Markets and the Good   /   Fall 2023   /    Thematic: Markets and the Good

Hamilton’s System

Who is the father of American capitalism?

Jacob Soll

THR illustration (Shutterstock).

The three-hundredth anniversary of the birth of Adam Smith (1723–90) coincides with a crisis in our economic thinking. Article after article hammers home the economic failures and inconsistencies of free-market doctrines that have influenced American and global political economics for the better part of four decades. Oddly, Adam Smith has largely remained unscathed, and, as myths are attacked and statues fall, he sits confidently in his place as the “Father of Capitalism” and the lodestar of US wealth creation.

Central to Smith’s exalted status is the premise that wealth is created simply by exchange, or demand and supply. In other words, individuals have desire, need, or greed, they buy and sell, and this alone turns the market and creates wealth. Neoliberals who champion free markets über alles tend to dismiss the idea that a nation might have needs for its own industry, or for the living standards of its people. Consequently, they label industrial strategies aimed at achieving such ends dangerous forms of economic nationalism. Yet since the founding of the United States, industrial strategy has been at the heart of the country’s economic success. It was Alexander Hamilton who saw the need for such a strategy—and the danger of following Smith’s laissez-faire theories too slavishly.

Smith’s status is especially secure among contemporary neoliberals who still ground their ideas about the economy in the work of this eighteenth-century thinker. Following Friedrich Hayek and Milton Friedman’s claims that Smith’s ideas backed up their libertarian, free market economic theories, in his best-selling economics textbook, economist N. Gregory Mankiw claims that “Adam Smith made the most famous observation in all of economics: Households and firms interacting in markets act as if they are guided by an ‘invisible hand’ that leads them to desirable market outcomes.”11xN. Gregory Mankiw, Principles of Economics (Independence, KY: Cengage Learning, 2017), 9. In other words, pure individual “self-interest” is apparently the only thing that effectively guides markets and creates wealth. But after two federal bailouts of the US economy in two decades, and the success of so many government-sponsored companies (remember, Tesla has profited enormously from state rebates) along with the rise of Asian state-guided economies in China, Singapore, and South Korea, we know this simply isn’t true. States play a big role in wealth creation.

Indeed, given the history of America’s economic rise, Smith is an odd choice for fiscal founder. It was Alexander Hamilton, not Smith, who was the actual architect of America’s economic strategy. Economists have conveniently overlooked the fact that Hamilton crafted his approach as a rebuttal to Smith. What makes the American free-market embrace of Smith even odder is Smith’s own commitment to agrarian oligarchy. By 1790, even as George Washington and Alexander Hamilton were coming to realize that the future of the North Atlantic economy was in industry, Smith continued to subsume the nascent Industrial Revolution into an agricultural system. It was a vision powerful enough, for a time, to seduce James Madison and Thomas Jefferson. Hence the urgency with which Hamilton opposed Smith, proposing a countermodel rooted in what he rightly believed was state-sponsored British and French industrial development.

Despite the prominence of Adam Smith in contemporary free-market thought, it is important to remember that he was neither a capitalist nor a proponent of what has come to be called neoliberalism. Like all of us, Smith was a man of his time. But what made him a figure of enduring significance was his recognition of the importance of greed in the process of wealth creation. Indeed, he is most famous for his declaration that

it is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own self-interest. We address ourselves not to their humanity but to their self-love, and never talk to them of our own necessities, but of their advantages.22xAdam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, eds. Roy Harold Campbell and Andrew Skinner, 2 vols. (Indianapolis, IN: Liberty Fund, 1981), I, ii.

Rather than a celebration—as Mankiw and so many others claim—this passage was part of a reflection that this very mercantile shopkeepers’ culture was creating wealth while concurrently undermining Britain’s society and economy: “The policy of the monopoly,” Smith warned, “is a policy of shopkeepers.” Because of their monopolizing and greedy tendencies, “this order of men, whose interest is never exactly the same with that of the public, who have generally an interest to deceive and even to oppress the public, and who accordingly have, upon many occasions, both deceived and oppressed it.”33xIbid., I, xi, 10.

The “interest” of merchants, Smith wrote, focuses on their “own particular branch of business” rather than on that of “society.” “Merchants and manufacturers are the people who derive the greatest advantage from this monopoly of the home market.”44xIbid., I, xi, 10; IV, ii, 16.

In response to the threat of this commercial greed, Smith sought to outline how an agrarian-dominated system could channel greed into virtuous and, most importantly, wealth-creating farming. In this sense, Smith’s project was an expression of his own interests and those of his patrons. He came from a family of small landowners and worked assiduously for the most powerful landed magnates in Scotland. He was a tutor and adviser to his patrons, the Duke of Buccleuch and the future prime minister, the Earl of Shelbourne, who later also got Smith an appointment as commissioner of customs. Smith tailored a philosophy to show how commercial culture could sustain and empower an entrenched British ruling class.

Smith saw economies as creating wealth through self-interest—supply and demand—and this worried him. He was a professor of Stoic moral philosophy, and the very essence of his work was to teach an ethic opposed to greed. In his 1759 Theory of Moral Sentiments, Smith quoted Stoic philosophers to describe the ideal moral person as an impartial spectator who could control his passions, resist vices (greed is a vice), feel sympathy for the common person, and act in a disinterested way. Smith attacked Bernard Mandeville’s Fable of the Bees for “sophistry” in service to Mandeville’s “favourite conclusion, that private vices are public benefits.” Smith insisted that “the love of virtue” was “the noblest and the best passion of human nature.”55xAdam Smith, The Theory of Moral Sentiments, eds. D.D. Raphael and A.L. Macfie (Indianapolis, IN: Liberty Fund, 1982), VII, ii, 4, 12, 8.

Smith called merchants, manufacturers, and artisans an “unproductive class,” as “no equal quantity of productive labour employed in manufactures can ever occasion so great a reproduction [as agriculture].” Agriculture was the true and most moral source of wealth because nature literally helped it produce. Manufacturing, on the other hand, was not helped by nature and was spurred by human greed: “No equal quantity of productive labour employed in manufactures can ever occasion so great a reproduction. In them nature does nothing; man does all.”66xSmith, Wealth of Nations, II, v, 12. In other words, because Smith believed that nature helped farming, it was both more productive and morally grounded than commerce.

The person who embodied Smith’s ideal of virtue was neither the merchant nor the entrepreneur, but the country gentleman or landlord who “cultivate[s] the ground” that supports “this order of things [which] is favoured by the natural preference of man for agriculture.”77xIbid., III, i, 3. From this perspective, the landlord could never properly be characterized as greedy because all his capital investments made to improve the land advanced the public good and created essential wealth.

Perhaps because it is so foreign to our own modern notions of capitalism and wealth creation, most modern readers of Smith ignore this central anti-industrial argument of The Wealth of Nations, that agriculture was the only basis of wealth and the motor of wealth creation: “No equal capital puts into motion a greater quantity of productive labour than that of the farmer,” he said, the most productive workers being rural “labouring servants” and “labouring cattle.”88xIbid., II, v, 12. On its face, the suggestion that cattle are more productive than factory workers sounds incredible to us today, but it was consistent with Smith’s belief that the force of nature itself generated wealth in a way that unaided humans, even with industry, could not. While modern economists and neoliberals ignore these ideas, Smith repeats them again and again.99xIbid., V, i, 3.

For Smith, virtue lay in what was both productive and advantageous to society, and this clearly was neither greed nor commerce on its own. The economic dominance of agriculture mattered in countering the greed of manufacturers because the landed class produced what Smith idealized as disinterested leaders of society. The entire point of the leader of society was to support Stoic virtue: “The first of those causes or circumstances is the superiority of personal qualifications, of strength, beauty, and agility of body; of wisdom, and virtue, of prudence, justice, fortitude, and moderation of mind.”

Drawing on the thinking of his great inspiration, John Locke, Smith posited that this paragon would support civil government in his capacity as a legislator who would protect this natural order and make sure that the greed of merchants pushed wealth back toward farming. “The man whose public spirit is prompted altogether by humanity and benevolence, will respect the established powers and privileges even of individuals, and still more those of the great orders and societies, into which the state is divided.”1010xSmith, Theory of Moral Sentiments, VI, ii, 2, 15. A government dominated by such guardians of the status quo could stop greedy “statesmen” from trying to create monopolies via immoral and unproductive governmental regulations.

A product of the class of leading landowners—like Smith’s very generous patrons—the great moral legislator would be a “man whose public spirit is prompted altogether by humanity and benevolence, will respect the established powers and privileges even of individuals, and still more those of the great orders and societies, into which the state is divided,” and try either to protect and pass good laws, or, more likely, to “ameliorate” bad laws and regulations.1111xIbid. The invisible hand was not simply self-interest, or supply and demand, but, rather, Smith’s eighteenth-century, agrarian vision of a good, legislative society.

There is no question that Smith’s message resonated in the United States, primarily among the slaveholding landed elite. James Madison and Thomas Jefferson both agreed with Smith, but only for a time. In the late eighteenth century, America was in an existential struggle with Britain. The young United States was reeling from the Revolutionary War, and still faced economic and military threats from the British behemoth.

However, President George Washington did not think agrarianism provided a viable basis for American economic strategy. In 1790 he asked Congress to “promote manufactures” so that the country could be self-reliant, “particularly [in regard to] military supplies.”1212xGeorge Washington, Annals of Congress 969 (1790), cited in Douglas A. Irwin, “The Aftermath of Hamilton’s ‘Report on Manufactures’” (Working Paper No. 9943), National Bureau of Economic Research, September 2003, https://www.nber.org/papers/w9943. The rebellious colonies had suffered shortages during the Revolutionary War, and US leaders remained concerned by the British Prohibitory Act of 1775, which had enabled a commercial blockade that left the colonies unable to obtain basic supplies. Washington and his secretary of the treasury, Alexander Hamilton, came to believe that claims of adherence to free-trade policies were just a screen for British market domination and that only a strategy of national industrial development could protect the country and foster its economy.

Following Washington’s address, the House of Representatives asked Hamilton for a plan to grow American manufacturing and counter possible resultant security risks. In December 1791, the treasury secretary presented a program to Congress in the form of a short book titled Report on the Subject of Manufactures to Congress. In it, Hamilton pointedly rebutted the free-trade claims made in The Wealth of Nations and, as part of the argument that wealth did not simply grow from nature and free exchange, set about dismantling Smith’s theory that agriculture was more productive than manufacturing.

For Hamilton, manufacturing was not only more “productive” than farming but also sparked innovation and formed the basis of military strength. As he wrote in his report to Congress,

The farmer, from the peculiar fertility of his land, or some other favorable circumstance, may frequently obtain a livelihood, even with a considerable degree of carelessness in the mode of cultivation; but the artisan can with difficulty effect the same object, without exerting himself pretty equally with all those who are engaged in the same pursuit. And if it may likewise be assumed as a fact that manufactures open a wider field to exertions of ingenuity than agriculture, it would not be a strained conjecture, that the labor employed in the former being at once more constant, more uniform and more ingenious, than that which is employed in the latter, will be found at the same time more productive.1313xAll Hamilton quotes come from “Alexander Hamilton’s Final Version of the Report on the Subject of Manufactures” [5 December 1791], Founders Online, National Archives, https://founders.archives.gov/documents/Hamilton/01-10-02-0001-0007. Accessed August 17, 2023. 

Stressing that Smith had overlooked the burgeoning Industrial Revolution, Hamilton asserted that the cotton mill, not agriculture, was responsible for “the immense progress” of Great Britain. The only way for America to develop such industries, he believed, was through light tariffs of 7 to 10 percent and state subsidies to industries such as iron and steel manufacturing:

The employment of machinery forms an item of great importance in the general mass of national industry. It is an artificial force, brought in aid of the natural force of man; and, to all the purposes of labor, is an increase of hands; an accession of the strength, unincumbered too, by the expense of maintaining the laborer. May it not, therefore, be fairly inferred, that those occupations, which give greatest scope to the use of this auxiliary, contribute most to the general stock of industrious effort, and, in consequence, to the general product of industry? …

The Cotton Mill invented in England, within the last twenty years, is a signal illustration of the general proposition, which has been just advanced. In consequence of it, all the different processes for spinning cotton are performed by means of machines, which are put in motion by water, and attended chiefly by women and children; and by a smaller number of persons, in the whole, than are requisite in the ordinary mode of spinning. And it is an advantage of great moment that the operations of this mill continue, with convenience, during the night, as well as through the day. The prodigious effect of such a machine is easily conceived. To this invention is to be attributed, essentially, the immense progress which has been so suddenly made in Great Britain, in the various fabrics of cotton….

To ensure the end, it seems equally safe and prudent to extend the duty ad valorem upon all manufactures of Iron, or of which iron is the article of chief value, to ten per Cent.1414xIbid.

There is a myth of early free-market America that holds that, vociferously opposed by Madison and Jefferson, Hamilton failed. Jefferson would go on to say that “cultivators of the earth are the most valuable citizens.”1515xJefferson in a letter to John Jay, August 23, 1785, cited in Glory M. Liu, Adam Smith’s America: How a Scottish Philosopher Became an Icon of American Capitalism (Princeton, NJ: Princeton University Press, 2023), 42. Yet Madison and Jefferson eventually came around to supporting Hamiltonian protectionism; indeed, in the long run Hamiltonian policies prevailed.1616xIrwin, “The Aftermath of Hamilton’s ‘Report on Manufactures.’” Hamilton managed to obtain enactment of the Tariff of 1790, and starting with his service on the commission that negotiated a peace treaty with Britain following the War of 1812, Henry Clay turned Hamilton’s policy into his own long-lived “American System” of high military spending, protectionism, and internal industrial improvements designed to counter what American leaders saw as the threat of the British free-market system.

Even after America developed an industrial base, economic nationalism and industrialism remained the hallmark of US economic policy. Although many Americans like to think of theirs as a free-trade country, from the mid-nineteenth century until 1933 the United States imposed some of the highest industrial tariffs in the world. In the end, the country became quite the opposite of what Smith envisioned. For the most part, its economy has operated on and succeeded with a pointed and most often nationalistic industrial policy in which government and industry work together. Mankiw’s claim that Smith was the visionary of unbridled free markets and America’s path to wealth is simply untrue. Hamilton, not Smith, is the father of American capitalism.