Theories of 18th-century Irishman key in today's China

ECONOMICS:Richard Cantillon can provide assistance in unlocking the paradox of communist China and its entrepreneurial class, writes ANTOIN E MURPHY

ON A recent visit to Shanghai I was struck by the extent to which China has not only a vast population (1.3 billion people) but also a burgeoning population of entrepreneurs. There is a multiplicity of backstreet shops with entrepreneurs producing a wide range of goods. They are not alone. The suburbs are full of Chinese companies producing commodities for the global market, while the mushrooming of high-rise buildings suggests there are many rich entrepreneurs in the construction sector.

China has quickly blown away the negative implications of the great financial crash of 2007 to 2009 and is in a new strong phase of economic growth. Gross national product is rising by as much as 9 per cent. This raises the paradox as to how a supposed communist country can produce such an impressive macroeconomic performance.

The reality is that from an economic perspective communism has been thrown out the window of these mutistorey buildings. The workers-versus-capitalists classification has no relevance to the restructuring of the Chinese economy. The 18th-century Irish economist Richard Cantillon can provide assistance in unlocking the paradox of China and its entrepreneurial class.

Cantillon, a banker and businessman, had the great genius to centre the entrepreneur as the motivating agent for economic activity in a market economy. In his Essay on the Nature of Trade in General,first published in French in 1755, he presented and contrasted two economic systems: a command economy and a market economy. He showed how, in a command economy (communism later became such a command economy), there would only be overseers or inspectors who would carry out the dictates of the ruling class: in his case the landlords; in that of communism, the central bureaucrats.

He then moved his analysis away from a command to a market economy. There was one key change in personnel in the structure, that of the entrepreneur. The entrepreneur replaced the overseer/inspector/bureaucrat.

What is the role of the entrepreneur? Cantillon’s one-liner defined the entrepreneur as the person who buys at a known or certain price to sell at an unknown or uncertain price.

Think about it. Is there a better definition of the entrepreneur? The entrepreneur is the person who buys up the factors of production (land, labour and capital) to produce goods and services. He or she knows the wages to be paid to labour, the interest charged on borrowed money, the rent paid for land and buildings. He adds these up and works out the cost of producing the good or service. The big problem he faces is determining the market selling price for his goods and services.

If his assessment is right, he sells and makes a profit. If his assessment is wrong, he makes a loss which, if it continues, will force him out of the market. Price uncertainty is a key problem for the entrepreneur.

Cantillon's work was undone by of all people Adam Smith. Despite Smith writing what is regarded as the bible of capitalism – The Wealth of Nations– there is one personality missing from his book: the entrepreneur. Smith, essentially a paid retainer of a Scottish nobleman, did not like businessmen. He wrote that businessmen could not meet together for more than five minutes without conspiring to work against the public interest.

There were grounds for such cynicism at the time because many businesses were monopolies, such as the East India Company and Bank of England, and had the ability to exploit the consumer.

Smith recognised that people motivated by self-interest would in general produce a harmonious outcome for society. But he introduced one of the great smokescreens of economics: the “invisible hand”.

Smith believed the invisible hand would harmoniously produce an optimal outcome for the economy when each individual concentrated on pursuing his own self-interest. But in his invocation of the invisible hand, he omitted the real motivator for economic behaviour: the entrepreneur.

As a result of Smith’s implicit assurance that the invisible hand would do its business, economists forgot about the entrepreneur, at least until Joseph Schumpeter in the 20th century. Their economic classification concentrated on labour and the owners of capital. Marx jumped on this classification to provide the basis for his theory of exploitation. Communists jumped on to this Marxian bandwagon and the rest is history, or at least history in China for the past 60 years.

What a pity Cantillon’s economic classification between workers on fixed wages and entrepreneurs was not adopted. It removes the explicit economic warfare produced through the workers-and-capitalists classification. Furthermore, it was consistent with the Chinese approach to economic activity as far back as the 18th century where, as Cantillon noted, there has been a long tradition of entrepreneurship.

Cantillon provided a remarkable analysis of the way economic society could be divided between fixed-wage workers and entrepreneurs, while at the same time providing an assessment of Chinese work practices that is even more relevant today than it was in the 1720s. The implicit recognition of the failure of communism as an economic doctrine has let the entrepreneurial genie out of the box. China has once again become a country of entrepreneurs.

This does not mean all is well. There appears to be evidence to the casual observer that many of today’s ultra-successful entrepreneurs have made their fortunes through the acquisition of economic rents from the Communist Party. How do you acquire land to build in cities such as Shanghai? How then do you obtain planning permission to build a high-rise building on such land? Europeans have seen this in their own countries. The speed and suddenness of it suggest that land acquisitions and zoning permits are in the hands of the few.

As long as there is a one-party state, equivalent to the European monarchical rulers in the 17th and 18th centuries who could sell monopoly rights and privileges to the very businessmen Adam Smith hated, the rich will become richer by acquiring the major rights and privileges (land and planning permits). However, once the system moves to a more parliamentary system and the ruler no longer has control over these monopoly rights/economic rents, the scope for this type of corruption is greatly reduced, though it is not removed. This is the type of tension China will have to face over the coming years.

Antoin E Murphy is an associate professor of economics at Trinity College Dublin. He is currently preparing a new English translation of Richard Cantillon's Essai sur la nature du Commerce en Général(1755)