Principle for a Free Socieity FREE ENTERPRISE

[William M. Finley]

Free enterprise

By Nigel Ashford

“To be controlled in our economic affairs is to be ... controlled in everything.”

Friedrich Hayek

What is free enterprise?

Free enterprise is the economic system based on the voluntary exchange

of goods and services, in which the people determine their own economic

affairs, by deciding where they work, or invest, how to spend or save

the fruits of their labour, and with whom they trade. The people are free

to make these decisions in a free enterprise society because a framework

of law allows citizens to own property, to exchange what is theirs

(including their own labour) and to enter into legally binding contracts.

This governance of laws allows individuals to co-operate to their mutual

benefit by forming legal associations to conduct their commerce, including

corporations, partnerships and not-for-profit organisations.

Government has a role to play in protecting people’s property and

enforcing their contracts so that people may trade with one another with

confidence, but in a free enterprise society, that role is strictly limited.

Economic barriers to free enterprise, such as taxes, regulation and government

spending, are kept to a minimum in this society.

Trade and exchange have been an integral part of every human civilisation,

and a limited recognition of the value of these activities was a key

factor in how the West grew rich. It was in those areas where the power

of church and state waned and where there were competing sources of

authority, that a degree of economic freedom allowed people to prosper

and their numbers to grow. In the Italian city-states of the Renaissance,

in the seventeenth century Dutch Republic and above all in England

and her American colonies, the people’s relative economic liberty made

these nations centres of commerce. It was not until the final quarter of

the eighteenth century, however, that a Scottish economist named Adam

Smith pioneered a systematic theory of how free enterprise worked. In a

book entitled The Wealth of Nations, Smith sought to explain the prosperity

that had grown up in England since the advent of its limited, constitu-

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tional monarchy in 1688. The book went into print in 1776, the same year

as the Declaration of American Independence and greatly influenced the

founding fathers of the United States, whose rebellion Smith supported.

This idea of an economy which largely ran itself, without the supervision

of a centralised government, in time transformed economic thinking

in the West. Smith’s new theory challenged the economic practice of

the day — a system of mercantilism by which monarchs and ministers

closely directed the economy. The old economic order was based on the

idea that the source of a nation’s wealth lay in its stock of gold, silver

and precious metals. Commerce was thought best conducted by granting

monopolies to guilds and corporations. Laws were passed to suppress

wages and keep prices high, and a complex web of high taxes and duties

were levied to finance the military adventurism which governments pursued

to plunder the resources of other nations, and enslave their people.

Smith turned these ideas on their head, demonstrating that the wealth of

nations was derived from a division of labour which allowed people to

specialise at providing the consumer with what he wanted. Money, he

argued, was only of value in terms of what it could buy. Competition

increased purchasing power and therefore created prosperity.

Free enterprise raises workers’ wages

The ideas that led Adam Smith to advocate free trade, cheap government

and open markets, are still raising the living standard of working

people today. It is the nations that embraced these ideas, such as the

USA, which have enjoyed the greatest latitude that worker’s wages have

risen to the highest levels on Earth. By contrast, those nations that have

experimented with government planning have failed to lift people out of

poverty and hunger. Free enterprise raises workers’ wages by stimulating

people’s willingness and ability to produce that which their fellow man

requires. That is the principal reason why it takes fewer man hours to

earn enough money to buy a television, an automobile or a personal

computer in the USA than it does in Russia. It is productivity, not hard

work, that matters. People in poor countries usually labour long hours

but their ability to provide the consumer with what he wants and their

rewards for doing so are limited by the intervention of government. Free

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enterprise raises people’s real wages because there are powerful incentives

to serve consumers who can easily communicate what they want.

Free enterprise satisfies consumers

In a free enterprise economy, people are able to serve customers thanks

to the price mechanism. This vast communications network of rising

and falling prices tells workers and investors where consumer demand is

increasing and where it is decreasing. Higher consumer demand for a

particular product pushes up prices, increasing profits to investors. These

increased profits attract more investment, and push up wages to attract

more workers into that line of work. So society produces more of what

the consumer wants, and as the supply of a particular good or service

increases, the long-term price to the customer will fall. The built-in

incentives of the free enterprise system ensures that society’s resources are

diverted to satisfying the wants of consumers, and away from those areas

of production that are meeting less urgent needs. In this system, the

consumer is sovereign, dictating where and how society’s resources are

used, by deciding how his income is spent or saved. That income, in

turn, will be higher to the degree to which that individual is supplying

society with the goods and services that it demands.

Free enterprise cuts the cost of living and creates new products

Free enterprise is a discovery process which allows people to discover what

the customer wants. The freedom to buy and sell allows goods and services

to come onto the market, that people are then free to embrace or reject as

they like. Free enterprise allows entrepreneurs to innovate with new ideas

for new products and to refine existing products. The price mechanism

then signals to workers and investors whether these new products are wanted

or not. Initially, new products like Video Cassette Recorders, microwave

ovens or cellular telephones are expensive, and only accessible to the rich,

but as products are tried, tested and modified, and as more capital is invested

in their development, the price falls. This way, the luxuries of the wealthy

few become the necessities of the many. And as a free enterprise society

produces an ever increasing array of goods and services, so the price of those

products as a proportion of people’s income falls, cutting the cost of living.

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Free enterprise encourages productivity

The incentives inherent to the free enterprise economy also foster

productivity by tapping into people’s willingness to serve others better

than any other economic system that has yet been devised by man.

Because people are free to keep the fruits of their labour and take risks

in a system of free enterprise, the rewards for serving the consumer are

greater than in alternative economic systems. A system of slavery, in

which the individual is forced to labour for others, or a planned economy,

where government organises production, destroy the incentives to

produce. Taxes perform that function too. Taxes are like prices; they are

the price - or penalty - paid for engaging in economic activity. The more

government taxes investment and work, the lower the rewards for work

and investment will be. And if the rewards for work and investment fall,

there will be less work and investment as a result. Taxes are an economic

barrier that limits the number of people taking part in the activity that is

taxed. Taxes on work and investment will also exclude some people from

working or investment altogether. Regulation has the same effect. By

raising the costs of production, prices are artificially raised, increasing

living costs and placing goods out of the reach of the poor.

Free enterprise lifts people out of poverty

Far from enriching a wealthy few, the dynamism of the free enterprise

system can be seen most vividly in the way it eliminates poverty more

rapidly than other economic system. Whilst economic freedom does

inevitably lead to a degree of inequality in people’s incomes and wealth,

attempts to go further and to redistribute income and wealth from the

wealthy to the less well off shrinks the economy, destroying economic

opportunity for those who need it the most. Attempts to use government

to determine people’s incomes and wealth creates an arbitrary society

in which access to political power determines people’s income and

wealth. This sort of inequality is more harmful to the poor than inequalities

of wealth and income under free enterprise, because free enterprise

rewards people with high incomes only as long as they serve the customer

better than others. It allows people to serve their own interests

only insofar as they use their property and labour to serve the interests

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of others. Free enterprise maximises the opportunities of the poor to get

out of poverty and makes society a cheap place to live in.

Free enterprise creates jobs

Critics of free enterprise often point to business cycles in the West in

which periods of economic expansion are interrupted by recessions

which cause unemployment to rise. The fluctuations of the business

cycle played a key part in communist propaganda during the Cold War,

but it should be noted that the communist world only avoided such

cycles by maintaining a permanent economic stagnation which left living

standards far lower than those achieved in the West. In fact, economic

recessions and depressions are caused by inflation resulting from

government expanding the supply of money and credit faster than the

growth of the economy. Increasing the supply of money relative to the

supply of goods and services eats away at the value of money, causing

inflation which increases unemployment when people discover that the

currency is losing its value. The solution is not to do away with free

enterprise, but rather to take the supply of money out of the hands of

government. Some unemployment is caused not by inflation, but by

taxes and regulations on work which cause a mismatch between the

supply of labour and consumer demand. In a free enterprise economy

there is always work available because the demands of consumers are

never exhausted.

Free enterprise guards the environment

Just as free enterprise has multiplied the range of goods and services

available and brought them down in price, so it has increased the supply

of nature’s resources and made the world’s energy and resources cheaper

over time. This effect is the key to understanding why air and water

quality is improving in economies like that of the USA whilst communism

left societies scarred by pollution and despoliation. It is also an

important reason why those people who enjoy the most economic freedom

have a longer life-expectancy at birth. Wealthier is healthier. The

free enterprise system has created the wealth which has made possible

the discovery of new sources of energy and more efficient uses of natural

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resources. The private ownership of natural resources has also protected

and enhanced the environment because private owners have an interest

in the long-term preservation of resources and are therefore better stewards

than the state. Free enterprise has maximised the freedom of the

ultimate resource - mankind - to solve the problems created by new

technologies, and it has also enabled billions more people with their

ingenuity and creativity to live and prosper in a world which once could

only support a fraction of their number.

Without free enterprise, there can be no democracy

Finally, free enterprise is a necessary, although not a sufficient, condition

for democracy and the civil liberties which we associate with political

freedom. This is because you cannot control an economy without controlling

people. Once economic decisions are taken out of the hands of

the millions of individuals who work, invest, save and spend and are

instead made by a central authority, it becomes necessary to coerce individuals

to fit in with the state’s plan. The power that this places in the

grasp of government makes it possible to punish those who do not do

what those in authority require. The fact that power is concentrated in

the state means that opposition to the government’s plans is extremely

difficult and dangerous. In a free enterprise society where the means of

production are privately owned, there are always alternative employers

and privately funded trade unions, political parties, pressure groups,

newspapers, radio and television stations and places of assembly and worship.

As Leon Trotsky explained: “When the state is the sole employer,

opposition means death by slow starvation.”

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Reading

Milton Friedman, Capitalism and Freedom, London, University of

Chicago Press, 1962, chapters 1, 2.

Milton & Rose Friedman, Free to Choose, London, Secker & Warburg,

1980, chapters 1, 2.

Friedrich Hayek, The Road to Serfdom, London, University of Chicago

Press, 1976 (1944).

Henry Hazlitt, Economics in One Lesson, New Rochelle NY, Arlington

House, 1979.

Peter Saunders, Capitalism: A Social Audit, Buckingham, Open

University Press, 1995.

Adam Smith, The Wealth of Nations, Indianapolis, Liberty Press, 1981

(1776).

Questions for thought

1. Why is the free market superior to state socialism?

2. How can you make free markets more acceptable?

3. How can you extend markets in your country?