 '
NUMBER or
BANKS
DEPOSITS
State banks
0,067
$3,068,600,000
Savings banks
i,4ic
3 . .10 . .100.000
Private banks
1,141
151,100,000
Loan and trust companies
704
3,061,600,000
National banks ....
6,420
4.722.000.000
Total
19,746
$13,099,600,000
1 From Report of Comptroller of the Currency, Finance Report, 1007, p. 418.
ing in the United States, for while they are complete as to national
banks, there were, in 1907, over 4000 other banks which failed to
make reports to the comptroller of the currency.
264 OUTLINES OF ECONOMICS
"State banks," in the narrow sense, include only corporations chartered
by the individual states to conduct a general commercial banking business.
In a broader sense savings banks and trust companies incorporated under
state law may be said to be state banks.
Savings banks do not usually do a commercial banking business ; that is,
they are not engaged in the sale of bank credit in a form that can be used in
making payments. Their deposit accounts are not usually transferable by
means of checks. They receive deposits of small savings and invest them
in long time securities, such as real estate mortgages and bonds of various
sorts. They perform an important social service by stimulating saving and
by increasing the financial power of small investors through concentrating
and combining their resources. Savings banks are organized either as cor-
porations or as mutual societies managed by a board of trustees acting for
the depositors. The latter type is especially common in the eastern states.
The advantages of savings banks are less available in the rural districts
than in the cities, a fact which is perhaps the strongest argument for the
establishment of postal savings banks by the federal government.
Trust companies were at first organized to take charge of trust funds and
to act as executors and administrators of estates. They have, however,
developed the functions of both savings banks and commercial banks, and
have even entered such specialized banking fields as foreign exchange and
the underwriting of corporation securities. They have thus the character
of free lances in the banking field. Their banking functions have developed
so rapidly that in many states they have been put under no such rigid control
as is exercised over state and savings banks.
Private banks are of two very distinct types. Some are small unincor-
porated banks in country towns. Others are great concerns in the financial
centers which deal in investment securities, buy and sell foreign exchange,
finance great corporate undertakings, and, in some cases, act as brokers in
the stock market.
It is impossible, in fact, to draw a definite line between "banking" and
other financial undertakings. Building and loan associations, private money
lenders, note brokers, life insurance companies, etc., frequently perform
functions which are very much like some kinds of "banking." But banking
as the institution which converts personal credit into bank credit in the form
of deposit accounts and bank notes is a clearly defined thing, and has a dis-
tinct economic significance of its own.
QUESTIONS
1. Do you make a loan to the government when you receive greenbacks
as money ?
2. Compare the history of the assignats of the French revolution with
the history of the bills of credit issued by the Continental Congress.
CREDIT AND BANKING
265
3. Explain the various items in the published "statement" of a national
bank.
4. Because a national bank can buy interest-bearing government bonds
and use them as security for its own issues of paper money, advocates of
government paper money issues have alleged that it gets "double interest
on its money." Is this true?
5. How should one compare the profitableness of issuing notes with the
profitableness of extending deposit credit?
6. What restrictions does your state impose on state banking corporations ?
7. Why would wheat not make a satisfactory money commodity? iron?
platinum ? diamonds ?
8. Would it be possible to maintain a seigniorage of 10 per cent on United
States gold coinage?
9. Report on the following questions not answered in this chapter:
(i) What is the "limit of tolerance"? (2) On whom does the loss due to
the wear of gold coin fall ? (3) To what extent are different kinds of United
States money legal tender?
10. If the United States had adopted the free and unlimited coinage of
silver in 1896, how would prices have been affected?
11. Is the actual standard of value pure gold or gold of standard fineness?
12. What elements of truth are there in the statement that "coins get
their value from the government stamp" ?
13. Would it be possible to have a standard of value that could not be
used as a medium of exchange?
REFERENCES
BULLOCK, C. J. Essays in the Monetary History of the United States.
CLEVELAND, F. A. Funds and Their Uses.
Comptroller of the Currency, Annual Report.
CONANT, C. A. History of Modern Banks of Issue.
DEWEY, D. R. Financial History of the United States. (See index.)
Director of the Mint, Annual Report.
DUNBAR. Chapters on the Theory and History of Banking.
HEPBURN, A. B. The Contest for Sound Money.
Indianapolis Monetary Commission, 1898 Report.
JEVONS, W. S. Money and the Mechanism of Exchange.
JOHNSON, J. F. Money and Currency.
KIXLEY, DAVID. The Independent Treasury System; also, Money.
KNOX, J. J. History of Banking in the United States, and United States Notes.
LAUGHLIN, J. L. History of Bimetallism in the United States, and The
Principles of Money.
MITCHELL, W. C. History of the Greenbacks, and Gold, Prices, and Wages
under the Greenback Standard. (University of California Publications,
Economics, Vol. I.)
266 OUTLINES OF ECONOMICS
No YES, A. D. Thirty Years of Arnerican Finance.
PRATT, S. S. The Work of Watt Street.
SCOTT, W. A. Money and Banking.
SUMNER, W. G. History of Banking in the United States.
Treasurer of the United States, Annual Report. (This, together with
abbreviated forms of the reports of the Director of the Mint and the
Comptroller of the Currency, are printed as appendices to the Report
of the Secretary of the Treasury in the bound edition of the annual
Finance Report.)
WALKER, F. A. Money, and Money in its Relation to Trade and Industry.
WATSON, D. K. History of American Coinage.
WHITE, HORACE. Money and Banking.
CHAPTER XVI
OTHER PROBLEMS IN MONEY AND BANKING
Crises. Crises are frequently recurring phenomena of current
economic life. They are of all degrees of severity, but are generally
characterized by a scarcity of bank credit, a sudden drop in prices,
industrial depression, lack of employment for wage earners, and
kindred symptoms.
Crises are frequently attributed to "over production, " or, when
that expression is criticised (because human wants are never fully
satisfied) to "under consumption." The two expressions are dif-
ferent ways of describing the same thing, and both are misleading
because they put the emphasis in the wrong place. Production
and consumption have to do with quantities of things and their
fitness to satisfy human wants. Crises spring from mishaps in the
valuation of things; they relate to what might be called the dollars
and cents aspect of economic life. It is difficult, even impossible,
for observers to analyze all the factors entering into a particular
crisis, and it is even more difficult to formulate a theory of crises
that will be of general applicability. There are some important
things about crises, however, that are relatively well known, and
these will form the basis of our discussion.
It is a significant fact that crises generally occur only as sharp
interruptions of periods of business prosperity, when credit is abun-
dant, prices relatively high, and employment plentiful. What-
ever may be the cause of a period of exceptional business prosperity,
it is apt to contain within itself the seeds of its own destruction.
The point will appear clearly if we put together two conclusions
that were reached in the preceding chapter: first, that the supply
of loanable funds in the form of bank credit is a function of two
variables, the supply of personal credit and the supply of money
267
268 OUTLINES OF ECONOMICS
available for bank reserves; second, that personal credit is based on
the probable amount of future incomes and probable future value
of property.
Suppose, for example, that business conditions are prosperous
and promise to continue so, and that there is a plentiful supply of
money in the bank reserves. Expected prices and expected profits
are large, expected interest payments seem certain. The power to
get this future income depends, however, upon the possession of
land, capital goods, franchises and other privileges, the estab-
lished business relations that give rise to " good-will values," or upon
the possession of income-yielding securities, such as mortgages,
bonds, stocks, etc. Under such conditions, these things command
good prices in the market and may easily be hypothecated, either
formally or implicitly, in order to secure purchasing power,
bank credit. The bank credit thus created is put into further in-
vestments of capital and into the creation of further business
opportunities. These things serve in turn, so long as their income-
yielding power seems certain, as the basis of further extensions of
bank credit, and thus the process of business expansion continues
in a cumulative fashion. An extensive period of increasing pros-
perity of this kind is, however, scarcely possible unless the supply
of money is increasing; for bank reserves as well as the amount of
expected personal incomes condition the supply of purchasing
power.
Any one of a number of things may be sufficient to precipitate a
panic under such conditions. The whole business structure may
fall to pieces through sheer topheaviness. That is, so much pro-
duction to-day is indirect, so large a share of productive effort is
devoted to forwarding in indirect ways the production of goods that
will be ripe for human use only in the comparatively distant future,
that the mere operations of supply and demand among business
men themselves may maintain prosperous business conditions for
some time. But in the long run the maintenance of the values of
producers' goods and privileges depends on the demand, and hence
on the income, of ultimate consumers. Wages do not usually rise
as rapidly as prices in periods of business expansion. This simple
fact may in itself keep the average purchasing power of consumers
PROBLEMS IN MONEY AND BANKING 269
from expanding rapidly enough to furnish a solid support for the
growing structure of capital values.
Crop failures may precipitate a panic by diminishing the pur-
chasing power of those engaged in agriculture, and, possibly, by
reducing exports and thus necessitating the taking of gold from
the bank reserves to ship to Europe in payment for our imports.
When the credit situation is at all strained the failure of one im-
portant bank may be enough to precipitate a panic. The bank's
creditors are prevented from meeting their own obligations; the
solvency of others is in turn dependent upon them, and thus losses
in expected and often already hypothecated income are transmitted
from firm to firm and from industry to industry in a constantly
widening circle.
In fact, whatever may be the immediate cause of a panic, it is
bound to grow, in a condition of inflated capital values, with tre-
mendous rapidity. The collapse of credit leads to forced sales of
property in order that credit obligations may be met. These lower
property values, lessen the security on which credit is founded, and
render banks less able and less willing to make loans. Moreover,
the hoarding of money, which is apt to be a feature of a panic, has
a destructive effect on bank reserves. In a serious panic the
liquidation of obligations has to work itself out. Then the indus-
trial process starts afresh, with lowered values, and with property
rights shifted, in some measure, to creditors.
Crises seem to be unpreventable so long as competition and the
credit system dominate in industry. Yet there are some recent
developments that may make them less frequent, and possibly less
serious.
The "integration of industry," whereby a whole series of pro-
ductive processes, from the production of the raw material to the
sale of the finished product, are brought together under one man-
agement, decreases the number and complexity of credit relations
between producers, and tends to prevent the undue expansion of
those parts of the productive process that are farthest removed
from the consumer. The strong position of the steel industry in
the United States is a case in point. The improvements in the
bargaining power of wage earners resulting from their organization
270 OUTLINES OF ECONOMICS
have enabled them partly to prevent the widening of the gap be-
tween wages and prices in prosperous times, as recent American
statistics show. On the other hand, crop failures are and always
will be a factor of uncertainty. The lack of an elastic currency is
also an element of danger, but this can and should be remedied.
The Economic Effects of Changes in the Value of Money. It
has already been suggested that an increase in the amount of
money available for bank reserves leads to the expansion of credit,
stimulates business, and as a result usually increases prices,
temporarily, at least. The same results are achieved, although in
not the same way, by a depreciation in the value of money, such as
comes from a sudden change in the standard of value, or from the
introduction of irredeemable paper money as the medium of ex-
cMange. Without understanding the exact process we know that
prices are gradually increased under such conditions, there being
an unmistakable tendency to adjust them to the change in the
"dollar" or other unit of the medium of exchange. 1 The rising
prices stimulate business by increasing profits. Profits are in-
creased because most of the expenses of production are incurred
before the goods are sold, so that the rise in prices increases the
margin between prices and the expenses of production, and be-
cause, moreover, some of the expenses of production do not usually
rise as rapidly as do prices. An expansion of business activity of
the kind already described is apt to be the result, and this is not
generally soon restrained by insufficient bank reserves, for de-
preciated money is usually, though not always, money that is
coined or issued in large quantities.
That periods of prosperity induced in this way are inevitably
short-lived and usually end in severe crises does not make them any
the less real. Nor should the fact that such artificial conditions
of business enterprise are apt to be accompanied by excessive
1 Possibly the effect upon other prices of the increased prices (measured in
the depreciated money) that have to be paid for imported commodities and that
are received for exported commodities is the key to this problem, just as it was
undoubtedly the chief cause of the rise of prices to fit the bullion value of coins
from which seigniorage had been taken. This is the explanation of the rise of
prices under the greenbacks suggested by Professor W. C. Mitchell, the historian
of that movement.
PROBLEMS IN MONEY AND BANKING 271
speculation and other unhealthy features blind us to the fact that
they accomplish some good. The encouragement given to ven-
turesome undertakings leads to the trial of new methods of
production, to the development of new natural resources, to under-
takings of vast proportion, to a general freeing of industrial organi-
zation and methods from the restraints of habit and tradition.
The foundations of modern large-scale industry in the United
States were laid in the period between the Civil War and the panic
of 1873. The period of state bank note inflation preceding the
panic of 1837 was a period in which the industrial map of the
United States was almost wholly changed, and, in the long run,
for the better.
A rapid increase in the supply of standard money may have a
similar effect. A tremendous expansion of international trade
followed the gold discoveries in California and Australia. In the
sixteenth century, increases in the supply of the money metals,
economic writers are agreed, hastened the fall of the medizeval
economic system. The almost unparalleled development of in-
dustry and industrial organization in the United States since 1897,
must, with its good features as well as its bad, be attributed in part
to the increased supply of gold.
Business prosperity, however, does not always coincide with the
real economic welfare of the masses of the people. If prices are
rising faster than money wages, real wages are obviously declining.
A period of falling prices is very apt to be a period of increasing
well-being for those whose incomes are wages or salaries, although
here we have to remember that even if daily or weekly wages do
not fall so rapidly as prices, an increase of unemployment may
affect total yearly incomes adversely.
The Standard of Deferred Payments. The relation of changes
in the purchasing power of money to long-time debts and credits
has been suggested in another connection. If prices increase, the
principal of a loan represents less purchasing power at time of re-
payment than at the time the loan was made. If prices decrease,
the reverse is, of course, true. In periods of cheap money agita-
tions the additional burdens imposed upon debtors in a period of
decreasing prices are emphasized. An important function of
272 OUTLINES OF ECONOMICS
money, then, is found in its use as a standard of deferred
payments. 1
As Professor Irving Fisher has shown, there is a partial com-
pensation for the injustice worked to debtors or creditors by chang-
ing money values in the fact that the interest rate varies inversely
with the value of money. If the value of money is increasing and
promises to continue to increase, money lenders are forced by com-
petition to offset the expected increase in the value of a loan by
accepting a lower interest rate. When the value of money is de-
creasing, the expected decline in the value of the principal causes a
higher rate of interest to be charged. So far then as the increase
in the value of the principal is discounted in the interest rate at the
time when a loan is made, to that extent is the debtor's claim of in-
justice unfounded. The decline in the interest rate as prices de-
crease makes it possible, moreover, for debtors to pay off their old
obligations with money funds borrowed on more favorable terms.
We may expect that less emphasis will be given to the question of
the standard of deferred payments in future periods of declining
prices, because American farmers are becoming in increasing
numbers lenders rather than borrowers of money. Corporation
bonds are taking the place of farm mortgages as the most significant
form of long-time credit instruments.
Index Numbers. Changes in the purchasing power of money
are indicated statistically by the use of index numbers. 2 The
prices of a number of important commodities in some one year, or
their average prices for a term of years, are taken as the basis of the
computation. The price of each commodity in each year covered
1 From the analysis in the preceding chapters it should be clear that money
serves also as (i) the medium of exchange and measure or denominator of value,
(2) the standard of value, (3) the basis of bank credit. The first of these functions
is performed by all money; the second function only by standard money and
bullion; the third by all money that can be lawfully used in bank reserves. Legal
tender money, and, if there are differences in the value of different kinds of money,
the cheapest legal tender money, serves as the standard of deferred payments.
Before the development of credit facilities one's purchasing power did not depend
so much on his property as on his own stock of ready cash. An important early
function of money was, accordingly, that of a store or reserve of value or purchasing
power.
* Cf. the table on p. 240.
PROBLEMS IN MONEY AND BANKING
2 73
by the statistics is then stated as a per cent of its price in the basing
year or years. The series of per cents thus obtained are called
relative prices. These relative prices are then combined into typi-
cal prices, or index numbers for each year. Most frequently a
simple arithmetic average of the various relative prices for a given
year is used as the relative typical relative price. Sometimes a
weighted arithmetic average is used. This differs from the simple
average in that the relative prices of the more important com-
modities are counted more than once in making up the average,
the precise amount of weight given to them being fixed according
to the importance of the commodities to which they relate. Weight-
ing is not of great practical importance unless the list of commodi-
ties used is very small, or unless the index number is to be used for
some special purpose, such as to show changes in the cost of
living, where relative prices are weighted according to the average
distribution of the expenditures of families in the wage-earning
classes.
A simple and useful way of obtaining a typical price is to find the
median. The median is the relative price which divides all of the
relative prices for a given date into halves, one half being lower
and one half being higher than the median. Less used are the
mode, the relative price that occurs most frequently in a given
year, and the geometric average, the wth root of the prod-
uct of the relative prices of n commodities. Much has been
written about the relative advantages of the different kinds of
averages, but the questions involved are highly technical. Whether
one kind of average is better than another usually depends upon
the character of the data and the use that is to be made of the re-
sults. Statisticians now emphasize the importance of knowing
the distribution as well as the trend of price changes. That is, in
order to know whether the average is really typical of the different
relative prices we should know how closely most of them approxi-
mate to it. The range of the variation of the different relative
prices from the average might, for example, be comparatively
small below the average and comparatively large above it. There
are various ways of measuring and stating the distribution of
prices.
274 OUTLINES OF ECONOMICS
Wage changes as well as price changes can be measured in index
numbers. Weighting is of more importance in the case of relative
wages than in the case of relative prices, because the number of
men represented in the data for single series of relative wages (such
as those in a given occupation in a given establishment) is con-
stantly changing.
Index numbers are available for the United States for the period
since 1860. For the period 1860-1880 Mitchell's 1 are the best;
the period from 1890 to the present is covered by the United States
Bureau of Labor, 2 and for the gap from 1880 to 1890 Falkner's are
available. 3 Dun's Review and Bradstreei's also publish tables of
price changes. 4
Some writers have suggested the possibility of a tabular standard
of value, to be maintained by frequently changing the value of the
money unit in accordance with the showings of an officially kept
system of index numbers. To do this by periodically altering the
amount of bullion in standard money would be impracticable,
while to abandon the use of a standard commodity and to attempt
to regulate prices by issuing fiat money and controlling the amount
in circulation would be, as we have seen, chimerical. A tabular
standard of deferred payments might be put in operation by laws
providing for the increase or diminution of the principal of debts
according to changes in prices. It is probable, however, that this
would be satisfactory to neither debtors nor creditors. The really
essential thing is to have a commodity standard of value that shall
be as stable as possible, and to maintain the convertibility of all
other forms of money with it. With gold as the standard of value,
and with all other forms of money redeemable in gold, changes in
prices are not apt to be rapid enough to work much injustice to
either debtor or creditor. The compensating influence of changes
in the interest rate must also be taken into account. The question
of the grievances of debtors and creditors has been overemphasized
1 In his Gold, Prices, and Wages under the Greenback Standard.
3 In various numbers of the Bulletin of the Bureau of Labor.
"In "Aldrich Report" on Wholesale Prices, Wages, and Transportation,
Senate Doc., 32d Cong., ad Session, No. 1394.
* For an exhaustive account of various index numbers and other price statistics
see Laughlin, The Principles of Money, pp. 171-211.
PROBLEMS IN MONEY AND BANKING
275
as compared with the really important economic problems growing
out of changes in the value of money. These are, as we have seen,
first, the effect on business enterprise, and second, the effect on real
incomes as distinguished from money incomes.
Value of Money. We have not as yet answered one very
important question, and that is, "What determines the value of
money?" Now by the " value of money" we cannot mean any-
thing but the purchasing power of money. There is no such thing
in fact as "the general purchasing power of money," although we
have found it convenient to use that and similar expressions.
Money has, in reality, a large number of different values, measured
by the different quantities of different things that it will purchase.
If the price of wheat is one dollar per bushel, then one value the
wheat value of money is a bushel per dollar. Similarly, the
purchasing power of money in sirloin steaks may be four pounds
per dollar. But how are we to blend sirloin steaks, wheat, and
other things into one concept ? Index numbers do not tell us what
the general value of money is; they simply reveal average varia-
tions in the different values of money. The concept of the general
value of money is simply a useful abstraction, based on a broad
view of all its different specific values.
When we fix our attention upon changes in the various purchas-
ing powers of money, however, we are able to make a distinction
between changes that are widespread and fairly uniform, and
changes that affect only one or two commodities. For example, a
new invention may decrease the price of a particular commodity,
without affecting the prices of other things except through the
shifting of demand from other things to the commodity in question,
an effect which would usually be slight so far as the price of any
one of these other things is concerned, as the demand would prob-
ably be shifted from many different lines of consumption. Or, if
the demand for the commodity in question is relatively inelastic, a
diminution in its price may increase the demand for other things.
But there are, on the other hand, price fluctuations which are wide-
spread and fairly uniform, and these we call, with substantial
accuracy, changes in the value of money.
We have already discussed the nature of price fluctuations due
276 OUTLINES OF ECONOMICS
to the use of a discounted medium of exchange, like the greenbacks,
as well as the temporary fluctuations in values, especially capital
values, that spring from alternating periods of prosperity and
depression in business. But what are the underlying causes of
general changes in the value of money ? the kind of changes we
referred to when we mentioned the decreasing value of the mone-
tary standard itself as a stimulus to business enterprises ?
Leaving theory aside, we know from experience that, other
things being equal, the value of money will decrease when the
supply of the standard commodity increases rapidly. 1 We know
that the value of money units sometimes increases when the world's
supply of the standard metal is being increased only slowly. We
then say, and it is only a reasonable inference, that the value of
money depends, other things being equal, on the supply and
demand of the standard commodity. But this is only an empirical
generalization. It leaves us ignorant of the way in which a value
equilibrium is really struck between a certain amount of gold and a
certain amount of another commodity.
In analyzing the relation of the supply and demand of other com-
modities to their prices, we assumed, for simplicity of the analysis,
that the value of gold was not changing. That is, we assumed that
the general level of prices was not changing, and so really limited
our analysis to the way in which the values of all commodities
except gold vary as compared with one another.
The marginal utility analysis, which formed the basis of our ex-
planation of the shifting of demand from one commodity to another,
does not help us to explain the demand for gold as money. Mar-
ginal utility springs from the capacity of things to satisfy individual
wants, and money does not directly satisfy a single human want,
except the abnormal wants of the miser. The subjective values we
set upon money units are only the reflected values of the things
that money will buy for us. 2
Our standard money commodity is, however, a commodity that
1 We refer here to a more permanent and thoroughgoing change in the prices
than that resulting from the business expansion following an increase in the supply
of money available for bank reserves.
2 When we speak of the utility of money we use the word "utility" in the sense
of usefulness, rather than of want-satisfying capacity.
PROBLEMS IN MONEY AND BANKING
2 77
has other than monetary uses. Gold ornaments and other articles
made from gold are subject to the law of diminishing utility just as
other things are. From the estimates of the director of the mint,
it appears that in recent years from one fourth to one third of the
world's annual production of gold finds its way into industrial uses.
The United States mints and assay offices refine nearly all the crude
gold bullion produced in or brought to this country, and allow the
depositor to take the proceeds in money or in bars of gold for indus-
trial use, as he prefers. There is thus a constant balancing between
the industrial and monetary uses of gold.
In effect the monetary units which can be got by the sale of gold
jewelry, etc., for money are balanced against the monetary units
which can be got by the simple conversion of bullion into coin. 1
Consumers, on the one hand, are balancing the marginal utility of
gold jewelry, etc., against the marginal utility of other things that
they can buy with the same number of money units. Producers,
on the other hand, are balancing the relative profitableness of pro-
ducing articles made from gold and articles made from other
materials. The valuations placed on gold in its industrial uses,
where a direct comparison with the values of other commodities is
possible, in this way fix a standard to which the value of gold as
money must approximate.
There is another way in which society makes direct comparisons
between the value of gold and the value of other things. Mining,
like agriculture, is subject to the law of increasing expenses, and
the tendencies of prices to equal marginal expenses is true for both
industries. Not only are there marginal mines, mines which it just
pays to operate, but in the most productive mines there are mar-
gins, certain depths, for example, beyond which the expense of
mining more than eats up the value of the product. Through the
operators of mines, society is continually comparing the values of
the labor and the capital goods used up in the production of gold
with the value of the things that can be bought with the produced
gold. If the gold produced at the margin will purchase things
which consumers value less than they value other things which
1 The expense of transforming bullion into jewelry, etc., is left out of account,
as it does not affect the real point under consideration.
278 OUTLINES OF ECONOMICS
could have been produced with the use of the same amount of capi-
tal and labor, capital and labor will gradually be shifted from its
marginal use in gold mining to the production of other things.
Here, then, as in the case of the balancing between the monetary
and industrial uses of gold, we have a comparative valuation of
gold and other things.
Several years ago the Bureau of the Mint undertook an investi-
gation into the relation of the expense of gold mining to the
amount of gold produced. Some of the conclusions reached are
worth quoting in this connection :
In every mining district there are mines producing at good profits, mines
producing at small profits, mines barely paying expenses, and mines
operated at a loss, but with the hope that they will do better. Every increase
in costs would submerge the latter more deeply, add to the list of the un-
profitable, and probably close some of them. ... A higher scale of working
costs will bring losing experiments to an earlier conclusion, reduce profits,
and make mining ventures generally less attractive, and thus diminish the
output. 1
To summarize our conclusions: The law of marginal utility ap-
plies in the industrial uses of gold. The particular form of the law
of normal value that is operative in agriculture also holds true in
gold mining (although it has to be stated in a somewhat different
way.) An increase in the supply of gold diminishes its marginal
utility in industrial uses, that is, diminishes the valuation put on
gold as compared with other commodities. This is bound to affect
the value of gold as money, on account of the ease with which the
supply of gold can be shifted to one use or the other. The resulting
increase in prices may be slow and irregular, but it is none the less
certain. The rise of prices, however, cannot continue indefinitely.
The increase of prices and wages brings increasing expenses in
gold mining. The marginal part of the supply of gold will nor-
mally be cut off, a process which will continue until a rise in the
value of gold diminishes the expense of producing it.
These suggestions are not put forward as an exhaustive state-
ment of all the relations between the supply of gold and its value,
although they are possibly the most important ones. Increases in
1 Report on the Production of the Precious Metals,* 1904, p. 41.
PROBLEMS IN MONEY AND BANKING
279
the quantity of other kinds of money and improvements in the
mechanism of credit, for example, probably have an effect on prices
similar to that of an increase in the quantity of gold, in that they
economize the use of that metal. Silver and paper money do not
TABLE I
PRODUCTION OF GOLD IN THE WORLD SINCE 1841
(From 1841 to 1885 the estimate is from a table of averages for certain periods, compiled
by Dr. Adolph Soetbeer; for the years 1886 to 1006 the production is the annual estimate of
the Bureau of the Mint.)
PERIOD
ANNUAL AVERAGE FOR PERIOD
FINE OUNCES
VALUE
1841-1850
1,760,502
$3 6 >393> 000
1851-1855
6,410,324
132,513,000
1856-1860
6,486,262
134,083,000
1861-1865
5.949.582
122,989,000
1866-1870
6,270,086
129,614,000
1871-1875
5,591,014
115,577,000
1876-1880
5.543."
114,586,000
1881-1885
4,794,755
99,116,000
1886-1890
5,461,282
112,895,000
1891-1895
7,882,565
162,947,000
1896-1900
12,446,939
257,301,100
1901
12,625,527
260,992,900
1902
i4,354,68o
296,737,600
1903
15,852,620
327,702,700
1904
16,804,372
347,377,200
I90S
18,268,696
377,647, 7
1906
i9,3 66 .55
400,342,100
take the place of an equivalent amount of gold, however, because
some gold has to be held in reserve to maintain their convertibility.
The so-called "quantity theory" of the value of gold money has been
much discussed in recent years. This is the doctrine that, other things being
equal, prices vary inversely as the amount of money in circulation. In
reality many different theories of the value of money have been put forward
under the name of the quantity theory. The theory just outlined, for
example, may be called a conservative form of the quantity theory. Some
statements of the theory are open to objection because they (i) place too
280
OUTLINES OF ECONOMICS
much stress on the very doubtful problem of the exact mathematical ratio
between variations in the quantity of money and variations in prices, or
(2) confuse the "measure" or "denominator" of value with the standard of
value, or (3) fail to recognize the necessity of a commodity standard of value,
and consequently attach no significance to the influence of the industrial
use of the standard commodity on its value. The most extreme form of
the quantity theory is that which forms the foundation of the argument
for the possibility of fiat money.
The Increase in the Production of Gold. Although probably
more gold was produced between 1850 and 1875 than from 1492 to
1850, yet, as Table I shows, the production of gold in any three
TABLE II
RECENT PRODUCTION OF GOLD IN DIFFERENT COUNTRIES l
(In thousands of kilograms)
COUNTRY
1897
IQOO
1904
Africa
88
I 7.
1 20
Australia
07
Ill
132
United States and Alaska
86
no
121
Russia
3=;
7T
77
Canada
42
2C
British India
12
18
Mexico
II
17
10
China
8
7
All others
26
7.C
7C
Total . .
2CC
^s?
Ml
1 From Journal of Political Economy, Vol. X, p. 580, and Finance Report, 1007, p. 363.
years since 1896 or in any two years since 1902 was as great as the
total production in the period first mentioned. Most of this great
output of gold, as Table II indicates, comes from relatively few
countries. At present the British empire supplies over one half
and the United States (including Alaska) nearly one fourth of the
total product. The causes of this enormous increase were, in part,
the opening up of new gold fields in South Africa, Canada, Alaska,
and Colorado, and in part the improvements in methods of extract-
ing gold from low grade and refractory ores, in which connection
PROBLEMS IN MONEY AND BANKING
28l
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282 OUTLINES OF ECONOMICS
the development of the "cyanide process" has been of special im-
portance. 1 Dredging for gold in the beds of rivers which drain
gold-yielding lands, is a very recent development that promises to
be of considerable importance. Notwithstanding the decrease in
the value of gold, the bulk of the gold produced in California to-day
is from ore bodies that twenty- five or thirty years ago were generally
considered worthless.
The effects of this enormous output have been felt in both Europe
and America in a general increase of both prices and wages. There
are some who expect that the value of gold will continue to depreci-
ate for a long time in the future. Account must be taken, however,
of the automatic check which the increase in wages and prices is
bound to put on the production of gold by increasing mining ex-
penses. On the other hand, still further economies in productive
methods are possible.
QUESTIONS AND EXERCISES
1. Report on the Note Issue systems of Canadian banks, the Bank
of England, the Bank of France, and the Imperial Bank of Germany.
2. Make a diagram showing the weekly changes in the total reserves
and the surplus reserves of New York clearing house banks for any recent
year. (Statistics may be obtained from the annual Financial Review, the
Commercial and Financial Chronicle, the Banker's Magazine, or other finan-
cial journal.)
3. Construct a simple index number for wholesale prices, in one city,
covering the period of a few weeks. (Use the market quotations of a daily
paper as data.)
4. If half the gold in the world were destroyed, would prices be doubled ?
REFERENCES
(See also references for Chap. XV.)
ADAMS, T. S. "Index Numbers and the Standard of Value," Journal of
Political Economy, December, 1901, March, 1902.
1 "There are many mines in operation now at a profit which could not have been
worked at a profit ten years ago. There has been an important addition to the
gold and silver product by the recovery of these metals from lead and copper ores
by modern processes. The most important gains seem to have come, however,
through economies in management, particularly by enlarging the scale of opera-
tions and by more complete extraction of the values from the ores treated."
Report on the Production of the Precious Metals, 1904, p. 41.
PROBLEMS IN MONEY AND BANKING 283
BURTON, T. E. Crises and Depressions.
BOWLEY, A. L. Statistics, Chap. VII.
Director of the Mint. Annual Report on the Production of the Precious
Metals.
JONES, E. D. Economic Crises.
MAYO-SMITH, Statistics and Economics.
United States Geological Survey, annual volume on the Mineral Industry.
CHAPTER XVII
INTERNATIONAL TRADE
THE subject of international trade brings us to an examination
of exchange from a new viewpoint. In principle, international
trade does not differ essentially from other kinds of trade. In the
last analysis it amounts to an aggregate of exchanges between pairs
of traders. But in discussing international trade we lay the em-
phasis upon the aggregate rather than the specific exchange, take
a larger view of commercial relations, try to determine how great
districts of the world combine to supply one another's wants, and
analyze the machinery by which commerce overcomes the obsta-
cles of trade restrictions and the difficulties growing out of the use
of different monetary units in different parts of the world. Much
of the confusion met with in this branch of economic thought is
due to mere forgetfulness of the elementary axioms of exchange,
and for this reason it is desirable, even at the cost of some repe-
tition, to reexamine briefly the nature and function of trade.
Nature and Advantage of International Trade. The function
of trade is to create the utilities of time and place. Industry
itself, " production " in the narrow sense of the word, is like-
wise confined to the creation of utilities form utilities, prin-
cipally. Trade, therefore, is as beneficial, as truly productive, as
agriculture or manufactures. The American people are just as
truly engaged in production when they buy books from Germany
as when they cut down their own spruce trees and manufacture
them into paper for the "yellow journals."
Trade is not only productive in the sense that it creates utilities,
but it is also an indispensable part or process of the division of
labor. Upon this self-evident fact it is unnecessary to dwell. It
is, however, desirable to recall the fact that specialization of func-
284
INTERNATIONAL TRADE 285
tion is profitable even to those individuals or classes which are
plainly superior in general productive efficiency. A successful
lawyer does not write his own letters, even though he is an expert
operator on the typewriter. He specializes in that occupation in
which he has the greatest advantage, and hires some one to
write his letters for him.
This rule frequently referred to as the law of comparative costs
- holds for communities and nations, as well as for individuals.
If, in Holland, it costs ten times as much to produce a barrel of
flour as a yard of cloth, while in America it costs only six times as
much, it will be profitable for the Dutch to confine themselves to
the production of cloth, and for the Americans to confine themselves
to the production of flour; even though both flour and cloth could
be produced more cheaply in America than in Holland. *
If this conclusion is true, it follows that so long as the compara-
tive costs of producing goods vary among the different nations of
the world, so long there will be some international trade. And,
furthermore, since it is impossible to conceive that the costs of
producing all kinds of transportable goods will ever be exactly
proportional in the several countries of the world, it is evident that
international trading is bound to continue. It can be permanently
suppressed only by raising freight charges to a prohibitive level,
or by deliberately manipulating customs tariffs so as to suppress
every new international trade connection as soon as it springs up,
or by the complete destruction of industry in other parts of the
world; and none of these possibilities is ever likely to be realized.
The ideal of an exclusive home market is a delusion. The last
thirty years have witnessed a remarkable increase of protection
throughout the civilized world, but international trade has in-
creased by leaps and bounds.
International trade, then, is productive, profitable, and for prac-
tical purposes irrepressible. The tariff controversy can never be
settled until these elementary truths are thoroughly appreciated.
On the other hand, it is equally plain that these facts do not settle
the tariff controversy. Ordinarily, trade is mutually advantageous
1 Assuming, as Mill points out, that capital and labor will not emigrate
tn masse from Holland to America, and that freight charges are small.
286 OUTLINES OF ECONOMICS
to both parties; and in one sense it is always so. If Smith trades
x to Jones for y, Smith must have wanted y more than x, and
Jones must have wanted x more than y, so that the temporary
happiness of both is increased by the transaction. But this is not,
as has sometimes been intimated, sufficient reason for permitting
all kinds of trade and condemning all kinds of trade restrictions.
If Smith is an ignorant Indian, x a blue fox pelt, Jones an un-
scrupulous trader, and y a pint bottle of adulterated whisky, the
" sense " in which this trade is adjudged " mutually profitable "
is scarcely distinguishable from nonsense. The logic which ap-
proves unrestricted trading of this sort would also sanction unre-
stricted child labor and the contemptible extortion of the " loan
shark " who charges a desperate widow 200 per cent a year on a
small loan which the woman in her ignorance and necessity
must secure. Trade restrictions have existed as long as
international trade itself, and the real problem is not whether
there should be any restriction, but when and where particular
varieties of restraint are justifiable.
Restriction of International Trade. In ancient times among
many nations, such as the Hebrews and Chinese, contact with other
peoples was feared and foreign trade was practically prohibited.
In Greece and Rome the greatest thinkers entertained a profound
contempt for trade, based in part upon the belief that in exchange
one party is usually cheated; and this prejudice was partially
justified by the character of the primitive trader who was part
sailor, part pirate, part merchant, and took all the profit he could
possibly extort in every transaction as insurance against the great
risks of his calling.
At a later date, in the middle ages, when commerce between
the semi-L dependent cities of western Europe increased, trade
came to be highly prized by the average citizen, although it was
still condemned by the philosophic schoolmen; and it was regu-
lated in the most exclusive spirit.
" Every effort was made to keep trade as much as possible in the hands
of native citizens. For example, the Venetians forbade the Germans from en-
gaging in trade with the East by way of Venice, and the citizens of Lubeck strove
to keep the Baltic trade from the Dutch. . . . Foreigners were mistrusted
INTERNATIONAL TRADE 287
and partnerships with them were forbidden. Foreign visitors were restricted
in many ways in their commercial dealings with native citizens. Many
occupations were closed to them ; the length of their sojourn and the number
of their visits were limited; they could not pass a town without exposing their
wares for sale and paying the required market dues. The wants of the con-
sumer took precedence over those of the producer or merchant. At the
weekly markets consumers could supply their needs before the baker or mer-
chant was allowed to make purchases. There was a community interest
in the supplies of necessities, and often their exportation was prohibited. The
trade of neighboring peasants was restricted to the home city, and laws
regulating price, weight, measure, and quality were common. This restrict-
ive municipal policy was very much relaxed at the great fairs which were
held periodically in various parts of Europe." l
In the early modern period mercantilism became dominant.
Commercial policies were controlled by the desire to get and keep
the precious metals. At first the exportation of specie was pro-
hibited; merchants trading abroad were compelled to bring home
cash for the goods they had taken out with them; foreign mer-
chants trading within the home country were compelled to
exchange their cash for domestic goods before they departed;
exportation except the exportation of raw materials needed
in the manufacturing industries was encouraged; and impor-
tation except in the case of the precious metals and skilled
artizans who were encouraged to immigrate was discouraged
or prohibited. When it became apparent that the supply of
money had to be secured through international trading, the
greatest emphasis came to be laid upon the " favorable balance
of trade "; and means, ranging all the way from bounties to
war, were vigorously employed to secure the carrying trade for
native ships. In a large historical sense mercantilism was merely
a cry elicited by one of the sharpest of the world's great growing
pains. It was a symptom more than a cause or an explanation.
It marked the establishment of the division of labor on a territorial
basis, and recorded the replacement of the independent economy
of the middle ages by the modern economy of exchange. For
the latter, money was indispensable, and had to be secured at any
cost.
1 Professor G. M. Fisk, International Commercial Policies, pp. 15-16.
288 OUTLINES OF ECONOMICS
The mercantilist period has been followed after a brief
laissez-faire reaction in some countries by the period of protec-
tion in which we still linger. The extensive taxation of imports
still continues; but trade prohibitions, export and transit duties,
have been largely abandoned in the more advanced countries. In
the United States export duties are prohibited by constitutional
law. But few nations have wholly risen above mercantilist prac-
tices. Canada prohibits the importation of oleomargarine and
similar substitutes for butter ; Great Britain prohibits the impor-
tation of sugar from countries paying bounties on its production;
Switzerland levies an export tax on cattle, hides, and skins shipped
from the country, while Norway and Sweden tax the exportation
of timber ; and Russia still attempts to control the Persian trade
by levying transit duties upon goods passing through her terri-
tories destined for Persia. But export and transit duties in their
old mercantilist uses have nearly disappeared.
Extensive use is still made of export taxes for revenue purposes in South
America and the Orient; and trade prohibitions based upon grounds of
sanitation, morals, and what Americans call the "police powers," are in-
creasing rather than decreasing. Turkey, for instance, levies an ad valorem
tax of i per cent upon all exports; and in general the most important
tropical products are still subject to export taxes. As for trade prohibitions
the continued necessity for their occasional employment is illustrated by our
federal law authorizing the President to suspend the importation of any
article which he regards as " dangerous to the health or welfare of the people
of the United States." For a more complete enumeration of modern export
duties and trade prohibitions, see Fisk's International Commercial Policies,,
Chap. VI.
Mercantilist ideas die hard, and current discussion of inter-
national trade by reputable legislators and intelligent journalists
is still permeated with fallacious notions which had their origin in
the conditions and economic philosophy of the seventeenth century.
One of these notions, the idea that there is something essentially
favorable in an excess of exports, and something essentially un-
favorable in an excess of imports, demands careful consideration.
Balance of Trade. Suppose, for purposes of discussion, that
the United States succeeded in prohibiting imports for a long
period, while at the same time it succeeded in selling a large
INTERNATIONAL TRADE 289
amount of merchandise to foreign purchasers. What would
happen? Evidently a large portion of the money of the world
would accumulate in the vaults of American bankers, interest
rates would fall, possibly to rise again later, and eventually,
if the process continued long enough, the prices of American com-
modities would ascend to such a level that foreign nations would
be unable to continue buying in this country. At this point,
evidently, our hypothesis breaks down, and we are forced to con-
clude that the original supposition was an impossible one.
This hypothetical case and its reductio ad absurdum are sufficient
to establish certain important practical conclusions. The first is
that a country cannot permanently sell goods for money alone.
If it produces large quantities of the money metals, it will regu-
larly sell those metals for the goods and services of other nations.
If it produces no gold or silver itself, it will secure them through
exchange; although, even in this case, gold and silver are likely to
constitute only a minor part of its imports. Perhaps the gravest
error one can commit in studying an international trafle balance
is to treat it as an exchange of goods for money. It is not even an
exchange of goods for goods. The true international balance is
one of claims against obligations, of credits against debits. The
complete statement is that the goods, moneys, and services ren-
dered by one country to other countries, plus its claims and credits
of all kinds, will be balanced by the goods, moneys, and services
received by the same country plus its debts and obligations of all
kinds. Or, to put the matter concretely, we must include, along with
the exports and imports of merchandise and bullion, loans which
the country makes or receives, annual interest payments on loans
and capital invested abroad, repayment of loans or the purchase
of securities, earnings of ships, insurance premiums, and commis-
sions of all kinds for international services, governmental ex-
penditures in foreign countries for diplomatic service, payment
of subsidies and war indemnities, remittances of immigrants,
expenditures of travelers, and a thousand and one other items,
all tending, according as they depress or raise the price of foreign
exchange, to bring about the importation or exportation of gold
for the occasional balancing of the account.
290 OUTLINES OF ECONOMICS
A mere glance at this list of items entering into foreign trade is
sufficient to puncture the old mercantilist idea that a "favorable
balance of trade " or an excess of merchandise exports brings about
an increase of the money supply. This idea is as fully refuted by
commercial statistics as by economic analysis. In the thirty-three
years, 1874-1906, for instance, we had a large excess of merchan-
dise exports in all except four years, but there was an excess of
gold imports in only sixteen years. So, similarly, there is no neces-
sary truth in the statement which we hear so often, that our present
"favorable balance" indicates that the United States is settling its
indebtedness to foreign capitalists, repurchasing American securi-
ties owned abroad, and thus bringing the control of American
enterprises more completely into the hands of Americans. It may
mean this, to be sure, but it may also merely mean that we are
paying England in goods for carrying and insuring our exports,
or that foreign owners of American securities are taking in this
form the annual interest or profits due to them. The recent excess
of export* may thus represent the continuance of indebtedness
rather than its liquidation. For the same reasons an "unfavor-
able balance of trade " or an excess of merchandise imports is open
to a variety of different interpretations. It may mean that foreign
capital is investing more heavily in the country under discussion,
or that this country is taking, in the form of consumable commodi-
ties, interest and profits on investments which it has previously
made abroad, or that it is selling its holdings in foreign enterprises
and taking the proceeds in the form of consumable goods. An
"unfavorable balance" of trade may thus be, in reality, highly
encouraging; and a "favorable balance" indicative of national
waste and extravagance. The precise meaning of any particular
balance can only be determined after the most careful study, and
no dependence should be placed upon the offhand interpretations
of casual investigators. The great truth is that there must be
some sort of balance between the credits and liabilities of any
country, and that in practice a nation must be willing to buy if it
is anxious to sell.
A scholarly analysis of the foreign trade of the United States, with a careful
interpretation of the meaning of the trade balance at various periods, may
INTERNATIONAL TRADE
291
be found in the North American Review for July, 1901, from the pen of
Professor C. J. Bullock. Professor Bullock's explanation of the balance in
two or three periods may be given, in order to illustrate the variety of factors
which must be taken into account when dealing with this subject. In the
period 1789-1820 the imports of merchandise and specie exceeded the cor-
responding exports by $511,000,000, and our obligations were further in-
creased by interest on foreign capital invested in the United States to the
amount of $200,000,000 approximately. This total indebtedness of some-
thing over $700,000,000 was offset by the earnings of the American mer-
chant marine, estimated at about $800,000,000 for the period in question.
" So far, then, from the country being drained of its money in payment for
the balance of imported merchandise, the banks held not less than $20,000,-
ooo of specie in the year 1820; while Gallatin and Crawford estimated that
there had never been more hard cash in circulation."
In the decade 1831-1840, owing to the high prices current in this country,
imports exceeded exports by $159,700,000; the imports of specie also ex-
ceeded the exports by $50,650,000 ; and the earnings of our merchant marine,
$90,000,000, sufficed only to reduce this "unfavorable balance" to about
$120,000,000. This remaining balance is accounted for by new foreign
investments in the United States, in particular by foreign purchases of state
bonds. "Our large imports of merchandise and specie had been made
necessary by the movement of foreign capital toward the United States."
In the decade 1851-1860 the merchandise imports again exceeded the ex-
ports by $355,800,000; the net amount due to foreign creditors was some-
where between $100,000,000 and $130,000,000; and to offset these adverse
balances our merchant marine earned in this period only $158,000,000. The
remaining balance in this case was covered by our large excess of specie
exports, which amounted to $417,608,000, and was due to the discovery of
gold in California. " The United States had become one of the leading gold-
producing regions, and the course of the exchanges was inevitably altered."
In the periods briefly described above, the striking factors in our inter-
national trade were, respectively, the earnings of our merchant marine, new
investments of foreign capital in the United States, and large specie exports
following the discovery of gold in California. In the last period, from 1874
to 1896, our exports both of merchandise and specie greatly exceeded our
imports. "This meant simply," concludes Professor Bullock, "that the
country had assumed its normal position as a debtor nation on the various
items of invisible exchanges, and was paying annually something like
$122,500,000 on such accounts."
In concluding this aspect of the subject the student should be warned that
trade statistics are full of pitfalls for the unwary and can safely be handled
only by experts. Exports are sometimes overvalued, imports are generally
undervalued; some countries state values at the point of departure (thus
excluding cost of carriage) ; other countries state values at the point of entry
292 OUTLINES OF ECONOMICS
(thus including cost of carriage) ; some countries make special efforts to ex-
clude values of re exported goods from their statistics; others make little
or no effort to eliminate such nominal items ; while the complete prevention
of such reduplication is probably impossible. Eminent statisticians are now
making earnest effort to harmonize the trade statistics of the various countries
of the world, but it will be a long time before trustworthy conclusions con-
cerning the real significance of the so-called balance of trade can be drawn
by the average student.
Foreign Exchange. The preceding discussion makes it clear
that, compared to the enormous values of the goods exchanged in
international trade, only a small amount of money is used. As
in domestic trade, purchase is set against sale, debt canceled by
credit, and money employed only for the occasional settlement of
balances. This cancellation of offsetting claims is effected by the
banks and brokers who engage in foreign exchange; and a brief
description of their economic function becomes necessary at this
point. For it should never be forgotten that the international
banker has been in the past and will be in the future an indis-
pensable factor in the development of foreign trade. Without
his good offices the vast international traffic of the world would be
but a shadow of what it now is. It need hardly be said, more-
over, that in its detailed operation the work of foreign exchange
is exceedingly complex, and that only a sketch of the essentials of
the process can be given here.
As illustrative of the process, let us take the important case of
our trade with England. Ordinarily, an American exporter who
has sold goods to England draws an order a bill of exchange
on the English debtor, directing him to pay the claim at some
specified time and place in London. American importers, on the
other hand, commonly pay their foreign balances by buying bills
of exchange, or drafts on London, and sending them to their Eng-
lish creditors. In this way American debts and credits are bal-
anced in London without transferring any money at all, except
occasionally to settle the balance of indebtedness.
Bills of exchange differ from ordinary drafts in that the latter
are usually drawn on a bank, while the bill is drawn on a com-
mercial creditor. They are usually accompanied by bills of
lading, insurance receipts, certificates of weight and origin, and
INTERNATIONAL TRADE
293
all the documents necessary to give the purchaser of the bill full
title to the goods until the bill is accepted or paid. They are
accordingly referred to as "documentary bills" or "commercial
bills," to -distinguish them from "bankers' bills" and other instru-
ments of international credit described hereafter. Documentary
bills are freely negotiable, passing from hand to hand by indorse-
ment, and gathering strength with each new indorsement. It is
important, also, to note the difference between "sight bills" and
"long bills," the former calling for payment upon presentation,
the latter for immediate "acceptance" by the drawee and payment
after thirty, sixty, or ninety days. The price of ninety-day bills,
for instance, is fixed by the price of sight bills and the discount
rate in London.
\Ve may now enlarge our simplified illustration to something
like life-size. Documentary bills drawn by exporters or creditors
all over the country are sold by the drawers to bankers, usually
New York bankers, who may be called the "wholesalers of ex-
change." The sale may be either direct or through exchange
brokers, "the jobbers of exchange." These documentary bills
are sent by the New York banks to their foreign correspondents for
collection (in the case of sight bills) or acceptance (in the case
of long bills). The balances thus built up abroad by the New
York banks constitute the fund against which they draw their
own bills. These are sold directly or through smaller banks
the "retailers of exchange" located in all parts of the
country. Foreign exchange is sold ii\ a great variety of forms
bankers' drafts, travelers' checks, travelers' letters of credit,
commercial letters of credit, cable transfers, and the like
descriptions of which may be found in the references cited at the
end of the chapter.
The illustrations used above, while typical of a large part of the
foreign exchange of this country, fail to represent adequately the
complexity which marks some of the interactions of international
credit. An illustration of the more complex class is found in the
"three-cornered" or "triangular exchange." We import from,
very much more than we export to, South America. A part of
the debit balance though possibly not the larger part at the
294 OUTLINES OF ECONOMICS
present time is settled by the transmission of London drafts to
our South American creditors, who can use them advantageously
in the settlement of their debts in Europe. London thus "clears"
for the world as New York "clears" for America and Paris for
France. Just as the net balance of our foreign trade is struck in
New York, so final international balances are cleared or settled
in London, although London's preeminence in international ex-
change is now not so striking as it has been in the past.
The question next arises how the price or rate of exchange is
determined. The factors controlling the price or rate of exchange
are as numerous and as difficult to trace as the influences which
affect the price of any economic good of world-wide bargain and
sale. However, to facilitate discussion, we may classify them as:
(a) the amount of pure gold in the monetary units which are to be
exchanged, (6) the cost of shipping gold, and (c) "general credit
conditions."
An English pound sterling contains as much fine gold as 4.866
American dollars, and when exactly this amount must be paid in
New York for a draft or order for one pound payable in London,
exchange is said to be at par. Sterling exchange and German
exchange are usually quoted in dollars and cents, i.e. the amount
of American money required to buy one pound or four marks
respectively. Consequently, they rise or become dear when ex-
change mounts above par. French exchange, on the contrary,
is usually quoted in francs, the number of francs purchasable
with one dollar; and it is consequently cheap when above par and
dear when below par. Exchange between the United States and
countries with silver or paper standards lack the steadying in-
fluence of a par determined by the actual mass of fine gold in the
respective standards of value, and hence fluctuates much more
than exchange between countries on a gold basis. In order to be
as brief and clear as possible, the following discussion will be con-
fined to exchange between countries on a gold basis.
Fluctuations in the rate of exchange depend upon the "general
credit conditions " mentioned above, but it is plain that upper and
lower limits to these variations are established by the actual cost
of shipping gold. Suppose, for a moment, that it costs three cents
2 95
to transport $4.866 worth of gold bullion between New York and
London. Except under unusual circumstances, then, sterling
exchange cannot rise above $4.896, nor fall below $4.836. These
limits are frequently spoken of as the "gold points," "specie
points," "shipping points," or "export and import points"; and
it is necessary to mention them because of their frequent employ-
ment in discussions of foreign exchange. But they are usually
defined in much too definite terms. The cost of shipping gold
varies with the size of the shipment, with freight, insurance, and
interest rates, and in some degree with the steamer and the season
of the year. Furthermore, gold is so important as the basis of
bank credit in all parts of the world, that it is frequently imported
regardless of the rate of exchange. During the war between
Russia and Japan, for instance, the Bank of France imported
large quantities of American gold in this semiarbitrary way in
order to protect reserves. The "gold points," then, while in one
sense very real, represent extreme limits and are in themselves
variable.
Within these extreme limits set by the cost of shipping gold,
the rate of exchange varies according to general credit conditions,
i.e. with the supply of and demand for bills of exchange, with
interest rates here and abroad, and the innumerable forces which
influence interest rates. Suppose, for instance, that our imports
of merchandise in a given season greatly exceed our exports of
merchandise. The demand for bills on London would greatly
exceed the supply of bills against London, and the price of sterling
exchange would rise very high if no other factors were involved.
But it may happen at the same time that interest rates in New
York are higher than in London, and under these circumstances
our foreign creditors may prefer to lend their balances in New
York in order to earn the high rate of interest obtaining there.
The placing of these loans in New York will in turn reduce the
demand for foreign exchange, and thus moderate both the interest
rate and the rate of exchange.
This interaction of the domestic and the international money
markets gives rise to a number of complex transactions which can
only be suggested here. In discussing the sale of foreign exchange
296 OUTLINES OF ECONOMICS
on page 293 above, American bankers were described as drawing
against credit balances which they had built up abroad. Some
bankers' bills, however, the so-called " finance bills," are drawn
in excess of the foreign balances, and thus represent borrowings
abroad. Finance bills are used (a) to tide over the time before a
plentiful supply of documentary bills is available; and, (ft) to
take advantage of low discount rates abroad, e.g. in London, by
borrowing in London and lending the proceeds in New York.
Under the latter circumstances, finance bills payable in London
at sixty or ninety days are sold in large quantities in New York,
the sellers commonly covering their risk by the purchase of future
drafts calling for the payment of the same amounts in London at
the dates when the bills mature. The finance bill is thus one of
many credit instruments used to bring the loanable funds of the
world to the market where they will command the highest rate of
interest; and it is hardly necessary to add that it assumes at times
a highly speculative character. " Bankers sometimes purchase
outright entire new issues of securities from corporations with
proceeds obtained by the issue of finance bills, sell the securities
to investors during the currency of the finance bills, and apply the
proceeds realized through the sale of the securities to the payment
of the bills at maturity." 1
Regulation of the Gold Supply. We may now return to the
general topic of trade regulation, from which we digressed in
order to consider the fundamental principles of foreign exchange.
Historically, it will be remembered, many of the most important
restrictions of trade have had as their object the regulation of the
gold supply. And the movement of gold is still of great interest
to the world of high finance because of the dependence of the
volume of bank credits upon the gold reserves of the banks. But
the preceding discussion would seem to make it clear that, ordi-
narily, there is little that the government can do, or needs to do,
in the way of regulating the supply of gold. Through interna-
tional trade and foreign exchange, the gold supply of the world
is automatically distributed among the countries which need gold,
in accordance with the intensity of their respective demands.
1 Margraff, International Exchange, p. 41.
INTERNATIONAL TRADE
297
In ordinary or normal times, the interest rate is the most power-
ful of the many influences which control the distribution of the
gold supply. International banking houses keep funds in both
the United States and Europe, and they are constantly shifting
their money to the market in which it will earn the highest rate of
interest. The means employed to move their funds may vary, as
has been explained, all the way from the simple sale of foreign
exchange to the actual importation of gold. So great is the influ-
ence exercised by the rate of interest over the gold supply that the
Bank of England usually finds it necessary to do nothing more
than raise its discount rate when it desires to attract gold to Eng-
land or discourage its exportation.
The ordinary price level, that is, of merchandise, also exercises
a great influence upon the rate of exchange and the movement of
gold. When prices abroad are high compared with American
prices, foreign countries increase their purchases, the supply of
American bills increases, sterling exchange falls, and if it goes low
enough, may cause the shipment of gold to this country. Such a
condition of affairs, for instance, is likely to occur in the autumn
months, when large exportations of American cotton, wheat, and
agricultural products create a plethora of bills on London, and,
other things being equal, depress the price of sterling exchange.
There can be no doubt, then, that the price level does influence
the movement of gold. Whether the gold movement influences
prices, however, is disputed. Some opponents of the so-called
" quantity theory " of money hold that it does not, maintaining
that before a drain of gold, for instance, could raise prices, it
would so elevate the interest rate that the drain would be checked
and gold be brought back. In their view, the interest rate acts
as a safety valve, through whose variations any protracted gold
movement which threatens to disturb the price level is checked and
reversed before it acquires the momentum requisite to accom-
plish the larger task. Without attempting to decide the question,
we may be sure at least of this relevant conclusion: that if the
movement of gold continued indefinitely, prices would unques-
tionably be affected.
The gold supply thus adjusts itself automatically to the respec-
298 OUTLINES OF ECONOMICS
tive demands of the various districts of the world. This truth
is important because it establishes a prima facie presumption
against laws or policies which interfere with the normal distri-
bution of the precious metals. This presumption is only an initial
one, however. It does not follow that " artificial " interference
with the distribution of the gold supply is never warranted. In
times of war, panic, or severe financial stringency, extraordinary
expedients for obtaining gold are sometimes used which, like the
heroic remedies employed in desperate illness, are necessitated by
the exigencies of the situation. In the undignified scramble for
gold which often attends a panic, the country or the individual
who stands aloof and waits for the normal laws of distribution to
bring him " his " share of the gold supply, may have cause to
regret his inaction. Nevertheless, it is true that such expedients,
like strong drugs, are to be used with the greatest caution. They
are frequently employed when the situation does not demand
them, their use tends to become a fixed habit, and they seldom
accomplish more than the postponement of the crisis.
An expedient of the kind described was employed by Mr.
Shaw, then Secretary of the Treasury, in the spring of 1906.
The following critical account of the action of the Secretary
may be unjust to him, for it must be remembered that the financial
stringency of the time threatened to become dangerous; but it
illustrates in a striking way the subtle modern devices sometimes
used to increase the supply of gold.
"On April 14 it was officially announced for the first time, that the Sec-
retary would allow any depositary bank which engaged to import gold to
anticipate the arrival of the gold by withdrawing a like amount in cash from
the Treasury upon pledge of saving-bank collateral as security. The sum
so withdrawn was to be regarded as a temporary loan, and to be returned to
the Treasury as soon as the gold arrived. In providing such an arrangement,
Mr. Shaw virtually reduced the cost of importing gold by the amount of
interest during transit, and raised by so much the 'gold import point.' In
other words, he endeavored to make it profitable for the depositary bank,
to import gold without waiting for sterling exchange to fall to the normal
'gold point.' . . . In accomplishing this, Mr. Shaw, temporarily eliminated,
so far as the national banks were concerned, one item of expense in their
foreign exchange operations. He gave them an advantage, for the time being,
over all other firms engaged in the same business; and his action naturally
INTERNATIONAL TRADE
299
excited criticism among the private bankers who found themselves discrimi-
nated against. Critics also attacked his method of announcing his decision.
It appeared that several days before the public or the other banks were
informed of his intention, Mr. Shaw had seen fit to make private arrangements
with two New York banks for gold imports under the plan . . . Nor was
hostile criticism mitigated by the general publication at this moment of the fact,
which had not been widely known before, that one of these same banks had
been favored by the Treasury for several weeks, and possibly months, pre-
ceding, with virtually the same privilege under a different guise. This had
been accomplished by allowing the bank in question to count as part of its
reserve its importations of gold during their period of transit to New York.
The imported gold had thus been made practically available as a basis for
loans from the moment of its purchase abroad, and the item of time cost in
such imports had been as completely eliminated as under the subsequently
adopted plan. . . . His [Secretary Shaw's] statement issued at the time
seemed to indicate that, in his opinion, the natural movement of gold was
toward this country, but that the flow was being lured to other markets
by the practices of European banks. He apparently hoped to overcome what
he took to be an artificial diversion of gold from the United States by adopting,
through the agency of the Treasury, measures similar to those which were
being employed by the French and German central banks." *
1 A. P. Andrew, Quarterly Journal of Economics, August, 1907, pp. 544-546.
(For Questions and References, see the following chapter.)
CHAPTER XVIII
PROTECTION AND FREE TRADE
WE are now in a position to review intelligibly the pros and
cons of the modern tariff controversy. Because of the limitations
of space, it will be desirable to confine the discussion almost
wholly to American conditions, although most of the arguments
are applicable to other countries as well.
The Case for Protection. (i) One of the most captivating
arguments for protection is the assertion that it promotes nation-
alism, which is held to be a good thing. Domestic trade, it is
claimed, draws the citizens of a country together, while international
trade is cosmopolitan and tends to their separation. Upon the
creation of our federal government, state tariffs were abolished
and their place taken by a national tariff designed partly to pro-
tect the whole of the country against the rest of the world. The
introduction of national protection thus went hand in hand with
the promotion of internal free trade; and Professor Schmoller
even maintains the general thesis that, historically, this double
process of internal abolition and external extension of tariffs
marks the formation of new states, particularly federal states.
Protection against foreign competition, he asserts, is thus his-
torically coincident with the enfranchisement of internal trade;
and has as its main object the creation of a strong national eco-
nomic unity, without which permanent political unity, he thinks,
is impossible.
(2) Government should, the protectionists say, foster infant
industries in order to develop our natural resources and to pro-
duce diversity in industrial pursuits. It is admitted that protec-
tion is temporarily expensive, but so is the prohibition of child
labor temporarily expensive. We prevent children from earning
300
PROTECTION AND FREE TRADE 301
a little while they are young in order that they may earn more
when they are old. For the same reasons trades unions rightfully
insist that apprentices shall be given a broad knowledge of the
trade they are learning, although it is more profitable for the em-
ployer to have them specialize early in some narrow branch of
the work. So, similarly, free trade prevents a nation from special-
izing too exclusively in its undeveloped stage, in order that it may
the sooner arrive at industrial manhood.
Economists have generally admitted that there is a certain
amount of truth in this argument. If an industry gets an early
start in a given district, this locality is likely to retain its advan-
tage because of the concentration there of capital and labor ac-
quainted with the requirements and possibilities of the industry.
Thus, 69.3 per cent of all the clocks manufactured in this country
are made in Connecticut, for no other reasons that one can see
than those suggested in the explanatory phrase "the momen-
tum acquired by an early start." And this localization of indus-
try is artificially fostered by the habit, common to exporters all
over the world, of selling abroad more cheaply than at home.
The export trade seems to be universally coddled. Of course,
such localized industries can be maintained only when the cost
of transporting the article is small; and when other districts do
not possess unusual natural advantages in the way of accessibility
to superior raw material, power, or skilled labor. The census
studies in the localization of domestic industries l seem to indicate
that while the industrial inertia of which we have been speaking
is an important factor, it is not so important as the opposing
forces making for territorial diffusion of industry.
A most interesting illustration of an attempt to crush the " infant indus-
tries " of a competing nation is found in the effort of English manufacturers,
after the War of 1812, to recover the American market of which they had been
temporarily deprived by the long period of non-intercourse. "English
manufacturers, eager to regain control of the lost markets, sent in shiploads
of cotton and woolens and iron manufactures, which they offered on the most
liberal terms to their agents in this country. The goods were taken on credit
and disposed of at auction. The object was to undersell at any cost, and thus
1 Special Census Report, " Manufactures," 1905, Part I, p. cclx. Cf. also,
Twelfth Census, " Manufactures," Part I, pp. cclx-codv.
3 02
OUTLINES OF ECONOMICS
break down the infant industries. Lord Brougham justified the speculative
character of this trade on the ground that ' it was well worth while to incur
a loss upon the first exportation, in order, by the glut, to stifle in the cradle
those rising manufactures in the United States which the war had forced into
existence contrary to the natural course of things.' " '
(3) Closely connected with the preceding arguments is a de-
fense of protection based upon grounds of war and military neces-
sity. Industrial independence, it is asserted, prepares a nation
better for international war. There is unquestionably a great
deal of truth in the argument. Certainly a wise nation will see
to it that within its boundaries factories exist which can manu-
facture arms and all the necessary munitions of war. But success
in war is not dependent upon arms and ammunitions alone. There
must be a plentiful supply of money, and whatever use may be
made of credit, enormous amounts of money must be raised by
taxation. 2 But the source of taxation is a flourishing condition
of private industry; and the industry of the average nation de-
pendent upon international trade cannot flourish in times of war.
The failure of the South in the Civil War was very largely due
to her industrial dependence upon the cotton export trade. A
sufficient diversification of industry to prevent industrial paralysis
in times of war is, we believe, manifestly desirable.
(4) The home market argument for protection naturally fol-
lows. Much that is said in defense of this claim is childish or
silly. One distinguished American economist seriously main-
tained that a country can remain permanently prosperous only
on condition that what is taken from the soil shall be returned in
manure and other kinds of fertilizers, and that this will be accom-
plished only when the products of the soil are consumed at home.
A much stronger application of the argument, however, is found
in the assertion that the home market is superior because it is a
surer market. A foreign market is usually a precarious market.
It is likely to be closed by war or by capricious changes in tariff
policy. Protection is unquestionably expensive to the country
1 Coman, Industrial History of the United States, p. 185.
8 For a classic explanation of the dependence of both public credit and taxation
upon a flourishing condition of private business in times of war, see Public Debts.
by Henry C. Adams.
PROTECTION AN 7 D FREE TRADE
303
that protects, but it is worth paying something to keep industries
in continuous operation.
(5) This brings us to the argument against "dumping." By
dumping is meant the sale of products abroad at prices lower than
those charged at home. Dumping arises in a variety of ways.
Export bounties may be granted by the home country for the spe-
cific purpose of encouraging foreign trade; or a monopoly may
find it profitable to dispose of a surplus abroad at prices which
would be needlessly low in the highly protected home country;
and, indeed, there is good reason to believe that many manufac-
turers for the export trade make it a practice to sell abroad at
unusually low prices whenever they believe that their foreign
market is threatened. As was stated above, the custom of "cod-
dling" the export trade seems to be very general.
Now if the reduction of prices were permanent, the country in
which the products are dumped would have no real cause for com-
plaint. On the contrary, it might logically regard itself as the
beneficiary of the costly bounties of the other nation. But real
dumping is not, and in the nature of things cannot be, permanent.
So far as it may be said to have a rational object, it aims to sup-
press competing industries by selling temporarily below cost; and
when those industries are forced out of business, prices will be
raised. So true is this that economists have generally indorsed
import taxes and other temperate retaliatory measures designed to
abolish dumping. Canada, for instance, has authorized the levy
in such cases of a special dumping duty "equal to the difference
between the selling price of the article for export and the fair
market value thereof for home consumption." A few years ago
the beet-sugar industry of France and Germany was so stimu-
lated by bounties that even England, the principal dumping
ground of the product, was forced to threaten reprisals in the shape
of countervailing import duties. England's resolute attitude, it
may be added, led finally to the virtual abolition of sugar bounties
at the International Sugar Conference of 1903. In general, there
seems to be ample justification for protective duties that are hon-
estly used to ward off destructive attacks upon home industries
which, if subjected only to legitimate competition, would be able
304 OUTLINES OF ECONOMICS
to maintain themselves in the long run. It is evident that we
have here returned to the substratum of truth contained in the
infant industry and home market arguments.
Dumping has been more productive of arguments against protection than
of arguments for protection, in the United States; and the opponents of pro-
tection have laid great emphasis upon the fact that many articles of American
manufacture are sold abroad more cheaply than at home. That this is a fact
is now generally admitted. But the protectionists maintain that most of this
can be explained by the rebates allowed to American exporters under our
drawback laws. Ex-Secretary of the Treasury Shaw estimates that in 1906,
owing to these drawbacks, about $140,000,000 of American manufactures
might have been legitimately sold abroad at less than domestic prices. 1
(6) Intimately related to the arguments which we have been
considering is the claim that the distribution of labor and capital
of a free-trade nation is subject to the control, and indeed, one
may say, to the whim and caprice of foreign nations. Industries
differ in their effect upon the physique and character of the people
who pursue them. The builder, the skilled engineer, the electrical
worker, are benefited intellectually, physically, and morally by
their occupations. But the tailor, the maker of ready-made cloth-
ing, and the sweat-shop worker are probably harmed rather than
elevated by the nature of their employment. Now if foreign na-
tions subsidize by protection and bounty the desirable industries,
they may leave to the free-trade nation only those industries which
the protected nations do not wish to maintain.
(7) Finally, protectionists appeal to the wage-earning classes
with the argument that protection increases wages by diversify-
ing industry and thus stimulating the demand for labor. Indeed
the typical protectionist goes farther than this, and maintains that
every American industry is entitled to an amount of protection
equal to the difference between the wages which it pays and the
wages paid by its most efficient foreign competitor. The latter variety
of this argument seems to be plainly absurd, or at least obviously
inconsistent with the initial assertion that protection raises wages.
For, taken together, and they are frequently advanced in com-
pany, they result in this magnificently cumulative plea for
ever increasing tariffs: protection raises wages, but high wages
1 Leslie M. Shaw, Current Issues, Chap. XXI.
PROTECTION AND FREE TRADE
305
put the American manufacturer at a disadvantage in competing
with foreign producers, and the home producer must be pro-
tected to the extent of the difference in wages, therefore every
advance in protective duties laid for the benefit of the wage earner
must be accompanied by an additional advance for the benefit of
the manufacturer, and so ad infinitum.
Arguments of Free Traders. In the first place, we may dis-
miss a number of arguments which are so extreme as to weaken
rather than strengthen the cause of free trade, (i) For instance,
it is frequently alleged that protective tariffs violate the assumed
natural right of every man to buy his goods where he will and sell
his products wherever he sees fit, untrammeled by human laws.
The futility of arguments based upon an assumption of natural
rights has been sufficiently exposed elsewhere, and needs no elabo-
ration at this point.
(2) It has also been claimed that protective tariffs in the United
States are unconstitutional, but this argument is idle; it would be
most unfortunate and anomalous if nowhere in our country were
lodged the power to pass such regulations regarding international
commerce as might appear to be required for the promotion of
the public welfare. Furthermore, the charge of unconstitution-
ally does not correspond to the opinion of our best jurists, and it
is very certain that we shall never see a supreme court in the
United States which will venture to pronounce protectionism
unconstitutional.
(3) In a similar vein protectionism has been called socialism,
but this epithet is so generally applied to whatever a person in-
competent to argue a cause does not like that it will scarcely ter-
rify any one.
The really able arguments of free traders are those which aim
to show either that protection actually does positive harm, or that
it fails to accomplish its ends, or that those ends may be better
accomplished without protection.
(4) The natural starting point of the free-trade argument, and
the goal to which it inevitably returns is the theory of compara-
tive costs laid down on page 285, the proposition that, so long as
there are relative, not necessarily absolute, differences in the cost
306 OUTLINES OF ECONOMICS
of producing cheaply portable articles in various countries of the
world, so long will there be international trade in those articles.
Protective tariffs, therefore, merely divert capital and labor from
intrinsically more productive to intrinsically less productive in-
dustries. To revert to our simile of the lawyer and his stenog-
rapher, protection aims to induce the lawyer to write his own
letters, on the general grounds that lawyers are more intelligent
people than stenographers, and if sufficient encouragement be
held out to them they may, in the course of time, be educated up
to the point of operating their own typewriting machines better
than the stenographers whom they have previously hired.
Temperate advocates of "freer trade" do not contend that this
law of comparative costs demonstrates the desirability of complete
free trade under all circumstances. They admit that it may occa-
sionally be profitable for a country to pay enormous bounties
this is what protection amounts to for the development of cer-
tain industries. But they do contend that it establishes free
trade as the general rule, every departure from which should re-
quire the most positive justification. More particularly, they
hold, that at the present time, after a century of industrial devel-
opment that obviates any military necessity for a further diversifica-
tion of industry, capital and labor should be freely allowed to
take themselves to those employments in which they can reap the
largest natural reward, a reward, that is to say, which is not arti-
ficially enhanced by subsidies wrung from the general body of
consumers.
(5) Moreover, it is not clear that protection is necessary to di-
versify industry in a country with such varied natural resources as
the United States. The claims of the protectionists at this point
may be tested by examining conditions within the wide borders
of our own country, within which trade is wholly free. Now, if
protection were necessary to foster infant industries and bring
them to maturity, the manufacturing industries of this country
would still be concentrated in the northern states of the Atlantic
seaboard where they first gained a foothold. But they have not
been so confined. The early establishment of the textile indus-
tries in New England has not prevented their recent development
PROTECTION AND FREE TRADE 307
in the South. Indeed, the so-called "center of manufactures"
moved steadily west from south-central Pennsylvania in 1850 to
central Ohio in 1900; and the increase, at the present time, is
much more rapid in the South and West than in older sections of
the country. Internal free trade has not prevented the diversifi-
cation of industry in the United States, and has not delayed it
longer than was desirable. For who shall say that the Dakotas
and other typical agricultural states of the Union have greatly
suffered from the absence of grimy factory towns and the slums
which almost inevitably accompany them?
(6) The inevitable spread of manufactures throughout the
United States suggests the essential weakness of the home market
argument. International trade expands just as inevitably as the
manufacturing area. It might be desirable to confine domestic
producers to the more certain home market, which cannot be de-
stroyed by tariff wars or international complications. But, as a
matter of fact, home producers will seek foreign markets, and the
nation that sells abroad must buy abroad. Since the Civil War we
have protected home producers with extremely high tariffs. But
in the last twenty-five years our foreign trade has increased at a
rate unequaled by any of the other great commercial countries
of the world. 1 Protective tariffs can cripple and harass and dis-
tract foreign trade, but they cannot permanently suppress it. No
tariff can make the costs of producing all the articles common to
commerce precisely proportional in all quarters of the globe.
(7) The protectionistic appeal to the wage earner seems par-
ticularly inconclusive. One reason for distrusting it is the double-
faced way in which it is manipulated to suit the particular re-
quirements of time and place. France wants protection in order
to protect her low-paid workmen against the greater skill and
efficiency of America's highly paid workers. The United States,
on the other hand, must have protection in order to shield her
highly paid employees from competition with the "pauper labor
of Europe." When first used in the United States, the argument
was that wages were already so high in this country as compared
1 Special Reports of the Census Office, "Manufactures," 1905, Part I, p. ccc.
The specific period referred to is the twenty-five years, 1880-1905.
308 OUTLINES OF ECONOMICS
with England, that it was impossible for manufacturers in this
country to pay the American rates and continue to compete with
English manufacturers. Later, cause and effect, as related in the
earlier syllogism, were reversed, and it was asserted that the high
wages in this country were due to protection, from which it
followed naturally that in order to raise wages higher, still more
protection would have to be given.
We cannot arrive at any useful conclusions concerning wages,
however, without considering the efficiency of labor and the pro-
ductivity or favorableness of the environment in which the laborer
works. The reason why American labor may receive higher
wages and yet have nothing to fear from the competition of less
highly paid workmen in Europe is found in the greater produc-
tivity of American labor (though this greater productivity may
depend more upon the natural wealth of this country than upon
any innate technical superiority of the American workmen). The
average American workman is in no more danger from the goods
produced by the "pauper labor" of Europe than the highly paid
workman of Montana is threatened by the products of his less
remunerated fellow- workmen of New England and the South.
Labor competes with labor, not with commodities. Consequently,
if it is really desired to protect labor, the logical way would be to
place a tax on imported labor, or by other measures to reduce
immigration. If this were done, those who desire labor would be
obliged to pay heavily for it, as actually happened in England
after the "Black Death" in the fourteenth century had killed off
a large part of the laboring population. Indeed, if our tariff
makers are sincerely anxious to benefit labor, they should, after
rendering labor scarce and dear by restricting immigration, en-
courage the importation of such commodities as are consumed
primarily by wage earners, in order that labor may secure an
abundance of them cheaply.
No intelligent free trader would deny that there are now dependent upon
protection many industries which pay high wages, nor that the sudden aboli-
tion of protection would throw many wage earners out of work. Their con-
tention in the first case is merely that by taxation and by diverting capital
and labor into naturally unproductive industries, protection lowers the general
PROTECTION AND FREE TRADE
309
level of real wages. Their reply to the second point is that protection affects
the industrial organism much as the alcoholic habit affects the human organ-
ism. To abandon the habit suddenly would certainly be painful and prob-
ably dangerous but this is sufficient reason neither for increasing the dram
nor delaying the gradual abandonment of the habit.
(8) Turning to the fiscal aspects of the question, the free trader
asserts that there is little or nothing to be said in favor of protection.
The protective import duty, as compared with the import duty "for
revenue only," is a poor tax. It is uncertain and viciously vari-
able, and in the great majority of cases is borne by the home
consumer. To the extent that it does not prevent importation it
affords no protection; and in so far as it does protect, it yields no
revenue to the government. If it raises the price of the article upon
which it is levied, however, the increase constitutes a tax upon one
class of society the consumer for the benefit of another class
the producers of the article. One authority, perhaps the fore-
most authority, upon the American tariff problem, estimates that
the present tariff upon sugar results in an annual tax upon Ameri-
can consumers of $101,000,000, of which $52,400,000 go into the
treasury and $48,600,000 into the hands of sugar producers, prin-
cipally resident in Hawaii, Porto Rico, and Cuba. 1
In answer to this charge that protection involves the taxation of
one class for the benefit of another class, it is not sufficient to
reply that everybody is free to take advantage of the subsidy and
engage in a protected industry. Everybody is not free to estab-
lish a rolling mill or a silk factory or a tin-plate plant. Protection
means the taxation of the less acute, the less enterprising, the less
educated and the poorer classes in order to create additional com-
mercial opportunities for the abler, wealthier, and better-educated
classes, thus reversing the whole spirit of modern taxation which
contemplates so far as it may be done without danger rather
the taxation of the rich for the assistance of the poor than the
taxation of the poor for the benefit of the rich. It is not implied,
of course, that protection involves class legislation of an unlawful
character, nor that taxes are collected from one class and handed
over in cold cash to the members of another class. The point
1 Professor F. W. Taussig, in the Atlantic Monthly for March, 1908, p. 343.
310 OUTLINES OF ECONOMICS
turns upon the relative ability of the various social classes to take
advantage of artificial opportunities created by the state at enor-
mous expense to all.
(9) This brings us naturally to the ethical criticism of protection,
the charge that by making the temporary prosperity of influential
classes dependent upon government bounty, protection encour-
ages those classes to exert a demoralizing pressure upon federal
legislation. So great is the stake of private interests in tariff legis-
lation, that systematic lobbying, log rolling, and corruption of the
voter follow as inevitable consequences. The beneficiary of the
tariff sacrifices his disinterested convictions concerning the general
welfare, in order to preserve his own little subsidy from the gov-
ernment. Neither the citizen nor the legislator can vote purely,
when his pocketbook is so vitally affected. Even if we admit
what is probably true, that protection has resulted in comparatively
little direct bribery of legislators, there seems no escape from the
conclusion that it creates a kind of interest in legislation which
is inherently dangerous and exceedingly difficult to keep within
legitimate bounds. And as the manufacturing industries of the
country fall more and more into the hands of large corporations
and trusts, the possibilities of political corruption become more
and more sinister, while the character of the chief beneficiaries of
protection make them more and more undeserving of the bounties
which they receive.
(10) Finally, it is alleged that protection fosters monopolies by
shutting off international competition. This contention forms the
subject-matter of a particularly heated dispute, and the exact ex-
tent to which the charge is true cannot be determined at this time.
Certain modifications of the more extreme charge, however, are
hardly open to question. Protectionists confessedly take it for
granted that if foreign competition is shut off or lessened, home
producers will still compete. Nevertheless, highly protective du-
ties are still levied upon commodities whose manufacture in the
United States has fallen under the substantial control of monopo-
lies. It is furthermore admitted that such monopolies frequently
sell their products at lower prices in foreign countries than in the
United States; while it is impossible to deny that whether the
PROTECTION AND FREE TRADE 311
monopoly was created by protection or not the abolition of the
duties, by giving foreign producers a chance to compete in this
country, would tend to reduce prices, and thus give the American
public a valuable ally in their struggle against monopoly. The
tariff therefore may or may not be the mother of trusts, but it
unquestionably deprives the American people of a strong weapon
against the trusts.
Some General Considerations. Before attempting to sum up
the preceding arguments and strike a practical working balance,
it is necessary to call attention to certain general considerations
which have not figured in the foregoing "starched procession" of
pros and cons. In the first place, it is necessary to remember that
the federal government must secure a large revenue from tariff
duties, and that in consequence the question which we are dis-
cussing is not one of protection versus free trade, but of protection
versus freer trade. In the second place, the economic importance
of the whole controversy has unquestionably been exaggerated.
We find a country like England prosperous under free trade; we
find countries like France and the United States prosperous under
protection. It is of real but not of vital importance. Our inter-
nal trade vastly exceeds our foreign trade in every way. The
domestic trade of the Mississippi Valley alone is far greater than
our entire foreign commerce. In the third place, the American
tariff is a historical growth, and bad as it may be in many respects
it has taken deep root. During the last century it has become
part of our life, and cannot be suddenly eradicated with impunity.
If it is true that American labor would be better off without it, it
does not follow that it ought to be removed suddenly in the inter-
ests of American labor. If the industrial growth is abnormal, it
is none the less true that adjustment to normal conditions is a
painful process and should be conducted cautiously. Displace-
ments of labor and capital cause suffering and loss, and it is clear
that any reform of the tariff must be conservative and careful,
a movement toward freer trade, not the sudden withdrawal of
protection.
Conclusions. Most of the arguments enumerated above, both
for and against protection, contain a measure of truth. Historic-
312 OUTLINES OF ECONOMICS
ally, we believe that protection was inevitable in the United
States, and in the early period of the country's development, bene-
ficial. During the three great wars which seriously threatened the
stability of this country, many new industries sprang up which,
upon the cessation of war and the resumption of international
trade, were seriously threatened by foreign competition. Many
of these industries were so suited to our soil and our people that
only a short period of protection was needed to make them self-
supporting. Under the circumstances it would have been unwise
to permit the sacrifice of the capital invested in these industries;
and whether it would have been unwise or not, human nature is
such that the needed protection was sure to be granted. In short,
there is a large measure of real truth in the infant industry argu-
ment.
Circumstances, however, have radically changed in the last few
decades. Our quondam infant industries have, for the most part,
attained a very vigorous maturity, and in some instances have
become belligerent and prone to monopolistic bullying; our manu-
factures have become sufficiently diversified to remove all danger
of industrial collapse in time of war; and, above all, we are rapidly
entering the economic stage in which, according to the ablest ex-
ponent of protection that economic science has ever known,
Frederick List, protection is a hindrance rather than a help.
That is to say, we are rapidly building up an extensive export
trade in manufactured articles; year by year raw materials con-
stitute a larger proportion of our imports and a smaller propor-
tion of our exports; and we have already become the greatest
exporting country of the world. All this means that in the near
future our manufacturers themselves will look with kindlier eyes
upon the withdrawal of the protection they do not need, which in
fact actually increases the cost of some of their raw materials,
and incites foreign governments to retaliatory taxation upon goods
imported from the United States. Our growing export trade will
itself bring a wider appreciation of those fundamental principles
which have led economists, with but few exceptions, to condemn
protection as a permanent policy applicable to all stages of eco-
nomic development.
PROTECTION AND FREE TRADE
QUESTIONS
1. What is meant by the law of comparative costs? Is the American
custom of importing the finer textile fabrics and manufacturing the coarser
ones an effect of this law ?
2. In the illustrative case cited on page 285, would America confine herself
wholly, or only chiefly, to the production of flour ? Would the fact that some
cloth was produced in America, and some flour in Holland, affect the validity
of the law of comparative costs ?
3. If a widow needs money so badly that she is willing to pay 200 per
cent a year for its use, why is it wrong for a money lender to charge this rate ?
4. What is the real nature of the balance of trade ? Does our excess of
exports (merchandise) mean that we are paying off our foreign indebtedness,
or merely that we are paying interest on our foreign indebtedness?
5. In what respects does foreign exchange differ from exchange between
two American cities ?
6. What are the principal influences which affect the rate of exchange ?
7. Is the gold supply distributed according to the needs or the respective
demands of the various countries ? Are needs and demands in this connection
identical ?
8. Mention as many methods as you can by which governments have
endeavored to increase the supply of gold.
9. To what extent is the infant industry argument true? The home-
market argument? The argument against "dumping"?
10. In what form was the wages argument first employed in the United
States? In what does its essential error consist?
LITERATURE
ASHLEY, PERCY. Modern Tariff History.
ASHLEY, W. J. Tariff Problems.
BASTABLE, C. F. TJteory of International Trade.
BROOKS, H. K. Foreign Exchange Text-Book.
CLARE, GEORGE. Tim ABC of the Foreign Exchanges; The Money Market
Primer.
DAY, CLIVE. History of Commerce.
ELY, R. T. Problems of To-day. Chaps. I-XV.
FISK, G. M. International Commercial Policies.
GIFFEN, ROBERT. The Use of Export and Import Statistics; and Economic
Inquiries and Studies, Vol. I, Chap. IX.
GEORGE, HENRY. Protection or Free Trade.
GOSCHEN, G. J. Theory of the Foreign Exchanges.
LAUGHLIN, J. L. The Principles of Money. Chap. X, pp. 336-370.
MARGRAFF, A. W. International Exchange.
314 OUTLINES OF ECONOMICS
PATTEN, S. N. The Economic Basis of Protection.
PRATT, S. S. The Work of Wall Street.
RABBENO, V. The American Commercial Policy.
STANWOOD, E. American Tariff Controversies in the Nineteenth Century.
SUMNER, W. G. History of Protection in the United States.
TAUSSIG, F. W. Tariff History in the United States. "The Present
Position of the Doctrine of Free Trade," Publications of the American
Economic Association, Third Series, Vol. VI, pp. 29-65 ; also State
Papers and Speeches on the Tariff.
PART V
DISTRIBUTION
CHAPTER XIX
DISTRIBUTION AS AN ECONOMIC PROBLEM
IT has already been remarked that the production and the dis-
tribution of the annual income of society cannot be sharply sepa-
rated, and more or less has already been said about the four parts
into which the products of industry are usually divided; namely,
wages, interest, rent, and profits. The greater part of distribu-
tion might undoubtedly be considered under the general heading
"Production," but on the other hand, it is frequently asserted that
distribution is "the true center of all economic inquiries," and it
would be possible to treat nearly the whole of production from
the standpoint of distribution. The truth is that these old tra-
ditional divisions of our subject-matter indicate different points of
view, and on this account it seems desirable to retain them. When
we pass from production to distribution, we do not enter an entirely
new field, but we look at an old field of investigation from a new
point of view.
The center of interest in the practical applications of economic
principles has shifted from production to distribution. The mer-
cantilistic writers of the seventeenth and eighteenth centuries were
primarily interested in the most efficient ways of increasing the
sum total of a nation's wealth. Even Adam Smith, as the title of
his great work, An Inquiry into the Nature and Causes of the
Wealth of Nations, indicates, had chiefly in mind the same prob-
lem, although he emphasized the fact that the real well-being of a
nation consists in the well-being of the great body of its people.
During the past century the production of wealth has increased
beyond all precedent, the chief factors contributing to this result
315
316 OUTLINES OF ECONOMICS
being the factory system, the exploitation of vast natural re-
sources (made possible only by modern methods of transportation)
and the free scope given to the initiative of the individual business
man. In the United States, at least, we do not feel that there are
any pressing problems concerning the production of wealth. Yet
poverty still exists, and its harsh features are thrown into sharper
relief by contrast with the fact that the present production of
wealth per capita in the United States is indisputably the highest
that the world has ever known. Moreover, while the social dis-
content arising from inequalities in the distribution of wealth is
a very old thing, it is only in modern times that democracy has
given it an adequate opportunity for formulated, organized ex-
pression. It is not too much to say that nearly all the economic
problems which are felt to press upon society to-day for solution
relate directly or indirectly to the distribution of wealth.
It should be noted, however, that we have to discuss under
the name " distribution " two different processes. The first and
inclusive meaning of the term is the distribution of the wealth or
income of society among individuals and families ; in other
words, the question of individual fortunes, poverty and wealth.
The second kind of distribution is the division of the product
among the different factors of production. This is not a question
of wealth versus poverty, but of wages versus interest, profits,
and rent. Of course, this kind of distribution affects the personal
distribution of wealth, but it is by no means the same question.
To explain why lots in New York City command high rents is one
thing; to explain why a large amount of these rents go to the As tor
family is another thing. In the case of wages, however, the two
kinds of distribution amount to about the same thing. There is
another sense in which the word is not used in this chapter. We
do not mean by distribution the moving of goods from the place
where they are produced to the place where they are consumed.
When we hear of railways or other concerns as "distributive
agencies," we are using the term " distribution " in a sense very
different from that of the technical economic term "distribution."
Distribution is a question of ownership, not a question of the
location of goods.
DISTRIBUTION AS AN ECONOMIC PROBLEM
317
Distribution controlled by Existing Institutions. The statement that
distribution is a matter of ownership suggests at once the relation of private
property to distribution. Individual wealth is, fundamentally, a sum of
property rights. Every extension of property rights by society, as, for ex-
ample, in permitting the private ownership of the rights to supply cities with
water, electricity, or transportation facilities, extends the field of private
gain and correspondingly affects the distribution of wealth. The income
received by the successful manager of a municipal waterworks plant is un-
doubtedly a very different thing from the income the same individual would
receive if he were the owner of a franchise permitting him to conduct the
business of supplying the city with water as a private undertaking. The
policy of leasing, rather than selling, public lands, which has been adopted
by some of the newer American states, is bound to have an appreciable,
even if not a very important, effect upon the distribution of wealth.
In the institution of inheritance we have an instrument which once in a
generation redistributes the property rights in existing wealth. It is not
strange that those who wish to limit or retard the growth of large individual
fortunes have looked to the control and especially to the taxation of inherit-
ances as a means to this end. Doubtless the prevalence of large landed
estates in England is closely connected with the English law of primogeniture,
just as the predominance of small holdings in France is in part due to the
French law forbidding the disinheritance of any of one's children.
Personal freedom, as a legally guaranteed institution, is also of fundamental
importance. The factors determining the income of the free workingman
are very different from those determining the portion of the slave. It should
be remembered, too, that the actual processes by which wealth is distributed
are to-day largely controlled by the institution of contract. What rent, wages,
or interest one gives or receives is no longer fixed by custom, as in the middle
ages, but is a matter of agreement between individuals. So far as Society
limits the right of contract, as in the case of legislation regulating the employ-
ment of women and children, it correspondingly affects the distribution of
wealth.
These fundamental institutions are discussed more fully elsewhere in this
treatise. They are mentioned in this connection in order to emphasize more
definitely the fact that the distribution of wealth takes place under the con-
ditions imposed by the existing social order. Even the most radical advocates
of greater equality in the distribution of wealth do not propose an arbitrary
leveling down of fortunes. They direct their attacks against one or more of
these fundamental institutions, such as inheritance, private property in land,
or private property in production goods. Then there are many persons who
are willing to accept the conditions imposed by the existing social order,
as a field for the operation of competitive forces in wealth distribution, but
who object to monopoly and special privilege. This suggests that the forces
bringing about distribution on the basis of the existing social order are in
318 OUTLINES OF ECONOMICS
themselves amenable to social control. If those who secure the chief prizes
in the economic struggle may plume themselves on the fact that they are the
victors in a game that is open to all, it is none the less true that society lays
down the rules of the game.
A large part of the complex of institutions and regulations through which
society controls distribution work smoothly and silently, their action, so far
as society at large is concerned, being unconscious. It is only when obvious
conflicts arise between some of the effects of this unconscious control on the
one hand and present-day ideals of social welfare on the other hand, that the
significance of any part of this fundamental institutional control becomes
generally felt. It is not the least of the merits of the study of economics that
it emphasizes the fundamental character of that part of the social control
of wealth production and wealth distribution which lies below the horizon
of social consciousness.
The Distributive Process. If each family produced all that it
consumed, as most families still do in part, there would be no
problem of distribution, except whatever problems might arise
as to the factors determining the amount produced by each
family. But, since most men to-day are working in more or less
specialized employments, and for money incomes, the fact is, as
was suggested in a previous chapter, that distribution takes place
through a process of valuation. Some men (manufacturers, mer-
chants, farmers) make a money income by selling goods for more
than it costs them to produce them or to buy them from others,
while other men (laborers, salaried employees, professional men,
capitalists, landowners) get a money income by selling their serv-
ices or by selling the use of their capital or land. In the first
case, the money income takes the form of profits; in the second
case, it is wages, interest, or rent, as the case may be. A man's
real income consists of the commodities and services that satisfy
his wants; and the extent to which his money income can be
transmuted into real income depends on the prices of these things.
One always has the option, of course, of investing part of his
money income in production goods rather than in consumption
goods, thus giving up part of his present real income for a larger
future income. However, since different men have to pay about
the same prices for the same kinds of goods, a_discussion of the
factors determining money incomes will be, ipso facto, a discus-
sion of the factors determining real incomes, except as it is found
DISTRIBUTION AS AN ECONOMIC PROBLEM
319
that certain kinds of incomes are changed more readily to meet
the conditions imposed by changes in prices than are other kinds
of incomes.
It is obvious that one person may be the recipient of more than
one kind of income. The American farmer who owns the land,
buildings, farm machinery, and live stock that make up his pro-
ductive equipment, and who does part of his own work, is at the
same time entrepreneur, landlord, capitalist, and laborer; and
his income is made up of different proportions of profits, rent,
interest, and wages. The net income of a tenant farmer, utilizing
only borrowed capital, and employing only hired labor, would, on
the other hand, consist entirely of profits. The economic analysis
that seeks to determine the rules governing the apportionment of
the annual dividend under the categories of profits, wages, rent,
and interest, bears only indirectly upon the question of the per-
sonal distribution of wealth. The income that any individual re-
ceives depends primarily upon his relative efficiency as a wage
earner or as an entrepreneur, or upon the amount and the in-
come-yielding capacity of the capital and land which he owns.
His ownership of capital and land may have come about through
the thrifty husbanding of portions of his income in previous years,
or it may have come about through gifts or inheritance.
Distribution as Valuation. To explain the value which society
puts upon personal services is to explain wages; to explain the
values attached to the use of land and capital is to explain rent and
interest. Certain special and distinguishing characteristics enter
into the determination of each of these three kinds of value. The
conditions governing the supply of labor are, for example, very
different from the conditions governing the supply of land. Yet
there are some fundamental facts that are the same for all of these
three kinds of valuation. The most important of these common
factors is the law of diminishing productivity.
Assume as an illustration that a certain farm is cultivated by a
farmer who uses only his own labor, together with a certain amount
of capital in the form of draft animals and agricultural imple-
ments. Let us assume further that his land is devoted exclusively
to the growing of one crop, corn, for instance. His money
320
OUTLINES OF ECONOMICS
income will depend on the amount of corn he can produce and the
prices he can get for it. If prices remain constant, he can increase
his income only by increasing his product. His product may be
increased by the use of any one of a number of different methods.
In the first place, he can hire a farm laborer to assist him. The
two men, working together, will undoubtedly be able to get a
larger product from the farm than one man could. In some cases
they may be able to get double, or even, through the advantages
of cooperation, more than double, what the farmer could produce
working alone. More often, perhaps, the employment of the sec-
ond man will not double the total product. However that may
be, it is absolutely certain that if the farmer employs a third, a
fourth, or even more men, he will sooner or later reach a point
where it will be found that the employment of the last man has
not increased the product as much as it was increased by the
last previous laborer. That is, the addition of the third man may
not have increased the product as much as the employment of the
second man did, or the fourth man may not have increased the
product as much as the third man did. This point is called
the point of diminishing productivity, 1 for after this point is once
reached it will be found that, save under the most exceptional
conditions, each successive additional laborer will increase the ag-
gregate product by an amount less than the last previous laborer
added to it. This fact is not due to any differences in the laborers,
whom we assume to be of equal efficiency. It means simply that
as the productive possibilities of the farm with its equipment of
capital become more fully exploited through more careful tillage,
it requires increasingly greater efforts, in the form of still more
careful and thorough tillage, to increase the product by a given
amount. This is a fact of such common observation that it needs
no statistical proof; although various agricultural experiment
stations have made records of the effect of different degrees of
thoroughness of cultivation upon the yield of different crops.
1 In some economic writings what is here called "diminishing productivity"
is termed "diminishing returns." It seems preferable to reserve the latter term
for its more familiar application to the phenomenon of the increasing costs connected
with the extension of agricultural cultivation.
DISTRIBUTION AS AN ECONOMIC PROBLEM
3 2I
One might imagine, at first thought, that, after the point of
diminishing productivity had been reached, it would not pay the
farmer to hire additional laborers. But the only question that
directly concerns the farmer in this connection is whether an addi-
tional laborer will "earn his wages," that is, whether the added
product will sell for enough to cover the additional expense incurred
for wages. It will pay the farmer to extend his employment of
labor up to the point where the addition of another laborer to the
working force would increase the product by an amount too small
to sell for enough to pay the wages of the laborer, and where the
deduction of a laborer from the working force would decrease
the product by an amount at least sufficient to pay the wages of
the laborer. If the farmer stops short of this point, he is not mak-
ing all the possible profits; if he goes beyond it, he is cutting
down his profits by employing labor which does not "earn its
wages." The last laborer employed (not necessarily any particu-
lar laborer, nor the last in point of time) is the marginal laborer,
and the increase in the total product attributable to the marginal
laborer (the part which would be lost if one less laborer were em-
ployed) is the marginal product of labor. If the farmer has esti-
mated product and prices accurately, it will be found, of course,
that the value of the marginal product of labor will be approxi-
mately equal to the wages of the marginal laborer. Or, since the
laborers are supposed to be of equal efficiency, and hence to re-
ceive uniform wages, the statement may be put in the broader
and more significant form that wages and the marginal product of
labor will tend to equal each other.
The diagrams illustrate the principle of the diminishing productivity of
labor, developed in the foregoing analysis. In Figure i the rectangle OM
represents the amount of corn that the farmer could raise on his land if work-
ing alone, with his given equipment of capital. The rectangle AN represents
the increase in the product effected by the addition of another worker. Simi-
larly, BP, CQ, DR, and 5 represent respectively the additions to the product
resulting from the employment of a third, fourth, fifth, and sixth laborer.
If DR bushels of corn the increment in the product attributable to the fifth
laborer sells for about enough to pay the wages of one laborer, the
farmer will refuse to employ the sixth laborer, while the employment of the
fifth would be a matter of indifference. If the fifth laborer were employed,
Y
322
OUTLINES OF ECONOMICS
the proceeds of the sale of that part of the total product represented by the
rectangle OERH would be used up in the payment of wages (including pay-
p
M
w
D
/
\ t
5 <
Fic
: i
;. i
3
F
ment for the farmer's own work, as a laborer), while the part of the product
represented by the small rectangles above the line HW would be left to rec-
ompense the farmer for the use of his land, for the interest on and wear and
tear of his capital. If any surplus is left after these demands are satisfied, it
would, of course, constitute the farmer's profits. If the conditions were as
assumed, the fifth la-
borer would be the mar-
ginal laborer, and the
product represented by
the rectangle DR would
be the marginal product
of labor.
If we were dealing with
a very large undertaking,
in which many laborers
are employed, the succes-
sive rectangles represent-
ing the increments in the
p IG 2 product attributed to the
hypothetical addition of
successive laborers could be conceived as indefinitely narrow, so that the
graphic representation would take the form represented in Figure 2, where
the line AM is located at the point of diminishing productivity, and
where the line BN represents the marginal product of labor. In this
case the rectangle OBNH represents the part of the total product which
will just suffice to pay the wages of all the laborers employed.
DISTRIBUTION AS AN ECONOMIC PROBLEM
3 2 3
Thus far we have supposed that the farmer is content to get
along with his original amount of land and capital, and to increase
his product by means of an increased use of labor. Other pos-
sibilities are, of course, open to him. It might happen that he
would be content to do without additional laborers, using instead
an increased equipment of capital. By purchasing more draft
animals, more labor-saving machinery, improved fertilizers, or
possibly by installing drains or irrigation ditches, as the case may
be, he may be able to raise considerably more corn than he could
without such investments. But here, again, he will find the possi-
bilities of increasing his product subject to the same limitations
that would have prevailed had he increased his labor force. With
a team of horses he will be able to accomplish more than he could
with one horse; two teams of horses may still further increase the
productivity of the farm; a third would probably be of very little
advantage, and a fourth team still less useful. So with invest-
ments of capital in other forms: the law of diminishing produc-
tivity is a remorseless physical fact which the farmer has to reckon
with. But the concrete form in which the problem presents itself
to him is this: Will a further investment of money in a specific
kind of capital goods pay me ? Here the farmer has to make on
the one hand the best estimate he can of the amount which the
proposed capital goods will add to his annual product, and of the
probable selling value of the increased product. On the other
hand, he has to count his increased annual expenses. These will
include (i) the original cost of the additional equipment, divided
into annual costs according to its probable durability (each year's
costs being properly only the wear and tear, or "depreciation"
attributable to that year's use); (2) the maintenance or upkeep
(including such things as ordinary repairs on machinery and the
cost of feeding horses), and (3) the interest on the investment (what
the farmer has to pay if he borrows the necessary funds from
some one else, or what he might have lent his money for to
some one else if he uses his own funds). Guided by these esti-
mates, the farmer will naturally increase his equipment of capital
goods so far as the returns from the added product would more
than suffice to cover his increased costs. Beyond this point he
324 OUTLINES OF ECONOMICS
could not wisely go. The last increment of capital which just
suffices to pay for itself is the marginal increment of capital,
and the added product attributable to it is the marginal product of
capital.
The diagrams portraying the operation of the law of the diminishing prod-
uctivity of labor will serve as well to illustrate the diminishing productivity
of capital. Assuming that the amount of land and the amount of labor to
be utilized are definite in quantity, the successive rectangles in Figure i rep-
resent the increase in the gross product attributable to each of successive
increments of capital. Figure 2 represents the same conditions, except that
each increment of capital is assumed to be indefinitely small.
If (in Figure 2) BN represents the marginal product of capital, the whole
return imputed to capital is, of course, represented by the rectangle OBNH.
The area above the line H N represents the part of the product which is avail-
able for rent and wages, the farmer's profits being derived from any surplus
that is left after these demands are satisfied.
There is one difficulty in the foregoing analysis, however, that may have
been noted by the reader. What is meant by an "increment of capital"?
In the case of labor the "increment of labor" can be interpreted as the labor
of one man (for any definite period of time that may be chosen), the one man
being assumed (for the purpose of simplicity in the analysis) to be of equal
efficiency with all others constituting the labor supply. It is just as practicable,
of course, to assume that one horse is, for the farmer's purposes, just as
efficient as another horse, that only one kind of plow is available, and that
one bushel of fertilizer is exactly like any other bushel of fertilizer ; but this
does not help us out of our difficulty. For how can we blend horses, plows,
and fertilizers into one concept, and divide them into " increments of capital " ?
One way of getting around the difficulty is to think of the capital which the
farmer combines with his labor and his land in terms of its money value. In
this sense an increment of capital might be a dollar's worth of capital, or ten
dollars' worth of capital, without reference to the different kinds of concrete
production goods really composing it. This device is useful for some purposes,
but it obscures the fundamental fact that capital gets its value from its ability
to secure an income for its owner. The purpose of this analysis of diminish-
ing productivity is to open the way for a discussion of the valuation of the
services of land, labor, and capital. To use the term " capital " in the sense
of capital value at this stage in the discussion would only lead us into a circular
argument. This point cannot be further elaborated here, but should be
kept in mind by the reader in connection with the discussion of interest in a
subsequent chapter. 1 As a matter of fact the law of diminishing productivity
1 Professor J. B. Clark avoids the difficulty here discussed by using the term
"capital" in a sense which corresponds neither to the concrete instruments of pro-
duction that make up capital goods, nor to the value of these capital goods,
DISTRIBUTION AS AN ECONOMIC PROBLEM 325
holds for each specific kind of capital that the farmer uses. For example,
imagine that the farmer is limited to the use of a fixed amount of all forms of
capital except one, horses, for instance. Then the successive rectangles in
Figure i would represent very well the increments of product gained by the
use of additional horses, while if the product added by the use of a fifth
horse is just about enough to pay for the increased expense, the rectangle DR
would represent the marginal product. The illustration can, by a similar
process, be made to apply to any other kind of capital. The farmer will
normally make use of each specific kind of capital up to the marginal point.
A third way of increasing his product is also open to the farmer.
He may think it wiser to get along with his original equipment of
capital and his own labor, and to increase his product by utilizing
more land. The adoption of this procedure would mean a less
intensive cultivation per acre of land. The use of labor and capital
would have to be distributed more thinly over the larger acreage.
This would result in a smaller product per acre, but the procedure
would be warranted if the increase in the annual product should
sell for more than the annual cost of the additional acreage. By
the annual cost of additional land we mean the rent which the
farmer has to pay for the land if he leases it, or the interest on the
amount of the purchase price, if he buys it. It is obvious, how-
ever, that the combination of more and more land with a fixed
amount of labor and capital will result in a smaller and smaller
return per acre of land, and that a point will soon be reached be-
yond which it will not pay the farmer to go. In other words, the
law of diminishing productivity rules when land is considered as
the variable factor, just as it does when labor or capital is consid-
ered as the variable.
The diagrams already used may be adapted to the illustration of the present
hypothesis by assuming that equal areas, if successively combined with a
given amount of labor and capital, would yield increments of product as
represented by the successive rectangles in Figure i, or by the curve in Fig-
ure 2. It is assumed for the sake of simplicity in the illustration that the dif-
ferent acres of land available for the farmer's use are of equal fertility.
but as denoting a self- perpetuating fund which bears the same relation to concrete
production goods (including land) that a river does to the drops of water of which it,
at a given time, is composed. Professor Clark finds this concept useful in his
own analysis (cf. his Distribution of Wealth and Essentials of Economic Theory),
but it is altogether too abstract and hypothetical to be of use in the present con-
nection.
326 OUTLINES OF ECONOMICS
The Actual Operation of Diminishing Productivity. It has
been assumed thus far that the farmer of our illustration has to
be content with a fixed quantity of two of the three factors in
production, but that he is at liberty to increase his use of the third
factor up to the point where the maximum profits will be gained
for himself. Assuming in turn that each of the three factors in
production was the variable one, we found that in each case the
law was the same maximum profits were obtained when the
product added by the last increment of the variable factor would
sell for just enough l to cover the increased expense. In one way,
however, this assumption does not correspond with the facts.
The farmer is at liberty to increase his products by increasing his
utilization, not only of any one, but of any two, or all of the three,
factors of production. He may, for example, purchase more draft
animals and more machinery, employ more labor, and at the same
time acquire more land. To a certain extent the use of one factor
may lessen the use of another (as in the case of labor-saving ma-
chinery and labor). More often, however, the reverse is true.
The acquisition of machinery may necessitate the use of more
horses, while the acquisition of more land will often make profit-
able the use of more labor as well as more capital a fact
which is itself implied in the law of diminishing productivity.
Although the employment of labor, capital, and land can thus be
increased simultaneously, the significance of the law of diminish-
ing productivity is in no wise diminished. The farmer, in decid-
ing upon the purchase of a particular kind of capital good, has to
take into account his present and, to some extent, even his prob-
able future supply of other kinds of capital goods, as well as of
land and labor, before he can form a judgment as to the amount
which the use of the particular capital good will add to his annual
product. Moreover, he has to choose between additional invest-
ments in labor as against additional investments in land, or ad-
ditional investments in different kinds of capital. But his effort
to get maximum profits will lead him to make those investments
1 Whether this last unit, which just pays for itself, will be added, is, of course,
a matter of indifference. The margin is consequently sometimes called the
"margin of indifference."
DISTRIBUTION AS AN ECONOMIC PROBLEM 327
which promise to result in the greatest additions to his product.
The result of this will be, normally, that each factor in production
will be utilized up to the marginal point the point where further
utilization would add a product so small as to sell for less than
the increased expenses.
Why the farmer should not increase his product indefinitely by increasing
his use of all three of the factors in production is a question which does not
concern us in this connection. The law of diminishing productivity relates
only to the proportions in which land, labor, and different forms of capital
are combined. The question of the most profitable size of farm is quite
another thing. 1
It is not only in agriculture that the law of diminishing produc-
tivity is the fundamental thing in determining the proportions in
which the factors of production are combined. Every manufac-
turer has the option of using either relatively more machinery and
relatively less labor, or relatively less machinery and relatively
more labor in order to produce a certain quantity of goods. He
may have to decide, also, between building a six-story factory
covering an acre of ground, and a one-story factory covering six
acres of ground a problem which is paralleled by the farmer's
problem of deciding between the cultivation of a relatively large
acreage and the more intensive cultivation of a smaller acreage.
The entrepreneur in every kind of undertaking has to decide as
to the advisability of a particular investment in land, capital, or
labor, with reference to the fundamental question, "Will it
pay?" And the profitableness of any such investment is always
a matter of the cost of the unit of land, labor, or capital, as com-
pared with the selling value of the quantity which it will add to
the entrepreneur's total product.
1 The limitations to the profitable size of a farm or other business unit arise
from the fact that the managerial efficiency of the entrepreneur is itself subject
to the law of diminishing productivity. Under competition there is a constant
tendency for labor, capital, and land to get into the hands of those entrepreneurs
who can use them most efficiently, that is, who can pay most for them because they
can get the largest product from them. But even if A is a better entrepreneur than
B, it may easily happen that B can get a larger product from additional units of
labor, capital, and land than A can, if B's existing equipment is considerably
smaller than A's. A given farmer cannot extend his use of land, labor, and capital
indefinitely, simply because, after his establishment reaches a certain size, other
328 OUTLINES OF ECONOMICS
In order to achieve maximum profits, each entrepreneur will en-
deavor, so far as is practicable, to apportion his use of land, labor,
and capital so that the value of the increment of product attributable
to the marginal unit of each factor in production will about equal
its expense.
The significance of the law of diminishing productivity in rela-
tion to the distribution of wealth now becomes apparent. If a
given class of laborers in a given employment receive like wages,
their wages (being the same as the wages of the marginal laborer)
will tend to equal the marginal product of labor. The expense
incurred by the entrepreneur for any unit of a certain kind of capi-
tal goods will tend to equal the value of the marginal product of
that particular kind of capital goods. The rent which the farmer
will pay for any acre of a quantity of land of uniform quality will
tend to equal the value of the marginal product of land of that
quality. But so far as competition works freely, different entre-
preneurs in the same market will have to pay the same wages for
the same kind of labor, the same price for the same kind of capi-
tal goods, and the same rent for the same kind of land; and they
will get the same prices for the same kinds of products. So it is
possible to state in more general terms that the remuneration of
each factor in production tends to equal its marginal product. 1
farmers can use additional units of the productive factors more profitably than he
can. The most profitable size of the business unit will vary, other things being
equal, with the efficiency of the entrepreneur.
Some writers have introduced the efficiency of the entrepreneur as a fourth
variable in their discussion of diminishing productivity. Such a procedure is
avoided in this book, because it leads to theoretical complexities and because it
involves a shifting of the point of view. The diminishing productivity of each of
the three factors in production is a physical fact which every entrepreneur has to
deal with, and which we can explain most clearly by adhering to the analysis of
the motives controlling the individual entrepreneur. The analysis of the dimin-
ishing productivity of the entrepreneur's efficiency, on the other hand, involves of
necessity the social point of view, for the only kind of estimate that is made of the
entrepreneur's productivity is expressed through the social process of the valuation
of the entrepreneur's products. In this book the diminishing productivity analysis
is applied only to the entrepreneur's expenses of production, the entrepreneur
being regarded (as he is in accounting practice) as the "residual claimant."
1 The statement that rewards tend to equal products has no ethical significance,
and should not be interpreted as a justification of the present economic order,
and this for the following reasons among others: (i) That distribution ought to
DISTRIBUTION AS AN ECONOMIC PROBLEM
3 2 9
It is not necessary for the validity of this marginal productivity
theory of distribution, as it is called, that in any particular under-
taking at any given time the proportions in which the factors of
production are actually combined should be adjusted with the
nicety which the theory seems to imply. The amount of land which
the farmer holds at any one time is apt to be fixed by his estimate
of his future rather than of his present production, while custom,
pride of ownership, and the chance of gain through an increase
in land values (which is not to be confused with the motives guid-
ing his activity as a producer) have their influence. Moreover,
the size of the government homesteads into which a large part of
be according to productivity is itself a debatable proposition. Some socialists,
for example, maintain that distribution according to needs is a higher ideal.
(2) The ethical side of the problem of distribution relates to personal distribution,
while the marginal productivity doctrine relates to the determination of the in-
comes going to the different factors in production. To state that the rent of an
acre of land tends to equal the value of its product is not to say that the landowner
has "earned " his income. The private receipt of rent depends upon such social
institutions as private property, inheritance, and free contract, and these have to
be judged from the broad viewpoint of social welfare. (3) The efficiency of the
individual laborer, which is one of the things determining his productivity, often
depends upon the opportunity he has had to "make the most of himself." But
opportunity depends largely on environment, and this in turn is to a large extent
amenable to social control. (4) The amount of the marginal product of any one
factor in production is itself a resultant of all the forces affecting the supply of all
the factors in production and of all the conditions that affect their fitness to serve
in the production of the things that consumers are demanding. (5) This theory
is only a statement of a normal tendency. It does not, properly understood!
conflict with the fact that such things as custom and other forms of economic
friction and inertia, the higgling of the market, the conscious efforts of social classes
to better their condition, imperfections in the monetary system, short-sighted
selfishness on the one hand, altruism on the other, as well as the conscious social
control expressed in labor legislation, usury laws, and the like, all have important
effects upon the incomes actually received by those who furnish labor, capital, and
land for the work of production. Actual wages may differ from the normal wages
measured by marginal product just as contractual rent may differ from economic
rent. (6) We can imagine an economic order very different from the present one in
which it would still be true that incomes would tend to equal products. If, for
example, wages were arbitrarily increased 50 per cent by law, while one result
would undoubtedly be an increase in unemployment, it would still be true that
wages would tend to equal the marginal product of labor, or, rather, that the
marginal product of labor would tend to equal wages. To attempt to avoid this
difficulty by assuming that the present order, or a purely competitive order, is the
" natural " order of things, is to beg the whole question in favor of the existing
status.
330 OUTLINES OF ECONOMICS
the public domain was divided has had an important effect on
the size of the farmer's holding in a large section of the United
States. The average American farmer undoubtedly holds more
land than he would if he were looking only for maximum present
profits. The practical problem for him is apt to be how inten-
sively he shall cultivate it: how much labor and capital he shall
combine with it. That is, he is apt to use relatively more land
and relatively less labor and capital than he would use if every
additional acre of land used meant an additional expense for
land. This conclusion is not altered by the fact that his land is
probably not of uniform quality, and that some of it may not repay
cultivation under present conditions. In a similar way the manu-
facturer builds his factory for the future, and may even equip it
with a larger complement of some kinds of machines (such as
boilers and engines) than present requirements justify. On the
other hand, a sudden and probably temporary increase in demand
for a product will be met by the manufacturers by the employ-
ment of more labor (even at the high rate charged for overtime or
night work) rather than by the installation of more labor-saving
machinery, even though the latter might, in the long run, be more
economical. In general, when considerations which take into
account a period of years dominate, land and the more perma-
nent forms of capital goods will be used more freely, labor and
the less permanent forms of capital goods less freely. When
short-time considerations are dominant, the reverse will be
true.
These limitations do not invalidate the law of the equality of
the remuneration of the factors in production and the value of
their marginal products any more than the fact that a feather
does not fall through the atmosphere as rapidly as a stone invali-
dates the law of gravitation. This law, like other economic laws,
is the statement of a fundamental tendency, which, in this case, is
bound up with the universal desire of entrepreneurs to get for
themselves the largest possible profits.
Marginal Productivity and Valuation. The reader who has
firmly grasped the concept of marginal utility will find that a
recognition of some similarities in the roles which marginal utility
DISTRIBUTION AS AN ECONOMIC PROBLEM
331
and marginal productivity play in the process of valuation will
help him to grasp the significance of the latter concept. The value
of consumption goods is determined by their capacity to yield an
income of satisfactions; the value of production goods is deter-
mined by their capacity to yield a money income to the entre-
preneur. In the one case the law of diminishing utility is domi-
nant; in the other case, the law of diminishing productivity. Just
as we cannot speak of the utility of a commodity in general, but
only of the utility of particular units of a commodity, so we can-
not speak of the productivity of land, labor, or capital in general,
but only of the productivity of particular units of land, labor, and
capital a productivity which is attributed or imputed to other
similar units of the supply of these factors in production. The
consumer is getting the maximum of satisfaction of his wants when
the final dollar spent for one commodity satisfies just as intense
wants as the final dollar spent for any other commodity, and he
tends to apportion his expenditures accordingly. The entrepreneur
is not making maximum profits if his final expenditures for any
one of the factors in production add more to his product than his
final expenditure (of equal amount) for either of the other factors
in production, and he tends to apportion his employment of land,
labor, and capital accordingly. But it must not be supposed that
the statement that the prices paid for land, labor, and capital tend
to equal the value of their marginal products is a complete explana-
tion of the valuation of the services of the factors in production
any more than the principle of marginal utility is a complete ex-
planation of the valuation of consumption goods. In fact, from
one point of view, marginal productivity is itself partly deter-
mined by the prices which the entrepreneur has to pay for the
services of the factors in production.
The demand for the use of land, labor, and capital is ultimately
a demand for their products the goods that satisfy human wants.
The entrepreneur's task is to anticipate and meet this demand
a problem that takes the concrete form of producing goods that
will sell for more than the expense of production. On the one
hand he has to estimate the quantities which he can sell at certain
prices; on the other hand, he has to take account of the quantities
332 OUTLINES OF ECONOMICS
which various units of land, labor, and capital will contribute to
his product, together with the prices (wages, rent, and interest)
that he has to pay for these units. Through his mediation the
demand of society for want-satisfying goods becomes a demand
for the services of certain quantities of land, labor, and capital,
combined in certain proportions. And the principle that guides
the entrepreneur's transformation of the social demand for the
products of land, labor, and capital into his own demand for the
services of these factors in production is the principle of marginal
productivity. The wages, rent, and interest that are actually paid
for the services of the factors in production are the resultants of
the, demand of entrepreneurs, on the one hand, and of the supply
of these factors on the other hand. The principle of marginal
productivity is an illuminating way of stating the problem of the
distribution of wealth, rather than a solution of it. Just how supply
and demand operate in the case of each factor in production is a
topic to be considered in later chapters.
Social Aspects of Diminishing Productivity. Since the entre-
preneurs are only the intermediaries between society viewed as a
body of consumers and society viewed as a body of producers, we
may, for present purposes, leave them out of consideration, in
order to fix our attention upon some of the more general results
of the fact of diminishing productivity.
If the number of laborers within the boundaries of a nation is
increased by immigration, without a corresponding increase in
capital or in the amount of land available for use, the result will be
an increase in the total amount of goods produced, which means
an increase in the amount of wealth produced per unit c* land and
capital, but (on account of the operation of the law of diminishing
productivity) a decreased amount per laborer; a higher marginal
product for land and capital, and a lower marginal product for
labor; consequently, higher rent and higher interest, but lower
wages. If the supply of capital within a country is increased,
while labor and land remain constant, the result will be higher
wages and higher rents, but a smaller remuneration for capital.
Similarly, if the available supply of land be increased (as by im-
provements in transportation facilities), rent will absorb relatively
DISTRIBUTION AS AN ECONOMIC PROBLEM 333
less, and wages and interest relatively more, of the value of the
total product.
In a very real sense the same laborer is more productive in a
country where land is relatively plentiful than in a country where
land is relatively scarce. A laborer may gain no technical effi-
ciency by migration from Europe to America, but the increment
of product attributable to his work is apt to be considerably larger
in the United States than it was in Europe. Here he really creates
a larger product and earns a larger wage. The migrations of
labor and capital from one region to another, or from one country
to another, are guided by the endeavors of capitalists and laborers
to get the maximum remuneration, which will always be found
where the value of the marginal product of capital or labor is a
maximum.
In a prosperous country it is apt to be the case that the supply
of labor and the supply of capital are being increased simultane-
ously, though not necessarily with equal rapidity, while more land
is at the same time being made available through improvements
in transportation. Save under such exceptional conditions of rail-
way building as have prevailed in the United States during the
past fifty years, the available supply of land is apt to increase
more slowly than the other factors in production increase. In
general, the law of diminishing productivity will necessitate a con-
tinual increase in the proportion of the product set aside for the
remuneration of each unit of the most slowly increasing factor in
production; while, of the other two factors, the one that increases
more rapidly will receive, per unit, a relatively smaller and smaller
proportion of the value of the total product.
QUESTIONS AND EXERCISES
1. Do you know of any instances where the distribution of wealth has been
affected, directly or indirectly, by conscious social action ?
2. Prepare tables or diagrams illustrating the operation of the law of
diminishing productivity in some industry with which you are familiar.
3. Why is the same laborer more productive in America than in Europe ?
Is this a condition that will probably continue indefinitely?
4. Why do lands in Belgium produce more per acre than similar lands in
the United States?
334 OUTLINES OF ECONOMICS
5. Why are twenty-story office buildings not erected in small cities ?
6. What is the relation of the discussion in this chapter to the socialist
contention that labor produces all wealth?
REFERENCES
CARVER, T. N. The Distribution of Wealth, Chap. II.
COMMONS, J. R. The Distribution of Wealth, Chap. III.
FETTER, F. A. The Principles of Economics, Chap. IX.
MARSHALL, ALFRED. Principles of Economics, Vol. I, 4th ed., Book VI,
Chaps. I and II.
CHAPTER XX
THE PERSONAL DISTRIBUTION OF WEALTH
IN the present chapter we shall study the distribution of wealth
and income among individuals simply as individuals, and not as
factors of production. What is the cause of large fortunes? Is
the middle class disappearing? Can we abolish poverty? In
the chapter on Consumption, reference has been made to the ideal
distribution of wealth, here we shall deal chiefly with actual
conditions. But to begin with, certain distinctions must be clearly
drawn.
Wealth and Income. The distribution of wealth and income
should be distinguished. If we have in mind simply the enjoy-
ment of material things, then we must pay attention to the distri-
bution of income. A man of vast possessions may be very frugal
in his consumption, acting with respect to most of his property
simply as a trustee for society. But when we are interested in
social classes, industrial democracy, and personal power and inde-
pendence, then the distribution of wealth is the important con-
sideration.
Absolute and Relative Well-being. Two entirely independent
inquiries are very frequently confused, (i) We may wish to
know whether the condition of the mass of the people is getting
better or worse. Do they have more or less of the good things of
life than their ancestors had? But we may also ask, (2) What
share of the total product of industry is received by each section
of the community? Which section is gaining upon the others?
If A and B divide a catch of ten fish equally to-day, and if to-
morrow A gets ten out of a total catch of thirty, then absolutely
his income has increased, but relatively it has declined.
Concentration of Wealth and Large-scale Production. It is per-
haps worth while to warn the reader against confusing the question
335
336
OUTLINES OF ECONOMICS
of large and small fortunes with the question of large and small
scale production. However improbable, it is at least conceivable
that there might be an equality of property with production
carried on largely as it is to-day, for we have but to imagine an
equal distribution of stock holdings.
Methods of measuring Concentration of Wealth and Income.
How shall we tell whether the middle class is tending to disappear ?
A common method is to make a classification of wealth and income,
and then to compare the number of persons in each class at dif-
ferent dates. The unreliability of the conclusions based on such a
procedure is made clear by the following hypothetical illustra-
tion: Let $100 be distributed among ten persons as follows:
$i, $3, $5, $7, $9, $11, $13, $15, $17, $19. Then suppose each
individual's holding is doubled, thus: $2, $6, $10, $14, $18,
$22, $26, $30, $34, $38. Relatively to each other they r are
all in the same position as before, but by the erroneous method
of comparison referred to, there appears to have been a concen-
tration because the number in the highest class has increased most
rapidly:
TABLE I
CLASS
NUMBER
Dollars
First Case
Second Case
o and less than 5
2
3
2
3
I
I
2
6
5 and less than 10
ro and less than 15
15 and over . . ....
A satisfactory method of comparing the distribution of wealth at
different epochs must take account of the changing significance of
fixed classifications when there has been a change in the per capita
wealth. This can be done by observing what proportion of the
wealth is owned by certain sections of the population, such as the
poorest third, the middle third, or the upper third. If a larger
proportion of the total wealth falls into the hands of the upper
third, we may say there is evidence of a growing concentration of
THE PERSONAL DISTRIBUTION OF WEALTH
337
wealth. It is clear that no definite movement is necessarily dis-
cernible even when changes are taking place, for these changes
may tend toward concentration in one part of society and toward
diffusion in another.
Statistics of Distribution. There are many investigations
showing the earnings of particular classes of workers, but in the
United States there is no reliable statement of the division of the
national wealth or income among all classes of society. We could
not use the property tax assessments for this purpose because of
their inaccuracy, and because of the fact that one individual may
be taxed in various jurisdictions. The returns of the probate
courts have been used as a basis for a statement of wealth distri-
bution in the United States on the assumption that the distribution
of wealth among persons who die in any year is an index of the
distribution of wealth among those who are living. But the in-
completeness of our probate returns make this method also a
hazardous one. Such statistics as we have do not enable us to
say more than that a small proportion of the population at the top
of the social scale controls a large proportion of the nation's wealth,
but no marked tendency either toward concentration or diffusion
in the last fifty years has been proved.
The growth of the number of millionaires has been used as an
evidence of growing wealth concentration, but it should be noted
that a growth of population and wealth in a community would
cause an increase in the number of millionaires, even if the relation
between the various classes remained the same. Suppose that in
1850 there had been in the United States but fifty millionaires, that
three hundred and fifty persons had from $750,000 to $1,000,000,
and that six hundred persons had from $500,000 to $750,000. If
the population had remained the same and every one's wealth had
been doubled, in 1900 there would have been one thousand mil-
lionaires, and if the population at the same time increased fourfold,
with the relations among the new population the same as in the old,
we should then have four thousand millionaires without any tend-
ency toward concentration. Nevertheless, the increase of large
fortunes has been so startling that in spite of these considerations
one may perhaps regard them as an indication of a growing con-
OUTLINES OF ECONOMICS
centration of wealth. The lists of very rich men published in the
United States from time to time are instructive on this point. In
1820 men with a personal property of $20,000 were included; in
1846 a total property of $50,000 was considered very large; in
1855 this was doubled; in 1892 a man must be a millionaire to be
considered very rich, and at present one may speak of even a
billionaire.
More satisfactory statements can be made for those countries
which collect an income tax. The following figures are from a
table prepared by Professor Wagner, in a study of the income-tax
returns of Prussia :
TABLE II
INCOMES IN PRUSSIA, 1892 AND 1902 *
CLASSES IN DOLLARS
PE CENT OF PERSONS
(Heads of Families or Single
Adults)
PER CENT OF INCOME
(That below $214 is estimated)
Below 214
214. 714. . .
1892
1902
1892
1902
78.18
18.98
2-33
0.41
0.08
O.OI
70.66
2.88
0.51
O.IO
O.O2
41.21
30.01
12.8
7-37
4-65
3-93
32-97
34-92
!3-73
7.84
5-4
714-2261
2261-7259. .. .
7259-23800. ..
Over 23800 . . .
Absolute amounts
(Total)
Number
11,162,000
Number
12,813,000
Dollars
2,309,076,000
Dollars
3,039,498,000
1 From Zeitschrift des Preussischen Statistischen Bureaus, 1904, p. 231.
The great mass of the people are too poor to pay any income tax
at all, the minimum income taxed being $214. The upper 3.51
per cent of the population receives about one third the total
income, but in connection with such a statement it should be said
that even if incomes should be equally distributed, the average
income per family, or single adults, would be very small ($237 in
1902). With a very moderate inequality in distribution, the mass
of the people must still be unable to pay an income tax. Thus,
the table shows as much the niggardliness of nature as the injustice
THE PERSONAL DISTRIBUTION OF WEALTH
339
of man to man. From 1892 to 1902 there seems to have been an
absolute increase in money incomes among the lowest class of the
people, since a considerably smaller proportion of the population
is found in the class with incomes below $214 in 1902 than in 1892.
But the table as a whole shows a slight tendency toward a concen-
tration of incomes in the hands of the upper classes.
When we turn from the question of relative well-being to that of
the actual condition of each class taken by itself, we find two facts
standing put prominently: (i) the fruits of economic progress
have not been confined to a small class, but have been shared by
the masses, and (2) a surprisingly large section of the population
is still in poverty.
With respect to the first, we may say that in material comforts
the people of this generation are better off than they have ever been
before. The work of settlement in which so many of our fore-
fathers engaged was laborious and exhausting. Food was often
scarce, disease was rife in many settlements, and the women and
children in particular suffered greatly. After the wilderness was
cleared, there ensued a period of "rude plenty." Food was
abundant, but it was coarse in quality and restricted in variety,
whilst everything that had to be brought from a distance was very
expensive. Education was difficult to secure, books scarce, and
the lives of most people were, in the main, monotonous and
uneventful.
The course of wages from the middle of the eighteenth century
to the year 1905, and the movement of prices from 1860 to the
latter date, are given in Table III following. The figures are not
altogether comparable, nor so trustworthy as could be wished, but
the general impression which they give is correct. Speaking
generally, money wages have steadily risen, and the hours of labor
have declined, with minor interruptions, since the colonial period,
while prices have fluctuated irregularly. Taking all kinds of com-
modities into account, the level of prices in the last half century
has probably been little if any above the level of prices in the first
half of the nineteenth century. The standard of living has per-
ceptibly risen, and the working classes save no more, possibly,
than they did several generations ago. But they live better.
340
OUTLINES OF ECONOMICS
TABLE III
WAGES, PRICES, AND HOURS OF LABOR
WAGES, PRICES, AND HOURS
IN i860 TAKEN AS IOO
OF LABOR IN 1890 TAKEN
AS IOO
DAY LABORERS IN
MASSACHUSETTS '
EMPLOYEES IN MANUFACTURING
INDUSTRIES EASTERN STATES
GENERAL INDUSTRY, EXCLUDING
AGRICULTURE, MINING, AND
TRANSPORTATION
T? ITT 1
RELATIVE
RELATIVE
PERIOD
Ix ILLA-
TIVE
YEAR
Cost
Hours
YEAR
Hours
WAGES
Wages
of
of
Wages <
Prices s
of
Living '
Labor'
Labor 6
1752-60
29
1860
IOO
IOO
IOO
1881
95-3
"4-5
I3
1761-70
325
1861
IOO
III
99.1
1882
96.9
II7-5
103
1771-80
376
1862
IOO
123
98.2
1883
97-7
114.8
I0 3
1781-90
.428
1863
109
137
98.2
1884
98-5
107.7
I3
1791-00
.623
1864
1 20
I6 3
98.2
1885
97-8
100.8
103
1801-10
.817
1865
141
175
97-3
1886
97.8
99.6
IO2
1811-20
.910
1866
J 53
172
98.2
1887
98.6
100.3
IOO
1821-30
.796
1867
172
164
98.2
1888
99- 2
102. 1
IOO
1831-40
.872
1868
167
I6 5
96.4
1889
99.6
IO2.I
IOO
1841-50
.852
1869
174
I6 3
96.4
1890
IOO.O
IOO.O
IOO
1851-60
975
1870
J 75
157
95-5
1891
99-7
101.4
99-8
1871
178
148
95-5
1892
100.3
99-5
99.8
1872
i74
147
95-5
1893
IOO. 2
IO2.O
99.6
1873
i?S
149
95-5
1894
96.7
97-4
99.1
1874
170
145
95-5
1895
97-4
95-5
99-4
1875
161
141
93- 6
1896
98-5
93-3
99.1
1876
156
J 34
93- 6
1897
98.2
94.0
98.9
1877
146
I3 1
93-6
1898
99.0
96.4
99 -o
1878
142
126
93- 6
1899
IOO. 2
97-2
98-5
1879
140
123
93-6
1900
I03.I
98.7
98.0
1880
137
125
93-6
1901
104.8
102.7
97-4
1902
108.2
108.3
96.6
J 93
III. 2
107.7
95-9
1904
III. I
109.1
95- 2
*9S
II2.8
109.8
95-2
1 Data from Report of Massachusetts Bureau of Statistics of Labor for 1885, p. 455.
1 Data from Mitchell, Gold, Prices, and Wages under the Greenback Standard, pp. 242-244.
The cost of living here is based upon retail prices and covers rent as well as food, etc.
3 Based upon statistics covering 21 industries given in the Aldrich Report on Wholesale
Prices, Wages, and Transportation.
* Statistics for 1881-1889 cover 25 city occupations, and are based upon data given in Bul-
letin of the Bureau of Labor, No. 18, p. 669. Statistics for 1800-1905 cover 349 occupations,
and are based upon data given in Bulletin of the Bureau of Labor, No. 65, p. 20.
'Wholesale prices from 1881 to 1889, based upon data given in the Aldrich Report on
Wholesale Wages, Prices, and Transportation, Part I, p. 99. Retail prices of food from 1890
to 1005, from the Bulletin last cited.
6 From the Aldrich Report and Bulletin cited above. After 1890, statistics are based on
hours of labor per week.
THE PERSONAL DISTRIBUTION OF WEALTH 341
Regarding the second proposition, we may say that reliable
English investigations show that more than one fourth of the popu-
lation of the cities of London and York are below the poverty line.
To be sure, it is not easy to determine definitely how poor a person
must be in order to be "in poverty," but the statement just made
is based upon standards that are undeniably conservative. But
a number of those actually in poverty have enough income to pur-
chase the minimum physical requirements if they knew how to
spend their money wisely. In the city of York 9.91 per cent of
the population had insufficient earnings for minimum require-
ments estimated at $5.25 per week for a family of five. This
minimum is very low, and it is easily within the mark to say that
at least a fifth of the population of York did not have in 1899 a
sufficient income for a decent existence. In the United States
the proportion of the urban population below the poverty line is
probably somewhat less, but reliable statistics cannot be quoted.
A recent writer has estimated that ten million persons in the
United States are in poverty, not all in distress, but "much of the
time underfed, poorly clothed, and improperly housed." The
estimate is based on statistics of unemployment, returns of boards
of charity, court records of evictions, and pauper burials. What-
ever the actual figures may be, they would doubtless be startling
in comparison with statistics of our industrial progress.
Causes of Poverty and Riches. The explanations of poverty
and riches may be divided into two classes : (i) those that empha-
size individual responsibility, and (2) those that emphasize social
responsibility. According to the first, a comfortable fortune is the
reward of efficiency, and poverty the penalty of inefficiency. To
find fault with existing wealth distribution, it is alleged, is to find
fault with nature for making individual differences in ability so
enormous. That there are idle and worthless persons among the
rich is not to be denied, but they, it is said, are to be regarded as
the exceptions. As a class, according to this view, the rich add
more to the wealth of society than they consume, and they do not
in reality deduct anything from the income of the lower classes.
Those who emphasize the second explanation, on the other hand,
point to the existence of all sorts of special privileges which enable
342 OUTLINES OF ECONOMICS
the few to levy toll on the commerce of the nation. They assert
that the fortunes of most millionaires originated under the shelter
of some monopolistic enterprise. As to the poor, they call atten-
tion to the fact that inefficiency may be the result of poverty as
well as the cause of it. Society must, therefore, take active meas-
ures to better the environment of the poor. They must be taught
to live wisely, and their children must be given a fair chance in life.
Children who do not get enough to eat when young cannot be ex-
pected to take care of themselves when they are men and women.
"The prime importance of monopoly privileges in the distribution of
wealth is shown by the results of the investigation of the New York Tribune
(1892) in its efforts to ascertain the sources of the fortunes of the millionaires
of the United States. That investigation was undertaken to show that the
system of protection has not been the main cause for monopolies and great
fortunes. The investigation amply demonstrated this proposition. Of
the 4047 millionaires reported, only 1125, or 28 per cent, obtained their
fortunes in protected industries. The following partly estimated summaries
are based on the Tribune report. They show that about 78 per cent of the
fortunes were derived from permanent monopoly privileges and only 21.4
per cent from competitive industries unaided by natural and artificial monopo-
lies. Yet there can be no question that if these 21.4 per cent were fully
analyzed, it would appear that they were not due solely to personal abili-
ties unaided by these permanent monopoly privileges. They were mostly
obtained from manufactures, and five sixths of the manufactures of the
country are based on patents. Besides, fortunate investments in real estate,
stocks, etc., have often contributed to fortunes where they do not appear
prominently. Furthermore, if the size of the fortunes is taken into account,
it will be found that perhaps 95 per cent of the total values represented
by these millionaire fortunes is due to those investments classed as land
values and natural monopolies and to competitive industries aided by such
monopolies." *
Those who take this second view do not deny that individual
differences in ability exist and are a cause for a difference in for-
tune. But they think that conditions are such that differences in
reward are quite out of proportion to the difference in ability. A
little shrewdness may accumulate a fortune just as the touch of a
child's hand may start a bowlder down the mountain side. 2
The controversy as to the ultimate responsibility for poverty
1 Commons, The Distribution of Wealth, p. 252.
2 The relation of competitive wages to efficiency is discussed in Chapter XXII.
THE PERSONAL DISTRIBUTION OF WEALTH 343
cannot be settled by an appeal to the results of the investigations
that have been made as to the immediate causes of poverty. The
investigation in the city of York, before referred to, gives the fol-
lowing as to the immediate causes of primary poverty, that is,
where the income was insufficient to provide the minimum re-
quirements for physical efficiency even if wisely spent:
TABLE IV
IMMEDIATE CAUSES OF " PRIMARY " POVERTY l
PER CENT OF POPULATION
m POVERTY
Death of chief wage earner
Illness or old age of chief wage earner
Chief wage earner out of work
Irregularity of work ;
Largeness of family, i.e. more than four children .
In regular work but at low wages
S-"
2.31
2.83
22.16
51.96
1 Rowntree, Poverty, p. 120.
Is Greater Diffusion Possible? Most people agree that a
greater equality of possessions would be desirable if it could be
brought about without any confiscation of the real earnings of the
more efficient members of society. The idea of a leisure class
whose mission is to further culture without great contribution to
the production of what it consumes, does not find much favor in
this democratic age. The disadvantages of wide extremes in
wealth have been so often pointed out by social philosophers that
they need not be emphasized here. But those who believe that
the competitive system roughly apportions rewards according to
individual production will say that nothing can be done directly to
diffuse wealth. That each individual should bear the consequences
of his own conduct, they think is necessary as a discipline for the
race. " Give the children of the shiftless, by thoughtless charity
or various systems of poor relief, the right to eat the substance of
the efficient and the prudent, and you will soon lose both the
344 OUTLINES OF ECONOMICS
capital and the morality under which that capital has been cre-
ated," l says a writer of this class.
Those, on the other hand, who think that something can and
should be done directly, question the possibility of discovering the
separate productivity of workers under modern complex indus-
trial conditions with any degree of exactness, and think there is
little danger of discouraging industry and thrift. If the highest
incomes were $100,000 per year, men would struggle just as hard
as they do now to get into the highest class.
If we take the view that something can be done to lessen the
extreme inequality in wealth distribution that exists at the present
time, it is necessary to formulate some programme of social re-
form. In framing such a programme it must be remembered, on
the one hand, that the right of private property is not an abso-
lute right. No one has a vested interest in that institution, and we
are at liberty to make such modification in the institution as will
contribute to the social welfare. For the present the measures here
advocated are not in the slightest danger of being carried so far as
to discourage that wealth-getting ambition which is considered by
many to be essential to progress. On the other hand, there is
danger of injuring by wrong methods the very persons whom it is
desirable to elevate. Indiscriminate charity may convert poverty
to pauperism.
"This distinction between the poor and the paupers may be seen every-
where. There are, in all large cities in America and abroad, streets and courts
and alleys where a class of people live who have lost all self-respect and
ambition, and who rarely if ever work, who are aimless and drifting, who like
drink and who have no thought for their children, and who live aimless and
contentedly on rubbish and alms. ... In our American cities, Negroes,
Whites, Chinese, Mexicans, Half-breeds, Americans, Irish, and others are
indiscriminately housed together in the same tenements and often in the
same rooms. The blind, the crippled, the consumptive, the aged, the
ragged ends of life; the babies, the children, the half -starved, underclad
beginnings in life, all huddled together, waiting, drifting. This is pauper-
ism. There is no mental agony here; they do not work sore; there is no
dread ; they live miserable, but they do not care.
" In these same cities, and indeed everywhere, there are great districts of
people who are up at dawn, who wash and dress, and eat breakfast, kiss
1 Hadley, Economics, p. 49.
THE PERSONAL DISTRIBUTION OF WEALTH
345
wives and children, and hurry away to work or to seek work. The world
rests upon their shoulders ; it moves by their muscle ; everything would stop
if for any reason they should decide not to go into the fields and factories and
mines. But the world is so organized that they gain enough to live upon
only when they work ; should they cease, they are in destitution and hunger.
The more fortunate of the laborers are but a few weeks from actual distress
when the machines are stopped. Upon the unskilled masses want is con-
stantly pressing. As soon as employment ceases, suffering stares them in
the face. They are the actual producers of wealth, but they have no home
nor any bit of soil which they can call their own. They are the millions who
possess no tools and can work only by permission of another. In the main
they live miserably, they know not why. They work sore, and yet gain noth-
ing. They know the meaning of hunger and the fear of want. They love
their wives and children. They try to retain their self-respect. They have
some ambition. They give to neighbors in need, yet they are themselves the
actual children of poverty." *
We shall not discuss here the methods of alleviating the suffer-
ing that comes from poverty. The best methods of charitable
relief are necessary as palliatives, but they cannot cure the evils of
poverty. Two classes of reform measures should be distinguished :
(i) those that aim to alter the methods of wealth acquisition in the
future, and (2) those that aim to diffuse the excessive accumu-
lations of the past.
Modifying the Methods of Wealth Acquisition. These methods
again fall into two classes : (a) prevention of improper methods of
wealth accumulation; (b) eliminating or strengthening the in-
efficient members of society. Under the first of these falls the
problem of reducing to lower terms such incomes as are indi-
vidually unearned. There must be such control of monopolistic
privileges as to keep them from being the means of exploiting the
masses. Fraud and favoritism must be eliminated so that income
shall not be wholly out of proportion to service or needs.
The second class includes a large variety of methods, (i) It is
possible to do something to prevent defective human beings from
being born. There is a growing sentiment in favor of preventing
the marriage of persons who are not fit for marriage. No indi-
vidual would be deprived of any important right if a medical cer-
tificate of good health were made a condition precedent to the
1 R. Hunter, Poverty, pp. 3-5.
346 OUTLINES OF ECONOMICS
granting of a marriage license. (2) Education should be made
compulsory with the endeavor of making the rising generation
not only efficient producers of wealth, but also wise spenders of
what they receive. (3) It is possible to provide against the mis-
fortunes of life by insurance of various kinds. If men will not
voluntarily make provision for themselves and for those dependent
upon them in cases of sickness, accident, old age, and premature
death, they should be helped to do so indirectly by some com-
prehensive system of workingmen 's insurance and old age pen-
sions. (4) The solution of the problem of unemployment depends
upon more indirect measures, such as monetary and banking
reform, which steady the progress of industry, although European
experiments show that there are possibilities in insurance against
unemployment. (5) Opportunities for saving should be multi-
plied. The establishment of postal savings banks would be of
some assistance. (6) The health and vigor of the people should
be improved by sanitation and by legislation which improves the
conditions of work.
The Diffusion of Wealth. To some extent large fortunes dis-
appear without governmental interference, but it takes com-
paratively slight ability to maintain an inherited estate. It does
not seem practicable or desirable to limit directly the total amount
of wealth which a man may own, but there is no reason why the
government should refrain from consciously encouraging the dif-
fusion of wealth. The regulation and taxation of inheritances
seems to be the proper remedy in this connection, even if its action
is somewhat slow.
QUESTIONS AND EXERCISES
1. Can anything be said in favor of a leisure class?
2. Would Mr. Carnegie's plan of levying an inheritance tax of 50 per
cent destroy the incentive to work?
3. Explain the various systems of poor relief.
4. Describe the German system of compulsory insurance.
5. Describe the old age pension system in Australia.
6. What objections have been offered against postal savings banks ?
7. Discuss the following statement : " We have, then, little reason for
expecting that the prevailing insecurity in the lot of the modern workman
will ever be removed by the development of individual thrift." A. S. JOHN-
SON, Political Science Quarterly, Vol. XXII, p. 244.
THE PERSONAL DISTRIBUTION OF WEALTH 347
REFERENCES
ADAMS, T. S., and SUMNER, H. L. Labor Problems, Chap. V.
BROOKS, J. G. The Social Unrest, Chap. VII.
BOOTH. Life and Labour of ttie People in London, final volume.
CANNAN, EDWIN. "Division of Income," Quarterly Journal of Economics,
Vol. 19, p. 341.
COMMONS, J. R. Distribution of Wealth, pp. 252 sqq.
DEVINE, E. T. Principles of Relief.
ELIOT, C. W. " Great Riches," World's Work, Vol. n, p. 7451.
ELY, R. T. Evolution of Industrial Society, Chap. VI, Part I.
HADLEY, A. T. Economics, pp. 39-63 and 330-335.
HUNTER, ROBERT. Poverty.
HOBSON J. A. The Social Problem, Chap. IV, and Problems of Poverty,
Chap. IX.
HENDERSON, C. R. Modern Methods of Charity.
JOHNSON, A. S. "Influences affecting the Development of Thrift," Political
Science Quarterly, Vol. XXII, No. 2.
LONDON, JACK. The People of the Abyss.
LAUGHLIN, J. L. "Large Fortunes," Atlantic Monthly, Vol. 96, p. 40.
MALLOCK, W. H. " Great Fortunes and the Community," North American
Review, Vol. 183, p. 349.
Paupers in Almshouses, 1904. Special Report of the Bureau of the Census.
ROWNTREE. Poverty, A Study in Town Life.
SPARGO, JOHN. Socialism, Chap. V.
SPAHR, C. B. The Present Distribution of Wealth in the United States.
SEAGER, H. R. Outline of a Program of Social Reform, Charities and
the Commons, February 2, 1907.
WARNER, A. G. American Charities.
WATKINS, G. B. "The Growth of Large Fortunes," Publications of the
American Economic Association, November, 1907.
YOUNGMAN, ANNA. "The Fortune of John Jacob Astor," Journal of
Political Economy, June, 1908.
CHAPTER XXI
THE RENT OF LAND
RENT is the price paid for the services of land. In common
usage the meaning of the word is, however, much less exact.
That which one pays for the use of durable goods of any kind
owned by another is commonly called rent. The payment for
the use of a house or a business building is, for example, counted
as rent. We shall see that in this case the so-called rent really
consists of two elements, one a ground rent, or rent proper, the
other capital rent, or what we shall call gross interest. If this
distinction seems fanciful, it is only because we are accustomed
to see the two united under one ownership. But in most large
cities separate ownership is common. Sometimes one man owns
the land and leases it for a long term of years to another who
erects buildings upon it, which, either with or without payment,
become the property of the landowner at the expiration of the
lease, unless it is renewed, and if it is renewed, the one who pos-
sesses the building must frequently pay for it. Often, however,
the separation in ownership is a permanent one, the house owner
paying perpetually an annual sum for the use of the ground.
This is the case in Baltimore, for example, where ground rents
are an important feature in the economic life of the city. In
such cases the two kinds of income are very clearly distinguished.
Some modern economists have extended the meaning of both
rent and interest, using them as two different ways of describ-
ing one form of income, rather than as two distinct kinds of in-
come. This usage is based on the obvious fact that the rent
which a landlord receives for an acre of land may easily be com-
puted as a certain rate of interest on the money value of the land,
just as the amount earned by a machine may be viewed either
348
THE RENT OF LAND 349
as the rent of the machine or as interest on its money value.
But we shall see later that the income from other production
goods, while governed in part by the same laws that control the
income from land, is also governed in part by very different laws.
Without dwelling further upon this distinction at this stage of
our discussion, let us remember that in the great majority of eco-
nomic writings the term " rent " means only an income from land,
and that it is used only in this sense in the following discussion.
The Services of Land. The first thing to be noted about
land is its quality. Differences of fertility are familiar to every one,
and depend upon what has been known as the "original and
indestructible properties of the soil." An effort has been made
by certain writers to minimize or deny the significance of this
factor. It has been said that " soil " is not indestructible, that
it may be exhausted or removed from land altogether, and that
it may in turn be created by means of fertilization. These writers
recognize in land no other indestructible property than standing
room. This objection arises from the use of the word " soil " in a
narrow sense. If by " soil " we mean only that thin top layer
containing some elements necessary to plant life, it is true that
this may be carted on or off at pleasure, that it may be wasted
or replenished. But, granting this, there still remain many
qualities of land which are indestructible and unproducible,
and which so directly affect the productiveness of the land that
we may not inappropriately call them "properties of the soil."
Such a property is the conformation of the land. A steep, grav-
elly hillside will by no possible effort equal a plain in fertility.
The north side of a mountain cannot be made to produce the
same as the south side. Climate is not, to be sure, a "property
of the soil," but it is an inseparable appurtenance of the land,
and upon it the productiveness of the land primarily depends.
It is needless to say that the ownership of a piece of land carries
with it the advantage of all the conditions which attach to that
land. It is simply true, therefore, that the expression "original
and indestructible properties of the soil" is an inadequate and
misleading expression; not that there is nothing but standing
room to be considered under such a term.
35
OUTLINES OF ECONOMICS
We will, therefore, adopt another expression to explain what
we mean by quality in land; namely, the irremovable conditions
affecting its productiveness. Of these its extent (standing room),
its conformation, and its climate are essentially original and in-
destructible. Others, such as are connected with the " soil " in
the narrow sense, are not indestructible nor necessarily original,
but they affect rent none the less. In denning quality as the
conditions affecting productiveness of land, we have discarded
the word "soil" because it has proved itself treacherous; we
have omitted the words "original and indestructible" because
fertility may be artificial, and is always destructible. On the
other hand, fertility, even when artificial, becomes essentially a
property of the land. While it is physically removable, it is not
economically so. From the case where capital is embodied in
land and entirely assimilated to it in character, we pass by in-
sensible gradations to fences, barns, houses, etc., which more
and more assume the character of capital as distinguished from
land. It would be possible to restrict the term " land " to strictly
natural land, and apply the term " capital " to all products, in-
cluding the soils of old land. This would be a logical distinction,
but, like so many logical distinctions, it would be confusing. On
the other hand, if we include under land all capital that has been
incorporated in it, we must recognize that there is no absolute
line of division between land and capital. Thus we are again
reminded that distinctions in economics, as well as in practical
life, are questions of convenience, and are good or bad according
as they are more or less useful.
The second great fact regarding land is location. On one side
this is closely connected with climate. Land situated near a
body of water or near a mountain range is much affected by
these great controllers of climate. But a more distinct meaning
of the word is location with regard to the consumers of products.
Everybody knows that land a hundred miles from market is,
other things being equal, worth more than land a thousand miles
from market. This, however, is a question of accessibility rather
than of mere distance. Land may be far away and yet easy to
reach, or near and difficult of access. It will be noted that any
THE RENT OF LAND
35'
change in the cost of transportation affects rents. The rents of
England have been revolutionized by cheap ocean transporta-
tion, which has practically brought distant land very near to her
shores. To this fact of location we must ascribe almost wholly
the enormous rents paid for city lots. Here, again, transporta-
tion facilities, such as are afforded by good rapid transit systems,
powerfully affect rents.
One important difference in the way quality and location affect
rent must, however, be noted. The quality of a piece of land
affects the amount of its physical product; it determines how
many bushels of wheat or how many pounds of cotton it will
yield with a given amount of cultivation. The location of land
does not, it is true, affect the amount of its physical product,
but it does affect the price of the product, since that varies with
the expense of transporting the product to market. The value
of a piece of land to the user depends upon the value of its yield,
which is ascertained by multiplying the number of units of prod-
uct by the price per unit. Suppose a man owns two wheat farms
of equal size, one in Dakota and one in Illinois. If the farm in
Dakota produces thirty bushels of wheat to the acre, and it costs
twenty cents a bushel to get it to the Chicago market, where wheat
is selling at a dollar per bushel, while the farmer in Illinois pro-
duces twenty-five bushels to the acre, and it costs four cents a
bushel to get this to the Chicago market, the farms are equally
productive so far as the owner is concerned, for in each case he
will get $24 for an acre's yield of wheat. If the other conditions
of production are the same, the farms are equally valuable to the
owner. Prom the social point of view, too, one of the farms is
as good as the other. For the costs of transportation, of moving
things to where they are wanted, have to be counted among the
legitimate and necessary costs of production. In short, we may
say that the two pieces of land are equally good land. When we
speak of good land, therefore, in connection with the subject of
rent, we mean land which for all purposes taken together is de-
sirable.
Rent under Assumed Conditions of Uniform Intensivity of
Cultivation. The first settlers in a new countrv have no need to
35 2
OUTLINES OF ECONOMICS
pay rent. They find plenty of land, and even the best of it will be
a free good, like air or water. So long as any man can get land
of the best quality free, there is no reason why he should pay rent
to any one else. But this fortunate state of affairs will last only
so long as some of the best lands remain unoccupied. When
increase in the population makes the utilization of inferior lands
necessary, the owners of the better lands will be able to demand
and receive a rent for the use of their lands. This will be made
clear by reference to Figure i, which is constructed on the assump-
C D
FIG. i
F
tion that there are six grades of land, A, B, C, D, E, and F, and
that for all these lands the same amount of cultivation per acre
is necessary. The successive rectangles represent the selling
value of the product that can be raised on one acre of each of
these different grades of land, by the use of a fixed amount of
labor and capital. The product of an acre of the best land, A,
will sell for Oamy dollars. Until all of this best land is occupied,
no rent will be paid, and the entire value of the product will be
available for the expense of the capital and the wages of labor
employed in its cultivation. 1
As soon, however, as it becomes necessary to cultivate some of
the B lands, the situation will be altered. The owners of the A
lands can now exact a rent for their use, and the farmer has no
1 The profits which the farmer may receive as entrepreneur do not affect th?
analysis, and may accordingly be neglected.
THE RENT OF LAND 353
alternative, except to utilize land of the second grade, on which
the fixed amount of labor and capital will only produce a prod-
uct per acre selling for abnk dollars. The rent which will be
charged per acre for A lands will amount to the difference between
the value of the products of the two grades of land (hkmy in the
diagram). For if the landowners attempt to charge more than
this difference, the farmers will find it more advantageous to use
the B lands; if they charge less, the A lands will be the more
remunerative to the farmer, and competition among the farmers
for the leases of A lands will force the rent up. In short, rent
will normally be fixed at the point which will just equalize the
advantages of cultivating the two kinds of land.
As soon as increased population and the consequent need of
a larger food supply and more raw materials have forced men to
begin to cultivate lands of the C grade, the B lands will command a
rent, while the rent of the A lands will be increased by an amount
equal to the rent of the B lands. And as cultivation is pushed
down to still poorer and poorer lands, the rents which these better
lands command will be still further increased. Thus, when some
lands of grade E are in use, the value of the product which can
be got from this free land, by the use of the fixed amount of labor
and capital, will be dert dollars per acre. This sum will just pay
the cost of labor and capital, for if it amounts to less than these
expenses of production, the E lands will not be worth cultivating;
if it amounts to very much more, it will pay to cultivate still poorer
land. But if dert dollars will just pay wages and interest on the
E lands, the same amount will pay wages and interest on the
better lands, for we have assumed that the same amount of labor
and capital is used on each grade of land. The expense for labor
and capital will, therefore, be represented on each rectangle by
the area below the line gt, while the area above this line will rep-
resent in each case the rent per acre which the landowner will
receive.
Rent, under these conditions, is a differential which measures
accurately the superiority of the rent-bearing land over the mar-
ginal land the land which just repays the expenses of cultiva-
tion. It is not necessary to the significance of the theory that
354
OUTLINES OF ECONOMICS
all, or even any, of the farmers should be tenant farmers. If
the farmer owns the land that he operates, the part of his income
which measures the superiority of his land over an equal area of
marginal land, must, in any accurate analysis, be counted as rent.
Rent under Actual Conditions. The conditions assumed in
the foregoing analysis depart from actual conditions in one im-
portant particular, the assumption that equal amounts of labor
and capital, that is, a uniform intensivity of cultivation, would
be applied to lands of different grades. As a matter of fact, even
after the A lands are all occupied, the supply of agricultural prod-
ucts can be increased without resort to poorer lands. All that is
really necessary is the more intensive cultivation of the A lands.
This cannot be done, however, without encountering the law of
diminishing productivity. Successive equal amounts of labor
and capital used on the same lands cannot be expected to vield
uniformly large increments of product. It will pay, however,
to make use of more intensive cultivation up to the point where
the last unit of labor and capital adds barely enough to the prod-
uct to pay for the increased expense, a point which is called
the intensive margin. The result of this more intensive culti-
vation is represented in Figure 2.
Now the first rectangle in this dia-
gram (Oamy) represents precisely
the same thing as is represented by
the first rectangle in Figure i, the
return (in value of product) from
the cultivation of an acre of land
P of A grade by the use of a fixed
amount of labor and capital. The
second rectangle in Figure 2, how-
ever, represents the additional
product resulting from the use of a
similar unit of labor and capital on
the same acre, while the third rep-
resents the increment of product due to the employment of yet a
third unit of labor and capital on the same land. Assume that
this third unit, A^ adds just enough to the selling value of the
At
FIG. 2
THE RENT OF LAND
355
product to pay for itself. Then, as already explained in the
discussion of diminishing productivity, the area Ocph will represent
that part of the farmer's income which will be used up by the
expense incurred for the three units of labor and capital used on
this one acre of land, and the area above the line hq will repre-
sent the real rent of that acre. If land E (Figure i) just repays
the expenses of cultivation when one unit of labor and capital
is used per acre, the value of the product per acre of this land
will equal the value of the increment of product attributable to
the third unit of labor and capital used on land A. (That is, the
area dcrt, Figure i, equals the area bcpq, Figure 2.) So far,
then, as the margin of cultivation is concerned, Figure i repre-
sents the conditions accurately. The productivity of capital and
labor at the intensive and extensive margins are the same. But
Figure i does not represent the complete theory of rent in that
(i) it does not indicate the fact that larger quantities of capital
and labor are used on the better lands than on the poorer lands,
and (2) it does not represent the larger products due to this
more intensive cultivation of the better lands. These considera-
tions are taken account of
in Figure 3, which also, by
the substitution of curves
for successive rectangles,
represents the infinite vari-
ety of degrees of goodness
of the different acres mak-
ing up the land supply of
a country. In Figure 3
the line am represents the
value of a product of a unit
of labor and capital on the
poorest land in use, and the
area hmi represents what FIG. 3
rent would be under con-
ditions of uniform intensivity of cultivation. The area Oamg
represents the diminishing amounts of labor and capital used
per acre as we pass from the better to the poorer lands, while the
356 OUTLINES OF ECONOMICS
area ymg represents the rent per acre of the different grades of
lands. The foregoing analysis leads to the following statement
of the theory of rent, which the reader may verify for himself by
referring to Figures i and 2 :
The rent of any piece of land is measured by the difference between
the value of the products obtained from it by the use of the most profit-
able amounts of labor and capital and the value of the products
which could be obtained by the use of the same amounts of labor and
capital on marginal land, or at the intensive margin of cultivation.
This statement should not be understood as comparing the
total product raised on a given piece of land with the total product
which could be got from the same amount of marginal land.
This would be to reintroduce the assumption of uniform inten-
sivity of cultivation an assumption which impaired the ade-
quacy of the theory of rent illustrated in Figure i above. On the
contrary, it is assumed in the present statement that the farmer
would use whatever amount of the marginal land he found most
profitable. If it were profitable to use twenty times as much
labor and capital on a certain piece of land as on a similar amount
of marginal land, to employ the same amount of labor and capi-
tal profitably on marginal land would take twenty times as much
land.
Rent and the Marginal Product of Land. In an earlier chapter it was
suggested that rent could be measured by the marginal product of land ; in
other words, that the amount which a farmer would pay per acre for the use
of land would depend upon the value of so much of his product as was depend-
ent upon the possession of any one acre of land. In that discussion it was
assumed, however, that land was of a uniform degree of goodness. Obviously,
if all land really were of a uniform degree of goodness, in all ways equally
desirable, no rent would be paid until all lands were utilized, when rent would
arise on account of the necessity of increased intensivity of cultivation.
But even under the actual conditions of the existence of different grades of
land and of a large body of land which is below the margin of cultivation,
the rent of any acre of the better lands can be stated in terms of the value
of its product. For the rent of any acre of land is measured by the value of
the amount of the product imputed to it (as distinct from the product imputed
to the labor and the capital employed upon it). Now the product that must
be imputed to any acre of land is, of course, the amount which it adds to the
total product, or, what amounts to the same thing, the amount by which the
THE RENT OF LAND 357
total product would be decreased if just as much labor and capital were em-
ployed in agriculture, but if this particular acre of land were not available.
This means, however, that the labor and capital which would have been
employed on this land would have to be utilized either in cultivating the lands
already utilized more intensively or in cultivating lands previously unculti-
vated; that is, at either the intensive or extensive margin. Obviously
the product imputed to the land in question would be the difference between
the total product got from it and the product 'which would result from the
employment of the same amount of labor and capital at the margin. Thus, by
a somewhat different line of analysis, we have again reached the statement
of the theory of rent given in the preceding section.
The Different Uses of Land. We have seen that' the better
lands will repay a more intensive cultivation than the poorer
lands, and have found this fact to be of great significance in the
theory of rent. By varying degrees of intensivity of cultivation
we do not mean only the more thorough cultivation of the land
in the raising of any one crop. Land produces a great variety
of products, and some of these need much more intensive culti-
vation than others. In the business of raising cattle, as it is con-
ducted on a large Western ranch, the total investment of capi-
tal and labor may be very considerable, but the investment per
acre of land is very small indeed, while a small market garden,
located near a great city, will repay a very high degree of inten-
sivity of cultivation. It is only on the best lands that crops neces-
sitating a large amount of labor per acre can be raised profitably.
By the best lands we mean in this connection not only those lands
which are best fitted by soil and climate for the production of
particular crops, but the best lands in the sense that they are
nearest the market. For example, cities in the eastern part of
the United States get part of their supply of fresh vegetables
from market gardens in their own environs, while another part
of this supply may come from the Southern states and even across
the continent from California. The local market gardens are
good lands on account of their situation; the more distant lands
are good lands on account of special qualities of soil or climate
which enable them to furnish "out of season" vegetables.
Because certain lands are adapted, on account of quality or
location, for intensive cultivation, they command high rents.
358 OUTLINES OF ECONOMICS
On the other hand, lands which command high rents generally
have to be cultivated intensively, because the entrepreneur is
forced by the very fact of high rent to economize in his use of
land as compared with his use of capital and labor. The raising
of flax as raw material for linen is a profitable agricultural indus-
try in densely populated Belgium, but it has never met with much
success in the United States because flax straw of a quality fit for
the better grades of linen demands a large amount of care and
labor. Land is so plentiful here that it pays us better to special-
ize in a less intensive kind of agriculture to spread our labor
and capital more thinly over a larger number of acres.
The poorest land that can be profitably used in the growing
of any one kind of product is not necessarily marginal land.
Land too poor to use for market gardening may be good wheat
land; land too poor to devote to wheat may be good grazing land.
The poorest land devoted to any one purpose may yield a rent,
arising from its relative superiority for some other use. It will
be readily understood that the marginal lands used as a basis of
comparison in our statement of the law of rent are the poorest
lands used for any purpose grazing lands, possibly. But, as
we have seen, rent may also be measured from the intensive mar-
gin of cultivation, and the intensive margin is found on all
lands, even the best.
Although all our illustrations of the theory of rent have been
drawn from agriculture, the theory is, in fact, perfectly general.
The rent of land used for industrial or commercial purposes is
determined in precisely the same way as the rent of agricultural
land. In fact, different kinds of manufacturing, wholesale and
retail trading, quarrying, forestry, etc., may be looked upon as
different possible uses of land, differing in the amount of labor
and capital they require, and all subject to the law of diminish-
ing productivity, and hence to the law of rent. When we pass
from the agricultural uses of land to its commercial and indus-
trial uses, the fact of quality becomes of practically no importance
in the determination of rent, while the fact of location becomes
the fundamental one.
In addition to these different productive uses of land, we have
THE RENT OF LAND
359
to take account of its other uses, such as for pleasure grounds and
residence sites. Here the explanation of rent is simpler than in
the case of productive lands. For these lands yield their utilities
directly, and hence come under the general law of value. Such
lands command a rent on account of their capacity to satisfy
human wants directly, the extent of this capacity being measured
by their marginal utility. In the case of productive lands, it is
only their products that satisfy human wants directly. The
lands themselves are valued according to the specific share of the
valuable product that can be imputed to their productivity, as
distinct from the productivity of labor and capital.
The Capitalization of Rent. To the individual who has a cer-
tain amount of money for which he is seeking the most profitable
use, the question whether he shall invest it in land or other form
of production goods is apt to be in itself an unimportant one. If
he chooses to buy land, it will be because he can get a satisfactory
income from it, and he will very properly count the income as
interest on the money he has invested in the land. If the income
from the land increases, the selling value of the land will increase.
From the point of view of our investor this will, of course, be an
increase in the "capital value" of the land. It is important to
note, however, that the land does not return an income simply
because it is valuable. The process is the reverse of this. The
land aids annually in the production of goods which command a
price in the market; a part of the value of this annual product is
imputed to the service of land and paid for in the form of eco-
nomic rent; and the land is valued because it commands a rent.
The value of the land is governed by its income-yielding power.
This fundamental fact is apt to escape our notice because in the
United States lands are more commonly sold than rented, so that
we think of the value of lands as the prices at which they will sell,
rather than their annual value, or rent, although the first kind of
value is derived from the second. In England, where lands are
more commonly rented, the value of land is usually thought of as
its annual value or rent, while the selling value is often expressed
as "twenty (or other number of) years' purchase," meaning twenty
times the annual rent. The process by which the capacity to yield
360 OUTLINES OF ECONOMICS
a certain annual income is made the basis for the determination
of a certain selling price is termed "capitalization." l In a coun-
try which is growing in population and wealth, and where land
rents are consequently increasing, the selling value of land is apt
to be somewhat greater than a capitalization of the amount of
income it is yielding at the time of the sale would justify. This
is because the ownership of land carries with it the right to receive
future as well as present incomes, and the prospectively larger
future incomes are taken into account in the process of capitali-
zation.
Rent and Social Progress. The fact just mentioned the
tendency of rents to increase as society progresses is of very
great significance. It springs from the impossibility of satisfy-
ing the increasing wants of a society which is growing in popu-
lation and wealth without increasing the supply of food products
and raw materials by means of more extensive and more intensive
cultivation. As this means pushing downward the extensive and
intensive margins of cultivation, the necessary result is a rise in
rents.
During the early years of the nineteenth century the Napole-
onic wars on the continent, together with a high protective tariff
in England, kept England from importing any grain from Europe.
This, coupled with a considerable increase in the population of
England, resulted in very high prices for wheat, a rapid extension
of cultivation, and a remarkable rise in rents. It was the effort
on the part of economic writers to explain these facts that led to
the formulation of the theory of rent in substantially its present
form. Bound up with this theory of rent was the law of dimin-
ishing returns the name usually given to the statement that
the supply of agricultural products cannot be increased except
by the utilization of poorer and poorer lands, and consequently
at an increasing expense per unit of product. (This law should
1 The nature of this process of capitalization will be discussed in the chapter
on Interest. It is a fact of common observation that the rate of capitalization,
that is, the ratio of income to selling value, is lower in the case of land than in the
case of most forms of capital goods. The durability of land, the variety of uses
to which it may be put, and the social prestige attached to land ownership are
among the things that account for this.
THE RENT O LAND 361
not be confused with the law of diminishing productivity. One
is a statement of a historical tendency in one form of produc-
tion agriculture; the other relates to the proportions in which
the factors of production are combined, and holds true for all
forms of production.)
This law of diminishing returns has been made the basis of
many gloomy prophecies regarding the possibilities of a general
and continued economic progress. Especially when this theory
was combined with the Malthusian theory of population, which
was based on the belief that population would tend to increase
as fast as the food supply would permit, did it seem to point to
insuperable barriers in the way of any considerable progress in
human welfare.
The history of the past century has belied these gloomy prophe-
cies. The increase in population has been greater than in any
previous period of the world's history, and yet, so far as agricul-
tural lands are concerned, the general level of rents has not in-
creased. In fact, the change has been in the other direction.
That rents have not increased as population has grown, does not
disprove the law of diminishing returns. That law, like other
economic laws, is true only as a statement of a tendency. If
this tendency has not resulted in increased rents, it is not because
it has not been operative, but because other powerful factors
have counteracted its effects. Two things, at least, have pre-
vented a rise in rents. In the first place, improvements in agri-
cultural methods have greatly increased the product which can
be got from a given acre of land. We must include here not only
improvements in methods of tillage and cultivation, in fertilizers,
in the varieties of plants, in breeds of live stock, etc., but also
organized social methods looking toward a better utilization of
the nation's land supply, such as the irrigation of dry lands, and
scientific forestry, which latter has an important influence upon
the conservation of the rainfall.
Of much greater importance, however, than all these things
taken together, has been the revolution in ocean and land trans-
portation, which has so largely increased the available amount
of land. Lands in England have gone out of cultivation because
362 OUTLINES' OF ECONOMICS
the railway and the steamship have brought the great wheat fields
of America to her very doors. Even in the United States the new
lands brought near to market by the railways have often been of
better quality than the lands previously cultivated, so that the
margin of cultivation has gone up rather than down. There were
2,250,000 acres of improved farming lands in the state of New
Hampshire in 1850; by 1900 this acreage had shrunk to 1,075,000.
In Massachusetts the improved farm lands decreased in this period
of fifty years from 2,135,000 acres to 1,300,000 acres. Similar
figures could be given for others of the older states. The dimi-
nution in the use of old lands may be partly accounted for by
their deterioration in fertility under continual cultivation without
proper rotation of crops. But this is only a partial explanation,
for any one who is familiar with the conditions knows that even
the most careful tillage could not have kept millions of acres of
farm land which were once rent-yielding from going below the
margin of cultivation, for the simple reason that the margin of
cultivation rose. The railway practice of making very much lower
rates per mile on long hauls than on short hauls has hastened this
process, by minimizing the disadvantages of lands of good qual-
ity situated at a distance from the market.
The fact that since the introduction of the railway the margin
of cultivation has risen does not mean that it has risen continu-
ously, or that it will continue to rise. There are many who be-
lieve that we have only gained a brief and already passing respite
from the day when every increase in the demand for food products
and raw materials will be met only with increasing difficulty.
It is as dangerous to prophesy, however, as it was a hundred years
ago. The fact that there still remain some unutilized lands of
good quality in what are now out-of-the-way parts of the world
may prove to be of less importance than other things. It is a
striking fact that in the United States to-day only about half of
the land actually in farms is cultivated. Some of these unculti-
vated portions of farms are very poor lands, and others are given
over to meadows and pastures. But we venture to say that this
idle acreage is due in part to a lack of correspondence between
the historical conditions that have fixed the size of farms and the
THE RENT OF LAND 363
economic conditions that fix the number of acres that can be
profitably utilized by one farmer. This unexploited area is, to
that extent at least, a reserve which can be drawn upon as the
demand for agricultural products increases. Then, too, we are
just beginning to have some idea of the improvements which
scientific selection may bring about in the qualities and produc-
tiveness of different kinds of plants; methods of fertilization and
tillage are still the subjects of fruitful scientific inquiry; forestry
and irrigation are yet in their infancy. Changes in demand, of
such a nature as to make possible the utilization of some lands for
the production of crops for which they are better fitted than for
their present uses, are also among the things that may resist the
tendency toward a general rise in rents. In fact, although it is
absurd to suppose that the rent of land will not increase as society
continues to increase in wealth and numbers, it is just as absurd
to make this fundamental tendency toward diminishing returns
in agriculture a basis for pessimistic views regarding the possi-
bility of economic progress.
The Unearned Increment. When we say that the margin of
cultivation has gone up, rather than down, since 1850, we do not
imply that rents have not, in many cases, increased. The new
lands opened up to use by new railways, for example, are at first
very cheap lands, often free lands. As they are taken up, they
command higher and higher rents. Practically all of the agri-
cultural lands now utilized in America have had such a history,
even though in some cases the present rents are not as high
as their rents at some previous time. The fact that, through the
change in transportation methods, the marginal farming lands
of to-day are better lands than the marginal farming lands of sixty
years ago does not affect the fact that the sum total of land rents,
and consequently of land values, is immensely greater to-day than
at any previous time. The increase in the value of land which
accompanies the increase in its income-yielding power is often
called the unearned increment. This phrase suggests that the in-
crease in land values cannot be attributed to any special effort
on the part of the owners of land, but is due to general social
causes.
364 OUTLINES OF ECONOMICS
This does not mean that the land-owning farmer cannot increase
the selling value of his farm by wise investments of capital; but,
remembering that rent is the payment for the irremovable con-
ditions affecting the productiveness of land, it is clear that it can
be affected only to a comparatively small degree by the efforts
of individual landowners. Most of the present values of lands
have grown out of that complex of things which we call general
social progress, the most important of which in this connection
are growth in population and growth in average wealth the
things that lead to an increased demand for the products of the
soil. Nor is the truth of this statement affected by the fact that
the opening of new lands has been among the most powerful fac-
tors that have made possible this growth in population and wealth.
A very large part of the increase in land values would have come
about, even if the use of land and the ownership of land were
entirely distinct, if all lands were leased, rather than owned, by the
users of land. We should, however, be careful to distinguish the
rise in the sum total of rents which springs from the occupation
of new and often better lands, and the increase in rent per acre,
which comes from forcing downward the margin of cultivation.
Some writers have suggested that landowners do not secure
an unearned increment, because future as well as present earning
power is taken account of in fixing the price at which land is
bought. But whether the selling value of land is based on its
present or future earning capacity, this selling value will increase
so long as the earning capacity of the land increases, and so long
as the increase in earning capacity promises to continue into the
future. An unearned increment is attached to valuable land,
whether it is still in the hands of the original owner, who may
have got it for nothing, or whether its ownership has been trans-
ferred a hundred times. Most economists have seen in the un-
earned increment a fact of very great social significance, and some
have even supported various plans by which some of the unearned
value might be returned to society through special taxation.
An American reformer, Henry George, converted a large following to his
view that all taxes should be levied upon land values. This scheme, known
as the "single tax," proposes that economic rent shall go to the government
THE RENT OF LAND 365
in lieu of taxes a proceeding which would amount to the government
ownership of land, and is so understood by its adherents. The merits and
defects of the single tax as a scheme for raising public revenue will be con-
sidered in another place. Here we are concerned with it simply as a scheme
of economic reform. Henry George's main argument was based on the alleged
tendency of land to absorb all the value due to "improvements in the pro-
ductive power of labor." Among these improvements in the productive
power of labor he included such diverse things as " the growth of population,
the increase and extension of exchanges, the discoveries of science, the march
of invention, the spread of education, the improvement of government," etc.
"Land being necessary to labor, and being reduced to private ownership,
every increase in the productive power of labor but increases rent the
price that labor must pay for the opportunity to utilize its powers, and thus
all the advantages gained by the march of progress go to the owner of land,
and wages do not increase."
In the first place, we may object strongly to the assumption that improve-
ments in methods of production necessarily mean improvements in the " pro-
ductive power of labor" an assumption which, like the socialists' labor
theory of value, really begs the whole question. It would be just as reason-
able to call these things improvements in the productive power of capital
or improvements in the productive power of land. In the second place, we
must enter an emphatic denial to the statement that "all the advantages
gained by the march of progress go to the owner of land." If the supply of
labor is increasing more rapidly than the supply of land, it is probable that
rent per acre will increase faster than wages per laborer; but this does not
preclude an advance in wages.
It must be remembered, too, that Henry George did not propose to abolish
rent, an obvious impossibility, but simply to do away with the private
receipt of rent. This would prevent the withholding of land from use for
purely speculative purposes; thus increase the available supply of land,
and consequently lower rents. That such would be the immediate result of
throwing all land open to use cannot be denied. But in the long run it would
probably have little effect on rent, as it would simply lead to a more rapid
exploitation of the land. Land ownership, like any other institution, has
to be judged from the broad viewpoint of social interests. The "pride of
ownership," as an incentive to accumulation and as a basis for good citizen-
ship, cannot be lightly put aside.
Urban Lands. The unearned increment is an especially sig-
nificant phenomenon in the case of urban lands. In the modern
city we have a tremendous mass of land values created by causes
that are purely social, being an absolutely necessary result of
the concentration of a large population on a relatively small
366 OUTLINES OF ECONOMICS
area. 1 All are familiar with the narrow limits set upon the whole-
sale districts, the shopping districts, and the financial districts
in American cities. The residence districts to which the greatest
social prestige attaches are apt to be quite as narrowly restricted.
Improvements in rapid transit facilities enlarge the residence
areas that are utilized by people with moderate incomes, but only
serve to increase the congestion in the business centers. There
is much to be said in favor of the special taxation of city land
values. Movements in this direction have already gained great
strength in England and Germany. Taxes so heavy as to amount
to confiscation would, in the opinion of the present writers, be
unjustifiable, and, in the United States, unconstitutional.
QUESTIONS AND EXERCISES
1. Malthus and Ricardo differed as to whether rent is an addition to the
total income of society. What is the correct view ?
2. An accepted doctrine of taxation is that landowners cannot shift a tax
on land values to any one else (as the tax on tobacco is shifted from the
manufacturer to the consumer). Explain this on the basis of the theory
of rent.
3. "Rent does not enter into the determination of price." Explain the
meaning of this statement, understanding price to mean "normal value."
REFERENCES
CARVER, T. N. The Distribution of Wealth, Chap. V.
GEORGE, HENRY. Progress and Poverty.
KURD, R. M. The Principles of City Land Values.
MARSHALL, ALFRED. Principles of Economics, Vol. I, 4th ed., Book VI,
Chaps. IX and X.
PIERSON, N. G. Principles oj Economics, Vol. I, Part. I, Chap. II.
RICARDO, DAVID. Principles of Political Economy and Taxation, Chap. II.
TAYLOR, H. C. Agricultural Economics, Chap. IX.
WALKER, F. A. Land and its Rent.
1 The assessed value of land, exclusive of improvements, in the city of New York,
amounted in 1907 to over three and a half billions of dollars an amount nearly
twice as great as the assessed value of all the real estate, including improvements,
in the state of New York outside of the city.
CHAPTER XXII
THE WAGES OF LABOR
WAGES constitute the price paid for the services of labor. Under
the head of " labor " we include all the various kinds of personal
services for which a payment is made. Professional men and
salaried employees are wage earners in the economic sense, though
the term is by common usage generally restricted to manual
laborers working for daily or weekly payments. There is how-
ever, in society to-day, as every one recognizes, a " laboring class,"
marked off by lines that are fairly distinct, and including the great
body of day laborers, factory hands, agricultural laborers, men in
various trades requiring various degrees of intelligence and skill,
employees in minor positions in business and mercantile establish-
ments, and the like. Some of the most important and pressing
present-day economic problems the variety of things that make
up what is often called the " labor problem " relate to the eco-
nomic position of this class. On this account it becomes of special
importance to ascertain just what the rules are that determine
its share in the national dividend. In the discussion of wages,
then, we have in mind primarily the income of the " laboring
class," although some of the principles that will be developed
apply just as accurately to the other incomes that must be
classed as wages in the economic sense.
Wages as the Price of Labor. The definition of wages already
given suggests at once the most important fact about them: they
are the prices paid for particular kinds of services, and hence come
under the general laws of supply and demand. So far as the wages
of any one kind of labor are concerned, we can say, as we did of
the prices of commodities, that they will tend to be fixed at the
point where the supply of that kind of labor and the demand for
367
368 OUTLINES OF ECONOMICS
it are in equilibrium. But, as was found in the discussion of the
prices of commodities, this simple statement does not take us very
far into the analysis of the problem. We want to know why the
supply of labor and the demand for it are what they are. We shall
find, too, that the factors governing the supply and demand of
labor are in some respects very different from those governing the
supply and demand of commodities.
The Demand for Labor. The demand for labor is, in the last
analysis, a demand for the products of labor. Labor does not
command a price on its own account, but because it aids in the
production of things that satisfy human wants. But how can we
measure the product of labor? How can we distinguish it from
the shares in the total product that are to be attributed to land and
capital ? We obviously cannot say that the product of labor is
to be measured by the difference between the total product pro-
duced by the cooperation of labor, land, and capital and the prod-
uct which would be produced by land, and capital working alone;
for this last would, of course, be zero. The fact is, as we have seen
in a previous chapter, that the proportion of the product that is
attributed to labor is determined by the principle of marginal
productivity. That is, we cannot think of the " product of labor,"
except as the product of the individual laborers making up the
supply of labor, and the product of any individual laborer is ac-
tually and exactly the amount which he adds to the total product
of land, labor, and capital; in other words, the amount by which
the total product would be decreased if the labor of this individual
laborer were not utilized. The social demand for the products
of labor, which is the basis of the entrepreneur's demand for labor,
is not a demand for any vague abstraction like the " product of
labor in general," but is a demand for the concrete products due
to the activities of individual laborers.
We must note also that in the case of labor, as in the case of
commodities, the word " demand " must not be taken in a loose,
indefinite sense. The demand for commodities means the quan-
tities that will be taken at certain definite prices. The demand
for labor does not mean anything unless it is understood to refer
to the number of laborers that will be employed in a particular
THE WAGES OF LABOR 369
occupation at a certain wage. In a given occupation at a particu-
lar time wages might be fixed at any one of a large number of dif-
ferent possible points. The higher the wage, the smaller will be
the number of laborers that an entrepreneur can afford to employ;
and that for two reasons: In the first place, the higher wages
mean higher expenses of production, and consequently higher
prices will have to be charged for the product a fact which will
reduce the quantity of the product that can be sold on the market,
and consequently reduce the demand for labor. In the second
place, higher wages for labor will induce entrepreneurs to econo-
mize in the use of labor, and to use relatively more land and
capital, according to the principles which have been explained
in the discussion of diminishing productivity. The demand for
any particular kind of labor is thus a complex factor, influenced
both by variations in the demand for the products of that particular
kind of labor, and in the proportions of the product that can be
attributed to labor rather than to land and capital.
In a similar way the elasticity of the demand for any kind of
labor the extent to which variations in wages will affect the
quantity of labor utilized is a complex function, being affected
not only by the elasticity of the demand for the particular products
produced by this kind of labor, but also by the readiness with
which more capital or more land, or both, can be substituted for
labor, as, labor becomes higher priced. In the printing industry,
for example, a rise in wages would make it profitable for employing
printers to use more labor-saving machinery, such as type-setting
and linotype machines, automatic press feeders, and the like.
The higher the wages of agricultural laborers, the more profitable
will be the more extensive, as compared with the more intensive,
uses of land. On the other hand, the reader will at once think
of many trades, such as plumbing, where machinery cannot be
substituted for hand labor, and where, consequently, the only
elastic element in the demand for labor lies in the elasticity of the
demand for the products of labor.
The Effect of Labor-saving Machinery on the Demand for Labor. In what
has just been said about the use of machinery as a substitute for labor, we
have had in mind only the effect of changes of wages on the relative amounts
2B
370 OUTLINES OF ECONOMICS
of labor and of capital that would be used in any one branch of production.
Quite another problem, and one of great social importance, relates to the way
in which the demand for labor is affected by new inventions and by the
introduction of new machine processes. The laborers themselves have often
looked at such innovations with hostility. When machinery first began to
be used extensively in the woolen industry in England, this opposition was
expressed in riots in which the new machines were destroyed, as well as in
" proposals to impose legislative restrictions on the use of machines, so as to
bring them to a level with hand work, and prevent them from doing the work
more quickly or more cheaply than it could be done by hand." l In many
cases laborers still are inclined to view the introduction of labor-saving
machinery as an economic injury to themselves. On the other hand, there
are many persons who claim that this attitude on the part of the laborers is
an evidence of shortsightedness, since the inevitable result of machine pro-
duction is to cheapen the prices of products and thus to lower the cost of
living, the net result being an increase in real wages, as contrasted with nominal
or money wages.
This view emphasizes an important truth, and yet it misses the real point
of the laborers' alleged grievance. It is true that while the first result of the
introduction of improved methods of production is often to bring larger profits
to those who introduce them (especially if the new methods are protected by
patents), their benefits are ultimately diffused throughout society at large in
the form of the fuller and better satisfaction of wants, and the laboring class,
as members of society, share in these advantages. But while it is thus true
that such improvements ultimately redound to the benefit of laborers as a
class, it is equally true that hardship to many individual laborers is often an
immediate result of the introduction of labor-saving machinery. Especially
is this true in the case of skilled workmen in highly specialized employments,
who sometimes find themselves suddenly deprived of the advantages of their
skill, gained often by long years of apprenticeship. To expect that such
men will feel that they are compensated for their personal loss by the advan-
tages ultimately accruing to laborers as a class, is to ask too much of the altru-
istic elements in human nature. Workmen have learned, however, from the
experience of the past hundred years, that the introduction of machinery is
inevitable, and in the better-organized trades they are in many cases pursuing
the wiser course of trying to regulate the conditions of the introduction of new
kinds of labor-saving machinery in such a way as to diminish the hardship in-
flicted on individual workingmen. Thus, when the linotype machine began to
displace hand compositors in the printing trade, the typographical union was
able to secure the retention of many hand compositors as linotype operators,
together with a reduction in the length of the working day.
It should be noted also that the effect of the introduction of machinery
upon the demand for labor varies in different industries, the most important
1 Cunningham and McArthur, English Industrial History, p. 226.
THE WAGES OF LABOR 371
factor in this connection being the elasticity of the demand for the products
of the particular trade affected. In the case of the linotype just mentioned,
the lessened cost of composition made it possible for newspapers to increase
their reading matter greatly, so that the actual reduction in the number of
employees was small compared with what might have been expected. The
introduction of machine methods into the English texile industry during the
period of the Industrial Revolution furnishes an instructive example. The
change in the methods of manufacturing cotton cloth came just as the in-
vention of the cotton gin had greatly increased and cheapened the supply of
raw material. This, coupled with the decreased cost of manufacturing, so
cheapened cotton cloth (which had previously been very expensive) that its
use was largely increased. In fact, a great many more persons were employed
in spinning and weaving cotton soon after the Industrial Revolution than
immediately before it. In the woolen industry, however, there was no such
immediate increase in the sale of the product, so that many workers were
displaced, and had to seek occupations where their specialized skill was of no
avail. Especially when the occupation affected is a highly specialized but
relatively unimportant one in a series of processes comprised in the manufac-
ture of a product the wage-earning power of the displaced laborers is apt to
be seriously diminished.
The Supply of Labor. It is when we fix our attention upon the
nature of the supply of labor that differences between the way
in which wages are determined and the way in which the prices
of commodities are determined become most noticeable. In the
first place, if we view industry in general, we notice that in the case
of labor there cannot be much difference between the actual supply
and what we called, when discussing exchange value, the " po-
tential supply." Labor is in this particular like the most perish-
able of commodities: the number of working days in a man's
life is limited, and those that are not sold are irrevocably gone.
The laborer has, it is true, some power in the way of " holding
out for higher wages," but even this power is limited rather nar-
rowly by the absolute necessity of making a livelihood. In the
long run small wages are better than none. The sale of labor is
most often a forced sale. In the second place, the fact that labor
is inseparable from the person of the laborer has important results.
When the laborer enters into an agreement to work for wages, he
not only sells his labor, but he gives up a certain amount of control
over his own life ; he agrees to live and work under conditions
often unpleasant ones set for him by others ; he accepts, in
372 OUTLINES OF ECONOMICS
short, all the environment of his task, as well as the task itself.
Connected to some extent with this last fact is a third difference
the relative immobility of labor. Commodities may always
be sent to the market where they will command the best price,
but the laborer is restrained by family ties, patriotism, differences
in language, customs, and religion, ignorance, and the like. The
result is that variations in wages as between different countries
or as between different localities in the same country are much
greater than similar variations in prices.
We are apt to take it for granted that the supply of labor in dif-
ferent countries and localities depends primarily on the numbers
of the population. This is, of course, fundamentally true, but we
must also note that the structure of the population is a variable
thing, and one that affects the supply of labor. Over four fifths
of the persons employed in gainful occupations in the United States
in 1900 were males a fact which suggests that the relative
proportions of the sexes in the population have an important effect
on the supply of labor. There are more males than females in
the population of the United States, while the reverse is true of
most European countries, this difference being due in large part
to the excess of males among our European immigrants. There
are important differences in this respect between the individual
states. Males constitute nearly two thirds of the population of
Montana and less than one half of the population of Massachusetts.
The age composition of the population must also be taken into
account. The United States census of 1900 showed that nine
tenths of the persons engaged in gainful occupations were between
15 and 65 years of age comprising what is sometimes called
the " productive age group." A larger proportion of the popu-
lation of the United States is between these ages than is the case
in most European countries a fact which is due to the large
number of foreign-born adults in our population. In most Euro-
pean countries a larger proportion of the population is of " pro-
ductive age " than is true for the native population of the United
States. In considering the effect of these natural groupings of
the population upon the supply of labor, we have to also take ac-
count of differences in the nature of industries, in national or local
THE WAGES OF LABOR
373
customs, and in the presence or absence of legal restrictions,
all of which affect the number of women and children who can
be counted as part of the available supply of labor. Many ob-
servers have suggested that the frequent holidays found in the
Latin countries of Europe form an appreciable obstacle in the
way of the industrial development of those countries, as they
materially diminish the real supply of labor.
The supply of labor is not, however, merely a matter of the
number of available laborers; it is also conditioned by their effi-
ciency. The physical strength and vigor, industry, intelligence,
ingenuity, and moral qualities of the laboring population deter-
mine the amount and kinds of work they can do. These things
vary greatly as between different races and as between different
individuals of the same race. They are not entirely a matter of
heredity, for they can be influenced greatly by the physical and
social environment. So far as high wages mean more and better
food, and improve the other conditions of living, they tend to in-
crease physical and mental efficiency, and thus to increase the
quantity and better the quality of labor that can be got from a
given population. There may often be, even when we take only
production into account, a real economy in high wages. 1 Public
education and public activity in regard to such matters as pure
foods, hygienic conditions in homes and in factories, and oppor-
tunities for wholesome recreation tend to increase the efficiency of
labor, and might be justified on this ground. The right view,
however, is that such things would be justified on their own ac-
count, as tending to raise the level of human living, even if they
did not increase human efficiency.
The Relation of the Growth of the Population to the Supply of
Labor. Just as the potential supply of commodities at any given
time is determined largely by past conditions, so the potential
supply of labor at any given time is to a very large extent pre-
determined. Subject to the limitations which have been men-
1 It sometimes happens that a sudden decrease in wages acts as a spur or
stimulus, and thus increases, temporarily, the productive efficiency of labor.
This fact, which has been noted by many employers, does not affect the signifi-
cance of the relation between high wages and efficiency, when a longer period of
time is taken into account.
374 OUTLINES OF ECONOMICS
tioned in the preceding section, the supply of labor is a matter of
the numbers of the population, and the factors affecting the growth
of the population are, from the long-time point of view, the most
important things determining the supply of labor. Most of the
discussion of these factors has centered around the Malthusian
theory of population the doctrine that population tends to
increase faster than the food supply, and is only held back by the
actual pressure of famine and disease (arising from an insufficient
food supply) , or by the prudential motives which restrain men from
undertaking the responsibility of marrying and raising families
upon incomes insufficient to provide the necessities of life. Just
what the first part of this doctrine means can be made clear by
referring to the conditions in a country like India, where the popu-
lation presses so closely upon the food supply that any considerable
failure in the rice crop is sure to result in famine and starvation.
Every increase in the food supply is followed there by an increase
in the birth rate and a decrease in the death rate; every diminu-
tion in the food supply is followed by a decrease in the birth rate
and an increase in the death rate. The frequent famines in India,
which have been charged by some ignorant or prejudiced observers
to neglect or incompetence on the part of the British government,
are, in fact, absolutely unpreventable, so long as these conditions
prevail. When, however, we fix our attention upon the United
States, or England, or any country possessing Western civilization,
we notice some things that do not seem to harmonize with the
Malthusian theory. The population does not press so closely
upon the food supply that any widespread suffering follows a
season of poor crops. Poverty seems to have but little restrictive
effect on the birth rate, which is generally higher among the poorer
classes than among the well-to-do. Such facts have been cited
by critics of the Malthusian theory, some of whom have been
inclined to credit it with very little economic significance. Yet
when we take a broader view of the facts, they appear in quite a
different light.
The best estimates indicate that England did not have over
five and a half million inhabitants in 1630, and yet overcrowding
at home was one of the reasons commonly given for the policy
THE WAGES OF LABOR
375
of colonization which England was undertaking at that time. A
hundred years later, despite the growth of industry, and of foreign
and domestic trade, as well as some important improvements in
agricultural methods, the population had increased to only about
6,200,000. In 1761, on the eve of the Industrial Revolution, the
population is estimated to have been about 6,7oo,ooo. 1 By 1831,
when the factory system was thoroughly established (although
England was still trying to raise most of her own food supply),
the population had more than doubled, amounting to about
14,000,000. Since that time England has developed her manu-
facturing and commercial interests, but has imported a larger and
larger proportion of her food supply and raw materials from newer
countries, where land is cheaper. The latest census of England
(1901) showed a population of 32,500,000. There is no explana-
tion of this remarkable growth in the population of a country
which was " overcrowded " in 1630, other than the obvious one
contained in the fact that the opening up of new countries and the
improvements in transportation have enormously increased the
world's supply of food products and raw materials a consider-
able portion of which England has been able to get for herself
through the development of those commercial and manufacturing
activities in which her early start, her situation, her coal and iron
mines, and her own necessities, have given her a preeminence.
The total population of all Europe in 1760 was probably not
over 130,000,000. In 1905 it was about 405,000,000, some
200,000,000 of this increase having taken place since 1820, and
about 100,000,000 since 1872. Account must also be taken of
about 100,000,000 persons of European origin or descent living
outside of Europe at the beginning of the twentieth century.
Moreover, wherever this European expansion has carried Western
civilization and industrial methods, the numbers of the native
population have more often increased than decreased. 2 Such, for
example, is the case in Mexico, South America, the Philippines,
Java, India, and Egypt. For at least a hundred and fifty years
1 For these estimates, see Census of Great Britain, 1850, Vol. II.
* W. F. Willcox, "The Expansion of Europe in its Influence upon Population,"
in Studies in Philosophy and Psychology, by former students of C. E. Garman.
376 OUTLINES OF ECONOMICS
before the opening of Japan to Western civilization its population
had remained nearly stationary. Since 1871 it has increased from
33,000,000 to approximately 50,000,000 (1908). The probability
that this great increase in that part of the world's population which
has adopted modern industrial methods has come about by a
decrease in the death rate rather than by an increase in the birth
rate does not alter the significance of the fact that these improved
methods of production and transportation have operated like the
release of a spring, 1 allowing the natural tendency toward the
increase of the population to work itself out more fully.
In view of these facts it is impossible to deny a large amount of
significance to the Malthusian theory of population. Population
has generally increased wherever the increase in wealth has
afforded it opportunity. Yet it does not follow that the Mal-
thusian theory is, in its strictest interpretation, true. Population
has not increased as rapidly as wealth has increased. Average
real incomes are very much higher than they were before the In-
dustrial Revolution a statement that holds true for average
real wages as a particular form of income. Interpreted in the
light of the theory of diminishing productivity, this means that
population has not increased so rapidly as capital and the avail-
able supply of land have increased. If there had been no increase
in population during the last one hundred and fifty years, the mar-
ginal productivity of labor would (if, nevertheless, modern methods
of production had been developed) have been very much higher
than it is, and wages would have been correspondingly higher
than they are.
The Subsistence Theory of Wages. The doctrine that wages
tend, in the long run, to equal a bare subsistence, was a theory
advanced by English economists in the first quarter of the nine-
teenth century as a corollary of the Malthusian law of population.
Said Ricardo: "The natural price of labor is that price which is
necessary to enable the laborers, one with another, to subsist and
to perpetuate their race, without either increase or diminution."
Granting the premises, the logic was incontrovertible: If wages
1 This figure was applied to the effect of an increase in wealth upon the growth of
the population by Sir James Steuart, in his treatise on Political Economy (1767).
THE WAGES OF LABOR 377
fall below this level of subsistence, the result will be, in the long run,
fewer laborers and therefore higher wages. If the increase in
wages goes beyond the level fixed by the cost of subsistence, the
result will be, according to the Malthusian doctrine, more laborers
and therefore lower wages. The cost of subsistence in this view
formed the " expenses of production " of labor, and the actual
wages determined by supply and demand were supposed to fluctu-
ate around these normal wages as the market values of commodi-
ties fluctuate around the normal values fixed by the expenses
of production. Socialists and advocates of the single tax have
made much of this theory of wages as proving the impossibility
of bettering the condition of the laboring class under existing
conditions. By some socialists this doctrine, in its most rigid
form, has been called the " iron law of wages." But socialists
and followers of Henry George alike have to face the difficulty
of accepting this theory and at the same time rejecting the theory
of population on which it rests a theory which they cannot
accept, for its truth would obviously place insuperable obstacles
in the way of any lasting improvement in wages being achieved
through the adoption of their schemes. The subsistence theory
of wages, if true, would hold just as true under socialism or under
the national ownership of land as under existing conditions.
It should be said that the subsistence theory of wages was in
part a reflex of the conditions actually existing in England at the
time. Wages were very low, and the law required that deficiencies
in wages, below the amount necessary for the maintenance of the
laborer and his family, should be made up out of parish funds
a provision which in itself tended to keep down wages, and was
made still worse by the fact that the allowance for maintenance
to each family was proportioned to the size of the family, thus
encouraging the rapid increase of the population.
The Relation of the Standard of Life to the Supply of Labor.
Whatever may have been the case in the past, the subsistence
theory of wages does not square with the facts of to-day, for the
amount paid in wages is obviously considerably more than is
" necessary to enable the laborers to subsist and to perpetuate
their race, without either increase or diminution." Ricardo him-
378 OUTLINES OF ECONOMICS
self did not give to the " minimum of subsistence " the fixed and
rigid meaning which some socialists have attached to it. It
varied, he recognized, with the habits and customs of the people.
In this more elastic form the " minimum of subsistence " shades
into what is termed more accurately the " standard of life." The
number and character of the wants which a man considers more
important than marriage and family constitute his standard of life.
Whenever wages fall below a point where the standard of life can
be maintained for a family, the workman will do without the family
and maintain the standard of life for himself alone. While the
increase in the quantity of goods produced that has taken place by
reason of the industrial revolution and the utilization of new and
vast bodies of natural resources has been attended with an unprece-
dented increase in population, it has also been attended with an
improvement in the standard of living. Every advance in the
standard of life marks a step definitely gained in the economic
progress of the laboring class ; it affords a vantage ground for yet
farther progress.
This is not only because the standard of life is, by very definition,
a fundamental factor in determining, in the long run, the supply
of labor, but also because experience has shown that the standard
of life affords an element of strength to laborers in their bargains
with employers. Any encroachments on it are met with strong
and determined resistance. Moreover, a high standard of life is,
as we have seen, one of the things that make for productive effi-
ciency on the part of the laborer, and hence tend to increase his
earning capacity. Many persons who are deeply interested in
the welfare of the laboring class believe that the wisest philanthropy
is embodied in the efforts that are made to raise the level of living.
Among such efforts are included such things as the work of social
settlements, public and private movements to secure better con-
ditions of housing, municipal expenditures for places of public
recreation, for public libraries, for such things even as clean and
well-lighted streets; and, above all, public education.
The extent to which the possibility of attaining a still higher standard of
living operates as a restraining force upon the increase of the population is
largely determined by the extent to which democratic ideals are realized
THE WAGES OF LABOR 379
in the social organization. It is a noticeable fact, for example, that the first
generation of immigrants to the United States bring with them the habits and
ways of living of their European homes. So long as simple standards of life
are retained in connection with the larger incomes which they are able to_
earn in this country, more of them are able to marry ; they are able to marry
earlier, and they can raise larger families. But the second generation grows
up in an American environment. They attend our public schools, where they
mingle with American children and receive an American education. The
possibility of taking a social and economic position higher than that of their
parents is opened up to them. They become saturated with the American no-
tion that each man has a chance to climb to the top of the ladder. They find
here no rigid barriers separating social classes from one another. "Like
father, like son" may have been true in Europe ; here it has no binding force.
Hence the birth rate among our native population of foreign parentage is
very much lower than the birth rate among our foreign-born population.
The Supply of Labor in Different Occupations. Just as the
demand for labor on the part of entrepreneurs is not a demand for
" labor in general," but a demand for specific kinds of labor,
so the supply of labor is the supply of laborers who are able and
willing to do certain definite kinds of work. The supply of labor
in any given occupation is, at any given time, almost as rigidly
fixed as is the supply of labor in general. Laborers can usually
change from one occupation to another only at the loss of the
advantage of whatever specialized skill they may have acquired.
This is, however, a matter of occupation, not of industries. There
is, for example, a wide range of industries open to a skilled me-
chanic or a stationary engineer. In the skilled trades what varia-
bility there is in the supply (at any given time) comes less from
any possibility of passing from one trade to another than from the
opportunities the more efficient and ambitious workmen have of
entering business on their own account (that is, of becoming entre-
preneurs) or of entering some calling where ability, rather than
specialized skill, is the prime requisite. The carpenter may be-
come a contractor; the skilled mechanic may become a traveling
salesman, and this, very likely, in some line where his specialized
skill will still be of some advantage. The options thus open to
the stronger members of each group should not be lost sight of
in any consideration of the forces tending to resist a downward
movement in the wages paid in any occupation.
380 OUTLINES OF ECONOMICS
Throughout the greater part of American history the most im-
portant option of this kind has been due to the existence of a large
body of free land. The mobility of labor in this country has been
such that it has been impossible for wages to fall much below
the amount which a man could make for himself by taking up
government land on the frontier. To-day, however, we are con-
fronted by a different set of conditions. The frontier has com-
pleted its journey across the continent, and there remains for the
settler only such land as irrigation may reclaim from the arid
regions of the West. The wage earner will henceforth be without
the strong support of the economic alternative of a living got
from free land.
When we take the long-period point of view, we find more elas-
ticity in the supply of labor in particular occupations. The ranks
of each trade are being continually depleted by old age, death,
and, to some extent, by the alternatives open to its stronger mem-
bers. These gaps need not be filled by an incoming body of ap-
prentices if the wages paid are lower than the wages in other
occupations demanding a similar degree of preparation and ability.
But there is a certain amount of inelasticity even here, for a variety
of reasons, among which we may note: the habit of imitation,
which leads a boy to enter the same occupation his acquaintances
have chosen; the not infrequent tendency of sons to enter their
father's occupation; lack of knowledge or of early appreciation
of the relative advantages of different employments, and the fact
that only a small number of options may be open to the residents
of a particular territory. These facts, in turn, have an important
bearing upon the localization of industry, for industries are apt
to be located in places where there is a present and prospective
supply of specially skilled labor.
Differences in wages, together with other factors just mentioned,
are not, however, the only considerations which attract laborers
to different occupations. Many economic writers have observed
that there are differences in the wages paid in different employ-
ments which are out of all proportion to any differences in the
training or the ability they require. Adam Smith enumerated
five circumstances which " make up for a small pecuniary gain in
THE WAGES OF LABOR 381
some employments, and counterbalance a great one in others."
These are: "I. The agreeableness or disagreeableness of the
employments themselves; II. The easiness and cheapness, or
the difficulty and expense, of learning them; III. The constancy
or inconstancy of employment in them; IV. The small or great
trust which must be reposed in those who exercise them ; and V.
The probability or improbability of success in them." These cir-
cumstances need explanation in two particulars: First, the agree-
ableness or disagreeableness of an employment is very often a
matter of the social standing attached to it. Many men are doing
clerical work to whom some kind of physical exertion would be
both more pleasant and more profitable, but who dislike to be
classed among the " manual laborers." So-called " professional
pursuits " attract many men to whom more lucrative opportunities,
requiring less special preparation, are open in other employments.
In the second place, the significance of these circumstances is
affected by the fact that the most poorly paid (because the least
efficient) laborers are found in the most disagreeable and the most
uncertain employments.
The Wage Contract. The wages that a laborer actually
receives are determined by an agreement between himself and his
employer. Here appear again those " gains of bargaining "
which were mentioned in the discussion of the prices of commodi-
ties. But in the case of the wage agreement, if the bargain is
between an employer and an individual workman, the advantage
is apt to be all on one side. The employer is apt to know pretty
accurately what he can afford to pay the laborer; he knows about
how much the laborer will add to his product, and his knowledge
of business conditions helps him to estimate the value of this added
product. He knows what it would cost him to get his added prod-
uct in other ways, as by paying some of his present employees
for " overtime " work, or possibly by speeding his machinery
faster. Moreover, there is the possibility, or even probability, of
getting some other laborer, in case he fails to come to an agree-
ment with the one in question. His experience as an employer
of laborers will help him to gage the minimum that the laborer
will accept. With the laborer the situation is very different. He
382 OUTLINES OF ECONOMICS
can gage with less accuracy just how much his services are worth
to the employer. The minimum wage that he will accept will be
governed by his very limited power of holding out for higher wages,
or by his estimate of what he can get in other employments
very few of which may be open to him. The whole situation may
be expressed by the statement that it is usually a matter of small
importance to the employer whether or not he secures a particular
laborer, while the securing of a particular employment is often
a matter of the very greatest importance to the laborer. Under
these conditions wages are apt to be fixed much closer to the
minimum which the laborer will take than to the ma'ximum which
the employer will pay. Where laborers can bargain in groups
rather than as individuals, their disadvantages are greatly lessened.
The fundamental motive underlying the organization of labor
unions has been to secure the advantages of collective bargaining.
Wages and Efficiency. That wages vary with the efficiency of individual
laborers is a fact of common observation. Wages are paid for the products
of individual laborers (or, under collective bargaining, for the products of
groups of laborers), and the amount of a laborer's product obviously depends
very largely upon his efficiency. Some writers have even gone so far as to
speak of "no-rent" laborers, the least efficient ones, and to press the
analogy between the differential gain which the more efficient laborers get
and the rent of land. This procedure is, however, more confusing than useful
in the explanation of wages. So far as the distribution of laborers according
to their efficiency is concerned, there seems to be a common impression to the
effect that it is of a kind that could be represented graphically by a pyramid,
the least efficient and relatively most numerous classes forming the base of
the pyramid, and the numbers growing constantly smaller and smaller
as the scale of efficiency ascends. Now unless we beg the whole question
of the relation of wages to efficiency by assuming that efficiency is measured
by the ability to get high wages, we will find it very difficult to get a definite
statistical test of the distribution of efficiency among men. For when we
speak of efficiency, we usually mean either efficiency for a particular purpose,
or a combination of physical, mental, and moral qualities, " general sagacity
and energy, " as Professor Marshall has put it. There is, however, one
ascertained fact of great significance, and that is that the distribution of such
physical and mental characteristics of men as have been measured and tabu-
lated in statistical form seem to conform more or less closely to what is known
as the "normal law of error," * or the "normal frequency curve."
1 So named because it expresses the accuracy of such things as a large number
of shots at a target, or a large number of astronomical observations on the position
of a fixed star.
THE WAGES OF LABOR
383
Assume, for illustration, that we are dealing with the measurements of
the stature of a large number of men. Let all the different degrees of
stature be represented by successive points on the line AAz, (Fig. i). so
Q P S.
FIG. i
that the least height will be at A and the greatest at AI. Then let vertical
distances measured upward from these points represent the relative number
of men found to be of each of these different degrees of stature. Thus the
relative number of men of height P is represented by the length of the line
PG, while the line QH represents the relative number of men of stature Q.
The curve AA\A%, which connects the tops of all these imaginary vertical
lines, represents the distribution according to stature of all the men meas-
ured. Two important characteristics of this curve will be noted: first, the
most commonly found stature is the medium or average stature, while ex-
tremely tall or extremely short men are the least frequent ; second, the curve
is symmetrical ; that is, as many men are found to be 20 per cent shorter
than the average as are found to be 20 per cent taller than the average.
The curve BB\B% is precisely the same sort of curve, and it represents the
measurements of just as many men (for its area is the same as that of the
curve AA\A%), but it is constructed on the assumption that stature is only
half as variable as is assumed in the curve AA\A%. This assumption would
mean that men were, with respect to stature, concentrated more closely
around the average than is indicated by the first curve. Not only with
respect to physical measurements of various kinds (such as of cranial capac-
ity, or of the ratio of length of the head to its breadth), but also with respect
to measurements of many specific kinds of mental efficiency ' men are found
to be distributed with " normal frequency." It follows that the most prob-
able kind of distribution of men with respect to the complex of physical,
mental, and moral qualities, included under the general term "efficiency,"
is something closely approximating this normal type. If the curve
1 Cf. E. L. Thorndike, Mental and Social Measurements, especially page 59.
384
OUTLINES OF ECONOMICS
represents the distribution of men according to their efficiency, we may
assume that those represented by the part of the area to the left of a certain
line (HQ, for example) are those who are below the level of social utiliza-
tion, including the physically and mentally defective and the morally delin-
quent classes. Similarly, those represented by the area to the right of the
line IR would include the most efficient members of the population, the
individuals of exceptional ability. When one speaks of " commonplace
mediocrity " he has in mind its relatively greater frequency.
Figure 2 is based upon a table which shows the weekly wages received
in 1900 by 160,000 employees in 30 industries, including textile mills, wood
22
20
18
16
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012
10
8
C
4
I
FT
1
2
J
1
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246
S 10 12 14 1C 18 20 22 24 26 28 30 32 34 36 38 40 12 11 16 18 W
WEEKLY WAE8 IN DOLORS
FIG. 2
working, metal working, and miscellaneous industries. 1 In this diagram
the horizontal line represents the various weekly wages received (greater
than two dollars and less than fifty dollars a week) classified in two-dollar
groups. The vertical distances represent in each case the proportion
of the total number of employees who received the wage specified. Thus
the diagram shows that over 23 per cent of the employees were paid
between eight and ten dollars a week, and that over 5 per cent received
between eighteen and twenty dollars per week. If wages varied exactly
according to efficiency, we would expect that this diagram would follow the
general pattern of the normal frequency curve shown in Figure i. There
are, however, some noticeable differences. The median wage (the wage
which divides the whole number of employees into two halves, one half
receiving more and one half receiving less than the median wage), which is
in this case about $10.50, was not located at the point of greatest frequency,
1 The statistics were gathered by the United States Census Office and printed
in the special report of the Twelfth Census on Employees and Wages. The
tabulation on which the diagram is based is taken from an article on "The
Variability of Wages," by Professor H. L. Moore, in the Political Science Quar-
terly, Vol. XXII, p. 67. See also an article by Professor Moore on "The
Efficiency Theory of Wages," Economic Journal, Vol. XVII, p. 571.
THE WAGES OF LABOR 385
as is true of the normal frequency curve, but somewhat above it. The
average wages (the quotient obtained by dividing the total amount paid in
wages by the number of employees) was still higher, amounting to about
$11.50. The diagram is not symmetrical, but shows a concentration of
employees in the lower wage groups, and a relatively greater variation or
" dispersion " in the case of those receiving higher wages. This suggests
that either differences in wages are not so great in the lower wage groups
as differences in efficiency, or that differences in wages in the higher wage
groups are greater than differences in efficiency. In general, differences in
wages seem to increase more rapidly than differences in efficiency as the
scale of efficiency ascends. If wages are paid for the productivity of the
individual workman, and if productivity varies with efficiency, what is
the explanation of this difference between the distribution of efficiency and
the distribution of wages?
First, it should be noted that the normal frequency curve only applies
to so-called "natural" efficiency, made up of inherited qualities. Actual
productive efficiency is a product not only of natural efficiency, but also of
training, and this acquired element of specialized skill is more important in
the case of the better workmen than in the case of the less efficient. In the
second place, higher-paid workmen are in better-organized trades, and gain
more than do the others from the advantages of collective bargaining. In the
third place, when we speak of the productivity of a laborer as a fundamental
thing determining his wages, we have in mind the amount of product imputed
to the laborer the amount by which the total product would be decreased
if his labor were not utilized. This amount depends not only upon the
efficiency, natural and acquired, of the laborer, but also (on account of the
law of diminishing productivity) upon the extent to which the employer
finds it profitable to utilize labor rather than capital or land. This, on
account of the fact that the sale of labor is analogous to a "forced sale," is
apt to be determined largely by the supply of labor in each employment.
So far as the supply of labor in the better-paid trades is restricted through the
limitation of apprenticeship, or through other means, the marginal produc-
tivity of labor in other employments is (since the restriction of the supply of
labor in any one employment necessitates a corresponding increase of the
supply in some other employments) relatively decreased. These three con-
siderations account, at least partially, for the difference between the dis-
tribution of wages and the probable distribution of natural efficiency.
QUESTIONS AND EXERCISES
i. How far are wages determined by the productivity of labor ? In what
different ways do wages affect the productivity of labor? What meaning,
or meanings, do you attach to the word " productivity " in the foregoing
questions ?
386 OUTLINES OF ECONOMICS
2. Why are the wages of men higher than the wages of women in the same
employments ?
3. Make a short outline, or table, of the factors determining the supply
and demand of labor.
4. Are wages paid as a reward for the irksomeness of labor? Are they
paid on account of the scarcity of labor?
5. Some economists have held that "a demand for commodities is not a
demand for labor." Discuss this statement.
REFERENCES
CARVER, T. N. The Distribution of Wealth, Chap. IV.
CLARK, J. B. The Distribution of Wealth, Chaps. VII and VIII.
DAVIDSON, JOHN. The Bargain Theory of Wages.
FETTER, F. A. Principles of Economics, Chaps. XX-XXVI.
FLUX, A. W. Economic Principles, Chap. VIII.
MARSHALL, ALFRED, Principles of Economics, 4th. ed., Book VI, Chaps. I-V.
TAUSSIG, F. W. Wages and Capital.
THOMPSON, H. M. The Theory of Wages.
CHAPTER XXIII
LABOR PROBLEMS
WHATEVER maybe the economic law in accordance with which
wages are fixed, it must be vitalized or expressed by the conscious
efforts of human agents. For instance, it is frequently said that
the price of labor is determined by the law of demand and supply.
This may be true, but the law of demand and supply is animated
by no mystical or occult force; it must be enforced by active, in-
telligent men, keen enough to know their own interest, and bent
upon pursuing it. Men must take advantage of the economic
forces working to their advantage, or they will lose their advantage.
Types of Labor Organizations. One of the most important
agents now occupied in giving effect to the economic laws which
control wages is the labor organization. There are at least three
distinct types of labor organizations : the Trade Union, represent-
ing a combination of wage earners in a single trade or two or
three closely related trades; the Industrial Union, composed of
all kinds of wage earners working in a given industry; and the
mixed Labor Union, made up of wage earners from many trades
and many industries. Thus, the Brotherhood of Locomotive En-
gineers, a strict trades union, makes no attempt to include other
workers in the railway service; the United Mine Workers, how-
ever, an industrial union, attempts to combine all persons work-
ing in and around the mines; while the Knights of Labor, in the
period of its strength and prosperity, fused all sorts and condi-
tions of workers in some of its district assemblies, and combined
these assemblies in a closely knit, highly centralized national
organization.
The difference in the structure of labor organizations colors their
policies and gives rise to important problems. The trade and in-
387
388 OUTLINES OF ECONOMICS
dustrial unions are, as we should expect, much more homogeneous
and therefore much more efficient than the labor unions, but they
are likely to be narrower in their aims and more selfish in their
policies. The labor unions, on the other hand, have in the past
proved much less efficient, much more unwieldy, and much more
disposed to make use of cooperation, political action, and other
devices which are not suited to associations of wage earners, or at
least not easily handled by them.
The most important problem growing out of the structure of
labor organizations is known as the jurisdiction dispute. Thus
the Knights of Labor, having received into their membership a
large number of cigar makers, fell into a sharp dispute with the
regular International Cigar Makers' Union, whose cause was natu-
rally espoused by the American Federation of Labor. In more
recent years bitter quarrels have taken place between the trade
and industrial unions. The United Brewery Workers, for in-
stance, an industrial union, has been quarreling for years with the
trade organizations among the painters, the coopers, and the sta-
tionary firemen. The American Federation of Labor, to which
most of these organizations belong, has usually favored the trades
unions in these disputes, and has recently ordered all coopers,
painters, and teamsters in the Brewery Workers' Union to join
the trades unions in their respective crafts.
For the larger and more general objects common to wage
workers as a body, many of the American unions have combined
in a large, loosely knit confederacy, known as the American Fed-
eration of Labor. This organization interferes just as little as
possible with the constituent unions, and confines its activity to
securing favorable labor laws, organizing trades in districts of the
country in which trades unions have heretofore failed to get a start,
rendering assistance to unions which are hard pushed in strikes or
other disputes with employers, encouraging the use of union-label
goods, and, in short, to furthering all those interests which labor
organizations have in common. In recent years the American
Federation of Labor has grown with extraordinary rapidity. The
present (1908) membership is about 2,000,000.
The Economic Justification of Labor Organizations. The
LABOR PROBLEMS 389
question is often asked why labor organizations are neces-
sary, in view of the fact that wages are fixed, at least within broad
limits, by deep-lying economic and social forces which the labor
organization cannot effectively control. If wages depend upon
demand and supply, it is said, what excuse for the troublesome
and irritating trades union ?
The answer has been partially stated above. Economic laws
work themselves out through men and through organizations
they are not self-enforcing. We have had labor organizations of
one kind and another ever since the wage system existed, and we
shall unquestionably continue to have such organizations until the
wage system is superseded by something more satisfactory.
There are, however, additional reasons for the existence of the
labor organization. Wages, we say, are measured by the mar-
ginal productivity of labor. This productivity, in turn, is partially
dependent upon the demand and supply of labor. But the sup-
ply of labor is largely controlled, as we have seen, by the standard
of life; and one of the great functions of the labor organizations is
to strengthen and advance the standard of life. If a great horde
of unorganized and unsympathetic wage earners are continually
bidding against one another in the labor market, each individual
endeavoring to get a little more work by offering to take a little
less pay, the standard of living will be subtly undermined, "nib-
bled away," as a well-known writer has expressed it. The labor
organization, by repressing the vicious activity of this competition,
by compelling its members to offer the same terms and abide by
common or standard rules, bulwarks the standard of life, and gives
it increased precision, increased power and durability. In addi-
tion, most unions endeavor to exercise a more direct and positive
influence upon the supply of labor, by limiting the number of
apprentices, helpers, and other persons entering the trade. These
efforts, however, are not always successful.
Current economic doctrine recognizes at least one other legiti-
mate function of the labor organization. In actual life there is
always a margin between the actual productivity of the wage
earner and the amount which he receives as wages. The em-
ployer cannot pay the worker all the latter makes; if he did, he
390 OUTLINES OF ECONOMICS
would have no profits. By stout resistance and skillful bargain-
ing it is possible for the wage worker to get a part of that share of
the product which in the past has gone to the employer as profits.
Of course, that labor organization will be most successful in the
long run which increases the productivity of its members, and
thus creates a larger product to be distributed among all the fac-
tors of production. But even if the organization does not increase
the productivity of its members, it has a chance to improve their
wages by trenching upon profits. Mere bargaining, therefore, de-
spite the operation of more fundamental economic forces, is still
exceedingly important. And the unorganized wage worker, being
a poor bargainer, combines with his fellow- workmen, not only to
maintain a more uniform price for their labor, but in order to
procure the guidance and assistance of an expert bargainer the
business agent or walking delegate. The labor organization is
thus a commerical institution for the sale of labor in large quan-
tities; its primary function is collective bargaining.
Labor Organizations and Monopoly. It is plain that the labor
organization as a wholesale jobber of labor is essentially a prod-
uct of those familiar economic forces making for large-scale com-
mercial dealings; it is brother to the trust, akin to the combination,
and thus not untainted with monopoly. One of the most searching
criticisms directed against the labor organization is that it exhibits
all the evil tendencies of monopoly. The charge has some ele-
ments of truth. The highest aim of the average labor organiza-
tion is to induce every worker in the industry to join the union,
so that by monopolizing the supply of labor it may control the
price. But in its principal implications the charge of monopoly
is misleading, because the great majority of unions do not attempt
to limit the number of their beneficiaries. They aim to increase
wages, but they are willing and even anxious that every member
of the craft should share the increase. It is rare for a labor or-
ganization to exclude from its ranks a number of workers and
then persecute them by refusing to work with them or treating
them as scabs. Conflicts with non-union men are common, but
in a very large majority of cases every effort has been made to get
these men into the union. An organization which is constantly
LABOR PROBLEMS 391
exhorting its competitors to come into the combination and share
its benefits cannot logically be called a monopoly.
Methods and Policies of Labor Organizations. The aims of
labor organizations and the policies employed to achieve their
ends vary in accordance with the conditions of the occupation or
industry in which their members work. Some unions, for in-
stance, lay great emphasis upon apprenticeship; and if they thus
secure control of the supply of labor in the trade, find it necessary
to place but little dependence upon strikes and boycotts. On the
other hand, organizations like the Brotherhood of Locomotive
Engineers find this question settled for them; no one can perform
the work of a locomotive engineer without preliminary training,
and this natural limitation of the number of trained locomotive
engineers makes it possible for their union to get along without
maintaining either apprenticeship regulations or the policy of the
closed shop. And for years it has not indulged in a strike. An
admirable system of mutual insurance and simple collective bar-
gaining are sufficient to keep the membership loyal and obtain
from employers fair rates of pay.
In the unskilled trades, on the other hand, where a period of
apprenticeship is wholly superfluous, some more artificial protec-
tion of the standard of life must be employed, like the "policy of
the closed shop"; * and this naturally forces the union, in turn, to
place great dependence upon the strike and boycott. Before con-
demning a union for employing some of these policies, therefore,
or contrasting it unfavorably with highly conservative unions, like
the Railway Brotherhoods, it is necessary to inquire whether or
not, like the Railway Brotherhoods, it is protected by some natu-
ral condition of the business, which makes peaceable collective
bargaining comparatively easy.
It is impossible to pass any general verdict upon the justice of
the closed-shop policy. Most Americans are inclined to condemn
1 The familiar union rule prohibiting members of the union from working with
non-union men. The policy is very elastic. No objection is made to working with
members of an occupation not yet organized; some unions apply the ban only to
non-union men in the same trade or craft ; while others practically refuse to work
for an employer who hires any non-union men at all (not applying the term
"non-union men" to laborers, porters, and other unorganized workers).
392 OUTLINES OF ECONOMICS
it offhand as an attempt to deprive the non-union man of his
"sacred right to work." They forget that the union man en-
forces the closed-shop policy by an exercise of his "sacred right
of quitting work." Except where violence is employed, the union
which is attempting to enforce a closed-shop policy threatens to
do nothing worse than direct its members to quit the employment
of the proprietor of the open shop in question. Two equally
"sacred and inalienable rights" clash in this contest, and it is
plain that no decision concerning the legitimacy of the closed-shop
policy can be determined by reference to a philosophy of rights.
If we would know whether a strike against non-union men is jus-
tifiable or unjustifiable, we must inquire into all the surrounding
circumstances and the manner in which the strike is conducted.
If the strike is conducted peaceably, and if the union in question
is an open union, cordially inviting the "scabs" to enter and
share its benefits; if the rate of wages and other conditions of
employment demanded by the union men are reasonable in view
of the cost of living and other similar conditions; if the "scabs"
involved, by accepting less than a living wage or other harmful
conditions of employment, are working even though of necessity
to undermine the American standard of living; then we have
no hesitation in saying that the employment of the closed-shop
policy on the part of the union is thoroughly justifiable.
We are much too prone in a case like this to see only the injury
done to the non-union man, forgetful of the fact that the non-
union man does a real injury to his fellow- workers by accepting
wages or other conditions of employment that are inconsistent
with the American mode of living. The price cutter in the labor
market is not ordinarily a social benefactor. The weakest, dull-
est, and least enterprising laborer exerts an influence upon the
general level of wages out of all proportion to his importance or
his deserts. If this be true, the man who cuts the standard rate
of wages may do a grave social injury, and there is justification for
those who peaceably combine to prevent him from doing his de-
structive work. It must be remembered, however, that these con-
clusions are based upon the assumption that the union is an open
union and that the strike is conducted without intimidation or
LABOR PROBLEMS 393
interference with the non-union men. The moment the union
stoops to violence, that moment it loses all claim to the support of
an enlightened public opinion.
Another policy which is generally, and in many cases unjustly,
condemned is the regulation of output, systematically practiced
and indorsed by most unions. The output of the worker is lim-
ited in many ways. The reduction of the hours of labor, the limi-
tation of wages which some unions working by the piece system
enforce, the prohibition or penalization of overtime, all operate
to check the activity or reduce the output of the particular work-
man. Here, again, it is unsafe to render any general verdict upon
the legitimacy of the policy in question. In some industries in
which the piece system is employed, the rate per piece has unques-
tionably been forced down and the workers spurred to excessive
exertion by the pressure and influence of pace makers or task
masters, paid by the employers to urge the workers to the utmost
speed. Where such conditions prevail, no one can successfully
question the justice of the feeling which leads the union to object
to the presence of pace makers and to prescribe a maximum wage
usually above that secured by the average workman which
union members are not permitted to exceed. In general, it is plain
that an individual laborer may underbid a competitor by working
more intensely, as well as by offering to work longer hours or at
lower pay. On this account alone, trades unions are justified in
defining and maintaining some regular pace or standard intensity
of work. Without such definition, collective bargaining would be
impossible. This last observation, it will be noted, applies only
to trades working by the day. But even where the piece system
is used, the workers may be justified in fixing a liberal limit to the
amount of piecework which the wage earner shall be permitted to
do in a day. For there can be no question that unregulated piece-
work does stimulate the worker to excessive exertion, and that as
daily earnings under the piece system tend to rise, the employer
is tempted to reduce the rates.
Some methods of restriction, however, are wholly vicious. The
Journeyman Stone Cutters' Union, for instance, stoutly resisted
for years the application of machinery to their work, and actually
394 OUTLINES OF ECONOMICS
attempted to prevent the shipment of machine-planed stone into
any city where the union had succeeded in preventing the intro-
duction of planers. Such an attitude toward the introduction of
labor-saving devices deserves the severest condemnation. More-
over, in some unions there is a tacit approval of the " go-easy "
system, the system of " soldiering," or " adulterating labor," as it
has been aptly termed. Such a method of restricting output not
only corrupts the character of the individual workman who prac
tices it, but makes it impossible for the employer- to deal with the
union as a seller of honest goods, and in this way tends to under-
mine the whole foundation of trades unionism, which is, as has
been said, collective bargaining. On the other hand, there is no
particular reason to believe that union labor is especially open to
the charge of encouraging " go-easy " habits of work. The habit
of stealthy loafing is found at its worst in certain occupations in
which labor organizations are unknown, so that when it appears
among union workmen it cannot logically be attributed to organi-
zation alone.
Educational and Fraternal Activities. Practically all unions
have important educational and social activities. Debate upon
economic topics is common in union meetings, particularly at the
conventions of the state and national organizations. It has even
been said that foreign-born wage earners receive their most help-
ful and vital education in American public questions through the
agency of the union. This broad education, which is a most im-
portant factor in elevating the standard of life, is supplemented by
the social activities of the labor organization. Many unions main-
tain a so-called " Ladies' Auxiliary," in which the wives of the
members participate ; give concerts, dances, and other social en-
tertainments, maintain charitable activities, and by general social
intercourse operate to unify and solidify the standard of life of
the wage-earning group concerned.
Closely allied with these educational and social features is the
system of insurance benefits, which has played such a prominent
part in the development of labor organizations. In Great Britain
fully three times as much money is expended by the unions upon
mutual insurance of various kinds as upon administrative activi-
LABOR PROBLEMS 395
ties, or for the support and encouragement of strikes. In the
year 1901, for instance, eighty-nine of the one hundred most
prominent British unions paid funeral benefits, eighty-three strike
benefits, seventy-seven unemployed benefits, seventy-seven sick
or accident benefits, and thirty-eight superannuation benefits.
Union insurance is exceedingly helpful, not only in stimulating
thrift among the individual members, but in making the union
more careful and conservative in its policies. Moreover, it
serves to keep in the union a large number of members, who,
if they had no financial stake in continued membership, would
drop out of the union in times of peace, when no apparent
advantage was to be derived from the union. All things consid-
ered, the Cigars Makers' International Union has many claims to
be considered the most successful American labor organization ;
and its success is in large degree, if not in the largest degree, attribu-
table to its wise and extensive use of mutual insurance. But on
the whole, the American unions make relatively little use of the
insurance benefit. Most of them pay strike benefits, that is part
of their fighting policy, and perhaps a majority of them pay
funeral benefits, while a respectable majority pay sick benefits.
But the employment of the superannuation, accident, traveling, or
" out-of-work " benefit is comparatively rare. The great majority
of American unions are militant in character, existing primarily
for the purpose of collective bargaining, and placing the greatest
reliance upon the policy of the closed shop and the strike.
The Strike. : Probably the most important weapon of the trades
union is the strike. Unfortunately, also, the weapon is far too
frequently used. Several generations ago most trades unions, while
they vehemently defended their right to strike, cordially indorsed
arbitration and apparently looked upon the strike as a weapon of
last resort. To-day, the average trades union is at best only a
lukewarm advocate of arbitration, while it has come to regard
striking as a permanent policy. The net result has been to com-
mercialize the strike, as it were. Instead of being a more or less
spontaneous outburst against conditions which the workingman
regarded as unrighteous and oppressive, the strike has come to be
a commonplace method of bettering conditions of employment ;
396 OUTLINES OF ECONOMICS
a device to be employed when conditions are favorable, to be laid
aside when conditions are unfavorable, but to be used without
regard to ethical consideration when its use appears to be profit-
able. As a result in this change in policy, strikes appear to be
increasing steadily in the United States, as may be seen in the
statistics quoted on the following pages.
While these statistics fluctuate in a very irregular way, there can be no
doubt that they show a decided increase in the number of strikes, strikers,
and employees thrown out of work by strikes. Moreover, comparison of the
number of employees thrown out of work with the general wage-earning
population indicates, although not so certainly, that the proportion of work-
ingmen annually involved in strikes has been slowly increasing in the twenty-
five years covered by the table. Precisely what is responsible for this
increase in strikes is difficult to determine. The change in the attitude of
labor organizations toward the strike is an important factor, no doubt.
But the greatest reason for the increase, in all probability, is the rapid growth
of organized labor. New unions are prone to strike. The sudden realiza-
tion of their new power, and the accumulation of strike funds, tempt them to
try their wings. In the long run organization probably exerts a conservative
and steadying influence: national machinery is created which curbs the
capricious impulses of the local unions ; experienced men are usually elected
to the more important national offices, and when they are called in to settle
a local grievance, they arrive upon the scene of action without personal re-
sentment against the employers involved. These facts create a strong hope,
and, indeed, a confident belief, among many of those who have studied the
labor question, that when practically all American trades are organized,
strikes will steadily decrease as they have in England, where a much larger
part of the wage-earning population is organized than in this country.
Labor leaders maintain that strikes strengthen the solidarity of
the unions, and encourage the members to make personal sacri-
fices for the common good, while they force employers to respect
the strength of organized labor, and are not, in the long run, par-
ticularly costly. The time lost in strikes, they say, merely takes
the place of enforced vacations, seasonal stoppages, and other kinds
of unemployment with which the average wage earner is nor-
mally visited during the course of the year's work. No amount
of such dialectic, however, can argue out of existence the injury
and destruction resulting from strikes. Many strikes are gravely
injurious to the wage earners themselves ; and almost all strikes
injure employers and the consuming public. From the social
LABOR PROBLEMS
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LABOR PROBLEMS 399
standpoint the strike is an evil, and all justifiable means should be
employed to prevent its occurrence.
We must not conclude, however, that workingmen and labor
organizations are wholly or even mainly responsible for strikes.
Indeed there are reasons to believe that the employers are more
often responsible for strikes than the employees. If a body of
men agree not to work for a given employer unless that employer
complies with certain conditions, whose fault is it if the employer
refuses to comply and a strike follows? Very evidently the fault
may lie with either the master or the men, or with both. The
fault lies with the men if the conditions which they demand are,
in view of all the circumstances, unreasonable and extortionate.
The fault lies with the employer if he refuses to grant reasonable
conditions of employment. Sometimes the fault is with one, some-
times with the other ; sometimes the one gains by the strike, some-
times the other; but the public, which is never at fault, stands
always to lose. The greatest lesson to be derived from a consid-
eration of strikes is the necessity of their suppression in the inter-
est of the general public.
One of the greatest evils attendant upon the strike is the violence
emanating from both sides from employers' associations as
well as from labor unions. It is frequently said that labor vio-
lence is diminishing with the passage of years. The statement is
both true and untrue. A close study of labor disputes in the early
period of the modern labor movement makes it very plain that
the average strike of that period was attended with much more
violence than the average strike of to-day. Most labor leaders
have thoroughly learned the lesson that violence does not pay,
and they exert every effort to suppress it. But at the same time
the average strike of the present time is attended with some vio-
lence or coercion, and the steady increase in the number of strikes
makes the aggregate volume of violence now greater than it was
in the past.
Historically, also, a marked change has shown itself in the char-
acter of the violence employed. In the past, labor lawlessness
was more or less sporadic; brutal, it is true, but frank and unpre-
meditated. The lawlessness of to-day, however, has taken on a
400 OUTLINES OF ECONOMICS
far more sinister form ; it has become deliberate, premeditated, in
many cases official. No disinterested person can sift the testi-
mony in the labor troubles in the mining industry of Idaho and
Colorado without admitting that there has been a certain amount
of carefully planned violence perpetrated with the passive consent,
if not with the active encouragement, of union officials. There
can be no doubt, also, that individual employers and employer
associations have stooped to equally reprehensible practices. They
have employed as watchmen or detectives ex-convicts, thugs, arid
professional bad men, who unquestionably have not refrained at
times from perpetrating violence in order to cast discredit upon
the unions. It is impossible to say who began the trouble, and
just as impossible to conclude which side is the most to blame ;
the lesson to be drawn is the public necessity of suppressing and
punishing violence or intimidation, when practiced by either side
of the controversy.
Employers' Associations. The development of modern em-
ployers' associations has been briefly described in an earlier
chapter. Their activities give rise to a movement which may
be briefly described as an anti-labor movement. They are, in
almost every respect, the natural foil and counterpoise of the
labor organization. They resemble the association of laborers even
in structure. Thus we have employers' associations recruited en-
tirely from one industry, such as the Stove Founders' National
Defense Association ; associations of employers in distinct but
related industries, such as the national Metal Trade Association ;
and mixed associations in which all kinds of employers are united,
such as the Citizens' Alliances, so common now in many of the
Western cities. To complete the analogy, these associations are
combined in city, state, and national federations; thus forming
large confederacies, similar in scope and activity to the state and
national federation of labor.
We find the same resemblances between employers' associa-
tions and labor organizations when we examine the policies and
aims of the former. Thus they make frequent use of the lock-
out ; the Stove Founders' National Defense Association, for
example, began its interesting career with a lockout of the iron
LABOR PROBLEMS 40!
molders in the employ of its members. Like the trades unions,
also, they have their legislative committees or lobbies, and are
credited, for instance, with having played an important part
in defeating the eight-hour and anti-injunction bills which
have been before Congress several times. Some of these or-
ganizations also maintain so-called labor bureaus, whose func-
tion it is to secure accurate information of the workmen in
the trade, so that troublesome agitators may be refused em-
ployment ; and the methods employed in this branch of the
work gives rise to something closely akin to the "unfair list " pub-
lished by the American Federation of Labor and many national
unions. Some of the more radical associations have stooped at
times to violence and coercion, as was illustrated in 1904 by the
employers' associations of the Cripple Creek district which boy-
cotted business firms, forced public officials to resign by threats
or violence, and filled the vacant places with their own adherents.
Some of the employers' associations, like the Stove Founders'
National Defense Association, are conservative in tone and policy,
working harmoniously with the labor organizations in the industry,
and going no farther than to endeavor by every legitimate meas-
ure to further the interest of the affiliated employers. Such asso-
ciations are exceedingly helpful in furthering that regime of peace-
able collective bargaining to which most students of this subject
look forward as the ultimate outcome of present-day tendencies.
They are thus doing in an effective way the work of industrial
peace. Another group, however, illustrated by the National Metal
Trades Association, while they are temperate in tone and wage no
warfare on the labor organization as such, nevertheless maintain
certain fundamental principles which are directly in conflict with
the fundamental tenets of trades unionism. These associations, for
instance, maintain that the method of wage payment i.e. whether
wages shall be reckoned by the hour, the piece, or the premium
system is a matter which concerns the employer alone, and
they refuse to submit such questions to collective bargaining or
arbitration. Associations in the second group do not needlessly
foment strifes with the unions, but they regard industrial peace
as a consideration secondary to the maintenance of their funda-
2D
402 OUTLINES OF ECONOMICS
mental principles, and accordingly they have been involved in a
number of protracted strikes and disputes. Finally, there is a
third group of employers' associations, of which the average citi-
zens' alliance is a good example, which may be correctly described
as " union smashers." Such associations have little regard for
the establishment of sound principles of collective bargaining, and
they are usually violently opposed to any recognition of organized
labor ; their aim is to weaken and harass their enemy, the labor
organization, whenever possible.
Owing to this difference of policy among the various employers'
associations, it is difficult to predict how the anti-labor movement
will affect that question in which the public interest is greatest
the question of industrial peace. For some little time, perhaps,
the militant enthusiasm of the more belligerent associations will
probably result in multiplying strikes and lockouts. In the end,
however, they will probably contribute effectively to the mainte-
nance of industrial peace by checking the more extortionate de-
mands of the unions and by securing that degree of organization
among employers which is necessary for the successful operation
of collective bargaining. If wage earners are to act in concert by
common or standard rules, it is evident that eventually they will
have to deal with an organized body of employers ; and the sooner
such organization of employers is perfected, the sooner will col-
lective bargaining be established as the regular method of deter-
mining conditions of employment.
The Agencies of Industrial Peace. Although collective bar-
gaining does not necessarily and in every instance operate to dis-
courage strikes, its net influence is unquestionably favorable to
the maintenance of industrial peace. Where a powerful trades
union exists, and the employers resolutely refuse to deal with it,
strikes are frequent. Where the opposite policy is pursued, and
the employers frankly recognize the union, strikes are infrequent.
Thus, there has been no great trouble for years in the stove foundry,
bituminous mining, and newspaper publishing industries, in which
general conventions between the respective labor and employers'
organizations are regularly held for the adoption of terms of em-
ployment for the ensuing year.
LABOR PROBLEMS 403
Trade Arbitration. In England, many, if not most, of these
recurrent conferences are based upon formal treaties, which pro-
vide for arbitration in case the two parties cannot come to an
agreement concerning terms. This is frequently referred to as
trade arbitration. But in the United States most of the general
conferences are based upon agreements which do not provide for
arbitration at all. Peace is maintained, although neither side
promises in any way to refrain from strikes or lockouts. Mutual
respect and free discussion prevent actual warfare. Indeed, many
authorities upon this subject are inclined to think that the intro-
duction of arbitration, even as a last resort, weakens the efficiency
of collective bargaining. It is almost always necessary for both
sides in collective bargaining to make some compromises ; and
this necessity imposes upon the representatives of the trades unions
the disagreeable duty of reporting to their constituents that they
have not secured the exact terms which they were instructed in
the beginning to demand. Because of this fact, if a provision for
arbitration exists, the union representatives are disposed to throw
the responsibility of disappointing their followers upon the shoul-
ders of the arbitrators.
Moreover, it has been pointed out that collective bargaining is
essentially inconsistent with arbitration. Collective bargaining is
commercial and elastic; it deals with the formulation of future
terms of employment; it looks to securing the best results possible;
it has no rational foundation save the willingness of the parties
concerned to get the most possible for their labor or their money,
as the case may be ; whereas arbitration is judicial in essence, and
its successful application implies the acceptance of some estab-
lished principle of wage adjustment, in the justice of which both
parties acquiesce. It is unfortunate but true that up to the pres-
ent time no one has ever formulated a doctrine of wage adjust-
ment which is at once workable and acceptable to a majority of
the people. Arbitration is a perfectly logical device, and works
successfully in the interpretation of minor difficulties growing out
of a broad agreement which has already been accepted. Or, if
both sides adopt some governing principle, it is perfectly possible
for a disinterested arbitrator to decide what this principle demands
404 OUTLINES OF ECONOMICS
in a given situation. But as a helpful device in securing the ini-
tial adoption of a fundamental agreement, trade arbitration is be-
lieved to be illogical in principle and foredoomed in practice to
failure.
Voluntary Arbitration. There are, of course, many other kinds
of arbitration which have proved helpful in maintaining the in-
dustrial peace. Most advanced states now maintain boards of
conciliation and arbitration, whose business it is to prevent strikes
if possible, and to adjust or settle them after they occur. And
the Conciliation Department of the National Civic Federation has
also to its credit the prevention and settlement of a large number
of important strikes. But, for the most part, these voluntary
boards of conciliation and arbitration have shown little ability to
cope with the real situation. They have achieved enough to jus-
tify their existence, but not enough to warrant the acceptance of
voluntary arbitration as an adequate remedy for the evil.
Much more could be made of voluntary conciliation and arbitration than
has been made in the past. The short but very promising history of the
Canadian Industrial Disputes Investigation Act of 1907 suggests that a law
which, like the Canadian Act, forbade strikes and lockouts in important in-
dustries until an impartial board of conciliators had had time to investigate
the dispute and publish their recommendations and findings concerning the
equities of the case, would go far toward delivering us from the more injurious
industrial conflicts. The vital provisions of such a method of conciliation
are: (i) the prohibition of strikes and lockouts before and during the
investigation; (2) widespread publication of the findings of the board of in-
vestigation and conciliation; and (3) full permission to strike or lock out after
the publication of the findings. 1
Compulsory Arbitration. In New Zealand an even more radi-
cal remedy " compulsory arbitration " has been tried. Seven
workingmen in any industry may organize a union and lodge a
demand for better conditions of employment before arbitration
boards, whose decisions, when ratified by the supreme or central
court of arbitration, are absolute and binding. Similarly, any em-
ployer whose workmen are organized in a union may take a case
to the arbitration tribunals for settlement. An award of the cen-
1 An admirable description of the Canadian Act, from the pen of President
Eliot, may be found in McClwfs Magazine for December, 1907.
LABOR PROBLEMS 405
tral court of arbitration may be extended by the court to all com-
petitors of the original employer in the colony. In this way, com-
pulsory arbitration brings about the introduction of minimum
wages and other conditions of employment, established by the au-
thority of the state and enforced, not only by the watchful eyes oj
the parties concerned, but by the factory inspectors themselves. In
Victoria and South Australia much the same results are reached
through the agency of wage boards, containing representatives
of both the employers and their employees with a chairman se-
lected by these representatives or appointed by the government,
which are empowered to prescribe minimum wages and other
conditions of employment, that are enforced, as in New Zealand,
by the factory inspectors. Strikes, however, are not prohibited
under this system.
It is impossible to enter into a detailed discussion of either the
New Zealand or the Victoria system at this place. Both systems
have been in operation since 1896, both have been extended to
other Australian colonies, and both have been partially successful.
But the probability that either system will be introduced into this
country is so small as to make their discussion unnecessary here.
Both systems would conflict with our constitutional law, and both
would at the present time be regarded as entirely too radical by
the American people. Moreover, a large majority of trades union-
ists in this country are strongly opposed to compulsory arbitra-
tion. The significance of the New Zealand and Australian move-
ment is found in the regulation by the state of the rate of wages.
The Ultimate Solution. In arriving at a decision concerning
the measures which ought to be taken to maintain industrial peace,
it should be remembered that strikes are much more destructive
and dangerous in some industries than in others, and that here, as
in most other economic problems, it is dangerous to proceed on
general principles. In most industries, in our opinion, the strike
question may safely be left to the enlightened self-interest of the
parties concerned, trusting to collective bargaining and the work
of voluntary arbitration to prevent an excessive amount of war.
In small competitive industries the peaceful strike is not neces-
sarily an alarming phenomenon.
406 OUTLINES OF ECONOMICS
Slowly and surely, however, the opinion is gathering force that
in those industries which vitally touch the public welfare (such as
the anthracite coal industry, railway transportation, and the like)
the public ought, and by an exercise of legal ingenuity might, find
means to preserve the peace whether the two parties immediately
concerned desire peace or not. Compulsory arbitration in com-
petitive industries would unquestionably be unconstitutional in
this country. But with quasi-public industries, " industries af
fected by a public interest," the question is entirely different. If,
because of their monopolistic character and their intimate connec-
tion with the convenience of the public, the legislature may regu-
late the service and the rates of such industries, it would seem to
follow even more clearly that the legislature may adopt any meas-
ure necessary to prevent the utter cessation of such industries by
strikes and lockouts. If, for instance, the fare charged by a
street railway may be regulated by the state, in order to prevent
monopolistic extortion, how much more justifiable would be the
action of the state in preventing the complete interruption of the
traffic of the railway by means of a strike or lockout ! We cannot
pursue this topic in detail, but must close the discussion with a
simple expression of belief that compulsory arbitration for indus-
tries affected by a public use would be constitutional and prac-
ticable.
Profit Sharing. Profit sharing attempts, not to provide a
remedy for industrial disputes, but to anticipate and prevent them
by assigning to the employees a share of the profits fixed in ad-
vance. It is held that this arrangement enlists the employees' inter-
est in the success of the business, makes them more economical,
and so increases their zeal and efficiency that the share of profits
which they receive does not reduce in the long run the earnings of
the employer. In other words, the employees create the fund
from which their bonus is paid. This bonus may be paid in many
different ways : either in cash at the end of the business year, or
in shares of stock in the company in question, thus making the
workman partial owner of the business; or it may be amassed in
a savings or insurance fund, from which in his old age the work-
man receives a pension, or his family an annuity or cash premium
LABOR PROBLEMS 407
at the time of his death. The last method of profit sharing is
usually spoken of as deferred participation.
Neither historical study nor theoretical analysis of profit shar-
ing furnishes reasonable ground for the belief that this method of
industrial remuneration will ever play an important part in solv-
ing the modern labor problem. The principle of profit sharing
was recognized by the French economist and statesman, Turgot,
in 1775, but the first permanently successful experiment in profit
sharing was begun by the celebrated French firm of Leclaire in
1842. By 1878, 120 cases were known to be in existence; in 1891,
about 300; in 1900, probably no more were in existence than in
1891, although one authority fixes the number at 400. In the
United States, at the present time, the system is employed in
probably no more than twenty establishments. Since 1896, more-
over, and particularly in England, the number of firms which
regularly share profits with their employees has fallen off ; and con-
fidence in the system as a method of solving the labor problem is
unquestionably diminishing.
The reasons why profit sharing has not proved more successful
are various. In the first place, it has incurred the enmity of most
labor leaders, who oppose it because it has often been introduced
after a disastrous strike as an antidote to trades unionism, and be-
cause they believe that it stimulates the men to work beyond their
strength, and eventually results as overspeeding always re-
sults in reduced wages.
In the second place, it is illogical and inconsistent as explained
by most of its advocates. The latter assert that the workmen
create the fund from which their dividends are paid by increased
care, zeal, and speed. If this be true, and the system can hardly
prove a permanent success unless it is true, the end which profit
sharing seeks would be better achieved by the piece rate or gain-
sharing methods of wage payment. By both of these methods
the worker gets his premium for extra zeal and efficiency as part
of his wage, not as a gift; gets it on pay day, not at the end of the
year; and feels as free to bargain and higgle about the size of the
premium as he does about the size of the wage. Moreover, his
premium cannot be dissipated by unwise management or dishon-
408 OUTLINES OF ECONOMICS
esty on the part of the employer, and it cannot be lost by reason
of his death, discharge, or change of employment.
Profit sharing has failed because it is unbusinesslike and smacks
of philanthropy. The average employer consciously or uncon-
sciously expects something in return for the dividends which he
distributes. And if he does expect a return, it is far better that
he should pay for it by a method which is certain, fixed by contract
or bargain in advance, and paid, not at long intervals, during
which it is threatened by the varying fortunes of the business,
but at the end of the week or month when ordinary wages
are paid. Of course, if in addition to fair wages the employer
wishes to distribute a gratuitous dividend at the end of the year,
for which he expects nothing in return, the employee is not likely
to object, and the generosity of the employer will probably do no
harm. But such a system of profit sharing cannot be expected
to become prevalent throughout a competitive commercial system
in which most employers cannot be philanthropists, even if they
desire. Moreover, human nature is so constituted that gifts of
this kind create in the mind of the giver an inevitable expectation
of recompense.
Industrial Democracy. The industrial organization of the
past was despotic. The despotic principle, the one-man power,
is an excellent thing in its own time and place. It gives to indus-
try the elasticity, celerity, and general efficiency which come from
singleness of aim; and in industry, despotism has continued longer
than in the political sphere. But it is merely a phase of develop-
ment and ought not to be regarded as final. Elsewhere the des-
potic principle has been softened or dissipated, in politics, in
religion, in the family, and eventually this discordant element
is bound to disappear or undergo serious modification in industry.
The whole labor movement is a concerted and united effort to
achieve industrial democracy, which means self-rule, self-control,
the self -direction of the masses in their efforts to gain a livelihood.
It is primarily because profit sharing means a departure from,
and not an approach toward, industrial democracy that we are
forced to reject it as a progressive step in accomplishing those
ends which the labor movement is inaugurated to achieve. A
LABOR PROBLEMS 409
far more consistent method of securing self-government is found
in cooperation.
Cooperation is of two kinds, coercive and voluntary. Coer
cive cooperation, which implies a partial or complete application
of socialism, is discussed in another chapter.
Voluntary cooperation takes many different forms, among
which we may distinguish: (i) distributive or consumers' coop-
eration, sometimes spoken of as cooperative buying; (2) coopera-
tive borrowing or cooperative credit; (3) cooperative marketing;
and (4) producers' or pure cooperation.
Consumers' or distributive cooperation has no necessary con-
nection with the transportation of goods, but refers merely to a
method of retail or wholesale exchange. Purchasers of groceries,
dry goods, and the like come together to purchase what they
need, and thus eliminate profits. They form a stock company,
subscribe for shares, employ a manager and clerks, who often
do not even share in the profits, and start a business. Divi-
dends are sometimes paid only on shares, but the approved way
is to pay a moderate interest on capital and to divide profits
among the customers in proportion to their purchases, the division
being made at the end of stated intervals. Usually a larger divi-
dend is distributed to shareholders than to ordinary customers;
and in some cases the employees receive as large a bonus as the
shareholders. Profits are thus said to be divided among capital,
custom, and labor. But so far as labor is concerned, the most
that can be said is that it receives a small share of the earnings;
labor does not cooperate in the sense that it has an important
voice in the management of the business. The scheme is one
of distributive cooperation plus profit sharing, not one of pure
cooperation.
Cooperative credit and cooperative marketing are familiar
phenomena in the United States the first in the form of the
well-known building and loan association; the second in the form
of fruit growers' association, cooperative elevator companies, and
the like, formed for the purpose of securing better terms and facili-
ties from railroads, commission houses, and middlemen in general.
In 1902-1903, for instance, there were 5299 building and loan
410 OUTLINES OF ECONOMICS
associations in the United States, with a membership of 1,530,707,
and total assets of $577,228,014. About the same time (1902)
there were also 994 cooperative telephone companies, operating
89,300 instruments.
The good which these cooperative associations have accom-
plished is enormous, and there can be no doubt of their practi-
cability. They have not only proved commercially profitable to
the participators, but they have trained them to "team work"
and inculcated the spirit of mutual concession, the give and take
of concerted endeavor, which makes for social solidarity and con-
stitutes such an indispensable element of good citizenship in a
democratic state.
But they have done little and promised to do little in solving
the labor problem or in essentially improving the distribution of
wealth. They are, for the most part, composed of small capi-
talists, farmers, or salaried men, not wage earners, and in
organization differ little from democratically managed stock
companies of the usual type. Many, if not most, of the market-
ing associations are profit-making concerns whose employees
have no more voice in the selection of their bosses, and no more
share in the management of the business, than the employees of
an ordinary corporation. Even in the British cooperative socie-
ties the employees have no share in the management, and though
some of the associations notably the Scottish Wholesale So-
ciety indulge in a mild species of profit sharing with their
employees, the result is not industrial democracy, not self-govern-
ment, but merely joint-buying plus a paternalistic scheme of profit
sharing. The limits of the success of the British cooperative
movement are suggested by the fact that the employees of the
cooperative societies have formed themselves into a trades union
for the betterment of their condition of employment.
While consumers' cooperation and cooperative marketing
both designed to abolish the profits of the middleman are
important and praiseworthy forms of economic association, they
have little effect upon the wage-earning classes, and offer no
remedy for the antagonism between capital and labor in manu-
facturing industries. The variety of cooperation which really
LABOR PROBLEMS 411
copes with these questions and seriously attempts to regenerate
the wage system is producers' cooperation. The essential fea-
tures of this form of cooperation are (i) that each group of workers
is to be associated by their own free choice; (2) that these asso-
ciates shall work under a leader elected and removable by them-
selves ; and (3) that the collective remuneration of the labor per-
formed by the group shall be divided among all its members
(including the leader) in such a manner as shall be arranged,
upon principles recognized as equitable by the society them-
selves. 1
Successful cooperative experiments fulfilling the above con-
ditions are seldom met with. They are not unknown. Here and
there a man of transcendent commercial genius and extraordi-
nary sympathy has succeeded in democratizing his business,
turning it over to his employees and so impressing his spirit and
his methods upon his successors that the business continues to
prosper under the regime of self-government. An illustration
is found in the Godin Famttistere of Guise, France, which, begin-
ning with a scheme of profit sharing in 1877, has finally resulted
in the establishment not only of a cooperative manufacturing
enterprise, but in the successful conduct of what practically
amounts to a cooperative community.
But such cases are rare. Most experiments in producers' co-
operation have failed, and we fear they must continue to fail.
They simply cannot meet the competition of businesses organized
in the ordinary way, directed by one man or set of men with all
the efficiency, mobility, and adaptability that come from single-
ness of aim and undivided management. Industrial democracy,
as achieved in the cooperative form of industrial organization, is
too unwieldy, too slow, too mechanical. Multitudinous manage-
ment means relatively uncertain, indecisive, and inefficient man-
agement.
A modified form of producers' cooperation is not unknown among the
manufacturing industries of this country. An approximate idea of the extent
of this form of industrial organization may be gathered from recent census
statistics. In 1905 the statistics of manufactures relating to form of busi-
1 Schloss, Methods of Industrial Remuneration, p. 228.
4 I2 OUTLINES OF ECONOMICS
ness organization show a separate class of " miscellaneous business organiza-
tions" which we are told consists almost entirely of cooperative manufactur-
ing concerns. There were in this group 3203 establishments (constitut-
ing 1.5 per cent of all manufacturing establishments) with a capital of
$20,729,744 (0.2 per cent of the aggregate capital), employing 8520 persons
(0.2 per cent of all wage earners), producing goods with an annual value of
$54,466,028 (0.4 per cent of the aggregate product). Most of these associa-
tions are cooperative creameries ; and it is interesting to note that in this great
industry which was cooperative in origin the proportion of cooperative
concerns is steadily diminishing. These figures furnish a maximum estimate
of producers' cooperation in the United States, and a large majority of the
concerns credited to cooperation in this enumeration would fail to satisfy
a strict definition of producers' cooperation. For the most part they rep-
resent a form of cooperation among farmers and small capitalists who
stand on an equality as among themselves, but give their employees no real
share in the management of the business.
The wage system, whatever its defects, has one striking virtue
certainty. The wage earner knows what to expect and gets
what he expects. He is insured against risk of loss, and although
he may pay too high a price for his insurance, the insurance itself
is a highly desirable thing. It is one of the weaknesses of pro-
ducers' cooperation that the workman is encouraged to invest
his savings in the hazardous competitive experiments in which
he is engaged. He becomes part owner of the enterprise, to be
sure, but by doing so he assumes the risk of failure, a risk which,
other things being equal, it is desirable to eliminate. It is probable
that the ultimate method by which industrial democracy is achieved
will retain that feature of the present wage system by which most
of the workers are insured against business losses.
Indeed, we expect to see industrial democracy achieved through
the labor organization. Since the formation of the trades union
and the introduction of collective bargaining, the range of this
bargaining has constantly widened. Beginning with questions of
wages, hours of labor, and apprenticeship, it has gradually spread,
until at the present time some unions bargain about the sanitary
conditions of the work, the introduction of safety devices, the em-
ployment of women, the use of machinery, and the status of the
men with whom their members work. A very few powerful
unions insist that the foreman under whom their members work
LABOR PROBLEMS 413
shall belong to the union, demand a voice in the discharge of em-
ployees, and try to force the employer, when taking on new men,
to select them in order from lists of unemployed journeymen
prepared by the union. These demands, of course, may be harm-
ful; the working classes will have to learn by experience what
measure of control it is best to have in the hands of the employer.
The fact that power may be abused, however, is really beside the
point. The point lies in the possibility, and in general the desira-
bility, of extending the range of collective bargaining until the
employees shall have a voice and it is to be hoped a prevailing
voice in determining all the conditions of employment. Through
collective bargaining the control of the employees over the busi-
ness may be indefinitely expanded. Once having secured control,
the majority will learn, as they have in political life, to leave certain
particularly delicate questions to their industrial captains. In
the past, labor has had to seek capital and serve it. In the future,
capital may have to seek arid serve labor. The past may be
pictured by the single entrepreneur with his capital hiring a thou-
sand men to do his bidding. The future may behold the thou-
sand hiring the entrepreneur and his capital to do their bidding.
And the latter is the more pleasing, the more democratic, and
altogether the more wholesome picture.
These words are written in no spirit of advocacy, and with no
intention of palliating the obvious shortcomings of the trades
union. But the fact remains whether we like it or not that
economic theory and economic history unite in the conclusion
that the union has come to stay as long as the system of capi-
talistic production. The union must be improved, it cannot be
extirpated; and the most urgent task of the present is to con-
vince employers and unionists that there will be no real peace
until employers acknowledge the inevitableness of the union,
and unions acknowledge sympathetically and in practical
ways the social serviceableness of the employer. Trades unions
have been guilty of many sins violence, monopoly, political
corruption. But their gravest danger at the present time is a
false philosophy, in accordance with which many unionists have
come to believe that the best way to help the union is to oppose
414 OUTLINES OF ECONOMICS
the employer. This is not true of the more wisely conducted
unions. The railway brotherhoods frequently unite with the rail-
way managers in securing legislation favorable to the railway
industry; and the history of the National Civic Federation, for
example, proves that a number of the opposing leaders are keenly
aware that capital and labor have interests in common as well
as in opposition. In some way, however, united labor as a whole
has got to learn this lesson how to drive just as favorable a
bargain as possible with the employers in the first instance, and
then, the bargain having been made, to bend every effort in loyal
cooperation with the employer to make the business the greatest
possible success. This is not mere platitude. In the long run,
and whether we like the fact or not, productive efficiency is the
supreme economic virtue; and the institution that stands in its
way will perish. The trades union must bring into industry
something besides conflict, or it will disappear. The union that
so conducts itself as to make the non-union man or the non-union
shop more efficient than the union man or the union shop, in the
long run, simply puts a premium upon the suppression of union-
ism.
QUESTIONS
1. Is the industrial or the trades union the more logical form of organiza-
tion ? Can the two be reconciled ? Mention as many kinds of jurisdiction
disputes as you can.
2. Does the trades union rest upon a sound economic basis? Is it likely
to endure? Is it in any large degree responsible for the conflict between
labor and capital?
3. Are all attempts to achieve a monopoly illegitimate? Is there more
justification for labor monopolies than industrial monopolies ?
4. Is the policy of the closed shop ever justifiable ? Intimidation of non-
union men ? restriction of apprenticeship ? regulation of output ?
5. The strike has been defined as a " concerted cessation of work " ; is
this definition correct? Have men a "right" to strike whenever they wish?
Are employers justified in "locking out" their men at pleasure?
6. Are "organized" strikes more successful than "unorganized" strikes?
Are strikes more or less successful than formerly ? Do they last longer ?
7. Is the "blacklist" more justifiable than the boycott? Can either the
" blacklist " or the boycott be conducted in a lawful manner ?
8. Distinguish between trade arbitration, voluntary arbitration, "com-
LABOR PROBLEMS 415
pulsory investigation," and compulsory arbitration. What are the defects
of arbitration as a method of settling labor disputes?
9. Why do labor leaders oppose compulsory arbitration? Is their op-
position a sufficient reason for rejecting it ? Why is the plea for compulsory
arbitration particularly strong in the case of monopolistic industries ?
10. How does "gain sharing" differ from "profit sharing"? Is profit
sharing necessarily paternalistic ? If so, is this a defect ?
11. Does consumers' cooperation materially advance industrial democ-
racy ? Is producers' cooperation likely to grow and expand ?
12. How can a large measure of industrial control be secured for the wage
earner through the trades union ? Other things being equal, is it desirable
that the wage earner should secure a large measure of control ? Is it per-
missible to assume that other things will be "equal"?
LITERATURE
ADAMS, T. S., and SUMNER, H. L. Labor Problems.
BOOTH, CHARLES. Life and Labor of the People in London.
BROOKS, JOHN GRAHAM. The Social Unrest.
Bureau of Labor (U.S.). Bulletin Annual and Special Reports of the
Commission of Labor.
COMMONS, JOHN R. Trade Unionism and Labor Problems.
ELY, RICHARD T. The Labor Movement in America.
OILMAN, N. P. Methods of Industrial Peace; A Dividend to Labor.
HALL, P. F. Immigration.
Industrial Commission (U.S.). Report, Vols., XVII and XIX.
LEVASSEUR, E. The American Workman.
MITCHELL, JOHN. Organized Labor.
ROWNTREE, B. SEEBOHM. Poverty: A Study of Town Life.
SCHLOSS, D. F. Methods of Industrial Remuneration.
WEBB, CATHERINE. Industrial Cooperation.
WEBB, BEATRICE and SIDNEY. History of Trade Unionism; Industrial
Democracy.
CHAPTER XXIV
INTEREST
INTEREST is the price paid for the services of capital. It appears
in two forms: loan interest, the amount paid by one man to another
for the use of money or goods owned by the latter, and imputed
interest, that portion of the value of the products of industry which
is attributed or imputed to the services of capital, as distinct from
the services of land and labor. Interest is usually measured as a
percentage of the money value of capital, and this, coupled with
the fact that capital is often lent in the form of money, has led to
the prevalence of the idea that interest is a payment for the use of
money. This is only a partial description of interest, however,
for it does not include imputed interest nor the loan interest paid
for the use of many forms of capital buildings, for example.
Objections to Interest Taking. It is only in modern times that interest
has been generally considered a legitimate and necessary form of income.
The strong denunciations of usury contained in both the Old and New Testa-
ments are denunciations of interest taking, for the word "usury" formerly
meant any kind of interest, and not merely excessive interest, as at present.
The opinion of many classical writers is illustrated by Aristotle's dictum that
" money was intended to be used in exchange, but not to increase at interest."
During the greater part of the middle ages the authority and teaching of the
church was set definitely against the taking of interest in any form. In the
middle of the fourteenth century the prohibition of usury was incorporated
in the civil law. These objections, however, had reference chiefly to loan
interest, and interest on money lent for personal use at that ; for capital was
not thought of as one of the factors in production until comparatively modern
times. In fact, by the fifteenth century, when opportunities for the profitable
use of money had appeared in such forms as the purchase of rights to receive
land rents, or partnership ventures in trade (where interest was held to be
justified by the risk incurred), the canonists (the writers on church law)
admitted the legitimacy not only of such gainful employments of money,
416
INTEREST 417
but also, in many cases, of interest on loans. The justification of loan inter-
est took on at first many curious forms. It was regarded in some cases as
a fine for delay in the repayment of the loan, so that lenders often resorted
to the subterfuge of lending money gratuitously for a nominal period, the
real agreement being that they were to get back their money principal, with
a fine for the delay added, at a later date. In other cases loan interest was
justified as a payment for the loss of the possible gains which the lender
might have got by using his money himself. Usury, which at first meant any
kind of loan interest, came to mean interest on money loans to relieve per-
sonal needs, rather than for gainful employment, then interest on loans in
which the element of risk was lacking, and finally, excessively high interest.
To-day the use of capital is so prominent a feature of our productive meth-
ods that the legitimacy of interest is not generally questioned. Socialistic
writers, however, insist that interest is only a result of the system of the private
ownership of capital, and that with the abolition of private property in pro-
duction goods what is now counted as interest would become part of the wages
of labor. It is accordingly important that we should understand clearly
why interest has to be paid, as well as that we should study the factors de-
termining the rate of interest. We shall find, however, that the explanation
of the necessity of interest is really a part of the explanation of the rate of
interest.
Inadequate Explanations of Interest. An idea that naturally
suggests itself is that interest has to be paid for the use of money
because "money can be profitably employed in business." This
explanation, which is very much like one of the ways in which the
canonists finally came to justify interest, is obviously inadequate.
It is only an attempt to explain loan interest by assuming the exist-
ence of imputed interest. What we want to know is why " money
can be profitably employed in business."
A similar, but somewhat more definite, attempt at an explanation
is contained in the statement that interest is paid because capital
is productive. It is pointed out that by the use of capital goods
the product of industry is greatly increased over what could be
produced by labor and land alone. This is, of course, true, but
taken alone it does not explain interest. The problem of interest
relates to the value of the product, not to the amount of the product.
There is nothing in the mere quantity of the product that gives
value to it. The farmers of this country have found more than
once that a large wheat crop has sold for less .in the aggregate
than a small one. The real problem of interest is this: Why
2E
418 OUTLINES OF ECONOMICS
can an entrepreneur, by the use of capital, increase the selling
value of his product enough to not only pay for the capital actually
used up in production, but also to pay in addition a surplus in the
form of interest upon the capital employed? Nor can we say
that " capital produces interest." It cannot be too strongly em-
phasized that neither land, nor labor, nor capital produces value.
They are simply the instruments used in the production of things
that are valuable because they satisfy human wants, and hence
command a price in the market. Part of the value of the product
is imputed or attributed to capital in the form of interest, and it is
because of its capacity to earn interest that capital is valued. To
say that capital produces value is to reverse the true process.
Capital goods produce (or aid in the production of) other goods,
and the value of these produced goods is the cause of capital
value.
Why Interest can be Paid. We shall find the analysis of our
problem somewhat simpler if we divide it into two parts: first,
why interest is possible; and second, why interest must be paid.
In discussing why interest can be paid, we shall assume that in-
terest must be paid if capital is to be used in production, reserving
the discussion of the legitimacy of this assumption for the follow-
ing section.
It is the physical productivity of capital the fact that capital
can be used in cooperation with land and labor in the production
of goods that makes it possible for the entrepreneur to look upon
part of his total money income as interest on his investment of
capital. Now, as we have seen, the mere fact that capital is pro-
ductive in the physical sense does not explain interest, but the fact
that capital is used under the guidance of entrepreneurs in the pro-
duction of wealth does explain the possibility of interest. The
mere physical productivity of land does not explain rent land
will grow weeds as well as wheat; nor does the mere physical
productivity of labor explain wages some men have put years
into the construction of perpetual-motion machines that are abso-
lutely worthless. But it is the business of the entrepreneur to see
that land and labor are used wisely; and from his point of view
they are used wisely if they are used in the production of things
INTEREST 419
that consumers want, and want intensely enough to pay such prices
as will enable the entrepreneur to pay the rent of the land and the
wages of the labor employed. Similarly, an entrepreneur will
not employ capital in any kind of production unless the prices he
expects to get for his products are such as to cover the expenses
incurred in the use of capital. Nor will he knowingly use so much
capital that his product will sell for less than a smaller product
would have sold for, any more than he will knowingly produce an
unprofitably large quantity of goods by the use of too much labor
or too much land.
On the one hand, the entrepreneur has to estimate the prices he
will get for his products; on the other hand, he has to estimate the
productivity and the expense of land, labor, and capital. The
expense of capital includes, first, the cost of the capital actually
used up in production; and second, interest on all of the capital
used, whether " used up " or not (assuming, as previously ex-
plained, the necessity of interest). The principles that will guide
the entrepreneur as to the relative proportions of labor, land, and
capital he will use have already been discussed in connection with
the general subject of diminishing productivity. We may, how-
ever, emphasize again the fact that productivity must be attributed,
not to " capital in general," but to specific units of specific kinds
of capital, used in connection with a definite amount of land and
labor; the productivity imputed to any particular unit of capital
being the precise amount of product actually dependent upon the
use of that particular unit the amount by which the total prod-
uct would be decreased if the unit in question were not used. An
entrepreneur will increase his use of capital rather than of labor
or land, when a given expense for any kind of capital will add more
to his product than would a similar expense for labor or land.
The Necessity of Interest. Free goods, such as air or the force
of gravitation, are productive in the physical sense, in that they are
absolutely necessary to most forms of production. The surface
of Lake Michigan is used in producing the service of transporta-
tion in essentially the same way as is capital in the form of a rail-
way roadbed and track. But we cannot impute productivity to
specific units of free goods, for the simple reason that the amount
420 OUTLINES OF ECONOMICS
of the product is not dependent on the utilization of any one unit
of them. Any one cubic foot of air could be dispensed with; we
cannot even conceive of the force of gravitation as limited in quan-
tity; the great lakes furnish pathways that are more than sufficient
for all the vessels that traverse them. We do impute productivity
to the better lands that are used in production, because any one
acre of them could not be withdrawn from use without a diminu-
tion in the product. The controlling reason for this difference Is
that the spontaneous supply of free goods is in excess of the use
that is made of them; while the supply of the better lands is lim-
ited as compared with the demand for them. This suggests at
once why productivity has to be imputed to specific units of capi-
tal, and that is, that the supply of capital is limited.
Why is the supply of capital limited ? This question leads us to
examine the nature of the supply of capital. Imagine a society
without capital carrying on its productive processes by the use of
labor and land only. So long as the members of this community
produce only what they consume directly, or (if, despite the ab-
sence of capital, money economy and a system of exchange may
be imagined to prevail) so long as they spend all their money in-
comes for things used up immediately in the satisfaction of their
wants, there will be no accumulation of capital. In order that
capital shall be furnished, it is necessary that some members of the
community turn aside from the production of things that are used
in the immediate satisfaction of their wants and devote their time
to the production of goods that will be used in further production.
Whether they do this on their own account, or whether they are
paid for their work while they are doing it by others, some post-
ponement of the satisfaction of wants is necessary. In the one
case those who produce the capital goods give up temporarily the
satisfactions which they might have derived from the consump-
tion goods they could have produced. In the other case, those
who are devoting part of their money incomes to the payment of
those who are producing capital goods are giving up the immediate
satisfactions which they might have secured with the money. In
either case the production of capital involves the sacrifice of wait-
ing on the part of some members of the community. But why
INTEREST 421
should waiting be called a sacrifice? Do not those who give up
present satisfactions in order that capital goods may be produced
get a full repayment if they get back in the form of the products
of their capital goods as much as they, for the time being, give up?
In other words, why should capital not be furnished for produc-
tive purposes if those who furnish the capital get back an exact
equivalent (in value) for the amount of capital they have supplied ?
Why should an extra payment, in the form of interest, be necessary
to induce saving?
The answer to these questions is found in the difference between
present and future values. Our present wants are more intense
than our present estimates of our future wants of a similar kind.
We visualize the present more vividly than we do the future; we
yield sometimes to the temptation of satisfying the more trivial
wants of the present, even when we know that we are thereby ren-
dering uncertain the satisfaction of more important wants in the
future; and when we take considerable periods of time into ac-
count, we may reasonably say that the uncertainty of life itself
gives us some ground for preferring present to possible future
satisfactions. Notwithstanding the vast difference between civ-
ilized men and savages in this respect, for many of the latter
seem to have absolutely no regard for future needs, the fact still
remains that waiting is a sacrifice, and in order to induce the sav-
ing that is a prerequisite to the use of capital in industry, a pre-
mium or reward for waiting has to be paid in the form of interest.
This fact is the most fundamental thing in the explanation of
interest.
It must not be inferred that, in the actual economic life of to-day,
no capital would be supplied if interest were not paid. There are
other motives that induce men to save parts of their incomes.
The desire to provide for old age and for such contingencies as
sickness and accident, or to make provision for one's family in
case of death, would result in a considerable amount of saving.
The mere pride of accumulation, and the fact that the satisfaction
of many important wants, such as the desire to own a house, or the
desire for foreign travel, necessitate the gradual accumulation of
what is to most persons a considerable sum of money, must also
422 OUTLINES OF ECONOMICS
be given due weight. None of these motives would in themselves
induce men to invest or lend their saved funds in productive under-
takings if no interest at all were paid. In fact, this would be a
matter of indifference, for savings might just as well be hoarded.
But a very low interest premium would suffice to overcome this
indifference and to bring about their investment in productive
undertakings. Even this low interest rate, however, would be
sufficient to balance, in some additional cases, the difference be-
tween the intensity of present wants and the intensity of future
wants, so that in these cases, in turn, spending or saving would be a
matter of indifference an indifference that would in its turn be
overcome by a slight increase in the interest rate. In a similar
way every increase in the interest rate would induce more persons
to save and would induce many of those who were already saving
a part of their incomes to save a larger proportion of them. At
any given time, accordingly, the interest rate is considerably higher
than would be necessary to compensate for a large part of the wait-
ing that devolves upon those who furnish capital funds for pro-
ductive purposes. It is just high enough, however, to be a recom-
pense for marginal waiting, which is the waiting that would not
take place if the interest rate were any lower. If the interest rate
is 5 per cent, a dollar to-day is worth a dollar and five cents a
year from to-day, not to all savers, but to the marginal savers.
The Investment of Capital. We have seen that the supply of
capital originates in the fact that some people save part of their
money incomes, and that interest has to be paid in order to induce
this saving. Such persons are said to get an " income from their
capital." Strictly speaking, their savings are not productive capi-
ital at all, in the sense in which the word " productive " is used in
this book. Productive capital consists of the concrete material
instruments of production, such as factory buildings, machines,
raw materials, merchants' stocks of finished products, and the
like. Savings are not productive capital in this sense, but the
process by which they are transmuted into productive capital is a
simple and familiar one. The simplest case is where the entre-
preneur saves part of his own money income and uses his savings
in the purchase of additional capital goods, the value of the prod-
INTEREST 423
ucts of which he estimates will be large enough to repay him for
his waiting, as well as to replace his capital as it is used up, that
is, to earn interest for him as well as repay the principal. Or, the
entrepreneur may borrow money directly from others who have
saved it, agreeing to pay annual interest, and in addition to repay
the amount of the loan the principal at some specified time.
In the complex economy of the present, however, it very often
happens that the entrepreneur who can use money profitably and
the man who has surplus funds to invest do not arrange the trans-
action directly. Savings are " placed at interest " in savings banks,
insurance companies, or other financial institutions, and it is to
such institutions that the entrepreneur who thinks that he can use
more capital profitably applies for loans.
Very often the entrepreneur is a corporation rather than an in-
dividual, but the same three methods of obtaining capital are open
to it. The corporation may choose to reinvest some of its net
earnings in productive forms of capital rather than to pay them all
out in dividends to its stockholders. In the bookkeeping of many
corporations, such savings on the part of the corporation are rep-
resented by the item called " surplus " on the balance sheet; in
other cases, especially with railways, it may happen that these
reinvestments of earnings are hidden by unduly enlarging the ac-
counting item of " maintenance " or upkeep of the plant, so that
it includes the expense of new additions of capital. When in need
of money to meet a temporary emergency, the corporation may
borrow from banks just as the individual entrepreneur does.
When in need of money for more permanent investment in the
durable forms of capital goods, the corporation usually issues its
own interest-bearing obligations in the form of bonds, which it
sells to banks, insurance companies, and other financial institu-
tions, as well as to individuals. Bond issues are only one way of
borrowing money. But whether the money funds are furnished by
the entrepreneur or by others, the formation of capital necessi-
tates, first, the saving of parts of money incomes, and second, the
use of the funds thus secured in the purchase of capital goods.
The expression " investment of capital " is used as a short way of
describing this twofold process.
424 OUTLINES OF ECONOMICS
The Replacement of Capital. It is clear, then, that saving,
which necessitates waiting, is a prerequisite to the formation of
neio capital, that is, to an increase of the supply of capital already
in existence. But at any given time the capital already in exist-
ence forms a very large proportion of the total supply of capital,
and it may be thought that the present interest rate does not affect
this portion of the supply. We must, however, take into consid-
eration the fact that almost all kinds of capital are being continu-
ally used up in production. This using up may be a matter of a
single use, as in the case of fuel or raw materials, or it may be a
gradual wearing out, as in the case of a machine, but such differ-
ences are differences in degree of durability rather than differ-
ences in kind.
As we have seen, the entrepreneur will not normally employ
any given additional unit of capital unless he expects to get enough
from the value of the added product to replace the capital actually
used up in production as well as to pay interest. This means that
if the entrepreneur's estimates prove correct, part of the money
income he gets for his product may be regarded as a replacement
fund, sufficient in amount to replace the capital used up in pro-
duction. We must not, however, make the error of thinking of
the replacement fund as definite in quantity. Whether or not any
unit of capital produces enough to furnish a replacement fund,
depends on whether the entrepreneur's estimate is a correct one.
There is no reason why unproductive forms of capital should be
kept intact in amount. He would be a foolish business man, for
instance, who would keep reinvesting a certain amount of money
in raw materials in the face of a diminishing demand for the fin-
ished product. Even if enough income is earned to form a re-
placement fund, the capital used up need not be replaced unless
the entrepreneur so chooses. A farmer may have saved for years
in order to buy a reaper. The reaper will enable him to raise
more wheat, or, possibly, to produce the same amount of wheat at
less expense. In either case it will mean an increase in his net
money income. He can, if he chooses, set aside enough of this
added income so that, when the first reaper wears out, his accumu-
lated funds will replace it. From one point of view we may say
INTEREST
425
that in this way the reaper "replaces itself." But the farmer can,
if he prefers, use all of his increased income in the purchase of
additional comforts and luxuries for himself and his family. In
deciding whether he will replace his capital or increase his present
consumption, he will be guided by the same kind of an estimate
of the relative importance of present and future wants on the one
hand, and of the amount which the capital will add to his income,
on the other hand, that guided him in the original saving which
led to the purchase of the first reaper.
Similar illustrations can be found in other kinds of undertak-
ings. Many business enterprises have failed because business
men have "lived beyond their incomes" which often means
simply that they have not replaced their capital so rapidly as they
have used it up. Many American railways have maintained a
specious prosperity for many years by paying "unearned divi-
dends " ; that is, by letting their capital (roadbed, rolling stock,
buildings, etc.) deteriorate through not expending enough of their
gross income in the maintenance of their way and equipment.
The stock of capital in existence at any one time is the result of
past saving. But this stock of capital cannot be maintained intact
without more saving. From this point of view we may say that
the sacrifice of present goods for future goods which society un-
dergoes in order to reap the advantages of capitalistic production
is not something that is done "once for all," but is a continuous
sacrifice.
The Shifting of Investment. As a matter of fact, a large amount
of the capital that is used up in production is not replaced, for the
simple reason that entrepreneurs find that some particular kinds
of capital are not profitable; that is, they do not add enough to
the value of the entrepreneurs' total product to repay them for
their cost (including interest and replacement). It may happen
that the entrepreneur has been mistaken as to the technical effi-
ciency (or productivity) of his capital, or that he has overestimated
the demand for his products. New inventions or new methods of
production may lessen the income yielding power of part of the
existing stock of capital, or capricious changes in demand may
have a similar effect. On the other hand, these new methods of
426 OUTLINES OF ECONOMICS
production and these changes in demand are making new forms
of capital profitable. Even if the "replacement fund" were a
definite and rigid annual sum, it would not be entirely devoted to
replacing the particular kinds of capital that had been used up in
production. There would be a continual shifting from the less
profitable to the more profitable forms of capital.
We often hear it said that capital is transferred from one indus-
try to another, or from one locality to another, or from one country
to another. Such expressions are misleading. Capital goods are
not usually transferred in this fashion, although in exceptional
cases it may happen. 1 These statements often mean that the
ownership of capital changes, as when a capitalist sells his holdings
in one industry to another capitalist and invests his own funds in
another undertaking. The most important way in which "capi-
tal is transferred " is through that gradual shifting in the forms of
investment which has just been described.
The Relation of the Durability of Capital Goods to Investment.
The ease with which investments of capital may be shifted
varies for different forms of capital. Especially important in this
connection is the durability of capital. As has been already sug-
gested, some forms of capital are destroyed as capital by a single
use. The fuel and raw materials used in a manufacturing estab-
lishment and the merchant's stock in trade belong to this category.
The merchant's stock in trade becomes consumption goods in the
hands of consumers: raw materials reappear in the finished prod-
uct, as do other forms of capital for that matter, although in a less
obvious sense. But the fact remains that these particular forms
of capital investments yield their services only once, and when they
are once used by the entrepreneur for the purpose for which they
were intended, they cease to be capital.
From such transient forms of capital we may pass by insensible
gradations to capital goods which yield a long succession of serv-
ices, the series culminating in such durable forms of capital as
1 For example, some generally used kinds of machinery (such as lathes,
milling or planing machines, engines, or motors) may be transferred from one
establishment in one industry to an establishment in another industry, or draft
horses may be sold by farmers to merchants.
INTEREST 427
buildings used for productive purposes, or railway roadbeds. If a
particular form of capital lasts for exactly a year, the period of
time usually taken as a unit in the computation of the rate of inter-
est, estimating the expense of employing such capital is a very
simple matter. If, for example, the rate of interest is 6 per cent,
an entrepreneur would not invest $1000 in such capital unless he
estimated that it would increase his product by an amount that
would sell for at least $1060. In the case of the more transient
forms of capital, however, the computation is usually made by
taking into account the "rate of turnover." A manufacturer may
be continually buying raw materials and making them into fin-
ished products. If the raw materials purchased during a year cost
$3000, but if, on the average, only $1000 is invested in raw ma-
terials at any one time, the capital is said to be "turned over"
three times during the course of the year. The interest rate is
computed only on the average amount of capital "tied up," so
that interest of 2 per cent on each turnover would amount to
6 per cent on the actual investment of capital.
In the case of the more durable forms of capital the computa-
tion is more complicated. Here the entrepreneur has to take into
account not only the original expense of the capital good and the
amounts which it will add to his annual product, but also its dura-
bility, and the fact that a large part of the income which it will
earn for him is future income. This future income, as we have
seen, will not be valued so highly as the same amount of present
income would be.
Suppose, for example, that the entrepreneur is considering the purchase
of a machine which will be worn out in ten years, and the price of which is
$1000. If he wishes to get 6 per cent interest on his investment (possibly
because he has to pay that much for the money funds he uses), he cannot
afford to purchase the machine unless it will increase his annual product
during those ten years by an account that will sell for at least $136. For
$1000 is the present value of an annual payment of $136 for ten years, com-
puted on the basis of an annual interest rate of 6 per cent, compounded
annually. If he is satisfied with 5 per cent interest, a probable increase of
$130 in the annual value of his product would justify the investment. From
this point of view the investment of capital is, so far as the entrepreneur's
estimates prove correct, equivalent to the purchase of an annuity for a term of
years corresponding to the life of the capital good. Of course, as the capital
428 OUTLINES OF ECONOMICS
wears out, its productivity is apt to decrease. Such things, together with
any probable changes on the salability of the product, as well as all other
contingencies that can be foreseen, have also to be taken into account by
the entrepreneur, and still further complicate the problem.
It is obvious that the entrepreneur does not usually make an elaborate
mathematical calculation of the kind suggested here. His business experi-
ence and knowledge of market conditions afford the basis for a more or lest
accurate guess as to the profitableness of a proposed investment of capital.
He estimates that a certain machine will or will not "earn its cost" (including
interest) because he knows something about the profitableness of the use of
similar machines in his own or other establishments. The concrete problem
that continually presents itself to the entrepreneur is simply that of getting
the maximum of salable product at the minimum cost. An investment in
a particular machine is usually judged (except in the case of new under-
takings), not by its profitableness as measured by an absolute standard,
but, its technical efficiency being known, by its profitableness (as to product
and costs) as inferred from the experience of the entrepreneur with his present
appliances and methods.
The same considerations hold true for investments in most other kinds of
capital goods. Nevertheless, a scientific and accurate analysis of the real
profitableness of an investment has to follow the lines that have been indicated
above. In fact, in the most scientific forms of investment (such as the pur-
chase and sale of large blocks of corporation bonds by dealers in such se-
curities), the results of elaborate actuarial calculations are utilized. That
such calculations are made by those who supply capital rather than by the
users of capital, comes from the fact that the supply of capital (so far as it is
not furnished by the entrepreneur himself) is under a definite contract on the
part of the entrepreneur as to the amount of interest to be paid and as to the
time when the principal is to be paid. In many such loans the element of
risk to the capitalist is almost entirely eliminated, and the calculation of the
present values of such investments becomes accordingly a simple matter of
mathematics.
The Expense and Value of Capital. When we speak of the cost
or expense of capital, we may have in mind either one of two dis-
tinct things. We may mean the price paid by the entrepreneur
for the loan of the money funds which he invests in specific kinds
of capital goods, or we may mean the prices paid for the capital
goods themselves. The first thing is, of course, loan interest;
the second is simply a matter of the market prices of commodities.
It is this second thing the market price of capital goods that
we wish to consider at this point. As commodities, these capital
goods come under the general laws of value and price, and most of
INTEREST 429
what has been said in earlier chapters about the valuation of con-
sumption goods holds just as true in respect to the valuation of
these production goods. Their price at any given time is apt to
be fixed rather close to the point where demand and supply would
be in equilibrium. In the long run their values if they are not
patented products, but are competitively produced cannot get
very far away from the expenses of producing them.
But there is one fundamental difference which has been sug-
gested in other connections. Consumption goods are valued be-
cause they satisfy human wants, and the intensity of the wants
which particular units of goods satisfy have, through the law of
marginal utility, a very direct relation to their market values.
Capital goods do not satisfy human wants directly; they are val-
ued simply because they aid in the production of goods that do
satisfy human wants directly. 1 The demand for them, as we have
seen, is the entrepreneurs' interpretation of the demand for their
products. The law of diminishing productivity bears about the
same relation to the determination of their values that the law of
diminishing utility does to the determination of the values of con-
sumption goods. As in the case of the demand for labor, the
elasticity of the demand for a particular sort of capital goods is
affected not only by the fact that the higher the cost of the capital,
the higher will have to be the price of the product, and, conse-
quently, the smaller will be the quantity of the product, that can be
sold, but also by the fact that when the cost of any variety of capi-
tal goods is relatively high, the entrepreneurs will economize in
the use of that particular kind of capital and will use relatively
more labor, relatively more land, and relatively more of the other
forms of capital. The first of these facts is a corollary of the law
1 Here as elsewhere in the present discussion of interest, no account is taken
of the obvious fact that many kinds of capital goods are used in the production
of other capital goods, rather than in the production of consumption goods
directly. There may be in many cases a large number of steps in the productive
process before the final goal the satisfaction of human wants is reached.
A consideration of these facts would only make the analysis more involved,
without changing in the slightest degree the conclusions reached. They are,
however, taken into account in the discussion of the "social dividend," in
Chapter XXV.
430 OUTLINES OF ECONOMICS
of diminishing utility, the second, a corollary of the law of dimin-
ishing productivity.
This analysis of the value of capital goods relates, however, only
to the supply of new capital goods. After capital is once definitely
invested in industry, its value is determined solely by its ability to
earn an income for its owner. If the entrepreneur has overesti-
mated the technical efficiency of a machine or the salability of its
products, that is, if he has overestimated its income-yielding
power, he may find that its value is less than the price he held for
it. Here, however, we have to note an important distinction be-
tween free capital and specialized capital. By free capital we mean
capital that has a number of different possible uses, or that can be
transferred from one industry or one establishment to another.
Specialized capital is capital that can be used for only one purpose,
and that cannot be transferred from one establishment or industry
to another.
The capital invested in the construction of a railway roadbed,
or in the digging of an irrigation ditch, is absolutely specialized.
The roadbed and the irrigation ditch are of use only in connection
with the particular transportation or agricultural undertakings
for which they were constructed. If the undertakings should fail,
the value of these specialized forms of capital would be absolutely
wiped out. A manufacturing firm may invest a large amount of
money in new models of specially designed machinery. If the
new machines prove unsuccessful, their value may sink to what
they will sell for as scrap iron. On the other hand, we have free
capital in such forms as tools, machines of the standard models
that are used in different establishments in the same industry, or
even in different industries ; raw materials that can be made up
into different kinds of finished products and the like. A farmer
who stocks his farm with dairy cattle, but finds his land unsuited
for a dairy farm, does not incur a total loss on his investment, for
he can sell his cattle to some farmer who can make profitable use
of them. The distinction here emphasized is only one of degree.
We have capital in a considerable variety of forms that are partly
free and partly specialized. Such capital is capital that is best
adapted to one specific purpose, but which may also be put to
INTEREST 431
other uses. One frequently sees buildings, originally erected for
office purposes on a badly chosen site, that have been given over
to small manufacturing concerns. A building intended for a fac-
tory may serve fairly well as a warehouse.
The importance of these distinctions lies in the fact that the pos-
sibility of alternative uses forms a barrier to the depreciation of the
value of the free capital that is found to yield less income in some
particular use than was expected by the entrepreneur. If such
goods can yield a larger income in some other use, they can be trans-
ferred (through a change in the nature of the entrepreneur's busi-
ness or through sale or lease to other entrepreneurs) to this more
profitable use. Such transfers are continually taking place in
actual business.
Capital and Land. The analysis of the process by which capital is
valued opens the way for a consideration of a problem that has been suggested
in earlier pages, the reason for the economic distinction between capital
and land. Some points of similarity are obvious: land and capital are
both valued according to their income-yielding power. The selling value of
land, like the selling value of capital, is simply the capitalization of the pro-
spective income to be derived from it. From the point of view of the individ-
ual investor the purchase of land for productive purposes is an investment
of capital just as truly as is the purchase of capital goods.
Yet there are equally obvious differences : land is given by nature ; capital
is "man-made." The amount of land is limited a statement that holds
true whether we have in mind the land actually available for productive
uses under existing conditions, or whether we have in mind the whole surface
of the earth. The supply of capital, on the other hand, is capable of
indefinite extension. It may be said, of course, that an extension of
transportation facilities, by which the available supply of land is increased,
is a " production of land." This is, however, only a figurative use of the
word "production." In this figurative sense the growth of a city, by which
barren areas become desirable building lots or factory sites, is likewise a
" production of land." The recent opening up of the Canadian Northwest
has been due to the production of capital in the form of railroads. The
land was already there, but the necessary form of capital was lacking.
Another distinction is found in the fact that land, in its most essential
qualities, is a permanent thing, while capital is of all possible degrees of
durability.
These obvious physical differences between land and capital would hardly
justify us in drawing a line between them in a discussion of the distribution
of wealth unless these physical differences were the causes of differences in
432 OUTLINES OF ECONOMICS
the ways in which the incomes from land and capital are determined dif-
ferences, that is, between rent and interest. Here, again, we find points of
similiarity and points of difference. The points of likeness become promi-
nent when we view the mechanism of wealth production as it exists at any
given time, but become less significant as we shift our view to the forces at
work through a considerable period of time.
If, for example, we could take something like an instantaneous photograph
of the processes of the production and distribution of wealth, we would see no
important differences between the capital and the land used in production.
We would see that society is equipped with a stock of capital goods, in all
stages of wear, of all possible degrees of technical efficiency, and varying
greatly in fitness or adaptability to the work of producing the particular
products that consumers are demanding. Not all of these capital goods are
yielding an income that is sufficient to provide for their replacement as they
wear out, and in addition to pay a surplus, or premium, in the term of in-
terest. Some, it is true, may be yielding even more than the amount neces-
sary for these purposes. Machinery of new and exceptionally efficient sorts,
but not as yet of widespread or general use; raw materials or dealers'
stocks of goods that, by reason of a sudden increase in demand, are selling at
an exceptionally high price, such capital goods may be earning consider-
ably more than interest and replacement.
On the other hand, we see a large amount of capital in such forms as obso-
lete kinds of machines, ill-planned factory buildings, raw materials or dealers'
stocks in trade that were bought in expectation of a demand that did not
materialize. Such capital goods may earn considerably less than interest
and replacement. When capital is once fixed in definite forms, the question
of the original money cost of the capital does not enter into the question of
the profitableness of using it. An entrepreneur who borrows money to invest
in capital goods has to repay the interest and ultimately the principal of the
loan, whether this particular investment of capital proves sufficiently remuner-
ative or not. In accounting practice such expenses are called " fixed charges,"
because they go on whether the capital is used profitably or not. In fact,
the entrepreneur will find it to his advantage to use the capital, rather than to
let it lie idle, so long as its use adds anything to his total net income. A ma-
chine may thus be worth using, even if not worth replacing; dealers can
better afford to sell their goods for less than they paid for them than not to sell
them at all; a landlord will prefer to rent a building at a very low cost,
rather than to let it remain vacant. Capital goods that are just barely worth
using may be called "marginal capital goods," and are, from our present
viewpoint, analogous to marginal land. At any given time, then, the exist-
ing capital goods which it does not pay to use may be thought of as " below
the margin," while the income yielded by the better capital goods may be
thought of as a rent of capital, analogous in many ways to the rent of land.
For this reason Professor Marshall has called the income from capital goods,
INTEREST 433
when the point of view takes into account only a short period of time,
quasi-rent.
When, however, we shift our point of view so as to take into account a
longer period of time, we see an important difference between the income
from land and the income from capital. We see, then, that society's stock of
capital is a shifting thing. On the one hand, it is being continually depleted
on account of the fact that, in the process of production, capital goods are
being used up, worn out, or because they are in some cases passing for other
reasons below the margin of profitable use. On the other hand, the stock
of capital is being continually replenished by the investment of savings in
new forms of capital goods. Most of these investments merely replace capi-
tal that has been worn out or used up, but some, and in a progressive society,
a considerable proportion, represent the creation of new forms of capital.
Now, as we have seen, the investment of savings in capital goods is guided
by the estimates that entrepreneurs make of the profitableness of these invest-
ments, the criterion of the profitableness of any possible investment being its
ability to replace the principal and provide for the interest on the money
invested. When experience has shown that particular forms of capital will
not measure up to this standard of profitableness, these forms will not be
replaced as they wear out. When certain forms of capital enable entrepre-
neurs to get any considerable surplus over and above interest and replacement,
the tendency will be, so far as competition rules (that is, so far as monopoly,
as in the case of patented machinery, does not prevent), to increase the
investments in these forms of capital, and in this way to force the earnings of
these specially advantageous forms of capital down to the common level of
interest and replacement. Just as the expense of producing consumption
goods forms a " normal value," to which their actual prices (under competitive
condition) continually tend to approximate, so the expenses incurred in in-
vestments of capital form a "normal remuneration of capital," toward which
its actual earnings continually tend. Similarly, the value of capital, although
actually determined at any one time, like the value of land, by its ability to
earn an income for its possessor, tends in the long run to approximate the
expense of producing capital. This expense includes, it must be remembered,
both the actual money cost of new capital goods and the expense of interest
on this money cost. Normal interest is the interest on absolutely free capital
in the form of loanable funds.
Land, of course, has no normal value, because it has no cost of production.
This difference is not of mere theoretical importance, but has an important
bearing upon many social problems. For example, when we take a long
period of time into account, no such thing as an "unearned increment"
appears in the value of capital. Moreover, while both rent and interest are
alike in the sense that they are payments for productive services, interest is
more clearly an earned income than is rent. For productivity has to be
imputed to capital because its supply is limited on account of its expenses
2 F
434 OUTLINES OF ECONOMICS
of production and on account of the sacrifices involved in waiting, while
productivity is imputed to the better lands simply because the supply of them
is limited by nature. When we measure rent as a return per acre (or other
unit) of land, and interest as a percentage on the money invested, we recognize
this fundamental distinction between rent and interest. That rent may
be viewed for some purposes as interest on the value of the land, and that in-
terest (and replacement) may similarly be viewed (at any given time) as a
"quasi-rent" of capital goods, does not alter the fundamental nature of the
distinction.
We have seen in another connection that the shifting of investment by
which the earnings of capital are made to tend toward a normal standard is
easier in the case of the more transient forms of capital than in the case of
the more durable forms. The more durable a capital good the more nearly
is the income derived from it analogous to the rent of land. As was suggested
in the discussion of rent, it is not necessary or advisable to draw a hard and
fast line between capital and land. Permanent investments of capital in the
form of improvements to land may very properly be regarded as land. The
farmer who is contemplating installing a drainage system or an irrigation
system for his land views such an investment, at the time, as an investment
of capital. But when the capital is definitely incorporated with the land in
these permanent forms, there is no reason why it should be called capital
rather than land. The total income yielded by the improved acres will, in
all essential particulars, be land rent.
Capital and Consumption Goods. There arc also some points of like-
ness between capital and the more durable forms of consumption goods. The
person who buys a piano is not only satisfying his present wants, but expects
to get from it a long period of use, extending into the future. The purchase
of any durable consumption good is in this way one form of saving for the
future. Moreover, such provisions for future wants will not be made unless
we feel that these future wants are important enough to justify us in giving
up some possible present satisfaction. In other words, we will not substitute
future utilities for present utilities by the purchase of durable consumption
goods unless the future utilities are enough greater than the present utilities
to compensate us for the necessary waiting. This compensation for the dif-
ference between present satisfactions and future satisfactions is obviously
analogous to interest.
These facts must be taken into account in any full analysis of the valuation
of consumption goods, but they do not justify us in obliterating the line be-
tween capital and consumption goods. Consumption goods yield directly
an income of satisfactions; capital yields a money income, but only in an
indirect way does it yield an income of satisfactions. A rented house is not,
from the social point of view, capital. It yields a direct income of satisfactions
to its occupant ; the fact that the landlord sells the annual use of it instead
of selling the permanent property rights in it is a fact of minor significance.
INTEREST 435
A merchant's stock in trade is capital because it will yield a money income
to its possessor ; l when sold to consumers, the same goods become consump-
tion goods because they yield an income of satisfactions. In short, the dis-
tinction between capital and consumption goods is based upon one of the
most fundamental things in the existing economic system the fact that
the income which men receive for the productive services of their capital
are money incomes.
Capital and Wages. In many undertakings wages are paid to workmen
engaged in the production of goods before the goods are sold. A farmer,
for example, has to pay his harvest hands and other workmen before he
receives any money from the sale of his wheat. Whether he borrows the
amount needed for wages, or whether he pays them out of his own savings,
interest on the amount advanced has to be counted among the expenses of
production, and the wages advanced are, for the time being, an investment
of capital. In most manufacturing establishments a more or less lengthy
average period of time elapses between work actually done by the workmen
and the sale of the products of their work. In such establishments a con-
siderable amount of capital is invested in wage advances. This does not
mean that we are to consider the laborers as being in any sense capital. For
the gradual process by which the raw material becomes the finished product
is itself a continuous investment of capital. All of the various expenses of
production are really different ways of investing money in capital goods.
Add to the cost of the raw material all of the expenses (including wages and
payments of rent and interest as well) incurred in order to produce the
finished product of the establishment, and you have simply the total invest-
ment in capital goods in the form of the finished product. A complete
inventory of capital goods would include then (in addition to buildings,
machinery, etc.) not only raw materials and the finished products that are
ready for sale to consumers, but also the products on hand at any one time in a
partly finished state. Thus, though the payment of wages is often an invest-
ment of capital, it must be remembered that the payment of wages is only
one of the ways in which money is invested in concrete, definite, capital goods.
The Rate of Interest. Interest, as the price paid for the serv-
ices of capital, is determined by the supply and demand of capital.
By this we mean, not the supply and demand of concrete capital
goods, a matter which comes under the general laws of price, 2
but the supply and demand of the loanable funds, the money
capital which is available for investment in concrete capital goods.
1 The relation of goods to their possessors, rather than to their owners, gives
the more satisfactory basis for the distinction between capital goods and corn-
sumption goods. The example of the rented house makes this clear.
a See discussion of the expense and value of capital on page 428.
436 OUTLINES OF ECONOMICS
The demand for capital, as we have seen, is based ultimately on
the demand for the products of capital; that is, on the demand for
consumption goods. The entrepreneur bases his demand for capi-
tal upon his estimate of the demand for his products, together
with his estimate of the relative economy of the use of different
amounts of capital. In combining labor, capital, and land for
productive purposes, he will be guided consciously or unconsciously
by the law of diminishing productivity. He has to take into ac-
count in this connection both the technical efficiency (that is, the
real productive efficiency) and the expense of land, labor, and dif-
ferent kinds of capital. This latter consideration means that the
interest rate is itself one of the factors determining the demand for
capital. The higher '"he rate of interest, the greater will be the
expenses of production, and the smaller, in general, will be the de-
mand for those goods, in the production of which the use of capital
plays an especially important part. Moreover, the higher the in-
terest rate, the smaller, other things being equal, will be the rela-
tive proportions of capital, and the larger will be the relative pro-
portions of labor and land which it will pay entrepreneurs to use.
As the technical efficiency of capital is increased through
the progress of science and invention, the more profitable does
its use become. For the demand for it increases not only
because the consequent reduction in the prices of goods means
larger sales, but also because the use of larger proportions of capi-
tal in production becomes advisable. The entrepreneur wants
simply the maximum productive efficiency at the least cost. A
unit of productive efficiency in the form of capital becomes cheaper,
first, as the interest rate decreases, and second, as a given outlay
will purchase more efficient forms of capital goods.
The supply of capital depends ultimately upon the supply of
waiting. This, as we have seen in the discussion of the necessity
of interest, is something which varies with the interest rate. Other
things being equal, the higher the interest rate, the larger will be
the parts of money incomes that will be saved rather than spent
immediately in the satisfaction of wants. It has sometimes been
said that saving increases as wealth increases. If this is taken to
mean that the larger the income of the individual, the larger, other
INTEREST 437
things being equal, will be the amount he will save, the statement
probably expresses a general truth. The larger the income, the
less important are the immediate wants dependent for their satis-
faction on a given amount of money. It does not follow that the
proportion of the income that is saved is apt to be any larger in the
case of a large income than a small income. If, on the other hand,
the statement is taken to refer to the increase of wealth in society
at large, we have to take account of the fact that as wealth increases
new wants develop, and the net effect on saving is apt to depend
on the character of the new wants, whether they call for increased
current expenditures or whether they involve the accumulation of
considerable sums. Convenient opportunities for saving, such as
those afforded by savings banks, insurance companies, and the
supply of convenient forms of investment securities have (apart
from the rate of interest they offer) an important effect upon the
amount of saving.
Gross Interest and Net Interest. Net interest is pure interest
the amount actually necessary to recompense marginal waiting.
Gross interest the interest actually paid on loans includes
payments for other things. In the first place, actual interest often
includes some payment for the supervision which the capitalist
has to maintain over his investment. Even the man who "lives
on his income" usually has to devote a certain amount of time to
the investigation of the safety of different possible investments, to
the collection of interest and principal and similar things. The
net earnings of a savings bank the difference between the in-
terest they get on their investments and the interest they pay their
depositors are partly a payment for this element of supervision.
A second element in gross interest is the payment for the risk
the lender undergoes of losing all or part of his expected income
(including principal and interest). This does not mean, as some
writers have said, that the interest rate contains an element of
insurance, for insurance means the elimination of individual risk
through the combination of risks. The fact is simply that, as
every one knows, lenders will not take greater risks without the
prospect of greater gains. There is some element of speculation
in all loans but the very safest, and the extra income received on
438 OUTLINES OF ECONOMICS
the more legitimate loans is more akin to speculative profits than
to insurance.
Usury Laws. Interest is one form of price in regard to which
society still expresses some distrust of the operation of unhindered
competitive forces. Only nine American states do not provide a
legal maximum above which the interest rate cannot legally be
fixed. Such laws are based on the justifiable assumption that the
borrower is in many cases the weaker bargainer, pressed often by
that necessity which "never drove a good bargain." In many
cases the laws are not enforced, but in other cases they do have an
important effect on some kinds of loans, especially bank loans in
the rural districts, farm mortgages and overdue book credits.
It is to be feared, however, that their result is often not so much
to lower the rate of interest as to cut off many loans which lenders
would not be justified in making except at high rates of interest.
In the case of many loans on fairly good security, however, usury
laws have probably operated to the advantage of the borrowers.
QUESTIONS AND EXERCISES
1. Could a socialist state dispense with interest? with waiting?
2. How has the rate of interest been affected by the opening up of new and
fertile lands ?
3. Use supply and demand curves to illustrate the determination of the
rate of interest.
REFERENCES
BOHM-BAWERK, E. VON. Capital and Interest; and Positive Theory of
Capital, Books V-VII.
CARVER, T. N. The Distribution of Wealth, Chap. VI.
CASSELL, G. The Nature and Necessity of Interest.
FISHER, IRVING. Capital and Income and The Rate of Interest.
GONNER, E. C. K. Interest and Saving.
MARSHALL, ALFRED. Principles of Economics, 4th ed., Vol. I, Book II,
Chap. IV; Book IV, Chap. VII; Book V, Chap. IX; Book VI,
Chap. VI.
CHAPTER XXV
PROFITS
THE difference between the total money income which an en-
trepreneur receives and his expenses of production constitutes
his profits. Profits, then, are a surplus over and above the expenses
of production. There are two ways of measuring profits: first,
with reference to some unit of time, such as a year; and, second,
with reference to particular units of product. Thus, when a manu-
facturer speaks of his profits during a year, he has in mind the
difference between his total expenditures and total receipts for
that year. But when he speaks of his profits on a particular sale,
he has in mind the difference between the expense of producing
the particular goods sold and the prices received for them. The
two ways of measuring profits are not alike, because a large part
of the expenses incurred by an entrepreneur in any given year
may be payments for work done in connection with the production
of goods that will not be marketed until some later time. In the
long run, however, the amount of annual profits will be determined
by the profits on particular transactions or on particular products,
so that for present purposes it is not necessary to press the dis-
tinction any farther. It is sometimes more convenient to use the
word " profits " in one sense, and sometimes in the other sense.
Profits, being a surplus, do not constitute a homogeneous in-
come determined by any one principle or set of principles. They
are the resultant of all the forces that tend to bring about inequali-
ties between the prices paid for things and the expenses of produc-
ing them. It is not possible in a brief analysis even to attempt to
break up this mixed form of income into all of its constituent
parts. Attention may be called, however, to some of the more
important and obvious elements in profits. These are: entre-
439
440 OUTLINES OF ECONOMICS
preneurs' wages, speculative gains, chance gains, and gains of
bargaining.
Entrepreneur's Wage. This element in profits is sometimes
called the " wages of management," and constitutes the payment
received by the entrepreneur for his services as manager or super-
visor of his business. It is not easy to draw a line between this
element in profits and wages. In fact, " entrepreneur's wage "
could be discussed just as appropriately under the general head
of wages as in connection with the general subject of profits. The
only distinguishing things about this particular kind of wages are
that, unless the entrepreneur adopts the bookkeeping form of
paying wages to himself, they come out of the general surplus or
residuum commonly called profits in actual business, and that they
are the wages paid for a particular kind of labor. The average
American farmer usually does a certain amount of work himself
that might be done by hired laborers, and so far as his income
represents the amount he saves by doing such work himself, it is
to be regarded as ordinary wages. But in addition, he does other
work of a more purely managerial quality, including the general
direction of the time and methods of tillage and harvesting, the
organization of the working force; in fact, the determination of
what may be succinctly described as the general coordination of
labor, capital, and land. The reader may ask: Could not this
part of the work be [turned over to a salaried foreman ? Certainly,
and in some cases, as on the estates of so-called " gentlemen
farmers," all of it. In fact, the amount of the managerial work
actually done by the entrepreneur himself in any kind of under-
taking is a variable quantity, depending upon the extent to which
managerial authority is delegated to foremen, superintendents,
and salaried managers. In any case the " wages of management "
exist, although they do not always exist as " entrepreneur's wage,"
nor do they always constitute a part of profits.
Even in cases where the entrepreneur is in all respects his own
manager (which is, after all, the most frequent case in a host of
small business undertakings), the entrepreneur's wage constitutes
a kind of minimum profits, and may very properly be added to
the real expenses of production. Minimum profits are necessary
PROFITS 441
profits, the profits needed to induce the entrepreneur to continue
his productive work. In many cases they can be measured
roughly by the salary which the entrepreneur could get by working
for some one else. Some men would prefer to be their own
masters even at a smaller income, while others would shrink from
the responsibilities of independent business life, even if a larger
income were attached to it, so this method of measuring minimum
profits is only approximate.
Minimum profits will vary with managerial efficiency. The
more efficient farmer will get a larger product with a given equip-
ment of land, labor, and capital than will the less efficient farmer. 1
So will the more efficient manufacturer. Managerial efficiency
really means productive efficiency, and differences in managerial
efficiency will cause corresponding differences in minimum profits.
Speculative Gains. Modern business, based as it is on ex-
change economy, and production " for the market," is of necessity
speculative in character, and the entrepreneur is of necessity a
speculator. A speculator is a man who buys things in the hope
of selling them later at a higher price, or who sells things which
he does not own, hoping to buy them at a lower price. The en-
trepreneur buys labor, capital, and land, and uses them in the
production of things which he hopes to sell for more than the
expenses of production. The farmer who decides to devote more
land to certain crops and less land to other crops than he did in
the preceding year is guided mainly by his estimate of the prices
which the different crops will sell for. The merchant purchases
his stock according to the best estimates he can make of the kind
of goods he will find customers for. Even when goods are sold
before they are produced, as when a contracter agrees to build a
house for a certain price, the entrepreneur still runs the risk that
1 It has been suggested that the difference between the product of the better
farmers and of the poorer farmers is not only absolutely but relatively greater in
the case of good land than in the case of poor lands. If this is so, it helps to ex-
plain the observed fact that the best farmers generally have the best lands. That
is, they would be able to pay a higher rent or a higher price for the good lands than
the poor farmers could. In this case some of the higher efficiency of the better
farmers might result in higher rents rather than higher profits. (See Taylor,
Agricultural Economics, Chap. IX.)
442 OUTLINES OF ECONOMICS
his expenses of production will be greater than the price agreed
upon. If he attempts to eliminate the element of uncertainty
by contracting for his materials in advance, he simply shifts some
of the risk to lumber dealers, hardware merchants, etc., while he
himself still assumes some risk, although of a different kind.
That is, he guards himself against possible loss, but by the same
process he gives up the chance of the higher profits he would have
got for himself if the prices of materials had been lower at the
actual time of construction than they were when he made the
contract.
This element of risk taking is the very essence of modern busi-
ness, and the most successful entrepreneurs are, in general,
those who are the most successful risk takers. Risk taking, in
this sense, does not mean a blind dependence upon chance. If
this were so, there would be no reason why business failure should
not be about as common as business success. Risk taking is
nearly synonymous with business enterprise. It involves careful
estimates of the amounts of product that can be got from different
combinations of labor, capital, and land, and equally careful
estimates of the salability of such products. It is in this latter
field, which involves the diagnosis of market conditions with a
view to ascertaining their probable trend, that the entrepreneur's
skill finds its chief opportunity. This kind of skill means knowl-
edge and foresight very different things from mere willingness
to " take a chance." Yet, though the efficient entrepreneur deals
with probabilities rather than possibilities in his estimates, he is
nevertheless a risk taker, a speculator, for his estimates have to
do with market conditions that are beyond his personal control.
While his success may be probable, it is very far from being
certain.
The functions of the entrepreneur as a risk taker are clearly
distinguishable from his functions as a manager. Managerial
efficiency, as we have seen, is the ability to combine and direct
labor, capital, and land in such a way as to get the maximum prod-
uct. Risk-taking efficiency means the ability to get the largest
receipts from a given expenditure. When we speak of managerial
efficiency, we have especially in mind the technical side of produc-
PROFITS
443
tion the manner in which the factors in production are utilized;
risk-taking efficiency refers to the value side of production the
way in which the use of capital, labor, and land is directed into
the most remunerative channels. Managerial duties may be dele-
gated to salaried employees; the risk-taking function is one which
the entrepreneur cannot shift to another. 1
This part of competitive profits is in its very nature a shifting
and even transient thing. To anticipate consumers' demands
correctly is not in itself a guarantee of profits to any entrepreneur.
If other entrepreneurs have counted on the same demand, it may
easily happen that the total product cannot be sold at a profitable
price. In fact, the " market conditions " which the entrepreneur
has to forecast include the conditions of supply as well as of de-
mand. But even in case a given entrepreneur has succeeded in
producing the precise things that consumers are demanding and
that other entrepreneurs are not producing, and has thus been able
to get large profits, he cannot count on their permanence. De-
mand may change, but even if demand remains constant or in-
creases, his large profits will be a standing invitation to other
entrepreneurs to enter the same field a condition which will
continue until competition forces the profits of this particular
kind of business down to where they just suffice to pay the wages
of management. If profits in any establishment or any industry
go below this minimum point, the tendency will be for entrepre-
neurs to shift their investments to more profitable undertakings.
The kind of profits which we are now discussing constitute the
guiding principle, the incentive, in modern economic life. It is
the desire to get money profits that leads entrepreneurs to produce
particular things and to produce them in particular ways. It is
for this reason that old channels of productive effort are con-
tinually being abandoned and that the use of labor, capital, and
land is continually being guided into new channels. The shifting
1 This statement may seem open to the qualification implied in the fact that in
some cases the foresight and skill utilized are those of employees (the " buyers "
for a large retail store, for example). Yet while the entrepreneur may thus depend
in part upon others' knowledge of market conditions, the risk involved is neces-
sarily assumed by himself.
444 OUTLINES OF ECONOMICS
of productive effort which the pursuit of money profits involves
consists, for the most part, of efforts on the part of entrepreneurs
to meet the shifting wants of consumers.
One of the strongest arguments for the superiority of the competi-
tive system over any possible substitute for it lies in the fact that,
under competition, the guiding of production into the channels
indicated by the search for money profits will result in the maxi-
mum satisfaction of human wants. This follows from the fact
that the prices people are willing to pay for certain commodities
measure the importance which they attach to the possession of
those commodities. The shifting of labor and capital from less
profitable to more profitable uses means, in general, that more
intense wants will be satisfied with the same expenditure of pro-
ductive energy. All this is implied in the statement made above
that the shifting of productive effort is mainly in response to the
shifting wants of consumers. This argument, that under free
competition the pursuit of money profits leads to the best adapta-
tion of productive efforts to the satisfaction of the wants of con-
sumers, is one that has rarely been met squarely by those who
attack the competitive system. There are, however, several im-
portant considerations that lessen to some extent its force.
In the first place, the extent to which the wants of any individual
affect the ordering of the productive processes depends upon his
purchasing power, that is, primarily, upon his income. It is mani-
festly absurd to say that the shifting of labor and capital from the
production of necessities for the poor to the production of luxuries
for the rich, simply because it may be more profitable, necessarily
means a better satisfaction of human wants. The extent to which
wants are satisfied depends on the way wealth is distributed as
well as upon the amount and kinds of things produced.
Moreover, even granting that the stimulus of money profits
leads to the best practicable satisfaction of the wants of present
consumers, this may sometimes be achieved by imposing added
difficulties in want-satisfaction on future generations. The lines
of procedure that will bring maximum profits to entrepreneurs
sometimes run counter to the more permanent interests of society.
We all recognize, for example, that there may be such a thing as a
PROFITS
445
too rapid exploitation of natural resources. The history of timber
lands in America furnishes an instructive example.
A still more important qualification of the statement that com-
petitive profit seeking works for the best interests of society,
viewed as a body of consumers, is found in the fact that when we
begin to speak of the interests of society, we introduce, of necessity,
the ethical point of view. This means that we must consider not
only the quantity, but also the quality of want-satisfactions. For
purposes of the economic analysis of market forces, we make no
distinction between different kinds of utilities, but it is impossible
to discuss social well-being without taking into account the fact
that from the point of view of the interests of society some kinds
of " utilities " are good and some are bad, and that even the better
kinds of want-satisfactions vary greatly in their importance, when
measured by any criterion of social welfare. The production of
socially undesirable things, such as intoxicating liquors, adulterated
foods, ill-ventilated tenements, etc., is often prohibited, while, on
the other hand, society has found that certain socially desirable
things, such as schools, parks, libraries, clean streets, etc.,
will not be supplied at all, or will not be supplied in sufficient
quantities by private business enterprise. All indications point to
a very considerable extension of organized social activity at pre-
cisely those points where the private pursuit of money profits
has proven itself inadequate.
Chance Gains. It often happens that an entrepreneur is able
to get profits on account of some unforeseen and purely fortuitous
circumstances. Such profits should not be confused with the
kind that have just been discussed, which vary with the foresight
and enterprise of the entrepreneur. Capricious changes in fashion
often bring temporarily high profits to dealers who happen to have
the right kinds of goods in stock, or to manufacturers who happen
to have the equipment needed to produce the right kinds of goods.
American farmers have profited at different times by the failure of
the European grain crop. Other examples will suggest themselves to
the reader. There are chance losses as well as chance gains, and
they are probably quite as numerous and important. Chance
gains, therefore, do not constitute any important part of the income
446 OUTLINES OF ECONOMICS
going to entrepreneurs as a class, but they are often a considerable
element in the profits of particular entrepreneurs.
Gains of Bargaining. We have seen in other connections that
the prices of commodities and services are in many cases fixed only
loosely by the forces of supply and demand. In the actual process
of bargaining, the shrewder party to the bargain may very often sell
for more than his minimum selling price, or buy for less than his
maximum buying price. Skillful bargaining swells the entrepreneur's
profits, first, by increasing the prices he gets for things, and second,
by decreasing his expenses of production. We have seen that in
bargaining with an individual laborer the entrepreneur usually
has an advantage that tends to increase profits at the expense
of wages an advantage which is at least partly lost when the
laborers resort to collective bargaining. In bargaining for the use
of capital funds, the entrepreneur is apt to know what the loan
is worth to him better than the lender does; but, on the other hand,
it often happens that the entrepreneur is put at a disadvantage
when the loan is a matter of necessity to him, but relatively a matter
of indifference to the lender.
Non- competitive Profits. All of the sources of profits men-
tioned above are based on circumstances which arise in the course
of ordinary competitive business. In any particular case their
magnitude depends on the managing ability, foresight, bargain-
ing skill, or good fortune of the entrepreneur. Moreover, of the
tendency of competition to eliminate all but minimum profits,
the continuance of surplus profits is only achieved, in general,
by continued endeavor on the part of the entrepreneur. In the
case of monopoly, however, the existence of profits rests upon a
very different ground the ability of the monopolist to control
the supply. This results normally, as we have seen, in a fixing
of monopoly price at the point that will yield the largest net profits.
Monopoly profits are not only apt to be higher than competitive
profits, but they are also apt to be more stable and permanent in
character.
It very often happens in non-monopolistic undertakings that the
entrepreneur who has developed his business to a profitable point
is able to attach some degree of permanency to his profits. A
PROFITS 447
merchant often relies to a very large extent upon the patronage
of an established clientele of customers, and in turn he may prefer,
other things being equal, to purchase his goods from particular
wholesale houses. When a business undertaking is sold as a
whole, its established connections of this sort enter into the deter-
mination of the price paid for it, under the head of " good-will."
This " good-will " element is generally measured by the difference
between the valuation of a business establishment and the valua-
tion of the specific assets (minus the specific liabilities) of the
business. In the sale of a newspaper it often happens that the
" good-will " of the enterprise (its established advertising and
subscription patronage) is the only thing actually transferred by
one entrepreneur to the other. Those more or less definitely
established kinds of profits which give rise to " good -will " values
must not be confused with monopoly profits. Monopoly implies
the absence of competition. " Good-will " profits are to be attrib-
uted rather to the imperfect working of competition, to the eco-
nomic inertia and friction which result from the fact that buyers
are guided to a very large extent by custom and habit rather than
by conscious choice. Moreover, in many small transactions, for cus-
tomers to attempt to buy always at the lowest price would result
in a waste of time and energy disproportionate to the gain. Hence,
aside from the influence of custom and habit, there may often be
rational ground for the continued patronage of particular establish-
ments which customers have found to be trustworthy.
" Good-will " is, in general, of most importance in retail estab-
lishments, where annual profits are apt to be made up of the specific
profits on a large number of relatively small transactions. In
the larger transactions of wholesale, jobbing, and manufacturing
establishments, the element of " good -will " is not entirely absent,
but the vigilance of expert buyers and the mere size of the ordinary
transaction (making even small differences in prices important)
tend to reduce it to a minimum. A noteworthy feature of modern
business, however, is the attempt on the part of manufacturers
and wholesalers to influence the demand of the ultimate consumers
of their products through the use of advertising. The trade-mark
privilege, which enables particular brands of competitively pro-
448 OUTLINES OF ECONOMICS
duced goods to be distinguished, is an important factor in the efforts
of such producers to gain and hold the patronage of the ultimate
consumers. The " good-will " of a large manufacturing establish-
ment thus comes to be in some cases as valuable a possession as
a monopoly franchise. Farmers, and other producers of standard
kinds and classes of goods, have small opportunity to acquire
" good -will " profits.
The Social Dividend. The significance of the statement made
in an earlier chapter, that the distribution of wealth is a matter
of valuation, should now be clear to the reader. But since the
detailed character of the analysis may make a broad and inclusive
view of this valuation process somewhat difficult, it will be worth
our while to bring together the more important conclusions we
have reached, and to try to see them from a somewhat different
point of view.
The social dividend is made up of the scarce and valuable things (com-
modities and services) that are of direct use in the satisfaction of human wants.
The process by which the claims of different individuals against the social
dividend are adjudicated is the process of the distribution of wealth. We
have seen that these claims rest upon various grounds. Some men give of
their own time and energy to the production of goods. Others permit the
use of the scarce and valuable natural agents (especially land) which they
own. Still others exchange part of their present claims against the social
dividend for future claims, thereby permitting part of the productive work
of society to be turned toward the creation of indirect goods, the use of which
operates, in the long run, to greatly increase the social dividend.
A unifying characteristic of these three different kinds of claims is the fact
that the wages of labor, the rent of land, and the interest on capital are simply
different forms of money income, paid for the services of land, labor, and
capital in the production of valuable things. The valuations which society
puts on the productive services of its members or of their productive goods
are determined through the activities of entrepreneurs.
The relation of the activities of entrepreneurs to the money incomes of the
members of society is twofold. On the one hand, the purchasing power of
consumers is derived from their money incomes, which in this way constitute
the means by which the demand for the entrepreneur's products expresses
itself. On the other hand, the money incomes received by laborers and by
those who supply capital and land are paid by entrepreneurs in return for pro-
ductive services. The wages, rent, and interest expended by any one entre-
preneur for these productive services are in turn paid over by the individuals
who receive them to other entrepreneurs in return for their products. There
PROFITS 449
is thus a continuous flow of money income through the hands of entrepre-
neurs, appearing first in the form of the prices that are paid for an entre-
preneur's goods, then emerging in the form of the rent, wages, and interest
that the entrepreneur pays for the service of the factors in production, then
reappearing in the prices paid for other goods, and so on in a continually
recurring cycle of income and outgo. 1
This process is made more complicated, however, by the fact that not all of
the entrepreneur's expenses appear directly as rent, wages, or interest. A con-
siderable part, and in many cases (as in mercantile establishments), the largest
part of such expenditures are for various concrete forms of capital, raw
materials, dealers' stocks of goods, machines, and the like. Here a part of
the money income received by the entrepreneur in the form of the prices paid
for his own goods emerges in the prices which he pays for the goods sold by
other entrepreneurs, and which, in turn, make up a part of their money in-
comes. But this other class of entrepreneurs who supply capital goods
rather than consumption goods are subject to the same necessity of ex-
pending their money incomes in the payment of wages, rent, and interest,
and in the purchase of different kinds of capital goods. To push the analysis
still further would obviously lead us only into needless repetition. One
important fact, however, appears clearly : If we could trace the expense of
producing any consumption good back through all the long series of services
and of production goods that have contributed to its making we would find
that this expense reduces itself, ultimately, to rent, wages, and interest,
not counting what remains in the entrepreneur's hands as profits. Part
of the "flow of money income" passes through the hands of a chain of
entrepreneurs, but it nevertheless originates in the prices that consumers
pay for the things that satisfy their wants and emerges in the form of the pay-
ments made for the productive services of land, labor, and capital.
Yet another correction must be made, however, to fit this picture of part
of the economic process more closely to the facts. The money which con-
sumers pay for particular commodities does not usually constitute the actual
fund with which the entrepreneur pays for the labor, the land, and the capital
goods used in the production of those commodities. Still less does it con-
stitute the actual fund from which the entrepreneurs who supply the neces-
sary capital goods pay their expenses, or from which the expenses of still
more remote stages in the process of production are paid. The roundabout,
indirect methods which characterize modern production, and which in-
volve the division of the productive process among countless different under-
takings, take time. The goods which consumers buy to-day are the result of
a long series of productive efforts extending back indefinitely into the past.
Similarly the productive efforts of to-day avail but relatively little toward the
1 To a very large extent, this "flow of money income" does not take the form
of the actual circulation of concrete forms of money. For the most part it takes
place through the creation and cancellation of credit obligations.
2 G
450 OUTLINES OF ECONOMICS
satisfaction of present wants, for they are in large part directed to forwarding,
often in the most indirect ways, the production of things that will come to a
final fruition in the satisfaction of human wants only in the more or less re-
mote future.
Viewed in this way the annual product of society is something very different
from the social dividend. The year's work is begun with an equipment of
economic goods of all kinds, finished goods in the hands of dealers and
manufacturers, goods in all stages of completion, growing crops, factory and
mercantile buildings, machines, and all the auxiliary apparatus of production
in a finished or unfinished state. The annual product includes all the ad-
ditions made to this stock of goods, and all that is accomplished in forwarding
such goods as are destined for human consumption towards the form, place,
and time in which and at which they are wanted. It includes all that is
done in a similar way to forward, replenish, and increase the stock of pro-
duction goods. It includes also all the personal services that command a
money payment which are not embodied in concrete goods, but which con-
fer their benefits in the very instance of their performance.
But while the productive efforts of society are thus constantly building up
and modifying the stock of economic goods, this stock is continually being
depleted in various ways. The instruments of production are constantly
wearing out, or are being cast aside on account of the introduction of either
more efficient appliances or more efficient methods which utilize other kinds
of appliances. Then, too, as the final outcome of this productive process
there is a constant stream of finished consumption goods passing into the
hands of consumers. The social dividend consists of this flow of consumption
goods, together with those direct personal services which do not have to do
directly or indirectly with the fitting of goods for human consumption, but
which nevertheless satisfy wants and command a money payment. While
the social dividend is to a large extent the outcome of past work and effort,
the annual product is very largely a provision for future wants.
What is the effect of all these considerations upon our analysis of the flow
of money income? It still remains true that the money which consumers
pay to entrepreneurs is in turn used by them in the payment of their expenses
of production, and that the money which they in turn pay to other entrepre-
neurs for various forms of capital goods are used in the payment of expenses
of production. But the prices consumers are paying are for goods, the ex-
penses of producing which have (at least in greater part) already been paid,
and some of them (such as the prices paid for some kinds of capital instru-
ments) may have been paid some considerable period of time back in the
past. If in turn we should trace back the expenses of producing the capital
goods used in producing these consumption goods our search would lead us
into the more remote past, while still further analysis of the expenses of pro-
duction would discover an increasing number of ramifications running back
into the still more distant past. The present flow of money income, original
PROFITS 451
ing in the prices paid by consumers, passes, as we have seen, through the
hands of a chain of entrepreneurs and in this process gets ultimately into the
hands of laborers, capitalists, and landlords. But most of the productive
services which are thus remunerated are services which will avail toward the
satisfaction of future rather than of present wants. In other words, the
prices paid for consumers' shares in the social dividend constitute (save for
an important exception to be noted presently) the fund which pays for the
annual product. The productive efforts of the past, which satisfy the wants
of to-day, were paid for out of past income, while the present work of producing
goods that will be ripe for consumption only in the future is paid for out of
present income. In this fact lies the explanation of the nature and necessity
of one of the various kinds of claims against the social dividend interest.
The outlays which entrepreneurs make in producing goods, so far as
they are paid before they receive an income from the sale of the goods,
are commonly called investments of capital. Not only, as we have seen,
does the entrepreneur invest capital in production goods such as machines
and buildings, but his purchases of raw materials, his advances of wages
to laborers, the interest which he pays on borrowed capital, and the rent or
the purchase price which he pays for land, are usually investments of capi-
tal. No such investments can be regarded as remunerative unless the
entrepreneur gets in the selling prices of his products enough to provide
interest upon such outlays as well as to cover the outlays themselves.
These facts were noted in connection with the discussion of interest in an
earlier chapter, but there, for simplicity's sake, the analysis was confined to
the capital expenditures of the individual entrepreneur. The full signifi-
cance of the r61e which capital plays in production does not appear until
we view the activities of the individual entrepreneur as only a link in the
continuous chain of activities that make up the productive process.
The point of special significance in this connection is the fact that the
finished products sold by some entrepreneurs constitute the capital goods
(raw materials, productive appliances, etc.) bought by other entrepreneurs.
When one entrepreneur sells his products to another entrepreneur his period
of "waiting" is completed, so far as his advances of capital funds in the pro-
duction of these particular units of goods are concerned. But the "waiting"
is only transferred to the other entrepreneur, who adds further expenditures
of capital and, in turn, gets his remuneration from the sale of his product.
The important conclusion to which this analysis leads is that (so far as the
entrepreneurs have been accurate in their estimates) the prices which con-
sumers are paying to-day for finished goods cover not only all the actual money
expenditures which have been made in the past in the production of these
goods, but also the interest on all such expenditures from the time they were
made up to the time of the sale of the finished goods to the ultimate consumer.
Similarly the expenditures made by entrepreneurs to-day in the production
of goods that will directly or indirectly satisfy future wants will (so far as
452 OUTLINES OF ECONOMICS
these entrepreneurs and those who will control the remaining steps in the
productive process are accurate in their estimates) be covered, together
with accrued interest, by the prices which consumers will pay in the future.
Present wants are satisfied by means of the productive efforts of the past.
These productive efforts were paid for out of past income, but the outlays
were made in the expectation that present prices would suffice to repay them,
with interest. A particular entrepreneur may be interested only in disposing
of his products at remunerative prices to the entrepreneurs who stand next
to him in the productive series, but this does not alter the essential nature of
capital investment, which, from the social point of view, is a cumulative pro-
cess.
The flow of money income which originates in the prices consumers pay
to the entrepreneurs with whom they deal emerges in the form of capital
expenditures, and so far as these take the form of the purchase of capita)
goods they constitute the fund from which other capital expenditures are
made by other entrepreneurs. The gross money income of entrepreneurs,
then, furnishes by far the most important part of the current supply of capital
funds, and the most important form of capital investment is the entrepreneur's
customary practice of "putting money back into the business." That this
way of investing capital is customary, even habitual, does not mean that the
amount as well as the particular forms of such investments is not a matter
subject to the discretion of the entrepreneur. So far as the entrepreneur
is not hampered by contracts (with customers, other entrepreneurs, money
lenders, landlords, or laborers) he is free to do as he pleases with his income.
As a matter of fact he is apt to devote a fairly constant proportion of it to the
replacement of the capital goods that are being used up or worn out and to the
other necessary expenses of continued production.
It rarely happens, however, in any undertaking, that income and ex-
penditure are so nicely adjusted and so evenly distributed through the year
that the one always suffices to provide for the other. A temporary surplus
may be followed by a temporary deficit. Transfers of goods on credit smooth
over some of these irregularities, while the institution of banking provides
a mechanism whereby the temporary surpluses of some entrepreneurs
are made use of in meeting the temporary deficits of others. Moreover,
while the entrepreneur need not continue to renew his capital investments
unless he chooses, he is at liberty to do even more than this if he deems it
advisable. That is, his profits the excess of his gross income over and
above his current and normal capital expenditures may be used for ad-
ditional capital expenditures.
Still another source of capital funds is found in the rent, wages, and interest
into which, as we have seen, the expenses of production ultimately resolve
themselves. For so far as these forms of income are saved, rather than ex-
pended immediately for consumption goods, they may be loaned directly
or through savings institutions to entrepreneurs for productive employment.
PROFITS 453
This is the important exception, previously mentioned, to the statement
that " the prices paid for consumers' shares in the social dividend constitute
the fund which pays for the annual product." The truth is that as the flow
of money income passes from entrepreneur to entrepreneur, a part only,
although the larger part, is put into productive expenditures. The residuum
is used by entrepreneurs in paying for their own shares in the social dividend.
In much the same way the money incomes received by those who furnish
labor, land, or capital is only in part paid back to entrepreneurs in return for
consumption goods, the residuum being put (through loans to entrepreneurs)
into productive expenditures.
It will be seen, then, that as the flow of money income passes through the
hands of entrepreneurs, laborers, capitalists, and landowners, it is divided
into two streams, one of which goes to pay for the present goods that have
been produced in the past, while the other goes to pay for the present expenses
of forwarding the production of goods for future consumption. This division
represents a kind of social balancing of possible present satisfactions over
against the larger future satisfactions which the productive use of capital
makes possible. On the one hand we have the entrepreneurs' estimates of
how much specific amounts of capital funds are worth to them, estimates
which involve judgments as to the amount of product dependent upon the
use of these specific amounts of capital funds, the prices that can be got for
such products, and the period of time that will elapse before they will be re-
munerated for such investments. On the other hand we have the estimates
of those who supply capital funds as to the relative importance of future
and present wants. The interest rate will normally be fixed, of course,
at a point where the supply and demand of money capital will be in equi-
librium.
In dividing his capital expenses between labor, land, and capital goods
the entrepreneur will again be influenced by his estimates of how much the
use of specific quantities of each of these factors in production will add to his
money income. Here he has to reckon with the fact of diminishing produc-
tivity. He can get the same amount of product from different combinations
of land, capital goods, and labor, but the larger the proportion of his expendi-
tures he devotes to any one of these things (labor, for example), the smaller
will be the increment of product dependent upon any one unit of it (any one
laborer, for example). The most economical combination of labor, capital
goods, and land is reached, of course, when the marginal expenditures for
each add equal quantities to his product. All this, however, was discussed
in detail when the activities of the individual entrepreneur were taken as
the point of departure for the analysis of distribution in an earlier chapter.
When we take the social point of view, so that production is made to appear
as a cumulative process of capital investment, the expenses for capital goods
become reduced to the more fundamental expenditures of rent, wages, and
interest, involved in the production of such goods. In this view capital goods
454 OUTLINES OF ECONOMICS
might, by a legitimate figure of speech, be said to be embodied rent, wages,
and interest.
The social process of production involves the expenditure of rent, wages,
and interest for returns of all possible degrees of futurity, and a consequent
comparison and balancing of the productivity of investments for shorter and
longer periods of time. That is, social estimates of productivity are estimates
of the value of the amounts of the ultimate products, realizable at different
periods of time in the future, that are dependent upon specific present ex-
penditures in the form of rent, wages, or interest. Or, in other words,
there is a continuous effort to make the most profitable of all the various
possible combinations of land, labor, and waiting. For just as rent, wages,
and interest are the ultimate expenses of production, so the ultimate factors
in production may be said to be land, labor, and waiting.
The money incomes which individual laborers, landlords, and capitalists
receive, and which constitute the claims (or, more accurately, the potential
claims) against the social dividend, are determined by this social estimate of
the specific amounts which they add to the value of the annual product, or,
ultimately, to the value of finished products. Here again, on account of
the law of diminishing productivity, the marginal product of land, labor, or
waiting is the measure of the specific product attributed to a unit of land,
labor, or waiting.
It must be remembered, however, that marginal productivity does not
depend alone on the technical efficiency of labor, the fertility and accessi-
bility of land, and the greater technical or physical productivity of the
roundabout, indirect methods which waiting makes possible. 1 It also
depends, just as fundamentally, upon the amount and elasticity of the supply
of land, labor, and waiting. It has been shown in earlier chapters that the
conditions of supply are very different in the case of each of the three factors
in production. No account of the distributive process can be complete that
does not lay special stress on these differences, for these are the things that
become of most importance when economic theory is utilized in the untan-
gling of the practical social problems growing out of the distribution of wealth.
Moreover, we cannot insist too strongly that the statement of the tendency
toward an equality of the specific product attributable to a unit of land,
labor, or capital funds and the price paid for its use is, after all, only an
illuminating way of stating the real problem of distribution. Just as marginal
1 Whether roundabout, indirect methods of production are inherently more
efficient (that is, whether they necessarily yield a larger product with the use of
a given amount of labor and land) has been recently a matter of debate among
economic writers. The fact that a process is roundabout does not in itself make
it more economical. But that many roundabout processes are economical is proved
by the simple fact that entrepreneurs find it profitable to use them. This fact
is all that is needed to establish the importance of the greater technical produc-
tivity of indirect, time using methods of production for the theory of interest.
PROFITS 455
utility is at the same time the cause and effect of price, so marginal produc-
tivity is at the same time the cause and effect of wages, rent, and interest.
From one point of view it is seen that the competition of producers makes
it necessary that specific units of land, labor, and capital should get a reward
proportionate to the value of the amounts which they contribute to the social
dividend; from another point of view it is equally clear that the necessary
expenditures for land, labor, and capital are, in the long run, potent factors
in determining the value of the things that make up the social dividend.
Furthermore, we are apt to forget that the word "productivity" as used in
economics (and generally in current discussions of economic topics) has a
distinctly limited meaning. To digress for a moment in order to make the
point clearer : In the theory of consumption we emphasize the fact that
many of the most important human wants are satisfied by "free goods,"
which, simply because they are free, lie outside the proper field of economic *
investigation. But the enjoyment of these free goods is usually dependent
upon the possession of economic goods. Air is a free good, to any one
who can demand the economic goods necessary to life. The glorious scenery
of the Alps is a free good, to any one who can afford traveling expenses
and hotel bills. In general, the enjoyment of many of the finer pleasures
of life, involved in the common human relations of an individual to his physical
and social environment, are "free," but free only to the individual who can
afford the leisure and the economic goods without which many of these
"free" pleasures are impossible.
For present purposes, however, the important point is that there are free
production goods as well as free consumption goods. Nature furnishes some
of these. The oceans and lakes furnish free pathways for commerce ; natural
forces of all kinds are freely utilized by men in the work of production. As
was pointed out in an earlier chapter, we do not call these things productive,
because no part of the annual product is dependent on the utilization of any
particular unit of them. In this technical sense the wind is not productive,
but win dmills are. In order to utilize the ocean we have to invest capital
in vessels and docks. We have to impute productivity to these things be-
cause they will not be furnished unless it is estimated that they will yield a
remunerative income, and because the annual product will obviously be
reduced if they are not furnished. But we would have to impute productivity
to the Strait of Gibraltar if England were able to charge a toll for its use !
Somewhat analogous to these "free productive goods" is society's fund
of accumulated knowledge of productive methods, the heritage of centuries "
of economic evolution. This accumulated industrial experience is an in-
finitely more precious possession than the existing store of productive goods.
Compare the productive possibilities of a community of men possessing this
knowledge, but forced to begin work absolutely without a ready-made stock
of capital goods, with those of a tribe of savages suddenly and miraculously
equipped with all the productive appliances of modern civilization. Yet this
456 OUTLINES OF ECONOMICS
vast fund of productive knowledge, so far as it is common property, is not
thought of as "productive." The social dividend is continually being in-
creased as a result of the discovery of new natural forces, or new ways of
harnessing and utilizing natural forces. Secrecy or government patents make
it possible for those who first introduce these new methods of production to
reap an income from the temporary advantage it gives to them as producers.
For the time being these new methods themselves have to be regarded as
"productive," although they contribute much more to the increase of the
social dividend after they have become matters of common knowledge and
use, and hence have ceased to be called " productive." * Disinterested scien-
tists, especially those in the employment of the government or of universities,
have often given the results of their improvements in industrial methods
freely to the world, thereby swelling the social dividend, but not reaping
for themselves the pecuniary reward which goes to those who patent their
improvements and thereby render them "productive." Moreover, many of
the world's greatest advances in the technique of production have been
made possible only by the patient researches of investigators in the " unpro-
ductive" field of pure science, working solely for love of the work, and with-
out hope of pecuniary reward. 2
We impute productivity, in the technical economic sense, only to goods or
services which are the objects of property rights or of analogous rights of con-
trol, such as a man's power to dispose of his own labor. The fact is that
just as the benefits of free consumption goods are bound up with the posses-
sion of larger or smaller quantities of economic goods, so the utilization of
free productive agencies is possible only in combination with labor, waiting,
and scarce and appropriable natural objects, and these have to be paid for.
We harness natural forces for the work of production, but we impute prod-
uctivity only to the harness. We continually learn better and better methods
of doing our productive work, but we impute productivity only to the ex-
penses involved in utilizing these methods, not to the methods themselves.
It is important that the reader should see the truth in the statement that
the laborer, the landlord, and the capitalist get paid in proportion to their
respective products. It is equally important that he should see clearly that
there are definite limitations to the meaning and significance of the statement.
QUESTIONS
i. Is there a sense in which speculative profits can be said to be a reward
for productive services? If so, should they be counted among the expenses
of production?
1 The discussion of the social dividend in the preceding page relates only to
" normal " or purely competitive production and distribution, and no account
has been taken of the "productivity" of monopoly rights.
* See a note on this point in Merz, History of European Thought in the Nine-
teenth Century, Vol. I, p. 92. The list there given could be greatly extended.
PROFITS
457
2. Is good- will capital?
3. Analyze the effect of an increase of expenditures for present goods upon
present and future social dividends.
4. If money wages could be suddenly increased 10 per cent would there
be a corresponding increase in real wages ?
5. Monopolists sometimes curtail their output in order to increase its
total value. Should this be called productive?
REFERENCES
CARVER, T. N. Distribution of Wealth, Chap. VII.
MARSHALL, ALFRED. Principles of Economics, 4th ed., Book VI, Chaps.
VII and VIII.
HAWLEY, F. B. Enterprise and tfte Productive Process.
TAUSSIG, F. W. Wages and Capital, especially Chap. III.
VEBLEN, THORSTEIN. Theory of Business Enterprise, Chap. III.
PART VI
THE RELATION OF THE STATE TO INDUSTRY
CHAPTER XXVI
NECESSITY OF STATE ACTIVITY
The State and the Meaning of State Activity. Without going
into the question of what constitutes a State, it will answer our
purpose here to notice the extent of the conception as we use it.
We in the United States are familiar with many kinds of govern-
ment. When we speak of " the government," we generally mean
the federal government, with its seat at Washington. Then comes
the state government, then the city, the county, the township,
and the school district. Each of these has its own governing to
do, and is backed up in the doing of it by all the governments
superior to it. Now, it is entirely an accident with us that out of
these half dozen forms of government only one, and that not the
highest, is known as the state. In most countries the govern-
mental divisions most nearly corresponding to our states are known
by some other name departments, provinces, etc. When we
use the term in the present work we never mean a state in our
American sense unless that meaning is specified, but any society
acting through government. Local governments are, of course,
only branches of the main government. So, when a school district
hires a school-teacher, or a township mends a road, or a city builds
waterworks, or a " state " builds a penitentiary, or the federal
government builds a post office, all these are State activities in the
scientific sense of the word. So, too, when we speak of State
intervention we may be talking about the township or the city
or the general government. These are only different ways of
458
NECESSITY OF STATE ACTIVITY 459
exercising one and the same kind of power that of organized
government.
State and Government. We use the word " State " then, in
its generic sense. The term " governmental activity " is some-
times employed but it is less desirable. The word "government"
suggests to the ordinary mind a power apart from and superior
to the people a restraining, repressing, punishing power;
whereas the modern concept of the State is that of a cooperative
institution. To those not still bound by eighteenth century tra-
ditions, the modern State signifies people working together. The
laissez-faire theory of the State is compatible with the idea of State
merely as government. Those under the influence of this theory
oppose the economic activity of the State on account of the educa-
tional value of private activity, not stopping to reflect that in
democracy the things that are done are done by the people and
not by an external power. It is not to be assumed without exami-
nation that the management of a public waterworks has an educa-
tional value to the people at large inferior to the educational value
of the management of a private waterworks. Critical examination
and observation will show that the advantage is not wholly with
either side, but that each form of enterprise has its own educa-
tional value. Public enterprise educates in economic affairs more
extensively; private enterprise more intensively.
Purity and Efficiency of the State in Relation to its Economic
Activities. The distinction that we have made between repres-
sive government and the cooperative State is especially important
to us, as it is in the economic sphere that the State becomes most
prominent as a cooperative concern. When our forefathers in
the eighteenth century looked upon the State as a repressive agency
and at the same time had an exaggerated belief in human per-
fectibility, they thought of the State as gradually dwindling away.
They entertained what is called the night-watchman theory of the
State. It is now clear, however, that if the repressive powers of
the State dwindle, its cooperative features must increase precisely
in the same proportion. As men improve in character their
fitness to act together, increases. The French philosopher, Montes-
quieu, more than one hundred and fifty years ago, laid down as
460 OUTLINES OF ECONOMICS
a general principle that liberty invariably increases taxes. For
a similar reason the purity and efficiency of the State always
increase its economic activities.
We are not considering here primarily the political functions
of the State. The importance of preserving law and order in the
old restricted meaning of those terms is taken for granted. All
the activities of the State naturally have their economic side; and,
when there is a marked disturbance of law and order we appreciate
the fact that its maintenance is, after all, fundamental in economic
life, as it is in other departments of social life. All this, however,
is treated in political science, and need not detain us here.
General Statement of the Necessity of State Activity. The
experience of the last century throughout the entire civilized world
has convinced men that oppression and restriction are found,
not only within the framework of government and because of
government, but outside of government and in spite of govern-
ment. World-wide experience has shown that to secure freedom
it is necessary to regulate those economic relations upon which
our very life depends. Production has become a social process
and so has distribution; and social processes can be controlled
only socially. But " social " in this sense does not necessarily
mean state or governmental agencies. A great corporation is a
social agency, so is a trade union, a consumers' league, or a charity
organization society. But the supreme control is State control,
and this alone is all-pervasive and in its very nature' acts in the
interest of all. It is a perversion of a private corporation when
it does not act in the interest of the few who form it; it is per-
version of the State when it acts in the interest of the few and not
of the many. Thus we see in broad, general outlines the neces-
sity for State activity in the economic life.
The State and the Fundamental Economic Institutions of
Society. We may trace out the necessity for State activity very
briefly along a few lines. First, we will take up the institutional
field. The State establishes great fundamental institutions of
society, such as property and contract, already discussed in Chapter
II. Without the State we may have possession; it is only through
the State that possession becomes property. Without the State
NECESSITY OF STATE ACTIVITY 461
we may have agreement enforceable by the strong right arm of an
interested party. The State steps in and makes agreements
enforceable by its authority and they become contracts. The
fundamental institutions of society are a matter of growth and are
in a state of flux. They change more or less from time to time and
from place to place. The inheritance of property has as many
different regulations as there are States in the world. Every
modification of any one of the fundamental institutions modifies
economic life in general and the distribution of wealth in particular.
As society becomes closely knitted and compact, the necessity
of understanding the significance of the regulation of the funda-
mental institutions becomes increasingly apparent. If society
is to be prosperous in all its members, we must have before us
clearly a goal which we wish to reach and so shape our institu-
tions as to enable us to reach the desired end. This does not mean
any acceptance or arbitrary construction of Utopias, inasmuch
as human nature has to be taken account of and the fact that it
has been molded by past institutions and the past modes of pro-
duction and exchange. It does mean, however, that we must use
the same intelligence in constructing our economic policies that
we do in constructing our private business policies.
Property, Private and Public. The right of private property
is one so fundamental in our modern life that we scarcely think
of it as a creation of man maintained by constant vigilance
on the part of the State and subject to human modification. Still
less, perhaps, does it seem to us a right open to question. It
seems like bed rock, an ultimate right, needing no other justifi-
cation than its own obviousness. It we feel thus, however, about
the right of private property or ownership it is only because we are
dominated by present and local customs rather than by the facts
of history or reason. We do not intend to impeach the right of
private ownership, but it is a right which may as fairly be called
in question as any other and must justify itself in the same manner.
When a custom has obtained very widely and is deeply rooted in
human life there is often a tendency to claim it as a " natural
right." By a natural right men usually mean a right which is
arbitrary, which is a right because it is a right, and " That's all
462 OUTLINES OF ECONOMICS
there is about it." There are no such rights. All true rights are
rational rights, rights which can show good reason for their claims
and can justify their existence on the ground that they promote
human welfare.
There is no possible basis of human right except human
welfare. To claim that certain rights are ultimate without refer-
ence to their effect on society is to beg the question, and has been
well characterized as " dogmatism in disguise." It is characteristic
of unscientific and superficial thought to talk much of natural
rights, and it is an encouraging sign that in our day such rights are
subjected more and more to searching scrutiny. It is, therefore,
as scientists rather than as iconoclasts that we should inquire into
this time-honored right of private property.
1. Beginning of the Right. Looking back into history we
discover first that private property did not always exist. The
savage at first owned nothing. Doubtless when he had caught
or killed an animal he considered it more or less his, though even
here it was the common property of the family or tribe rather than
his own. Beyond this there were no property rights as we now
understand them. Doubtless there were struggles for the pos-
session of hunting grounds, but the victor's sense of ownership or
right was little better developed than that of a victorious lion or
buffalo. From these insignificant beginnings the right or sense
of ownership has grown, including more and more articles and
dividing up the ownership more and more, until at last nearly
everything is owned and nearly everybody owns something. Not
until the agricultural stage did land become property, and the last
forms of tribal ownership have not yet everywhere disappeared
before individual ownership.
2. Strengthening of the Right. The next thing that impresses
us is that private ownership has not always been so extensive or
so exclusive as at present. We have seen already that the insti-
tution of private property has been extended to many things which
were at first free goods. It is equally noticeable that the right of
ownership has grown in intensity and exclusiveness. This is
especially marked in the case of individuals whose claims as op-
posed to those of the tribe were at first slight and vague; but they
NECESSITY OF STATE ACTIVITY 463
gradually grew, especially in the case of the chieftain, until tribal
or communal rights broke down before them. The time was
when a Scottish clan had absolute right to the territory they
occupied, and no chieftain, however powerful, could have abridged
that right. Now there are beautiful tracts of country in Scotland
which are almost denuded of their agricultural population because
the owners, the descendants of these same chieftains, have pre-
ferred to raise game rather than men on their estates. All are
familiar with the general liberty allowed in this country of hunting
and fishing on private estates, which in Europe is unheard of.
Slowly, however, we are beginning to extend our claim to game
and fish also, and this leniency of ownership is disappearing.
The nature and extent of these changes in private property must
be controlled by the State in the public interest. How far inter-
ference with the right is justified cannot be discussed in general
terms: such a discussion must deal with the specific problems of
municipal ownership, railway regulation, and innumerable others.
The point to be emphasized here is that in solving such problems
the mere fact that a proposed solution restricts or enlarges the
right of private property cannot itself be given much weight.
Trade-Marks, Copyrights, and Patents. Closely connected
with the general subject of property is a legal arrangement
whereby exclusive privileges are awarded in return for ser-
vices to society. These privileges become a special form of pri-
vate property, and have particular significance in the distribution
of wealth, although they are not without importance in the pro-
duction of wealth on account of the stimulus which they give to
improvement.
Trade-marks come under this head. They give property in a
design which characterizes the product of a single undertaking,
as an individual manufacturer, a firm, or a company. It is alto-
gether desirable that those who, by the superiority of their wares,
establish a reputation should be protected from that contemptible
class who, without energy or initiative of their own, attempt to
steal the fruits of the exertions of others. It encourages a pro-
ducer to establish a reputation to know that he can distinguish his
goods by a design which others may not imitate.
464 OUTLINES OF ECONOMICS
Copyrights and Patents. Government creates exclusive privi-
leges by copyright and patent laws; but this is done professedly
in the interest of the general public, and not of any favored class.
Authors and inventors are granted exclusive rights in their pro-
ductions for a limited period. This monopoly is considered a fit
reward for valuable public services. Copyrights and patents have
been objected to as interferences with natural liberty, but they
appear to have justified themselves in the stimulus which they have
given to authorship and invention. It must, however, be remem-
bered that all intellectual effort is an historical product. The
telephone, for example, did not spring from the mind of one man,
as Minerva from the head of Jupiter. The telephone was preceded
by a century of scientific invention and discovery, most of it poorly
enough remunerated. The telegraph was, similarly, the result
of generations of careful, plodding industry of scores of men.
Professor Henry, of Princeton College, whose services in connection
with the completion of the telegraph were most distinguished, con-
scientiously refused to take out any patent. It also happens that
several persons almost simultaneously and independently made
the same discoveries and inventions. Now, if the man who makes
the finishing touches which lead to utilization of a long line of
work alone is rewarded, it is like paying only the workman who
put the roof on the house. It is not generally understood how
serious an interference with liberty patents are. A man who has
a patent is allowed to say to all the rest of the world, " Because I
have first done such and such things you must not do them."
Yet there may be those who, about the same time, without any
knowledge of him, had found out how to do them. When a prin-
ciple existing in nature is allowed to be patented, and not merely
the application of the principle, the interference with liberty be-
comes still stronger. The practical conclusion is somewhat like
this: Patents, like copyrights, are beneficial. Experience seems
to warrant this assertion. Patents do not, however, rest on so
strong a basis as copyrights, because no two persons could ever
write precisely the same book, and the fact that I have written
a book in no wise keeps you from writing any book you please.
Yet even intellectual effort is largely a social product. No great
NECESSITY OF STATE ACTIVITY 465
author gives the world what was merely evolved out of himself.
On the contrary, such a one lets an age speak through him. The
principle which should govern copyrights is a clear one. It is to
give an author reward for his services, not to give persons a reward
for services which others have performed. As has been well said,
were not copyrights limited we might now have a " Duke of Shake-
speare," deriving a large income from the services of a man who
lived three hundred years ago.
Patents should not be granted on light and trivial grounds, and
the period for which they are granted ought to be strictly limited,
and subterfuges for the evasion of this limitation ought not to be
suffered to succeed as at present. Moreover, owners of patents
ought .to receive their patents on conditions which will compel
them to use them or allow them to lapse; also, to grant to others
the right to use the patent on payment of a reasonable royalty.
It has also been found beneficial in some countries to lay an annual
and perhaps slightly progressive tax on patents, so that those
which are not important or not used may not interfere with indus-
trial progress, for it is a condition that non-payment of the tax
works forfeiture of the patent. Laws ought also to be changed so
as to prevent such an abuse of patents as we have frequently wit-
nessed in our rural districts, where farmers have been induced to
infringe patents unwittingly in order that damages might be
collected from them. The suggestion of a former commissioner
of patents, that the right of purchase of a patent be reserved by
the United States, is to be commended. Our patents at the
present time promote monopoly, and in some cases interfere
seriously, it is to be feared, with manufactures. The patent
laws require to be simplified and amended and their abuses re-
moved. At the same time reward should in some way always be
provided for those who make valuable inventions.
Public Property. Public property operates to diffuse wealth;
this is in its very nature. We may contrast, for example, the post
office in the United States, which has given rise to no large fortunes,
with the railways in the United States, which have been the source
of many mammoth fortunes. On the other hand, when the post
office has been a private institution, as it was for centuries on the
2 H
466 OUTLINES OF ECONOMICS
Continent of Europe, it was a source of enormous fortunes. There
are very many aspects of public and private ownership, but their
respective influence upon the distribution of wealth is of growing
importance and is destined to occupy the increasing attention of
economists and publicists. The relations of public to private
property will be shaped with reference to the prevailing ideas of
wealth distribution.
Inheritance of Property. As Blackstone stated so clearly
in his Commentaries on the Laws of England, and as we have
already seen in Chapter II, the inheritance of property is a different
fundamental institution from the right of property. The laws
governing the inheritance of property determine to whom the right
of property shall pass. 1 These laws of inheritance, as already
stated, are constantly undergoing change, and have as many dif-
ferent forms as there are authorities regulating inheritance of
property. That which seems a mere natural right at one time
seems a natural wrong at another, as illustrated in the changing
ideas and practice concerning the share of a father's estate to be
inherited by the oldest son. The laws of inheritance are of prime
force in the distribution of wealth, and every change in them modi-
fies the distribution of wealth. In a society becoming increasingly
self-conscious, it is necessary to regulate inheritance in accordance
with those ideas concerning the diffusion of property which are
accepted as the best.
Contract. Unregulated contract cannot be free in any real
sense of the term because back of contract lie all the inequalities
and injustices found in human society. Contract can be free and
equal only when the men making it are free and equal. We have
in consequence the necessity of regulating contract in the general
interest; and this is recognized in every country in the civilized
world. It is especially marked in labor legislation, where the lais-
sez-faire theory has utterly broken down. Where the processes
of production are social, an individual cannot regulate individually
those relations which are determined by contract. The hours of
1 We use the term "inheritance" in its broadest sense, not distinguishing it from
"bequest." It includes all those arrangements which determine how property
shall pass from one generation to another.
NECESSITY OF STATE ACTIVITY 467
labor, for example, are socially determined. An employee in a
great manufacturing establishment has his hours determined first
of all by his immediate employer. If he does not accept these
hours, he must quit work. The employer may be a great corpora-
don, but even in that case the employer himself has only a limited
power in determining the length of the working day, inasmuch as
he has to produce goods and services in competition with others,
and he likewise must have regard for general conditions. These
general conditions must be determined legislatively and admin-
istratively. Even a modern nation like France does not find itself
wholly free, and has thought it necessary to make an international
treaty with Italy to determine conditions of toil both in Italy and
in France. This treaty, dated April 15, 1905, marks a great epoch
in the history of labor legislation. It was the first of its kind in
the world's history, but has been followed by others. It shows
the anachronism of those who say that men, women, and children
must be allowed to work as many hours as they please. They can
do what they please only as they work socially and bring their
social will to bear upon individual conditions. This was conceded
first of all with respect to children. Later, after much resistance,
it found recognition in the case of women. Men, on account of
their greater physical strength and their superior economic effi-
ciency, especially in organization, are better able to regulate their
conditions of toil individually and through organizations, but all
the best authorities now recognize that there are many cases in
which it is necessary to regulate the labor contract of adult men.
Ethical Level of Competition. One of the main lines of activ-
ity of the State in economic life consists in regulating the ethical
level of competition. One of the great morements of our times
consists in the effort to remove the evils of competition, not by its
abolition, but by its ethical regulation. When it is forbidden
manufacturers to employ children, competition exists, but the ethi-
cal level is raised. An almost endless number of illustrations is
afforded by the legislation in our own and other countries during
the past generation. Pure food laws afford the most marked recent
illustration.
The Consumer. John Stuart Mill recognized that there were
468 OUTLINES OF ECONOMICS
many cases in which the consumer could not determine the qual-
ity of the commodities offered him by the producer, and this
was treated by him as one of the exceptions to the general rule
of governmental non-interference. He instanced education as a
case in which the greater the need of the consumer the less his
capacity to pass judgment upon the kind of education offered.
We have seen during the past fifty years a continually widening
field of State activity to protect the consumer in these cases in
which he cannot protect himself. This growing activity of the
State is recognized by modern civilization as a necessity. It now
embraces the inspection of food products, and it has been demon-
strated conclusively that very generally the consumer is unable
to pass judgment upon the quality of the food which he purchases.
He is unable to detect the presence of even most injurious poisons.
It is seen that the public health is involved in this sort of economic
activity. After long resistance to food inspection and certification
in the United States, the first concession was made on account of
foreign pressure. Germany, in particular, was unwilling to receive
our meats until they had been inspected. A growing movement
in favor of protecting the consumer has found its culmination in
the Pure Food Act passed by Congress in 1906.
As John Stuart Mill so well said long ago, we can draw no arbi-
trary line or ring fence around the activity of government. In
every case it has to be determined by considerations of public
utility.
Monopolies, Government Ownership, etc. Wherever competi-
tion is absent, there is necessity for State activity which must take
the form of public ownership and operation or of control of cor-
porations. This subject, however, has been discussed in another
chapter.
The State the Guardian of the Permanent Economic In-
terests of Society. The State is conceived of as having im-
mortality. No definite limit can be placed to its life, and all its
plans must be made with reference to perpetuity of existence.
Were any public policies to be framed on the hypothesis of the
decay and death of the State, it would indicate in itself an almost
inconceivably deplorable condition of society. It is therefore
NECESSITY OF STATE ACTIVITY 469
necessary that the State, as the representative of all the members
of the body politic and of all generations, should particularly care
for permanent interests. It alone has the nature and the power
equal to this task.
This proposition finds most clear illustration in forestry. With-
out going into other technical details, the mere fact that rational
forestry requires plans to be made for perhaps one hundred years
in advance makes it difficult for private persons to safeguard our
interests in this particular. The experience of the civilized world,
that of the United States included, shows conclusively that only
large State activity, including a great deal of public ownership
and management, can provide adequately for our varied forestry
needs. Federal government as well as our separate common-
wealths have made a good beginning, but it is only a beginning;
and in floods and drought we suffer average annual losses of
many millions which would have been obviated had we begun
our activity earlier and carried it on more extensively.
The same principles apply in large measure to our great natural
resources, such as coal and iron, and our vast water power. The
conservation of our natural resources for the general good " for
and by the people " is one of the greatest economic problems
of the day.
QUESTIONS AND EXERCISES
1. Why do we speak of the economic functions of the State rather than of
government ? Is this distinction merely convenient, or is it absolute ? Do
you feel that you are governed by the post office ? How do you help make it
a cooperative institution?
2. Mention any illustrations of the propositions that purity and efficiency
of the State increase its functions.
3. Would your personal freedom be increased if the economic activities
of the state, city, or town in which you live were decreased ?
4. Why is it necessary that the State should be active with respect to prop-
erty and contract? Does unregulated labor contract mean servitude and
oppression ? If so, why ? If not, why not ? What is the significance of the
fact that modern approximations to slavery rest upon contract nominally
free? Discuss this proposition: "There is no greater inequality than the
equal treatment of unequals." If a woman works fourteen hours a day in
a sweat shop, is her contract to do so an expression of her freedom ?
470 OUTLINES OF ECONOMICS
5. Do copyrights interfere less with industrial liberty than patents? If
so, why ? Would it be unjust to refuse to grant patents hereafter ? Would
it be inexpedient ? Why ?
6. Contrast public property with private property in its effects (a) on the
production, (b) on the diffusion, of wealth.
7. Explain the reasons for the increase in public activity in the inspection
of food products. What evils and what benefits of this public activity have
fallen under your observation?
8. What other kinds of State activity are discussed in this chapter ? Give
the reasons for each.
REFERENCES
ADAMS, H. C. " Relation of the State to Industrial Action." American
Economic Association Publication, 1887.
Agricultural Department. Year Book.
Annual Reports of the United States Commissioner of Patents, especially the
Report for 1888.
Reports of the Wisconsin Dairy and Food Commission.
CHAPTER XXVII
TRANSPORTATION
Scope and Significance. A complete study of transportation
would include a variety of subjects, as is seen from the following
outline:
I. Transmission of Ideas.
(1) The Post Office.
(2) The Telegraph.
(3) The Telephone.
II. Land Transportation.
(1) Steam Railways.
(2) Interurban and City Railways.
(3) Vehicles on the Common Roads.
III. Water Transportation.
(1) Ocean.
(2) Inland.
a. Canals.
b. Rivers.
c. Lakes.
Transportation may be studied from a number of points of view,
all of them closely related. It presents its peculiar problems to
the engineer, to the lawyer, to the accountant, to the business
manager, to the historian, and finally to the economist. The
economist studies the relations of transportation to other indus-
tries and to the public welfare. The heart of the subject from
this point of view is the question of rates and fares.
Transportation is most intimately related to the other branches
of industry. Hardly anything can be produced without the
472 OUTLINES OF ECONOMICS
participation of some transportation agent. Modern industrial
civilization would be impossible without an efficient system of com-
mercial intercourse, although to be sure the dependence is not one-
sided, but is mutual, for present methods of transportation clearly
would be impossible without our industrial progress. The in-
fluence of cheap carriage is especially important in the fact that
it promotes an extensive division of labor by widening the market.
It permits each region to devote itself to that line of production
for which it is best adapted.
In the present chapter, railway transportation alone will be
considered, although the subject of water transportation is as-
suming increasing importance in the United States. We are
beginning to realize that the reaction against the early canal
mania has been too great. Canal and river improvement, how-
ever, should be urged, not on the general ground that water
transportation is cheap, but only where in specific instances it
can be proved to be as advantageous as rail transportation when
all of the elements of expense are taken into consideration.
Nor should canal building be advocated as a means of controlling
railway rates. If we wish to regulate the charges of private
carriers, a commission of trained men is the best device we have
yet discovered.
The Railway System of the United States. The aggregate
length of railway mileage on June 30, 1906, was 224,363 miles.
The most important states with respect to length of line were
Texas, Illinois, Pennsylvania, Iowa, and Ohio. In number of
miles of line per 10,000 inhabitants, the leading states or territories
were: Nevada, Arizona, Wyoming, New Mexico, and Montana,
but in number of miles of line per 100 square miles of territory,
the lead was taken by the District of Columbia, New Jersey,
Massachusetts, Pennsylvania, and Ohio. The foregoing refers to
the length of road without regard to the second, third, or fourth
tracks. To operate this mileage the railway companies employ
about 3^ per cent of the persons engaged in gainful occupations
in the United States. The numerical strength and average
daily wages of each class of employees is given in the following
table :
TRANSPORTATION
473
TABLE I
CLASSIFICATION or EMPLOYEES 1906
CLASS
NUMBER
AVERAGE DAILY
COMPENSATION
General officers 6,090
Other officers 6,705
General office clerks 57i2io
Station agents 34,940
Other station men 138,778
Enginemen 59,855
Firemen 62,678
Conductors 43,93^
Other trainmen 119,087
Machinists 5 X 2 53
Carpenters 63,830
Other shopmen 199,940
Section foremen 40,463
Other trackmen 343,791
Switch tenders, crossing tenders, and watch-
men 49,659
Telegraph operators and dispatchers 36,090
Employees account floating equipment. .. . 8,314
All other employees and laborers 198,736
Total 1,521,355
Sn.8i
5-82
2.24
1.94
1.69
4.12
2.42
3-5i
2-35
2.69
2.28
1.92
i. 80
1.36
1.80
2-!3
2.IO
1.83
The amount of passenger service in a year is sufficient to give
every man, woman, and child in the United States a journey of
over two hundred miles, and the amount of freight reported as
carried (originating on line) is more than ten tons for each inhab-
itant (1900). The mileage of empty freight cars is nearly half
as large as the mileage of loaded freight cars.
In 1906 there were 1287 operating roads in the United States,
of which 1007 were nominally independent. Nine tenths of these
lines are less than 250 miles in length, and represent less than a
fifth of the total mileage. On the other hand, the fifty largest
roads control about two thirds of the total mileage.
Railway Competition. The early roads were short, independ-
474 OUTLINES OF ECONOMICS
ent lines largely for local traffic or to serve as feeders to canals.
The first movement toward the efficiency of the present system
was the welding together of separate links into through lines.
The New York Central, for example, was formed in 1853 out of
ten previously independent lines between Albany and Buffalo.
The development of parallel through lines introduced an era of
sharp competition. In the seventies the lines connecting Chicago
and the Atlantic seaboard engaged in a series of rate wars. The
experience of this decade showed clearly the tempo rary and un-
stable character of competition among parallel lines. The rule
seemed to be that a railway war must be followed by a rate agree-
ment of some sort, so that, instead of the maintenance of a suppos-
edly fair level of rates by the steady pressure of competition, we
find there was an alternation of high and low rates. The inevi-
table annihilation of direct competition in rates between railways
is clearly portrayed in a congressional report in 1874, where the
following prediction was made: " But when the natural tendencies
of corporate power have wrought out their inevitable conclusions,
the magnitude of our combinations will probably be in proportion
to the extent of the field in which they operate." But so strong
was the feeling at that time that competition is the life of trade,
that it was recommended by the committee who made this report
that the government build a line of its own simply to maintain
competition with the private roads, for it was thought that the
government could resist the great temptation to combine with the
other roads.
The history of Belgium affords an instructive illustration of the effect of
a mixed system of public and private ownership. Belgium began in 1837
with a carefully worked-out system of public railways. Ten years later it
was decided to grant charters to private companies. A large number of
private roads were organized, some with the purpose of competing with the
state system. It was thought that competition between the state and private
roads would be beneficial. The Massachusetts Railroad Commission, in its
report of 1871, recommended a trial of this plan in Massachusetts But in
Belgium the private lines were soon merged into four systems, which com-
peted so vigorously with the state roads that the government adopted the
policy of purchasing them. The mixed system was also tried in Prussia with
unfavorable results. The advantages of government management cannot
show themselves fully under such conditions.
TRANSPORTATION 475
Pooling and Consolidation. As a result of the intense struggle
for business among the roads, there was a widespread resort to
the practice of pooling, that is, a division of the earnings or tonnage
of the competitive business. This form of combination, however,
was at least nominally abandoned after it was declared illegal
by the Interstate Commerce Act of 1887, but organizations for the
purpose of making rates continued to exist. In 1894 these were
also declared illegal by the Supreme Court of the United States
on the ground that they were in violation of the Anti-Trust Act of
1890. The court, however, did not seem to prohibit the enlarge-
ment of the various systems by the purchase and lease of other
lines, or controlling them indirectly by the purchase of the ma-
jority of their stock. But in 1903 the Supreme Court again
applied the Anti-Trust Act of 1890 in a case against the Northern
Securities Company, a corporation formed, not for the purpose of
engaging in the railway business directly, but for the purpose of
holding the capital stock of the Great Northern, Northern Pacific,
and Burlington systems. But the legal prohibitions have had
little effect upon the tendency to eliminate competition from the
railway business.
The present organization of any one of our large systems, like
a geological record, reveals the nature of the changes that have
been going on. The consolidated company controls a number of
large lines, perhaps by stock ownership, and each one of these is
made up of a number of subsidiary roads united as a result of
purchase, partial-stock ownership, or lease.
But the extent of consolidation is not shown by the growth of
the large systems, for these are not wholly independent. A
number of the large systems may be under the control of the same
group of financiers. While the actual extent of this centralization
in ownership is difficult to state, the well-known illustrations are
striking: the Harriman group includes the Union Pacific, the
Southern Pacific, the Illinois Central, and the Chicago and Alton
systems, with partial control of the Baltimore and Ohio. In
the Gould group are: the Missouri Pacific, Wabash, Denver and
Rio Grande, Western Pacific, Texas and Pacific, and the St. Louis
and Southwestern systems. The Great Northern, Northern Pa-
476 OUTLINES OF ECONOMICS
cific, and Burlington systems are under one control. The Penn-
sylvania until recently controlled the Baltimore and Ohio and
Norfolk and Western systems. The Vanderbilt interests domi-
nate the New York Central, the Chicago and Northwestern, and
the Cleveland, Cincinnati, Chicago, and St. Louis systems.
In spite of the progress of consolidation, competition has not
entirely disappeared. Even where there is no active cutting of
rates by parallel lines, there may be rivalry in service, but this
also has its limitations, as is seen in the agreements that the shorter
lines between New York and Chicago and between Chicago and
Minneapolis shall not utilize their natural advantage in speed.
Again, alternative routes may lead to competition among railways
that are not parallel. Thus the roads serving the North Atlantic
ports compete in the carriage of grain with those extending to
Galveston and New Orleans.
Much has recently been said about the influence of market
competition as a force affecting rates, even when the roads have
been consolidated. To illustrate, the farmers and railways of
North Dakota are joint producers of wheat, and they are both
desirous that it shall be sold in competition with other wheat in
the London market. It would be ruinous to the roads to make
such high rates that the farmers could not afford to sell their grain.
The railways cannot be prosperous if the farmers, merchants,
and manufacturers along their lines are not prosperous. This
partnership, however, has its limits, for a rate which would enable
the producer to continue in business may yield the railway a sur-
plus which could be shared with the producer.
The MoTement of Rates. The average revenue per ton-mile
of railways in the United States fell from i.ooi cents in 1888 to
.729 cents in 1900, rising again to .780 in 1904, .766 in 1905, and
.748 in 1906. Average ton-mile receipts, however, are not an
accurate index of changes in rates, for such an index is affected
by the changes in the nature of the traffic as well as by changes
in rates charged. If the proportion of low-grade freight increases,
there will be a fall in ton-mile receipts without any change in rates.
But if we also take into consideration rates on specific commodities,
such as wheat, stoves, etc., no doubt remains but that a large
TRANSPORTATION 477
decrease has taken place. In the last forty years there has prob-
ably been a fall of one half in rates on through traffic, but the fall
was mostly in the first half of that period; in the second half there
has been only a slight fall, with possibly some increase since 1900.
In local rates the decline has been less marked. The decline in
passenger rates before the recent reductions by government au-
thority was less than in freight rates. Improvement in service
should, however, be considered in this connection. But what-
ever the actual movement of rates, the question will inevitably be
asked whether they have declined as much as they should have
done, and whether the growth in consolidation which we have
noted will not prevent such a decline in the future as may be
warranted by the growth in traffic and attendant economies in
operation. The question is, how shall a "reasonable" freight
rate be determined?
The Level of Rates. If, owing to the monopolistic nature of
the railway business, the determination of rates can no longer be
left to the automatic working of competitive forces, they must
be consciously determined according to fundamental principles.
Competition was supposed to do justice by limiting the aggregate
earnings of an establishment approximately to the expenses of
doing the business, and it seems most natural that we should apply
the same guide in our conscious rate making. There can be no
doubt but that expense is a safe guide so far as it can be accurately
determined. It needs but a slight analysis of railway expenditure,
however, to reveal the difficulty of using expense as a criterion of a
fair rate. In 1906 the railways reported to the Interstate Com-
merce Commission gross income amounting to $2,386,285,473
(from operation and investments), and in this same year the interest
and dividends amounted to $530,545,911, or 22.2 per cent of the
gross income. This represents the amount accruing to the stock
and bondholders as joint owners of the business, if we ignore the
increase in the value of the plant that results from charging im-
provements to operating expenses. Is this a proper payment to
such owners? That some compensation of this sort is necessary
under the regime of private capitalism is clear, for if none were
made, new roads would not be built nor would old ones be main'
478 OUTLINES OF ECONOMICS
tained. A common answer is that the owners should be allowed
a fair return upon their investment, but it is difficult to say what is
a fair return and what is the actual investment. Inasmuch as
the institution of private capitalism is maintained for the benefit
of the community and not the community for the benefit of private
capitalism, that payment to owners of the railways is proper which
is necessary to evoke their services, that is, the service of main
taining and extending the railway system in accordance with the
public needs. This basis suggests the application of the current
rate of interest to the cost of reproducing the physical property
in its present condition as a general guide, although doubtless
our regard for vested interests would compel us to take account
of the fact that present holders of stocks and bonds have in many
cases paid high prices for them in anticipation of the continuance
of the present monopoly earnings of the railways. It should
also be remembered that to guarantee to every dollar invested in
railways the current rate of interest would be to create a privi-
leged class of investors. 1 The attempt to find a valuation upon
which to reckon earnings has been sharply criticised, but no other
solution for the problem of finding a reasonable level of rates has
been offered. Reject this, and we have the alternative of letting
the railways charge what they please, or of adopting government
ownership.
Relative Rates. When the level of rates has been determined
we are confronted by the further question of what should be
charged for each particular shipment, and here we find the applica-
tion of the principle of expense of still greater difficulty and un-
certainty. In attempting to say what it costs to carry a ton of
coal a mile, we find that a large part of the expenditure is incurred,
not for one specific kind of commodity, but jointly for many kinds.
The roadbed, ties, and rails are maintained, not for coal cars
alone, but for passenger trains as well. Even with the most care-
ful bookkeeping it is possible to trace a causal connection between
only a part of the expenses and specific portions of the traffic.
1 This principle has been recognized by the Supreme Court of the United States
in County of Stanislaus (California) vs. San Joaquin and King's River C. & I.
Co., 1903, 193 U.S. 201. Compare also page an, above.
TRANSPORTATION 479
It is possible to say that a certain traffic requires a certain amount
of extra labor and fuel, and causes a certain amount of wear and
tear, and clearly such traffic should normally pay enough to meet
these expenses, at least, if we wish to prevent waste. But what
shall be done with such joint expenditures as fall under the head of
maintenance of way? Shall they be charged to the freight or to
the passenger departments? If partly to both, on what basis
shall they be divided ? A full discussion of the matter cannot be
given here. Some writers think that the attempt to discover the
exact cost of carrying a commodity cannot be determined. They
would charge these common expenses to those shipments which
can most easily bear them. This principle is followed in part in
all freight classifications. But recently the view that the cost of
transporting a commodity can be determined has received support
in a decision of the Railroad Commission of Wisconsin. Follow-
ing the practice of manufacturing corporations, the commission
made a complete apportionment to the freight and passenger de-
partments of the expenditures of one railway system, using an arbi-
trary basis that seemed fair where no direct connection could be
found between the expense and each branch of the traffic.
To illustrate the nature of the problem, we may note the Commission's
method of dealing with one class of expenditure maintenance of way.
It was necessary first to apportion expenditures between that part of the road
lying in Wisconsin and that part lying in other states. For this purpose
the cost of maintaining the way was first divided into two parts: (a) that
depending on natural depreciation, and (b) that due to the movement of
trains. The first was apportioned to Wisconsin on the basis of the road
mileage, and the second according to the revenue train mileage in Wisconsin.
The Commission then proceeded to separate the Wisconsin expenditure
between the passenger and freight departments. That part of the expense
due to the movement of trains was divided between passenger and freight
traffic according to the amount of passenger train mileage and freight train
mileage respectively, switching mileage being taken as freight train mileage.
That part due to natural depreciation was apportioned according to the gross
earnings of the two departments. This last procedure is perhaps open to
criticism because gross earnings depend in part on prices charged, and it was
the reasonableness of existing prices that it was sought to determine. In the
long run the natural depreciation depends on how costly a plant is exposed
to wind and weather; in the long run the size of the plant grows with the
traffic; and as traffic is roughly measured by train mileage, we may say
480 OUTLINES OF ECONOMICS
that train mileage would be a more reasonable basis for the division of
expenses due to natural depreciation. 1
Distance. The most perplexing factor in rate making is that
of distance. In actual practice, distance has been ignored to a
very large degree. For example, in group rates, the same charge
is made to a common market from any point within a certain area,
irrespective of the length of the haul. In the basing-point system,
the rates to small towns in a certain region will not vary according
to the distance from the point of shipment, but are found by adding
together the rate to a railway center, called a basing point, and the
local rate from this basing point to the small town, even though
the town be nearer than the basing point to the original point of
shipment. Again, goods brought from a foreign country to a
point in the interior may be charged a less rate than the domestic
rate from the point of entry to the same point in the interior.
Again, goods intended for export sent from Chicago to New York
may pay less than those intended for use in New York. Goods
are sent to San Francisco from New York for less than the rate
from many points west of the Mississippi River to San Francisco.
These conditions have arisen largely from competition of rail-
ways among themselves and with waterways, and do not seem
to be necessary from the standpoint of the welfare of the country
as a whole. The fact that distance is one element in the expense
of carriage suggests that it should be taken account of in making
rates, although there are many circumstances which necessitate
a departure from the rule of a strict mileage rate. The fact that
terminal charges, for example, are the same for a long as for a
short haul justifies a decline in the total charge per ton-mile as
distance grows. The great advantage of following a schedule of
rates based on distance is that it affords some basis, although not
an absolute guide, for settling sectional disputes concerning rail-
way charges.
Government Ownership or Government Regulation? With
the decline of competition in the railway business, the alternative
lies between private operation with government supervision on
1 In Buel vs. C. M. and St. P. Ry. Co., Wisconsin Railroad Commission
Reports, Vol. I, pp. 334 and 508.
TRANSPORTATION 481
the one hand, and government ownership and operation on the
other. The important arguments in favor of private operation
are: (i) efficiency in management; (2) greater elasticity in meeting
the varying demands of business; (3) the danger in government
operation of throwing sectional disputes as to rates into politics.
The important arguments in favor of government operation are:
(i) the essential conflict between private and public interests
in the conduct of the business, the aim of the one being profit, the
aim of the other being service; (2) the elimination of the rail-
way interests from politics; (3) the unearned increment would
accrue to society; (4) the elimination of personal discrimination.
On whichever side the weight of the argument may lie, we in
the United States are likely to make a more thorough experi-
ment with private operation under government regulation.
Government Regulation of Railways in the United States.
Railway corporations in the United States are almost all organized
under the laws of the separate states. Formerly special laws were
passed when a railway company was to be formed, but at the pres-
ent time there are general laws specifying what conditions must
be complied with in order that a number of persons may organize
a railway corporation. The separate states have imposed a number
of regulations and restrictions not only on the companies which
they have chartered but also on others doing business within their
borders. These relate to the safety and comfort of passengers,
the train service, consolidations, pooling, ticket-scalping, discrimi-
nations between shippers and places, and finally the reasonable-
ness of charges. Railway commissions are found in a majority
of the states. One type, exemplified by the Massachusetts com-
mission, has simply advisory and investigative powers with respect
to rates, but it cannot name reasonable rates and enforce them,
although it can recommend such action to the legislature. An-
other type has power to name a reasonable rate in place of one that
has been found unreasonable. Such is the Wisconsin commission,
and the tendency is for the latter type to prevail.
That a railway corporation is subject to government regulation
in the interest of the public welfare has been clearly established
by a long line of judicial decisions beginning with the leading
482 OUTLINES OF ECONOMICS
" Granger " case of Munn vs. Illinois. 1 But the authority of
the state governments has been greatly limited by two provisions
in the federal Constitution. Congress having been given control
over interstate commerce, the states must confine themselves in
their regulations to commerce wholly within the state. Again,
the Fourteenth Amendment declares that no state shall deprive
any person of life, liberty, or property without due process of law
nor deny to any person within its jurisdiction the equal protection
of the law. The courts have interpreted this provision to mean
that neither a state legislature nor a commission created by it can
fix rates even on iw/ra-state traffic without a review by the courts.
The courts have in some cases declared rate legislation void on
the ground that it confiscated the property of the stockholders.
The activity of the federal government may be summarized as
follows :
(i) As to rates: All charges made for the transportation of
passengers or property must be " just and reasonable," but no
standard of reasonableness or justice has been given by Congress.
This question is left largely to the judgment of the Interstate
Commerce Commission, a body of seven men appointed by the
President with the " advice and consent " of the Senate. When
a complaint has been made, the commission, if it finds upon
investigation that the rate complained of is unreasonable, may
prescribe what shall be the maximum charge in that case in the
future. Its order may be set aside by the courts, for the Fifth
Amendment restrains the federal government as the Fourteenth
does the state governments. Rates must be published and filed
with the Commission, and the railway must not under penalty
depart from the published rate, nor make any change without thirty
days' notice. There shall be no "unjust discrimination" or
" unreasonable preference " in the making of rates. In particular,
the giving or accepting of rebates is punishable. Also, no greater
charge shall be made for a short than for a long haul on goods
going in the same direction on the same line under " substantially
similar circumstances and conditions." This last provision has
been much weakened by the interpretation placed upon it by the
1 1876, 94 U.S. 113.
TRANSPORTATION 483
United States Supreme Court, which has held that competition
of railways at one point might constitute a dissimilar circumstance
justifying a lower charge for the longer haul.
(2) As to publicity of accounts: The carriers are required to
report to the Interstate Commerce Commission regarding their
finances and traffic. The Commission has access to the records
and may prescribe the form in which they shall be kept.
(3) As to combinations: It is unlawful for railways to enter
into an agreement for the pooling of freights or earnings. Agree-
ments to maintain freight rates are also unlawful as coming under
the Anti-Trust Act of 1890 which prohibits " every contract, com-
bination in the form of trust or otherwise, or conspiracy, in restraint
of trade or commerce among the several states, or with foreign
nations."
(4) As to safety appliances: Carriers must equip their cars
with automatic couplers, train brakes, grab irons and hand holds.
The law does not require the introduction of block signal systems.
The Work of the Interstate Commerce Commission. Since its
creation in 1887 the Interstate Commerce Commission has done
much good work in promoting an understanding of the relations
between the public and the railways, but in the actual removal
of abuses its powers proved utterly inadequate. As a result of a
wave of popular indignation, Congress in 1906 extended the Com-
mission's power of investigation and increased somewhat its power
over rates. Nothing, however, was done to give definiteness to
the long and short haul provision, nor were steps taken to settle
the fundamental question of the level of rates.
QUESTIONS AND EXERCISES
i. Write a description of some railway system, giving its organization,
capitalization, earnings, dividends, nature of traffic and territory covered, etc.
2. Make a digest of the opinions in the Northern Securities case, 193
U.S. 197.
3. If you have paid $200 for a share of stock in a monopolistic enterprise,
have you a right to complain if government regulation so affects its earnings,
that the price of the share falls to $100?
4. Should the large shipper get lower rates than the small shipper?
5. Compare the powers of the Interstate Commerce Commission with
those of the Canadian Commission.
484 OUTLINES OF ECONOMICS
REFERENCES
ACWORTH, W. M. Elements of Railway Economics, Chaps. I and II. (Not
favorable to cost theory.)
" American Waterways." (Twenty articles on various phases of the subject.)
Annals of the American Academy of Political and Social Science, Jan-
uary, 1908, Vol. XXXI.
DEWSNUP, E. R. (Editor). Railway Organization and Working. (De-
scriptive.)
Hearings before the Committee on Interstate Commerce, United States
Senate, 1905-6 (including Digest). Digest, pp. 57-75; and Vol. Ill,
pp. 2310 to 2360.
Interstate Commerce Commission, Annual Reports, Decisions, and Statistics
of Railways in the United States.
JOHNSON, E. R. American Railway Transportation, and Ocean and Inland
Water Transportation. (Elementary Text-books.)
McPnERSON, L. G. The Working of the Railroads, Chap. III.
MERRITT, A. N. Federal Regulation of Railway Rates.
MEYER, B. H. Railway Legislation in the United States, Part II ; also
"History of the Northern Securities Case," Bulletins of the University
of Wisconsin, No. 142.
MEYER, H. R. Government Regulation of Railway Rates. (Severely critical
of the work of government officials.)
Munn vs. Illinois, 94 U.S. 113.
NOYES, W. C. American Railroad Rates, Chap. IV.
RIPLEY, W. Z. Railway Problems. (A collection of supplementary reading.)
" Railroad Valuation," Political Science Quarterly, December, 1907,
Vol. XXII.
United States vs. Trans-Missouri Freight Association, 166 U.S. 290.
WEBB. Economics of Railroad Construction, Part I.
CHAPTER XXVIII
INSURANCE
Nature of Insurance. The essential idea of the modern in-
stitution of insurance is cooperation in the bearing of losses which
are likely to happen to any one of a large group of persons but
which will actually fall upon but few members of the group. It
is thus directly opposed to gambling, although wagers have fre-
quently been made in the form of the insurance contract. It
may appear at first that the man who insures his house is making
a wager with the insurance company that his house will burn,
but this is in fact like betting on both sides of an event. If the
man does not insure, he may be regarded as betting that his house
will not burn, and by wagering with the insurance company that
it will burn, he relieves himself of risk. For this relief he is willing
to incur the certain loss of his premium. Insurance means cer-
tain loss for the policy holders, but it implies many small losses
in place of a few unbearable ones. In well-developed forms of
insurance there is also no risk for the insurance company because
the amount of loss is approximately known in advance, as will be
explained presently.
The question is sometimes asked whether insurance is pro-
ductive in the sense that other economic activities are productive.
The answer is decidedly in the affirmative, for the feeling of security
that it makes possible is a real satisfaction which we are willing
to purchase. Furthermore, the relief of distress among the un-
fortunate without compelling them to accept charity is a distinct
social gain, and finally, many of our business operations are
facilitated by the existence of a system of insurance. Prevention
of loss is not properly a part of the idea of insurance, but never-
theless, insurance as it exists to-day does have many tendencies
in that direction, especially in such forms as fire and steam-boiler
485
486 OUTLINES OF ECONOMICS
insurance. On the other hand, insurance causes a certain amount
of loss by provoking to some extent incendiarism, self-mutilation,
or suicide, and even normal persons are likely to be less careful
when they know they are insured. On the whole, however, we
can scarcely overestimate the importance to society of an in-
stitution which equalizes the shocks and multiplies the incentives
to thrift and wholesome economic activity.
The Law of Probabilities. A special profession (that of the
actuary) and a special branch of mathematics have grown up as
a basis of the institution of insurance. It is a knowledge of the
law of large numbers that changes the insurance business from a
wager to a legitimate business. If a coin is tossed a large number
of times, heads will appear about as often as tails. This may be
counted upon as practically certain, but with respect to any
particular throw taken by itself, there is no way of telling in ad-
vance whether heads or tails will appear. This truth has been
worked out and applied most definitely to life insurance, but in
other branches also an effort is made to gather sufficient data that
will make possible the formulation of statistical laws as a guide
for future business.
Origin and Development. Arrangements embodying the idea
of insurance are found among the ancients, but the modern in-
stitution of insurance, although its origin is obscure, first becomes
prominent in the loans on bottomry which became common during
the thirteenth and fourteenth centuries. A loan on bottomry
meant that money was borrowed by the owner of a ship and was
to be repaid with interest at the termination of the voyage, but
the principal and interest were not to be repaid if the ship
was lost. Sometimes this took the form of insuring the captain's
life, but no scientific system of life insurance appeared until the
compilation of life tables.
Fire insurance received an impetus from the Great Fire of
London in 1666, the first company organized upon strict mer-
cantile principles being the Fire Office, organized in 1680. It
had a brigade of its own to prevent and extinguish fires. In
1693 Edmund Halley made a report to the Royal Society regard-
ing the mortality at various ages upon the basis of tables of births
INSURANCE 487
and funerals at the city of Breslau, but practically, life insurance
as a business dates from the organization of the " Old Equitable"
in 1762.
Before this, however, there were many associations for conducting in-
surance upon a speculative basis, which entered into wagers of every con-
ceivable description. "Even the morality of the newspapers of that day
was shocked by such proceedings: we find the London Chronicle of 1768
thus declaiming, ' The introduction and amazing progress of illicit gaming
at Lloyd's Coffee-house is, among others, a powerful and very melancholy
proof of the degeneracy of the time. Though gaming in any degree is per-
verting the original and useful design of that Coffee-house, it may in some
measure be excusable to speculate on the following subjects: Mr. Wilkes
being elected member for London; -which was done from 5 to 50 guineas
per cent. ; Mr. Wilkes being elected member for Middlesex, from 20 to
70 guineas per cent; Alderman Bond's life/or one year, now doing at 7 per
cent; On Sir J. H. [mark the modesty] being turned out in one year, now
doing at 12 guineas per cent; On John Wilkes' life for one year, now
doing at five per cent. N.B. Warranted to remain in prison during that
period; On a declaration of war with France or Spain in one year, 8
guineas per cent. But,' continues the sensitive journalist, 'when policies
come to be opened on two of the first peers in Britain losing their heads
at IQS. 6d. per cent, or on the dissolution of the present parliament within
one year at 5 guineas per cent., which are now actually doing, and under-
written chiefly by Scotsmen, at the above Coffee-house, it is surely high time
to interfere.' " l
In the United States, fire insurance was fairly well begun even
in pre-revolutionary days. In 1830 was organized the New York
Life and Trust Company, and twelve years later appeared the
Mutual Life Insurance Company of New York, which is the oldest
of the existing life insurance companies which insure more than
a restricted class of individuals. Tables I and II show the growth
of life, fire, and marine insurance in the United States. A decline
in the number and importance of life companies appears in the
seventies. The numerous failures of this period brought the
"old line" life insurance into discredit, and in the following
years this fact, together with the desire for cheap insurance, caused
a marked development of assessment insurance, against which
there has in turn been a reaction because of its unscientific basis.
Recently the "old line" companies have again suffered a loss of
1 Walford, The Insurance Guide and Handbook, 4th ed., p. 27.
488
OUTLINES OF ECONOMICS
TABLE I
NUMBER OF POLICIES AND AMOUNT OF INSURANCE IN FORCE IN ORDI-
NARY AND INDUSTRIAL COMPANIES, 1850 TO 1905 l
ORDINARY
INDUSTRIAL
Year
Number of
Policies
Amount (Dollars)
Number of
Policies
Amount (Dollars)
i8<CO .
29,407
60,000
839,226
679,690
890,924
1,319.561
1,940,945
3. 1 76,o5i
5.621,417
68,614,189
180,000,000
2,262,847,000
1,564,183,532
2 > I 55>33,627
3,620,057,439
4,917,694,131
7,093,152,380
11,054,255,524
i860
1870 .
1880
236,674
I ,377> 1 5
3,883,529
6,952-757
11,219,296
16,872,583
20,533,469
145,938,241
429,521,128
820,740,641
1,468,986,366
2,309,754,253
188-; .
1890
iSot; .
IOOC
TABLE II
FIRE, MARINE, AND CASUALTY INSURANCE, 1890-1905 l
FIRE AND MARINE (STOCK AND MUTUAL)
Year
Number
of com-
panies
Total income
Payments to
policy holders
Number
of com-
panies
Total income
Payments
to policy
holders
Dollars
Dollars
Dollars
Dollars
1890 . . .
580
I57, 8 57,983
80,768,012
34
9,758,413
2,933,306
1892 . . .
491
179,044,675
104,864,902
49
12,727,576
4,063,374
1893 . . .
489
178,971,022
114,652,625
46
15,140,830
4,815,298
1894 . . .
558
176,364,638
100,919,134
41
14,238,564
4,601,207
1895 . . .
583
176,300,042
97,379.026
47
18,077,146
5,430,607
1896 . . .
541
172,945,625
89,903,460
5
20,154,235
6,494,944
1897 . . .
53
i7 6 ,75 I - I2 4
87,165,252
53
22,859,866
7,113,818
1898 . . .
54
178,320,217
97,974,682
54
23,478,642
7,5 8 3>54i
1899 . . .
484
184,142,217
114,619,372
59
27, II 7>449
8,802,777
1900 . . .
493
198,312,577
116,753,281
62
32,309,619
10,166,796
1901 . . .
482
216,452,381
121,020,924
67
39,844,427
12,966,145
1902 . . .
489
239,468,206
123,332,012
67
43,980,061
14,952,568
1903 . . .
563
261,431,401
125,434,065
73
49,716,644
16,679,975
1904 . . .
55
281,228,402
165,658,558
82
55,685,447
I 9.332,539
1905 . . .
612
296,562,588
140,825,191
95
63,190,680
21,646,844
CASUALTY AND MISCELLANEOUS
1 See Statistical Abstract of the United States (annual) and The Insurance Year Books
published annually by the Spectator Company, New York, N.Y.
INSURANCE 489
prestige on account of the scandalous extravagance and corrup-
tion revealed by official investigations. The evil practices had
to do chiefly with the management of the surplus, which was not
under legal control as was the reserve. These terms will be ex-
plained presently. It is probable that they will now learn the
lesson of economy, just as they have learned from their experience
a generation ago the supreme need of being solvent. Insurance
has grown until the insurance companies rival the banks in
financial importance. The assets of the leading life insurance
companies are nearly equal to the capital and deposits of all
national banks.
Forms of Insurance Organization. Fire insurance may be
written by stock companies, by mutual companies, or by associa-
tions of individual insurers, known as underwriters and Lloyds.
Mutual companies, again, may be either local county or town*
mutuals, state or general mutuals, or the manufacturers' mutuals.
The local town mutuals have the advantage that they can be
conducted with a very low cost of administration, but the business
of fire insurance seems best adapted to the stock companies, since
it is desirable that the risk of a conflagration should be spread
over a very wide territory.
Life companies are also found both in the stock and mutual
form. Theoretically the management of the latter is in the hands
of the policy holders themselves, but in actual practice they must
be managed by a small group of financiers. Attempts have been
made by recent legislation in some states to make the manage-
ment more nearly representative of the interests of the policy
holders by providing for election of officers by mail. Life in-
surance companies are also classified according to the plans of
premium payments: (i) "old line" level premium, (2) assessment,
(3) stipulated premium, and (4) fraternal orders.
Wherever risk enters in modern life, companies are organized
to offer an escape from it through insurance even before
enough data have been collected to make possible the accurate
prediction of the amount of loss. In addition to life insurance
we have indemnity in case of sickness, accident, destruction by
fire, wind, hail, explosions of boilers or fly wheels, broken windows,
490
OUTLINES OF ECONOMICS
and loss from burglary or the unfaithfulness of employees. Li-
ability insurance in over a dozen different forms guards against
loss from damage suits. It is impossible to take up the problems
that are peculiar to each one of these branches, but we note the
leading features of the most important branch in life insurance.
LIFE INSURANCE
Life Tables. A life table or mortality table shows how many
of a large group of persons of the same age will survive to each
higher age. A number of these tables have been calculated,
but the one generally used in this country is the American Ex-
perience Mortality table, a portion of which is here reproduced :
AGE
LIVING AT BEGINNING OF YEAR
DYING DURING THE YEAR
10
IOO,OOO
749
it
99.251
746
12
98,505
743
13
97,762
740
14
97,022
737
15
96,285
735
16
95.55
732
17
94,818
729
18
94,089
727
J 9
93,362
725
*
*
*
90
847
385
9 1
462
246
92
216
137
93
79
58
94
21
18
95
3
3
With such data and with an assumed rate of interest and ex-
penses, it is possible to say with considerable certainty how much
money must be collected from the policy holders in order to pay
each one $1000 or other sum at death.
Premium Plans. It would be possible to collect from those
surviving at each age enough money to pay for the deaths that
INSURANCE 491
would happen during the ensuing year. This step rate plan
would mean in the later years of the table a larger and larger
assessment ; that is, at the time when the earning power of the
insured was declining. It has become customary to arrange the
payments on what is known as the level premium plan, the same
annual payment being made throughout the life of the policy.
This payment may be on the ordinary life plan, that is, the pay-
ments continue throughout life; or ten, fifteen, or twenty limited
payments may be made, the policy continuing in force for life;
or the insurance may be for only a term of years during which the
premiums are paid, the insurance ceasing entirely at the end of
the term. This is the cheapest kind of insurance, for the insurance
company knows that many of the insured will survive beyond the
term, and to them no payment need be made, but when the in-
surance continues for life, the payment becomes a certainty in
every case.
The Reserve. If a level premium is charged, the income of
the company in the earlier years exceeds its current mortality
requirements. The portions of the premium not currently used
must be held for the credit of the policy holders until the later
years, a certain rate of interest being allowed. This accumulating
fund is known as the reserve.
Surplus. If the insured die less rapidly than was assumed
by the company in calculating its premiums, more money will
be collected than is necessary to meet the obligations of the in-
surance contracts. This is one source of surplus. Again, the
funds held in trust by the company may be invested at a higher
rate of interest than was assumed in the calculations, and this is
a second source of surplus. A third source of surplus is in keep-
ing expenses below what was assumed in the calculations. (The
addition which is made to the net premium to cover expenses is
called "loading," and is commonly not far from a third of the net
premium.) The amounts paid in by those who lapse or surrender
their policies do not all go to the surplus, for it is customary now
to allow surrender values and paid-up insurance, but as these
values are subject to a surrender charge, there is an addition to
the surplus from the surrendered or lapsed policies, although the
492 OUTLINES OF ECONOMICS
companies try to discourage lapsing. Out of this surplus are
paid the dividends on the capital stock, if there be any, and
the dividends to each policy holder, which in some cases are
credited or paid annually to each policy holder, or in other cases
not until the expiration of a period of years.
Endowments. What is ordinarily called an endowment
policy is a combination of two distinct forms of contract. A
simple life insurance contract promises to pay the insured a certain
sum in the event of death; a pure endowment contract would pay
a certain sum if the holder of the policy survives after a period
of years. A twenty-year so-called "endowment" policy com-
bining these two features means that payment would be made
at death if that occurred within the twenty years, or at the expira-
tion of twenty years if the policy holder survives.
This form of policy has been declining in popularity because
in its ordinary form it is disadvantageous to the policy holder,
unless he be so thriftless that he cannot be induced to save in any
other way; also, if insurance could not be obtained in any other
way, it might be wise to purchase such a policy, but the objects
of saving and insuring can be more cheaply accomplished by
separating the two features. If, instead of paying $50 for an
endowment policy, the holder paid part of this for term insurance
and put the remainder in a savings bank at three or four per cent
compound interest, there might be more to his credit whether
he lived or died. But when the loading is properly arranged,
and with an annual distribution of surplus, the endowment policy
performs a useful function as an encouragement of thrift. In
fact, a very long term endowment maturing at, say, age sixty-five,
would best meet the needs of a great many persons.
These points will be made clearer by the following illustration
of what becomes of the premium in the case of a ten-year endow-
ment policy at age thirty-five with a premium of $107.70, when
it is assumed that the mortality will be in accordance with the
American Experience Table, that the company will earn three
per cent on its funds, and that the expense charged each year to
this policy will be as given in the following table : l
1 Report of the Wisconsin Joint Legislative Investigating Committee, 1906,
P- iS3-
INSURANCE
493
POLICY YEAR
EXPENSE CHARGE
MORTALITY CHARGE
DEPOSIT
I
$18.40
$7.96
$81.34
2
18.40
7-31
165.77
3
18.40
6.62
253-42
4
18.40
S-89
344-43
5
18.40
5.10
438.96
6
18.40
4.26
537-17
7
18.40
3-32
639.27
8
18.40
2.32
745-43
9
18.40
1. 21
855-89
10
18.40
970.87
Totals
184.00
43-99
Industrial Insurance. The business of insuring the lives of
workingmen in this country is characterized by the small amount
of the average policy, the large number of lapses, and the heavy
expense of solicitation. These companies say the workingman
is so thriftless that it is necessary to collect the premiums through
a house to house canvass by agents. The hesitancy shown by
workingmen to insure in these companies is considered by some
persons, however, as an evidence of their thrift. Which is the
correct view will be shown by the results of an experiment which
is now being tried in the state of Massachusetts. Savings banks
have been authorized to organize insurance departments and to
sell life insurance, but without employing paid agents or solicitors.
The workingman is expected to go to the bank of his own accord.
The whole system is supervised by a State Actuary and a State
Medical Director, and the safety of the plan is assured by a guaran-
tee fund. Three forms of policies, limited to $500, are provided
for: ordinary life insurance, endowment, and a combination of
life insurance and old-age annuity. This plan may prove to be
a solution of the problem of old age pensions.
State Insurance. Insurance is well adapted to direct manage-
ment by the State because the actual conduct of the business is
of a relatively simple and routine character and because the State
can offer greater security and can command greater confidence
494 OUTLINES OF ECONOMICS
than is possible in the case of a private corporation. Competi-
tion has had the effect of causing rival companies to invent many
outwardly attractive combinations of policy conditions, but on
the whole it has increased rather than decreased the expense of
doing the business. When the State enters the field simply as an
additional competitor, as in New Zealand, its full advantage is
not apparent ; but if it has a monopoly of the business and com-
pels every one to insure, it perhaps can, without any selection of
risks, effect the insurance at a lower price than is asked by any
existing private company. 1 These considerations, however, can
hardly be taken as sufficient arguments for the present assump-
tion of insurance functions by the State.
State Regulation. Following the example of Massachusetts
in 1858, other states have appointed insurance commissioners
for the supervision of this business, and the insurance laws of
a single one of these states are now sufficient to make a good-
sized volume. Insurance companies have found this variety of
control irksome and have generally advocated federal control of
insurance. Although something would be gained, it cannot be
said that there is any great need of federal control of life insurance,
not to mention the constitutional difficulties, because it is not
absolutely necessary, as in transportation or fire insurance, that
one life company do business in many states, and the people of
each state should have the right to say what kind of insurance
institutions they desire to have.
An enumeration of the requirements in the state of New York
will illustrate the nature of state regulation: A certificate of
authorization must be obtained from the Superintendent of
Insurance and a deposit of securities must be made. A minimum
capital stock is prescribed and regulations are made concerning
the investment of stock and surplus. There are also provisions
relating to standard of solvency, reinsurance, limitation of risks,
admission of foreign companies, examination of accounts, and
annual reports. The policy must contain the entire contract,
and the statements are to be taken as representations and not
1 Consult the article by M. M. Dawson in Bliss, Encyclopedia of Social Reform,
new ed.
INSURANCE 495
warranties. No misleading estimates and deceptive statements
are to be issued for the purpose of getting business. Life insur-
ance companies are to do either a participating or non-par-
ticipating business, and in the former case the surplus must be
annually apportioned and paid to each policy. There are further
provisions regarding the valuation of policies, surrender values,
discrimination, election of directors, limitation of the amount of
new business each year, limitations as to expenses and salaries of
officers, and standard forms of policies are prescribed for both life
and fire insurance. 1
QUESTIONS
1. How do you define insurance?
2. What is a mortality table?
3. How would you find the premium for insuring a group of persons for
one year for $1000 each?
4. Distinguish between reserve and surplus.
5. What is a "pure" endowment policy?
6. What are the advantages and objections of assessment insurance?
7. What has been New Zealand's experience with State insurance?
8. What is meant by the " moral hazard " ?
9. What are tontine policies?
10. Discuss life insurance investments.
REFERENCES
ALEXANDER, WILLIAM. The Life Insurance Company.
Annals of the American Academy of Political and Social Science (a series
of articles), Vol. XXVI.
DAWSON, M. M. The Elements of Life Insurance and The Business of
Life Insurance.
FRICKE, WILLIAM A. (Compiler). Insurance A Text-book.
Gow, WILLIAM. Marine Insurance.
Institute of Actuaries, Text-book.
KITCHIN, F. H. The Principles and Finance of Fire Insurance.
MOIR, HENRY. Life Assurance Primer.
New York Insurance Investigating Committee, Report, 1905, 6 vols.
" Q. P." How to buy Life Insurance.
WAMBAUGH, EUGENE. A Selection of Cases on Insurance.
Yale Insurance Lectures, 1903-1904, 2 vols.
WALFORD, CORNELIUS. The Insurance Guide and Handbook.
Wisconsin Insurance Investigating Committee, Report, 1906.
ZARTMAN, L. W. The Investments of Life Insurance Companies.
1 See Parker, A. J., Jr., The Insurance Law of New York, New York, 1907.
CHAPTER XXIX
ECONOMIC ACTIVITIES OF MUNICIPALITIES
Importance of Municipal Activity. Far reaching as are the
economic activities of the state and federal governments, they are
surpassed in magnitude, if not in importance, by the similar ac-
tivities of the municipal governments. Finance statistics furnish
a rough measure of the scope of such functions. In 1902, for ex-
ample, the public debt of the cities, villages, and towns ($1,387,-
316,976) was greater than the public debt of the county, territo-
rial, state, and national governments combined ($1,356,485,129).
The local administrative divisions, moreover, including counties,
collect and spend more money year by year than the state and na-
tional governments; and taking into account the fact that munici-
pal functions are to a much greater degree economic than the
functions of the national government, it is probable that the cities
having more than 8000 inhabitants in 1902, with their current
expenditures of $551,234,172, really spent more for distinctively
economic purposes than the national government, with current
expenditures of $617,530,137.
By the use of financial statistics, moreover, we may obtain a
rough idea of the relative importance of the economic as compared
with the political or social activities of the cities themselves. Re-
cent census bulletins have distinguished the commercial or quasi-
economic receipts of cities from the general revenue receipts. In
1902 these commercial receipts constituted 22 per cent of all the
revenues in cities containing over 25,000 inhabitants, and 20.7 per
cent of the total revenues in cities containing over 8000 but less
than 25,000 inhabitants. These figures establish a fair inference
that as municipalities increase in size, a larger and larger share of
the public activity is devoted to economic services. The same
496
ECONOMIC ACTIVITIES OF MUNICIPALITIES 497
phenomenon appears in the total state, county, and municipal
finances of the different sections of the country. Taking the coun-
try as a whole and considering all revenues except those received
by the national government, 15.6 per cent are derived from com-
mercial sources. In New England, with its high proportion of
urban residents, 20.6 per cent of the aggregate revenues are com-
mercial; in the South Central division, with its low percentage of
urban population, only 13.3 per cent are commercial. Generally
speaking, the economic activities of the State vary directly as the
density of the population.
Commonplace as such a conclusion may be, it carries with it,
nevertheless, a profound significance. City life means crowding,
and crowding means greater social friction or greater social soli-
darity, according as the State fails or succeeds in its task of devis-
ing rules by which the swarming city masses may live together,
not only in peace and concord, but to better advantage and with
greater profit. In the preceding pages we have emphasized again
and again the necessity for increased regulation on the part of the
State. Many factors cooperate to justify this thesis. But the
most powerful factor of all is created by the simple interplay of
two economic facts, whose importance can never be overestimated
the growth of urban or semi-urban populations, and the com-
parative fixity of the territory upon which those populations must
dwell and work.
If the position taken above be correct, we have only to glance
at the steadily swelling population of our cities to understand why
State control either through regulation or ownership must increase.
In 1800, four inhabitants out of every one hundred dwelt in a
city containing 8000 inhabitants or more. In 1900, thirty-three
out of ever)' one hundred inhabitants dwelt in cities of this descrip-
tion. And the movement to the cities still continues. In the
states taking an interdecennial census, in 1905, 48.5 per cent of
the total population dwelt in the incorporated places having 8000
inhabitants or more (in 1900), while only 45.8 percent of the popu-
lation dwelt in the same places in 1900. The increase of the gen-
eral population of these states between 1900 and 1905 was 9.2
per cent; the increase of their urban population as above defined
498 OUTLINES OF ECONOMICS
was 15.2 per cent. In some states, and these perhaps most typical
of present tendencies, a large majority of the entire population
dwelt in cities of 8000 inhabitants or more, the proportion in 1905
reaching 71.7 per cent in New York, 67.4 per cent in Massachusetts,
and 66.4 per cent in Rhode Island. Even in Illinois, a typical
state of our greatest agricultural region, more than half the popu-
lation dwelt in such cities, according to census estimates, in 1906.
To-day the city of New York contains a larger population than did
the whole United States at the beginning of Washington's first
administration; it spends more money than the national govern-
ment did at any time previous to the Civil War; and its annual
budget largely surpasses in amount that of Turkey, Portugal, Aus-
tria-Hungary, China, Holland, Norway, or Sweden.
Character of Municipal Activities. But there is another and a
more important reason why the activities of the State must multi-
ply and become increasingly economic as a larger and larger pro-
portion of the population make their homes in the cities. The
mere agglomeration of people in a restricted locality creates a vast
fund of wealth, which occupies, as it increases, a larger and larger
share of the public attention. Land values go up, the streets of the
city acquire enormous value, the opportunities of serving the dense
city population in a variety of ways multiply; in short, the public
domain of the city is enormously enhanced in value, and the city
government is forced to give more and more thought to its proper
exploitation and development. The typical economic problem of
the modern city is summed up in the one word " franchise "; and
the municipal franchise is largely a product of mere agglomera-
tion.
This fund of franchise values has perhaps done more than any-
thing else to transform the character of city government. Where
the people in their collective capacity have little or no property
and are forced to raise all public revenue by taxation, there is
likely to be not only a passive and fitful interest in public affairs,
but the activity of the government is equally apt to be comprised
within very narrow limits. Give the people, however, a public
treasure to preserve, a patrimony to protect, valuable franchises
to guard from pillage, and exploit for the public profit, and their
ECONOMIC ACTIVITIES OF MUNICIPALITIES 499
interest is aroused. The public by very necessity is forced to
abandon its old attitude of laissez-faire, and do something more
than maintain a balance between private interests through its
police and courts. It becomes a proprietor; its household, its
property, its bank account grow; its interests become more and
more economic.
" In earlier days, even the most elementary public functions were performed
by the individual. He paved, cleaned, and lighted the street before his door.
He was his own constable. Such health protection as he enjoyed was the
result of his own vigilance. Education was conducted at home or by the
church. The library was a priestly possession, as was all learning. His
house was his castle, even in the midst of the city, and society offered him
little save the administration of justice and protection from foreign foes.
"To-day the city protects his life and his property from injury. It safe-
guards his health in countless ways. It cleans and lights his streets, collects
his garbage, supplies him with employees through free employment bureaus.
It educates his children, supplies them with books, and in many instances
with food. It offers him a library, and through the opening of branches
almost brings it to his door. It offers nature in the parks ; supplies him with
opportunities for recreation and pleasure through concerts, lectures, and the
like. It maintains a public market; administers justice; supplies nurses,
physicians, and hospital service, as well as a cemetery for burial. It takes
the refuse from his door and brings back water, gas, and frequently heat and
power at the same time. It inspects his food, protects his life and that of his
children through public oversight of the conditions of factory labor. It
safeguards him from contagious disease, facilitates communication upon the
streets, and in some instances offers opportunities for higher technical and
professional education." *
We have cited this striking passage in order to bring home viv-
idly to the mind of the reader the fact that the modern city is a
vast household, with human wants and interests similar to those
which on a more restricted scale absorb the interests of the ordi-
nary householder. It is important, however, to look briefly at
municipal activities in a somewhat more prosaic way. If we
classify the functions commonly assumed by municipalities either
in this country or Europe, paying more attention to the newer
and more debatable functions, because it is these which give
rise to real problems, we find that they fall naturally into the
following groups: I. First, the protective Junctions, brought to
1 Frederic C. Howe, The City the Hope of Democracy, pp. 28, 29.
500 OUTLINES OF ECONOMICS
mind by the police, the courts, the fire department. II. Secondly,
those activities devoted to sanitation and the public health. These
functions, which are exceedingly various, are represented by mu-
nicipal ownership of slaughterhouses, ice factories, baths, laun-
dries, model tenements, cemeteries, sewers, by municipal garbage
removal, street cleaning, hospitals, nurses and doctors, and in a
few cities even by the ownership and control of taverns and sa-
loons. III. Charities and corrections. This group comprehends
not only the almshouses and jails, but the labor colonies and
pawn shops which are maintained in a few European cities.
IV. Educational and cultural; for example, schools, parks, li-
braries, and museums. V. The activities included in this group
are commercial and developmental. The educational functions
are of course developmental; but the markets, docks, harbors,
streets, bridges, employment and statistical bureaus included in
this group are maintained more for the purpose of developing
industry and trade than the human mind and faculties. VI.
Municipal monopolies; e.g. water, gas, electric lighting, street
railway, telephone companies, and the like.
Before considering the unsettled municipal problems which
center chiefly around the activities classified in V and VI, let us
examine briefly the characteristics of the more economic and com-
mercial functions which have been generally assumed by Ameri-
can municipalities. Wharves and docks, ferries and quays, have
been acquired and their operation undertaken by the public, be-
cause trade and commerce, in general, the whole business of the
city, are intimately dependent upon their proper management in
the public interest, while at the same time they give rise to no
intricate technical or administrative problems. Much the same
characteristics mark highways, bridges, and canals. A few years
ago many of the highways were privately owned. The State took
them over, because the payment of tolls was exceedingly incon-
venient and hampered commerce, because the question of price
or profit was insignificant in comparison with the general public
importance of free communication, and because the management
of highways and bridges is comparatively easy and simple. Water-
works likewise are owned and satisfactorily managed by most of
ECONOMIC ACTIVITIES OF MUNICIPALITIES 50!
the larger American municipalities. Here again the reasons are
clear. As in the case of streets and roads, the public health and
convenience are so overwhelmingly important in this connection
that the question of price and profit becomes of secondary impor-
tance, while the operation of the industry itself is simple and easy,
although the installation of the plant may acquire enormous capi-
tal and great engineering skill.
All these quasi-commercial undertakings, then, which have been
generally assumed by American municipalities are characterized
by five important qualities: (a) all of them are natural monopo-
lies ; (b) the interest of practically the whole community is vi-
tally dependent upon their proper operation ; (c) because they
touch the consumer and taxpayer so constantly, the quality of
the service is incessantly subjected to the criticism of taxpayers
and voters; (d) in all of them profit and price per unit of service
are secondary considerations, wholly outweighed by larger con-
siderations of public health or convenience, and (e) all of them
possess the " invariable routine-like character " which Jevons
mentions, and are capable of operation by simple, general rules.
The Present Problem. These five criteria of public industries
may be used affirmatively, but not negatively; i.e. it is logical to
conclude that any industry which possesses these qualifications
may with safety be assumed by the public, but it is illogical to
infer that any industry which does not possess all of them must
be left to private management. Indeed, the burning question of
to-day is just this: whether street railways which are not easily
managed, and lighting plants or telephone systems which are nei-
ther capable of operation by simple rules nor so vitally connected
with the public welfare as water companies or streets and bridges,
should be municipalized. Before discussing municipal owner-
ship and management, however, it is necessary to consider the
alternatives which have been suggested.
Protection through Competition. We mention the discarded
idea that good service and reasonable prices will be secured by
the pressure of competition, merely to emphasize the progress that
has been made in the past few years. A generation ago, the be-
lief was still prevalent that competition would protect the public
502 OUTLINES OF ECONOMICS
from extortion. To-day, it is everywhere admitted that the public
industries which we are discussing are municipal monopolies above
and beyond competitive control. Consolidation of competing
companies is the recognized rule. Practically all the street rail-
way lines have been brought under one control in Brooklyn, Balti-
more, Boston, Philadelphia, Buffalo, Cincinnati, Pittsburg; and
in other cities where the control is not absolutely unified, there
are likely to be only two or three systems and these working in
harmony and cooperation. In 1890 more than three fourths of
the street railway companies had less than ten miles of line, and
together such small lines represented more than two fifths of
the total mileage of the country. In 1902, however, less than
half of the companies operated less than ten miles of line, and in
all, such small lines represented less than one eighth of the total
mileage. In 1890, moreover, only two companies had lines ex-
ceeding one hundred miles in length, and their combined mileage
was less than one twentieth of the total. In 1892, twenty -five
railways exceeded this limit, and together they embraced more
than one fourth of the total mileage of the country. 1
Moreover, there has been a consolidation of ownership similar
to the consolidation of plants. Great syndicates have been
formed, which operate in many cities and often control the gas
and electric plants as well as the street railway systems. Such
combinations exist in Pittsburg, Baltimore, and many other
cities. "The Interstate Railways Company, which succeeded the
United Power and Transportation Company in 1902, controls
about fifteen street railway systems in Pennsylvania, New Jersey,
and Delaware, together with two electric light companies. It
has also acquired the stock and franchises of numerous new
railway companies. Some of the lines controlled are more or
less closely connected, and others may be brought into connec-
tion later, but the primary purpose has been, apparently, not so
much to make a single great system as to provide a convenient
form of investment. The American Railways Company of Phil-
adelphia controls eight or nine widely separated street railways
and lighting plants in Ohio, Illinois, New Jersey, and Penn-
1 Special Census Report, Street and Electric Railways, p. 121.
ECONOMIC ACTIVITIES OF MUNICIPALITIES 503
sylvania, and also a minority interest in the stock of the Chicago
Union Traction Company. The Railways Company General con-
trols stocks of seven railway lines, and lighting plants in New
York, Pennsylvania, and Michigan." l
The franchises now in the possession of these large combina-
tions are of enormous value. In the early part of this chapter
attention was called to the stupendous size of the American mu-
nicipal debt, amounting in 1902 to $1,387,316,976. The munici-
pal franchises now in possession of private corporations, accord-
ing to trustworthy computations, exceed in value the enormous
debt of our cities; so that if the latter had undertaken these serv-
ices themselves, managed them as efficiently as the private com-
panies, and charged the same prices, they would now possess
assets in excess of their fiscal obligations. Indeed, in many of
the larger cities of this country, the franchises of the street rail-
way companies alone exceed in value the whole municipal debt.
So rapid has the movement of monopoly been in the industries
under consideration, so deeply has the eager struggle for these
great franchise values corrupted city government, that one no
longer hears of regulation through competition. The private cor-
porations themselves admit to-day not only that services and prices
must be regulated by the public, but that their business must be
taken out of politics. The question has ceased to be: Shall pub-
lic utilities be controlled? It has become: Can they be controlled
by anything short of municipal ownership and management?
Methods of Public Regulation. The alternative most fre-
quently suggested is public regulation. There are many kinds
of regulation, and one of these we have had, potentially at least,
during the entire period in which our cities have been pillaged
and our municipal councils corrupted. All the time this has been
going on, the state legislatures have had the right to regulate, if
they saw fit; but they seldom saw fit. General regulation thus
amounts to nothing. Special methods and special machinery
must be devised, if regulation is to be made effective.
1 A description of the extent of such combinations together with other suggestive
details may be found in Chapter VIII of the Census Report, Street and Electric
Railways, from which the above quotation is taken.
504 OUTLINES OF ECONOMICS
The second method we may for brevity call the Commission
Method, although the mere fact that there is to be a commission
amounts to little, while the character of the men on the commis-
sion and the manner in which they are to conduct their regulation
amounts to a very great deal. Adequate regulation through a
commission, to our mind, contemplates the following specific pro-
visions: (a) That cities, at least of the larger size, shall be per-
mitted either to undertake and manage public utilities on their
own account, to sell or rent franchises on the best terms, or con-
demn and purchase under the power of eminent domain the
existing franchises and property of public utility companies pos-
sessing perpetual franchises; (b) that, whether under public or
private management, public utilities shall, so far as possible, be
strictly monopolized, or in other words, there shall hereafter be
no unnecessary duplication of plant for which consumers are forced
to pay; (c) that the service and charges of both public and pri-
vate plants shall be reasonable, any group (say of twenty-five con-
sumers) having the right to test such reasonableness before the
commission; (d) that to secure the necessary basis for a judg-
ment of what constitutes reasonableness, the commission shall
make a valuation of all public utilities; (e) and thereafter exer-
cise a strict control over extensions, improvements, and the issue
of new securities; (/) that the commission shall inspect the serv-
ice or products of public utility companies and shall introduce
a system of uniform accounting in both public and private com-
panies; (g) and publish annually, or at shorter periods, compara-
tive statistics of revenue, cost, and service, in order that the
efficiency of public and private service may be contrasted.
This last provision of publicity is exceedingly important. It
will not only spur both private and public companies to make as
good a record as possible, but will exercise a most wholesome
influence upon the commission itself. In Massachusetts, for ex-
ample, the Board of Gas and Electric Light Commissioners has
been severely censured in the past for its secrecy and failure to
publish the data by which a judgment could be rendered concern-
ing the reasonableness of the charges of private companies. " If
the Board," a prominent newspaper once said, '' is empowered to
ECONOMIC ACTIVITIES OF MUNICIPALITIES 505
keep secret what information it is pleased to, how are people to
know that they may not become a mere agency of the monopolies
to cover up and justify their possible undue exactions." With
publicity of a really adequate kind, this criticism never would
have been made.
An exceedingly important part of the scheme of regulation is
that just as many difficulties as possible shall be anticipated and
specifically arranged for in the original charter. Regulation thus
becomes largely an interpretation of accepted principles, not the
formulation of principles de novo. New York City, for instance,
used its credit to secure the construction of the subway and then
leased it to the Interborough Rapid Transit Company on such
terms that in fifty years the principal and interest of the debt will
have been paid, and the city will own the subway practically
without expense. Another illustration of the favorable terms
which a city may secure by careful bargaining is found in the
arrangement which the city of Chicago made in 1907 with the
Chicago City Railway and the Chicago Union Traction Company.
The companies not only agreed to rebuild and improve the whole
street railway system, to provide new through routes and addi-
tional transfers, and to operate under a license revocable at any
time by the city upon payment of the agreed value of the roads
plus the cost of improvements, but the city is to exercise a large
degree of control over the frequency of the service and supervise
rigidly the accounts of the company, while all profits above 5
per cent on the actual investment are to be shared between the
city and the railways, 55 per cent to the former and 45 per cent to
the latter. 1
We cite these examples partially to show that our cities are
gradually learning to drive better bargains with the corporations
than in the past, but principally to emphasize the fact that such
freedom of contract would be perfectly possible under the com-
mission form of regulation, and would at the same time facilitate
1 In speaking of these terms as "favorable," we merely mean more advanta-
geous to the city than has usually characterized the franchise grants of the past.
In this particular case it is possible that Chicago might have obtained even better
terms, or that municipal ownership and management might have been the wisest
solution of the problem.
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508 OUTLINES OF ECONOMICS
cities supplied more consumers and charged on the average lower
rates than the private companies. Similarly, in the United States,
a large majority of the water works are now owned by municipali-
ties, while in 1902 the municipalities owned 815 out of the 3620
central electrical stations, employing 2467 out of the 23,330 wage
earners employed, and supplying 195,904,439 out of the aggre-
gate 2,507,051,115 kilowatt hours of power. At first blush, it
would appear that the safest arguments for or against municipal
ownership might be derived from a comparative study of munici-
pal and private operation. Such, however, is not the case. Owing
to the predominating importance of technical questions in such
comparisons, none but expert engineers or accountants are com-
petent to draw conclusions, and unfortunately the conclusions of
the experts are in hopeless conflict. The expert representatives of
the private companies return from their study of public manage-
ment with their opinions unchanged; while the expert defendants
of municipal ownership find in the results of English or American
municipalization little but confirmation of their existing opin-
ions. In fact, we are forced back upon more or less general
considerations.
If we carefully examine the important arguments in favor of
municipal management, we shall find that many of them assume
that regulation of the character previously described is impossible,
(a) The most emphasis is placed by defendants of municipal
management upon the fact that private ownership in the past has
resulted in widespread political corruption. No one, to-day, de-
nies this truth. But never in the past have we attempted the kind
of regulation which we may expect in the future, and which has
already been started, though not perfected, in the states of New
York and Wisconsin. This species of regulation contemplates a
valuation of public and private plants, with prevention of stock
watering and reduction of profits to a reasonable level. If we
can sell or rent franchises (not give them away), prevent the capi-
talization of excessive profits, and keep dividends on a rational
basis, the raison d'etre of bribery and corruption disappears.
Corporations cannot afford to pay bribes for the opportunity of
earning reasonable profits.
ECONOMIC ACTIVITIES OF MUNICIPALITIES
509
(6) The second great argument for municipal management is
that it will improve the public service by increasing its extent,
dignity, and importance. This position is probably well taken.
The supreme necessity for judicial purity has given us pure courts.
The supreme necessity for decent management of public utilities,
if they were undertaken by our municipal governments, would,
it is probable, give us decent management. Certainly, at least,
every one agrees that it would be suicidal to introduce municipal
management without putting it on a civil service basis.
(c) The next characteristic of public industry is as often cited
against as in favor of municipal management. Except for high-
class salaried men, where the reverse is true, the State treats its
employees unusually well, paying larger wages for shorter hours
of labor than most private employers. This will appear as a vir-
tue or defect, according to our viewpoint. If we believe that
the State should be a model employer, and pay fair living wages
whether private employers do so or not, this characteristic of
municipal management will appear as a strong reason for its
introduction. If, on the other hand, we concentrate our thoughts
on cheapness of production, and neglect all considerations of the
welfare of the producers, we must score a point under this head
in favor of private operation.
(d) One of the strongest charges against municipal ownership
is based upon the fairness and humanity which the State shows
in dealing with its employees. It is charged that such treatment
tends to corrupt the public servant, and to destroy his political
independence, making him a subservient henchman and sup-
porter of the administration under which he happens to be work-
ing. That there is danger of such "pernicious activity" on the
part of office holders, no reasonable student of public affairs will
deny. In the recent Chicago city campaign, when, as it happened,
municipal ownership was the burning issue, the head of the police
department attempted, and partially succeeded, in forcing almost
the entire police force to work for the election of one of the can-
didates. But this candidate was defeated, despite the police,
and the police official is at the present writing under criminal
indictment.
510 OUTLINES OF ECONOMICS
This rebuke of police interference is of crucial import. It calls
attention to the fact that American voters have learned to resent
such interference. In scores of city elections in the last five years
the independent political sense of the people has triumphed over
office-holding cliques who attempted to perpetuate their sway;
and not only has the electorate shown its ability to control the
office holders, but with every year it has become more and more
difficult for political bosses to dictate to the office holders them-
selves. Without civil service, of course, municipal management is
unworthy of consideration. With it, however, the whole sting of
this criticism vanishes. Not only will public employees cease to
be of one political faith, but the better conditions of employment
offered by the State will probably cease to make a petty grafter
of the public employee. The reason for the last statement is
plain. If the State pays $4.00 a day for carpenters, while private
employers offer but $3.00, the $1.00 difference may have either
of two effects: under the spoils system, it will go to indifferent
or average workmen in the form of a pauperizing bounty; but
under the merit system, it will bring to the State the best skill
in the occupation. Better conditions of employment, where
the merit system prevails, merely "concentrate competition upon
efficiency."
Moreover, it may be remarked that it is not open to opponents
of municipal ownership to assert that: "all this argument pre-
supposes appointment by merit, but we have not yet succeeded
in introducing the merit system." Such an argument may be
turned against its supporters by the countercharge, which is
equally true, that we have not yet succeeded in introducing the
advanced form of public regulation which is the only salvation
and the last defense of the adherents of private management. In
point of fact, the whole discussion of municipal management pre-
supposes certain reasonable improvements both in the character
of public regulation and the character of the public service; for
unless we can regulate public utility companies far more satisfac-
torily than we have done in the past, we shall unquestionably and
inevitably come to municipal management.
(e) Finally, there is another fundamental characteristic of pub-
ECONOMIC ACTIVITIES OF MUNICIPALITIES 511
lie management which we shall regard as a virtue or defect accord-
ing to our political philosophy. Under private ownership, prices
are determined by considerations of profit; and persons who can-
not afford to pay the price of the service must go without it,
although they may be sadly in need of it. Under public manage-
ment, however, rates are determined by general social utility and
are frequently placed at less than the cost of services. Where
this happens, part of the expense of maintaining the industry falls
upon the general body of taxpayers, and it must be remembered
in this connection that probably a majority of the voters of the
present time pay no direct taxes. To persons of broad social sym-
pathies, confident of the honesty of democracy and anxious to
turn the powers of the State to ameliorating the lot of the poor and
unfortunate, this prospect of modifying charges by considerations
of social policy offers no terrors. To reduce street-car fares, for
instance, during the hours when our poorly paid workmen are
riding to their work, and in general to adjust prices so as to sub-
serve the highest social welfare, appears as an honorable oppor-
tunity, not as a dishonorable temptation. To persons of a harsher
social creed and a more pessimistic social philosophy, however,
the adjustment of rates to the greatest good of the greatest number
seems pernicious and dangerous.
Whether public management can fairly be expected to be as
efficient and progressive as private management is a question
which does not lend itself to brief discussion. At present,
however, we are unquestionably in an experimental stage; and
it is desirable not only that the commission plan shall be given
a thorough trial, but that public ownership and operation shall be
tested under such conditions as to enable an intelligent compari-
son to be made with the results of private management. States
having a commission empowered to enforce uniform accounting
will constitute great economic laboratories in this connection during
the next quarter of a century. In the end, however, it may be
that less emphasis will be placed upon cost of service and more
emphasis upon considerations of general social welfare than
is now done. Even if it shall transpire that private management
under a state commission is cheaper and more progressive than
512 OUTLINES OF ECONOMICS
public management, the latter will still have a strong case in the
plea that it adapts the service to the greatest social welfare, abol-
ishes the struggle between the franchise corporations and the pub-
lic, dignifies municipal government, and, by enlarging the public
interests of the people, breeds in them a finer spirit of cooperation
and a deeper sense of social solidarity. At bottom this question
is not so much economic as social; and in the end that method
of management will prevail that best subserves the social well-
being, not that method of management which is cheapest.
Municipal Home Rule. The problem of municipal ownership,
as has been suggested, presents a contest between the highest form
of regulation which we can reasonably expect versus the best spe-
cies of municipal management which we are justified in anticipat-
ing. It is a conflict of potentialities. Whatever its outcome, there
is one important step which should be taken at once : cities should
be endowed with the power of introducing municipal manage-
ment, if they wish to try the experiment. In many cities to-day
private corporations have secured, often by bribery, perpetual
franchises in which rates and other conditions are authorized that
are manifestly unjust to the public. In such a situation the city
can do nothing but condemn, or threaten to condemn, the fran-
chise and property under its powers of eminent domain. Munici-
pal ownership, or the threat of municipal ownership, under which
the corporation might possibly acquiesce in reasonable regulation
offers the only remedy for this condition of affairs.
Worse than the above situation, however, is the utter helplessness
of those city governments which can neither undertake the opera-
tion of public utilities themselves, nor regulate the rates and serv-
ice of the private companies which control them; while the state
legislature, which has retained the power of regulation, does noth-
ing. This deadlock delivers over the city bound and captive into
the hands of the corporations. Even if the city decides to sell or
rent its new franchises, even if it prefers the conservative policy of
private management, it cannot dispose of its valuable rights to
the best advantage, unless it possesses the alternative of public
management with which to force the hand of the corporation.
It is sometimes thought that by offering franchises to the highest
ECONOMIC ACTIVITIES OF MUNICIPALITIES 513
bidder, competition among private corporations will bring reason-
able and remunerative offers. This, however, is not the case.
The only bidder in most instances is the corporation already in
power, and where competitive bidding is required by law, "the
local governments have obtained no more favorable terms than
were prescribed as a minimum by state or local legislation. The
reason is obvious. The proposed franchise is almost invariably
petitioned for in the first instance by a duly organized corpora-
tion, which asks the right to occupy specifically named streets,
and which has carefully considered, in advance, construction plans
and probably financial results. Even when a considerable period
of time is allowed for others to investigate the proposed plan and
to estimate the value of the franchise, these possible competitors
are at a great disadvantage as compared with the original pro-
moters. It often happens that there are few people in a city who
are familiar with the street-railway business and at the same time
in command of the necessary capital. Effective competition is
still less likely when the proposed railway is in the nature of an
extension or outlying line, the success of which will depend almost
wholly upon cooperation with existing lines. The process of con-
solidation among street railways has gone so far in most large
cities that there is only one important system in existence with
which a new railway can be connected." l
QUESTIONS
1. What connection is there between governmental activity and popula-
tion ? Explain.
2. What is the essential characteristic of municipal government ?
3. Classify the functions commonly exercised by cities, and enumerate
the most significant characteristics which they possess in common.
4. What has been the most fertile source of political corruption in cities?
Would it disappear with adequate regulation ?
5. Why has general regulation been ineffective?
6. Under a system of adequate regulation, would it be desirable to en-
courage monopoly by chartering only one company with an indeterminate
franchise ? Why ?
7. Is it desirable that charters should contain specific provisions respect-
ing taxes, rates, and quality of service? Why?
1 Census Report, "Street and Electric Railways, 1902," p. 128.
2L
514 OUTLINES OF ECONOMICS
8. Under a proper system of regulation, would the increase in franchise
values owing to growth of population and wealth (the unearned increment)
benefit the public or the private company ?
9. Would municipal plants pay taxes under existing tax laws? Should
they pay such taxes?
10. Assuming that the poorer classes pay a larger share of their income
for street-railway transportation than the wealthier classes, would it be de-
sirable for private companies to earn large profits, even if such profits were
turned over in whole or part to the city government ?
n. Under the same hypothesis, would it be legitimate for a municipal
street railway to charge passengers less than cost, meeting the deficit by tax
levies ?
12. What advantages are possible from municipal management that can-
not be secured from private operation under good regulation ?
13. Why should municipalities be granted the option of acquiring and
managing the public utilities?
REFERENCES
BEMIS, E. W., and others. Municipal Monopolies.
DARWIN, L. Municipal Trade, passim.
ELY, R. T. Evolution of Industrial Society, Part II, Chap. V, "Municipal
Ownership of Natural Monopolies," pp. 225-254.
FOOTE, A. R. Municipal Public Service Industries.
HOWE, F. C. The City the Hope of Democracy, passim. "Municipal
Ownership in Great Britain," Bulletin of the [U.S.] Bureau of Labor
No. 62, January, 1906.
JOHNSON, E. R. "Public Regulation of Street Railway Transportation,"
Annals of the American Academy of Political and Social Science,
March, 1907, pp. 31-47.
Municipal A/airs, Vol. IV, No. i, 1900; and Vol. VI, No. 4, 1002-1903.
POND, O. L. "Municipal Control of Public Utilities," Columbia Studies
in History, Economics, and Public Law, Vol. XXV.
Proceedings of the Annual Meetings of the National Municipal League.
Report of the London Commission on London Traffic, 1905.
Report of the Special Committee of the State of Massachusetts, 1898 : " The
Relations between Cities and Towns and Street Railway Companies."
Special Census Report, Street and Electric Railways, 1002.
Special Census Report, Telephones and Telegraphs, 1002.
Special Census Report, Central Electric Light and Power Stations, 1902.
United States Supreme Court Reports, Vol. 143, p. 339. San Diego Land
Co. vs. National City, etc.
CHAPTER XXX
SOCIALISM
Socialism Defined. Socialists seek the establishment of in-
dustrial democracy through the instrumentality of the State.
Our political organization is to become also an economic industrial
organization. Socialism contemplates an expansion of the busi-
ness functions of government until the more important businesses
are absorbed. Private property in profit-producing capital and
rent-producing land is to be abolished. Socialists make no war
upon capital; what they object to is the private capitalist. They
desire to socialize capital and to abolish capitalists as a distinct
class. Their ideal, then, is not, as is supposed by the uninformed,
an equal division of existing wealth, but a change in the funda-
mental conditions governing the acquisition of incomes.
Socialists usually say that labor creates all wealth. No rational
socialist means thereby to deny that land and capital are factors
of production, but as these are passive factors, they hold that their
owners ought not to receive a share of the product unless they
personally are useful members of the community. Labor is. the
active factor, and all production is carried on for the sake of man.
Land and capital are simply the tools of man. Socialists admit
that the owners of these tools must receive a return for them when
industry is organized as it is now; hence they desire that these
tools should become public property. They wish to make of uni-
versal application the command of the Apostle Paul, " If a man
will not work, neither let him eat."
Distributive Justice. Socialists, in common with a great many
other people who do not accept their attitude toward the organiza-
tion of industry, desire distributive justice. As to what constitutes
justice they are not wholly agreed, but there is among them a
tendency to accept equality or needs as a basis rather than produc-
5*5
516 OUTLINES OF ECONOMICS
tivity. Some, it is true, have advocated an almost mechanical
equality, but most socialists to-day would regard the question of
a precise standard for the distribution of income as not of present
importance. They are simply agreed in this, that the distribution
of the present day is wholly unjust. They think that men to-day
do not have equal chances in life, that there is too much privilege.
The big rewards, they think, to-day go to those who are shrewd
and cunning, who are skillful in manipulating stocks and bonds,
or who are favored by inheritance with a good start, rather than
to those who render great social service. The inventors, poets,
authors, scientists, skilled mechanics, and factory managers, they
allege, are the large producers, but they do not get the big prizes.
Varieties of Socialism. The foregoing characterization ap-
plies to most persons who have been called socialists, but the genus
contains a number of species which should be distinguished.
(i) One group has been called " Utopian." There are those
who might object to this term on the ground that all of them are
Utopian. Nevertheless, some are more so than others. This first
group contains those who have become impressed with the evils
of the present competitive system and propose the collective owner-
ship of the means of production as a remedy, in much the same
spirit with which a physician writes a prescription to cure his
patient. There have been many attempts to picture to us how
smoothly things would proceed if men could only be persuaded
to try the collective ownership of land and capital. As a type of
this class we may take Robert Owen. His life was contemporane-
ous with the Industrial Revolution in England, he himself being a
successful manufacturer. He saw with his own eyes the evils
of unrestricted competition, and was filled with an earnest desire
to better the condition of the working classes. He is remembered
as a factory reformer and promoter of voluntary cooperation, but
yet he regarded these efforts as not sufficiently radical. He thought
human nature must be reformed by careful training from child-
hood in an atmosphere of association, instead of the self-seeking,
commercial atmosphere which surrounded him. He spent his
large fortune in an attempt to carry out his ideas regarding the
reconstruction of society. Among his projects was the founding
SOCIALISM 517
of a colony at New Harmony, Indiana, where no private property
or competition should exist. After a continuance of two years,
the experiment ended, as most other similar enterprises have, a
complete failure. In this group would also be placed Saint-
Simon, Fourier, Cabet, Blanc, 1 and Bellamy.
(2) The " Marxian " socialists call themselves " scientific,"
as distinguished from the idealistic writers just mentioned. They
insist that they have no cure-all for the ills of society. Socialism
in their eyes is, in the main, only an explanation of what is happen-
ing. The private capitalistic system is breaking down, they say,
and the logical result must be the collective ownership of the
means of production as the next stage in social evolution. They
say that setting aside all question of " ought " or " desirability,"
collective ownership is coming, and we might as well adjust our-
selves to it. The four leading features of the Marxian philoso-
phy are: (a) the study of society as an evolutionary product ;
(b) the economic interpretation of history, according to which
our whole social life, including our ideas concerning religion, art,
marriage, etc., are but a reflex of past and present economic
conditions; (c) the doctrine of surplus value, according to which
the income of the capitalist class does not represent a return for
abstinence, but results from the fact that through their ownership
of the means of production they can compel the laboring class to
work for them a longer number of hours than is necessary to pro-
duce the wages which the laborers receive. What is produced in
this additional number of hours is the source of capitalist income;
and (d) the doctrine of the class struggle, which finds a deep antag-
onism between the capitalist class and the laboring class, that
can only result in the overthrow of the capitalist class and the tri-
umph of the laboring class. Most socialists now believe that this
victory will be won without bloodshed, as a result of a gradual
increase in the strength of the socialist party as a political organiza-
tion.
(3) The Fabian Socialists, of whom the members of the
Fabian Society of England are types, have disapproved both of the
1 Louis Blanc was less " Utopian " than the others. He was transitional and
in reality paved the way for the German and later "scientific" movement.
518 OUTLINES OF ECONOMICS
founding of Utopian settlements and of the philosophy of Marx.
The aim of this society has been to spread socialistic ideas by
the dissemination of knowledge on the subject, rather than by an
organized political movement, advocating this or that reform as
opportunity indicated. The membership has come largely from
the educated middle class, and has never been very large, although
the society has exercised considerable influence. Practically,
some of the conservative members of the Marxian school, such
as Bernstein, in Germany, and Jaur^s, in France, do not differ
greatly from the Fabians.
The following words of Jaures on the method of realizing the
socialist ideal are of interest in this connection :
"All Socialists, indeed, some openly, others with infinite precautions, some
with a mischievous Viennese good-nature, declare it to be untrue that, taken
as a whole, the economic material condition of the proletariat is getting worse
and worse. It must be conceded, after taking account of the tendency to
sink and the tendency to rise, that in the immediate reality of life, the tendency
to sink is not the stronger. Once this has been granted, it is no longer pos-
sible to repeat after Marx and Engels that the capitalist system will perish
because it does not insure to those whom it exploits the minimum necessities
of life. It follows from the same admission that it has also become puerile
to expect that an economic cataclysm, menacing the proletariat in its very
existence, will bring about, by the revolt of the instinct of self-perservation,
the ' violent overthrow of the bourgeoisie.'
"It is not by an unexpected counter-stroke of political agitation that the
proletariat will gain supreme power, but by the methodical and legal organi-
zation of its own forces under the law of the democracy and universal suffrage.
It is not by the collapse of the capitalistic bourgeoisie, but by the growth of
the proletariat, that the Communist order will gradually install itself in our
society." l
(4) The Christian socialists. About the middle of the nine-
teenth century, such men as Kingsley, Maurice, and Hughes in
England were much impressed by the misery of the poor, arid they
attacked the competitive system as being responsible for the evils
which they saw. Voluntary cooperation and the elevation of the
workingman's character seemed to them the proper remedies.
Thus their theories hardly fall under the head of socialism as we
have defined the term. In Germany and France, also, social
1 Studies in Socialism (trans, by M. Minturn), pp. 167-169.
SOCIALISM 519
movements have been organized by adherents of both Protestant
and Catholic Churches. In the United States all shades of opinion
have been included under Christian socialism, but the term should
apply only to those who advocate the collective ownership of the
means of production on the ground primarily that this is required
by the teaching of the Christian religion.
(5) State socialism is a term frequently used in German dis-
cussion to designate those who favor an extension of the economic
functions of government without any great change in existing
class relations.
(6) " Socialists of the chair " (Kathedersozialismus) refers to
the university professors who have advocated State interference
with property rights to any extent demanded by public welfare,
and have opposed the extreme laissez-faire doctrines of the older
economists. These men are not to be classed as socialists, the
term being used as a reproach by their conservative opponents,
and the designation has now chiefly historical significance.
Communism. Communism was the term employed by Karl
Marx to distinguish his own philosophy from the " Utopian"
schemes of such men as Owen, which he termed socialistic. But
to-day the reverse has become the common usage. Communism
now very generally signifies the abolition of private property not
only in production goods, but also in consumption goods, whereas
socialists contemplate the retention of private property in income.
In this case there would be provision of private property for every
one, and in this respect socialists emphasize and extend the idea
of private property.
Socialism an Extension of Existing Institutions. Our govern-
ment owns the post office; most governments the telegraph.
Nearly all own the wagon roads. Some own the canals and rail-
ways. Many governments own factories. Probably every na-
tional government does at least a little manufacturing. Most
governments cultivate forests, and some cultivate arable land.
We have only to imagine an extension of what already exists until
government enterprise dominates in manufactures, mining, trans-
portation, commerce, and carries on, in short, most productive
enterprises, and we have socialism pure and simple.
520 OUTLINES OF ECONOMICS
But saying that socialism is an extension of existing institutions
may lead to a misconception. The elimination of private capital-
ism is supposed to work a most radical change in many branches
of our social life. The commercial spirit would be abolished, and
with it all that is dependent upon it. We are trained, it is alleged,
to-day from childhood up to try to "make money," and this ac-
centuates the selfish elements in our nature; and it is therefore
maintained that our present system does nothing to promote, and
does much to hinder, the development of the brotherly spirit.
The Strength of Socialism. Socialism makes perhaps its
strongest claim in its plea, first, for a scientific organization of the
productive forces of society, and second, for a just distribution of
the annual social income. It is said that the present production
of economic goods is small in proportion to population, but the
socialist replies, "Naturally enough. Competition is wasteful.
Two railways are built where one would suffice. Two trains run
parallel between two cities where one would serve the public equally
well. Three times as many milk wagons, horses, and drivers are
required to serve the people with milk as would suffice if the milk
business were organized like the mail distribution in cities. Look
at the shops, wholesale and retail, and see the waste of human
force. Without competition, the whole dry goods and grocery
business could be carried on with a third of the present economic
expenditure of force. Reflect on all the idle classes in modern
society. Socialism would set everybody to work, and, making
each one dependent on his own exertions for success, would stimu-
late all energies." The argument is a telling one, but it does not
prove its point unless we grant that the present waste and idle-
ness cannot be suppressed or greatly diminished without a depar-
ture from the fundamental principles of our present industrial
order, or that the waste and idleness are not counterbalanced by
advantages.
Justice is a strong plea in the socialist philosophy. It cannot
be for one moment claimed that each one's income is at present
in proportion to his services to humanity. Income in proportion
to industrial merit is attractive to an ethical sentiment. But can-
not we approximate justice in distribution on the basis of the exist-
SOCIALISM 521
ing order? There is nothing distinctively socialistic about the
desire for distributive justice. It is a feeling that actuates those
who work for the control of monopolies and corporations, for tax
reform, regulation of inheritances, etc. The socialist simply differs
from these people in his method of attaining his ideal.
The socialist criticism of the present regime is especially severe
in the matter of unemployment. There are always some men
who are able and willing to work, who are out of jobs, and periodic-
ally, with the coming of crises and depressions, the lack of em-
ployment becomes widespread. There is, of course, no lack of
need for additional goods; the difficulty is entirely a matter of
business organization. Again, it is urged that to-day goods are
made for sale, not for use, as they would be under the socialistic
regime. Adulteration, deception, and "cheap and nasty" goods
are the direct outcome of a system of private capitalism. In the
socialistic state we are told the business of the shopkeeper is to
help you find what you really need; at the present time it is to
his interest to persuade you to buy what you do not need or what
will give him the greatest profit. The spirit of competition is to
the socialist simply warfare. In every business establishment a
good deal of the most highly paid labor is devoted, not to the pro-
duction of goods, but to finding a market. Ability to fight one's
competitor is quite as essential in business as is the ability to turn
out good products.
The Weakness of Socialism. (i) Strong as may be the fore-
going indictment of the existing industrial system, it is not sufficient
to indicate that socialism is to be the necessary or the desirable
outcome. The modern machine age is little more than a century
old, and some of its most important phases are very recent. The
dire predictions made by Karl Marx and his followers on the
strength of some of the earliest phenomena of the factory system
have not been borne out, and similarly the evils of to-day may
possibly be very largely eliminated without departing from our
fundamental institutions. In short, the first weak point in the
socialist's position is that he attempts to predict the course of
economic evolution too far in advance. That we shall have a
juster distribution of wealth in the future, and that we shall elimi-
522 OUTLINES OF ECONOMICS
nate many of the present wastes of production seems probable,
but whether this will be accomplished by a socialistic organization
or not, it would be hazardous to predict. It is desirable to have
ideals to work toward, but we should not pin our faith now to a
future method for attaining them, for no one can say that the
collective ownership of all of the important means of production
presents a question that needs to be decided now.
(2) The socialist underestimates the efficiency of the present
system. To-day there is a premium on energy and thrift. Much
may be wasted, but much is also produced. That socialism would
result in a larger sum total of goods for consumption has never
been proved. But on the other hand, we can say that the present
regime is continually offering more and more to the mass of
the people. Their standard of life is continually rising. Our
economic world is a bettering world.
(3) The socialist is also in other respects too pessimistic with
respect to the present. He sees all of the starvation, misery,
luxury, and extravagance, but he passes by the millions of happy
homes scattered throughout the land. He does not see that the
world is full of opportunity for the rising generation, that even if
the chance for the ownership of an independent business for the
ordinary man is smaller, the things which he can enjoy, if he is of
average intelligence and energy, are much greater than ever before
in the world's history.
(4) The socialist underestimates the importance of individual
responsibility. To-day a man is confronted by the stern necessity
of making his own way, and this must have some good effect upon
character. On the whole, the lazy and incompetent are sifted out.
Bad heredity and a lack of proper training are the cause of a good
deal of economic misfortune. It is well to distinguish the criticism
here made from the common error of supposing that socialism
would necessarily crush individuality, that we must all dress
and eat alike, etc.
(5) The socialist underestimates the importance of free enter-
prise in industry. If a man now believes that he can develop a
certain industry that will satisfy important wants of the people
in the future, he does not need to secure the consent of some gov-
SOCIALISM 523
ernment official to make the experiment. The possibilities of a
free and spontaneous development should be safeguarded from
governmental routine to every possible extent.
(6) Perhaps the most frequently mentioned objection to social-
ism is the danger to liberty. Under socialism there would be
simply the public sphere of employment, and there is reason to
fear that the inability to escape from the public sphere would com-
pel the submission to onerous and tyrannical conditions imposed
by the administrative heads of the business in which one might be
engaged. The socialists, it is true, have a rejoinder in the fact
that this objection refers to liberty in the negative sense rather than
in the positive sense of the power to enjoy goods, and yet there
are many persons who fear the tyranny of the majority. Those
in whose hands centered political and economic control would have
tremendous power, however they might be selected or appointed.
As in the religious sphere in the past, so in the economic sphere
in the future, we may find that compulsory cooperation is incom-
patible with human nature.
(7) The Marxian socialists may be criticised for the importance
which they attach to the economic interpretation of history, for
the validity of that proposition does not establish the validity of
the socialist contention. If it be true that our social life is a reflex
of our economic activity, it still does not necessarily follow that
our economic development is going to be such as will land us in
socialism. Their doctrine of the class struggle also does not give
an accurate account of existing conditions. We have a laboring
class and a capitalist class, it is true, but there is also a considerable
class, perhaps large enough to hold the balance of power between
the other two, which does not sympathize exclusively with either
labor or capital.
Social Reform. There are those who recognize the strength of
the socialist's criticism of the existing economic and social order,
but who believe it wise to attack the various problems confronting
us one at a time. Social reform seems likely to accomplish more
valuable results than socialism. We have a monopoly problem
before us now. Its solution may involve a considerable extension
of government enterprise. Why not concentrate our efforts upon
5 2 4
OUTLINES OF ECONOMICS
that problem instead of making up our minds now whether some
day the greater proportion of the industrial field must be collect-
ively owned and managed ?
The Socialist Movement. In every country of importance at
the present time there is an organized socialist movement, and
while it may never attain its ideals, it is exercising an important
influence on present-day affairs. This is most marked in the case
of Germany. Its voting strength has been steadily increasing,
although in the last election its representation in the Reichstag
was considerably reduced, as shown in the following table:
VOTES
REPRESENTATIVES
1878
437. I0
9
1881
312,000
12
1884
550,000
24
1887
763,100
II
1890
1,427,300
35
i893
1,786,700
44
1898
2,107,100
56
J 93
3,010,800
77 l
1907
3,251,000
43
1 The membership later rose to 81. The total number of seats in the Reichstag is 397.
Although the official platform of the party adheres strictly to
the orthodox Marxian faith, the party itself has worked for many
reforms tending to favor the lower classes, and a large element of
the party (the " revisionist " wing) is in favor of putting the doc-
trine of the class struggle and complete collectivism in the back-
ground, and laying main emphasis for the present upon social
reform. In France there are a number of socialist factions, or
various degrees of radicalism, nominally united in one party, the
factional strife being one of the prominent characteristics of the
movement in that country. Their combined representation in the
chamber of deputies is about one seventh of the total membership.
A member of the moderate group, Millerand, was made Minister of
Commerce (1899) in the Waldeck -Rousseau cabinet. In a num-
ber of French municipalities the government is almost completely
SOCIALISM 525
socialistic in personnel. The result in these cases has been an
increased public activity in behalf of workingmen, the poor, and
the unfortunate.
In Belgium the success of the socialist party in promoting the
cooperative movement has been striking. In England the or-
ganized socialistic party had small influence in political affairs
until recently, when a " labor group " was organized in Parlia-
ment. The Collectivist activity of the London County Council
may also be mentioned in this connection. In the United States
there afe two rival parties, the Socialist party of America and
the Socialist Labor party (of declining importance) both having
platforms based upon the Marxian philosophy. A number of
mayors and state legislators have been elected, but there are no
socialist representatives in Congress. In 1904 the Presidential
Socialist vote was about 3 per cent of the total votes cast.
Socialists have rendered good service by calling attention to
social problems, by forcing us to reflect on the condition of the less
fortunate classes, by quickening our consciences; also by helping
us to form the habit, acquired by few as yet, of looking at all ques-
tions from the standpoint of the public welfare and not merely
of individual gain; finally, by calling our attention to the nature
of the industrial functions of government and helping us to sepa-
rate rationally the private industrial sphere from the public indus-
trial sphere. A number of questions having no connection with
socialism have been, even by socialists, not infrequently associated
with it. Atheism and free love may be mentioned. Socialists
generally, however, regard religion and marriage as changing
institutions.
Anarchism. In contrast with the socialist, the anarchist holds
that the ideal social arrangement is that men should freely and
spontaneously form cooperative groups. The anarchists attack
government and deny the right of one man to exercise authority
over another. Freedom, independence, self-reliance, non-com-
pulsion is what appeals to them. Such an ideal contains nothing
reprehensible, but its complete attainment is impossible. Some
governmental compulsion seems necessary with human nature
as it is or is ever likely to be. The anarchist is not opposed to
526 OUTLINES OF ECONOMICS
the principle of association; he simply asks that the association
be voluntary. The anarchist ideal is thus portrayed by Kropot-
kin:
"This society will be composed of a multitude of associations federated
for all the purposes which require federation; trade federations for produc-
tions of all sorts, agricultural, industrial, intellectual, artistic; communes
for consumption, making provision for dwellings, gas-works, supplies of food,
sanitary arrangements, etc.; federations of communes, among themselves,
and federations of communes with trade organizations; and finally, wider
groups covering all the country, or several countries, composed of men who
collaborate for the satisfaction of such economic, intellectual, artistic, and
moral needs as are not limited to a given territory. All these will combine
directly by means of free agreements between them, just as the railway
companies or the postal departments of different countries cooperate now,
without having a central railway or postal government, even though the
former are actuated by merely egotistic aims, and the latter belong to different
and often hostile states; or as meteorologists, the Alpine clubs, the lifeboat
stations in Great Britain, the cyclists, the teachers, and so on, combine for
all sorts of work in common, for intellectual pursuits or simply for pleasure." 1
Many persons class anarchists and socialists together as simply
dangerous persons. One thing they do have in common, and that
is, discontent with existing conditions. Othenvise their views
are radically divergent.
Anarchists differ among themselves. The leading " Commun-
ist-Anarchist " is Kropotkin, who advocates revolutionary tactics.
Bakunine and Stirner have also stood for violence. The " in-
dividualistic anarchists," such as Tolstoi and Tucker, pursue a
peaceful policy of non-resistance. Godwin and Proudhon may
be called anarchistic reformers.
QUESTIONS AND EXERCISES
1. Is the public purchase of a street-railway system socialistic ?
2. Does William Morris, in his News from Nowhere, picture socialism or
anarchism ?
3. Compare the Amana Society with the New Harmony Community.
4. What is meant by the economic interpretation of history? Is it ac-
cepted by thinkers who are not socialists ?
5. What thoughts are common to the various platforms given in the ap-
pendices to Ely's Socialism and Social Reform ?
6. Write a sketch of the life of Josiah Warren.
1 Memoirs of a Revolutionist, pp- 39 8 ~399-
SOCIALISM 527
REFERENCES
BAX, E. B. Essays in Socialism, New and Old. (From a socialist point of
view.)
BROOKS, J. G. The Social Unrest, Chaps. VII-X. (Sympathetic critic
of socialism.)
COMMONS, J. R. "The Class Conflict," American Journal of Archaeology,
May, 1906.
ELY, R. T. Socialism and Social Reform, and French and German Social-
ism, and the articles on Socialism and Socialist Parties in the new
International Encyclopaedia.
ELTZBACHER, PAUL. Anarchism. (Trans, by S. T. Byington.)
ENSOR, R. C. K. (Editor). Modern Socialism, ad ed. (A collection of essays
by leading socialists.)
HILLQUTT, MORRIS. History of Socialism in the United States. (By a
socialist.)
HINDS, W. A. American Communities. (Descriptive.)
JAURES, JEAN. Studies in Socialism. (Trans, by M. Minturn.) (By a
conservative French socialist.)
KlRKUP, T. History of Socialism.
LE ROSSIGNOL. Orthodox Socialism. (Criticism of leading doctrines.)
MALLOCK, W. H. Aristocracy and Evolution. (Opposed to socialism.)
MORRIS, WILLIAM. News from Nowhere.
RAE, J. Contemporary Socialism, ad ed. (Opposed to socialism.)
SPENCER, HERBERT. Man versus the State. (Opposed to socialism.)
SELIGMAN, E. R. A. The Economic Interpretation of History.
TUCKER, BENJAMIN. Instead of a Book, ad ed. (By a leading anarchist.)
VEBLEN, T. B. The Theory of Business Enterprise, Chap. IX. (Severely
critical of existing conditions, but not accepting socialism.)
WELLS, H. G. A Modern Utopia.
ZENKER, E. V. Anarchism. (Attempts to give an exposition of anarchism
without taking sides.)
CHAPTER XXXI
AGRICULTURAL PROBLEMS
THE socialistic ideal of a highly centralized and delicately co-
ordinated industrial system, discussed in the preceding chapter,
is confronted with a sharp contrast in the agricultural industry
as it exists to-day. Even in the most advanced countries, agri-
culture is still strikingly decentralized, and furnishes at once the
best illustration and the most fertile source of economic individu-
alism.
Size of Farms. Agriculture has never been, and shows no
disposition to become, a large-scale industry in the United States.
The statistical evidence upon which this assertion rests is pre-
sented in compressed form in Table I upon the following page.
A comparison of columns 2 and 3 brings out the interesting fact
that, in every decade except one since 1850, the number of farms
has increased more rapidly than the general population. In 1850
there was one farm for every 16 persons; but one for every 13.3
persons in 1900; 1 one farm for every 14 rural residents (persons
outside of cities containing 8000 inhabitants or more) in 1850, but
one for every 9 rural residents in 1900. Moreover, there was
in 1900 one farm of 50 acres or more for every 13.4 rural residents,
thus indicating that the proportionate increase in the number of
farms is due " not to the addition of mere potato patches or small
tracts of land used incidentally for agricultural purposes, but to a
marked increase in the number of real farms. This growth marks
an increase among tne rural population in the number of farmers
whose head members are their own masters, and is a movement
toward economic individualism as distinct as the opposite tend-
1 The increasing proportion of adult males in the general population somewhat
reduces the significance of this statement.
528
AGRICULTURAL PROBLEMS
529
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530 OUTLINES OF ECONOMICS
ency in cities toward wage service and dependence upon em-
ployers." 1
Coming back to Table I, we find additional evidence in support
of the generalization just quoted. Columns 4 and 5 make it plain
that the bonanza farm which once occupied such a prominent
place in foreign and socialistic discussions of American agriculture,
is an exception which promises to become rarer and not more
frequent with the passage of time. Columns 6, 7, and 8 show
that the increase in the value of the average farm is trivial far
less than the increase in the wealth of the average member of
the agricultural class. Columns q, 10, and n furnish surprising
evidence to the effect that the land itself is not absorbing a larger
and larger share of the farmer's capital as time passes. Prac-
tically the only noticeable change is the increasing importance of
live stock on the farm a change which is regarded by practically
every authority as wholesome and encouraging. Finally, columns
12, 13, and 14 reflect in statistical form the growing scarcity of
farm labor and the increasing use of farm machinery in the culti-
vation of the staple crops.
The foregoing statistics are only approximately correct, and
conceal a great variety of conflicting movements in different parts
of the country. But they represent the true average condition,
the real resultant movement; and study of the details furnishes
no reason to question the general accuracy of their showing.
American agriculture shows no tendency to become either a large
scale or a highly capitalized form of industry.
Even Mr. Prothero, as the following quotation shows, has been led into
error on this point. "Statistics show that, in a country [the United States]
where estates in fee tail are obsolete or abolished by law, where there is no
feudal tenure, no primogeniture, no privileged class, in a country, finally,
where the transfer of land is simple, easy, and cheap, large estates and large
farms have become the rule. The United States contain more tenant farmers
than any other country in the world, and, where this class exists, those who
do the drudgery do not own the land. Land monopoly is becoming the
system of America." *
1 Twelfth Census, " Agriculture," Part I, p. xxxiv.
'Prothero, R. E. The Pioneers and Progress of English Farming (1888),
p. 146.
AGRICULTURAL PROBLEMS 531
So much for the size of the farm as it is; the next question con-
cerns the size of the farm as it should be. Would the prosperity
of the agricultural classes and the general welfare be increased
by expanding or reducing the farm unit, by more or less intensive
farming?
Obviously no simple answer can be given to this question.
The value of the land or the rent it will bring is perhaps the most
important factor: high rental value indicates that the margin of
cultivation has been forced to a comparatively low point, and makes
it both necessary and profitable to work the land intensively, for
the same reason that the owner of a very valuable manufacturing
plant is inclined to run it night and day, if possible, in order to
reduce that part of the cost of production which represents fixed
charges or interest on the capital that is sunk in the enterprise.
In addition to the factor of rent, the amount of capital that he can
command, the kind of farming in which he is most skilled, the
character of the labor he can secure, the proximity of markets, and
the adequacy of transportation facilities, all must be taken into
account by the individual farmer in determining how large a farm
he will attempt to manage and how intensively he will farm it.
Speaking generally, however, two powerful but counteracting
forces can be detected in the agricultural industry, which prevent
the industry from becoming either predominantly intensive or
predominantly extensive. On the one hand, machinery can be
employed most advantageously on a comparatively large farm,
and, other things being equal, the use of labor-saving machinery is
desirable. On the other hand, the importance of labor is greater,
and the importance of the manager or entrepreneur is less, in agri-
culture than in manufactures; and on this account the stimulus
given to the individual laborer by the sense of proprietorship is
a far more potent factor in agriculture than in other industries.
Large factories controlled by one entrepreneur employing hundreds
of dependent workmen have proved economically superior in the
manufacturing industry, because of the possibility of supervising
the labor, checking and measuring its efficiency automatically.
In agriculture, however, technical skill remains far more important
relatively to those commercial or financial talents which distin-
532 OUTLINES OF ECONOMICS
guish the successful employer than in any other great division
of production.
This question is primarily one of private profit, which the indi-
vidual must decide for himself, but the legislator and the scientific
student can be of some assistance in helping to develop that most
difficult branch of commercial science farm accounting and
in keeping the farmer alive to those changes in prices, wages, and
transportation charges to which the farm organization must adjust
itself. On the whole, however, the emphasis is wisely placed by
the average educator, at the present time, upon the possibilities
and opportunities of more intensive farming. In the past, exten-
sive farming has been, and justifiably so, the rule in this country,
and the force of inertia is all directed that way. But the demands
of the future will be in the opposite direction. As cities multiply
and the market approaches the farm, intensive farming will be
forced upon the people, and the readier we are to adapt ourselves
to this change, the less will be the friction and loss. Moreover,
the ability to earn a living by intensive farming makes it easier
to acquire a farm; and we are strongly of the opinion, as will ap-
pear hereafter, that widely diffused ownership is better than a
general system of tenancy, even where land values are high.
Finally, it may be noted that practically every European country
attempts by legislation to increase the number of small holdings;
and in a mixed problem of this kind, which is as much psycholog-
ical and social as strictly economic, the instincts of the majority
are likely to have a sound social basis. Even in England, where
comparatively large farming has had the greatest opportunity
and the most favorable environment, the consensus of opinion
seems to favor the encouragement of small holdings. English
authorities maintain, as a rule, that a mixed system of large and
small farms is the ideal condition, but that at present the emphasis
should be placed on intensive farming. In 1889 a Select (British)
Committee on the subject recommended unanimously that " the
extension of a system of small holdings is a matter of national
importance;" and in 1892 Parliament passed the Small Holdings
Act which empowers county councils to purchase land and sell
or lease it in small holdings. Purchasers were required to pay
AGRICULTURAL PROBLEMS 533
one fifth of the price on taking possession, and the remainder in
fifty years. In the beginning the Act does not appear to have been
a glowing success, and by 1903 only 62 small holdings, covering
248 acres, had been sold, and 166 holdings, covering 373 acres,
let. Recent amendments of the Act, however, appear to have
aroused more interest, and it is now asserted that, " since the pass-
ing of the Small Holdings Act, upwards of 47,000 small holdings
have been applied for in various parts of the country." *
We would not be misunderstood. A universal system of small
holdings would be good for no country, as a certain number of
large farms, assisted by abundant capital, are needed to set the
pace in the improvement of agricultural methods. And in the
United States, it is hoped, small holdings on the British scale will
not have to be considered for many generations, while we never
want the peasant farmer. But we do want the cultivation of that
spirit which has made Danish agriculture, in spite of great obstacles,
such a marvelous success; and it is imperative to avoid, if we can,
the growth of those conditions which have drawn so much of the
best rural blood of England to the cities. Both of these objects,
we believe, will be measurably advanced by the encouragement
of intensive farming.
Ownership and Tenancy. The essential facts bearing upon
the subject of farm ownership and tenure are summarized in
Table II, which is presented on the following page.
Section A of the table shows that cash and share tenancy are
increasing in the United States, and that the proportion of farms
operated by their owners was smaller in 1900 than in either 1890
or 1880. Two interpretations of this phenomenon have been
advanced. According to the first, which is based partially upon
the statistics cited in Section B of the table, the growth of tenancy
is due primarily to the increasingly rapid rise of farm laborers from
the position of wage earner to that of tenant. In this view, accord-
ingly, the increase of tenancy is encouraging. According to the
second interpretation, based partially upon the facts presented in
Sections C and E, the growth of tenancy is not an encouraging
1 The Westminster Review, May, 1908, p. 516. For the history of the legisla-
tion, see L. Jebb, The Small Holdings of England, Chap. IX.
534
OUTLINES OF ECONOMICS
TABLE II
STATISTICS OF FARM OWNERSHIP AND FARM TENURE IN THE UNITED
STATES : 1880-1900
1900
1890
1880
(Per cent of farms operated by owners
64 7
71.6
74. e
A
Per cent of farms operated by cash tenants . . .
Per cent of farms operated by share tenants . .
I3-I
22.2
IO.O
18.4
8.0
17-5
[Per cent of males employed in agriculture :
Who are owners
42.3
42.0
42.2
Who are tenants
23 I
16.6
14. C
Who are laborers and others
34 6
4.1.4.
43 3.
Per cent of persons owning farm homes:
All ages . .
64 4
6s o
Under 25 vears
27.8
32.6
C H
25 to 34 years
4<?.3
40.8
3<J to 44 vears . .
64 4
64 o
4? to ?4 vears
7O 7
72 3
55 years and over
8l.4
82.2
Per cent of owners of rented farms who own :
i farm
800
2 farms 4
114
p <
3 and under 5 farms
e.A.
5 and under 10 farms
2.3
10 and under 20 farms
O 7
20 farms and over
O 2
Per cent of farm homes owned :
Free
689
71.8
Encumbered
31 I
28 2
Encumbered, all ages
31 I
28.2
Encumbered, under 25 years
20 3
21.0
E
Encumbered, 25 to 34 years
JC C
31
Encumbered, 35 to 44 years
366
3.1 8
Encumbered, 45 to 54 years
3i.8
3O.2
Encumbered, 55 years and over
24.6
22.6
A, B, and D from Twelfth Census, Agriculture, Part I, pp. Ixxvii, Ixxxviii ; C and E from
Twelfth Census, Population, Part II, p. ccxi. The statistics under B are in the nature of
estimates, a small number of female owners and tenants being included under " laborers and
others." The aggregate percentages under A differ from those under C, owing to the fact
that they were collected by different departments of the census, and apply to slightly differ-
ent areas.
AGRICULTURAL PROBLEMS 535
sign, and indicates that it is becoming more and more difficult
to acquire ownership of land in this country. The statistics of
ownership under C prove that there is a steady movement from
tenancy to ownership as farmers grow older. More than 70 per
cent of the farmers between 45 and 54 years of age, but only 45.3
per cent of those between 25 and 34 years of age, owned the farms
which they operated in 1900. This steady advance is encouraging;
but the comparison of the figures for 1900 and 1890 indicates that
the rate of advance is declining. Moreover, the statistics presented
in Section E show that the proportion of owned farms which were
burdened with indebtedness was, for every age group, larger in
1900 than in 1890.
The statistics presented in Table II and the two interpretations
of their meaning are not, in reality, inconsistent. Tenancy is
more frequent in the South Central and South Atlantic states than
in other sections of the country, and more prevalent among negroes
than any other class of farmers. Here, evidently, tenancy does
represent an advance. The negroes who are tenants to-day were
farm laborers a few years ago and slaves a half century back. On
the other hand, tenancy is also prevalent and growing in the richest
farming district of the country, a district in which farm values
are high and advancing very rapidly; and in this district the
North Central states there is evidence of a close though not
perfect correlation between farm values and tenancy. 1
There is no cause for grave alarm concerning farm tenancy in
this country. Although the census of 1900 revealed one landlord
who owned 704 farms worth $4,545,230, Section D of Table II
shows that 80 per cent of the landlords owned only i rented farm,
and 96.8 per cent less than 5 rented farms; while the additional
fact that 78.8 per cent of the landlords lived in the same county
in which their farms were located proves that absentee landlordism
has not developed to any extent in this country. But we cannot
regard present tendencies with all the complacency exhibited by
some writers. 2 For not only has it been shown that the increase
1 See H. C. Taylor, Agricultural Economics, pp. 224-250.
2 See Twelfth Census, "Agriculture," Part I, pp. Ixxvii-lxxxi ; and E. L.
Bogart in the Journal of Political Economy for April, 1908.
536 OUTLINES OF ECONOMICS
of tenancy in the North Central states is probably due to the in-
creasing difficulty of acquiring land consequent upon advancing
land values; but tenancy is bound to increase as land values ad-
vance, unless the American farmer learns how to get a living from
smaller holdings. When land goes to $200 an acre, the average
young farmer can neither save enough nor command enough
credit to buy a farm of 160 acres and equip it properly. We shall
have either more tenancy in the older sections of the country, as
time passes, or smaller farms and a different type of agriculture.
As stated above, the latter change would probably do more good
than harm in the land. Our only fear is that the American farmer
will not adjust himself to it rapidly enough.
And it is doubtful whether we ought to derive comfort from an increase
in the proportion of owners as shown in Section B of Table II when
this increase results from an exodus of the agricultural population to the
cities, which must itself be regarded with grave apprehension. Census
officials explain away the increase of tenancy by dividing the agricultural
class into three reservoirs, owners, tenants, and others (presumably
laborers), and assure us that the swelling volume of the middle reservoir
is due to an increasingly rapid flow from the labor reservoir to the tenant
reservoir, rather than a decreasingly rapid flow from the tenant reservoir to
the reservoir of owners. But what about the flow from the labor reservoir to
non-agricultural occupations ? And how much of the diminution of owner-
ship in trade and manufactures should be charged against the increase of
ownership in agriculture? It is a condition, not a theory, confronting us,
and when we start to explain this condition, it is not permissible to halt
midway in the explanation. 1
Farm Labor. Although the agricultural account, to use a
bookkeeper's metaphor, must be debited with any evil resulting
from the rural exodus, before we can strike a proper balance of
social profit and loss, the condition of those laborers who have
remained upon the farms has unquestionably been improved by
1 Two other agricultural problems of great importance might logically be in-
troduced here share versus cash tenancy and a consideration of the conditions
under which it is better for a young farmer to hire than attempt to buy a farm.
The latter problem is considered in connection with other relevant questions on
page 540 of this chapter. The former question involves a discussion of the de-
tails of farm leases, and must be left to the larger treatises, although we may
venture the suggestion that more depends upon the customs and conditions of
peculiar localities than upon any inherent superiority of the cash rental.
AGRICULTURAL PROBLEMS
537
this exodus. The movement of the wages of farm labor since
the Civil War is described statistically in Table III, following.
From this it appears that farm wages were higher in the last
TABLE III
WAGES OF FARM LABOR IN THE UNITED STATES FOR SPECIFIED YEARS:
1866-1902
(Wages expressed in currency for the years 1866, 1869, 1875)
PER MONTH
FOR YEAR OR
PER DAY
IN HARVEST
ORDINARY
FARM LABOR
RELATIVE WAGES
PER MONTH WITH
BOARD ON THE
SEASON
PER DAY
YEAR
BASIS OF 1800
Without
With
Without
With
Without
With
Money
Real
board
board
board
board
board
board
wages
wages
1902
$22.14
$16.40
*i-53
$1.34
$1.13
$.89
I3I-7
121. 6
1899
20.23
14.07
J -37
1. 12
I.OI
77
113.0
116.3
1898
19.38
*3-43
1.30
1.0 5
.96
.72
107.9
111.9
1895
17.69
I2.O2
1.14
.92
.81
.62
96-5
IOI.O
1894
J7-74
12. l6
1-13
93
.81
63
97-7
100.3
1893
19.10
13.29
1.24
1.03
.89
.69
106.7
104.7
1892
18.60
12-54
1.30
1.02
.92
.67
100.7
IOI.2
1890
i8-33
12.45
1.30
I.O2
.92
.68
IOO.O
IOO.O
1888
18.24
12.36
i-3i
I. O2
.92
.67
99-3
96.7
1885
17.97
12.34
1.40
I.IO
.91
.67
99.1
99-5
1882
18.94
12.41
1.48
"5"
93
.67
99-7
85-7
1879
16.42
10.43
1.30
1. 00
.81
59
83.8
82.6
1875
19.87
12.72
1.70
i-35
i. 08
78
IO2.2
74-3
1869
25.92
16.55
2. 2O
1.74
1.41
1.02
132.9
81.8
1866
26.87
17-45
2. 2O
1.74
1.49
1. 08
I4O.2
70.0
NOTE. Broad averages are particularly unsatisfactory in dealing with the wages of farm
labor, and the reader should regard this table not as an exact exhibit of money wages, but as a
compendious method of describing a social movement the details of which are beyond the
scope of this treatise. For a more adequate discussion, see Bulletin No. 26, Miscellaneous
Series, U. S. Department of Agriculture.
year for which statistics are available than ever before, if we
properly discount the inflated currency in which wages were paid
in 1866, 1869, and 1875; and the rough estimates of the purchasing
power of farm wages given in the last column of the table indicate
that real wages have steadily risen since 1866. Moreover, the testi-
538 OUTLINES OF ECONOMICS
mony is practically unanimous to the effect that the increased use
of farm machinery has not only reduced the hours of labor, but
has diversified and lightened the toil of the farm hand. Added
to these evidences of increasing material comfort is the reassuring
fact that the farm hand retains, in a large degree, his superior
social position. The native white farm laborer usually eats at
the, same table with his employer, shares his social diversions, and
in general mixes in the same social class on terms of approximate
equality.
There is room, however, for much improvement. The hours of
labor are still long in the country, 10 in winter, 12 in summer,
13 in harvest season on the average, and, except on a very small
number of farms, there are two or three months in the year when
the laborer cannot secure full work. " The able-bodied, industrious
man desirous of employing his full vigor continuously finds a limi-
tation in the average condition of farming. Seedtime and harvest
make busy their respective periods, but whenever the frost of winter
or the drought of summer suspend the activity of vegetation, there
will be an interval in the work of the cultivator." 1
Furthermore, the best evidence obtainable supports the con-
clusion that while " skilled labor, owing to its contact with ma-
chinery and the influence of education, has attained increased
efficiency," " unskilled and irregular labor has lost much of its for-
mer adaptability and value to the farm." 2 Worst of all, there is
rapidly developing a class of migratory or casual agricultural
laborers who drift from city to country and back again, who have
no ambition to establish themselves permanently upon the land,
and yet teach the farmer to rely upon their assistance, and debase
the real standard of living of the laborer who adopts farming as
a serious occupation, and looks forward to the acquisition some
day of a farm of his own.
Farm Indebtedness and Agricultural Credit. The favorite
instrument by which landownership is achieved in this country
is the farm mortgage. In 1890, 18.60 per cent of all farm families
1 J. H. Blodgett, Wages of Farm Labor in the United States, p. 25. Bulletin No.
26, Miscellaneous Series, U.S. Department of Agriculture, p. 25.
* Final Report of the Industrial Commission, p. 92.
AGRICULTURAL PROBLEMS
539
occupied encumbered homes; 35.55 per cent of the value of these
farms was covered by indebtedness, on which an interest rate of
7.07 per cent per annum was paid; 64.38 per cent of this indebted-
ness was contracted for the purpose of buying the farms; 83.51
per cent for buying, stocking, and equipping the farms; and
probably not more than 5 or 6 per cent (something between 2.83
per cent and 12.35 P er cent) represented losses and household
expenses or "unproductive consumption." The farm mortgage,
accordingly, is not necessarily a bad thing. It is, in census phrase-
ology, " a mere business venture," and in this country has proved
a successful venture in a surprisingly large proportion of cases.
Since the financial depression of 1893-1897, particularly, farm
mortgages have been paid off with unusual rapidity.
In European countries, particularly on the continent, a great
deal of legislation has been enacted for the purpose of developing
agricultural credit; and cooperative credit associations, particu-
larly the German Landschaften, have played an important part
in enabling farmers to obtain the capital necessary to purchase and
equip farms. In principle these associations are not unlike the
American building and loan societies. They operate within
limited districts, lend their funds at the lowest rate consistent with
safety, compel borrowers to liquidate the principal of their loans
regularly as they make their interest payments, teach farmers how
to work together for common ends, and offer in their shares or
bonds a safe investment both for the thrifty young farmer whose
savings are not large enough to be lent in the form of an ordinary
mortgage, and for the retired farmer who desires to be rid of the
trouble of leasing and looking after his land.
At the present time it would be unwise to introduce into this
country land banks, Raiffeisen credit banks, district credit associa-
tions or any other exotic credit agency, merely for the purpose of
multiplying credit facilities.
Notwithstanding this truth, however, it would be a happy
augury for this country if the cooperative credit association took
root in our farming districts and flourished there; because the
spirit that generates and sustains them is an invaluable social asset,
and once under way such associations help to strengthen and prop-
540 OUTLINES OF ECONOMICS
agate that spirit. While, therefore, it might be unwise at this time
to transplant such associations to this country or assist them by
state aid, 1 it would be the height of wisdom to stimulate the love
of agriculture, the atmosphere of thrift and mutual aid in which
such associations thrive. For they might possibly reduce the
interest rate in farming districts if they got a foothold there; and
they would almost certainly provide farmers with a better form
of investing their savings than they now have, facilitate the sale
of land, and hence increase ownership as opposed to tenancy,
compel borrowers to pay the principal of their debt gradually as
they made the interest payments, and above all train the farming
population in habits of cooperative endeavor and in the wise use
of that double-edged sword, credit. After all our need is not for
more credit but for a wiser use of credit. The good that might
be accomplished in the South by introducing cooperative credit
in the place of the crop-lien system is almost inconceivable. And
in the first analysis, at least, such a project does not appear to be
hopeless, for the South is much stronger in almost every way
to-day than was devastated Silesia when the first Landschaft
began operations in 1770.
Tenancy versus Encumbered Ownership. We are now in
position to discuss profitably the question when and where if
ever tenancy is to be preferred to land ownership. For though
it may come as a surprise to some American readers, many foreign
authorities of the highest rank strongly advocate tenancy in pref-
erence to ownership when land has become very valuable. In the
expert evidence given before the British committee of 1906 on
small holdings, for instance, the balance of opinion seems to have
inclined toward tenancy rather than ownership.
Here again we meet one of those mixed economic and psycho-
logical questions to which no simple answer can be given. In a
frontier or newly settled community, there is, of course, little reason
for tenancy from any standpoint. But in an old community,
where land values are high and are as likely to fluctuate down-
1 However, the German Landschaften owe their origin to the investigations and
support of Frederick the Great, although the details of the system were first
worked out by the Berlin merchant, Biihring. See the Agrarisches Handbuch
of the Bund der Landwirte, pp. 557-558.
AGRICULTURAL PROBLEMS 541
wards as upwards in the next score of years or so, the economic
arguments in favor of tenancy are exceedingly strong if not alto-
gether convincing, (a) Under such circumstances the farmer
who insists upon holding the title to the land which he tills must
either go deeply into debt, or understock his farm, or both. To
underequip the farm means poor agriculture; and a heavy debt
hangs like a millstone around the neck of a farmer when land
values are not on the increase. The tenant farmers of England
have had a far more pleasant time since 1873 than the small land-
owning farmers whose holdings were encumbered with debt at
that time, (b) The ownership of land throws upon the farmer
all the speculative responsibilities of the entrepreneur, and other
things being equal if they can ever be regarded as equal it is
desirable for the man of small means to avoid these responsibilities.
The tenant system offers a means of insurance against some of
these risks, (c) Such insurance becomes all the more advan-
tageous and encumbered ownership all the more disadvantageous
because of the well-known fact that land yields a net return, year
by year, lower than almost any other form of property. Part of
this is due to the social prestige of landownership and part to the
fact that over very long periods the small annual profit on land is
likely to be compensated for by an increase in the capital value of
the land. Under such circumstances landownership is partly a
luxury and partly a method of saving, usually for the descendants
and heirs of the saver. Both factors conspire to make land a
poor investment for the man of small means. He cannot afford
luxuries, on the one hand, and he must find a method of business,
on the other hand, that yields him a quick return, (d) And
finally, it must be noted that the question of tenancy is not like
the labor problem which has developed in the factory industries.
The tenant is not a wage-earner. He may be as independent as
the manufacturer who hires the land, buildings, and possibly the
machinery with which he works. The problem of tenancy, there-
fore, has no necessary relationship to the problem created by the
existence of a class of permanent wage-earners. The small entre-
preneur still holds the field in agriculture, all over the world. The
question is simply: shall he hire his plant or own it?
542 OUTLINES OF ECONOMICS
Notwithstanding the fact that tenant farming may go hand in
hand, as it does in England, with good farming, and notwithstand-
ing the desirability of reducing the speculative risks of an industry
which is at best much too uncertain, the problem can never be
settled on economic grounds alone ; and if we add to the economic
virtues of ownership its social and moral advantages, the final
verdict must be rendered against tenancy. Ownership not only
spurs the zeal of the farmer, dignifies his occupation, and inculcates
a love of the soil which nothing else inspires in so great a degree,
but it gives the farmer a stake in the political game, steadies him.
and thus improves his citizenship. It is perfectly plain that owner-
ship cannot be enforced upon a people that are not prepared for it :
certain restricted districts of the South in which negro ownership
prevailed a few years ago, we understand on good authority, are
now relapsing into quasi-barbarism. And it is equally obvious
that the virtues which go with ownership may and often do de-
generate into vices: the peasant proprietor's love of the soil occa-
sionally becomes land worship, his thrift avarice, his conservatism
blind fear, and his industry cruel he drives himself and wife
and children at a pace that would put the sweater to shame.
But we are not advocating the extension of landownership
through state aid we simply call attention to the desirability
of fostering those qualities which lead to the diffusion of ownership
and are in turn strengthened by ownership ; and we maintain that
the American people at present are in no danger of excessive thrift
or of the sordid materialism of peasant proprietorship at its worst.
The tendencies and the dangers are almost all in the opposite
direction. If, in the next fifty years, the farmers of the Middle
West become predominantly tenants, it will not be because tenancy
is economically and socially superior to ownership, but because the
farmers of that district have not had the thrift to save and the
ability to adapt themselves to more intensive agriculture. And
the step will be backward, not forward. The popular instinct
which in this country causes an increase of tenancy to be regarded
with distrust is a sound instinct.
A minor disadvantage of tenancy is found in the fact that tenancy, when it
becomes predominant, raises difficulties that can only be met by constant
AGRICULTURAL PROBLEMS 543
State interference. Short leases with no indemnification to the tenant for
the improvements which he has made, lead to rack-renting, exhaustion of the
soil, and class hatred between landlords and tenants. Long leases, on the
other hand, afford insufficient protection to the landlord; because when
prices are high the tenant thrives and pays his rent promptly, but when
prices fall rents go unpaid and the landlord has no real redress. In England
the situation has been met by a system of short time leases together with
compensation to the tenant a legal obligation which the landlord cannot
escape by "contracting out" for any improvement made by the tenant
whose value he has not exhausted. Neither party can abrogate a lease
without a year's notice, although by mutual consent this may be reduced to
six months. This system permits rentals to be adjusted frequently as prices
change, rules out excessive competition, protects the landlord, and warrants
the tenant in making any improvement required by good farming, since he
knows that, if the landlord orders him out, he can collect on his departure
the actual value of improvements made by him, whose benefits he has not
had time to reap. In practice, the incoming tenant usually pays for the un-
exhausted improvements, and disputes are settled by arbitration. Under
this system, "the relation between landlord and tenant is very satisfactorily
arranged, the farmers are, as a rule, contented with the present system, and
the fields of England prove that landownership on the part of farmers is not
essential to good agriculture." l
Marketing of Farm Products. One of our most urgent needs
at the present time is the greater diversification of industry in
general. The prices of the great staple crops such as wheat are
largely dependent upon conditions of demand and supply in for-
eign markets; and the consequence is that a poor crop may coin-
cide with a period of low prices, or an abnormally large crop with
unusually high prices. This is almost impossible in the case of
products whose value is fixed in a local market. With such prod-
ucts, the misfortune of a small yield is normally reduced by the
advantage to the producer of a high price ; the two com-
pensating factors working to moderate those fluctuations of income
which are the bane of the agricultural industry. The advantage
is not all with the local market. Prices are apt to be steadier in a
world market, because the latter reflects conditions over a wider
area. For this reason it would be unwise to endanger our foreign
markets by tariff wars or oppressive railway regulation. But
such pressure as can legitimately be exerted at the present time
1 H. C. Taylor, The Decline of Landowning Farmers in England, p. 61.
544 OUTLINES OF ECONOMICS
should be employed to bring the miller, the brewer, the cotton
manufacturer, the packer, and the consumer closer to the farm.
If caution and expert knowledge are employed, this can be done
without crippling those transportation agencies which have given
the American farmer entry to the markets of Europe and the
Orient, and which must be preserved in order to prevent too exclu-
sive a reliance upon local demand. A local market as the regular
outlet, and a foreign market as a potential outlet, is the condition
of maximum safety.
Railway tariffs which favor through traffic at the expense of
local traffic are largely if not mainly responsible for the concen-
tration of manufactures and population in the large cities. For
many years, Southern cotton mills reaped little or no advantage,
so far as the price of cotton was concerned, from their proximity
to the source of supply, but paid as much or even more for cotton
than their competitors in New York. The railways are not wholly
responsible for this condition of affairs. In England, particularly,
representatives of the agricultural interests have criticised the rail-
ways for accepting lower rates from the seaboard to interior points,
than on local traffic from intervening stations to the same desti-
nation, when the difference was fully explained by the larger
size of the seaboard shipments, their more convenient package,
and the great expense of picking up small consignments of freight
at numerous local way stations. And competition forces railways
frequently to accept lower rates for long than for short hauls over
the same road. But there can be little doubt that American rail-
ways have charged the local traffic much more than their necessity
compelled them to charge, particularly in the South; and there are
few reforms on the side of marketing which American farmers
could demand with more equity or secure with greater social profit
than the rehabilitation and revitalization of the long and short
haul clause of the Interstate Commerce Act, emasculated by the
Supreme Court decision in the Alabama Midland Case (168 U.S.
144, 173). This might, however, involve certain pains of read-
justment.
At present there is a great gap between the farmer and the con-
sumer of his products which is bridged by a complicated trad-
AGRICULTURAL PROBLEMS 545
ing or distributive * mechanism composed of railways, storage
companies, commission merchants, brokers, and other middlemen.
In the distribution of the great staple products, the commission
merchant is rapidly being forced out, and fortunately so: he was
unprogressive, uneconomical, and too often betrayed the interests
of his client by systematic overcharges for insurance, hauling, and
storage, by buying consignments on his own account when market
conditions were unusually favorable, and selling at the loss of the
owner when the market was particularly bad. In the marketing
of perishable goods the commission system has a more tenacious
hold, but even here it has been partly replaced by cooperative
associations of farmers or growers such as the California Fruit
Growers and Shippers' Association, which maintains auction
rooms in eastern cities and sells its own products direct. The
Southern California Fruit Exchange, to cite a single illustration,
in a few years'reduced the cost of marketing California fruits from
10 to 3 per cent of the sales value.
The cooperative marketing association and the intermediate
trader who buys from the grower and sells to the consumer, have
in common two points of superiority over the commission system;
(a) they replace the zeal of an agent by the care and solicitude of
an owner; (b) and by shipping in large quantities they are in posi-
tion to obtain much better rates from the railways, to say nothing
of the other economics affected by handling goods on a large scale. 2
Whether the cooperative association will force the commission
merchant out of business in the marketing of fruits and vegetables
is a point which cannot be settled here. But there can be little
doubt that the farmer has gained enormously by the substitution
of the trader for the commission house in the marketing of the great
staple products. The trader comes almost to the door of the
farmer, with constant bids for his grain. He is an expert in rail-
way rates, in constant telegraphic communication with the great
markets of the world, and handles products in such large quantities
1 The word "distributive" is used in the popular sense in this chapter.
2 The cooperative marketing associations have also effected great economies
by watching prices in all markets carefully and distributing their consignments
so as to get the highest prices obtaining at the time.
2N
546 OUTLINES OF ECONOMICS
as to reduce intermediate expenses to a minimum. Occasionally,
as has sometimes been the case with the great line elevator com-
panies, he works in conjunction or in collusion with the railways,
overbidding the small grain dealer, and forcing the railway to
grant rebates on the large shipments which he commands. Even
in this case, the farmer gains by the size and efficiency of the
middleman (though the small dealer may suffer) because part of
the economies effected even those effected by the discriminative
railway rates will come to him in the long run. Cases of mo-
nopolistic oppression are theoretically possible when there is only
one buyer and one railway who are in collusion, and the farmer
is deprived because of high railway rates from shipping his
products elsewhere. But the loss to the farmer through extortion
of this kind has in general been much more than counterbalanced
by the striking economies effected by the great trading companies;
though this, of course, affords no justification either* for monopoly
or railway discrimination. Both should be suppressed, if possible ;
but in such a way as to save for the farmer the distributive econo-
mies effected by large-scale handling.
Speculation. The modern marketing or distributive mechan-
ism not only relieves the producer of a large part of the specula-
tive risk which attends the transmission of raw material from the
farm to the consumer, and calls public attention to this speculative
element by collecting or concentrating it, but it is responsible also
for a large amount of unnecessary speculation which many persons
believe to be particularly injurious to the farmer. We are not here
concerned with the general evils of speculation but with the
prevalent belief that dealing in options and futures tends to re-
duce prices. " What is generally urged is that the professional
short seller, by his sales of fictitious wheat or cotton, creates a
fictitious oversupply in the market, which is just as instrumental
in depressing prices as would be an abnormally large supply of
actual wheat thrown on the market by the farmer." l This charge
is frequently supplemented by the assertion that it requires less
money in margins to " sell short " or gamble on a fall in
1 N. I. Stone in the Report of the Industrial Commission, Vol. VI, p. 189 ff.,
from which the other quotations cited in this section are also taken.
AGRICULTURAL PROBLEMS 547
prices than to " sell long " in anticipation of a rise, and that,
in consequence, the weight of the speculative dealing in farm
products is exerted in the direction of lower prices.
This particular charge against speculation is confirmed neither
by a priori reasoning nor by inductive analysis. Every " ficti-
tious " sale of wheat, to use that as an illustration, must be balanced
by an equivalent " fictitious " purchase. The " bear " who sells
October wheat in July, even though he may hope to depress the
price of October " futures," exercises no harmful influence upon
the actual July or " spot " price, which is controlled by the demand
for and supply of actual wheat; and when October comes, " the
short seller of July appears now as a buyer in order to cover his
contracts, and if his trading has any effect on the market at all,
it is to increase the demand, not the supply."
It is very plain that the fictitious market may be artificially
influenced by speculative deals, but as a general thing the fictitious
market is ruled by the actual market, not vice versa ; and the only
influence exerted by gambling in futures upon " spot " prices (with
which alone the farmer is concerned) is a good influence. This
influence arises out of the effect of future transactions in equalizing
consumption and in modifying present use by anticipating future
necessity. And the complaint that it requires less capital to " bear "
the market than to " bull " it, as well as a great number of ingen-
ious criticisms of a similar kind, would all be negatived if they
were true by the inevitable consequence that any permanent
factor of this kind would be quickly appreciated by speculators and
fully discounted. In no market are influences of this kind so
accurately detected and so quickly dissipated by competitive
forces as on the produce and cotton exchanges.
Actual investigations of prices confirm the theoretical argument
made above. The average prices of spot wheat in September,
October, and November just after harvest, when the ordinary
farmer is compelled to sell have been nearer the average price
for the entire year, since the wheat market has become highly
speculative, than it was in the forties and fifties when wheat was
sold like any other farm product. And there are reasons for the
belief that speculation has not only equalized yearly fluctuations,
548 OUTLINES OF ECONOMICS
but that the leveling has been up, not down, in the interest of the
farmer who is compelled to sell after harvest, as opposed to the
wealthier miller or trader who in the past carried over a supply
for the lean months. "It is not uncommonly stated that in the
last few years futures in the wheat market have not, in the long
run, stood enough above " spots " to cover all the expenses of
carrying. Some suggested reasons for this are: cut charges for
storage; the failure of outside speculation to maintain the market
against hedging sales; the fact that the great elevators will buy
wheat and carry it for what they can get, and perform the functions
of both carrier and trader for the commission of one. In any case,
the tendency is to bring all prices together." 1
Education and Organization. Again and again, in studying
the problems of agriculture, we come back to the conclusion that
the real evils which beset agriculture are to be remedied not merely
by destroying monopoly, and still less by suppressing speculation,
or increasing the money supply, but by education, using that
word in its most catholic sense. The laws that are worth passing,
the customs that are worth introducing, the institutions that are
worth establishing, are those that educate, though curiously
enough most of these require for their realization a preliminary
campaign of education. In the final analysis, agricultural better-
ment comes back to the will and ideals of the individual farmer,
and the supreme value of education lies in its power to prick the
ambition, energize the will, and awaken the pride of the farmer.
It would be impossible, within the limits of this chapter, to dis-
cuss the subject of agricultural education; and the reader is doubt-
less familiar with the work done by the United States Department
of Agriculture and the experiment stations, the agricultural colleges
and their traveling lecturers, farmers' institutes, farmers' bulle-
tins, and short (winter) courses for working farmers. Scientific
research and agricultural education of the more advanced type
are now fairly well provided for. The urgent demand at present
is for better education of the elementary and secondary grades.
The public expenditures for research and advanced education that
1 H. C. Emery, Speculation on the Stock and Produce Exchanges of the United
States, p. 131.
AGRICULTURAL PROBLEMS 549
have been made in the past have been richly remunerative. Simi-
lar appropriations for elementary instruction in agriculture would
probably prove even more profitable. Above all, the district
school should be improved, and interest in agriculture awakened
by the intelligent introduction of nature study and rudimentary
agriculture. The country must learn to interest and keep the high-
est talent which it produces, instead of packing off the brightest
boys to the cities. And above the district school, institutions of a
higher grade must be developed, in which agriculture shall occupy
the same place that manual training does in the best of our city
trade schools.
"To bridge the institutional gap between the public schools and the agri-
cultural college there is nothing in the American system of agricultural
education corresponding in completeness to that in operation in France.
There agricultural education begins in the rural primary schools, from the
ages of 7 to 9, with the simplest facts of agriculture, such as first lessons in the
garden ; from 9 to 1 1 years, soils, fertilizers, tillage, and the ordinary imple-
ments; from ii to 13 years, more methodical instruction, in tillage, drainage,
implements, fertilizers, sowing, harvesting, domestic animals, horticultural
propagation, tree culture, and grafting. After 13, advanced courses for
boys and girls include practical ideas and operations in the leading phases
of agriculture. The rural primary schools have about 3400 gardens attached
to them. There are 160 of the superior primary schools, with more than
15,000 pupils receiving instruction in agriculture." l
9
"The farm problem," it has been truly said, "consists in
maintaining upon our farms a class of people who have succeeded
in procuring for themselves the highest possible class status, not
only in the industrial, but in the political and social order a
relative status, moreover, that is measured by the demands of
American ideals." 2 To secure and maintain such a status, edu-
cation in the ordinary sense is not enough. Education must be
supplemented by a multitude of social organizations, quickening,
enlightening, and solidifying the agricultural classes. A great
variety of such organizations are already in the field, from the
county teachers" and patrons' associations designed to unite pupil,
1 Final Report of the Industrial Commission, p. 130.
2 K. L. Butterfield, President of the Massachusetts Agricultural College,
Chapters in Rural Progress, p. 15.
550 OUTLINES OF ECONOMICS
teacher, and parent in a crusade for broader and deeper culture,
to organizations like the Patrons of Husbandry, whose first aim,
as enumerated in its Declaration of Purposes, is "to develop a
better and higher manhood and womanhood among ourselves."
Limitations of space forbid any extended description of the vitally
important work which organizations of this kind are doing for the
agricultural classes; but it may be possible, in conclusion, to
correct one or two misapprehensions which are widely prevalent
concerning the nature and vitality of farmers' organizations. The
National Grange will serve as a good illustration.
Founded just after the Civil War (1867) in order " to restore
kindly feelings " between the people of the North and the South,
this organization is still strong and vigorous, having in 1905 more
than 220,000 members in the five leading Grange states. Despite
a popular impression that the Grange is a partisan political organ-
ization, addicted to radical ideas and Utopian schemes of reform,
its principal activities are social and educational in the best sense,
and discussion of political or religious questions at its meetings
is prohibited by the organic law of the order. "It is based on
correct principles: organization, cooperation, education. It is
neither a political party nor a business agency. It is progressively
conservative or conservatively progressive. It is neither ultra-
radical nor fo/ever in the rut. Its chief work is on cultural lines.
It includes the entire family. It is now growing, and there is
every reason for thinking that this growth is of a permanent
character." 1
QUESTIONS
1. Make a list of the economic factors which regulate the size of farms.
Is the average farm likely to grow larger or smaller with the passage of time ?
Is the narrow economic conclusion concerning the size of the farm, based upon
maximum net profit to the individual farmer, subject to modification by
reason of social or moral considerations ?
2. Has the net effect of the rural exodus been favorable or unfavorable
to agriculture and the agricultural classes ? to society generally ?
3. Does the increase of tenancy in the Southern states represent progress
or retrogression ? in the North Central states ?
4. Under what conditions is the cash rental superior to share tenancy?
1 Ibid., p. 161.
AGRICULTURAL PROBLEMS 551
Would the "corn rent" or a sliding rental varying with the price of farm
products be superior to both ? Are short leases better than long leases
for the landlord ?
5. Do the farmers in your locality suffer from the lack of credit facilities?
Have they any difficulty in finding safe and convenient investments for their
savings ?
6. What is the advantage of specialized farming over diversified farming?
Do we imply, when we advocate diversified farming, that the farmer should
"buy nothing that he can raise or make for himself " ?
7. Is speculation a "necessary" or an "unnecessary evil"? Do the
farmers suffer more or less than other classes from speculation on the produce
exchanges ?
8. Is any attention paid to agriculture in the elementary schools of your
locality ? Would large public expenditures for the improvement of ele-
mentary education probably prove profitable in the long run ?
REFERENCES
BUTTERFIELD, K. L. Chapters in Rural Progress.
Eleventh Census. " Real Estate Mortgages : Farms and Homes, Pro-
prietorship and Indebtedness."
Twelfth Census, Vol. V. Agriculture. Special Reports, Supplementary
Analysis, "The Negro Farmer," pp. 511-579.
DICKSON, ADAM. The Husbandry of the Ancients.
HAGGARD, H. RIDER. Rural England.
JEBB, L. The Small Holdings of England.
MARSHALL, ALFRED. Principles of Economics (5th ed.), Book VI, Chap. X.
MILL, J. S. Principles of Political Economy, Book II, Chaps. VI-X.
PROTHERO, R. E. The Pioneers and Progress of English Farming.
Publications of the U.S. Department of Agriculture. Year Book, The Crop
Reporter.
Report of the Industrial Commission, Vols. VI, X, XI, and XIX, pp. 43-200.
ROGERS, A. S. L. The Business Side of Agriculture.
ROGERS, J. E. T. History of Agriculture and Prices in England.
TAYLOR, H. C. Agricultural Economics, and " The Decline of Landowning
Farmers in England," Bulletin of the University of Wisconsin, No. 96.
BOOK III
PUBLIC FINANCE
CHAPTER XXXH
PUBLIC EXPENDITURES
Introductory. Nature and Significance of Public Finance.
Public finance deals with the revenues of government, with their
expenditure and their administration. Public finance is one part
of economics. Like general economics, it deals with the means
for the satisfaction of human wants. Some of our wants we sat-
isfy in one way, some in another. Some we satisfy individually.
Some we satisfy through private associated effort, especially
through the private corporation. Others we satisfy through
public collective effort, that is to say, through some governmental
agency. The wants which we satisfy through governmental
agency are not all of them so peculiar that they could not be sat-
isfied either through private individual activity or private asso-
ciated activity. Let us take the case of watering the streets.
There are places in which the streets, in so far as they are watered
at all, are watered by individuals in their private capacity, each
man watering the street in front of his own house with his own
hose. There are other places in which the householders join
together and pay some one to water the streets for them, and do
this privately. There are still other cities in which the city gov-
ernment employs persons to water the streets and pays them from
the proceeds of taxation.
There are, to be sure, some wants which are satisfied through
governmental agency and which a civilized community will not
allow us to satisfy privately. This is the case with those wants
which are satisfied by means of the police and the courts. It is a
peculiar function of government in modern times to provide the
inestimable blessing that we call security of person and property.
This requires economic resources, just as the satisfaction of the
555
556 OUTLINES OF ECONOMICS
other wants mentioned does, and public finance has to do with
the provision of these resources.
Public finance, then, is a part of economics because it deals
with the satisfaction of wants through economic resources. It is
also a part of economics because it has its influence upon the pro-
duction, the distribution, and the consumption of wealth. But
while we have to insist that public finance belongs to eco-
nomics, it is more separated from the other parts of economics
than they are from each other. Inasmuch as it deals with the
satisfaction of wants through governmental agency, it has its own
peculiarities, and it is only an undue emphasis upon these pecul-
iarities which leads some writers to make it a separate science.
The significance of public finance may be brought before us;
first, by examination of the increasing amount of public revenues,
and second, by the enormous aggregate of these revenues at the
present time. Public revenues have gone on increasing during
the present century by leaps and bounds. An illustration is
afforded by the history of France. Eighty years ago the public
expenditures of France reached one thousand million francs for
the first time, or, as we generally say, a billion francs. There was
universal astonishment and alarm, just as there was when, for the
first time, an American Congress spent a billion dollars in two
years. Never since the time, however, when the public expendi-
tures of France first amounted to a thousand million francs have
they been so small. Gradually they increased until they reached
two thousand millions, never to pass below that mark; then they
increased until they touched three thousand millions; and now
the national expenditures are nearly four thousand millions.
Public expenditures at the present time, under the modern
government, amount to more than a tenth part of all the wealth
produced. 1
1 This estimate (that public expenditures equal one tenth part of all the wealth
annually produced) has been given, but it must be a very considerable under-
estimate for the modern nation. We in reality know very little about the amount
of wealth annually produced in the modern nations of the world. But such data
as we have, and familiar observation, are sufficient to convince us that the wealth
produced is not ten times the total public expenditures. In the United States,
according to the Report of the Census Office, Wealth, Debt, and Taxation, the
PUBLIC EXPENDITURES 557
Now what does this mean ? Does it signify increasing extrava-
gance or even corruption ? Quite the contrary. While the mod-
ern government is far from perfect, it is throughout the civilized
world probably better than it ever has been before. Taking the
civilized world as a whole, there probably never was more honest
government or more efficient government than there is to-day.
What it really means is this : We are living in a period of increas-
ing public cooperation. We think we find it more advantageous
to satisfy certain wants, growing in number and significance,
through public cooperation, than through individual effort or pri-
vate cooperation. This is the chief significance of the increasing
governmental budget throughout the civilized world. But un-
happily, militarism in its various phases is next in significance,
and is the chief phase of public expenditures that is disquieting. 1
Educational expenditures afford a good illustration. They
run up into the hundred millions in the modern nation, whereas,
previously to this century, they were insignificant. Expenditures
for police protection, for public lighting, and for sanitation are
something which, so far as any expenditures of magnitude are
concerned, belongs to this century.
Public finance has another significance. Questions of social
reform are now connected generally with financial questions
just as formerly they were with constitutional questions. Public
finance has become the central fighting place for social reform.
The question of protection has, from the earliest days in this
country, been connected with public finance. Police regulation
has also been connected with fiscal measures. The license charge
for saloons furnishes an illustration. The idea of police power is
total expenditures, including the national government, states, territories, and local
subdivisions, amount to over $1,700,000,000. This would make a per capita
expenditure exceeding $20, if the population of the country is estimated at
eighty millions. This would mean $100 per family of five; and, on the basis of
10 per cent for such a family, would mean an average annual income of $1000.
In England the per capita expenditure of the national government alone is over
$15.50, and in France over $17. The 10 per cent estimate, then, is clearly an
underestimate.
1 This topic is adequately treated by Professor Charles J. Bullock in his article
entitled "The Growth of Federal Expenditures," in the Political Science Quarterly,
Vol. XVIII, pp. 97-1 1 1.
558 OUTLINES OF ECONOMICS
expanding in the United States, and this means expansion of the
field of public finance. The discussion of public expenditures
reveals, as few other subjects do, the nature of our civiliza-
tion.
Expenditures of Public and Private Economies Contrasted.
There is a difference between public and private economies with
respect to the equilibrium between income and outgo. Relatively,
there is an elasticity of government revenues and an elasticity
of government expenditures. This finds expression in the state-
ment that public revenues are gauged according to expenditures;
whereas, in the private economy, the household expenditures are regu-
lated by income. This is a regular rule for normal conditions.
It is abnormal when irregularities in public income lead to irregu-
larities in expenditures. It has been observed by a critic that
this principle of public finance is true in a legal sense, but not in
an economic sense. It is said that when public expenditure is
decided upon, then we legally determine the income; but, eco-
nomically, the expenditures of the state rest upon a foundation
as elastic as that of a private person. 1 It is true that in public
expenditures there must be a balancing of gain and sacrifice, and
that in the case of a particular expenditure it must be weighed
over against all other possible expenditures, not only public, but
private. The rich state, undoubtedly, will incur expenditures
from which a poor but prudent people will probably shrink. On
the other hand, a private person is not to be thought of as spend-
ing necessarily all his income, even if he gauges his expenditures
by income.
Nevertheless, roughly speaking, the proposition is true on ac-
count of the priority of the claims of the state. This has been
well brought out by critics of Henry George, who advocated the
appropriation of economic rent for public expenditures. Some
of Mr. George's followers have replied to the objection that eco-
nomic rent might not be sufficient for public expenditures: " Then
the state must curtail its expenditures as the private person would
do." When we think about it, we find that certain public ex-
penditures must be made and must take prior claim. However,
1 Cohn, Finanzwissenschaft, S. 184.
PUBLIC EXPENDITURES 559
when, as is so often the case in cities, there is an income strictly
limited by the tax rate, we frequently have a case like that of
a man with a limited and inadequate income. This is an
unfortunate situation for cities; but the case of a national
government which did not have a prior claim upon wealth for
defense would be anomalous.
Closely connected with what has been said, we find various
differences due to the sovereignty of the state and its perpetual
life. The state orders a citizen to give up a part of his possessions,
and, indeed, frequently fixes prices. And a peculiarity in all
states determining prices for property and services is that they
must be determined by criteria of fairness, inasmuch as by the
very hypothesis competition is wanting wholly or in part. Con-
sequently, we find courts and legislatures much occupied with the
determination of what is "fair and reasonable." The perpetual
life of the state has to be kept in mind m a great variety of ex-
penditures. It is the special function of the state to provide for
future generations, and this is seen, for example, in forestry and
in care for rivers and harbors.
There is a difference between public and private economies in
the means of measuring the utilities resulting from expenditures.
It is at once admitted that all expenditures of states and of private
persons should, in a large sense, be productive. Waste is every-
where an economic wrong, but productive e\penditures mean
simply useful expenditures. What the state produces is largely
immaterial services, and these have no market price. How can
we tell whether they are socially profitable or unprofitable ? They
are not worth while if they result in a sacrifice of other expendi-
tures which would yield larger satisfactions. It is a special func-
tion of the legislative body, in a constitutional state, to decide upon
the relative advantages of various possible public expenditures,
and to weigh these over against the advantages of private expendi-
tures which might have been made if the money permitting the
expenditures had been left in private pockets. When a certain
sum is taken from me by taxation, it results in a public expendi-
ture instead of a private expenditure which might have been
made. This is only another way of saying that public expendi-
560 OUTLINES OF ECONOMICS
tures are largely from income which is derivative. Private indi-
viduals secure an income and then yield a part of it for public
purposes. These contributions are compulsory. On the other
hand, there are economists who look upon the state as a factor in
production, and hold that what is paid in taxes is less than what
corresponds to the cooperative activity of the state in the mainte-
nance of law and order and in other services. The special social
significance of public expenditures is that their aim is inclusive,
normally and regularly; whereas, normally and regularly, the
aims of private expenditures are more or less exclusive. A pub-
lic library contrasted with a scholar's private collection of books
illustrates this point.
All these differences are considerable, and they give us perhaps
at least one reason why business men are so often a disappoint-
ment in an official capacity. The public financier must be gov-
erned by the public point of view; and there are many points at
which this diverges from the private point of view. The true
statesman is one who has the public point of view, and yet is
able to avail himself of the knowledge and experience of private
business.
The Proper Proportion between the Total Income of Society and
Public Expenditures. We notice actual changes in this propor-
tion, and we discover that further changes are advocated, running
all the way from the anarchist position, which would abolish gov-
ernment and public expenditures, to socialism, which, by making
production and distribution public functions, would make public
expenditures, broadly construed, nearly equal to the total wealth
production.
An attempt has been made by those who take a less extreme
position than either of these to give an estimate of what is a large
public expenditure, what a small expenditure, what is desirable,
undesirable, or even intolerable. Generally these estimates are
made with respect to the maximum expenditure, but we could
equally well raise the question with respect to the minimum.
One writer speaks of public expenditures of 16 per cent as average,
and 25 per cent as excessive. Another regards public expendi-
tures which consume 15 per cent of the total annual wealth pro-
PUBLIC EXPENDITURES 561
duction as the upper limit. In our American practice, we very
generally attempt to limit the percentage of direct taxes. But
the upper limits are based on valuation of property and not on
income; while state constitutions very frequently limit state ex-
penditures, and also expenditures of cities and other local units.
For local purposes in the United States, we have roughly a limit
of to 2 per cent of the valuation of property. Total taxation
of real property frequently runs in the United States from
10 per cent to even 20 per cent of the net profits, and indeed
not infrequently goes a great deal beyond that. The truth is,
that it is absolutely impossible to give any general answer to the
question, "What is the proper proportion between the total in-
come of society and public expenditures?" Variations in the
wealth of a country have to be considered, and these mean much
when the question of additional expenditure is raised. Variations
in tax systems and the consequent distribution of the burden of
taxation make a wide difference. In times of distress, more can
be expended than on ordinary occasions. When the national life
of the state is endangered in a war, expenditures will be incurred
which would be impossible at any other time, simply because, for
any other reason, the people would not submit to the sacrifice
involved.
But there are other points of view which go still deeper. Why
do we spend money at all through the state? Obviously to sat-
isfy needs. How much we should spend publicly depends upon
what needs are satisfied publicly. We have to ask and answer
the question, "What position do these needs hold among our
needs in general?" "Do they belong to our necessities or super-
fluities?" When we consider public expenditures in the broadest
terms, we must take into account the amount of production which
is carried on by the state employing this term "state" here as
elsewhere in its generic sense. If the railways (as in Germany)
are state railways, a larger percentage of the expenditures and
revenues of the country are public in character than would be the
case if they were privately owned and operated. No comparison
of expenditures of various countries can have any value if it does
not take into account considerations of this kind.
562 OUTLINES OF ECONOMICS
Professor Adolph Wagner 1 lays down this rule, which is helpful
in answering the question as to the proper proportion between
the income of society and public expenditures for any particular
time and place: "The permissible amount of public expendi-
tures, both absolutely and relatively considered, will vary directly
in proportion to (a) the direct economic value of state activities ;
(6) the extent to which it promotes the productive power of all ;
(c) the absolutely free social income; 2 (d) the larger the part
of the net state receipts coming from the quasi-private acquisi-
tion (railways industries in general) of the state and not from
taxes." * Fortunately, how much we shall spend presents itself
historically, that is, with respect to historical conditions, and
has reference to increments or decrements of expenditure. The
problem is far easier of solution than it would be otherwise.
In fact, except as a concrete historical problem, it is impossible
to state how great the public expenditures should be. We are
now in a position to understand why it is that the nations of the
world have not been ruined by expenditures which even a genera-
tion ago would have been thought absolutely crushing, and one
hundred years ago would have been inconceivable. We satisfy
our needs to an ever increasing extent through public agencies.
This finds expression in the Law of Increasing Public Expendi-
tures, given by the same writer from whom we have just quoted.
"Comparisons between different countries and different periods
show regularly among progressive nations an extension of public
activities. This manifests itself extensively and intensively. The
state and its subordinate political units continually undertake new
functions, and they perform their duties, old and new, better and bet-
ter. In this way, that is, through public agency, the needs of the
population, to an increasing extent, especially their common needs,
are satisfied; and the public services for the satisfaction of needs
continually improve in quality. The clear proof of this is given
1 Finanzwissenchaft, 2te A., Bd. I, S. 65.
* I.e. beyond and above what is needed for subsistence.
* This means public ownership of enterprises which are so conducted as to
yield profits. All the profits can and indeed must be expended for public pur-
poses, whereas, if the industry were private, only a part of the profits could be taken
for public purposes.
PUBLIC EXPENDITURES 563
statistically in the increased demands made by the state and the sub-
ordinate political units." 1
We have here described what is a part of a still larger move-
ment, namely, the socialization of production and the socializa-
tion of consumption. It is, however, the socialization of con-
sumption which especially confronts us in public expenditures.
To an increasing extent what is consumed by the family is pro-
duced outside the family. There has been going forward a great
process of socialization, and this finds expression in part in public
expenditures. An increasing proportion of the needs of the fam-
ily are satisfied, not by the private economy, but by the public
economy, and satisfied also, as Professor Wagner points out, not
in accordance with the principles of private economy, which is
service for service, but in accordance with the principles of the
public economy, which is a general return for that which is
received.
We have to do with what we may also call socialization of sup-
ply. We do not protect ourselves against physical violence, but
are protected by the state. We do not educate our own children;
they are educated by public agency. The public expenditures
are also made to promote art and all the higher interests of life.
The services which the federal government renders us in the post
office find expression in public expenditures. Public expenditures
are giving us more beautiful and more healthful cities, and are
satisfying the needs which arise out of the extensive growth of
the country, in its expansion geographically and in the size of the
population, and also the needs which arise from an intensive
growth.
The significance is partly in increased activity of the state and
partly in the incidence of the cost of the services under considera-
tion. The poor, who could not themselves have pleasure grounds,
enjoy public parks, and these are maintained at public expense.
So we may take up one service after another and find that wealth,
produced in accordance with the principles of the private economy,
is consumed in accordance with the principles of the public econ-
1 Wagner, Allgemeine Volkswirthschaftslehre, Erster Theil, Grundlegung, Ka.
4, 3 Hauptabsch., S. 310, Bd. I, ate A.
564 OUTLINES OF ECONOMICS
omy, and that is very largely in accordance to needs and capacity
for use. The whole public educational system, from the country
district school to the modern state university, culminating in re-
search and investigation, admirably illustrates this principle.
The Principle of Economy versus Parsimony in Public Expen-
ditures. After a definition of economy in Webster's International
Dictionary, we find the following: "Economy, Frugality, Parsi-
mony. Economy avoids all waste and extravagance, and applies
money to the best advantage; frugality cuts off indulgences, and
proceeds on a system of saving. The latter conveys the idea of
not using or spending superfluously, and is opposed to lavishness
or profusion. Frugality is usually applied to matters of consump-
tion, and commonly points to simplicity of manners. Parsimony
is frugality carried to an extreme, involving meanness of spirit and
a sordid mode of living. Economy is a virtue and parsimony a
vice."
We must have clear ideas as to which course of the three we
shall follow, for it is scarcely to be taken for granted that we shall
follow the course of extravagance. There is, however, danger of
indifference as to the size of public expenditures, and extravagance
may result therefrom. While scarcely any one now would delib-
erately advocate extravagance so far as the general principle is
concerned, extravagance in detail might be advocated; and, in
fact, in practice we find both indifference and extravagance.
Sometimes the idea that extravagance brings money into circula-
tion has found favor, and especially has been used for the justfi-
cation of large expenditures by royal courts. The same idea has
been used as a justification for luxury. It can, however, find no
support in economics. There is danger of extravagance because
each one concerned with governmental expenditures feels that
what he spends is a relatively small matter, and indeed it is. It
is sometimes thoughtlessly overlooked that when many are spend-
ing, " small waste " becomes significant, and may be even ruinous.
This is a problem which concerns every large business, and it re-
quires strict and wise administration to avoids the two extremes :
wasteful extravagance and red tape.
Sectionalism also results in extravagance, and this shows itself
PUBLIC EXPENDITURES 565
badly in the United States at times. Whatever any state can se-
cure from the federal Treasury is often looked upon as so much
clear gain. This was clearly brought out in the discussions con-
cerning the repayment, a few years ago, of the direct tax that
has been paid by the states to the federal government. This tax
has now been repaid, but many states gave agents large and
extravagant sums to work for the refund. Sometimes sectional-
ism manifests itself even in cities. In one section of the city
there may be vigorous efforts to secure money for itself without
due regard for the general interest.
The peculiar condition of our federal financiering (which is
found in the fact that the taxes are kid very largely for other than
revenue purposes, and that there is no careful balancing over and
against one another of probable revenues and probable expendi-
tures) results frequently in a large surplus in the federal Treasury.
There is danger of extravagance wherever revenues outrun felt
needs. There never has been a time when it would not have been
possible to have expended wisely the entire revenues of the federal
government; e.g., the telegraph might have been purchased, and
educational expenditures might have been increased. But there
was no demand for these expenditures strong enough to prevail,
and the outlet was found along the lines of least resistance, or, per-
haps it ought rather to be said, along the lines of greatest " pull."
We may then lay it down as a general law that there is danger of
extravagance whenever public revenues outrun felt needs.
There is a tendency, especially wherever public spirit is not
highly developed, to favor parsimony, and to regard that as the
best administration which spends least, and the smallest tax as
the best tax. This idea was encouraged, particularly by those who
looked upon government expenditures as external to the life of the
people as if they were expenditures for some outside person.
This idea, indeed, may be traced back to monarchical govern-
ment and to a time when royal courts consumed a large part of
the public revenue. The smallest expenditure means the accom-
plishment of the fewest purposes. Parsimony means meanness,
and can never be the rule either of public or private financiering.
Frugality is the rule when it is a necessity. Economy is the sound
566 OUTLINES OF ECONOMICS
rule; and this means a broad and liberal policy and a husbanding
of resources. The wise citizen judges any particular administra-
tion either in the nation or the state, not chiefly by the amount of
public expenditures, but by the results of public expenditures,
appreciating full well that increasing public expenditures are a
normal condition in a sound and healthy society.
Development of Expenditures and the Historical Order in
which they Appear. It is instructive to consider the historical
order in which the objects of public expenditure appear. This
order throws a strong light upon the evolution of industrial society,
and of civilization in general. This is an almost unworked field
of investigation, but it is an extremely interesting and important
one. This order can be presented here only in the most general
terms, and in these terms it is somewhat as follows: expenditures
for (i) external security; (2) security within the community; (3)
promotion of material interests; (4) benevolence (transferred in
part from the Church at the time of the Reformation ; (5) educa-
tion in its various phases; (6) labor. In a general way the organi-
zation of the departments of the federal government corresponds
with this order. In 1789, the Treasury, War, and State depart-
ments were organized, also the Department of Justice, Supreme
Court, and the Navy Department; the Post Office Department
was organized as a distinct department in 1829; the Department
of the Interior was organized in 1849; the Department of Labor
as a separate department (without representation in the Cabinet)
in 1889; the Department of Agriculture as a separate department
(with representation in the Cabinet) in 1889; the Department of
Commerce and Labor (with representation in the Cabinet) in
1903. The modern nation has been spending an increasing pro-
portion of its resources for education. We use nation in the gen-
eral sense here, including all the subdivisions of the nation. We
find a rapidly increasing item in the budget of the modern munici-
pality for public libraries, in which line of expenditure the United
States is leading the world. Lately, in the modern budget, we
find expenditures which are distinctively for the promotion of the
interests of labor.
Most interesting is it to observe, within the last few years, an
PUBLIC EXPENDITURES 567
expenditure in the national budgets for international agreements
and arrangements to promote the interests of labor. In 1900, the
International Association for Labor Legislation was formed, and
its permanent Bureau was established at Basle, Switzerland, in
1901. As the competition of labor and capital was international,
it had, in the opinion of many careful observers, become necessary
to safeguard the interests of labor by international agreements.
Consequently, we find that this international association receives
subsidies from most European governments, and a small one from
the United States through our federal Bureau of Labor. And,
in 1905, as we have already seen, an international treaty was en-
tered into by Italy and France for the advancement of the inter-
ests of labor and for mutual protection of employers. Small
indeed are these items, but they are significant as beginnings.
We must, however, analyze the public expenditures of the vari-
ous departments more carefully to understand fully the order of
development in the objects of public expenditures. The whole
expenditure of the Department of Agriculture is an expenditure
to promote material well-being, and this has become one of the
great departments in modern government. The Department of
the Interior is also largely concerned with expenditures to pro-
mote the general material welfare. We have in the Department
of Agriculture such items as forestry, food adulteration, botany,
seed tests, pomology, entomology, agricultural soils, irrigation
investigations, and road inquiry.
We cannot lay down any hard and fast line between public and
private expenditures, because there is a perpetual shifting from
the satisfaction of wants privately to the satisfaction of wants
publicly, and sometimes even, though less frequently, the reverse
process. The railways of Prussia were once private, and their re-
ceipts and expenditures had little to do with the Prussian budget.
Now the receipts are public receipts, and their expenditures
are public expenditures. The addition to the budget, however,
means necessarily no additional burden resting on the people.
Indeed, if the people are well served and served for a lower price
than formerly, with less relative cost of operation, the burdens of
the people have been lightened, and this is what is generally
568 OUTLINES OF ECONOMICS
claimed in Prussia. Let us take the case of a city in which water-
ing the streets is a private matter paid for by private subscription.
The expenditure becomes a public expenditure when the city
takes upon itself this function, but if the public expenditure is no
greater than the private expenditure, there is no additional burden.
If the service is better performed, and the total burden more
fairly distributed by taxation than by private subscription, as
sometimes, at least, happens, there is a positive gain. The in-
creased density of population has been mentioned as a cause of
increased public expenditures. A suburb without any municipal
organization may maintain electric lights in the streets by pri-
vate subscription. The expenditure appears in no public budget.
This suburb secures some kind of a municipal organization, and
that which was a private expenditure becomes a public expendi-
ture. Again, however, there is no increased burden resting upon
the people; their wants are satisfied through a different channel.
When we compare modern times with ancient times, we find
that an increasing proportion of the public expenditures are in-
curred for objects which directly benefit the people, and relatively
a decreasing amount for objects in which they have comparatively
little concern. This finds most striking exemplification in a com-
parison of the budget of France in 1789 1 with the budgets of 1906
and 1907, which we take simply as typical modern budgets. 2
EXPENSES 1 789
LlVRES '
Cost of collection and reimbursements (does not include
cost of collecting taxes farmed out)
71,478,000
Consolidated debt included portion made up of annuities
Interest etc on remaining portion of debt
162,486,000
80.? 27 OOO
Pensions .
20,560,000
Royal family and princes
33.2,10.000
Total
337,201,000
1 A livre is slightly less than a franc say 2 per cent.
1 Necker*s "Budget," May, 1789, rearranged by the author of the article in the
Dictionnaire des Finances. * On page 570.
PUBLIC EXPENDITURES
"This formed the total deduction before provision could be
made for general service of the government," in which we have
the following items :
EXPENSES 1789 (Continued)
LIVRES
War
Marine and colonies
Foreign affairs
Justice
Interior
Financial administration
Public works, agriculture, and commerce
Public instruction and fine arts
I 227 OOO
Public worship (" cultes ")
2 188 ooo
Total
I&A 6c? ooo
Brought forward
lit 2O I OOO
Grand total
C2I ClAA OOO
It will be observed, in comparing these budgets, that the French
court consumed a very large proportion of the expenditures of
1789; and that of what remained a very large proportion was
consumed by the public debt, the army and navy; and that for
education and the promotion of general welfare the expenditure
was relatively insignificant. A study of the table on next page
reveals one of the reasons why_it is that France is able to endure
so large a public expenditure. Wants are thereby satisfied, and
what is expended returns to the people in services.
The view here presented of public expenditures is undoubtedly
one which is reassuring. The impression must not be gathered
from this that there is no need for care and watchfulness. As
public expenditures increase, it becomes of more and more im-
portance to secure wise and prudent administration of all our
resources. Wastefulness becomes more serious than ever before,
and the benefits from excellence in administration increase cor-
respondingly. Without pronouncing any opinion upon what is
57
OUTLINES OF ECONOMICS
called imperialism, we may also say that the enormous increase in
expenditures, in one way or another connected with war, which
we have seen during the past few years, cannot be viewed without
misgiving. Even the most optimistic Englishman cannot regard
with complacency a national administration approaching in its
expenditures 150,000,000 sterling, when over one third is for the
BRANCHES OF EXPENDITURES
1907
Francs
1906
Francs
Finance : public debt
1, 277, c 28, 064.
1.232 411 OO2
President, Chamber, Senate ....
Other services
19.337.500
7O4,67 i ;,';2C
13,942,500
2O8,IOO 361
Justice
78 7IO 2CO
77 ,177 6OO
Foreign affairs
19 I IO OOO
17 68 C 760
Interior
104 066 146
80 117 177
War
770,086,1 7Q
718,690,882
^Marine
3121 69 8 1 o
72C 08 1 O4I
Instruction
261.267 ^46
251 240 010
Fine arts
17 d6j. C24
17 AA& I4O
Worship
CO7 I 7O
C *O T 7O
Commerce and industry
C6,4QO,7O7
1:6,276,271
Labor, etc
12 C4O OIO
Posts and telegraphs
2OO O7O 08?
267 42O,4IO
Colonies
TOO 477 77O
TIO.4IC.IOO
Agriculture
A.Z.2IZ 146
4 <J, 0^7.684
Public works
229,134,470
228,374,599
Total
3. 83.7..82^,7oc
3.700.102.06?
army and navy. Even if there is no danger of the bankruptcy
of any great modern nation, the thought must at least occur to
one that it is a pity that, with so many public needs unsatisfied,
with such large possibilities in the way of improvement of educa-
tion and our general environment, such enormous and almost
incomprehensible aggregates of wealth should be annually ex-
pended for warlike purposes.
Development of Public Expenditures with respect to Regu-
larity and Irregularity. Public expenditures are regular and
irregular, or ordinary and extraordinary, with respect to their
occurrence. Whether the expenditures are regular or not depends
PUBLIC EXPENDITURES 571
upon the nature of the goods and services for which they are in-
curred. A large force must be employed in the army and navy
and civil service; and regular expenditures must be made for
these branches of the public service. On the other hand, there
are great monumental works like the construction of a capitol
for which the expenditure is irregular in character. War, famine,
and pestilence occasion irregular expenditures. It is to be no-
ticed, however, that in any scientific arrangement regular expendi-
tures increase and irregular expenditures decrease. This is par-
ticularly the case in a large country, and especially so when long
periods of time are taken into account. It is an end to be striven
for in the interest of orderly finance. In India there is a regular
famine fund to make provision for the recurring famines, so that
even expenditure of this kind takes on the character of regularity.
The longer the period of time and the larger and richer the coun-
try, the greater the possibilities of establishing regularity, inas-
much as chance elements decrease under these circumstances.
The construction of a post office building in one city is an unusual
event, but, when the United States as a whole is taken into account,
it is quite possible to provide regularly for post office buildings.
It is further to be noticed that preventive measures rather than
relief measures increase regular expenditures. This is one argu-
ment in favor of constant preparation for war. The war expendi-
tures are smaller and less disturbing when they come. It need
not be remarked that this financial advantage may be secured at
a loss otherwise. Furthermore, there is a certain conflict of
interests between administration and legislation. Those who are
administratively responsible for expenditures prefer to have budg-
ets voted for long periods, as in this way they can accomplish
most with a given sum. On the other hand, a legislative branch
of government desires that budgets should be voted for short
periods for the sake of stricter control.
It is also to be noticed that the constitutional provisions against
debts in the states of the American Union promote regular expendi-
tures. Where loans are not possible, it is frequently necessary to
spread expenditures over long periods in order that the burden
may not be too great at any one time. It is in this way that in the
572 OUTLINES OF ECONOMICS
state of Wisconsin, for example, the Historical Library Building
was built; and many of the buildings of the State University have
been constructed under like conditions. It is in this way that the
new Capitol is being built. Certain sums are appropriated each
year for a series of years. 1
Terms used in Public Expenditures. The terminology of public finance,
and in particular of public expenditures, has occupied a great deal of attention
on the part of economists, and receives elaborate treatment in the Census
Report, 1907, on Wealth, Debt, and Taxation. It is here possible to point out
simply a few distinctions and to define a very few terms; but in a more
elaborate and technical treatise on public finance it would be necessary to
give a great deal of attention to this topic.
Instead of the term " public expenditures," we sometimes have the term
"financial needs." This is employed particularly by German writers,
who, however, employ it interchangeably with expenditures. The two terms
represent two approaches to the same subject. Educational needs, treated
from the financial standpoint, become expenditures for education. "Ex-
penditures" seems to be the more natural term.
We must distinguish between expenditures in the narrow sense and invest-
ments. In the broad, general sense, all governmental outlays would be
designated as expenditures. In a narrow sense we use "expenditures"
for those outlays which are not expected to yield a direct, material return,
and "investments" for those outlays which are expected to yield such a
return. An investment would mean an outlay of capital rendering a direct
income equal to current interest. If the return is less than current interest,
it partakes of the nature of expenditures in the narrow sense of the term.
Money expended in improving and extending the state railways of Germany,
for example, would be regarded as investment. Money expended on the
streets of cities are expenditures. This distinction is one of increasing sig-
nificance because governments are extending their functions in the industrial
field. In all sound public financiering, especially in all action concerning
public debts, the distinction must be made between an outlay of capital which
will yield a return at least equal to the current rate of interest and those out-
lays which yield their return in direct and immediate satisfactions, but do not
make any direct and immediate provision for interest payments and final
amortization.
1 The authors hope by taking concrete illustrations from their own environment
that they will accomplish two purposes: (i) that the text will be rendered more
real and less abstract, and (2) that their readers will be encouraged to seek illustra-
tions from their environment. One aim which is constantly kept in mind is the
importance of cultivating the power of observing and reflecting upon economic
phenomena.
PUBLIC EXPENDITURES 573
It is generally conceded that narrow debt limits should not be applied in
the case of cities to investments.
The census volume just referred to makes a further distinction between
investments and outlays as follows: "Under investments are included all
transactions of national, state, and municipal governments connected with
the purchase, sale, or possession of real property or securities held exclusively
for investment purposes, and the loan of public money to individuals, cor-
porations, or other civil divisions. Such transactions are of two classes :
first, those of the sinking, investment, and public trust funds in which or
through which the nation, state, or municipality invests money for the sole
purpose of deriving interest, rent, or other income therefrom; second, the
transactions of a more temporary character by which the national, state, or
municipal government receives interest on current cash deposits and on
deferred payments of taxes and special assessments." *
"Outlays 'Outlays' are the costs, paid or payable, incurred by nations,
states, and municipalities in the purchase of lands, in the purchase or con-
struction of buildings and other structures, and in the equipment, improve-
ment, and additions to public works which are more or less permanent
in character, and which are used by the nations, states, and municipalities
in the exercise of their general functions or in connection with the business
undertakings conducted by them. Governmental outlays partake of the na-
ture both of commercial expenses and of commercial capital outlays. Like
commercial outlays, they are to secure more or less permanent acquisitions;
but unlike them, they do not secure property applicable under any ordinary
condition for meeting liabilities. Further, they are always a legal charge
against revenue, while capital expenditures in commercial undertakings
are always recorded in the accounts with capital." J
A further important distinction is that between expenditures for works of
a permanent character and those of a more temporary character. The prod-
ucts of expenditures of a permanent character are those which keep on
yielding utilities indefinitely a public park, for example. The expenditure
for utilities of a temporary character are those which must be perpetually
renewed, like an annual expenditure for the maintenance of public parks.
This is a distinction which must always be observed in sound public finance.
Classification of Public Expenditures. Many principles of classification
have been adopted. An important one is that made with respect to political
units:
I. Central.
II. Intermediate.
III. Local units.
This classification can be extended indefinitely, but it gives us the three
main classes of units. In our country the central would be the federal, the
intermediate would be the separate states, and the others, the local. An
1 P- 95 6 - * P- 954-
574 OUTLINES OF ECONOMICS
examination of expenditures with respect to these units throws a good deal
of light upon our general political evolution. It especially helps us to de-
termine whether or not there is a tendency in the direction of centralization,
although expenditures alone are not conclusive. Sometimes fear has been
expressed lest the central governments should expand at the expense of the
local governments. It is thought by some that we are living in a period of
centralization. The statistics of public expenditures do not bear this out,
as local expenditures seem to be increasing more rapidly than those of central
governments. There may be some ground to apprehend that in the United
States the cities and federal government are increasing in importance more
rapidly than our commonwealths. The states which make up the Union
have lost somewhat in relative significance, if we may judge from the com-
parison of public expenditures of the various political units. 1 There appears
to^be, however,jsome ground for thinking that the states are again becoming
of greater importance in our general structure of government. We find,
for example, that the expenditures of the state of New York have increased
from not quite $10,000,000 in 1881 to nearly $22,000,000 in 1902. This is
a budget which would seem to indicate activity, although, to be sure, far less
than the budget of New York City. Our Western states are developing
remarkable educational systems, reaching from the common school to the
university, and some of our states are developing forest property, and a
department of forestry. These are, perhaps, ample illustrations of the
growing significance of the state. But we must await future developments
in order to ascertain the extent of the movement.
The following is a very simple classification made with respect to objects
for expenditure :
I. Expenditures for security.
II. Expenditures for the poor and unfortunate.
III. Expenditures for education.
IV. Expenditures for commerce, diplomacy, and government.
The following is a more extensive classification : 3
I. Head of the state.
II. Legislative bodies.
III. Public administration, including central departments.
IV. Army and navy.
I. Head of the state emperor, kings, grand dukes, etc., Germany.
Presidents and governors representing the sovereignty of the state.
1 It must again be emphasized that expenditures alone are not sufficient evidence
to enable us to speak positively on this point. In general, however, there is a
correspondence between the amount of public money expended by a political
unit and its social significance.
'This is taken largely from Cossa's Taxation: Its Principles and Methods,
Part II, Chap. Ill, Classification of Public Expenditures.
PUBLIC EXPENDITURES 575
II. Legislative bodies Congress, legislatures, county boards, county
councils, municipal councils.
III. Public administration central, intermediate, local.
A. Financial administration.
1. Treasury.
2. Public domain (regalia) fiscal monopolies, public business.
Further subdivision possible.
3. Administration (especially collection) of taxes.
4. Public debts. (Sinking funds, etc.)
B. Administration of foreign affairs diplomacy, consulates, etc.
C. Administration of the interior.
1. Internal security.
Courts.
U.S. marshals.
Constables.
Police, etc.
Repression and prevention.
2. The administration designed to promote general public welfare.
a. Intellectual and moral welfare.
Education in its various phases. Statistical bureaus, etc.
b. Physical welfare.
(a) General economic well-being: economic welfare in
general the promotion of manufactures, agricul-
ture, and commerce. Weather bureau.
(b) Life saving in general. Public health. Sanitary ad-
ministration.
(c) Charitable and provident institutions.
(d) Public works, including model institutions, etc., such as
farms.
(c) The promotion of the interests of labor. Here there is
overlapping, for the labor bureau is educational also.
(/) Pleasure, recreation, and miscellaneous.
IV. Army and navy.
Regular army and navy militia.
The student, and even the general reader, will find it especially instructive
to study the financial reports of the federal government and of our states and
cities, and arrange the items of expenditures under these various heads.
If access can be had to reports covering a considerable number of years and
different countries, it will be found that an examination of them will throw an
immense amount of light upon the nature of modern civilization and its
direction.
It is also instructive to compare expenditures on account of the head of the
state in various countries, and particularly to contrast monarchical and
576 OUTLINES OF ECONOMICS
republican countries. It is important to discover great historical tendencies,
and to contrast different periods of time, especially as regards monarchical
expenditures. It is beyond all question that relatively, in the civilized world,
this is an item of declining importance. At the present time, the king of a
great country like Prussia or England supports a magnificence of state which
is altogether out of keeping with the ideas of a democracy or a republic.
Four or five millions of dollars per annum for a modern monarch is not a
large expenditure. On the other hand, in contrast, the expenditures of the
President of the United States (including those connected with the executive
mansion, contingent expenses of all sorts, and presidential clerks) amount
roughly to $150,000. However, as regards the expenditures of a modern
monarch (like the German Emperor William II), a detailed examination
shows that custom and tradition, as well as the will of the monarch, cause
a large part of his income to go for public purposes, and that his wealth has
been largely socialized. The king is no longer the typical rich man.
On the other hand, the expenditures on account of the American Congress
are unprecedented in amount among the expenditures incurred on account
of legislative bodies. The world has never seen anything of the kind be-
fore, and nothing parallel to it can be found in any other country. Among
other things, this goes to indicate, as contrasted with Germany, the great
importance of the legislative body which is supposed to represent the people
directly and immediately and to carry out their will. In aristocratic countries
the legislative office is sometimes an unpaid office. This is the case in
British and German parliaments, the idea being to favor wealth and to
counteract democratic tendencies an aim not accomplished at present.
A democracy, however, is more likely to insist upon a legislative office being
a paid office ; and, in some of the German states, although the payment is
small, its acceptance is compulsory for the members of the legislative
bodies.
Expenditures incurred in the administration of foreign affairs are of in-
creasing importance on account of growing economic internationalism. We
would here have two main classes; namely, expenditures on account of
diplomacy, those representing the purely political side of government, and
expenditures on account of the consular service, representing the business
interests of the country. Boundaries and surveys are expenses which would
come under this general heading.
With regard to the administration of foreign affairs, any one nation is
limited in what it can do by international customs. We Americans, for
example, cannot force our ideas on other nations. Certain standards of
dignity and propriety have been established with respect to the mode of life
for diplomats, and, if we depart from these, we do so at a loss which every
diplomat in the service of the United States keenly feels. The most that we
can do is to exercise pressure in what we believe to be the right direction, and
that is the direction of democratic simplicity.
PUBLIC EXPENDITURES 577
When we examine expenses incurred in the administration of justice, we
notice a large increase with the growth of democracy. In earlier times in
countries like England and Germany, the administration of justice was to a
greater or less extent "patrimonial," being connected with certain estates.
The duty of administering justice went with the great estate or manor and
involved little expense. As people take things into their own hands they
must pay their own expenses. Democracy, in its progress, means large
public expenditures.
The new humanitarianism of the age, which, in a way, is one expression of
democracy, involves large expenditures, as seen in education, modern re-
formatories, etc. But it is believed by the advocates of humanitarianism and
democracy that these expenditures are worth while.
It is when we come to expenses incurred in the promotion of the general
welfare that we see the most remarkable and edifying phenomena that greet
us in the treatment of public expenditures. This has been seen in the
data already given, and will become increasingly manifest as the student car-
ries on his statistical studies in this field. 1
QUESTIONS AND EXERCISES
1. Define public finance. Why should it be regarded as a part of eco-
nomics? Can you give any reasons why it should be regarded as a sepa-
rate science ?
2. Can we spare money for taxes only when we have an income affording
a surplus over and above necessities ? If the money paid for taxes is used to
provide us with necessities, is there any good ground for the doctrine that an
income sufficient to afford a minimum of subsistence should be exempted
from taxation in the case of an income tax ?
3. What various meanings do you ascribe to the enormous increase in
public expenditures during the nineteenth century ?
4. What would be the consequences if the government of the state in
which you live should strive for the largest possible amount of revenue, and
then govern its expenditures so as to consume the entire state income ?
5. Discuss the differences between public expenditures and the expendi-
tures of a private household. Would you regard it wise on your part to
make any expenditures with the idea that a benefit to some one would accrue
one hundred years later ? fifty years later ? twenty years later ?
6. What considerations must govern us when we attempt to answer the
question, " What is the proper proportion between public expenditures and
the total income of society?"
7. Discuss Wagner's rule. Is the fact that public ownership increases
the permissible proportion of social income that may be used for public
1 For statistical matter bearing upon the subject-matter of this chapter, see
Appendix A.
2P
578 OUTLINES OF ECONOMICS
purposes an argument for public ownership of railways ? If so, why ? If not,
why not ?
8. Discuss Wagner's law of increasing public expenditures and show its
significance.
9. Discuss economy, parsimony, frugality, extravagance in public ex-
penditures, and give as full illustrations of each as you are able (a) from your
own observation, (6) from your reading and conversation and correspondence
with others, public officials included. Make this the subject of a topic for a
class report.
10. Discuss the historical order in which items of expenditure appear in
national, state, and local governments. Give illustrations from the state and
from the local political unit in which you live. Give any illustration which
may occur to you of taxation which lightens the burdens of the taxpayer.
Does it afford you satisfaction when you buy postage stamps to know that the
money paid flows into the public treasury, and not into the treasury of a
private corporation?
11. If you were permanent Secetary of War, would you desire to know for
a long number of years in advance the yearly sums that could be expended
on the army ? Could you thus make the same amount of money accomplish
more than if dependent upon annual grants uncertain in amount? What
would be your view as a member of Congress? Is a state university to be
controlled in its expenditures by the legislature as rigidly as Congress should
control the administration of the army? If so, why? If not, why not?
Would you make any distinction in this respect between the army and the
navy?
12. Point out the different kinds of public expenditures and distinctions
between expenditures and investments, and show their significance. If
public parks, like publicly owned railways, yield permanently services to
society, why should different rules of financiering apply to them ?
13. Present such statistics as you may be able to gather showing relatively
and for as long a time as possible the increases in public expenditures in the
federal government, in your own state, and in your own local political unit
(city, county, town, etc.), and give all the evidence that you can secure showing
the significance of the movement.
14. Show the various ways in which the increasing degree of self-govern-
ment and the growing altruism of the age bring about an expansion of public
expenditures. Is it worth while?
REFERENCES
Government publications generally.
As illustrative particularly of the expansion of government expenditures and
public work, the Year Book of the Department of Agriculture.
For growth of militarism, take publications of the Department of War and
publications of similar departments in other countries.
PUBLIC EXPENDITURES 579
For general statistical data, Martin's Statesman's Year Book is as reliable as
anything in English. For our own country, see Finance Reports of the
Secretary of the Treasury and census volumes, especially the volume on
Wealth, Debt, and Taxation. For making a broad survey of the federal
expenditures of the United States, perhaps no single publication is more
useful than the annual " Letter from the Secretary of the Treasury trans-
mitting estimates of appropriations."
CHAPTER XXXIII
PUBLIC REVENUES FROM LOANS AND GOVERNMENT
OWNERSHIP
Classification. Having decided what expenditures it is pos-
sible or desirable to make, the question next arises how the neces-
sary revenues may be raised. Differing classifications of public
revenue have been almost as numerous as the writers who have
made them. Without entering into a discussion of the reason for
such differences, we may present at once a classification which is
in general harmony with the usual treatment of the subject. It
should be distinctly understood that the figures accompanying the
classification are only approximately correct, as it is still impossible
to fit public accounts, particularly those of the national govern-
ment, to that classification which long study has shown to be most
serviceable to the economic student.
The figures in Table I are derived from the Census Report entitled
Wealth, Debt, and Taxation (Part II, Table 2, and Part IV, Tables 2,
12, 13, 14, 15, 18), and from Census Bulletins 20, 45, and 50. The figures
refer, for the most part, to the fiscal year ending June 30, 1903, but this is
not true in all cases. In addition to the "receipts from revenues," as defined
by the Census Bureau (Wealth, Debt, and Taxation, Part IV, Table i),
Table I includes $119,722,845 for public debt and $11,391,791 for revenue
from public domains, not included in the census totals. The $119,722,845
represents the increase of public debt in one year, i.e. the difference between
the receipts on account of the public debt and the payments on the same
account, but it takes no cognizance of the increase of cash and other assets
available for the payment of the debt. In arriving at the total, $4,000,000
has been allowed for the increase in the debt of the minor civil divisions
other than counties and cities having more than eight thousand inhabitants.
The $11,391,791 represents an estimate of the receipts from the sale of
public lands by the national and state governments. This item is classed
by the census statisticians with the nominal, or, in their designation, the
"temporary " receipts, on the ground that when real estate is sold, the revenue
is offset by a corresponding decrease in the capital assets or the aggregate
PUBLIC REVENUES
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582 OUTLINES OF ECONOMICS
value of the fixed possessions of the government. The justice of this treat-
ment is plain in the case of municipal buildings and other real estate forming
part of the fixed plant of the municipality, but it is not so clear in the case of
the public lands of the state and national governments which for the most
part yield no revenue and resemble the merchandise or stock rather than the
capital or plant of the private business. In the figures given in the table,
ineradicable duplications to the amount of about $70,000,000 occur, although
most of the common duplications such as transfers and refunding operations
generally have been eliminated by the excellent classification employed in
the Census Report. It should be added, also, that in practice it is im-
possible to differentiate clearly among taxes, fees, revenues from public
domains, and revenues from public industries, and that the assignment of
the detailed items to these classes is in some cases quite arbitrary.
Temporary Revenues and Public Debts. The modern State
follows a policy of deficit financiering. The great and increasing
expenditures, which have been described in the preceding chapter,
entail burdens too heavy to be borne, at least in the first instance,
by taxation alone, and recourse must constantly be had to the
public credit. One year with another, about one fourth of the
annual revenue of England is used in the payment of debt or
interest upon debt; and as was shown in the French budgets for
1906 and 1907, given on page 570, almost one third of the total
expenditures of France is devoted to the same purpose.
In the last half of the nineteenth century, the aggregate public
debt of the civilized world increased enormously. According to
the best estimates, the indebtedness of the national governments of
the world, which amounted to $7,627,692,215 in 1848, had risen
to $27,524,976,915 in 1890, and since that time it has probably
increased. Figures showing the total and per capita debt of all
governmental divisions of this country are given in Table II.
From this statement it appears that between 1890 and 1902 the
aggregate public debt of this country increased over $800,000,000,
the greater part of the increase being ascribable to the astonish-
ing growth of municipal and local indebtedness, which increased
nearly 90 per cent in the interval. It is true that the total
public debt has diminished since 1880, that the per capita debt
has fallen from $82.99 m ^7 to $35-5 m 1902, and that accord-
ing to Census estimates of national wealth (not very trustworthy),
the public debt covered only $2.85 of each one hundred dollars of
PUBLIC REVENUES
583
national wealth in 1902, as against $3.06 in 1890, $6.97 in 1880,
and $10.64 in 1870. But this diminution of the aggregate debt
is due to the extraordinary progress which our tariff surpluses have
enabled us to make in reducing the debt contracted during the
Civil War; and the normal movement in the long run is probably
toward an increase of the public debt, at least absolutely and per
capita, if not in proportion to the national wealth. 1
TABLE II
PUBLIC DEBT OF THE UNITED STATES
Net Debt Outstanding
TOTAL IN MILLIONS OF DOLLARS
PER CAPITA
1902
1890
1880
1870
1902
1890
1880
1870
Total
$2790
925
235
197
1387
46
$1989
852
211
MS
744
37
$343
1919
275
124
707 1
i8f
$3200
2 33 *
353
188
328
$35 -5
11.77
2.99
2.50
17-65
o-59
$31.76
13.60
3-37
2.32
11.88
o-59
$60.66
38-27
5-48
2-47
14.09!
o-35 J
$82.99
60.46
9-i5
4-87
8.51
National gov't. .
States and terri-
tories
Counties
Cities, villages,
etc
School districts .
The great increase of public debts is due principally to two causes,
wars and public works. The former are misfortunes, losses, how-
ever the result is expressed. The loss comes, not in contracting a
debt, but in spending and destroying the property consumed by
war. This loss cannot be postponed by a debt. It comes out of
wealth existing at the time, no matter what arrangement is made.
In former times each man bore the loss as it happened to fall on
him. The modern method differs in just this, that the loss is
transferred to the whole public. This, again, may be done in two
ways. A tax may be levied at the time sufficient to pay all
1 According to Census estimates, the per capita debt of the United Kingdom
in 1904-1905 was 3.93, that of France 4.86, and that of Italy 2.25 times as great
as the per capita debt of the United States in 1902, while that of Sweden was a
trifle less than the per capita debt of the United States.
584 OUTLINES OF ECONOMICS
expenses, or a debt may be incurred and the necessary taxation
spread over a longer period of time. In practice the latter proves
far the best, for at least a part of the expenses. It gives capital
time to adjust itself to the extraordinary demands. A war debt
is, therefore, not a misfortune, though it stands for a previous
misfortune war.
The case is clearer when we consider debts contracted for public
works. Under this head we include primarily productive enter-
prises like railways, canals, forests, gas works. These, when pur-
chased or constructed by the government, are the occasion of
debts, sometimes enormous in amount. It might seem possible
to pay for them by immediate and heavy taxation, since no more
is taken out of the people than when the money is borrowed. But
the national wealth is not like an ocean, alike in all its parts and
instantly filling up where water is dipped out. It makes all the
difference in the world where you dip. Here are men who have
capital invested in a productive business; here are others who have
capital lying idle. The State decides to make a public investment,
and calls for capital. If it collects it by an immediate and heavy
tax, the first class have a part of their employed capital withdrawn,
and their business is crippled or ruined. The others have some
of their capital withdrawn, but the most still lies idle. The best
that can be done in such a case is for the first class to borrow of
the second, which only makes private debts instead of public ones
a much more burdensome condition of things for the national
industry. The wiser modern method is for the State to borrow
the unemployed capital and leave the employed capital intact,
then imposing a moderate tax which can be paid out of annual
income. If the expenditure in question is an investment, it pre-
sumably pays for itself in time without requiring taxation.
This brings us to the relation between taxes and debts. Taxes
should never be so heavy that they cannot be paid easily out of
annual income. If they trench upon national capital, they derange
private industries disastrously because they are imposed upon all
without regard to the nature of their investments. But while
taxes cannot safely exceed the national disposable surplus for each
year, it does not follow that the State may not take capital as well
PUBLIC REVENUES 585
as surplus for its undertakings; only this capital must be taken
from those who have uninvested capital. This cannot be done by
any method of general contribution like taxation. It can only be
done by public loans. Whether the loan is a wise thing or not
depends altogether on the nature of the State's investment. If
the State takes this capital ever so wisely and wastes it, the people
have lost just so much capital. If, on the other hand, the State
takes capital which was uninvested and therefore unproductive,
and invests it in a profitable undertaking, the net result to society
is an additional profit. Public debts are no indication of national
poverty. Whether a nation is growing poorer or not depends not
on its indebtedness, but on its productiveness relatively to its ex-
penditures. Public debts are not a good thing in and of them-
selves, but they have incidental advantages which offset some of
their disadvantages.
Having noticed the natural limits of both taxation and borrow-
ing, we have now to ask, What kind of expenditures should be pro-
vided for by each ? In general the answer is easy, though details
are troublesome at times. Ordinary expenditures, that is, those
which recur with sufficient regularity so that they can be foreseen
and estimated in advance, if not provided for by receipts from
domains and industries, must be met by taxation. If the State
cannot do this, it is a confession that ordinary expenditures are in
excess of the disposable income surplus of the nation, a state of
things which means bankruptcy if continued long enough.
Extraordinary expenditures, such as national misfortunes
war, flood, etc., and public investments, railways, city gas
works, etc., should be met by loans. The function of loans
thus becomes a double one: (i) the distribution of unavoidable
losses, so that industry is as little disturbed as possible; and (2) the
investment of national uninvested capital in productive public
enterprises.
There is a tendency, springing out of fright partly premature, to place
undue constitutional restrictions upon the power to create debts. This
tendency ought to be checked. It places states and cities at a disadvantage
as compared with private corporations. It also tends to throw into the hands
of private corporations enterprises which cannot be paid for out of cue
586 OUTLINES OF ECONOMICS
year's revenues, and yet might advantageously be acquired by the public.
At the present time excessive limitations, unworthy of a free people, make
it impossible for some cities to carry out necessary public improvements,
although these improvements would not impose the slightest real burden upon
the taxpayers. In Chicago recently, to take one of many examples which
might be cited, after a prolonged and exceedingly expensive campaign for
the improvement of the street-car service, the city was prevented from carry-
ing out a carefully devised plan of reform by a court decision which held
that an issue of street railway certificates increased the indebtedness of the
city beyond the limitations prescribed by the constitution. Provision should
be made for the extinction of all debts within thirty-five years, or say forty
as a maximum, that the present may not unduly burden the future; and
especial precaution should be taken against hasty action in incurring in-
debtedness. But rigid limitations which prevent municipalities from off-
setting part of their debt by the value of waterworks, lighting plants, and
other assets which yield a monetary return, have no place in a scientific sys-
tem of public finance.
PERMANENT REGULAR REVENUES
The Public Domain. By domains we usually mean agricul-
tural and mineral land and forests owned by the State and man-
aged in the interest of the public revenue, although we might
logically subsume under the term the streets and other public
property of cities, with all those valuable franchises and privileges
which go with them. As appears from Table I, the revenues from
this source constituted less than i per cent of the total receipts
in 1902, and if the corresponding expenditures were shown, the
net earnings of the public domain would appear even smaller,
possibly a minus quantity. Taxation is the great source of public
revenue to-day.
Until a comparatively recent date this was not the case. In
early feudal times the king had large estates of his own from the
produce of which the government was largely supported, and
although he had certain military rights over his subjects, he had
very limited rights over their property. Later, the king became a
public rather than a private person, and a large part of the crown
estate became the property of the public; but even then taxation
was relatively unimportant, and the State relied principally in times
of peace upon fines, escheats, fees, crown prerogatives, or certain
dues which the king was entitled to collect as of his own right,
PUBLIC REVENUES 587
and upon the proceeds of the public domain. Blackstone, the
great English jurist, writing in 1765, classified taxation among
the "extraordinary" revenues of the sovereign; and in some of
the German principalities the government was enabled to get along
without taxation in times of peace, down to the close of the eight-
eenth century. Real democracy not yet having been achieved,
the people distrusted taxation and resented its imposition, while
the sovereign wisely clung to that species of revenue which was
independent of the people's caprice. " The public domains,"
said Bodin, the great political philosopher of France in the latter
part of the sixteenth century, "should be holy, sacred, and in-
alienable either by grant or by prescription."
But as democracy developed and the representatives of the
people gained control of the finances, a new policy was everywhere
adopted. If State management was uneconomical and wasteful,
and if the government could obtain all the revenue needed by taxa-
tion, why preserve the wasteful methods of management, why
not turn public property into private property, to be developed and
multiplied through the vitalizing force of individual self-interest?
The great truth was realized that the property of individuals when
su bject to taxation and regulation is no less part of tlie great patri-
mony of the State than those lands and forests whose title is retained
by the government itself. This doctrine was generally accepted by
the greater countries of the world during the eighteenth century,
so that Adam Smith, in defending it in 1776, was able to write that
"there is not at present, in Europe, any civilized state of any kind
which derives the greater part of its public revenue from the rent of
lands which are the property of the state. ..." This philosophy
was dominant when our national goveri ment was created in 1 789,
and has guided our national policy ever since.
Land Policy of the United States. By exploration and occu-
pancy, war, and various cessions, the federal government has
acquired, since the Revolutionary War, a magnificent domain of
2,252,244 square miles, details concerning whose disposition may
be found in Table III, p. 589. Now, while we have consistently
followed the doctrine of alienation until very recent years, trying,
apparently, to get rid of the public domain as rapidly as possible,
588 OUTLINES OF ECONOMICS
one observes historically a very important change in the manner
of development. In the early years of the Republic, large reve-
nues were expected from the sale of public lands; it was the finan-
cial side which, according to Alexander Hamilton, claimed ''pri-
mary attention." l Until about 1800, the policy was to sell the
land in large blocks, even though it went to speculators; this was
followed by an attempt to sell small holdings to actual settlers,
the credit system being used with disastrous results; later (1830),
the preemption policy was introduced by which bona fide home
makers were given certain advantages in purchase; and finally
came the Homestead Act of 1862, the Timber Culture Act of 1873
(now repealed), and the other less important laws by which actual
settlers can obtain homes practically free of cost. Our original
aim was to develop the country as rapidly as possible, and secure
as much revenue as possible from the sale of public lands. We
still aim to develop the country, but the idea of profit has been
replaced by the more humanitarian policy of giving land to the
landless. To exaggerate the evolution of policy for the sake of
emphasis, it may be said that we began with a productive policy,
and modified it with a distributive policy; that in the beginning
our object was the greatest good, while now it is the greatest good
to the greatest number, or, in terms more appropriate to the exact
case in hand, the greatest possible use of the public domain con-
sistent with widespread participation in that use.
The policy of national development regardless of immediate
revenue to the government has been also carried out by enormous
grants of lands for the endowment of education and the subsidiza-
tion of canal, railway, and internal improvement companies. Our
public lands have been used for expenditure rather than revenue,
for bounties rather than profits. Just what has been done with
the public domain is shown in Table III, which should be care-
fully studied. On the mainland of the United States we still (1007)
have left nearly one hah 5 as much land as we have disposed of,
unreserved, and still unappropriated; while if we take account of
Alaska and public reservations, the government might yet, as
was said some years ago, "repeat its sales and gratuities acre for
1 Quoted by Donaldson in The Public Domain, p. 198.
PUBLIC REVENUES
589
acre, without exhausting its reserves of land." But, of course,
the best of the lands have gone. On June 30, 1907, there still were
left unappropriated and unreserved 774,438,420 acres, although
368,028,850 acres of this area were situated in Alaska, unsurveyed
and of very doubtful value.
TABLE III
DISPOSITION OF PUBLIC DOMAIN: JUNE 30, 1904
DISPOSITION
ACRES
1. Homestead and timber culture entries final 106,240,464.25
2. Pending homestead entries final and commuted . 39,525,840.00
3. Private land claims scrip and other 34,604,827.84
4. Allotment to individual Indians, and half-breed
scrip 14,408,079.86
5. School and agricultural college grants 76,731,243.00
6. Miscellaneous grants to states and territories
(partly educational) 87,305,203.05
7. Wagon-road construction grants 2,867,474.49
8. Canal construction grants 4,598,698.32
9. River improvement grants 2,246,251.91
10. Railroad construction grants 117,550,292.37
11. Cash sales Indian cessions, mineral lands, timber
and stone claims, and miscellaneous cash sales. . 287,001,612.29
Total alienated, excluding Alaska 773>79>987-38
12. Reservations forest, reclamation, parks, military,
Indian 194,587,475.62
Total alienated and reserved, excluding Alaska. 967,667,463.00
13. Area unappropriated and unreserved, excluding
Alaska 473,836,402.00
14. Area unappropriated and unreserved in Alaska . . . 368,035, 975 .00
Total unappropriated and unreserved 841,872,377.00
15. Total land surface in public domain, including
Alaska 1,809,539,840.00
16. Total land and water surface in public domain, in-
cluding Alaska 1,884,021,760.00
Forest Lands. The policy of alienation, while on the whole
sound, is subject to certain limitations which it is very important
590 OUTLINES OF ECONOMICS
to note. First of these is the case of forests. The ruthless denuda-
tion of our timber lands, the striking advance in the price of lumber
indicating that the supply has not kept pace with the demand, and
the meteoric development and rapid decline of the lumber industry
in many localities of the Northwest, all combine to demonstrate
that alienation and private ownership have failed to produce that
careful industrial management which conduces to the greatest
use and the greatest good in the long run. More important still,
we have come to realize that the most productive use of other great
natural resources has not been subserved by the private ownership
of the forests. Climate and rainfall, the regular flow of streams,
the success of the great irrigation works which we are buildingj
and the proper development of our mines, all depend more or
less upon the permanent preservation of our forests; but private
ownership and management in the past has led to destruction,
not preservation.
The United States awoke very slowly to these truths. Prussia
abandoned the policy of disposing of forest lands in 1 83 1 . France
and Austria began to increase their forest holdings about 1870.
But it was not until 1876, in the United States, that an awakened
interest showed itself in a congressional appropriation of two thou-
sand dollars for the purpose of employing "a competent man
to investigate timber conditions in the United States." In 1881
a Division of Forestry was created in the Department of Agri-
culture which expanded into the Bureau of Forestry in 1901, and
into the Forest Service in 1905. In 1891 a forward step was
taken by the passage of an act authorizing the President to
establish forest reserves; and in the same year the first forest
reserve was established. In November, 1907, the area of the
national forest reserves had increased to 159,439,979 acres; the
forest service had developed to a point where it was able to
care for the management of this vast national industry, and to
cooperate further with private owners in establishing the principles
of scientific forestry, while the policy of alienation has been
modified to an extent amounting almost to reversal. Instead of
selling forests, tJie government is now permitting timber to be cut in
a way to preserve the forests. The revenue from this source at the
PUBLIC REVENUES 591
present time is nearly $2,000,000, but that is a secondary con-
sideration. The important point is that the government has
demonstrated its ability to manage the forests along lines at once
scientific and commercial. In many European countries, how-
ever, a greater revenue is secured from the forests. In France,
for example, the public forests cover nearly 18 per cent of the
entire land surface of the country, and yield approximately, it
is reported, $2.50 per acre annually, giving a revenue of about
$59,000,000 a year. "The Prussian budget for 1903 estimated
the gross receipts from forests at 106,854,000 marks, and the net
receipts at 60,000,000 marks." In the United States at present
25 per cent of what is received, according to law, goes to the states
and territories in which the reserves are situated for public roads
and schools? It is estimated that in a few years the reserves will
yield not less than $5,000,000 a year.
Experience has shown that the public ownership and manage-
ment of forests is far more efficient than private ownership and
management. This is due to the length of time required to realize
upon investments in this industry, its routine character, the large
area one man can supervise, and, perhaps chiefly to the fact that
the government in its management takes into account the interests
of the community as a whole. Although private corporations may
make plans for a long period of time, they are less desirable owners
and managers, especially in the last particular. The property tax,
as now levied, is one of the greatest enemies of rational forestry
by private owners. The State spends millions of dollars to pre-
serve the forests, and yet enforces a tax that puts a premium
upon their destruction.
Mineral Lands. Our experience with timber lands is im-
portant as showing that private ownership of some kinds of
land has not resulted in the greatest or wisest use of that land.
Our experience with mineral lands demonstrates that the policy
of disposing of public lands in small holdings, free of cost or at
prices far below their real value, has not led to a widespread partici-
pation in the use and profit of those lands. The reason for this,
broadly speaking, is that our policy of alienation in small hold-
ings conflicts with the requirements and necessities of modern
industry. In disposing of our lands we have tried to balk the
592 OUTLINES OF ECONOMICS
corporation and the speculator in order to subsidize the settler and
home builder. For instance, we have made the recipients of
homesteads and mineral claims swear that they are not acting as
agents "for any person, corporation, or syndicate" or "in collusion
with any person, corporation, or syndicate, to give them the benefit
of the land entered," and that the land is not being secured "for
the purpose of speculation." Yet for purposes of grazing and in
less degree for mining and lumbering, modern industrial methods
require that large tracts of land shall be worked together, and that
individual claims shall be consolidated. The core of the difficulty
has been well described by President Roosevelt in these words:
"It is a scandal to maintain laws which sound well but which
make fraud the key without which great natural resources must
remain closed. The law should give individuals and corporations,
under proper government regulation and control, the right to work
bodies of coal lands large enough for profitable development."
And the President thereafter recommends that laws shall be passed
which shall authorize the leasing, instead of the complete alienation,
of coal, oil, and gas rights, as well as grazing rights on the public
domain. Bills are now pending in Congress which look to the
leasing of mineral lands rather than their sale, and there is little
doubt that the policy of complete alienation will be sooner or later
followed by a royalty or rental system.
Already the royalty system has been adopted by some of the
commonwealth governments, and year by year the policy of com-
plete alienation is more and more restricted. In a few years, in
some of the Western states, these leases will probably provide
enormous revenues. The state of Minnesota, for instance, in
which the royalty system has been inaugurated, received $163,833
from royalties, and $31,985 from prospecting permits and fifty-year
leases in the fiscal year ending July 31, 1907. The auditor of the
state, in speaking of the Vermilion and Messabe iron ranges, says
that on contracts now in existence perhaps one hundred million
dollars will be realized for the school and university funds. 1
Auditor's Report for 1905-1906, p. liv. Data given in the Preliminary Re-
port of the Minnesota Tax Commission for 1907, Chap. V, however, seem to
indicate that $50,000,000 would be a safer estimate.
PUBLIC REVENUES
593
The Success of our Land Policy. In a rough, general way,
our land policy has been a success, as is shown by the unprece-
dented and almost feverish development of the country in the last
century, with the creation of a fund of taxable values which makes
it an easy matter for the state governments to raise all the revenue
which they need. But in some respects it has signally failed. In
the first place it has not paid : more money has been spent for the
purchase, survey, and care of the public lands than has been re-
ceived from their sale and lease. In the second place, certain
kinds of lands, as we have shown, should not have been alienated.
And in the third place, our efforts to give land to the landless have
bred an immense amount of corruption, fostered speculation, en-
dowed private monopoly with public wealth, and pauperized whole
communities. One has only to recall the recent convictions of
public officers for land frauds, and to read the report of the Com-
mission on Public Lands, to which specific reference is given at
the end of the chapter, to appreciate the truth of all these charges.
The desert land law and the commutation clause of the Homestead
Act, they tell us, operate far too often "to bring about land mo-
nopoly rather than to multiply small holdings by actual settlers."
... "In many localities, and perhaps in general, a larger pro-
portion of the public land is passing into the hands of speculators
and corporations than into those of actual settlers who are making
homes." . . . "Nearly everywhere the large landowner has suc-
ceeded in monopolizing the best tracts, whether of timber or of
agricultural land." . . . "Your commission has had inquiries
made as to how a number of estates, selected haphazard, have
been acquired. Almost without exception, collusion or evasion
of the letter and spirit of the land laws was involved." . . . "The
fundamental fact that characterizes the present situation is this:
that the number of patents issued is increasing out of all propor-
tion to the number of new homes."
Possibly the most important lesson to be derived from the his-
tory of our landed domain is the vital truth that the government
cannot give away valuable lands or sell them at prices far below
their real value without subsidizing the speculator, endowing
monopoly, and pauperizing the people. The poorer classes derive
594 OUTLINES OF ECONOMICS
no real benefit from this indiscriminate public charity. As
Secretary of the Interior Hitchcock said in 1905, in discussing
the Timber and Stone Act: 1 "Many transfers of land patented
under this law are made immediately upon completion of title to
individuals and companies. In this way a monopoly of the timber
supplies of the public-land states is being created by systematic
collusion. ... It has been urged in behalf of this act that it
enables poor men to enjoy the bounty of the government by ob-
taining tracts of land which they can afterwards sell with advan-
tage. A careful study seems to show, on the contrary, that the
original entrymen rarely realize more than ordinary wages for the
time spent in making the entry and completing the transfer. The
corporations which ultimately secure title usually absorb by far
the greater part of the profit." When Uncle Sam was rich enough
or was supposed to be rich enough to provide us all with a
farm, the policy of giving avray the public domain appeared to be
in harmony with the principle of equality of opportunity. But
when the supply is far below the demand, those who receive gifts
by lot or similar methods are in receipt of special privileges.
What once seemed fair has, in the course of economic evolution,
become unfair and demoralizing.
Our conclusion may be formulated in the following general rule :
only those lands should be wholly alienated whose use and devel-
opment under private ownership lead neither to monopoly nor to
exhaustion and waste. Or, in more concrete terms, remem-
bering that the maxim applies only to those lands left to the gov-
ernment, and to the majority of cases, not to every specific case,
the rule for agricultural lands should be private ownership and
management, for forest lands State ownership and management,
for mining and grazing lands State ownership and private man-
agement under a lease or royalty system, by which the State shall
secure a share of the profits and retain a large amount of regulation
and control. In disposing of its lands the government should
endeavor to charge value received, as gifts of valuable land, or sale
at inelastic tariffs of prices which place an extreme valuation upon
some tracts and an utterly inadequate valuation upon others, lead
1 Report of the Secretary of the Interior, 1905, p. 331.
PUBLIC REVENUES 595
to speculation and monopoly, having most of the demoralizing
features of a public lottery in which the prizes are distributed
partly by chance and partly in accordance with the cunning,
chicanery, and unscrupulousness of the participators. Under
existing conditions the poorer classes of society get almost none
of the valuable lands. Charge value received, and the people, the
masses, get their share in the revenues flowing to the public treas-
ury, in reduced taxes, and more generous expenditures for educa-
tional, protective, and developmental purposes.
Land Nationalization and Municipalization. In recent years
both state and national legislation has shown a decided trend
toward the adoption of methods which will yield both greater
revenue and greater control of those varied forms of national
wealth which we collectively designate "land." The object of
this legislation is to prevent monopoly and give to society a share
in the land values created by social growth. One of the most in-
genious plans for securing this end ever proposed is the single-tax
scheme defended with great eloquence and earnestness by the late
Henry George. His scheme, usually called "the single tax," is
stated thus in his own words, printed in his organ, The Standard:
" The Standard advocates the abolition of al! taxes upon industry and the
products of industry, and the taking, by taxation upon land values, irrespec-
tive of improvements, of the annual rental value of all those various forms of
natural opportunities embraced under the general term 'land.'
"We hold that to tax labor or its products is to discourage industry.
We hold that to tax land values to their full amount will render it impossible
for any man to exact from others a price for the privilege of using those
bounties of nature in which all living men have an equal right of use; that
it will compel every individual controlling natural opportunities to utilize
them by employment of labor or abandon them to others; that it will thus
provide opportunities of work for all men and secure to each the full reward
of his labor; and that as a result involuntary poverty will be abolished, and
the greed, intemperance, and vice that spring from poverty and the dread of
poverty will be swept away."
Mr. George's proposition rests upon an extreme application of
the doctrines of individualism and natural rights. Man, he holds,
has an inalienable and equal right to live, and consequently an
inalienable and equal right to those natural agents which we call
596 OUTLINES OF ECONOMICS
land, and without which human life cannot exist. This right
which attaches to the individual cannot be abrogated by law or
custom, nor can it be alienated by one generation or set of law
givers. Moreover, it is an equal right. A, B, and C each have a
right to the soil, but A has no right to better soil than B or C ; in
consequence of which that part of land values which arises from
the differential qualities of land belongs to society as a whole, and
not to particular individuals. But the differential value of land
expresses itself in the economic rent which it yields, and conse-
quently, if society seizes this rent by taxation, it will satisfy the
demands of the doctrine of natural rights, while leaving the actual
management and exploitation of land in the hands of individual
occupiers, thus avoiding the perils of direct public management.
Man also has an unalienable right, Mr. George held, to the fruits
of his own labor. As the outcome of this right, Mr. George con-
cluded that ordinary taxation upon property other than land, upon
the product of labor as distinguished from land, the gift of God, is
robbery. In his view it is as immoral to levy an ordinary tax as it
is criminal to fail to tax that surplus which attaches to the better
classes of lands, and which we call economic rent.
The policy embodied in Mr. George's scheme differs funda-
mentally from the policy which we have seen creeping into recent
legislation. The latter purposes to reserve only a part of the
value given to some forms of land by social development. Mr.
George proposes to confiscate all of "the unearned increment."
Most important of all, the former proposition applies only to the
future unearned increment, and purposes only to take a part, and
that only after fair notice is given. Mr. George proposes to take
all the unearned increment, past and present, and that whether
the present owners have been encouraged to believe that they
might be permitted to appropriate the whole unearned increment
or not. Herein lies the essential injustice of Mr. George's scheme.
As a nation we have induced immigrants and settlers to take up
lands, clear them, and develop them with their labor and toil, with
the promise that the values thus created by themselves and their
neighbors should belong to them. Their risks and their sacrifices
have been great. Even if we assume that the State made a mistake
PUBLIC REVENUES 597
in pursuing this policy, the results of the mistake must be cheer-
fully borne by the party at fault, the State itself.
Mr. George not only proposes to confiscate all economic rent
without compensation, and to abolish all other forms of taxation,
but the assertion is made in explanation and justification of the
policy that it will abolish poverty. Such a policy might, indeed,
prevent landowners, who do not care to use their land, from keep-
ing it out of the hands of those who would use it; but how it would
effect all the other predicted blessings is difficult for most people to
comprehend. In the first place, it is difficult to imagine how pure
economic rent of agricultural land can be separated in practice
from the annual value of the separable improvements on the land.
But apart from this difficulty, the appropriation of economic rent
by the public without compensation to the owners will probably
never appeal to the conscience of the American public as a just
thing to do. No abstract reasoning, based on "natural rights,"
will persuade a modern nation to so radical a step. This honestly
and earnestly advocated policy is only one more illustration of the
danger of basing social reasoning on any theory of "natural
rights."
In cities it is easier to separate the pure economic rent from the
earnings of improvements, such as buildings. Moreover, it is in
cities that the principal evils attendant on private landholding
are discoverable. Therefore the objections to land nationalization
do not in the same degree apply to land municipalization. Many
who will reject the one will favor the other. Even here, however,
it is well to proceed very cautiously. Confiscation, at any rate,
should not be tolerated. If great and expensive changes along
this line should approve themselves to the people, the burden of
the changes should be widely diffused throughout the community
by means of inheritance and other taxes. 1
Public Industries. In the beginning, let us briefly pass in
review the principal classes of industrial enterprise in which the
modern State engages for the satisfaction of other than State
wants; because, obviously, we are not concerned with enterprises
like the government printing office, the government navy yards.
1 See pp. 364 and 365 for further discussion of the single tax.
598 OUTLINES OF ECONOMICS
and in general, those incidental industries whose products the
government consumes but does not regularly sell.
I. First, we find States like Switzerland monopolizing the manu-
facture of alcohol and certain alcoholic beverages, Japan monopo-
lizing the opium traffic in Formosa, or commonwealths like South
Carolina engaging in the retail distribution of intoxicating bever-
ages. 1 The purpose of the State in engaging in such industries is
primarily sumptuary; it is desired to regulate the traffic almost
to the point of suppression, perhaps. Ordinarily a good revenue
would be secured, but revenue is a very secondary consideration.
Prices will be placed above the level of highest net profit, and not
improbably the ideal of regulating consumption will be so vigor-
ously pursued that profits will disappear altogether.
II. Secondly, we have the group of so-called "fiscal monopolies."
France, for instance, monopolizes the manufacture of matches,
cigarettes, and tobacco in general; Japan 2 has recently gone
farther than any other country in the creation of fiscal monopolies ;
while Prussia, Austria, Italy, Spain, and other European countries
maintain public lotteries as did many of the American colonies
during the eighteenth century. The primary object of the State
in undertaking these enterprises is public revenue, gain; and
naturally a monopoly price is charged, the price which will yield
the greatest net revenue.
III. Next, we have a group of enterprises consisting principally
of the so-called "natural monopolies," which the State undertakes
not for suppression, not for profit, but primarily for regulation
to regulate the quality of the product, as in the case of water; to
maintain effectively what have been called "equitable conditions
for the prosecution of private business," as in the case of railways;
to prevent monopolistic extortion and corporate abuse, as in the
case of lighting companies, the post office, the telegraph, and the
telephone; or to prevent crime and preserve intact the foundations
of commercial prosperity, as in the monopoly of coinage. The
charges here are ordinarily adjusted to either the "revenue" or the
1 Since writing the above, South Carolina has abandoned the dispensary
system.
* Cf. recent magazine articles.
PUBLIC REVENUES 599
"cost" principle, that is to say, the State will either aim to make a
fair business profit such as is secured in competitive private enter-
prises, or it will endeavor approximately to meet expenses by
adjusting its charges to the cost of production. England, France,
and Germany, in ordinary years, obtain handsome revenues from
their respective postal departments, but in the United States the
accounts of the Post Office Department show a regular annual
deficit ($6,653,282 in the fiscal year 1906-1907), and taking the
world over, the cost principle in this group of industries is probably
more common than the revenue principle, and deficits more com-
mon than net profits. In the United States the post office has
always been regarded as a developmental agency rather than a
business enterprise, and might more logically, perhaps, be included
in the next category.
IV. Finally, we have a large and heterogeneous group of in-
dustries which are maintained principally for service, for their edu-
cational and developmental influence, not primarily for regulation,
and not at all for profit, but "for the public good." We include
here not only schools and educational institutions of all kinds, but
roads and canals; the savings banks and public pawn shops main-
tained in several countries of continental Europe; workingmen's
insurance as developed by Germany, Austria, and several of the
Australian colonies; and the model manufacturing establishments
such as France maintains for the production of tapestries and fine
porcelains. In this group charges will sink to a minimum, and in
some lines of enterprise, such as education, practically disappear.
Revenue here is not only a minor, but is almost a negligible,
consideration.
A brief consideration of the incomplete list of State industries
given above brings out several important truths. In the first place,
it is evident that only a few of these industries, the fiscal monopo-
lies, have been taken over by the State for the purpose of revenue,
and fiscal monopolies are decreasing rather than increasing in
relative importance. In the second place, it is equally as clear
that, on the whole, public industries are sources of expense and
not of profit. When Professor Bastable, for example, tells us that
in England, in the fiscal year 1893-1894, only 6 per cent of the
600 OUTLINES OF ECONOMICS
national revenue came from public industries and other non-tax
sources, that in the local revenues of England and Wales (1891-
1892) taxation stood to other sources of revenue in the ratio of five
to one, that in Prussia about 20 per cent of the national reve-
nue comes from the domain and industrial enterprises, and in
India something less than 50 per cent from "quasi-private sources
of revenue," he is careful to warn us that the statistics take no
cognizance of interest payments chargeable to the several indus-
tries, or of depreciation, or of related industries in which deficits
and not profits were secured. When estimating the importance of
railway earnings in the revenue account, no cognizance is ordi-
narily taken of the canal deficit. In the third place, we perceive
from the nature of the industries that they cannot wisely be oper-
ated for profit in many cases. Education, for instance, has been
taken over by the State for the very purpose of charging less than
the cost of the service. The unquestionable tendency is for the
prices of goods and services supplied by a democratic State to sink
below the cost of production, and this, in itself, is neither good nor
bad, fortunate nor unfortunate. The public financier, in adjusting
the charges, must not look to profit. His only aim is the solus
populi, and this policy requires here a prohibitive price, there a
cost price, and again free service. Finally, it appears, the problem
of public charges can be settled only with reference to a particular
time, place, and industry. England finds it expedient to raise a
handsome revenue from her post office, while the United States
manages our post office at a loss. Waterworks are successfully
conducted by most of the large American municipalities, but public
lighting experiments in this country have not been equally suc-
cessful. India raises half of her revenues from non-tax sources
largely because heavy taxation of the ordinary kind would be im-
possible. The French tobacco monopoly succeeds because the
French government can supervise and trace almost every pound
of tobacco grown in France. In the United States this would be
impossible.
Although we cannot decide in a general way what theory of
charges should be followed in particular public industries, it is
possible to lay down general rules which will assist in reaching a
PUBLIC REVENUES 6oi
correct conclusion in specific cases. Assuming that the industry
in question supplies a service rather than a commodity, merely to
save words in the discussion, we must first of all inquire: (a) Is
the service helpful or harmful in its net social effect ? According
as it is one or the other, we will incline in our charges toward the
gratuity principle or the prohibitive principle. If harmful, how-
ever, it is plain that we must not make the charges high enough to
encourage smuggling or illicit manufacture. If helpful, on the
other hand, we cannot at once decide upon the gratuity principle,
but must inquire farther, (6) How, generally, is the service en-
joyed ? If only a small portion of the community enjoys the serv-
ice, it would usually be unjust to charge less than cost, because
the deficit would be borne by general taxation falling upon the
entire community, unless, indeed, the benefit to one restricted class
is seen to be of advantage to the whole community, in such a
degree that the rest of the community is willing to bear the deficit,
as in the case of public charity.
(c) Assuming that the service benefits the whole community,
this is still not sufficient to justify a charge less than the cost of pro-
duction. The problem is one of comparative costs. We must in-
quire whether greater benefit would not be secured by charging
enough to raise a profit and then distributing that profit through
the maintenance of some other gratuitous enterprise, or, if the tax
system weighs heavily on the poor, by remitting taxation to the
extent of the profit, (d) If all these questions are answered in
favor of the gratuity principle, we still must consider, What effect
will gratuitous service have upon the cost of the service ? Will it
encourage wastefulness? Free city water, for example, would
probably prove impracticable because of waste, but free parks or
free education do not lead to inordinate or unnecessary consump-
tion. The question is a vital one, but it is not always to be an-
swered one way, as some critics of government ownership seem to
believe, (e) Closely related to the above, is the question of pauper-
ization. Some things the State may safely give away, and some
not. The modern city, for example, may give band concerts free,
in our view, to the undoubted edification of the community; but in
Rome the public games demoralized the populace. (/) Finally,
602 OUTLINES OF ECONOMICS
we have to ask, What effect will gratuitous service have on in-
comes ? Henry George proposed that our cities should operate the
street car lines gratuitously, and the argument in its favor is far
stronger than might be expected on first thought. But what effect
would this gratuitous service have upon the incomes of the laboring
classes ? Take the case of the worker in New York City earning
$3.00 a day. Will his wages remain at $3.00, if street car service
is offered free of charge ? Will not the migration to New York be
increased, so that wages will fall? And may not the gain ulti-
mately fall to owners of house property in the form of enhanced
rents ?
All these questions must be answered before the tariff of charges
can be adopted, and it is plain that the answers will be determined
by the particular conditions of time, industry, and place, particu-
larly by the character of the industry. The nearest approach to a
general rule which can be formulated, may be stated as follows:
In proportion as a service or commodity tends to the upbuilding of
character and personality, we should, so far as fiscal conditions per-
mit, gradually move in the direction of the principle of gratuitous
service. If the service or commodity itself is widely consumed and
is as desirable as anything among vendible commodities, particularly
if large consumption is desirable and waste in consumption does not
become excessive, the principle of gratuitous service may be recom-
mended.
Limitations of space prevent further treatment of the subject of
public industries. The important thing to understand is that the
moment an industry is taken over by the government, that moment
the question of profit which is the vital consideration under
private management becomes of secondary importance, sub-
ordinate to questions of public policy; and the interjection of
public policy into the determination of prices or charges, creates a
problem whose complexity and difficulty can scarcely be exag-
gerated. At the present time, for instance, we do not even know
whether our second class postal rates pay for the cost of carriage
and delivery of second class matter, to say nothing of the question
whether such matter ought to be carried at less than cost. Just
now the indications are that the State will take over an increasing
PUBLIC REVENUES 603
number of industries, or at least exert a constantly increasing in-
fluence upon the rates and charges of quasi-public industries.
Under these circumstances our present duty is to institute, both in
public and quasi-public industries, a thoroughgoing system of cost
accounting, so that we shall understand upon what footing each
branch of the industry rests. Our second duty, which falls pri-
marily upon economists and statesmen, is to develop a far more
satisfactory theory of public charges, for at the present time we
hardly understand the many factors that must be considered in
this problem, much less the net meaning or resultant of these
factors.
QUESTIONS
1. What proportion of the public receipts comes from the public domains?
What gives importance to the question of revenue from government owner-
ship?
2. Are public debts a burden when represented by paying investments?
by non-revenue-bearing investments ?
3. Do State debts indicate impoverishment of the people? Why?
4. What expenditures should be met by taxation? by loans? What is
the natural limit of each?
5. How was the State supported in primitive times? What connection
is there between taxation and representative government?
6. What has been the principal aim of the United States in the manage-
ment of public lands? How has this aim changed?
7. Why do the poorer classes benefit least by the homestead acts and by
the sale of the public lands at prices below their real value ?
8. Have as many acres of land been given to individuals by the homestead
and similar acts as to the railways?
9. What kinds of land should be both owned and managed by govern-
ment? Why?
10. What are the advantages and disadvantages of the royalty or lease
system ? To what kinds of land should it be applied ?
n. What conflict is there between modern industrial methods and the
project of giving land to the landless?
12. What connection is there between "natural right" and the single-
tax scheme?
13. Is there any absolute, inalienable right to life? to anything?
14. Should State industries be managed so as to yield a profit? Is a
profit inconsistent with good State management? Is any general tendency,
with respect to profits, discernible in the management of particular public
industries ?
604 OUTLINES OF ECONOMICS
REFERENCES
ADAMS, H. C. Public Debts, and The Science of Finance, Part II, Book II,
Chap. I, "Revenue from Public Domains," pp. 237-260; Chap. II,
"Revenue from Public Industries," pp. 261-282.
BASTABLE, C. F. Public Finance, Book II and Book V, Chap. II, "The
State Domain, Lands and Forests," pp. 157-178; Chap. Ill, "The
Industrial Domain," pp. 179-218; Chap. IV, "The State as Capitalist,
Administrative Revenue," pp. 219-232.
BULLOCK, C. J. Selected Readings in Public Finance, Chap. IV, "The
Views of Bodin and Smith," pp. 50-60; Chap. V, "Revenues from
Domains," pp. 61-72; Chap. VI, "Revenues from Public Industries,"
pp. 80-116.
Census Bulletins, Nos. 20, 45, 50. " Statistics of Cities," passim.
Census Report. Wealth, Debt, and Taxation, Part II and Part IV, pp. 953-
963-
COHN, GUSTAV. The Science of Finance, Book I, Chap. II, " The Public
Economy in Process of Growth," pp. 82-103.
DANIELS, W. M. The Elements of Public Finance, Part III, Chap. I, pp.
285-314; Part II, Chap. IX, "Public Income from Quasi-economic
Sources," pp. 207-223.
PLEHN, C. C. Introduction to Public Finance, Part III, pp. 278-324.
SELIGMAN, E. R. A. Essays in Taxatiott, Chap. IX, "Classification of
Public Revenues."
Senate Document No. 189, 58th Congress, 3d Session. Report of the Public
Lands Commission, pp. iii-xxiv.
SCOTT, W. A. The Repudiation of State Debts.
U. S. Department of Agriculture, Forest Service. The Use Book, 1906,
passim.
CHAPTER XXXIV
PUBLIC REVENUES: DERIVATIVE REVENUES, FEES,
SPECIAL ASSESSMENTS, AND TAXES
Definitions. If the reader will run over the classification of
public industries given in the preceding chapter (page 598), he
will notice that the corresponding payments which descend,
it will be remembered, from prohibitive to gratuity charges
fall into two main classes: those imposed upon the consumer or
purchaser who specially benefits by the service, and those
like the revenues devoted to the maintenance of education and
public parks imposed upon the tax-paying public generally,
irrespective of the benefits conferred by the service. Moreover,
as we move from the prohibitive to the gratuity group, there is
a general though not regular change in the degree and kind of
compulsion exercised by the State in collecting the contribution.
The State does not encourage the purchase of intoxicating liquors
under the Gothenburg system in order that the revenue may be
as large as possible ; it actually discourages their sale : the use of
the postal money order is mildly encouraged, but you may send
your money by express if you desire; one is not forced to marry,
but if one marries one is compelled to take out a marriage license;
and whether one uses the public schools or not, one must help
pay for their maintenance. Finally, it will be noticed that as the
element of compulsion increases, the public interest in the service
changes, and generally though not always increases. The wood
sold from the government forests is merely a commercial by-
product of an enterprise maintained by the government for other
purposes; the marriage license fee benefits the individual, but is
imposed primarily to protect the morals of the community; while
the tax to maintain the public schools is paid solely for the purpose
of benefiting the general public.
605
606 OUTLINES OF ECONOMICS
There are, then, three general principles of classification: (a)
the assignability of the benefit of the service to an individual;
(6) the degree of compulsion exercised by the State; (c) the
degree and kind of public interest involved in the service. The
more voluntary payments for the more commercial services made
by persons who receive a special benefit from these services, are
called public prices; the less voluntary payments for services in
which the public interest is less commercial in character, made
by persons who receive a special benefit from the services, are
called fees. Compulsory contributions, "levied in proportion
to the special benefits derived, to defray the cost of a
specific improvement to property, undertaken in the public in-
terest," are, in the United States, called special assessments;
and compulsory contributions, exacted by public authority ac-
cording to some general rule, without reference to the special
benefit conferred by the services to whose maintenance the con-
tributions are devoted, are called taxes.
The student is warned that little regard is paid to these distinc-
tions in everyday usage. The words "fees," "taxes," "licenses,"
" tariffs," " rates," " charges," and the like are hopelessly confused;
and even the trained economist finds it impossible to distinguish with
complete success between prices, fees, and some kinds of taxes.
The utility of the terms is in emphasizing the important truth
that these great categories of public contributions must be dis-
tinguished and differently treated by the legislator and student,
by whatever terms the different categories are designated.
Fees. 1 In the exercise of its most fundamental and general
functions, the government frequently confers, in an incidental
way, special benefits upon particular individuals. Thus the courts,
whose function it is to administer justice in general, find that this
function must be performed by deciding disputes between partic-
ular litigants, one of whom usually benefits by the decision.
Now if the government is disposed to take advantage of the op-
1 Public prices have been discussed in the preceding chapter. The small
tuition charges paid by students in state universities offer a good illustration of
fees; they are non-commercial in character, semi-voluntary, and in amount
fall considerably short of the cost of the service.
PUBLIC REVENUES 607
portunity, it is evident that much revenue may be raised from the
individuals who, in a more or less adventitious way, benefit from
the government activities; and where the nation is poor or the
people averse to taxation, much dependence will be placed upon
fees. As wealth increases, however, and the government becomes
more democratic, there is a growing disposition to support general
functions by general contributions taxes and the relative
importance of fees is likely to decline. On the other hand, there
is no likelihood that fees will wholly disappear, as they exercise
a wholesome influence in preventing waste. Court fees, for
instance, would probably have been abolished before this, if they
did not serve to prevent litigous persons from carrying their
quarrels to the courts for settlements. Because of this restrictive
and economical influence exercised by fees, they will undoubtedly
retain a permanent place in the public revenues of even the more
advanced and democratic states; but their fiscal importance
will probably decline.
During the colonial epoch, the fee system was much abused in
America, many offices being wholly maintained by fees, which
should have been abolished or supported by taxation. At the
present time, however, the evils of the system arise not from the
number or amount of fees, but from their connection with the sala-
ries of certain public officials. Many officials are allowed to keep
the fees which they collect in lieu of fixed salaries, and this practice
results in very serious evils. In the first place, some fee-paid
offices, particularly those of sheriff and register of deeds in popu-
lous districts, have come to yield princely incomes, and the scramble
for these rich offices constitutes a prolific source of political
corruption. In the second place, fee payment of public officials
often impels them to an excessive and pernicious activity, in which
their own interests and those of the commonwealth are placed in
direct conflict. In a few states, for instance, prosecuting at-
torneys are paid so much per conviction, the fee increasing with
the heinousness of the offense, while in many cities and villages
the police force and city courts are supported partially by fees
and fines. Under these circumstances, officials bend their activity
to the conviction of offenders, not to the prevention of crime and
608 OUTLINES OF ECONOMICS
the reform of the criminal; they frequently set traps for persons
who are likely to break the law, creating the temptation and the
opportunity in order that they may increase their emoluments.
In Wisconsin, sheriffs were for many years paid so much per
head for the tramps whom they fed and lodged. The system,
as has been said, placed a "direct premium upon vagrancy." 1
During the existence of this system in Wisconsin, tramps were
"often furnished with liquor, tobacco, and newspapers, to induce
them to return." Finally, the fee system has been a constant
and shameful corrupter of justice as dispensed by justices of the
peace in "the people's courts." In most states there are several
justice's courts open to the plaintiff who desires to bring suit.
In consequence, a disgraceful competition springs up, each justice
endeavoring to swell his business and multiply his fees by con-
stantly finding for the plaintiff, with the result that our judicial
system is thoroughly vicious at the point where perhaps it comes
in closest contact with the masses of the people.
The remedy is in the substitution, wherever possible, of regular
salaries for fee stipends, and in the institution of methods of
accounting which will hold public officials to strict accountability
for every fee collected. Fortunately, the movement of legislation,
while slow and obstinately fought by the politicians, is in the
right direction ; and in almost every state, public officials are befi^g
required to turn their fees into the general treasury and accept
instead a fixed compensation.
Special Assessments. Where the operations of the govern-
ment confer a special benefit upon some restricted group of in-
dividuals, those individuals are often led to exercise undue in-
fluence upon the government to secure that service, if the latter
is supported by appropriations from the general funds. Jobbery
and graft are encouraged. On the other hand, if the only way
the group of individuals can secure the service is by expenditure
of the common funds, the government or legislature often delays
the expenditure unduly for fear of criticism or because of unwise
parsimony. Thus in cities where the method of special assess-
1 T. K. Urdahl, The Fee System in the United States, p. an, et passim, from
which the other quotations cited in this section are taken.
PUBLIC REVENUES 609
ment is not used, it often happens that the opening of a street
is delayed long after the time when it would be desirable for the
citizens most interested, although perhaps the latter would be
willing to defray the cost from their own pockets, were this
permitted.
A recognition of these facts in recent years has led to a striking
development in the United States, of the benefit principle as ex-
emplified in the method of special assessments. The special
assessment has been used sporadically in many countries for
several centuries, but it was first regularly used on a wide scale
in the United States, in the latter half of the nineteenth century.
Its place and importance among the regular derivative revenues
is shown in Table I, page 611, from which it appears that special
assessments aggregating nearly $40,000,000 were collected in
1902. This amount constituted less than 3 per cent of all the
derivative revenues; but as the national government collects no
special assessments and Massachusetts is practically the only
state which makes use of the special assessment in state finances,
the real importance of the special assessment appears more clearly
from an examination of its place among municipal revenues.
Among cities of more than 8000 inhabitants in 1903 special assess-
ments constituted nearly 8 per cent of the derivative revenues
and yielded almost one tenth as much revenue as all kinds of
taxation.
The special assessment has been approved by the American
courts because it places at least a part of the cost of the service
upon the beneficiaries of the service, a rule which can sometimes,
but not often, be violated without subjecting the government to
excessive and corrupting private influence. The special assess-
ment has appealed to the people, however, because it permits
public improvements to go ahead at a pace which would be im-
possible if taxation were the only fund for defraying the cost of
the improvements. Needless to say, the special assessment has
occasionally stimulated extravagance and premature development.
Thus, in New Jersey, in the last quarter of the nineteenth century,
several large cities were practically thrown into bankruptcy by
undertaking ambitious public works, in which the special assess-
6 10 OUTLINES OF ECONOMICS
ment played an important part. And in New York, under the
Tweed regime, the system of special assessments furnished an
excuse for undertaking public works in which corruption flourished,
and which probably would never have been undertaken, had it
been known in the beginning that their cost would have to be
partially defrayed by taxation. " The works had been carried
on upon a scale of audacious extravagance, and in portions of
the city where they were not at the time justified. Great avenues
were laid out and improved largely for the purpose of giving fat
jobs to favorite contractors, and to provide fine drives for the
pleasure and convenience of others than the abutting property
owners " * *
On the whole, however, the special assessment has been an
unusual success as a fiscal expedient, and has proved an im-
portant, if not an indispensable, factor in the development of
American cities. Where its use has been followed by extrava-
gance, speculation, or jobbery, these evils are to be attributed almost
wholly to political corruption of the government, and only in a
very small measure to the special assessment itself. Most of the
evils, moreover, have arisen where the city government, or some
department of the city government like that of public works, has
been given the power to order the improvements against the will
of the property owners involved; or where as was the case in
the example cited above assessments upon particular lots were
permitted to exceed the value of the property. Special assess-
ments should not be levied against the will of a majority of the
property holders subject to assessment, except by a two thirds
or three fourths vote of the city council, and in no case should
the assessment exceed a small fraction of the value of the property
against which the assessment is laid. Where these rules are
observed, the special assessment is unlikely to lead either to pre-
mature development or hardship upon the property holder.
Taxes. More than 70 per cent of all the public revenues,
and nearly 95 per cent of the regular derivative revenues, are
obtained from taxes, so the problems of taxation are the most
important with which the public financier has to deal. These
1 Rosewater, Special Assessments: a Study in Municipal Finance.
PUBLIC REVENUES
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6l2 OUTLINES OF ECONOMICS
problems are of two varieties; those dealing with the nature of
taxation in general, and those dealing with specific taxes. The
remainder of this chapter will be devoted to the general questions.
Chapter XXXV will be given over to the more specific problems
of American taxation.
Justice in Taxation. By far the most important lesson which
the student of fiscal questions has to learn is the supreme necessity
for tolerance and breadth of view. The factors which condition
justice or make for equity in taxation are exceedingly numerous;
and the mistake most commonly made by superficial thinkers is
to seize upon some one element of justice, build a philosophy upon
that alone, and vigorously condemn everything that does not
harmonize with their petty and bigoted little system. No maxim
less comprehensive than the greatest good of the greatest number,
and no rule less sweeping than that of the general welfare, can
serve as a safe guide for the financier.
1. Some writers go so far as wholly to deny the right of the
State to take private property by taxation. These writers forget
that there is no such thing as absolutely private property. As
the State determines what shall be private property, so also it
determines the conditions of its existence, and the most funda-
mental condition of private property is the obligation to con-
tribute to the support of the State. The rights of private in-
dividuals have always been of a more or less limited nature, and
among the rights reserved by the people in their organic capacity
will be found, in every civilized state, the right to take a portion
of the wealth produced for such purposes as the law-making
power may deem fit.
2. However, the State must exercise this power over private
property in an equitable manner, or as this maxim is ordinarily
expressed in the terminology of constitutional law, taxation must
be equal and uniform. Thus, for example, Section i, Article 10
of the Constitution of West Virginia provides that: "taxation
shall be equal and uniform throughout this state, and all property,
real and personal, shall be taxed in proportion to its value, to be
ascertained as directed by law." Now, if we examine the way
in which these requirements of equality and uniformity have
PUBLIC REVENUES 613
been interpreted in the administration of practical justice
and it is the kind of justice that will stand the wear and tear of
practical application with which we are concerned we find
that equality and uniformity have come to mean little more than
this, that taxation shall not be arbitrary, capricious, or plainly
unreasonable and that within each class of persons or object the
burden shall be equal, (a) Everywhere the legislature is given
a wide latitude in exempting property, so that institutions and
industries which are regarded as of peculiar value to the people
may be encouraged by freedom from taxation. Almost every-
where, poll taxes which impose an unequal burden upon the
poor, liquor licenses which impose unequal obligations upon the
saloon, inheritance and corporation taxes which single out partic-
ular classes of society for unusual taxation, are sustained by the
courts. Justice in taxation, then, does not require rigid equality or
narrow uniformity of treatment, (b) Institutions which are socially
harmful may be subject to peculiarly drastic and oppressive
taxation; that is to say, justice may take into account sumptuary
considerations, (c] Old taxes, which would not be used if they
were not already intrenched in the fiscal and social system, are
permitted to endure; justice takes cognizance of the fact that, other
things being equal, an old tax is a good tax by very reason of its
age. (d) Indirect taxes which weigh more heavily upon the poor
than the rich show no signs of disappearing; that is to say,
justice gives due weight to the productivity of a tax, its cheapness
of collection, and convenience of payment, and balances these con-
siderations against factors which we are accustomed to regard as
more fundamentally ethical, (e) Taxes may be employed to sup-
press state banks of issue, protect home manufactures, and in
general to accomplish political and social ends other than the
mere raising of revenue. Taxation is seldom the best agent of
social or political reform. If there is an evil which needs eradica-
tion, the best way is to suppress it directly, if possible, rather than
discourage it a little by general taxation. But this does not affect
the general proposition that where taxation is an efficient remedy,
or the only remedy, justice sanctions its employment. (/) Finally,
it is plain that, however we strive, nothing better than approxi-
614 OUTLINES OF ECONOMICS
mate justice can ever be secured in taxation. A system that
frankly recognizes this truth and makes for rough justice, by the
imposition of taxes which are simple, stable, convenient, inex-
pensive and productive, is far better than one which attempts to
secure exact justice through complex and delicate schemes of
taxation which cannot be definitely or efficiently administered.
3. The theory of justice most widely accepted by American
courts at the present time is expressed in the maxim that taxes
should be proportioned to benefits derived. Like other rules of
justice, this maxim contains elements of truth and elements of
error. It is a fairly helpful guide, for instance, in dealing with
public revenues other than taxes. Public prices, fees, and special
assessments should, as we have seen, be proportioned to benefits,
unless there is strong reason for departing from the rule. And
in the apportionment of taxation among districts or govern-
mental sections, the rule still retains, and probably always will
retain, a large measure of validity. Taxation, we say, must per-
tain to the district taxed, meaning by this that under ordinary
circumstances it is not wise to tax District A for the benefit of
District B; although there are important exceptions to this rule.
But in the apportionment of taxes among the individuals of a given
district, the rule has little or no place. This conclusion follows,
if for no other reason, from our definition of the word "taxes,"
which we confine to contributions levied without reference to
special benefits received, either because no special benefit can be
assigned, or because (as in the case of free schools) we specifically
desire to lift the cost of the service from the shoulders of some of
those who specially benefit by the service. Moreover, in general,
it is impracticable to determine what proportion of the general
benefits of government accrue to particular individuals.
4. At the present time a great majority of economists agree
that taxes should be apportioned according to "faculty" or ability
to pay. It must be confessed that the rule is not very satisfactory.
For example, the faculty principle fails to explain such a generally
satisfactory tax as the inheritance tax, 1 which is sometimes ad-
1 The attempt is often made to justify the inheritance tax by the ability theory,
but unsuccessfully. See West, The Inheritance Tax, (Revised Edition), pp. 205-
208.
PUBLIC REVENUES 615
justed to the size of the inheritance and the relationship of the
heir, and sometimes to the size of the estate from which the in-
heritance is taken, but never to the total property, income, or
general ability of the recipient. Moreover, the ability principle
is not very precise. No simple measure of ability exists, and
many taxes, which under a superficial examination seem to con-
form to the rule, such as the general property or income tax, are
found upon closer examination to violate the rule in a thousand
ways. Despite all these defects, however, the ability principle
has elements of great strength. It satisfies our sense of justice,
in the first place, when explicit reasons cannot be given for de-
parting from a general rule; and it expresses the ideal towards
which we strive in voluntary contributions to the church or other
voluntary joint enterprises of a social nature. In the second
place, we can frequently ascertain with certainty that the rule
is being violated, when we cannot define its meaning positively,
and hence it is capable of practical application in a negative way.
We may therefore accept the rule in this sense, that unless other
treatment is justified by the considerations cited in paragraph 2,
above, or by analogous reasons, no tax which is plainly dispro-
portional to the ability of the contributors, should be employed.
5. Accepting the ability principle as the best simple rule for
general taxes as distinguished from the specific taxes noted in para-
graph 2, we at once encounter the difficult question, how is ability
to be measured ? Different writers have recommended as the basis
or measure of ability, income, outgo or consumption, and property.
A little consideration will convince the reader that each of these
measures is marked by minor defects. The consumption of the
poor, for instance, is out of all proportion to their ability to bear
the burdens of the state. Property, on the other hand, differs
widely in its productiveness, and, moreover, many persons with
a little property have large incomes, and therefore great ability
to bear taxation. Incomes, similarly, differ in permanence and
security, and equal incomes are called upon to support very un-
equal numbers of persons. Fortunately, it is not imperative in
practice to make a decision between these measures of ability.
The necessities of fiscal administration make it imperative in
616 OUTLINES OF ECONOMICS
actual practice to employ all three bases of taxation. Property,
consumption, and income are all employed in the United States
at the present time and will unquestionably continue to be em-
ployed for many generations.
Progressive Taxation. After we adopt any concrete measure
of ability, we soon realize that it is only approximately correct,
because we are immediately confronted with the question: Does
ability increase in direct proportion or more rapidly than our
measure of ability; in other words, shall taxes be laid in direct
proportion to income, property, etc., or shall the rate be increased
as the amount of income or property increases ? The first method
is called proportional taxation, the second progressive or graduated.
If the rate diminishes as the income or property increases, we
speak of it as regressive taxation; and if the rate increases faster
than the income or property, but toward a fixed limit which it
can never exceed, it is referred to as degressive taxation. 1 The
last kind of rating is of course a special variety of progressive
taxation, and usually results from the combination of a nominally
proportional rate with the exemption of a fixed sum from all in-
comes or assessed wealth. The American property tax is theo-
retically a degressive tax, though it is regressive in practical effect.
From the theoretical standpoint our real knowledge upon this
subject is exceedingly unsatisfactory. On the whole, the argu-
ments of those who approve progressive taxation are more con-
vincing than those of its opponents, and a majority of economists
at the present time agree in asserting that ability increases faster
than income, property, or any common measure of ability. If
we construe ability as ability to bear sacrifice (as John Stuart
Mill and some other authorities do) and confine our attention
solely to the consumer, there can be no doubt that progressive
taxation is the means by which the least sacrifice will be visited
upon the community as a whole. 2 This is a strong argument
because one of the chief immediate effects of taxation is to deprive
1 The income tax of Hesse, German}', begins at .6 per cent on small incomes
and approaches, but never quite reaches, 5 per cent, as the incomes become very
large.
2 See Carver, "Ethical Basis of Distribution," Annals of the American Academy
of Political and Social Science, Vol. VI, pp. 79-99.
PUBLIC REVENUES 617
persons of the necessaries, conveniences, and luxuries of life,
while the maxim of the greatest good to the greatest number -
or as it works out in taxation, the least sacrifice to the least num-
ber is one of the most widely accepted rules of social conduct.
Surveying the ability theory from the positive standpoint of
ability to acquire or produce property, we find the testimony
almost universal, that as the fortune or income increases, the ability
to earn or produce more increases at an accelerating pace. "It
is the first thousand that counts," in the language of the successful
man who is telling the younger generation how he succeeded.
Coming to the more concrete and more practical arguments,
we find that the balance of opinion also inclines to the side of those
who favor progressive taxation. Let us briefly recapitulate these
arguments and attempt to estimate their net resultant. Those
who oppose progressive taxation charge that the proposal is
socialistic, that it would discourage the accumulation of wealth,
that it would not be particularly productive, meaning by this
that the element of progressivity adds little to what would be
produced by a proportional rate, that it would stimulate fraud
and evasion, that it would interfere with the device known as
"collection at the source," and that finally the whole principle is
arbitrary and capricious in the sense that there is no natural limit
to the increase of the rate.
To these charges the defendants of progressive taxation present
plans 1 by which collection at the source and progressive rating
may be successfully combined in the same system; and reply,
further, that terms are immaterial and questions cannot be settled
by bandying epithets such as "socialistic," "anarchistic," and the
like; that every tax discourages the accumulation of wealth;
that whether the tax will be productive or not, it will relieve the
poorer classes to the extent that the progressive rates do actually
fall upon the rich; that persons capable of evading their obliga-
tions to the government will attempt to evade proportional taxes
as well as progressive taxes; and that all taxation is more or less
arbitrary, resting upon the judgment and common sense of the
1 Report from the Select [British] Committee on Income Tax, 1906 [365],
pp. iii-vii.
618 OUTLINES OF ECONOMICS
legislature. The exemptions made in every tax law, the size of
license fees of all kinds, the rates of excise and customs duties,
are all "arbitrary" and unlimited in the sense that progressive
taxation is arbitrary and unlimited. Finally, the defendant of
progressive taxation points out that, owing to the great prominence
of indirect taxes in our revenue system and the tendency of as-
sessors to assess large properties at a lower proportion of real
value than smaller properties, American taxation to-day is in
practice regressive, and some progressivity is needed, if only to
balance the admitted regressivity of existing taxes.
While general considerations thus seem to warrant a most
persistent effort to introduce a moderate measure of progress-
ivity into our direct taxes, the student is warned that this should
not be done in any doctrinaire or off-hand fashion. A thousand
considerations of practical expediency must be taken into account
in the shaping of a revenue system, and in the end we are more
likely to attain the goal which the advocates of progressive taxa-
tion seek by careful exemptions from taxation, by special taxes
upon corporations, monopolies, inheritances, and certain forms
of income, and by directing expenditures to the succor of the weak
and the equalization of opportunity, than by the introduction of
any far-reaching single tax such as a progressive income or prop-
erty tax.
No tax system, then, can be fairly judged without reference
to the character of expenditures. Where the expenditures are
wasteful, corrupt, and unwise, heavy taxation is a curse, although
even here the rational method of reform is rather to root out the
corruption and improve the administration, than to reduce taxa-
tion, although temporarily it may be wise to do the latter. But
where the expenditures are on the whole wisely and beneficently
used, heavy taxation is a blessing. No country was ever yet
ruined by large expenditures of money by the public and for the
public. The true theory to be observed in levying taxes was
tersely expressed in the 4ist section of the constitution adopted by
Pennsylvania in 1776: "No public tax, custom or contribution
shall be imposed upon, or paid by, the people of this state, except
by a law for that purpose; and before any law be made for raising
PUBLIC REVENUES 619
it, the purpose for which any tax is to be raised ought to appear
clearly to the legislature to be of more service to the community
than the money would be if not collected, which being well ob-
served, taxes can never be burthens."
The Shifting of Taxes. Up to this point we have been speak-
ing as if a tax must remain where it is originally placed. This
we know is not always the case. Excise taxes, for instance, are
usually levied with the expectation that they will be passed or
shifted from the business man, who first pays them, to the con-
sumer or some other person. The conditions which control the
shifting of taxes must evidently be considered at least in a very
general way before we discuss the practical working of the
American system of taxations.
The word "shifting" usually refers to the increase of price by
which the original payer of the tax attempts to recoup himself.
This increase of price is usually accompanied by collateral economic
disturbances or dislocations suggested by the phrase "re-
percussion of taxes" which is frequently employed in this con-
nection that are quite as important as the mere change in price.
For instance, an excise tax (per unit of product) upon a monopoly
may raise the price by as much or even more than the tax itself.
But the monopolist nevertheless feels the burden of the tax in
reduced profits. When we say that a tax is shifted, then, we do
not imply that the original payer evades all the evil effects of the
tax. And in any conclusive discussion of shifting, account should
be taken of the incidence or benefit of governmental expenditures.
A tax system which bears heavily upon the poor may be justified
by expenditures which are largely employed to educate and pro-
vide opportunities for the poor.
Mobility is the chief factor which controls shifting; and this
in turn is largely dependent upon the generality or scope of the
tax, and upon the existence of monopoly or differential advan-
tages. Place a tax upon a person or thing which can easily
move to a jurisdiction where such taxes are not imposed, and
the tax is very likely to be shifted. Local taxes upon mortgage
loans offer a good example. Such taxes are very likely to raise
the interest rate by as much or a little more than the tax rate,
620 OUTLINES OF ECONOMICS
the "little more" being explained by the trouble imposed upon
the lender in looking after the tax and the risk that the tax rate
will be increased. On the other hand, if mortgage lenders are
constrained by ignorance or custom or the existence of particu-
larly high rates in this district to keep on supplying the old amounts
of loans, the tax will not be shifted. Unless the supply can be
or is reduced by the tax, shifting will not ordinarily take place.
Naturally, therefore, the particular nature of the supply is of
prime importance. We may illustrate by an excise tax per unit
of product upon competitive industries of various kinds. In
industries subject to the law of constant expense, a fixed tax per
unit of product will raise the price by just the amount of the tax,
in theory. In industries subject to the law of increasing expense,
however, the reduction of the supply caused by the tax somewhat
reduces the expenses of production per unit exclusive of the tax,
and on this account prices in such industries will increase by
an amount less than the tax. In industries subject to the law of
diminishing expense, on the other hand, the price will be raised
by an amount equal to the tax, plus an amount equal to the in-
creased expense of production caused by the limitation of supply.
Mobility, as has been said, is the most important factor in this
connection, and it may be restricted or destroyed in a variety
of ways. Monopoly limits mobility, and, as we have seen in
Chapter XIII, 1 the monopolist cannot shift a fixed tax or a propor-
tional tax on net profits unless the tax is so high as to reduce
monopoly profits below the amount that could be earned on the
same investment in a competitive industry. For somewhat
similar, but not exactly the same reasons, differential gains from
durable property are peculiarly susceptible to taxation. Thus,
economists generally indorse the proposition that a tax on economic
rent falls upon the landlord and cannot be shifted. The validity
of this depends both upon the durability of land and the fact that
the tax is levied upon a differential element. If land wore out
and had to be replenished, the tax would reduce the future sup-
ply of land and hence raise its price and its rent in the future.
Similarly, if the tax were levied upon the product of marginal or
1 pp. 200, aor.
PUBLIC REVENUES 621
no-rent land, it would elevate the margin, reduce the supply of
those products or services which land affords, and in this way
again raise prices and partially reimburse the landlord. But,
by hypothesis, neither of these suppositions are true. Land,
as we define it, does not wear out; and at the margin land yields
no economic rent.
The proposition that a tax on economic rent cannot be shifted
is true, also, only of a proportional tax. A tax of so much per
bushel or pound upon agricultural produce would move the
margin of cultivation and thus affect prices. Indeed, the exact
form of a tax whether fixed, proportional, or progressive, upon
net or gross returns, upon product or upon profit is of funda-
mental importance always. Generally speaking, proportional taxes
upon net income are less easily shifted than other forms of taxes.
If the object of taxation be durable and the tax a special or
exclusive one, the value of the object is likely to be reduced by
the capitalized value of the tax. Prospective purchasers of land,
for instance, always take into account the taxes that are likely
to be levied upon it, capitalize these, and subtract their capitalized
value from the amount which they would pay for the property
if it were not liable to taxation. The apparent result of this
capitalization or amortization of taxes, as the process is called, is to
place the burden of an endless succession of taxes upon the original
owner, and relieve subsequent purchasers of any real burden.
Many present-day followers of Henry George find in this prin-
ciple of 'amortization at once a justification and a method of
securing for society all economic rent. Under present conditions,
they say, a man who buys land wholly escapes taxation upon it.
Consequently, in order to make landowners pay as much as other
people we should have to increase the tax upon land by a rate
equal to that paid by the average tax-payer as often say every
thirty years as the land of the community changes holders.
In this way the State could gradually and with justice absorb all
economic rent. 1
1 Sec the paper upon "The Single Tax" by C. B. Fillebrown in State and Local
Taxation (the Addresses and Proceedings of the First National Conference of the
National Tax Association), pp. 286-293.
622 OUTLINES OF ECONOMICS
But this whole chain of reasoning is fallacious for three reasons:
(a) This capitalization takes place only to the extent that the
tax on land is exclusive and unequal, and modern taxes upon land
are not of this nature. (6) In so far as this programme of the
single taxers were anticipated and understood, it would
visit the whole burden of the "reform" upon present owners,
instead of being distributed over several generations. Sub-
sequent purchasers would discount these periodic increases of the
tax and pay to owners for their land only the present value of
the rapidly vanishing income from land. Land would be valued
simply as a terminable annuity, (c) This whole doctrine over-
looks the inevitable consequence that, if "the selling value of
land is an untaxed value" l and if "the burden of a land tax can-
not be made to survive a change of ownership," 2 these facts would
so increase the demand for land that the profits from its purchase
and ownership would not exceed profits in other lines of invest-
ment. Given plenty of time, active competition, together with
a knowledge of the facts of the situation, and such inequalities
of taxation are inevitably smoothed out by the natural movement
of capital toward the taxless field or away from the field in which
burdens are particularly severe.
This inevitable reckoning of taxation among the disadvantages
of industry, brings it to pass that many old taxes are diffused over
the entire community. Such diffusion does not take place when
the nature of the supply prevents it from varying in nice cor-
respondence with the prospects of profit. A poll tax upon laborers,
for instance, will in our opinion not be shifted, as it is likely to
lower their standard of living, stimulate the birth rate, and in turn
(other things being equal) actually reduce wages. But exclusive
taxes on capital and business will be diffused; and for this reason
there is a profound practical truth in the famous dictum of Canard
that "every old tax is good; every new tax is bad," when sympa-
thetically interpreted. Of course this doctrine assumes that in-
dustrial changes are infrequent. The tax system must and should
1 See the paper upon " The Single Tax " by C. B. Fillebrown in State and Local
Taxation (the Addresses and Proceedings of the First National Conference of the
National Tax Association), p. 290. * Ibid., p. 290.
PUBLIC REVENUES 623
vary with changes in the fortunes of business enterprise. The
development of a new industry making unusual and unexpected
profits offers a good opportunity of relieving an old industry that
has unexpectedly fallen upon evil days. And for this reason it
is highly desirable that state constitutions prescribing a rigidly
uniform system of taxation should be amended so as to permit
reasonable classification of property and business for purposes
of taxation. All these qualifications of the diffusion theory are
true and important. But the fact still remains that under ordinary
conditions nothing is worse in a tax system than uncertainty,
continual tinkering with rates, and capricious readjustment of
methods.
QUESTIONS AND EXERCISES
1. In accordance with what principles of classification do we distinguish
fees, special assessments, and taxes?
2. Enumerate six distinct fees commonly employed by state governments.
3. Can a fee exceed the cost of the service to the state? Is the familiar
"high liquor license" a fee or a tax?
4. What accounts for the rapid development of the special assessment in
the last fifty years? Is it possible to apportion the benefits of a public im-
provement with any degree of accuracy?
5. Make a table from the Census Volume on Wealth, Debt, and Taxa-
tion, showing the relative importance in each governmental division, of the
taxes differentiated in Table I.
6. Why are liquor licenses distinguished from other licenses and permits?
7. Has the state a greater right to tax land and natural agents than
wealth which is, in large degree, a product of human labor?
8. May monopolies be equitably subjected to special taxation ? Even
if the monopoly rests upon superior efficiency, or upon patent rights justly
acquired ?
9. Is rigid equality of taxation a primary and fundamental desideratum?
Is it possible of achievement? Is there any real distinction between the
so-called ethical qualities (of equality, uniformity, etc.) and the so-called ad-
ministrative qualities (convenience, elasticity, productivity, etc.) of a tax?
10. Is the benefit principle wrong or merely impossible of application?
If wrong, why do we retain it in fees and special assessments?
n. Is it easier to measure ability than benefits?
12. Is progressive taxation arbitrary ? Can it be satisfactorily considered
apart from the effect of public expenditures ?
13. Work out the effect of an excise tax on a monopoly subject to the law
of increasing cost.
624 OUTLINES OF ECONOMICS
REFERENCES
BASTABLE, D. F. Public Finance, Book III, Chap. Ill, "The Distribution
of Taxation," pp. 281-315; Chap. V, "The Shifting and Incidence of
Taxation," pp. 337-362; Chap. VII, "The Canons of Taxation,"
pp. 382-391.
CARVER, T. N. "Ethical Basis of Distribution," Annals of the American
Academy of Political and Social Science, Vol. VI, pp. 79-99.
COOLEY, T. M. A Treatise on the Law of Taxation (3d ed.), Chap. II,
"The Nature of the Power to Tax," pp. 43-82; Chap. VI, "Equality
and Uniformity in Taxation," pp. 254-410.
CROWELL, T. Y. & Co. (Pub.). Equitable Taxation, Essay by W. E. Weyl,
pp. 17-31.
ELY, R. T. Taxation in American States and Cities, Part I, Chap. III.
GRAY, J. M. Limitation of Taxing Power on Public Indebtedness,
"Equality and Uniformity," Chaps. XVIII-XXIV, pp. 642-915;
"The Origin and Growth of Modern Taxation," pp. 25-54.
JUDSON, F. N. A Treatise on the Pou'er of Taxation, passim.
ROSEWATER, VICTOR. Special Assessments: a Study in Municipal Finance,
passim. Studies in History, Economics, and Public Law, Columbia
University, Vol II, No. 3.
SELIGMAN, E. R. A. The Shifting and Incidence of Taxation, Part II,
Chap. I, "General Principles," pp. 179-219.
SELIGMAN, E. R. A. Progressive Taxation in Theory and Practice, Part II,
Chap. IV, "Conclusion," pp. 190-200; Part III, "Application of the
Progressive Principle to American Taxation." pp. 201-217.
National Tax Association. State and Local Taxation [Addresses and Proceed-
ings of the First National Conference].
URDAHL, T. K. The Fee System in the United States, Chap I, pp. 49-67;
Chap. VIII, pp. 210-230. Transactions of the Wisconsin Academy of
Science, Arts, and Letters, Vol. XII, Part I.
WESTON, S. F. Principles of Justice in Taxation, passim. Studies in
History, Economics, and Public Law, Columbia University, Vol. 17,
No. a.
CHAPTER XXXV
PUBLIC REVENUES; FEDERAL, STATE, AND LOCAL
TAXES
FEDERAL TAXATION
Direct and Indirect Taxes. The fundamental character of the
American revenue system is determined by those clauses of the
federal Constitution which provide that "direct taxes shall be
apportioned among the several states . . . according to their
respective numbers"; that "all duties, imposts, and excises shall
be uniform throughout the United States"; and that "no state
shall, without the consent of Congress, levy any imposts or duties
on imports or exports, except what may be absolutely necessary
for executing its inspection laws."
Just what the words duties, imposts, excises, direct and in-
direct taxes signify, as used in the Constitution, has been a matter
of considerable discussion. Ordinarily the word duty "means an
indirect tax imposed upon the importation, exportation, or con-
sumption of goods," being given "a broader meaning than cus-
tom, which is a duty imposed upon imports or exports," while
"the term impost also signifies any tax, tribute, or duty, but it
seldom applied to any but indirect taxes. An excise duty is an
inland impost levied upon articles of manufacture or sale, and
also upon licenses to pursue certain trades or to deal in certain
commodities."
But all these definitions are made to hinge upon the meaning
of direct and indirect taxes, and that meaning is exceedingly
doubtful. Until 1894, it was believed by most persons that as
used in the Constitution of the United States, these terms were
to be given an historical interpretation, to be accepted as used
in 1789, and that in this interpretation capitation and land taxes
2S 625
626 OUTLINES OF ECONOMICS
were probably the only forms of direct taxes. This belief was
sustained by the fact that the Federal Supreme Court at various
times sanctioned the employment by Congress of income, inherit-
ance, and special property or consumption taxes. But in the
income tax decision of 1894 the Supreme Court reversed its
earlier decisions, declared the income tax to be "direct," and
interpreted the words direct and indirect in accordance with the
economic rather than the historical or legal use of those terms.
According to most economists, direct taxes are taxes levied by the
State upon those who are expected to bear the burden of them, while
indirect taxes are supposed to be shifted to other persons. In the
economic sense, poll taxes, property, income, and inheritance
taxes are usually called direct, while customs taxes and excise
taxes are called indirect.
It is plain that the economic meaning of these words is exceed-
ingly vague, because it is made to turn upon the expectation of
the user concerning the shifting of the tax, and upon no subject
in the entire province of political economy is there more uncer-
tainty than upon the shifting of taxes. Because of this uncer-
tainty, economists have for years protested against the use of
these terms at all in scientific analysis, although they have tried
to introduce a more consistent usage, owing to their constant
employment in popular discussion. Under these circumstances,
it was exceedingly unfortunate that the Supreme Court turned
away from the legal interpretation of the words. When the
latter were placed in the Constitution, they probably had no defi-
nite or accepted meaning; they had no definite or accepted
meaning as used later by economists or publicists ; and the only
way they could attain precision was by legal interpretation.
After a number of consistent opinions which gave the words a
definite connotation and promised to clear up a difficult situa-
tion once for all, the Supreme Court threw everything into chaos
again by revising opinions which had stood unchanged for many
years.
Use of Direct Taxes by the Federal Government. The effect
of the constitutional provisions which we have been discussing
has been to concentrate federal taxation almost wholly upon con-
PUBLIC REVENUES 62;
sumption, since direct taxes when apportioned according to
population have shown themselves to be unjust, unproductive,
and exceedingly difficult of collection. Congress has made use
of direct taxes only five times during the history of the national
government. Two million dollars was apportioned in 1798;
$3,000,000 in 1813; $6,000,000 in 1815; $3,000,000 in 1816;
and $20,000,000 in 1861. Except in the tax of 1798, Congress
has always permitted any state to assume its quota and raise
the money as it saw fit, although provision was always made for
the collection of the amount usually by taxes on lands, houses,
and slaves by federal officers, in case the quota was not as-
sumed by the state government. It would be difficult to exag-
gerate the unsatisfactory character of such taxation. In no case
has the federal government ever collected the full amount of the
tax. The taxes levied in 1814-1816 continued to be collected
until 1839. The last payments on the direct tax of 1861 were
not received until 1888; and in 1891 a law was passed abolishing
further collections and authorizing the amounts which had been
collected under the act of 1861 to be returned. Considerable
scandal arose out of this refunding act owing to the enormous
commissions paid to certain lobbyists for their work at Washing-
ton in securing the passage of the law. Experience has thus
made it amply clear that the federal government must put its
dependence upon customs duties, excises, and similar taxes.
Customs Duties. Among federal revenues, customs duties
easily occupy the place of first importance. From the founda-
tion of the federal government in 1789 until the Civil War, with
the exception of a few excise taxes collected between 1791 and
1802, the federal government derived nearly all its permanent
regular revenues from customs taxation, and since the Civil War
considerably more than 50 per cent of the permanent revenue
has, on the average, been derived from this source. From the
very beginning, moreover, our customs duties have been in spirit,
if not in effect, protective; and it thus becomes necessary to
consider the connection between the protective and revenue
principles, in addition to the more strictly fiscal aspects of customs
duties.
628 OUTLINES OF ECONOMICS
Protective duties are imposed in the hope of diminishing im-
ports and substituting in their stead the products of home manu-
facturers. To the extent, therefore, that they are successful in
their purpose, they reduce the customs revenues and justify the
statement that there is a fundamental antagonism between the
protective and revenue principles. However, the reduction of
importation does not signify that the consumers of the article in
question are not taxed. So long as the price remains higher than
it would be if no duty were imposed, the people are taxed to the
extent of the difference, the proceeds of the tax going to home
manufacturers in the form of an unmeasured, unregulated bounty,
whose burden upon the taxpayers is no less real because unper-
ceived.
It is equally evident that no protection is given unless the price
is raised. The popularity of customs duties is largely explained
by the belief that the foreigner can be made to bear the burden
of the tax. He can in some cases, but not in the majority of
cases. For the most part it is believed that the burden must be
borne by the home consumer. But whatever the extent to which
the foreigner can be made to pay the tax, to that extent the tariff
fails to replace foreign by home products; in short, fails to "pro-
tect." We cannot save our cake and eat it. The more the
protection or bounty to the home manufacturers, the greater the
tax upon the consumers, the less the shifting of the tax to the
foreigner, and the less the revenue to the home government.
The protectionist is logically deprived of the time-worn argument
that the foreigner foots the bill.
The shifting of import duties may be best explained by noticing separately
the immediate and ultimate incidence, (i) The immediate effect of the tax
will be to discourage certain foreign producers from shipping their products
to the newly restricted market, and prices will tend to rise because of dimin-
ished supply. If the product is controlled by a foreign monopoly, the
price may not increase; but where the foreign production takes place under
competitive conditions, and in most cases where the production is monopo-
lized, the price will be raised. The increase of price may be more or less or
exactly equal to the tax according to the readiness with which foreign pro-
ducers find a new market, but in a large majority of cases the burden of
the tax will be shared by the producer and consumer, the latter according
PUBLIC REVENUES 629
to the majority of authorities bearing most of the burden. That the
burden, however, is partially borne by the foreign producer accords not only
with the best theory, but with the great interest displayed by exporters every-
where in the tariff legislation of foreign countries, and the sacrifices which
protectionist governments are willing to make in reciprocity treaties for the
purpose of obtaining advantageous terms for their own producers.
(2) Eventually, however, the initial increase in price may stimulate home
production, and this can only take place when the increase of price is less
than the duty, because if the price rises by the whole amount of the tax, the
foreigner will still possess his initial advantage. If the home producer totally
ousts the foreigner, then the consumer bears all the difference between the
existing price and the price that would rule if no duty were imposed
although, of course, the treasury receives nothing. If the home producer
secures only a part of the home market, it is plain that, under ordinary
circumstances, the foreigner pays part of the tax, i.e. the amount per unit
of product by which the duty exceeds the increase of price; whilst, as before,
the home consumer pays, on every unit consumed, a tax equal to the differ-
ence between the old and the new prices. When, however, we attempt to
go further and take account of the indirect effects of protection, the problem
becomes almost hopelessly complex. Modern economists, however, are
substantially agreed that the foreign producer bears a much larger share of
the average customs duty than the English economists of the first half of the
nineteenth century were willing to admit.
From the standpoint of revenue, American customs duties
have the great virtues of high productivity, convenience of pay-
ment, and cheapness of collection. Along with these important
virtues are associated almost all the vices to which indirect taxes
are subject, (a) The most important defects of our customs
taxes are their unreliability and uncertainty. Historically, they
have shown a pernicious variability, expanding when increased
revenue spelt extravagance, contracting when the country sorely
needed larger revenue. In 1791, for instance, the customs
revenue exceeded the total ordinary expenditures by over 41 per
cent, while in the very next year they fell short of the expenditures
by 58 per cent. Between 1791 and 1860 inclusive, the customs
receipts actually exceeded the expenditures in thirty-four years;
varied between 50 and 100 per cent of the expenditures in twenty-
eight years; and fell below 50 per cent in eight years. In 1860,
more than 84 per cent of the expenditures were secured from
this source, but in 1863 less than 10 per cent, so inadequate is
630 OUTLINES OF ECONOMICS
the customs revenue in a serious war when money is most needed.
In 1864, Congress made desperate attempts to increase its cus-
toms revenue. In the tariff act of that year about fifteen hun-
dred articles were enumerated, and the average rate approxi-
mated 50 per cent; yet the receipts dropped from something
over one hundred and two millions in 1864 to less than eighty-
five millions in 1865, constituting only 6.5 per cent of the total
expenditures in the latter year. During the history of the national
government, the customs revenues have varied with the industrial
condition of the country, the prospects of peace or war, the power
of the tariff lobby, the prosperity and commercial policy of foreign
nations, but almost never in nice accordance with the financial
needs of the federal government. Where the tariff is controlled
by revenue rather than protective purposes, it can be made strik-
ingly stable and responsive to the control of the treasury. " The
English revenue from this source has kept very near ^20,000,000
per annum for the last thirty years. In the period 1815-1895,
it has only varied between ^24,000,000 and 1 9,000,000, not-
withstanding the extensive remissions of taxation." i
(b) From the fiscal standpoint, our tariff system is far too com-
plex and cumbersome. Whether we tax many imports or few,
the major part of the revenue comes from comparatively few
imports, so that by extending the list of dutiable articles we
merely add to the cost of collection and increase the interference
with commerce, without materially augmenting the yield of the
tax. Great Britain taxes less than fifty articles, and nearly all
of her revenue from import taxation comes from five articles,
tobacco, tea, spirits, wine, and sugar. Compared with direct
taxes the cost of collecting our import duties is not high (2.55 per
cent of the receipts in 1907), yet it exceeds the cost of collecting
the internal revenue duties (1.72 per cent in 1907); and in some
customs districts the expenses of collecting actually exceed the
tax collected. In fact, the administration of the entire system
is cumbersome, inquisitorial, and irritating.
"There is no better illustration of a complex and incomprehensible
revenue system than the tariff legislation of the United States. It levies
1 Bastable, Public Finance, p. 517 (written in 1895).
PUBLIC REVENUES 631
import duties upon goods that make up the country's exports as well as upon
those that constitute the normal imports of the nation's commerce; it taxes
raw material as well as the manufactured product, and the manufactured
product itself is taxed at many stages in the process of its manufacture; the
rate imposed is determined in part by considerations of revenue, in part by
the desire to grant 'incidental protection,' and in part for the purpose of
prohibiting the import of selected articles; the rules of rating are numerous,
overlapping each other in many cases and resulting in a confusion of instruc-
tions that necessitates a board of appeal in continuous session; the text of
the law makes a book of one hundred and fifty pages, while the law and its
interpretation used by the officials as a guide in the performance of their
duty is a volume of several hundred pages. A law of this sort cannot be
comprehended." l
Customs duties are either specific or ad valorem. Specific
duties are laid in proportion to weight or number, without regard
to value, while ad valorem duties are levied in proportion to the
value of the commodities imported. Ad valorem duties are open
to the objection that they offer a greater temptation to fraudulent
valuations, and hence make more difficult the work of the cus-
toms officers. Specific duties, on the other hand, while they
can be more easily administered, are open to the serious objec-
tion that they impose a relatively heavier burden upon less valu-
able goods of any class. Owing to their greater ease of collec-
tion, however, such specific duties now play a larger part than
ever before in our tariff system.
Internal Revenue Duties. Second in importance to cus-
toms duties are the internal revenue duties, which consist for
the most part of excises. Excise taxes are usually paid by stamps
placed upon the package of sale, although both in England and
the United States the tax upon the commodity is supplemented
by license duties upon dealers, which are also paid by stamps
publicly exposed by the dealer in his place of business. In 1907
the internal revenue duties yielded $269,666,772, more than 80
per cent as much as the customs receipts, of which 58 per cent
came from the tax on spirits, 19 per cent from the tax on tobacco,
22 per cent from the tax on fermented liquors, and the remainder
from the tax on oleomargarine, playing cards, back taxes of a
miscellaneous character, and penalties.
1 H. C. Adams, Science of Finance, pp. 409-410.
632 OUTLINES OF ECONOMICS
Excise taxes, like all taxes, have their grave defects, (a) Like
import duties, they must be levied upon articles of wide con-
sumption to be productive; and as they are in a large degree
shifted to the consumers, they frequently weigh more heavily
upon the poor than upon the rich, (b) This regressivity is in-
creased by the fact that the taxes are specific, not ad valorem,
so that the finer grades of domestic cigars, for instance, pay a
Ipwer rate of taxation than the cheaper goods, (c) In order to
prevent evasion of the tax, the government is compelled not only
to watch, but partially to direct, the process of manufacturing
at every step. Producers are required to give bond for the
faithful observance of the law, to register raw materials which
they buy, and to keep records of the stock on hand in accord-
ance with book-keeping methods prescribed for them by the
Internal Revenue Bureau. Such interference with private in-
dustry is an unfortunate but necessary part of excise taxation.
(d) Large systematized businesses bear such interference with
less effort than small concerns, and in consequence our internal
revenue system unquestionably exerts an influence in the direc-
tion of large-scale production, and possibly in the direction of
monopoly. The license taxes particularly, which are adjusted
only in the roughest way to the size of the business, unquestion-
ably weigh more heavily upon the small than the large dealers.
(c) Finally, it seems to be the almost universal opinion of com-
petent students that excise taxes exercise little influence upon
the consumption of articles whose use is believed to be deleterious.
An increased tax is as often followed by adulteration as by an
increase of the price per unit.
The advantages of the internal revenue duties, however, far
outweigh their defects, (a) Like the customs duties, they yield
an enormous revenue; but although they do fall off somewhat
in times of industrial depression, they are in ordinary periods
regular and dependable, whilst in times of war they respond
readily to increased rates. The increase of old duties and the
imposition of new duties during the Spanish War, for instance,
raised the receipts from $170,900,641 in 1898 to $273,437,162 in
1899. Many of the taxes yield a proportional increase almost as
PUBLIC REVENUES 633
great as the increase in the rate of the tax, a rare virtue in excise
taxation, as the rise of the burden usually cuts down the consump-
tion, (b) From the administrative standpoint they are very in-
expensive to collect, give rise to comparatively little fraud or
evasion, and the few industries which they affect have now be-
come so habituated to public inspection and control that the
latter occasion little complaint, (c) Finally, it is to be noted
that although excise taxes are regressive, the burden of the tax
is shared by producer and consumer not borne wholly by the
latter and the share borne by the producer varies directly with
the element of monopoly or differential advantage in production.
"Viewed as a whole, the internal revenue system is the most
satisfactory part of our entire financial structure, state or federal.
Its returns are fairly steady and reliable in times of depression.
Its growth is automatic. It is imposed on articles the demand
for which is tolerably inelastic. Its burden is not perceptibly
felt. It is honestly and economically collected ; and finally, it is
abundantly capable of yielding additional revenue, should an
unforeseen emergency arise." 1
Taxes on Transactions. In times of urgent need, as in the
War of 1812, the Civil War, and the late war with Spain, the
federal government has imposed taxes upon various sorts of
transactions. Thus, the war revenue act of 1898 imposed stamp
taxes on bank checks, telegrams, freight and express receipts,
transfers of stocks and bonds, bills of exchange, etc. In 1899,
the year after they were imposed, the stamp taxes yielded
$43,837,819. The peculiar advantage of taxes on transactions
is their quality of immediate productivity. As the figures just
quoted show, they may be made to yield largely the very yeai
they are imposed. Moreover, the government may make evasion
almost impossible by lessening the legal protection and signifi-
cance afforded by the documents not properly stamped. An-
other advantage is that they cost almost nothing to collect, as the
taxpayer buys the stamp himself and places it upon the docu-
ment. On the other hand, the general effect of such taxes is to
impede business ; and a check on business activity soon lessens
the revenue from other sources.
1 Daniels, Public Finance, p. 148.
634 OUTLINES OF ECONOMICS
Income Taxes. What shall be done to remedy the inelasticity
and regressivity of federal taxation? The remedy most fre-
quently advocated is that of a progressive income tax. Income
taxes are not new in the United States. All through the colonial
epoch earnings or produce taxes, i.e. taxes upon special forms of
income, were common ; between the Revolutionary War and
1870, particularly after 1840, many trials of a general income
tax were made by the state governments; and in 1863, the federal
government levied a general income tax, which was retained for
about ten years. In 1894, the federal government again levied
an income tax of two per cent upon incomes in excess of $4000,
but the constitutionality of the act was promptly assailed, and
the Supreme Court, by a majority of one, and after a change in
the personnel of the court during the consideration of the case,
reversed the earlier findings and held that the income tax could
be levied only as a direct tax apportioned among the several
states in accordance with their population. An apportioned in-
come tax would be so obviously unjust that no one advocates its
adoption. But President Roosevelt has recently recommended
the income tax to the consideration of Congress and the American
people, intimating rather broadly that a reasonable and judicially
framed income tax might, if presented to the Supreme Court
again, receive a more friendly interpretation.
The income tax as employed by the state governments has
been a consistent and admitted failure, owing, it is stated by most
authorities, to the inability of assessors to tax income at source
and the consequent employment of self-assessment. John Smith,
living in Massachusetts, receives his income from a mining com-
pany situated in Colorado; and as the Massachusetts assessors
have no means of ascertaining Smith's ownership of the mining
stock, they are forced to depend upon his answer in declaring
the amount of his income. Yet it should be noted that the suc-
cessful German income taxes are State taxes, resting largely upon
declarations of the taxpayer and making comparatively little use
of collection at the source. The success of these taxes in Ger-
many is probably due to the fact that the rate is low, and the
people law-abiding, even in matters of taxation.
PUBLIC REVENUES 635
A national income tax has many points of strength, (a) First
of all it is to be noted that in England and Italy, in which the in-
come tax has been given a trial, experience has justified this form
of taxation, according to the majority opinion of those who have
considered the matter. 1 (6) Moreover, it is especially noteworthy
that income taxation gains in economy and productiveness, and
wins increasing approbation as the years go by. This is in sharp
contrast with the experience of our states in their use of the
general property tax, which has grown more unjust and less
workable, the longer it has been tried, (c) In the third place,
income is as good, and perhaps better, than any other single
measure of ability; so that income taxation seems to be peculiarly
consistent with the ethical ideal that taxation should be in accord-
ance with ability. (</) Similarly, there is perhaps no general or
universal tax which, if properly enforced, would give less trouble
because of shifting, (e) Most important of all from the fiscal
standpoint is its admirable elasticity. It acts, or may be made
to act, as the regulator of the entire revenue system. In times of
prosperity, when consumption taxes are productive, a simple
reduction of the rate prevents the accumulation of a harmful
surplus. In times of stress, the revenues may be increased with
the minimum disturbance of industry and capital by a simple
increase of the rate. There can be no doubt that our federal
revenue system needs a direct tax of such a kind as to exercise
a minimum disturbing force upon industry, in order to keep a
wholesome balance between receipts and expenditures.
The disadvantages of a general income tax, however, are great.
(a) Its inquisitorial features are a fertile source of weakness. In
our opinion, people should not resent taxation simply because it
is inquisitorial; but if they do vigorously resent it, the fact con-
stitutes an element of weakness in the tax which we must take
into account, whether we sympathize with the feeling or not.
(b) The chief objections to the income tax, however, have to do
with its practicability. The federal income tax of 1894, for
example, contained the following provisions, each of which, the
1 In France, also, there has for some years been an active agitation for a pro-
gressive income tax.
636 OUTLINES OF ECONOMICS
reader will note, raises problems that either cause injustice or
make room for evasion and escape, whichever way they are
solved. In estimating the incomes of persons, assessors were
directed to include: profits realized within the year from the
sales of real estate purchased within the two years preceding,
interest received or accrued upon all notes, bonds, 1 mortgages, or
other forms of indebtedness; the amount of all premiums on
bonds, notes, or coupons ; money, and the value of all personal
property acquired by gift or inheritance. On the other hand,
assessors were instructed to allow taxpayers to deduct necessary
expenses actually incurred in carrying on any business, occupa-
tion, or profession; interest due or paid out; taxes actually paid;
losses actually sustained from fires, storms, or shipwreck and not
compensated for by insurance or otherwise; and debts ascer-
tained to be worthless. What check had the assessor upon the
interest received on notes, bonds, and other forms of indebtedness?
How could he ascertain the profits realized upon sales of real
estate ? Similar openings for an indefinite amount of fraud were
given in the permission to deduct "necessary expenses," "interest
due," "losses sustained," and "debts ascertained to be worth-
less." On the other hand, corporations were denied the right to
deduct amounts carried to the account of depreciation or sinking
funds, and they were compelled to deduct the tax of two per cent '
from all dividends which they paid to their stockholders, whether
their stockholders had incomes of $4000 or less.
Many of these defects are not peculiar to the tax of 1894, but
are inherent in the income tax principle. In estimating net in-
come a vast number of deductions must be made from gross in-
come, most of which are vague, and many of which are practically
indeterminate. Money rent of land, for instance, is frequently
less than true net income, because the property is appreciating
in value and because in many countries, particularly in England,
land ownership yields a very valuable but very intangible income
in the shape of increased respect from one's neighbor. Income
1 It is important to note that taxes on the interest payments upon corporate
bonds could not in the United States, owing to decisions of the federal court,
be collected at the source, or from the corporation.
PUBLIC REVENUES 637
from mines, on the other hand, usually represents in large degree
a return of capital invested, since the mine is being gradually
exhausted ; while income from personal exertions frequently
represents a similar return of capital expended in costly educa-
tion and long apprenticeship. From the administrative stand-
point the income tax has almost as many weaknesses as the
general property tax, the number of cases in which it is easier to
estimate income than capital value being offset by an equal num-
ber of instances in which it is easier to estimate capital value than
income.
Progressive taxation is clearly needed somewhere in our fiscal
system, state or federal; and the latter system unquestionably is
sadly inelastic. But when all the obstacles are considered
court decisions, administrative weakness, the average American's
hostility to inquisitorial taxation, the high cost of collection, the
expense involved in combining progressive taxation with collec-
tion at the source, and the theoretical defects which the income
tax shares with all other general taxes it is doubtful whether
the income tax should be depended upon to accomplish the
necessary reforms. The true path of reform lies not in seeking
any general tax either upon property, income, or any other simple
basis ; it consists in combining all principles in a harmonious
system, using income as the basis when that is more practicable,
capital value as the basis when it is easier to measure wealth than
earnings, and resorting to consumption at perhaps a lower rate
when both wealth and income are particularly difficult to deter-
mine.
Inheritance Taxes. The recrudescence of the income tax
project in recent years has undoubtedly been due to a desire to
improve the distribution of wealth and reduce "swollen fortunes,"
but to allow swollen fortunes to accumulate wrongly and then to
attempt to correct our mistake by taxing them 4 or 5 per
cent is to palter with justice and to play at reform. There are
many other remedies, more direct, more logical, more efficient.
Among them may properly be included the regulation and taxa-
tion of inheritances.
When the first edition of this work was written in 1893, inherit-
638 OUTLINES OF ECONOMICS
ance taxes were being collected in only five of the states, and so
strong were the objections to its wide adoption that the author
felt called upon to point out that unregulated collateral inherit-
ance was an unjustifiable survival of the clan system that was
being carried to ridiculous lengths at that time. Since the pub-
lication of the first edition, however, inheritance taxation has
spread rapidly, being employed in at least thirty-two states in
1906, and with the spread of the tax has come a most significant
development of progressive rating and taxation of direct as well
as collateral heirs. To-day one never hears of the "inherent
right" of decedents to control absolutely the disposition of their
property in perpetuity, and the right of the legislature to regulate
inheritance in behalf of the general social welfare is hardly dis-
puted. Mr. Andrew Carnegie, for instance, advocates a rate of
50 per cent upon the estates of millionaires.
At the present time the inheritance tax is not very productive
except in New York and Pennsylvania, which received in the
fiscal year 1905-1906, $4,713,311 and $1,507,962, respectively,
from this source. In all, about $10,000,000 a year is now received
from this source in the various states employing the tax. The
important fact is that the initial inertia and opposition have been
overcome and the ground cleared for the really efficient use of
this tax as a means of breaking up large fortunes and increasing
the revenues. The new type of the inheritance tax is well illus-
trated by the Wisconsin law of 1903, which applies to direct as
well as collateral heirs, and which graduates the rates according
to relationship and the amount of the individual share, and not
by the size of the estate. The highest rate in the Wisconsin tax
applying to shares in excess of $500,000 given to distant relatives
and strangers is 15 per cent.
Great as our progress has been in this respect, our legislation
still falls short of the demands of common sense. Why should
collateral inheritance apart from a will be allowed at all except
among near relatives? Why should third cousins inherit from
one another at all unless money is left by will ? Are third cousins
nearer to one than the town or city in which one has lived and
where one has been able to acquire a fortune? The extent to
PUBLIC REVENUES 639
which intestate collateral inheritance is carried is a survival of
the sentiment of the time when people lived in clans, and is illogi-
cal in our day. Right and duty should be coordinated. Ought
I to be compelled by law to support an uncle who is unable by
incapacity to earn a livelihood? Then I should inherit from
him; otherwise it does not seem clear that I should unless he
leaves me property by will. So far as practicable the circle of
legal duties ought, however, to be extended so as to include the
circle of vital relationship. The property should go to the State
in the absence of near relatives when no will is made. The clan
is dead and forgotten; ordinarily there is neither acquaintance
nor recognizable obligation between second cousins, not to men-
tion twenty-second. Inheritances thus bestowed are pure gifts,
wanton disturbances of existing abilities to use property. The
modern clan is society, and to it belong all claims to inheritance
falling outside the circle of vital relations. The enlightened Eng-
lish jurist, Jeremy Bentham, wished to restrict inheritance and
extend escheat, and thus abolish taxation altogether, but this is
going too far.
We have introduced the inheritance tax at this point between the
discussion of federal and state taxation because some doubt exists whether
it should be assigned to the federal or state governments. With two excep-
tions the arguments are almost all in favor of assignment to the state : (a) The
inheritance tax is needed to effect the separation of state and local revenues,
a reform earnestly advocated by most authorities. (6) Inheritance taxes
should not be levied by both state and federal governments, yet the latter
cannot prevent the state governments from making use of the tax. As it is
easier for one jurisdiction to refrain from introducing the tax than for many
jurisdictions to cease using it, the federal government should stand aside.
(c) Furthermore, the natural machinery of assessment the probate courts
can be employed by the state, but not by the federal government; and,
in the long run, the cost of administering the tax would probably be much
greater when used by the federal government.
The case for federal taxation rests upon the desirability of levying a very
high rate upon large inheritances, and the possibilities of unjust double
taxation under the state system, (a) Many persons would be disposed to
move away from any particular state which imposed inheritance taxes as
high as sound policy demands, but few would take up their residence entirely
outside of the United States or transfer their investments to foreign countries,
on this account. (6) State inheritance taxes upon personal property offer
640 OUTLINES OF ECONOMICS
unusual temptations to double and multiple taxation. John Smith, domi-
ciled in Pennsylvania, dies leaving 100 shares of stock in a New Jersey
corporation, which shares are on deposit in a New York trust company.
Under these circumstances Pennsylvania, New Jersey, and New York might
all levy taxes upon these shares of stock. This kind of multiple taxation
is very much more vicious than the double taxation which would result from
state and federal taxation of inheritances.
The fact that the federal government cannot prohibit state inheritance
taxes appears to be a conclusive argument in favor of state taxation. But
unless the several states learn to restrain their legal powers of taxation vol-
untarily, and do away with multiple taxation by some species of agreement
concerning the equities of the situation, an intolerable condition of affairs
is likely to result which will add indefinite strength to the arguments in
favor of a federal tax. Exclusive federal taxation through a constitutional
amendment is unlikely, but not impossible.
STATE AND LOCAL TAXATION
General Property Tax. The key to the revenue system of our
state and local governments, and by far the most important tax
collected in the United States, is the general property tax, which
supplied, in 1902, 82 per cent of the tax receipts of the state and
local governments and 51 per cent of all taxes collected in the
country, national, state, and local. The most important char-
acteristic of this tax is suggested by the word "general," the
tax is levied in theory upon nearly all property, real and personal,
in the hands of the people.
Though the administration of the property tax differs in many
details among the states, it is the usual custom for assessors in
each community to prepare complete statements of all kinds of
taxable property owned by the people of the community. In
some states the assessors receive from all residents sworn "lists"
of property owned and subject to tax. By the terms of the law
the property is supposed to be rated at its true, full value, though
by the acknowledged practice of assessors and courts of review,
the real rates vary widely from state to state, from community
to community, and from individual to individual. On the basis
of the property valuations thus made the state and local govern-
ments levy direct taxes at a rate fixed from year to year according
to fiscal needs. The tax is then collected by local officers, and of
PUBLIC REVENUES 641
the whole amount the portion levied by the county and state is
passed on to the designated officers after each minor political
division has set aside its share.
As yet few economists who have written upon the subject, and
few state officers who have had to do with the administration of
the tax, have ever been able to speak of it except in terms of the
severest condemnation. Naturally, then, there is now a strong
tendency to work away from this form of taxation. Some of the
many serious faults which the general property tax has every-
where shown call for comment and explanation.
1. Unjust Apportionment. The first of the defects of the tax
appears in the apportionment of the state's share of the tax-
Each community has a narrow, selfish interest in reducing its
valuation that it may escape its just share of the tax. The same
mean struggle is especially frequent between city and country
districts. To correct the evil, boards of equalization are usually
appointed, but experience has shown that such boards usually
do their work in a most perfunctory way. Although earnest
study of assessments may and sometimes does secure a sub-
stantially just apportionment between county and county, this
equalization does not correct the glaring inequalities within
particular counties, and even within single assessment districts.
2. Inequality as between Realty and Personalty. In the second
place, the general property tax has proved grossly inequitable in
laying an undue proportion of its burden upon real property,
allowing various forms of personal property to escape with a slight
tax or with no tax at all. A secondary result of this inequality
is that the rural districts bear a disproportionate burden, since
the greater part of the tax-escaping personalty is owned by the
wealthy citizens of our cities.
3. Inequalities of City Assessments. Very similar to the
preceding evils is the further injustice wrought by the tax through
the disproportionate assessment of the pieces of real estate in
cities. Thus, an investigation in St. Paul, Minnesota, cover-
ing over twenty-five hundred pieces of property worth in the
aggregate more than five million dollars, showed that the average
ratio of assessed to true value of parcels worth less than $5000
2T
642 OUTLINES OF ECONOMICS
was 63 per cent, while the similar ratio for parcels worth more than
$5000 was 56 per cent. A similar investigation made in Wis-
consin and covering more than 16,000 pieces of property showed
a glaring inequality between very small and very large properties
(63 per cent and 47 per cent respectively of true value), but sub-
stantial uniformity in the long run for properties of medium size.
Both investigations showed that unimproved real estate was or-
dinarily taxed at a very much higher ratio than improved property.
In many districts, also, real estate owned by non-residents is taxed
at a higher figure than real estate owned by residents.
4. Temptation to Dishonesty. It follows from the evils already
described that the general property tax leads to a shocking amount
of dishonesty, perjury, bribery, and other forms of corruption.
Indeed, as one writer has expressed it, " The general property
tax has gone far toward making perjury respectable and even
virtuous."
5. Fundamental Theoretical Defects. But the most funda-
mental defect of the general property tax is found in the fact that
it is an incongruous mixture of real and personal taxes. Real
estate is taxed at its situs, irrespective of ownership or the tax-
paying ability of the owner in a great majority of states. The
personal obligation of the owner to support the government under
which he immediately lives, is met practically everywhere by that
part of the tax which falls upon personal property, personal
property paying at the domicile of the owner.
This distinction between real and personal property is artificial,
inequitable, and illogically applied. Personalty, as a measure
of ability, ought to be accurately computed by offsetting liabilities
against assets, so that the taxpayer would pay only upon net
assets. Yet no state, with the possible exception of New Jersey,
grants full and complete exemption of debts; only three states
permit a subtraction of debts from all personalty; the rest
either refusing any abatement for debts whatsoever or limiting
the abatement to subtraction of debts from money or money
and credits or other restricted classes of personalty. Moreover,
nearly all the states manipulate their definitions of real property
in the most discreditable manner, causing many kinds of double
PUBLIC REVENUES 643
taxation. To take a single illustration: most states tax the stock
of foreign corporations held by resident citizens, whether the
corporation pays full taxes at its situs or not. Many of these
states tax their own or domestic corporations at full value, thus
indorsing the theory that a corporation should be taxed as a
business unit where the business is carried on. Nevertheless,
they attempt to tax the stock of foreign corporations when the
stock is the only thing they can reach. Some states, though not
a majority, actually tax both the shares of stock and the business
of domestic corporations, and then wonder that the stockholders
attempt to evade the inequitable obligations imposed upon them
by law.
Reform of the Property Tax. This brief outline of the evils
connected with the general property tax furnishes us with the
key to reform. By far the greatest reform that could possibly
be accomplished would result from placing the work of assess-
ment on a scientific basis, by appointing expert assessors under
civil service protection, who would give their whole time to the
business and hold their places during good behavior. In 1902
practically three fourths of the revenues collected under the
general property tax came from the tax on real property. Now
we shall undoubtedly keep the real estate tax. Nobody advocates
its abandonment or believes that it will be possible to get along
without it; and with trained assessors it would be possible to
make a substantially fair assessment of real property. Yet even
the assessment of real estate is in most places to-day wretchedly
unequal. We spend a great deal of time thinking out ambitious
fiscal reforms that will remedy the present system by revolutioniz-
ing it, overlooking the fact that the remedy for the deepest and
widest evil lies within our reach, neglected and unavailing, not
because we are ignorant of its potency, but because we lack the
will resolutely to apply it.
At the same time, no assessor, however expert and well-paid,
can ever be expected to assess all kinds of personal property with
even approximate accuracy. To persist in the attempt to assess
all the property of every person is simply to debase public morality
and convince assessors that nothing short of divine wisdom will
644 OUTLINES OF ECONOMICS
enable them to satisfy the requirements of the law. In short,
the more intangible forms of personal property, if not all per-
sonal property, must be exempted from taxation, and the loss be
made up by the introduction of simpler and more workable taxes.
Probably the most practicable of such substitutes is the tax ad-
justed to the rental value of residences. Of course in individual
cases such a tax would violate the rules of exact justice, but with
suitable exemptions and proper adjustments it would be roughly
equitable, and it would have the striking advantages of simplicity,
practicability, and substantial certainty. The rental value of
most property can be appraised with as much accuracy as the
market value of real estate. Inasmuch as this tax would merely
replace the present property tax upon the more intangible forms
of personalty, it would not have to be heavy, and for this reason
minor cases of inequality would not be very important.
The present property tax on business and commercial concerns,
with its impossible requirements of stock valuations, taxation of
book accounts, bills receivable, and credits generally, should be
replaced by a business, license, or "ad valorem" tax, adjusted
to income in the first two cases, or to capitalized income in the
case of an "ad valorem" tax. The real estate and permanent
improvements of business concerns might be separately taxed
under the property tax, and a corresponding deduction made from
the business tax, as is common in the taxation of banks and cor-
porations in many states. We should then have, in place of the
general property tax, a real tax on accumulated or realized tangible
property; a personal tax on ability as measured by the rental
value of dwellings, and business taxes upon earnings. Although
the real tax would in appearance take no cognizance of mortgages
or debts secured by the property and no account on the surface of
the ability of the owner, it would not in reality wholly violate
the canon of taxation according to ability. The man buying land
on contract or subject to a mortgage, would take into account the
fact that he would be called upon to pay taxes upon the whole
value of the property, irrespective of debt or incumbrance, and
the price would be adjusted accordingly. Or, if he mortgaged his
land after he had acquired ownership, he would be indemnified
PUBLIC REVENUES 645
to a certain extent for paying all the taxes, by receiving a lower
rate of interest on his mortgage than he would be enabled to secure
if the creditor were liable for taxes upon that part of the property
covered by the mortgage. Real taxes, which take no cognizance
of the financial status of the owner, are not inequitable when they
are consistently applied and supplemented by a separate system
of personal taxation.
All these taxes destined to take the place of the general property
tax will probably, in the future, be assigned to the local govern-
ments. If necessary to provide enough revenue for the state,
however, a small state tax could equitably be levied upon real
estate, as the equalization of real estate assessments among the
larger governmental divisions, such as counties, is a comparatively
easy matter. Whether the state will be able to get along without
taxes upon real estate, depends principally upon the productivity
of certain corporation taxes, the proceeds of which belong logically
to the state as opposed to the local governments. This absorption
of corporation taxes by the state is already well under way in the
more advanced commonwealths. In 1902, for instance, New
York, New Jersey, and Pennsylvania, together raised $26,177,731
from special property and business taxes (practically corporation
taxes), but only $12,055,851 from the general property tax. In
that year Delaware made no use of the general property tax at
all for state purposes, Connecticut raised only $164,520 from this
source, and since that time New York has also abandoned general
property as a basis of state taxation. However, the supersession
of the general property tax is only true in the North Atlantic
states, speaking generally. In all the states and territories in
1902, 53 per cent of the total tax receipts came from the general
property tax, 34 per cent from special property and business taxes
principally on corporations about 1.4 per cent from poll
taxes, something over 6 per cent from liquor license taxes, and
something less than 6 per cent from other licenses and per-
mits. 1
Corporation Taxes. The exact way in which any corporation
1 These proportions are based upon state receipts. If local revenues were
included, the general property tax would appear very much more important.
646 OUTLINES OF ECONOMICS
should be taxed depends upon a great variety of considerations,
which vary from place to place and from time to time. In general,
however, the following elements may be detected in the more
progressive systems of corporation taxation: I. The incorpora-
tion fee, to cover the clerical expenses of registering corporations
and the value of the privileges granted to every corporation, the
most important of which is that of limited liability. This charge
should be imposed on all joint-stock companies, should vary with
the amount of bonds as well as the amount of stock authorized,
and should be small, unless the state desires to restrict narrowly
the incorporation of commercial enterprises. II. The franchise
tax proper, to cover especially valuable privileges, such as the
right to use the public streets or highways, granted to most public
utility companies. This is essentially a contractual payment,
a lease or royalty rather than a tax. It should be fixed in ad-
vance for a definite period at as high a figure or rate as possible,
and when fixed, should not be tampered with by the state in
justice to the corporation. 1 III. The general property tax or some
equivalent, designed to impose upon the corporation a burden
equivalent to that borne by the average taxpayer of the district.
Inasmuch as good-will, business organization, and similar intangible
assets are property, property taxes imposed under this head should
cover not only tangible but intangible values as well, including the
franchise when this does not revert to the state. Corporations
which have received valuable franchises from the state may
properly be called upon to pay for the privilege (under II) as well
as upon the privilege (under III).
This differentiation of what may be called the bases of cor-
poration taxation should not be misunderstood. Many states
merge two or even three of these charges in a single tax, and
other states exempt savings banks, insurance companies, and
other kinds of corporations from one or all of these obligations.
in order to encourage thrift or foster the industry exempted.
1 However, where a long or perpetual franchise is given, provision should be
made for the readjustment of the rental by arbitration or in some other equitable
way. An illustration is found in the terms of the franchise under which the
Pennsylvania railroad built a tunnel under the North River and erected its mag-
nificent new station in New York City.
PUBLIC REVENUES 647
Such exemptions are often justifiable and socially helpful. But
unless these separate elements are kept plainly in mind, injustice
is almost sure to follow. To treat commercial corporations,
which should pay Charges I and III, on the same footing as
street railway or telephone companies, which should pay I, II,
and III, is to penalize the commercial corporation for the benefit
of the general public. To impose, or try to impose, Charge II
upon all corporations, on the theory that all of them have received
exceedingly valuable privileges, is to confuse general with special
corporation privileges, and to pave the way for " corporation-
baiting." Finally, although it is not necessary, we believe real
progress will be hastened by observing these distinctions in prac-
tice as well as in theoretical analysis.
The third element in corporation taxes noted above requires further dis-
cussion. While a distinct effort is noticeable at the present time to make
the tax burden upon corporations equal to that upon general property, and
while this represents a distinct advance inasmuch as corporations in the past
have escaped their due share of taxation; it is equally true that the move-
ment has no logical stopping place. If the general property tax is certain
to disappear, as most economists assert, there can be no permanency in a
reform designed to equate the burden of taxation upon corporations and
general property.
As we have seen, the general property tax will in time probably break
up into a tax upon real estate, a tax upon persons, and a tax upon business.
Corporation taxes will naturally fall in the last group. When we have
differentiated these taxes, however, we shall soon learn that the business tax
itself must be differentiated. Even at present we are forced to do this. We
exempt building associations from taxation, give savings banks the benefit of
a low rate, and impose unusually heavy taxes on saloons. This differentia-
tion will be extended in the future. There is as much reason to impose spe-
cially heavy taxes upon express and sleeping-car companies, for instance, as
there is to exempt churches and deal tenderly with mutual aid societies.
This differentiation among businesses and corporations will require in many
states a constitutional amendment, permitting the classification of persons
and property for taxation. But that is a reform which, it is hoped, will be
realized in the comparatively near future.
When all property is taxed where it lies, irrespective of ownership,
and all persons where they live, irrespective of the situs of their property,
then the taxation of business will stand, as it should, in a sphere of its own.
Within that sphere businesses that can move easily to other states will of
necessity be taxed lightly, as they are to-day. Businesses which derive
648 OUTLINES OF ECONOMICS
special advantages from their environment, however, will pay a correspond
ingly heavy rate. Railways, to take a single illustration, will pay a higher
rate than some businesses, a lower rate than some others, but in any event
there will be no attempt to equate the tax upon railways with that upon
property and persons, because the railway will pay upon its property as
property, upon its business as business, and the owners of railway securities
will pay in accordance with their ability as measured by rent or some similar
index.
Business and License Taxes. About 12 per cent of state tax
receipts in 1902 came from licenses and permits, and taking the
state and local governments together, the revenue from this
source in 1902 amounted to seventy-five millions of dollars, of
which over fifty-five millions came from liquor li censes. The
high liquor license is now so common in most parts of the coun-
try that its social and fiscal importance needs little discussion.
In most Southern states, however, there is an extensive system
of business licenses, which supplement and partly replace the
general property tax. The significance and importance of the
business license have not hitherto been sufficiently appreciated.
They are levied in theory under the regulative power of the
government rather than the taxing power; but they have by
extension and multiplication become taxes for the most part, as
distinguished from sumptuary charges or payments for small
privileges.
The license system of the South is characterized by "many
defects. Here and there traces of class feeling are discerned, as
in the prohibitive licenses levied upon peddlers; and the rates
employed are often illogical, inconsistent, and inequitable to the
point of absurdity. In a few cases also, these taxes ~are high
enough to bar certain occupations to the man with small capital.
But on the whole they are among the best taxes employed by
American commonwealths. They are easily and cheaply col-
lected, very productive, cause little or no complaint, are not
excessive as a rule, and exercise little or no influence upon prices.
And in so far as they discourage the excessive multiplication of
small retail shops they perform the useful service of preventing
almost inevitable loss and bankruptcy.
The great significance of the business license is its expression
PUBLIC REVENUES 649
of the truth that the general property tax in its simple form is
unsuited to the taxation of business. Under the property tax,
business in general is taxed upon its tangible assets, i.e. fixed
plant and stock. One has only to think of the varying relation-
ship to taxable capacity of the plant and stock of a manufacturer,
a grocer, an express company, and a stock broker, to realize the
grave injustice of this method of taxation. In countries of con-
tinental Europe, as in the southern part of the United States, a
wide and generally satisfactory use is made of the business tax.
Eventually we must come to the same thing in all parts of this
country. But the tax should be adjusted to earnings on profits
in a more effective way than is now done in the South.
Poll Taxes. The poll tax is the oldest tax we have in this
country, and throughout the greater part of the colonial period
yielded more than any other source of revenue. It aroused bitter
opposition in many commonwealths and was prohibited by the
liberal constitution of Maryland at the beginning of the Revolu-
tionary War; but it persisted in many of the states, and still
remains the most important source of revenue, after the property
tax, in a few of the Southern states. The tax still stands on the
statute books of about one half of the states, and is nominally
employed as a highway or local tax in a still larger number of
commonwealths; but in many places little or no effort is made
to enforce it. In Wisconsin, for instance, no attempt is made to
collect the poll tax in more than half of the local taxing districts.
The poll tax is not only difficult to collect, but is regressive and,
when its payment is required as a prerequisite to the exercise of
the suffrage, results in widespread political corruption. "No
concealment need be made of the fact that the poll tax is used in
Mississippi as a means of disqualifying the negro in national
elections and controlling the vote in local elections." l
A BALANCED REVENUE SYSTEM
The main outlines of the distribution of taxes among the vari-
ous governmental units have already been suggested: to ttie
1 C. H. Brough, in Studies in Slate Taxation, Johns Hopkins University
Studies in Historical and Political Science, Vol. XVIII, p. 313.
650 OUTLINES OF ECONOMICS
federal government the excise and customs duties, with taxes on
transactions in times of war or emergency and the taxes on inter-
state commerce hereafter discussed; to the state governments the
inheritance tax, the more important corporation taxes, and some
of the license taxes; to the local governments the tangible property
tax, the occupation tax, such of the license and business taxes as
are not taken by the state and federal governments, and taxes
or royalties on municipal franchises. Public franchises or munici-
pal management of public-service monopolies should be made
in the United States, as in Europe, to pay a considerable part
of the local expenses of government.
It will be observed that business and corporation taxes are to
be divided among the several governmental divisions. The prin-
ciples upon which this distribution should be made are very
obscure and give rise to many important problems. The first
and most important of these problems has to do with federal
control of interstate commerce. Business, like property, has a
natural situs for purposes of taxation, and companies engaged in
interstate commerce should be taxed by or under the direction
of the national government.
Federal Control of the Taxation of Interstate Commerce.
State taxation of companies engaged in interstate commerce gives
rise to many problems. Railways may be used as an illustra-
tion. The enormous difference between the value of the physical
property and the value of the stock and bonds or the capitalized
earnings of railways has called public attention to the presence
of vast intangible values in railway property. In order to tax
these values which the courts have decided to be "property"
the railway has to be assessed or valued as a unit an exceed-
ingly difficult and costly undertaking and the share of this
valuation belonging to the state in question has to be determined.
This apportionment of values to state jurisdictions is not only
artificial and difficult, but opens the way for much abuse. Each
state is tempted to adopt the method which gives it the largest
share of the assessed value ; and the railway has not only to adapt
itself to as many methods of assessment as there are states, but
it is not unlikely to be much overtaxed in the process, unless it
PUBLIC REVENUES 651
"goes into politics" with the avowed purpose of controlling
legislation in its own interests.
Federal control would substitute a single assessment for many
assessments, and one method of apportionment for the great
variety of conflicting methods now in use. These essential re-
forms having been determined upon, the other problems of fed-
eral control * may be settled in a variety of ways, (a) The federal
government might confine its work to valuation and apportion-
ment, certifying to each state the valuation of the property as-
signed to it, to be taxed there at the same rate as other similar
property. This plan, however, assumes that railways will con-
tinue to be taxed in accordance with the underlying principles
of the general property tax. (b) Or the federal government
might permit the physical property of railways to be taxed by
the states in which it is situated and confine itself to taxes on the
business as such, a method in harmony with the general plan
of business taxation suggested above, (c) Or it might wholly
prohibit state taxation of either the property or business of inter-
state companies, although the constitutionality of such prohibi-
tion is particularly doubtful.
Assuming that one of the last two plans will be adopted, the
federal government could (a) either refund the proceeds of the
tax upon interstate business to the various states, in proportion
to the amount of business done in each state or some other equi-
table method of apportionment; or (b) retain the revenue itself
to be used in meeting emergency needs or in reducing the con-
sumption taxes which now weigh so heavily upon the poor.
The constitutionality of the whole project of federal control
is in grave doubt, although this aspect of the subject cannot be
discussed here. But that Congress will eventually be forced to
use all the power that it possesses to bring order out of the exist-
ing chaos seems as inevitable as it is desirable.
Separation of the Sources of State and Local Revenues. Just
as Congress should assume control, if possible, of the taxation of
interstate railways, express, telegraph, sleeping car and steam-
1 The desideratum is federal control of the taxation of interstate corporations,
not necessarily federal taxation.
652 OUTLINES OF ECONOMICS
ship companies, so the state government should assume control
of the taxation of inter-urban railways, telephone companies, and
other concerns whose business is "state-wide" in scope. In
recent years economists have urged the state to set aside enough
such taxes for its own exclusive use, until with such revenues
as the state derived from inheritance, poll, and license taxes it
would be able to meet expenses without resorting to general levies
upon property.
This programme is in the main admirable, and would bring to
an end all those evils arising out of the efforts of local districts
to escape state taxation by underassessment of property. But
the project has dangers and defects of its own. In the first place
it does not provide for the abolition of the general or personal
property tax within the local districts, but permits the latter to
persist in the attempt to tax stocks and bonds, money and credits,
manufacturing plant and merchants' stocks. In our opinion the
attempt to tax all kinds of property should be abolished by the
state legislatures, without waiting for the agreement of the local
governments.
In the second place, it would be unwise for the state govern-
ment to monopolize corporation, inheritance, and license taxes
merely to get upon an independent footing, and then leave the
local governments to shift for themselves. Compared with local
taxation, state taxation is really a matter of small importance,
and the great problem of commonwealth finance is how the large
cities, in particular, are to meet the enormous expenditures thrust
upon them by the mere growth and congestion of population.
Take the liquor license, for example. The saloon contributes
very materially to the expenses of the city government. If the
state were to take over the liquor license for its own use, it would
deprive the city of one of its most logical and necessary sources
of revenue. For similar reasons the state should be exceedingly
careful in selecting the corporations upon which local taxes are
not to be levied. To prohibit the taxation of railways by the
local governments is wise, but to deprive them of the power to
tax light, heat, and power companies, as was recommended by
the California Commission on Revenue and Taxation, would be
PUBLIC REVENUES 653
going too far in the average state. 1 In short, there is a logical
and important connection between business or property and
particular divisions of government. The true method is to ascer-
tain the character of this relationship and assign the business or
property, for purposes of taxation, to the proper governmental
division. Then if the state has too much revenue, it may be
apportioned to the local districts. If it has too little, the re-
mainder may be raised by taxes upon the equalized value of real
estate. Experience has shown that it is a comparatively easy
matter to equalize real estate values among counties or similar
divisions, with all the accuracy necessary for the equitable distri-
bution of a light tax.
QUESTIONS
1. Why are the terms "direct " and "indirect" taxes particularly vague
and equivocal ?
2. Explain why no protection is given the home producer when the
import duty is shifted upon the foreigner.
3. What is the greatest fiscal defect of American customs taxation? Can
this defect be remedied ?
4. Are excise taxes ethically justifiable ? Do they materially check con-
sumption when imposed upon alcoholic beverages and tobacco?
5. Do you know of any state which levies an income tax at the present
time ? Is the tax successful ?
6. What arguments in favor of introducing a federal income tax can
fairly be derived from European experience?
7. Should income representing not earnings but simple return of capital
be taxed? Should income which is saved and immediately reinvested be
taxed ? Is it not double taxation to tax savings and the earnings from such
savings as well ?
8. The inheritance tax has been justified as a compulsory payment
according to accidental or suddenly enhanced ability. Is this explanation
logical ?
9. Should corporations be taxed at the same rate as unincorporated
business concerns? Should any definite relation between the two kinds of
taxes be maintained?
10. Contrast the taxation of national banks in your own state with the
taxation of trust companies, ordinary commercial or manufacturing corpora-
tions, and unincorporated business concerns.
1 Although the recommendation of the California Commission is doubtless
justified for California by peculiar local conditions.
654 OUTLINES OF ECONOMICS
11. What difference is there between real and personal taxes ? Are real
taxes inequitable ?
12. Are assessors elected or appointed in your own state? Do they re-
quire taxpayers to declare their personal property in great detail ? Do the
local assessment rolls contain separate figures for real estate and improve-
ments? Is the property of non-residents specially designated?
13. Why is the general property tax particularly unsuited to the taxation
of business and professional men ?
14. Should the federal government, if it possesses the power, make the
taxation of interstate commerce corporations uniform throughout the United
States ?
REFERENCES
BULLOCK, C. J. Selected Readings in Public Finance, Chaps VII-XIX;
and " The Taxation of Corporations in Massachusetts," Quarterly
Journal of Economics, Vol. XXI, pp. 181-246.
ELY, R. T. Evolution of Industrial Society, Chap. VII, "The Inheritance
of Property," pp. 271-314.
HOLLANDER, J. H., Ed. Studies in Stats Taxation, Johns Hopkins
University Studies in Historical and Political Science, Series XVIII,
passim.
McCREA, R. C. "The Taxation of Personal Property in Pennsylvania,"
Quarterly Journal of Economics, Vol. XXI, pp. 52-95.
Report of the Industrial Commission. "Taxation," Vol. XIX, pp. 1031-
1069; "Taxation in Various States and in Canada with Special
Reference to the Taxation of Corporations," Vol. XI, Part VII ;
"Taxation of Transportation Companies," Vol. IX, pp. 1006-1091.
Reports of State Tax Commissions. Upon the topics indicated see " The
Massachusetts Tax System and its Workings," Massachusetts Com-
mission of 1897, pp. 1-73; " Public Service Corporations," Wisconsin
Commission, 1901, pp. 72-121; "Taxation of Credits," ibid. 1903,
pp. 88-144 ! " Mortgage Taxation," ibid., 1907, pp. 303 et seq. ; " Railway
Taxation," Ontario Commission, 1905.
WEST, MAX. The Inheritance Tax, Chap. VII, " Inheritance Taxes in the
United States," and Chap. IX, "Economic Theory of the Inheritance
Tax."
BOOK IV
HISTORY OF ECONOMIC THOUGHT
CHAPTER XXXVI
HISTORY OF ECONOMIC THOUGHT
The Development of Economic Thought. If society were not
progressive, history would be of comparatively little value. The
study of the present would give us all the essential facts needed to
understand society, and, problems once settled or institutions once
explained, the work would not have to be done over again. All
this, however, is the very contrary of the truth, so contrary, indeed,
that one of the most difficult things that either the scientist or the
statesman and reformer has to do is to overcome this idea that
institutions are fixed. Society moves but slowly, to be sure, and
its development is so much slower than that of the individual that
he easily overlooks its changes altogether.
The relation is much like that of a tourist to a glacier. He
climbs nimbly over its rigid mass with as little sense of under-
lying movement as when he climbs the mountain itself. He maps
out its confines and its jutting peaks with as much accuracy as the
rest of the landscape. He returns to-morrow and next year and
sees no important changes, and so thinks his investigation is com-
plete. But let a century elapse, and his map is wholly wrong.
Another observer stumbling upon it wonders that a man could
have made such blunders, and makes his map with painstaking
exactness. But he may be as wrong as the first; indeed, he is as
wrong unless he has discovered the cause of the discrepancy. The
glacier moves. This slow but constant and resistless motion is
the cause of every seam and crevasse, of the huge piles of bowlders
at the sides and base, in short, of the great landmarks upon the
map. The tourist may disregard it, but not the engineer who
shapes the interests of a remote posterity.
The social sciences have a similar experience. Map succeeds
map, each claiming that former maps are false, and assuming that
2u 657
658 OUTLINES OF ECONOMICS
conditions are fixed and that present and local explanations apply
to all times and places, until finally the discrepancy is explained
by the great law of social movement, which in turn becomes the
object of investigation. When this movement is discovered, a new
importance attaches to past explanations. While they may have
made the mistake of supposing that their conclusions were of per-
manent and universal application, they contain much valuable
observation, from which we may discover the laws of progress.
Of course these maps of society have been imperfect much
more so than maps of glaciers. The facts are so complex, and
men are so influenced by their particular environment, that no one
man ever sees all the facts or arranges them in their true relations.
Nevertheless, these observations have great value to us, and their
onesidedness is usually apparent. Moreover, it is the very dis-
covery of these limitations which makes our own thought broader
and more comprehensive.
Our study of history thus has two phases, never separable in
practice, though distinct in character, the history of economic
life and the history of economic thought. With the former our
study began, and its importance has been easily felt. The latter
was reserved until the close. No sound system of economic
thought can be built up without taking account of past systems.
The thought of the present must master the thought of the past if
it would be better than the thought of the past.
Economic Ideas in the Ancient World. The assertion is some-
times made, or at least the impression is frequently given, that no
economic thought existed until Adam Smith. This impression is
erroneous, and derives its plausibility from the fact that before
Adam Smith economic subjects were treated either disjointedly
and in a monographic way, or else in connection with ethics and
political philosophy. But in treating economics in connection
with ethics and politics, the older writers were merely following an
instinctive method of dealing with economic truths, to which in a
certain degree later writers are returning. Indeed, if we are to
derive the most possible benefit from this brief survey of the devel-
opment of economic thought, it is necessary to begin many cen-
turies before Adam Smith, with the Greeks.
HISTORY OF ECONOMIC THOUGHT 659
The Greeks. The three writers among the Greeks most inter-
esting to the economist are Plato, Aristotle, and Xenophon. Both
Xenophon and Aristotle (or, more probably, some unknown dis-
ciple of Aristotle) have treatises upon the specific subject of (Eco-
nomics, but these are devoted principally to domestic economy, or
the management of the household; and the more important eco-
nomic ideas of the Greek writers are derived from their works
which deal primarily with political and ethical subjects.
Plato describes a Utopia in his Republic. His aim was to picture
an ideal society in which the ills of society were to be corrected by
a communistic State, and he included a communism even of wives
and children, going farther than modern communists. The com-
munism of Plato admitted, strange as it may seem, slavery, on
which his social superstructure indeed rested as a base. The Laws
of Plato is a more practical work. It aims to present not the best
possible state, but only the second best, and deals to a greater
extent with existing institutions.
Aristotle's principal work for us is the Politics, and it is indeed
one of the most remarkable books in the world's history. Its in-
fluence is strongly felt to-day, for it was carefully studied by theo-
logians of the middle ages, and through them entered into the
thought and life of their time; and the thought and life of their
time can be seen by the careful student to have entered in a thou-
sand ways into the institutions of the twentieth century. Glad-
stone said the Politics of Aristotle was one of the three books from
which he had learned most.
While Plato tacitly accepted slavery, Aristotle actively defended
the institution of slavery, describing the slave as an "animated
tool," and insisting that slave labor was necessary in order that the
ruling classes might have the leisure for statecraft, art, and litera-
ture. Both Plato and Aristotle, also, fully appreciated the advan-
tages of the division of labor, and understood, in consequence,
that a certain amount of traffic and exchange are necessary. But
both writers shared the common prejudice against trade and com-
merce; what one man gained in exchange, they thought, some
other man lost; and to live by trade was in their eyes despicable.
Aristotle, moreover, defended the institution of private property,
660 OUTLINES OF ECONOMICS
and formulated surprisingly accurate ideas about money and its
functions; but he condemned interest taking because, as he ex-
pressed it, money is barren.
Perhaps the most characteristic quality of Greek economic
thought, speaking generally, is the thorough subordination of eco-
nomic to ethical and political considerations. The object of life,
in their view, was self-knowledge or self-realization, not the acqui-
sition of riches, and they refused to regard wealth as an object of
fundamental importance to either the individual or the State.
Plato, indeed, in certain parts of his writings, defends the ascetic
idea that human wants are to be satisfied, not by the improvement
of productive processes, but by the repression of those wants them-
selves.
The Romans. While the economic institutions of the Romans
and the manifestations of their character in their economic life
will repay investigation, they were not remarkable for independent
thought. Their economic ideas, like their philosophical doctrines,
were borrowed from the Greeks, and show the same general char-
acteristics which the ideas of Plato and Aristotle do. Commerce
and trade were held in contempt, particularly when carried on in a
small way. Interest taking was by some thought to be "as bad
as murder." Agriculture, on the other hand, was esteemed to be
worthy of the noblest citizens, and a "return to the soil" in later
Roman times was frequently recommended as a cure for the pre-
vailing degeneracy. Pliny said the great estates, the latif undid,
together with slave labor and the destruction of the small inde-
pendent farmer, caused the downfall of Rome. Among other agri-
cultural problems discussed by the Romans were those of intensive
versus extensive culture, and slave versus free labor.
The jurists are, however, the most important of all. Whatever
may be its imperfections, the Roman law, the corpus juris civilis,
is the most remarkable legal system the world has ever seen and
for training in careful and accurate statement is unsurpassed.
Probably, as a training for economic studies, Roman law is among
the most valuable branches of learning. It gives us also invaluable
information about the economic institutions and measures of Rome.
Christianity. To the economic thought of the time Chris-
HISTORY OF ECONOMIC THOUGHT 661
tianity brought the revolutionary ideas of the honorableness of
toil and the equality of men before God. The philosophy of the
Stoics had brought analogous ideas to the attention of the re-
stricted intellectual world of the day, but Christianity popularized
these ideas. The clergy were encouraged to earn their livelihood
by manual labor, and laymen were exhorted to free their slaves as
soon as they had become Christians. With respect to money and
trade, however, the effect of Christianity was to strengthen and im-
press the teachings of Aristotle.
The Middle Ages. As the power of the Church increased, its
economic ideas found more formal expression in the treatises of
the schoolmen and mediaeval theologians who expounded the
church or canon law. Indeed, in the corpus juris canonici we
have a definite system of economic thought which, while it was
largely theoretical and intended originally for the ecclesiastical
courts, came in time to be widely applied in secular affairs through
the power of the confessional, the pulpit, and the wide jurisdiction
of the ecclesiastical courts.
The doctrines of the canonists were derived, in part, from bib-
lical injunctions against usury and the pursuit of wealth. The
early Christian fathers frequently went so far as to condemn private
property and set up the ideal of communism among the faithful.
But this was only an ideal, and private property was early recog-
nized as a necessary evil resulting from the fall of man. This
ideal, however, was powerful enough to keep alive the doctrine
that the maintenance of the poor was not a matter of philanthropy,
but a binding obligation, in the words of Thomas Aquinas, the
most distinguished canonist, a debitum legate.
Following the philosophers of Greece and Rome, and in sym-
pathy with the scriptural attitude toward wealth, trade and com-
merce were regarded as greatly inferior to agriculture and handi-
work as a source of livelihood. It was still believed that what the
seller made by trade the buyer necessarily lost. As commerce
developed, however, trade had to be recognized by the Church.
In doing so, the canon writers formulated the doctrine of justum
pretium, that every commodity has a just price, or value, which it
is sinful for the seller to exceed. The modern trades-union doc-
662 OUTLINES OF ECONOMICS
trine of a fair wage, and the decisions of our courts concerning rea-
sonable charges for gas, railway services, etc., illustrate the hold
which ethical ideas of this sort have even at the present time.
According to a very general idea, the just price of an article is
the amount required to enable its producer to live in accordance
with the accepted standard of living of his class.
The next most important economic doctrine of the canonists
was the prohibition of usury, which originally signified any inter-
est, not necessarily excessive interest, on a loan. The argument
against interest was based upon scriptural strictures against usury,
and upon Aristotle's argument that money is barren. Interest
taking by the clergy had been prohibited as early as the fourth
century; but in 1311, at the Council of Vienna, interest was pro-
hibited " absolutely and universally," regardless of the civil law;
and by the middle of the fourteenth century, the prohibition of
interest had, in many places, been incorporated into the civil law.
Little by little, however, the Church was forced to change its atti-
tude, and in the middle of the sixteenth century (1545) a statute
was passed in England legalizing an annual interest rate not in
excess of 10 per cent. By this time the teachings of the canonists
were fast giving way to the doctrines of mercantilism.
Economic Ideas in Modern Times. Before the close of the
sixteenth century, the temporal power of the Church had been
undermined by the development of the great modern monarchies,
and in economic thought religious considerations were replaced by
political necessities. The problem of the Church the universal
establishment of the Kingdom of God upon earth gave way to a
newer problem the maintenance and aggrandizement of rival
states. The latter were in pressing need of ready money with
which to build navies and support armies. How to increase public
revenue and national wealth became the absorbing questions of
the time.
Mercantilism. The mercantile system, also called Colbert-
ism, restrictive system, and commercial system, obtained from
the early part of the sixteenth century until late in the eighteenth
century, and its influence is still felt. Mercantilism is not, strictly
speaking, the product of a school of political economists, but
HISTORY OF ECONOMIC THOUGHT 663
rather the name given to that economic policy of statesmen and to
those detached economic views of writers which prevailed during
this period. Most prominent among the statesmen who were
mercantilists may be named Colbert, of France, Frederick the
Great, of Prussia, and Cromwell, of England. Serra, an Italian,
early in the seventeenth century, presented a moderate and sys-
tematic statement of their views in a work entitled A Brief Treatise
on Causes which make Gold and Silver abound where there are
no Mines. Thomas Mun, in England, a generation later, wrote
a valuable treatise from the standpoint of the mercantilists, called
England's Treasure by Foreign Trade: or the Balance of our Trade
the Rule of our Treasure, while Sir James Steuart's Inquiries into
the Principles of Political Economy, published in 1767, may be
regarded as closing the development of the theory of mercantilism.
The principal characteristics of mercantilism the efforts to
increase the stock of precious metals within the country, to main-
tain a favorable balance of trade, to increase the population and
foster manufactures, if necessary at the expense of agriculture
have been described elsewhere, and need not be repeated at this
point. In attempting to apply these theories, however, the states-
men of this epoch instinctively turned to that instrument the
law with whose use they were most familiar, and statutory
restrictions were multiplied until mercantilism in one sense be-
came practically synonymous with governmental interference.
Toward the end of the eighteenth century, however, the commer-
cial position of England, for example, became so strong that many
of her industries found themselves crippled and confined by the
very laws which had protected their infancy, and a reaction
against mercantilism set in. The reaction, naturally, took the
form of a movement in favor of agriculture and against govern-
mental interference in economic and industrial affairs. In obedi-
ence to the needs of a new epoch, political economy lent itself to a
propaganda in support of the doctrine of industrial liberty.
The Physiocrats. The reaction against mercantilism found
its first thorough and scientific expression at the hands of the
French Physiocrats. Quesnay, a physician, Gournay, a merchant,
and Turgot, the statesman, are their three principal authors. Po-
664 OUTLINES OF ECONOMICS
litically, the physiocrats taught the doctrine of natural laws and
rights, and as a consequence loudly proclaimed the maxim of
laissez-faire, that is, that the government should not interfere with
private enterprise. Economically, they exalted the importance
of agriculture, and maintained that manufactures and commerce,
which merely change the form or position of raw materials, are
barren and unproductive (though useful when subordinated to
agriculture) ; but that agriculture yields a net surplus produit
net over and above the expenses of production. The physio-
crats must thus be credited with originating the fertile economic
doctrine of surplus value a reward or premium appearing in
production for which nature rather than man is responsible, and
which is not required to induce men to put forth the effort neces-
sary to produce wealth.
Many of the other doctrines of the physiocrats follow logically
from the primacy which they accorded to agriculture. Since agri-
culture is the sole ultimate source of wealth, they maintained that
the revenue of the State should be raised by a single direct tax
the impdt unique levied upon land. All taxes must, they
thought, in the end come out of rent anyway; and it was better
that the landlord should pay them at once instead of waiting until
they had passed through five or six hands and various profits had
added to their amount. Naturally the physiocrats were ardent
champions of free trade. They encouraged also the consumption
of agricultural products, "in order that the produit net might be
increased," and were generous champions of the importance and
rights of the downtrodden peasantry. " Pauvres paysans, pauvre
royaume; pauvre royaume, pauvre roi," was the motto of Ques-
nay's Tableau Economique, the most important treatise of the
physiocratic school.
Adam Smith. In 1776 Adam Smith published his Inquiry
into the Nature and Causes of the Wealth of Nations, the most influ-
ential economic treatise ever written. " The life of almost every-
one in England, perhaps of everyone," said Bagehot, "is different
and better in consequence of it." His writings are found to be
very similar to those of the physiocrats, but further developed and
modified by his Scotch training and habit of mind. We find in
HISTORY OF ECONOMIC THOUGHT 665
Adam Smith the doctrines of free trade, non-interference, and
natural laws, yet all stated more guardedly. Although he does
not regard agriculture as exclusively productive, he does show a
partiality for agriculture, for in this branch of production, he says,
nature labors along with man. He emphasized the importance of
permitting each individual to follow his own self-interest as a
means of promoting national prosperity, but he was not unmindful
of the existence of altruistic motives in mankind. He accords full
recognition to the motives of sympathy and kindness in his Theory
of Moral Sentiments. But the net result of Smith's teaching was
to strengthen and emphasize the laissez-faire trend of economic
thought in his time. " Two conceptions," said Arnold Toynbee,
"are woven into every argument of the Wealth of Nations, the
belief in the supreme value of individual liberty, and a conviction
that man's self-love is God's providence, that the individual in
pursuing his own interest is promoting the welfare of all."
Economic Thought in the Nineteenth Century. The Classical
School. The economic philosophy which prevailed during the
first half of the nineteenth century is variously designated as the
classical, Ricardian, English, or orthodox school. The earlier
authors of this period were Jeremy Bentham (1738-1 842), Thomas
Robert Malthus (1766-1834), David Ricardo (1772-1823), James
Mill (1773-1836), and John Ramsay McCulloch (1770-1864).
In all of these writers we find the utilitarian philosophy, a deduct-
ive method, and the feeling that the outlook for the mass of the
laborers was not a hopeful one. They elaborated economic prin-
ciples, supposed to be good for all times and places, with the posi-
tiveness that one expects to find only in the mathematical or
physical sciences.
Bentham's great work was the formulation and propaganda of
the utilitarian philosophy, with its famous first principle or goal
of social action the greatest happiness of the greatest number.
Malthus' s principal contribution, contained in his celebrated
work, The Theory of Population, has already been discussed.
While Malthus was himself a particularly charitable and benevo-
lent friend of the working classes, his doctrine of population con-
tributed more than any other single thing to make the political
666 OUTLINES OF ECONOMICS
economy of the Classical School harsh and gloomy. It seemed
to say that although wages were low they could be no higher,
because if by some fortunate chance wages increased, population
was sure to multiply until the wage was forced back to the old
level. Poor relief and trades-union activities were both useless.
The woe of the poor was due to their own lack of foresight, and
could be removed by the poor alone. It was taught "that he who
brought children into the world without adequate provision for
them should be left to the punishment of nature." The responsi-
bility of poverty was thus thrust upon the poor themselves; the
rich were soothed with the assurance that they were not primarily
responsible for the condition of affairs; and political economy
was diverted from the consideration of its truest problem the
amelioration of poverty to a discussion of the problems con-
nected with capital and trade. The importance of the Malthusian
proposition in economic philosophy in the first half of the nine-
teenth century can scarcely be exaggerated.
Ricardo was perhaps the first economist who adequately realized
the importance of the problem of the distribution of wealth. The
backbone of his distributive system was the Malthusian propo-
sition. Ricardo believed that as population increased, society
would be forced to resort to poorer and poorer soils in order to
obtain food; and as this took place an increasing share of the
product of industry would go to the landlord in the shape of eco-
nomic rent. The division of the remaining product between labor
and capital, in Ricardo's view, was determined largely by the "iron
law of wages"; that is to say, the laborer would receive enough to
purchase the necessaries and conveniences required to support
him and his family in their customary style of living, while the
residue would go to capital in the form of interest and profits.
Profits were thus the "leavings of wages." With the passage of
time and the settlement of a country, then, Ricardo's theory of
distribution taught that rent would absorb a larger and a larger
share of the product, wages about the same amount, while profits
would dwindle both absolutely and relatively.
Ricardo's principal work is called Principles of Political
Economy and Taxation. It was published in 1817, and in it
HISTORY OF ECONOMIC THOUGHT 667
Ricardo elaborates, although he did not originate, the usually re-
ceived doctrine of rent, which, modified and developed, is the one
presented in this book. His ideas in general have a markedly
pessimistic tinge. Rent, he said, is due to the niggardliness, not
to the bounty, of nature; and his theory of distribution emphasized
the natural diversity of interest between wage receivers and profit
makers, and the antagonism between the interests of landowners
and all other classes of society. Personally he was a kind man,
and sincerely devoted to the advancement of humanity. Ricardo
is remarkable for his extreme development of the abstract deduct-
ive method, and it is noteworthy that this development is not in
the writings of a professional scholar, but in the work of one of
the most successful bankers and brokers of his day. Socialists
claim that developing still farther, or to their logical outcome, the
teachings of Ricardo, they arrive at socialism.
John Stuart Mill, who lived from 1806-1873, closed one period
in the development of economic science and began another in Eng-
land. He started as a thoroughgoing follower of Ricardo, pre-
served the old doctrines of value, rent, and profits, and advocated
laissez-faire as a general principle of political expediency. But
in his later years Mill advocated the diffusion of property through
the regulation and taxation of inheritances, indorsed the appro-
priation by the State of the future unearned increment of land, and
emphasized an important distinction between the production and
distribution of wealth. " The laws and conditions of the produc-
tion of wealth," he said, "partake of the nature of physical truths.
There is nothing optional or arbitrary in them. ... It is not so
with the distribution of wealth. That is a matter of human insti-
tutions solely. The things once there, mankind, individually or
collectively, can do with them as they like. . . . The distribution
of wealth, therefore, depends upon the laws and customs of society.
The rules by which it is determined are what the opinions and
feelings of the community make them, and are very different in
different ages and countries; and might be still more different, if
mankind so chose."
The old and the new doctrines found in Mill's Principles of
Political Economy do not harmonize, however, and the result is a
668 OUTLINES OF ECONOMICS
work one of the most valuable of modern times, yet full of incon-
sistencies. Nevertheless, Mill will always be regarded as the
culmination of the school usually known as the English deduct-
ive or classical school. Most of the work of the school was deduct-
ive; that is, they reasoned by singling out a few main facts of the
external physical world and human nature familiar to all, and
showing how men must act under the guidance of these laws.
None of these economists pretended that the few laws which they
considered were the whole of human nature, though they have
sometimes been interpreted as if they did so; but they thought that
the great multitude of motives which influenced men were too
complex to be analyzed, and only one or two (chiefly self-interest)
could "be reduced to any assignable law." It is plain that such a
system of economics was highly ideal and never realized in actual
life. The exceptions to its rules seemed more numerous than the
cases to which the rules applied. Men could not long be content
with an economics which told them one thing, while life constantly
told them something different, and often very different. The result
was a reaction toward a fuller recognition of the real facts of life.
Socialism. Mill's change of heart resulted partly from his
study of the socialist writers, who voiced the earliest and most
thoroughgoing protest against the views of the classical economists.
Modern socialistic doctrine may conveniently be dated from
William Godwin's Inquiry concerning Political Justice, the first
edition of which appeared in 1793. Godwin and the early French
idealists and communists Cabet, Saint-Simon, Fourier, etc.,
began the attack on the ethical and political views of the orthodox
political economy. Later the attack was continued in a some-
what more practical and realistic way by writers such as Wil-
liam Thompson and Robert Owen in England, Bazard and Louis
Blanc in France, Rodbertus, Lasalle, and Marx in Germany. The
foundation of classical political economy was laissez-faire, and its
doctrinal structure was built around the system of private capi-
talistic enterprise. Socialism in essence was a thorough protest
against laissez-faire and the private ownership of property.
Pierre LeRoux used the word "socialism" in 1838* with the
very purpose of expressing the antithesis of individualism.
1 It was used before this in England by the followers of Robert Owen.
HISTORY OF ECONOMIC THOUGHT 669
In recent times, largely under the influence of Karl Marx,
socialism has acquired a distinctive economic theory of its own.
Marx, in his work on Capital, is apparently as abstract, deductive,
and pessimistic as any of the classical school, but at bottom his
whole theory was directed against those fundamental institutions
of our social order which the classical economists took for granted.
Marx has been credited by some as the discoverer of the material-
istic or economic interpretation of history, and the whole tendency
of the modern scientific socialists has been to emphasize the evo-
lutionary standpoint.
The Sociologists. Among other influences which broadened
Mill's conception of economic science, and induced him to temper
the rigor of his early teachings, were the works of Auguste Comte
(1798-1857), the founder of modern sociology. Comte was espe-
cially severe in his criticism of the methods of the classical econo-
mists. He denied, in particular, that it is possible to develop a
helpful science of economics distinct from history, ethics, and
politics. Not only must these fields, he maintained, be cultivated
in common, but the work must be done by inductive, as distinct
from deductive, methods. To the classical assumption that a uni-
versal science of economics could be formulated, true for all
times and places, he opposed the theory that there is in society an
ordered change or evolution, and that the capitalistic stage, to
which the classical economics conformed, must be studied in con-
nection with the past and the future. Economics, he particularly
insisted, cannot be divorced from history.
The Historical School. This particular line of thought was
taken up in Germany about 1850 by three young Germans,
Roscher, Knies, and Hildebrand, who vigorously assailed the doc-
trines of the classical school. They went back to the old premises
self-interest, private property, demand, and supply and
traced out the historical development of economic life, coming to
the conclusion that economic policies were not absolutely, but only
relatively, true. They denied that economic science can discover
laws which hold true for all times and all places. They empha-
sized the importance of the inductive method, of minute investiga-
tions into facts, and the study of legal institutions, custom, and
670 OUTLINES OF ECONOMICS
ethics in their relation to economic life, while most members of the
school entertained a strong sympathy for state policies of reform.
Among the later writers of this group we may mention especially
Gustav Schmoller.
Owing to the political ferment in Germany during the infancy
of the historical school and the formation of the German Empire
when this reaction against the classical economists was at its height,
German political economy of the last half of the nineteenth century
was impregnated with a striking nationalistic spirit which sepa-
rated it even further from the cosmopolitanism of the English
writers. The creation of a new state is almost invariably attended
by the enactment of restrictive legislation, looking to the amalga-
mation of the diverse elements incorporated into the new state
and the protection of its industries from foreign competition.
Laissez-faire, under these conditions, is particularly difficult
to maintain. The *new national economy of Germany seemed to
voice these political necessities. Like the classical economy of Eng-
land, it was a creature of its own time and its own environment.
The Economic Optimists. The classical English economists
have often been called pessimists. This is too strong a term, in-
asmuch as they all saw hope for improvement. What can be said
is that they developed pessimistic tendencies. Take it as we will,
the Malthusian doctrine of population is tinged with pessimism,
and so also are the Ricardian ideas of the action of nature as seen
in the rent of land and in his scheme of distribution. In oppo-
sition to English economists, there was developed elsewhere, about
the middle of the nineteenth century, a scheme of thoroughgoing
economic optimism, and this was presented in a more unqualified
way by Frederic Bastiat (1801-1850), than by any one else; so
much so that economic optimism at once brings to the mind of any
economist familiar with the history of economic thought the name
of Bastiat. An ardent agitator for free trade and a popular pleader
for the existing order against the attacks of socialists and anarchists,
he was the author of numerous pamphlets, and at the time of his
death was engaged on a systematic treatise entitled Economic
Harmonies (Harmonies Economique), of which the first volume
only was completed. According to Bastiat, there is no such thing
HISTORY OF ECONOMIC THOUGHT 671
as economic rent. Consequently, the landowner is not the recipi-
ent of an unearned income. What we call rent is simply a return
for past investments of capital. The profits on capital also, accord-
ing to him, are simply a return on past labor, and relatively towages,
a diminishing return. For it is a peculiarity of labor stored up in
those products which we call capital, that it continually diminishes
in value as compared with present labor. In other words, wages
are continually gaining relatively as compared with the profits of
capital. Capital may gain absolutely on account of the increase
in the amount of capital. Wages gain both absolutely and rela-
tively. Value gives us the ratio of exchange between services.
Economic gain is in proportion to economic service only that labor
is progressively a gainer on account of the fact that man's present
services (as seen in labor) increase in value as compared with
man's past services as accumulated in capital. To give a con-
crete illustration, the handle of an ax would be capital the re-
sult of stored-up past labor. It is likely to diminish in value con-
tinually when expressed in terms of present labor services, because
men are continually learning how to make better and better ax
handles.
As Bastiat denied the existence of pure economic rent in the
Ricardian sense, he also denied the Malthusian theory of popula-
tion, holding that no proof could be adduced of a tendency of popu-
lation to press upon the means of subsistence. The evils that we
experience come, according to Bastiat, from man's interference
with natural harmonies. Nature works things out well, and this
is the best of possible worlds if we would only let nature have her
way.
Henry C. Carey, the American contemporary of Bastiat, held
similar doctrines, and was apparently the more original man. If
either one borrowed from the other, it must have been Bastiat.
Probably neither one was guilty of any conscious plagiarism.
Carey, however, was not so good a representative of economic
optimism as Bastiat, because Carey believed that a protective
tariff was a necessity, and this implied the necessity of social action
to establish a system of economic harmonies. Carey's general
views otherwise are treated below.
672 OUTLINES OF ECONOMICS
The writings of the optimists had a considerable influence for a
time in Germany, where they were developed and applied with
uncompromising logic by men like Prince-Smith, Faucher, and a
considerable number of others who were influential in the press
and practical affairs rather than in academic life. In the United
States these writings have had a great deal of influence upon a
number of early writers, among whom we may mention especially
the late Arthur Latham Perry, long professor in Williams College,
and Edward Atkinson, the well-known statistician and writer of
Boston.
Early American Economists. The reaction against the Eng-
lish economists, it is interesting to note, began earlier in the United
States than in England or Germany. In the early part of the
nineteenth century, emphatic dissent from the English doctrines was
voiced by a group of publicists, among whom may be mentioned
Alexander Hamilton, Daniel Raymond, Matthew Carey, Hezekiah
Niles, and Frederick List. Hamilton's work and views are well
known; Niles and Matthew Carey were pamphleteers of consider-
able note in the first third of the nineteenth century; and List,
who, in the view of some authorities, planted the seeds of the
German historical school, unquestionably obtained his distinctive
nationalistic views about political economy in the United States,
and first formulated them in his Outlines of American Political
Economy, published in 1827.*
Daniel Raymond, however, of all the American writers noted,
is the least known, and yet the author of the first American treatise
on political economy in which a distinctively American system of
economic thought is suggested. Raymond's first book, Thoughts
on Political Economy, appeared in 1820; a second edition, under
the title Elements of Political Economy, appeared in 1823, and the
latter was reprinted with slight changes in 1836 and 1840. The
essence of Raymond's system is found in his conception of wealth.
Wealth, he maintained, is not an aggregate of exchange values
but the opportunity to acquire the material comforts of life by
1 List returned to Germany and was there a forceful writer and agitator for
German unity, and is identified rather with the history of economic thought of
Germany than with that of the United States.
HISTORY OF ECONOMIC THOUGHT 673
labor. The English political economy, in Raymond's view, was
a study of private as opposed to political or national economy.
Raymond emphasized the distinction between individual and
social wealth, and maintained that the laws of wealth laid down
by Adam Smith were untrue of a nation conceived as a unit. The
interests of particular individuals, or particular classes, he argued,
do not always coincide with the interests of the nation as a whole,
and the latter, he concluded, will be best advanced by developing
all the national powers to their widest possible extent. He was
thus a warm advocate of protection as opposed to laissez-faire.
Raymond's views had so impressed Matthew Carey that he
offered to support a chair of political economy at the University of
Maryland if the University would permit Raymond to fill it. Mat-
thew Carey's son, Henry C. Carey (1793-1879), by far the most
influential of the early American economists, was in like manner
probably influenced by the teachings of Raymond. Carey was
not only an earnest champion of protection, but an indefatigable
critic of classical economic doctrines. He denied the truth of
the Malthusian principle and the law of diminishing returns;
objected to the Ricardian theory of rent; and maintained that the
value of a commodity depends upon- the cost of reproduction
rather than the cost of production, as was laid down in the classi-
cal theory of value. Carey entertained a concept of wealth very
similar to that of Raymond, and in some parts of his work adopted
methods of investigation which brought him in close touch with
the sociologists and the German historical economists. The key-
stone of his economic system is the doctrine of association. The
increasing mastery of man over nature, or the increase of wealth,
Carey held to be dependent upon the increasing efficiency resulting
from a compact, homogeneous population, in which agriculture
and manufacture are conducted side by side, in which the home
market idea is carried out in the most complete way, and in which,
to be brief, the association of industrial and social units is most
intense and intimate. It can be readily understood why the eco-
nomic philosophy of Carey was so inimical to free trade at every
point.
The Austrian School. The protests against the classical econo-
91
674 OUTLINES OF ECONOMICS
mists which we have been considering were directed largely
against the narrow scope and deductive methods of the classical
school. The Austrian economists represent a reaction not against
their methods, but against the conclusions, and particularly against
the theory of value of the classical school. The great contribution
of the Austrian school is the marginal utility theory of value which
has been most assiduously applied in economic analysis by a group
of Austrian economists, among whom may be mentioned Pro-
fessor Menger, Wieser, Sax, and Bohm-Bawerk. But the marginal
utility theory of value was advanced almost simultaneously, about
1871, by the English economist Jevons, the Austrian economist
Menger, and the Swiss economist Walras. 1
The Austrians have been a leading force in producing what is
not inaptly termed a renaissance in theory, although, as stated,
they indorsed the deductive and abstract methods of the classical
economists. The classical theory put the emphasis upon supply
or the conditions of supply, maintained that cost of production
determines value, and found the ultimate measure and explanation
of value in the pain and sacrifice of labor. The Austrians main-
tain that utility, the pleasure or satisfaction derived from con-
sumption, is the ultimate cause and measure of value; they empha-
size demand as the English economists emphasized supply; and
hold that value determines cost of production and not the cost
of production, value. Capital, they conclude, receives its value
from the finished product instead of giving value to that product.
The work of this school has tended to put the consumer in the place
primarily occupied by the capitalist as the center of discussion in
economic theory.
Present Condition of Economic Thought. The net effect of all
these protests against the classical English economists has been
to introduce a welcome catholicity into the methods of economic
investigation. The historical school emphasized the evolutionary
standpoint and the necessity of minute investigation of the facts
of industrial life, while the work of the Austrians operated to
1 In reality the marginal utility theory had been explained many years before
this by a number of obscure writers whose ideas, however, never affected the
main current of economic thought.
HISTORY OF ECONOMIC THOUGHT 675
strengthen and explain the necessary place of deduction in eco-
nomic analysis. To-day the ordinary economist employs either
method, or both, as the subject-matter demands, and the contro-
versy about methods has become a thing of the past. With respect
to the theory of value, neither supply nor demand, neither cost nor
utility, neither the capitalist nor the consumer, is now said to exert
a predominating influence in the determination of values. The
Austrian school, it is now understood, supplied a needed correct-
ive without revolutionizing the earlier theory of value. The Aus-
trians themselves are seen to have been guilty of laying exaggerated
emphasis upon the consumer's influence upon value and price. 1
So, similarly, with respect to the scope of economics. The
attempt of the classical economists to isolate an "economic man"
ruled entirely by an enlightened self-interest and unaffected by
political, ethical, and humanitarian impulses, is recognized to have
been a mistake. But economics has never given itself to a com-
plete study of politics or ethics. It considers ethical and political
phenomena when these cannot be dissociated from economic
phenomena, but insists, nevertheless, upon the separation of eco-
nomics from ethics, politics, and sociology. We recognize that
these fields are not wholly or clearly differentiated, but we recog-
nize just as clearly that a division of labor is necessary if accurate
results are to be achieved. Furthermore, this division of labor is
showing itself progressively within the limits of economics itself,
as it has shown itself in all growing sciences. Indeed, the present
condition of economic thought was so accurately predicted by
Professor Jevons in 1876, that his words written in the midst of
the controversy among the adherents of the deductive, historical,
mathematical, and sociological methods of investigation may
well be employed to picture the condition of the science of eco-
nomics as it exists to-day:
"As I have previously explained, the present chaotic state of
economics arises from the confusing together of several branches
of knowledge. Subdivision is the remedy. We must distinguish
the empirical element from the abstract theory, from the applied
1 And there is reason to believe that their analysis was based in some degree
upon a faulty psychology.
676 OUTLINES OF ECONOMICS
theory, and from the more detailed art of finance and administra-
tion. Thus will arise various sciences, such as commercial sta-
tistics, the mathematical theory of economics, systematic and
descriptive economics, economic sociology, and fiscal science.
There may even be a kind of cross subdivision of the sciences;
that is to say, there will be division into branches as regards the
subject, and division according to the manner of treating the
branch of the subject. The manner may be theoretical, empirical,
historical, or practical; the subject may be capital and labor,
currency, banking, taxation, land tenure, etc., not to speak of
the more fundamental division of the science as it treats of con-
sumption, production, exchange, and distribution of wealth. In
fact, the whole subject is so extensive, intricate, and diverse, that
it is absurd to suppose it can be treated in any single book, or in
any single manner." 1
QUESTIONS
What were the economic doctrines of the canonists?
How did the physiocrats differ from the mercantilists?
What is Adam Smith's relation to the physiocrats?
Characterize the "classical" school.
How did Ricardo use the Malthusian proposition ?
6. In what respect is Mill's thought a turning point in economic theory?
7. How is the socialist thought related to the theories of the classical
writers ?
8. In what did the protest of the historical school against the classical
school consist?
9. Characterize the economic thought of Bastiat?
10. What are the characteristics of the Austrian school?
REFERENCES
ASHLEY, W. J. Introduction to English Economic History and Theory.
CANNAN, E. History of Theories of Production and Distribution.
INGRAM, J. K. History of Political Economy.
PALGRAVE, R. H. I. Dictionary of Political Economy (articles on various
economists).
PRICE, L. L. History of Political Economy in England.
1 Jevons, Theory of Political Economy, 3d ed., pp. xv-rvi.
APPENDIX A
STATISTICS OF PUBLIC EXPENDITURES
It will be observed that the payments in Table II are larger than in
Table I. This is because, as regards Table I, subtractions have been made
of certain items as follows :
(1) Payments on account of the public debt;
(2) premiums on bonds purchased and exchanged ;
(3) internal revenue and customs rebates and other funds ;
(4) interest on bonds of Pacific railroads ;
(5) District of Columbia expenditures (agency account) ;
(6) Soldiers' Home permanent fund (transfer).
The exclusion of these payments removes from the aggregate the greater
portion of those which under the census classification are designated tem-
porary and transfer.
Table III, giving the expenditures of the principal divisions of the United
States, helps us to understand the activities of the various main parts of
the United States as revealed in public expenditures ; and it also helps
us to understand the character and degree of evolution in the various
parts of the country, and the height to which civilization has ascended in
these parts, although here, again, the student must be cautioned that in
public expenditures we have only one of many indications of the nature
and growth of civilization, yet one of the most important.
North Atlantic division includes: New England and Southern North Atlantic
States.
New England includes: Maine, New Hampshire, Vermont, Massachusetts,
Rhode Island, Connecticut.
Southern North Atlantic includes: New York, New Jersey, Pennsylvania.
Northern South Atlantic includes : Delaware, Maryland, District of Columbia,
Virginia, West Virginia.
Southern South Atlantic includes: North Carolina, South Carolina, Georgia,
Florida.
Eastern North Central includes : Ohio, Indiana, Illinois, Michigan, Wisconsin.
Western North Central includes: Minnesota, Iowa, Missouri, North Dakota,
South Dakota, Nebraska, Kansas.
Eastern South Central includes : Kentucky, Tennessee, Alabama, Mississippi.
Western South Central includes: Louisiana, Arkansas, Indian Territory,
Oklahoma, Texas.
Rocky Mountain includes: Montana, Idaho, Wycming, Colorado, New
Mexico.
Basin and Plateau includes: Arizona, Utah, Nevada.
Pacific includes : Washington, Oregon, California.
6 77
6 7 8
APPENDIX A
TABLE I
SUMMARY OF PAYMENTS FOR EXPENDITURES OF THE NATIONAL GOVERN-
MENT, STATES AND TERRITORIES, COUNTIES, CITIES, AND OTHER
MINOR CIVIL DIVISIONS OF CONTINENTAL UNITED STATES : 1902
GROSS PAYMENTS
Total
$1 Til O77 222
National government
6l7,=;'?O 137
States and territories
185 764 2O 2
Counties
IO7 2(Sc 827
Cities containing over 25,000 inhabitants
d68 6?7 7AO
Cities containing over 8000 and less than 25,000 inhabit-
ants
Other minor civil divisions (estimated)
222 082 884
Duplications amount to
Payments less duplications
$1 7O4 1 2O 060
APPENDIX A
679
TABLE II
PAYMENTS AND BALANCES OF THE NATIONAL GOVERNMENT FOR THE
YEAR ENDING JUNE 30, 1903
Total payments and balance on hand at close of year .... $2,566,878,140
Balance on hand at close of year 1,310,006,031
Total payments 1,256,872,109
Payments for :
Congress 4,764,578
Library of Congress 590,668
Executive departments 13,822,313
Foreign intercourse 3,204,522
Collection of internal revenue 4,496,479
Customs service 10,210,747
Government Printing Office 5,917,410
Judiciary 7>35.74
Territorial governments 261,591
Buildings and sites (outlays) 6,610,475
Military establishment 98,286,299
Naval establishment 55>95>93
Increase of the navy (outlays) 26,667,104
Life-saving service 1,746,841
Light-house establishment 4>537F3i6
Public Health and Marine-Hospital Service 1,356,456
Harbor and river improvements (outlays) 19,590,082
Indians 12,935,168
Pensions 138,425,646
Bureau of Animal Industry, Weather Bureau, and Agri-
cultural Investigation 4,536,426
Interest on public debt 28,556,169
Postal service, including Post Office Department 139,134,510
Mints and assay offices 1,456,221
Bureau of Engraving and Printing 2,782,348
Public debt 605,641,539
Premiums on bonds purchased and exchanged 10,907,120
Internal revenue and customs rebates and other refunds 16,881,955
Interest on bonds of Pacific railroads 180
Grants to District of Columbia 3,415,999
District of Columbia expenditures (agency account) .. . 5,168,039
Soldiers' Home permanent fund (transfer) 743> Z 39
Miscellaneous 20,923,099
APPENDIX A
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APPENDIX B
SELECTED BIBLIOGRAPHY, COURSES OF READING, AND
SUBJECTS FOR ESSAYS, DISCUSSIONS, AND DEBATES
SOME teachers of political economy supplement text-book work
by assigned reading chiefly; others rely on questions, exercises,
and brief reports in connection with specific subjects taken up in
the class; others again prefer that the student write one or two
longer essays for the whole course. In this book specific references,
questions, and exercises have been provided in connection with
each chapter, and in this appendix are given subjects for the longer
essays. In most cases it will be desirable to limit the topics sug-
gested, and each subject will suggest a number of similar ones.
Usually the teacher will desire to make his own list adapted to the
needs of his students, but the list here given will in many cases be
of convenience where classes are large.
On methods of teaching political economy, the following refer-
ences will be found of help:
BULLOCK, C. J. Education, Vol. XI, p. 539.
CLOW, F. Economic Studies (American Economic Association), 1899.
DIXON, F. H. School Review, January, 1898.
ELY, R. T. Educational Review, Vol. 20, p. 152.
HOXIE, R. F. Journal of Political Economy, Vol. IX, p. 481.
LAUGHLIN, J. L. The Study of Political Economy, New York, 1885; also
Journal of Political Economy, Vol. 9, p. 384, and Atlantic Monthly,
May, 1896.
COMMONS, J. R. The Inland Educator, December, 1895.
THURSTON, H. W. School Review, Vol. 4, p. 604.
SUBJECTS FOR ESSAYS, DISCUSSIONS, AND DEBATES
i. THEORETICAL
I? the Supply of Land Limited ?
Is Abstinence one of the Costs of Production ?
685
686 APPENDIX B
Possible Substitutes for Competition.
One Hundred Definitions of Capital.
Can Mere Mass of Capital be the Basis of Monopoly Power?
The Wage-fund Theory.
The Balance of Trade Theory.
2. BIOGRAPHICAL AND PERSONAL
John Law and his Schemes.
Robert Owen.
Rousseau and his Social Philosophy.
Sketch of the life of Adam Smith.
Sketch of the life of J. S. Mill.
Richard Cobden.
Ferdinand Lasalle.
Josiah Warren.
Types of Modern Business Men.
3. MONEY
The Production of Gold since 1850.
The Per capita Supply of Money in the United States.
The Campaign of 1896.
The Latin Monetary Union.
The International Monetary Conferences.
Substitutes for Gold as a Standard of Value.
Illustrations of Gresham's Law.
Paper Money in the Colonies.
The Establishment of the United States Coinage System.
French Assignats.
4. BANKING
Failures among our National Banks.
The New York Safety Fund System.
Insurance of Bank Deposits.
Branch Banking.
Asset Currency.
The Origin of our National Banking System.
The Control of Trust Companies.
The Bank of England.
The Bank of France.
The German Imperial Bank.
The Canadian Banking System.
Usury and Usury Laws.
Postal Savings Banks.
APPENDIX H 687
5. THE LABOR MOVEMENT
Old Age Pensions.
Compulsory Arbitration.
Employers' Liability for Accidents.
Employment Offices.
Shall the Boycott be Legalized?
Should Injunctions be prohibited in Labor Disputes?
Should Trades Unions enter Politics?
The Statistics of Strikes.
The Trend of Wages.
Insurance against Unemployment.
Employers' Associations.
The Premium System of Wage Payment.
Trade Agreements.
The Business Management of the . . . Union.
Should Trades Unions Incorporate?
The Workingman's Attitude toward Piece Work.
The Present Status of Child Labor Legislation.
The American Federation of Labor.
Systems of Apprenticeship.
Industrial Education.
Eight-hour Legislation.
6. INSURANCE
The Beginnings of Insurance in England.
Life Insurance in the United States before 1880.
Varieties of Life Insurance Policies.
Mortality Tables.
Joint Life Insurance.
The Surplus of Life Insurance Companies.
Surrender Values.
Investments of Insurance Companies.
Expense Loading in Life Insurance Premiums.
State Insurance in New Zealand.
Insurance Legislation in the State of New York.
Fraternal Insurance.
Industrial Insurance in the United States.
Workmen's Insurance in Germany.
Employers' Liability Insurance.
Workmen's Collective Insurance.
Rate Making in Fire Insurance.
Marine Insurance.
688 APPENDIX B
7. TRANSPORTATION
History of the Erie Canal.
Economic Significance of the Panama Canal.
The Improvement of the Mississippi River.
The Granger Movement.
Railroad Pools.
Federal Safety Appliance Legislation.
Financial History of the . . . Railway Company.
Present Status of Railway Consolidation.
Methods of Railway Consolidation.
Uniform Freight Classifications.
Rate-making Powers of State Railroad Commissions.
The Interstate Commerce Act and its Amendments.
The Long and Short Haul Clause.
The Basing Point System.
Group Rates.
Expense as a Basis for Rate Making.
The Northern Securities Company.
8. CORPORATIONS
Varieties of Stocks and Bonds.
The Prices of the Stocks and Bonds of the . . . Company since 1900
Federal License or Federal Incorporation ?
History of the Standard Oil Company.
The Organization of the United States Steel Corporation.
The Control of Corporations in Massachusetts.
The International Mercantile Marine Company.
The Basis of Capitalization.
9. MONOPOLIES AND TRUSTS
Monopolies in Ancient and Mediaeval Times.
Monopolies in Seventeenth Century England.
The History of the Whisky Trust.
Control of Raw Material as a Source of Monopoly Power.
The Economies of Combination.
Effects of Trusts on Prices.
The Tariff and the Sugar Trust.
Trusts in England at the Present Time.
German Cartells.
Patents as a Basis of Monopoly Power.
The Telegraph in England.
Concentration in Banking.
APPENDIX B 689
10. INTERNATIONAL TRADE
Customs Duties in Colonial Times.
The Dingley Tariff Act.
Customs Regulations of the Treasury Department.
History of the Tariff on Wool.
The Australian Tariff Policy.
The Revival of Protectionism in England.
The Tin Plate Industry.
The Civil War and the Tariff.
A Tariff Commission.
Reciprocity.
Sources of our Leading Imports.
The Destination of our Leading Exports.
n. PUBLIC FINANCE
Federal Income Taxes.
Taxation of Inheritances in the United States.
The Assessment of Real Estate.
Franchise Taxes in New York.
License Fees in the Southern States.
Taxation of Railroads in the United States.
The Taxation of Banks.
The Taxation of Insurance Companies.
Mortgage Taxation.
Segregation of State and Local Revenues.
Federal Expenditure for Army and Navy.
Our Pension System.
12. MISCELLANEOUS
The Attempt in Germany to Control Stock Exchange Speculation.
International Sugar Conventions.
Municipal Ownership in Great Britain.
Famines in India.
Development of Scientific Forestry in the Utiited States.
Causes for the Decline in the Birth Rate.
The English Cooperative Movement.
Methods of Charitable Relief.
Future of our Coal Supply.
Shipping Subsidies.
BIBLIOGRAPHY AND COURSES OF READING
The first five books under each division of the bibliography are
recommended as an introductory course of study in that particular
690 APPENDIX B
subject. The student should become familiar with the apparatus
which a modern library provides for finding what has been written
upon the subject he is investigating. The card catalogue and the
cumulative book and periodical indexes need hardly be mentioned.
The documents of the federal government contain a vast amount of
important economic material. Thorough indexes of this material
have been prepared, and a monthly catalogue is issued by the
Superintendent of Documents, at a price of $1.10 per year. An
index of the economic material in the documents of the separate
states is being prepared under the direction of the department of
economics and sociology of the Carnegie Institution of Washing-
ton, volumes for five states having been issued or put in press.
i. GENERAL ECONOMIC THEORY
MARSHALL, ALFRED. Principles of Economics, 5th ed., London and New
York, 1907.
CARVER, T. N. Distribution of Wealth, New York, 1904.
BOHM-BAWERK, E. VON. Positive Theory of Capital (trans, by W. Smart),
London, 1891.
CLARK, J. B. Distribution of Wealth, New York, 1899.
DAVENPORT, H. J. Value and Distribution, Chicago, 1908.
HOBSON, J. A. Economics of Distribution, New York, 1900.
HADLEY, A. T. Economics, New York, 1897.
FISHER, IRVING. The Nature of Capital and Income, New York, 1906.
The Rate of Interest, New York, 1907.
FETTER, F. A. Principles of Economics, New York, 1904.
BULLOCK, C. J. Selected Readings in Economics, Boston, 1907.
TAUSSIG, F. W. Wages and Capital, New York, 1896.
SELIGMAN, E. R. A. Principles of Economics, 3d ed., New York, 1907.
SEAGER, H. R. Introduction to Economics, 3d ed., New York, 1905.
HAWLEY, F. B. Enterprise and the Productive Process, New York, 1907.
2. HISTORY OF ECONOMIC THOUGHT
SMITH, ADAM. A n Inquiry into the Nature and Causes of the Wealth of
Nations, edited by E. Cannan, 2 vols., London, 1904.
INGRAM, J. K. History of Political Economy, 2d ed., New York, 1907.
RICARDO, DAVID. Principles of Political Economy and Taxation, London,
1817.
MILL, J. S. Principles of Political Economy, London, 1848.
CANNAN, EDWIN. History of Theories of Production and Distribution, 2d
ed. r London, 1903.
APPENDIX B 691
SENIOR, NASSAU. Political Economy, London, 1872.
CAIRNES, J. E. Leading Principles of Political Economy, New York, 1874.
MALTHUS, T. R. Principles of Political Economy, ad ed., London, 1836.
JEVONS, W. S. The Theory of Political Economy, London, 3d ed., 1888.
BOHM-BAWERK, E. VON. Capital and Interest (trans, by W. Smart), London,
1890. Recent Literature on Interest (trans, by Scott and Feilbogen),
New York, 1903.
CAREY, H. C. Principles of Political Economy, ad ed., New York, 1907.
HIGGS, HENRY. The Physiocrats, London, 1897.
SCHMOLLER, GUSTAV. The Mercantile System (trans, by W. J. Ashley), New
York, 1896.
GEORGE, HENRY. Progress and Poverty (4th ed., 1880), reprinted New York,
1904.
3. ECONOMIC HISTORY
BOG ART, ERNEST L. Economic History of the United States, New York, 1908.
COMAN, KATHERINE. The Industrial History of the United States, New
York, 1905.
CUNNINGHAM, WILLIAM. Growth of English Industry and Commerce, 3 vols.,
Cambridge, 1903 and 1905.
TURNER, F. J. Rise of the New West, New York, 1906.
UNWIN, GEORGE. Industrial Organization in the i6th and ijth Centuries,
Oxford, 1904.
WEEDEN, VV. B. Economic and Social History of New England, Boston and
New York, 1891.
BRUCE, P. H. Economic History of Virginia, 2 vols., New York, 1896.
SELIGMAN, E. R. A. The Economic Interpretation of History, New York,
1902.
DAY, CLIVE. History of Commerce, New York, 1908.
BUCHER, C. Industrial Evolution (trans, by S. M. Wickett), New York,
1901.
HOBSON, J. A. Evolution of Modern Capitalism, 2d ed., New York, 1908.
ASHLEY, W. J. English Economic History, 2 vols., New York, 1893 and
1894.
4. THE LABOR MOVEMENT
ADAMS, T. S., and SUMNER, H. L. Labor Problems, New York, 1905.
WEBB, SIDNEY and BEATRICE. Industrial Democracy, 2d ed., London,
New York, and Bombay, 1902.
HOLLANDER, J. H., and BARNETT, G. E. Studies in American Trade Union-
ism, New York, 1906.
COMMONS, J. R. Trade Unionism and Labor Problems, Boston, 1905.
HUTCHINS, B. L., and HARRISON, A. A History of Factory Legislation,
2d ed., London, 1907.
CLARK, VICTOR S. The Labor Movement in Australia, New York, 1906.
692 APPENDIX B
KELLEY, FLORENCE. Some Ethical Gains through Legislation, New York,
1905.
BOOTH, CHARLES. Old Age Pensions and the Aged Poor, London, 1907.
ROBERTS, PETER. Anthracite Coal Communities, New York, 1904.
BUCHANAN, J. R. The Story of a Labor Agitator, New York, 1903.
MORE, L. B. Wage-Earner's Budgets, New York, 1907.
5. PLANS FOR SOCIAL REFORM
ELY, R. T. Socialism and Social Reform, New York, 1905.
KIRKUP, THOMAS. History of Socialism, ad ed., London, 1900.
ENSOR, R. C. K. Modern Socialism, London, 1907.
ELTZBACHER, PAUL. Anarchism (trans, by S. T. Byington), London,
1908.
JAURES, J. L. Studies in Socialism (trans, by M. Minturn), New York, 1906.
PODMORE, FRANK. The Life of Robert Owen, 2 vols., London, 1907.
BROOKS, J. G. The Social Unrest, New York, 1903.
MARX, KARL. Capital (trans, by E. Unterman), 3 vols., Chicago, 1906.
MARX, KARL, and FRIEDRICH ENGELS. The Communist Manifesto, many
editions.
HUNTER, ROBERT. Socialists at Work, New York, 1908.
HOLYOAKE, G. J. History of Cooperation, new ed., 2 vols., New York,
1906.
6. CORPORATIONS, MONOPOLIES, AND TRUSTS
MEADE, E. S. Trust Finance, New York, 1903.
RIPLEY, W. Z. Trusts, Pools, and Corporations, Boston, 1905.
ELY, R. T. Monopolies and Trusts, New York, 1900.
HIRST, F. W. Monopolies, Trusts, and Cartells, London, 1905.
TARBELL, IDA M. History of the Standard Oil Company, New York, 1904.
CLARK, J. B. The Problem of Monopoly, New York, 1904.
PRICE, W. H. English Patents of Monopoly, Boston, 1906.
Bureau of Corporations, Report on the Petroleum Industry, 2 vols.,
Washington, 1907 and 1908.
MEYER, H. R. Municipal Ownership in Great Britain, New York, 1906.
HOWE, F. C. The British City, New York, 1907.
VEBLEN, T. B. The Theory of Business Enterprise, New York, 1904.
7. TRANSPORTATION
JOHNSON, E. R. American Railway Transportation, 2d ed., New York,
1905. Ocean and Inland Water Transportation, New York, 1906.
RIPLEY, W. Z. Railway Problems, Boston, 1907.
BEALE, J. H. B., and WYMAN, B. Law of Railroad Rate Regulation, Boston,
1906.
APPENDIX B 693
" American Waterways." A nnals of the American Academy of Political and
Social Science, January, 1908.
ACWORTH, WILLIAM. Elements of Railway Economics, Oxford, 1905.
PHILLIPS, U. B. History of Transportation in the Eastern Cotton Belt,
New York, 1908.
MERRITT, A. N. Federal Regulation of Railway Rates, Boston, 1907.
MEEKER, R. History of Shipping Subsidies, New York, 1905.
NOYES, W. C. American Railroad Rales, Boston, 1905.
W T EBB, W. L. Economics of Railroad Construction, New York, 1906.
8. INTERNATIONAL TRADE
FISK, G. M. International Commercial Policies, New York, 1907.
TAUSSIG, F. W. Tariff History of the United States, sth ed., New York,
1903.
BASTABLE, C. F. Theory of International Trade, London, 1897.
SMART, WILLIAM. Return to Protection, 2d ed., London, 1906.
CLARE, GEORGE. The A B C of the Foreign Exchanges, London, 1895.
MARGRAFF, A. W. International Exchange, ad ed., Chicago, 1904.
BOWLEY, A. L. England's Foreign Trade in the Nineteenth Century, 2d
ed., London, 1905.
STANWOOD, EDWARD. American Tariff Controversies in the Nineteenth
Century, 2 vols., Boston, 1903.
HOBSON, J. A. International Trade, London, 1904.
FUCHS, K. J. The Trade Policy of Great Britain and Her Colonies since
1860 (trans, by Archibald), London, 1905.
ROOT, J. W. Colonial Tariffs, Liverpool, 1006.
CUNNINGHAM, WILLIAM. The Free Trade Movement, 2d ed., Cambridge,
1905.
9. INSURANCE
DAWSON, M. M. Elements of Life Insurance, 2d ed., New York, 1902. The
Business Side of Life Insurance, New York, 1905.
MOIR, HENRY. Life Assurance Primer, New York, 1904.
KITCHIN, F. H. Principles and Finance of Fire Insurance, London, 1904.
Yale Insurance Lectures, New Haven, 2 vols., 1904.
Gow, WILLIAM. Marine Insurance, London, 1900.
Institutes of Actuaries Text-book, 2 vols., 2d ed., London, 1902.
W T AMBAUGH, EUGENE. Cases on Insurance, Cambridge, 1902.
Annals of the American Academy of Political and Social Science, special
volume on Insurance, Philadelphia, Vol. 26, 1905.
"Q. P." How to buy Life Insurance, New York, 1906.
New York Legislative Investigating Committee, 7 vols., 1905.
694 APPENDIX B
10. MONEY AND BANKING
SCOTT, W. A. Money and Banking, 2d ed., New York, 1908.
HULL, W. H. Practical Problems in Banking and Commerce, New York,
1907.
EASTON, H. T. Money, Exchange, and Banking, London, 1905.
LAUGHLIN, J. L. Principles of Money, Chicago, 1903.
JOHNSON, J. F. Money and Currency, Boston, 1906.
KINLEY, DAVID. Money, New York, 1904.
WHITE, HORACE. Money and Banking, New York, 1902.
SHAW, W. A. History of the Currency, 3d ed., New York, 1896.
CLEVELAND, F. A. The Bank and the Treasury, New York, 1905.
CONANT, C. A. Modern Banks of Issue, ad ed., New York, 1896.
WILLIS, H. P. A History of the Latin Monetary Union, Chicago, 1901.
RUSSELL, H. B. International Monetary Conferences, New York, 1898.
ii. AGRICULTURAL ECONOMICS
TAYLOR, H. C. Introduction to the Study of Agricultural Economics, New
York, 1905.
COLLIN. The New Agriculture, New York, 1907.
PRICHARD, NEWELL, and PINCHOT. Report of Public Land Commission,
Washington.
HAGGARD, H. R. Rural England, z vols., New York, 1902.
ROGERS, A. G. L. The Business Side of Agriculture, London, 1004.
HIBBARD, B. H. History of Agriculture in Dane County, Wisconsin,
Madison, 1904.
Census Reports.
Publications of the United States Department of Agriculture.
BRIGHT, JOHN. The Agricultural Valuer's Assistant, London, 1901.
HALL, BOLTON. Three Acres and Liberty, New York, 1907.
12. STATISTICS
BOWLEY, A. L. Elements of Statistics, 2d ed., London, 1902.
MAYO SMITH, RICHMOND. Statistics and Economics, New York, 1899;
Statistics and Sociology, New York, 1895.
NEWSHOLME, ARTHUR. Vital Statistics, 3d ed., London, 1899.
THORNDIKE, E. L. An Introduction to the Theory of Mental and Social
Measurements, New York, 1904.
BAILEY, W. B. Modern Social Conditions, New York, 1906.
13. MATHEMATICAL ECONOMICS
FISHER, IRVING. Brief Introduction to Infinitesimal Calculus, 3d ed., New
York, 1906.
APPENDIX B 695
COURNOT, A. A. Mathematical Principles of the Theory of Wealth, trans,
by N. T. Bacon, with a bibliography of Mathematical Economics by
Irving Fisher, New York, 1897.
14. PUBLIC FINANCE
ADAMS, H. C. The Science of Finance, New York, 1809.
BASTABLE, C. F. Public Finance, 2d ed., London, 1895.
SELIGMAN, E. R. A. Essays in Taxation, New York, 3d ed., New York,
1000. The Shifting and Incidence of Taxation, New York, 2d ed.,
New York, 1899.
DEWEY, D. R. Financial History of the United States, New York, 1903.
BULLOCK, C. J. Selected Readings in Public Finance, Boston, 1906.
COOLEY, T. M. A Treatise on the Law of Taxation, 3d ed., 188.
ELY, R. T. Taxation in American States and Cities, New York, 1888.
SELIGMAN, E. R. A. Progressive Taxation in Theory and Practice, Balti-
more, 1894.
ADAMS, H. C. Public Debts, New York, 1890.
SCOTT, W. A. The Repudiation of State Debts, New York, 1893.
Twelfth Census Reports on Wealth, Debt, and Taxation.
15. ECONOMIC GEOGRAPHY
TROTTER, The Geography of Commerce, New York, 1903.
DAY, CLIVE. The History of Commerce, New York, 1908.
REDWAY, J. W. Commercial Geography, New York, 1903.
ADAMS, C. C. A Text-book of Commercial Geography, New York, 1901.
CHISHOLM, G. G. A Handbook of Commercial Geography, 4th ed., New
York, 1903.
16. DICTIONARIES AND REFERENCE BOOKS
PALGRAVE, H. I. Dictionary of Political Economy.
BLISS, W. D. P. Encyclopedia of Social Reform (zd ed.).
LALOR, J. J. Encyclopedia of Political Science, Political Economy, and
United States History.
New International Encyclopcedia..
Statistical Abstract of the United States.
Social Progress: A Year Book (edited by J. Strong).
PERIODICALS
Quarterly Journal of Economics (Boston).
Journal of Political Economy (Chicago).
Yale Review (New Haven).
Publications and Bulletin of the American Economic Association.
The Economic Journal (London).
Journal of the Royal Statistical Society (London).
Quarterly Publications of the American Statistical Association.
INDEX
Abstinence, 96. See Waiting.
Agriculture, development, 37, 46, 75;
problems, 528; stage, 33.
Aldrich Act, 1908, 261.
American people, characteristics, 58.
Amortization of taxes, 621.
Anarchism, 525.
Anti-trust Act, 88, 153.
Arbitration, 402 et seq.
Asset banking, 261.
Authority, 27.
Averages, 273.
B
Balance of trade, 288.
Balance sheet, 137.
Banking, 247 et seq.
Bargaining, 177, 446.
Benevolence, 27.
Bimetallism, 225.
Birth rate, 60.
Bland- Allison Act, 231.
Bonds, 144.
Biicher's stages, 39.
Budget of France, 568-570.
Business organization, 136.
Business taxes, 648.
Call loans, 247, 255.
Capital, 100, 123, 416 et seq.
Capitalization, 144, 146, 359, 621.
Central bank, 262.
Chance gains, 445.
Cities, migration to, 61.
Clark, J. B., 325 (note).
Clearing house, 244, 245.
Closed shop, 391.
Coinage, 117.
Collective bargaining, 84, 390, 402.
Common field system, 34, 43.
Comparative costs, 285, 305, 306.
Competition, 24, 49, 78, 88, 159, 203
467, 473. 5i-
Compulsory arbitration, 404.
Concentration of wealth, 335.
Constant expenditure, 175.
Consumer, the, 467.
Consumption, 106, 117, 434.
Contract, 21, 317, 466.
Cooperation, 26, 409, 545.
Copyright, 463.
Corporations, 140, 645.
Cost of production, 125.
Credit, 243, 538.
Crises, 267.
Custom, 27.
Customs duties, 627.
Debts, public, 582.
Decreasing expenses, 175.
Deferred payment, standard of, 871.
Demand, 160, 162.
Diminishing productivity, 319, 326.
Diminishing utility, 107.
Direct appropriation. 30.
Discount, 247.
Distribution of wealth, see Contents;
ideal, 114; and monopoly, 208.
Diversification of industry, 302.
Dividend, national, 104.
697
6 9 8
INDEX
Division of labor, 18, 127-131.
Domain, public, 586.
Domestic system, 36.
Dumping, 303.
Economics denned, 3.
Economic classes, 19.
Economic goods, 95.
Economic laws, 7.
Economic stages, 29, 40, 56.
Economic thought, 657.
Education of farmers, 548.
Effort, 96.
Efficiency and wages, 382.
Elastic currency, 260.
Elasticity of demand, 163, 369.
Employers' associations, 85, 400.
Engel's law, 117.
England in 1760, 42.
Entrepreneur, 126, 138, 440.
Equality, 114.
Error, normal law of, 382.
Ethical level of competition, 467.
Expenditures, public, 555.
Expense, decreasing and increasing,
i7S-
Expense of production, 125, 173.
Factors of production, 122.
Factory system, 47.
Family budgets, 118, 119.
Farms, size of, 327, 528.
Federal control of corporations, 154,
494-
Fees, 606.
Fiat money, 241.
Forest lands, 469, 589,
Foreign exchange, 292.
Franchises, 506.
Freedom, 23, 317, 523.
Free goods, 95.
Free silver, 230.
Free trade, 305.
Fundamental institutions, 16, 460.
George, Henry, 364, 595.
Gilds, 35-36.
Gold, 234, 279, 296.
Government ownership, 480, 503, 597,
See also State activity.
Greenbacks, 236.
H
Handicraft stage, 35.
Hoe culture, 30.
Home market, 302, 307.
Home rule, municipal, 512.
Hours of labor, 340.
Hypothecation, 246.
Immaterial goods, 97.
Immigration, 62.
Income, 98, 104.
Income tax, 634.
Independent treasury, 257.
Index numbers, 272.
Individual standpoint, 98, 101.
Industrial democracy, 408.
Industrial revolution, 42, 47, 72.
Industrial stage, 39.
Infant industries, 300.
Inheritance, 21, 317, 466.
Inheritance tax, 637.
Insurance, 485.
Intensive margin, 354.
Interest, 415 et seq.
Internal revenue, 631.
International trade, 284.
Interstate Commerce Commission, 483.
Interstate commerce, taxation, 650.
Investment of capital, 422.
INDEX
699
Joint expenses, 177.
Justice in taxation, 612.
Labor, factor in production, 122.
Labor legislation, 51.
Labor movement, 83.
Labor organizations, 53, 387.
Labor, supply of, 371.
Laissez-faire, 49, 87.
Land, 122, 349, 357.
Land nationalization, 595.
Land policy of U. S., 587.
Liberty, 55. See Freedom.
License taxes, 648.
Localization of industry, 131, 302.
Luxury, 1 13.
M
Machinery and labor, 129, 369.
Malthusian theory, 361, 374, 665.
Manorial economy, 34.
Manufacturers, in America, 76; size
of establishment, 79; integration, 80.
Marginal expense, 173; land, 353, 356;
product, 321, 331, 368.
Markets, 24, 48, 158, 543.
Mechanical inventions, 44-
Mercantilism, 37, 70, 287.
Mineral lands, 591 .
Money, 214 et seq.
Monopoly, 26, 38, 179, 187, 310, 342,
390, 50. 53-
Motives in economic activity, 93.
Municipalities, economic activity, 496,
57-
Mutual dependence, 19.
N
National banks, 251.
Nationalism, 300.
Navigation acts, 71.
Needs and distribution, 1 1 4.
Negro problem, 61.
Non-reproducible goods, 178.
Normal value, 170.
Occupation, 132, 379.
Organization of factors, 126, 321, 328.
Overcapitalization, 144.
Paper money, 234, 250.
Partnerships, 139.
Pastoral stage, 32.
Patents, 462.
Personal distribution of wealth, 335.
Poll tax, 649.
Population, 59, 373. See Malthusian
theory.
Price, market, 167; statistics, 240, 340.
Primitive man, 31.
Private enterprise, 16.
Production, 121.
Productivity, 114, 319, 329, 418.
Profits, 439 ** se Q-
Profit sharing, 406.
Progressive taxation, 616.
Property, 20, 317, 461-
Property tax, 640.
Protection, 86, 87, 300.
Prussia, incomes in, 338.
Public authority and value, 180.
Public expenditures, law of, 562.
Public finance, 555 et seq.
Public industries, 597.
Public ownership, 503.
Public revenues, 580 et seq.
Public utilities, in cities, see Chap.
XXIX.
Publicity, 153.
700
INDEX
Quality of goods, 50, 87.
R
Race suicide, 60.
Railways, 80, 471 et seq.
Rent, 348 et seq.
Resources of United States, 66.
Retail price, 179.
Riches, 341.
Risk, 442.
Sacrifice, 124.
Saving, 113, 123, 420.
Sectionalism, 57.
Segregation of revenues, 651.
Seigniorage, 217.
Services, 96.
Sherman Act of 1890, 231.
Shifting of taxes, 619.
Slavery, 33, 61.
Smith, Adam, 43, 315, 380, 664.
Social dividend, 448.
Socialism, 515 et seq.
Social reform, 345, 523.
Special asesssments, 608.
Speculation, 255, 441, 546.
Standard of life, 377.
Standard of value, 221.
State activity, 16, 54, 86, 458, 597.
Stocks, forms of, 143.
Strikes, 395-397.
Subsistence theory of wages, 376.
Supply, 160, 166, 167, 17$
Tabular standard, 274.
Taxation, 200, 610, 625.
Tenancy, 533, 540.
Trade marks, 463.
Trade restrictions, 286.
Trade unions, Chap. XXIII.
Transportation, 80, 471 et seq,
Trust companies, 264.
Trusts, 150, 211.
U
Undertaker, 126.
Unearned increment, 363.
United States Bank, 263.
Usury, 438.
Utility, 95, 107, 108.
Urban land, 365.
Value, 156, 170, 181 et seq., 270, 275
Variable expenses, 175, 176, 199.
Vested rights, 22.
Village communities, 33.
W
Wages, 240, 304, 307, 340, 367, 381,
537-
Waiting, 96, 420.
Wants, 107, in.
Wealth, 98, 99, 101, 102, 335.
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