Fetter The Principles of Economics

THE PRINCIPLES OF

ECONOMICS

WITH APPLICATIONS TO

PRACTICAL PROBLEMS

BY

FRANK A. FETTER, PH. D.

PROFESSOR OF POLITICAL ECONOMY AND FINANCE,

CORNELL UNIVERSITY

NEW YORK

THE CENTURY CO. 1905

Online edition by the Ludwig von Mises Institute, ã 2003.

Please note. In the Table of Contents the numbers in parentheses refer to the original pagination denoted by numbers in parentheses throughout the text. The headers in the original referred to the chapter and section titles. In this online edition they refer to the book and chapter titles. The index refers to the original pagination denoted by numbers in parentheses throughout the text.

Contents

Part I

The Value of Material Things……………………………………………………….1–97 (1–169)

Division A—Wants and Present Goods

1.The Nature and Purpose of Political Economy: Name and Definition; Place of Economics Among the Social Sciences; The Relation of Economics to Practical Affairs …………..10 (3)

2.Economic Motives: Material Wants, The Primary Economic Motives; Desires for NonMaterial Ends, as Secondary Economic Motives ……………………………………….14 (9)

3.Wealth and Welfare: The Relation of Men and Material Things to Economic Welfare; Some Important Economic Concepts Connected with Wealth and Welfare ………………..17 (15)

4.The Nature of Demand: The Comparison of Goods in Man’s Thought; Demand for Goods Grows Out of Subjective Comparisons ………………………………………………20 (21)

5.Exchange in a Market: Excha nge of Goods Resulting from Demand; Barter Under Simple Conditions; Price in a Market ………………………………………………………...25 (30)

6.Psychic Income: Income as a Flow of Goods; Income as a Series of Gratifications …30 (39)

Division B—Wealth and Rent

7.Wealth and Its Direct Uses: The Grades of Relation of Indirect Goods To Gratification; Conditions of Economic Wealth ……………………………………………………...34 (46)

8.The Renting Contract: Nature and Definition of Rent; the History of Contract Rent and Changes in It ………………………………………………………………………….38 (53)

9.The Law of Diminishing Returns: Definition of the concept of (Economic) Diminishing Returns; Other Meanings of the Phrase “Diminishing Returns”; Development of the Concept of Diminishing Returns ……………………………………………………………….42 (61)

10.The Theory of Rent: The Market Value of the Usufruct: Differential Advantages in Consumption Goods; Differential Advantages in Indirect Goods …………………….48 (73)

11.Repair, Depreciation, and Destruction of Wealth: Relation to its Sale and Rent: Repair of Rent-bearing Agents; Depreciation in Rent-Earning Power of Agents Kept in Repair; Destruction of Natural Stores of Materials …………………………………………….52 (81)

12.Increase of Rent-bearers and of Rents: Efforts of Men to Increase Products and Rent-bearers; Effects of Social Changes in Raising the Rents of Indirect Agents …………………...57 (90)

Division C—Capitalization and Time-Value

13.Money as a Tool in Exchange: Origin of the Use of Money; Nature of the Use of Money; The Value of Typical Money ……………………………………………………………....61 (98)

14.The Money Economy and the Concept of Capital: The Barter Economy and its Decline; The Concept of Capital in Modern Business …………………………………………….66 (108)

15.The Capitalization of All Forms of Rent: The Purchase of Rent-charges as an Example of Capitalization; Capitalization Involved in the Evaluating of Indirect Agents; The Increasing Role of Capitalization in Modern Industry ……………………………………….…71 (118)

16.Interest on Money Loans: Various Forms of Contract Interest; The Motive for Paying Interest………………………………………………………………………………..78 (131)

17.The Theory of Timevalue: Definition and Scope of Time-value; the adjustment of the Rate of Time-discount……………………………………………………………………..83 (141)

18.Relatively Fixed and Relatively Increasable Forms of Capital: How Various Forms of Capital May Be Increased; Social Significance of These Differences…………………….…89 (152)

19.Saving and Production as Affected by the Rate of Interest: Saving as Affected by the Interest Rate; Conditions Favorable to Saving; Influence of the Interest Rate on Methods of Production……………………………………………………………………………93 (159)

Part II

The Value of Human Services………………………………………………...99–193 (171–355)

Division A—Labor and Wages

20.Labor and Classes of Laborers: Relation of Labor to Wealth; Varieties of Talents and of Abilities in Men……………………………………………………………………...99 (173)

21.The Supply of Labor: What Is a Doctrine of Population? Population in Human Society; Current Aspect of the Population Problem…………………………………………105 (184)

22.Conditions for Efficient Labor: Objective Physical Conditions; Social Conditions Favoring Efficiency; Division of Labor………………………………………………………111 (195)

23.The Law of Wages: Nature of Wages and the Wages Problem; The Different Modes of Earning Wages; Wages as Exemplifying the General law of Value……………….116 (205)

24.The Relation of Labor to Value: Relation of Rent to Wages; Relation of Timevalue to Wages; The Relation of Labor to Value……………………………………………121 (215)

25.The Wage System and its Results: Systems of Labor; The Wage System as it Is; Progress of the Masses Under the Wage System………………………………………………..127 (226)

26.Machinery and Labor: Extent of the Use of Machinery; Effect of Machinery on the Welfare and Wages of the Masses…………………………………………………………...132 (236)

27.Trade-Unions: The Objects of Trade-Unions; The Methods of Trade-Unions; Combination and Wages…………………………………………………………………………..137 (245)

Division B—Enterprise and Profits

28.Production and the Combination of the Factors: The Nature of Production; Combination of the Factors………………………………………………………………………….143 (257)

29.Business Organization and the Enterpriser’s Function: The Direction of Industry; Qualities of a Business Organizer; the Selection of Ability…………………………………….147 (265)

30.Cost of Productio n: Cost of Production from the Enterpriser’s Point of View; Cost of Production from the Economist’s Standpoint……………………………………...151 (273)

31.The Law of Profits: Meaning of Terms; The Typical Enterpriser’s Services Reviewed; Statement of the Law of Profits……………………………………………………155 (282)

32.Profit-sharing, Producers’ and Consumers’ Cooperation: Profit-sharing; Producers’ Cooperation; Consumers’ Cooperation……………………………………………160 (292)

33.Monopoly Profits: Nature of Monopoly; Kinds of Monopoly; The Fixing of a Monopoly Price………………………………………………………………………………..165 (302)

34.Growth of Trusts and Combinations in the United States: Growth of Large Industry in the United States; Advantages of Large Production; Causes of Industrial Combinations………………………………………………………………………170 (312)

35.Effect of Trusts on Prices: How Trusts might Affect Prices; How Trusts Have Affected Prices……………………………………………………………………………….177 (323)

36.Gambling, Speculation, and Promoters’ profits: Gambling vs. Insurance; The Speculator as a Risk-taker; Promoter’s and Trustee’s Profits………………………………………182 (333)

37.Crises and Industrial Depressions: Definition and Description of Crises; Crises in the Nineteenth Century; Various Explanations of Crises……………………………....188 (345)

Part III

The Social Aspects of Value……………………………………………..194–301 (357–563)

Division A—Relation of Private Income to Social Welfare

38.Private Property and Inheritance: Impersonal and Personal Shares of Incomes; The Origin of Private Property; Limitations of the Right of Private Property………………….194 (359)

39.Income and Social Service: Income from Property; Income from Personal Services…………………………………………………………………………..200 (370)

40.Waste and Luxury: Waste of Wealth; Luxury…………………………………...206 (381)

41.Reaction of Consumption on Production: Reaction Upon Material Productive Agents; Reaction Upon the Efficiency of the Workers; Effects on the Abiding Welfare of the Consumer………………………………………………………………………...211 (392)

42.Distribution of the Social Income: The Nature of Personal Distribution; Methods of Personal Distribution………………………………………………………………………216 (402)

43.Survey of the Theory of Value: Review of the Plan Followed; Relation of Value Theories to Social Reforms; Interrelation of Economic Agents……………………………...221 (412)

Division B—Relation of the State to Industry

44.Free Competition and State Action: Competition and Custom; Economic Harmony through Competition; Social Limiting of Competition…………………………………...226 (422)

45.Use, Coinage, and Value of Money: The Precious Metals as Money; The Quantity Theory of Money……………………………………………………………………………231 (431)

46.Token Coinage and Government Paper Money: Light-Weight Coins; Paper Money Experiments; Theories of Political Money………………………………………237 (443)

47.The Standard of Deferred Payments: Function of the Standard; International Bimetallism; The Free-silver Movement in America………………………………………….242 (453)

48.Banking and Credit: Functions of a Bank; Typical Bank Money; Banks of the United States To-day…………………………………………………………………………...247 (462)

49.Taxation in its Relation to Value: Purposes of Taxation; Forms of Taxation; Principles and Practice…………………………………………………………………………...252 (471)

50.The General Theory of International Trade: International Trade as a Case of Exchange; Theory of Foreign Exchanges of Money; Real Benefits of Foreign Trade……....257 (480)

51.The Protective Tariff: The Nature and Claims of Protection; The Reasonable Measure of Justification of Protection; Values as Affected by Protection……………………263 (491)

52.Other Protective Social and Labor Legislation: Social Legislation; Labor Legislation………………………………………………………………………..270 (504)

53.Public Ownership of Industry: Examples of Public Ownership; Economic Aspects of Public Ownership………………………………………………………………………...275 (514)

54.Railroads and Industry: Transportation as a Form of Production; the Railroad as a Carrier; Discrimination in Rates on Railroads…………………………………………….281 (525)

55.The Public Nature of Railroads: Public Privileges of Railroad Corporations; Political and Economic Power of Railroad Managers; Commissions to Control Railroads……286 (534)

56.Public policy as to Control of Industry: State Regulation of Corporate Industry; Difficulties of Public Control of Industry; Trend of Policy as to Public Industrial Activity….291 (544)

57.Future Trend of Values: Past and Present of Economic Society; The Economic Future of Society…………………………………………………………………………….297 (555)

Questions and Critical Notes……………………………………………………….(565)

Index………………………………………………………………………………..(595)

PREFACE

This book had its beginning ten years ago in a series of brief discussions supplementing a text used in the classroom. Their purpose was to amend certain theoretical views even then generally questioned by economists, and to present most recent opinions on some other questions. These critical comments evolved into a course of lectures following an original outline, and were at length reduced to manuscript in the form of a stenographic report made from day to day in the class-room. The propositions printed in italics were dictated to the class, to give the key-note to the main divisions of the argument. Repeated revisions have shortened the text, cut out many digressions and illustrations, and remedied many of the faults both of thought and of expression; but no effort has been made to conceal or alter the original and essential character of the simple, informal, classroom talks by teacher to student. To this origin are traceable many conversational phrases and local illustrations, and the occasional use of the personal form of address.

The lectures, at the outset, sought to give merely a summary of widely accepted economic theory, not to offer any contribution to the subject. While they were in progress, however, special studies in the evolution of the economic concepts were pursued, and the manuscript of a book on that more special subject was carried well toward comple tion. That work, which it is hoped some time to complete, was, for several reasons, put aside while the present text was preparing for publication. The economic theories of the present transition period show many discordant elements, (p. xiv) yet the author felt that his attempt to unify the statement of principles, in an elementary text explaining modern problems, and consistent in its various parts, helped to reveal to him both difficulties and possible solutions in the more special theoretical field. The unforeseen outcome of these varied studies is an elementary text embodying a new conception of the theory of distribution, an outline of which will be found in Chapter Forty-three. It is, in brief, a consistently subjective analysis of the relations of goods to wants, in place of the admixture of objective and subjective distinctions found in the traditional conceptions of rent, interest, and price.

The beginning of the systematic study of economics, like the first steps in a language, is difficult because of the entire strangeness of the thought, and it is not to be hoped that any pedagogic device can do away with the need of strenuous thinking by the student. The aim, however, in the development of this theory of distribution, has been to proceed by gradual steps, as in a series of geometrical propositions, from the simple and familiar acts and experiences of the individual’s every-day life, through the more complex relations, to the most complex, practical, economic problems of the day. The hope has long been entertained by economists that a conception of the whole problem of value would be attained that would coordinate and unify the various “laws,”—those of rent, wages, interest, etc. This solution has here been sought by a development of recent theories, the unit of the complex problem of value being the simplest, immediate, temporary gratification.

Possibly some teachers will observe and regret the almost entire absence of critical discussions of controverted points in theory, which make up so large a part of some of the older texts. The more positive manner of presentation has been purposely adopted, and only such reference is made to conflicting views as is needed to guard the student against misunderstanding in his further reading. The author would (p. xv) not have it thought that he doubts the disciplinary value of economic theory or its scientific worth for more advanced students, for, on the contrary, he believes in it, perhaps to an extreme degree; but, for his own part, he has become convinced of the unwisdom of carrying on these subtle controversies in classes of beginners. The

inherent difficulties of the subject are great enough, without the creation of new ones. The fifty-seven chapters represent the work of the typical college course in elementary

economics, allowing two chapters a week, and a third meeting weekly for review and for the discussion of questions, exercises, and reports. The sub ject is so large that the text is, in many places, hardly more than a suggestive outline. In class-room work it should be supplemented by other sources of information, such as personal observation by the students (many of the que stions following the text serving to stimulate the attention); visits to local industries; interchange of opinions; examples given by the teacher; study and discussion, in the light of the principles stated in the text, of some such problems as are suggested in the appended list of questions; collateral reading; the preparation of exercises and the use of statistical material from the census, labor reports, etc.; history and description of industries; history of the growth of economic ideas. Suggestions, from teachers, of changes that will make the text more useful in their classes, will be thankfully received by the author.

Lack of space makes it impossible to mention by name the many sources to which the writer is indebted. Special acknowledgment, however, is gratefully made to C. H. Hull, of Cornell University; to E. W. Kemmerer, now of the Philippine Treasury Department, and to U. G. Weatherly, of Indiana University, who have read large portions of the manuscript, and have made many valuable suggestions; to W. M. Daniels, of Princeton University, who has read every page of the copy, and to whom are due the greatest (p. xvi) obligations for his numerous and able criticisms both of the argument and of the expression; to R. C. Brooks, now of Swarthmore College, for a number of the questions in the appended list and for helpful comments given while the course was developing; and to R. F. Hoxie and to A. C. Muhse, whose thoughtful reading of the proof has eliminated many errors. For the defects remaining, not these friendly critics, but the author alone, should be held accountable.

No book on economics can to-day satisfy everybody—“Or even anybody,” adds a friend. But with this book may go the hope that what has been written with love of truth and of democracy may serve, in its small way, both to further sound economic reasoning and to extend among American citizens a better understanding of the economic problems set for this generation to solve.

Frank A. Fetter.

Ithaca, N. Y., August, 1904.

THE

PRINCIPLES OF ECONOMICS

PART I

DIVISION A—WANTS AND PRESENT GOODS

CHAPTER 1

THE NATURE AND PURPOSE OF POLITICAL

ECONOMY

§I. NAME AND DEFINITION

1.Economics, or political economy, may be defined, briefly, as the study of men earning a living; or, more fully, as the study of the material world and of the activities and mutual relations of men so far as all these are the objective conditions to gratifying desires. To define, means to

mark off the limits of a subject, to tell what questions are or are no t included within it. The ideas of most persons on this subject are vague, yet it would be very desirable if the student could approach this study with an exact understanding of the nature of the questions with which it deals. Until a subject has been studied, however, a definition in mere words cannot greatly aid in marking it off clearly in our thought. The essential thing for the student is to see clearly the central purpose of the study, not to decide at once all of the puzzling cases. (p.4)

2. A definition that suggests clear and familiar thoughts to the student seems at first much more difficult to get in any social science than in the natural sciences. These deal withconcrete, material things which we are accustomed to see, handle, and measure. If a mere child is told that botany is a study in which he may learn about flowers, trees, and plants, the answer is fairly satisfying, for he at once thinks of many things of that kind. When, in like manner zoology is defined as the study of animals, or geology as the study of rocks and the earth, the words call up memories of many fa miliar objects. Even so difficult and foreignlooking a word as ichthyology seems to be made clear by the statement that it is the name of the study in which one learns about fish. It is true that there may be some misunderstanding as to the way in which these subjects are studied, for botany is not in the main to teach how to cultivate plants in the garden, nor ichthyology how to catch fish or to propagate them in a pond. But the main purpose of these studies is clear at the outset from these simple definitions. Indeed, as the study is pur sued, and knowledge widens to take in the manifold and va rious forms of life, the boundaries of the special sciences become not more but less sharp and definite.

Political economy, on the other hand, as one of the social sciences, which deal with men and their relations in society, seems to be a very much more complex thought to get hold of. We are tempted to say that it deals with less familiar things; but the truth may be, as a thoughtful friend

suggests, that the simple social acts and relations are more familiar to our thought than are lions, palm-trees, or even horses. Every hour in the streets or stores, one may witness thousands of acts, such as bargains, labor, payments, that are the subject-matter of economic science. Their very familiarity may cause men to overlook their deeper meaning.

Many other definitions have been given of political economy. It has been called the science of wealth, or the science of exchanges. Evidently there are various ways in which (p. 5) wealth may be considered or exchanges made. The particular aspects that are dealt with in political economy will be made clear by considering two other questions, the place of economies among the social sciences and the relation of economies to practical affairs.

§ IL. PLACE OF ECONOMICS AMONG THE SOCIAL SCIENCES

1. Political economy, as one of the social sciences, may be contrasted with the natural sciences, which deal with material things and their mutual relations, while it deals with one aspect of men’s life in society, namely, the earning of a living, or the use of wealth. It is true that political economy also has to do with plants and animals and the earth—in fact, with all of those things which are the subject-matter of the natural sciences; but it has to do with them only in so far as they are related to man’s welfare and affect his estimate of the value of things; only in so far as they are related to the one central subject of economic interest, the earning of a living.

2. The social sciences deal with men and their relations with each other. The word “social” comes from the Latin socius, meaning a fellow, comrade, companion, associate. As men living together have to do with each other in a great many different ways, and enter into a great many different relations, there arise a great many different social problems. Each of the social sciences attempts to study man in some one important aspect—that is, to view these relations from some one standpoint.

Man’s acts, his life, and his motives are so complex that it is not surprising that there has been less definiteness in the thought of the social sciences, and that they have advanced less rapidly toward exactness in their conclusions, than have the natural sciences. This complexity also explains the discouragement of the beginner in the early lessons in this sub ject. Usually the greatest difficulties appear in the first few (p. 6) weeks of its study. The thought is mo re abstract than in natural science; it requires a different, I will not say higher, kind of ability than does mathematics. But little by little the strangeness of the language and ideas disappears; the bare definitions become clothed with the facts of observation and recalled experiences; and soon the “economic” acts and relations of men in society come to be as real and as interesting to the student as are the materials in the natural world about him—often, indeed, more interesting.

3. Political economy is related to all the other social sciences, it being the study of certain of men’s relations, while politics, law, and ethics have to do with other relations or with relations under a different aspect. Politics treats of the form and working of government and is mainly concerned with the question of power or control of the individual’s actions and liberty. Law treats of the precepts and regulations in accordance with which the actions of men are limited by the state, and the contracts into which they have seen fit to enter are interpreted. Ethics treats the question of right or wrong, studies the moral aspects of men’s acts and relations. The attempt just made to distinguish between the fields occupied by the various social sciences betrays at once the fundamental unity existing among them. The acts of men are closely related in their lives, but they may be looked at from different sides. The central thought in economics is the business