What is Capitalism?

Term

Definition

Ideology

A system of ideas and ideals; especially one which

forms the basis of economic or political theory and
policy

Capitalism

A set of ideals and an economic system

- an economic system which in the means of
production (capital) is privately owned
- goods and services are produced for profit on the
free market

Free market

People are free to buy/sell their private property

without outside interference

Profit motive

The desire to produce goods in order to gain more

wealth (greed?)

Capitalism

- Capital (land, factories, wealth) is used in order to produce goods and services to make more
money, therefore creating more capital for businessmen profit motive

- Competition determines the price and distribution of goods (supply and demand)
- Mutually beneficial arrangement between voluntary labour and money (more labour = more
money)

- Self-interest is pursued by individuals, however is also beneficial to others promotes the

social interest of society by helping others out

- Greed and self-interest are at the core of capitalism, but actually benefits the whole society
- Free market is important to capitalists; the FR would distribute goods to people most effectively
- Believe that government interference with the economy should not be allowed
- However, if we run out of a certain good, how does the free market respond? Do we need
the government to step in then?

- Principle of mutual benefit: capitalism grows in the same way as language, scientific
knowledge and law through free exchange and voluntary production

Advantages and Disadvantages of Capitalism

Advantages

Disadvantages

Best wealth creation tool known to man

Capital is only accumulated in the hands of the few

whom control production monopoly

Most efficient system

- Less waste only produces what is demanded

Can also lead to:

- Overproduction
- Recession unemployment

Increased standard of living for many

Profit motive forces:

- Low wages
- Poor working conditions

Natural: humans naturally form capitalist economic

relations
- Desire for self-preservation and greed human
nature

Reduces worth of a human to a monetary value

- System based on greed

Who invented Capitalism?

Adam Smith (b. 1723-1790)
- Scottish political economist and moral philosopher
- Wealth of Nations (1776)
- Founded the modern discipline of economics
- Provided the rationale for free trade, capitalism & libertarianism
- Free trade seems chaotic, but is guided by an invisible hand to produce the right
amount of goods
- If shortages occur, prices rise, creating an incentive (due to profit margin) for others to
enter the market again, leading to surplus again
- System is self-regulating
- Smith attacked government interference in the economic process (tariffs/economic goods)
- Government restrictions on trade led to inefficiency & high prices
- Laissez-faire (let them do) needed: let the free market do what it wants therefore
capitalism was born

History of Capitalism
Capitalism evolved naturally in many forms throughout history it was only in Europe where the
modern form of capitalism first developed in what we know of capitalism now.
- Historical analysis of Capitalism shows that there were 4 main stages of development:
1. Pre-Capitalist Feudal System (14th century)
2. Mercantilism/Merchant Capitalism (14th-18th century)
3. Industrial Capitalism (18th-20th century)
4. Modern Capitalism (19th-20th century)

Feudal Capitalism
In Medieval Europe, a hierarchy
of a king, Lords/Barons and
Knights ruled the land and
means of production.
- Wealth came from the
ownership of land
In a typical town:
- The lord had a large manor
which was called the manor
house.
- Peasants would grow
vegetables in small gardens at
the rear of their houses.
- In the fall, the peasants
worked to harvest crops like
wheat.
- Harvested wheat was taken to
the mill and ground into flour,
used to make bread.
- The small church was built on
a small piece of land that still
belonged to the lord.
- Sheep grazed on grassy fields and villagers
used sheeps wool to make clothes.
- The village blacksmith would make iron tools
for farming.

Figure 1. Social hierarchy in Medieval Europe

Peasants had no interest in technological innovation as peasants were forced to work for their
lord,.They was also no interest in cooperating with each other as they also needed to provide
for their own family.
- Peasants had no power, money nor free time to invest in their own capital land.
- There was no competitive pressure to innovate production because the peasants were not
producing food to sell on the market. As lords owned the land, they relied on the peasants to
supply food as they were forced to guarantee it for themselves.
- There was also no incentive to create new productive technologies because lords spent all
their wealth on military equipment or lavish consumption.
Because of all these factors, the result was that the Feudal System actually prevented Capitalism
from growing. The Feudal Manor (village area) was self-sufficient which limited the growth of a free
market.

How did Feudalism end?

- The Black Death and resulting famine in Europe

- Severe shortage of labour for agriculture
- Peasants could therefore demand a real wage instead of servitude
- Peasants then became wage earners. They could rent their own land, invest in their own
capital and now had an incentive to innovate production methods to make more money.

- New discoveries and technologies opened up the world in the 15th century. Richer
peasants, merchants and lords could invest in new commodities and trade.

Merchant Capitalism
Mercantilism: a system of trade for profit. European merchants, backed by governments, made
profits from buying and selling of goods (which were largely made by non-Capitalist methods).
- Under Mercantilism, the State became the regulator of trade, not the local guild
- Merchants invested a capital in companies like the British East India Company, seeking a return
in investment
- The Triangular Trade:
Figure 2
- The Navigation Acts:
Figure 4

The End of
Mercantilism

- These governmentowned companies

became very wealthy
and dominated
international trade
made their
governments very rich
- However, competition
was non-existent as
governments tried to
keep all the profits to
themselves. There
Figure 2: the Triangular Trade, featuring the colonies in Africa and the
was no free-market.
Caribbean, America and Europe.
- The Industrial
Revolution would
bring an end to
government control of the economy and its Merchant system.

Figure 3: Mercantilism trade established with colonies circa 1700

Figure 4: The British Navigation Acts of 1651

Industrial Capitalism
Industrial Capitalism: an economic system that relies on the investment of capital in machines
and technology that are used to increase production of marketable goods.
- Adam Smith and other economic liberals realised that less not more government interference in
the economy could create more wealth.
- There was little competition therefore no desire to innovate production as government-owned
merchant companies held monopolies in trade and production.
- The Industrial Revolution enabled a new class of entrepreneurs to invest in new production
methods.
- The only thing that held them back was government regulation and control.
- The sheer speed of the Revolution meant that competition grew exponentially.
- Governments decided to allow the economy to grow by removing trade barriers made by
the government (laissez-faire economics), as suggested by Adam Smith.
- Banks also grew as industry needed more investment and finance than governments could
provide.

Modern Capitalism

- Private businesses could create more wealth than the governments themselves.
- The role of the governments was just to ensure the smooth operation of the free markets,
therefore the need for big, strong governments was reduced.
- The State was just a vehicle for improving business conditions; securing foreign markets and
gaining access to natural resources (colonialism)
- The business of America is business.
- A basic principle of modern state capitalism is that costs and risks are socialised to the extent
possible, while profit is privatised. - Noam Chomsky

However

- By the 20th century, it was obvious that Capitalism was not working for everyone.
- Laissez-faire economic policies reduced government protection for the workers
- Terrible living and working conditions
- Wages reduced to boost profits
- It seemed as if Capitalism was just another method of exploitation, benefitting a small minority
who owned all the capital. This minority even seemed to control political parties and pressure
groups. Is there a better alternative?