Mercantilism in a nutshell

This school of economic thought arose primarily in England during the 16th through the 18th centuries.⁽¹⁾ Many of the contributors to this literature were merchants or members of the mercantile class, hence the name. This was largely a pamphlett literature, meaning that many of these characters were only addressing economic problems to the extent that those issues came up in the course of the squabbling between different interest groups, each of which was largely devoted to trying to get government to do (or refrain from doing) something or other. Thus, we should make some allowances for a certain amount of imprecision and general blowing-of-smoke by these writers. They did not view themselves as Thinking For The Ages, but were often engaged in the down-and-dirty task of peddling particular policy prescriptions. To a considerable extent, they were intending to influence public policy in ways designed to create restriction rents for their employers' indeed, they were often quite blatant about it. We need to bear this in mind before evaluating their perspicacity on the basis of some of the more dubious positions they took on the way the economy worked.

The main [if sometime bizarre] themes of this literature were as follows:

• The ultimate objective of economic policy is the political power of the state, both internal and external.
• The power gained by one state is inevitably associated with power lost by another state. Therefore, the interests of nation states are perpetually in conflict.
• A nation's power is measured by its population and its stock of precious metals such as the gold and silver embodied in the money in use at the time. A high population could supply soldiers. Money (in the government's treasury) could pay for large armies and navies.
• Population growth and a rich treasury could only come from prosperous industry and trade.
• This prosperity could be brought about if the economy’s stock of money (i.e., gold and silver coins) was large.
• Assuming a state does not have gold and silver mines, the only way it would increase its stock of those metals is if it exports more than it imports. As a result, ensuring a trade surplus for oneself and a trade deficit for one’s rivals became the primary objective of economic policy. Tariffs and other import restrictions were thought effective in reducing imports. Subsidies and regulation were thought effective in increasing exports.

This last is probably the most notorious assumption in the body of Mercantilist doctrine. Adam Smith had a field day making fun of this reasoning. [The only way that this emphasis on the “balance of trade” made sense was if the entire economy was considered the personal property of, say, the monarch. Which was indeed the case in England circa ~ 1600, at least in theory?]

The mercantilists were, however, not by any means all just a bunch of hacks. Some of these writers (or contemporary writers on things economic and commercial who were not exactly “Mercantilists”⁽²⁾) were capable analysts and astute observers. For example, many of these guys understood that an increase in the quantity of money increased output and employment, while a decrease in the quantity of money decreased output and employment. This idea is now widely accepted except that the effect of money on output and employment is now seen as temporary, a qualification that no “Mercantilist” clearly stated.

In 1696 Gregory King discussed the now widely used concept of the price elasticity of demand and even used data on prices and sales of wheat to calculate an estimate of the price elasticity of wheat.

In 1588 Giovanni Botero published a theory of population that was essentially the same as the theory of population for which the Classical economist Thomas Malthus gained fame. Population tends to grow without limit. Food, however, is limited. Therefore, population growth would ultimately be slowed by celibacy or through war, famine and epidemics. [A somewhat later writer, James Steuart, sometimes called “The last of the Mercantilists”, writing in 1767, also anticipated Malthus on population.]

Also in 1588, Bernardo Davanzati stated that people work in order to be happy and not for some other motive, a form of the principle of utility maximization. Marginalist economists would later develop the idea into a full-fledged theory of demand.

Building on the commonplace idea that countries trade because not all countries can grow everything, mercantilists built a theory of international trade that came close to a statement of the principle of comparative advantage for which the classical economist David Ricardo is famous. In 1663, Samuel Fortrey explained that we should produce and export what foreigners want if that would allow us to import more of what we need than we could produce at home.

Pierre le Pesant, Seigneur de Boisguilbert (1646-1714) made two important points. First, he pointed out that taxes reduce the productivity of the economy and that more tax revenues for the government did not necessarily mean less after-tax income for taxpayers. If the tax system is designed in a way that takes care to reduce the negative effects of taxes on productivity, the government could earn more tax revenues without reducing the after-tax incomes of the citizens.

Second, Boisguilbert also said that left to itself the economy settles down to a stable outcome instead of becoming chaotic.

In sum, while the main ideas of the mercantilists caused a lot of harm and are now discredited, the economists of that period came up with many ideas that lasted and created the foundation of the Classical school. The problem was that the good ideas of the mercantilists had not yet won the debate, which is why they simply coexisted with all the other bad ideas. As the classical era progressed, the good ideas of the mercantilists were filtered out, recognized as good ideas and incorporated into the classical canon.

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⁽¹⁾There were Spanish mercantilists, Swedish mercantilists, and even some Hungarian mercantilists. But virtually all of the, mercantilist writers who had significant influence on the development of economics were British.
⁽²⁾”Mercantilist” being a term of derision, useful only as an arbitrary device for lumping together this diverse group of writers