Early Modern Economic Thought

1. Setting the scene: early modern Europe, 1500-1800

Before roughly 1500, European economic thought was dominated by faith and morality based thinking — the universal characteristic of premodern economics. The early modern period runs roughly from 1500 to 1800. It is called the age of revolutions: religious, commercial, scientific and political.

The old feudal Europe was hierarchical, and it began to decline from the 15th century onward, though at different times in different places. Early modern Europe transformed on three levels:

• Economic level: construction of workshops, the invention of the mechanical clock, growth of international trade, finance, and banking and financial institutions.
• Social level: rise of the bourgeoisie, undermining the power of the aristocracy.
• Cultural level: humanism and renaissance. Humanism was the unifying spirit of the time.

Other forces of the period: the Protestant reformation (decline of religious authority), geographical discoveries and the commercial revolution, the Enlightenment, production getting larger scale as merchants became a connecting point between producers and consumers, the rise of national states, and early colonization.

Why does this matter for economics? Premodern thinkers asked moral questions; early modern thinkers began to ask national questions. The unit of analysis became the economy as a whole — how to make the nation rich and powerful.

2. Mercantilism: wealth as bullion, 1500-1776

Mercantilism is best described as a set of practical maxims or recipes for statesmen, roughly covering 1500 to 1776. It was not a systematic theory like later economics. It flourished in Western Europe: England, France, Spain, the Netherlands, Belgium.

Its main tenets:

• Bullionism: gold and silver are the most desirable form of wealth. A nation’s wealth equals its stock of precious metals.
• Nationalism: promote exports and accumulate precious metals at the expense of other nations.
• Promote the import of raw materials not produced domestically; protect final goods produced domestically; restrict the export of raw materials.
• Colonization and monopolization of colonial trade.
• Opposition to internal tolls, taxes and other restrictions on the domestic movement of goods.
• A strong central government, needed to apply all of the above.
• Importance of a large, hardworking population.

Whom did mercantilist policies benefit or seek to benefit? Merchant capitalists, kings and government officials.

3. Mercantilism as rent-seeking, its stages and its legacy

Rent-seeking means attempts by private parties to increase their profits by securing favorable laws and regulations from the government. Mercantilism can be read as an extreme form of rent-seeking:

• Grants of monopoly status to favored merchants.
• Prohibitions against imports.
• Regulations that made it difficult for newcomers to compete with established merchants.

The slide’s example: banning the production of a commodity of lousy quality. From a competition perspective this is suspicious — such a rule can be a pretext to exclude rivals rather than a genuine consumer protection.

Stages of mercantilism. In the early 16th to mid-17th century, policies were responses to timely economic problems. Bullionism was the primary policy when Europe suffered a huge scarcity of money. Then American precious metals flowed into Spain, and the money supply grew, giving rise to inflation. The slides connect this to Irving Fisher’s equation of exchange:

More mercantilist policies followed, which speeded up capitalist transformation: rise of factories and the economic power of industrial capitalists; individualistic liberal values gained popular support against those same industrial capitalists; state protection of the poor and the working class; and increasing attention to production and welfare systems laid the foundations of classical political economy.

Legacy. Their emphasis on international trade is akin to the modern term balance of payments. But the idea that a nation’s wealth equals its stock of bullion is rejected. The indirect contributions matter: a positive attitude towards merchants, promotion of nationalism, trading companies that contributed to the emergence of modern corporations, and the expansion of domestic markets, free movement of goods, and protection of people and goods.

4. Mercantilist figures I: Mun, Malynes, Davenant

Thomas Mun (1571-1641). Son of a British textile dealer, he became a famous merchant and director of the East India Company. Around 1630 his “England’s Treasure by Foreign Trade” asked how the kingdom was to be enriched; the answer: a surplus of exports. He defended the East India Company’s export of gold to pay for Indian products, arguing that what matters is the overall balance of trade — a deficit with a single country is fine if the total balance is favorable. He also noted the invisible costs of trade: freight charges, ships lost at sea, insurance.

Gerard Malynes (1586-1641). Born in Antwerp, Belgium, to English parents, and a successful international merchant. His “Ancient Law-Merchant” (1622) argued that merchants work for the power and wealth of the nation, that government regulation of goods is necessary, and that more money increases prices and stimulates business.

Charles Davenant (1656-1714). A man of government posts and a member of Parliament, called an “enlightened mercantilist”: he mixed the old and the new and saw the laissez-faire argument coming. In “An Essay on the Probable Means of Making the People Gainers in the Balance of Trade” (1699) he advised relying on domestic raw materials in exporting products. In “Discourses on the Public Revenues and on the Trade of England” (1698) he claimed civil wars are better than wars abroad and defended government regulation of business. As an enlightened mercantilist, he stressed that production is essential, not the bullion.

5. Mercantilist figures II: Colbert, Petty and cameralism

Jean Baptiste Colbert (1619-1683). From a modest background, he served long as Finance Minister of France. French mercantilism is usually called “Colbertism”. He was a bullionist from the heart, nationalistic and militaristic: he favored colonies, a strong navy and merchant marine, and issued many regulations toward a uniform system of weights and measures. He was disliked by feudal lords, the Church and the nobility; the construction of the Canal of Languedoc used compulsory peasant labor, earning him the hatred of peasants too. He regulated business strictly (quality of goods, methods of production) to maintain uniformity, protect the consumer, and win a good name for French goods; he gave monopoly privileges to new industries; and he disliked merchants. For Colbert, work is the most important thing: a large, hardworking, poorly paid population, with child labor and no idleness. He also curbed the power of religious institutions.

Sir William Petty (1623-1687). Son of a poor man. Works: “A Treatise of Taxes and Contributions” (1662), “Verbum Sapienti” (1665), “The Political Economy of Ireland” (1672), “Political Arithmetic” (1699). In some ways a mercantilist: a large population lowers unit costs for the government; the unemployed should be put to work in public works; public works should be financed by taxes.

But Petty is also a forerunner of classical economics:

• Pioneer statistician — he wanted to express himself “in Terms of Number, Weight, or Measure … to use only Arguments of Sense”, a quite positivist way of thinking, though his calculations were not very advanced.
• Velocity (the rate at which money changes hands) matters as much as the quantity of money, and considerable amounts of money do more harm than good.
• Some emphasis on the division of labor.
• A primitive rent theory: rent is the surplus from land.
• The importance of capital: investment in capital matters more than labor.
• A labor theory of value: the same amount of labor gives the same value.

Cameralism: the German version. Germany was composed of over 300 cameralist territorial states. Cameralists were bureaucrats and academics; Germany had a strong bureaucracy and weak capitalism. Similarity with mercantilism: strong and comprehensive state protectionism and intervention. Difference: the police as the essential governmental apparatus, aiming to establish a social and economic order that increases the military and financial power of the state. The existence of the police delayed the formation of liberal values, yet it strengthened the idea of a disciplined government.

6. Physiocracy: the rule of nature, 1756-1776

Physiocracy appeared in France toward the end of the mercantilist era, from 1756 to 1776. The word means rule of nature: physio means what belongs to nature, cracy means rule or government. It was a reaction to mercantilism and the feudal regime: government regulation of business (Colbert) was still in practice, peasants were under heavy taxes while the privileged were exempt. Physiocracy was against government intervention. Its most important members: Francois Quesnay and Anne Robert Jacques Turgot.

Main tenets:

• Natural order: “rule of nature”, self-governing laws of nature, just as in the physical world described by Newton.
• Laissez-faire: the phrase was coined by Vincent de Gournay, meaning “let people do as they please without government interference”.
• Emphasis on agriculture: agriculture is the only productive activity.
• Taxation of the landowner: only agriculture creates a surplus, so only landowners should be taxed — taxes on others would be passed on to them anyway.
• Interrelatedness of the economy: a circular flow of goods and money.

Whom did the school benefit or seek to benefit? Peasants, who would have no obligations to landowners; capitalist big farmers; and even the nobility, which keeps the right to own land and receive rent, while a direct tax on them would overall reduce the tax burden. Why did physiocracy make sense at the time? Because productivity was low in industry and high in agriculture, and the school opposed the obstacles to capitalist development (which were removed after the French Revolution).

Francois Quesnay (1694-1774). Son of a landed aristocrat, trained as a physician, considered the founder of the physiocratic school. His medical training suggested that economic circulation is like the circulation of blood in the body; both conform to natural order. His “Tableau Economique” (1758) shows the circular flow of goods and money in an ideal, freely competitive economy and formed the basis of macroeconomics.

The system: land is owned by landlords but cultivated by tenant farmers (the productive class). Their production must satisfy the needs of landowners too, and their output also provides the needs of the sterile class (manufacturers and merchants). The Table shows flows of spending, and thus revenue received by farmers, landlords and the sterile class:

• Landlords use rent from the previous period to buy goods from the sterile class (a) and food from the farmers (b), creating revenue for them.
• With this revenue, farmers purchase final goods from the sterile class (c).
• The sterile class uses revenue to buy food from farmers (d) — revenue for farmers.
• Farmers pay rent out of their revenue (e), and the cycle repeats.

The importance of the Table: it laid the foundation of national income analysis, statistical analysis and input-output analysis. Quesnay called non-agricultural production “sterile” but did not question the right of landowners to own land and receive rent; he felt he was defending landowners’ rights, yet they saw his tax proposal as an attack. His emphasis on agriculture was somewhat medieval thinking, and he supported the “just price”.

Anne Robert Jacques Turgot (1727-1781). Born into a family in government service, he kept the family occupation. In service he introduced antifeudal and anti-mercantilist measures: freedom of grain; abolition of the privileges of guilds and corporations; end of compulsory work imposed on peasants; cutting government spending; a tax on the nobility; freedom of all people to choose their occupation; universal education, religious liberty, and the creation of a central bank. He faced opposition from all kinds of people. Like other physiocrats he believed in “enlightened absolutism” — still looking to the King to make reforms, with no parliamentary interference. His “Reflections on the Formation and the Distribution of Riches” (1766) contains a theory of wages: competition among workers pushes wages to the minimum subsistence level (the iron law of wages). He also argued that rich capitalist farmers are most capable of efficient farming, and his important contribution is the law of diminishing returns.

7. Forerunners of the classical school

The classical school starts in 1776 and ends in the 1870s with the marginalist revolution. Its main tenets (from the slides): minimal government intervention, self-interested economic behavior, harmony of interests, importance of all economic resources and activities, and belief in economic laws.

Thomas Hobbes (1588-1679). Wrote “De Cive” (On the Citizen) in 1647 and “Leviathan” in 1651, in a time of the rise of the bourgeoisie and conflict between the King and Parliament. His theory of social contract aimed to end civil conflicts. At its center lies a self-interested and rational individual — the assumption of classical political economy. Ending the war is in everyone’s interest. He justified private property and its equal distribution; individuals must pay taxes in return for protection, and taxes should fall on consumption, not wealth, because a tax on wealth penalizes hard work. Still, poverty is a political problem that the state must address.

Sir Dudley North (1641-1691). A wealthy merchant trading with the Ottoman Empire and an opponent of mercantilist practices, called “the world’s first prominent trader”. His “Discourses upon Trade” was published under a fake name — because his free-trade views were dangerous. He argued that international trade is not a zero-sum game: it distributes the money supply to the needs of trade, and laissez-faire is the way to get the maximum gain from trade. No privileges! He also opposed the idea that wars and conquest enrich a country.

Richard Cantillon (1680-1734). Born in Ireland, lived many years in France, became a wealthy banker and financial speculator. His “On the nature of general commerce” was published in 1755. As a forerunner of classical economics:

• He used the term “entrepreneur” and emphasized the role of this figure.
• He developed a theory of value and price, emphasizing land and labor, supply and demand, and price fluctuations.
• “Men multiply like mice if they have unlimited resources” — an idea later associated with Malthus.
• Interest carries a risk taken by the creditor.
• The production of a nation’s resources matters: nobles do not produce but are still helpful, while monks are useless.
• Sale of goods rather than accumulation of bullion: too much bullion is not good (the example of Spain).
• Like a mercantilist, he thought an export surplus was good, but held that it cannot be maintained indefinitely.

David Hume (1711-1776). Born in Scotland, spent much of his life as a tutor and minor government official. His “Political Discourses” (1752) contains his important contribution: the price specie-flow mechanism. Unlike mercantilists who favored accumulating bullion, Hume said excessive bullion was a problem, relying on Locke’s quantity theory of money: price is determined by the quantity of money available, given the velocity and the quantity of output. An influx of money first raises spending, production and employment, but when it is entirely absorbed by a price increase, things change. This is natural law thinking: there is an equilibrium, and once the economy moves away from it, nature restores it.

A second factor is the free fluctuation of national currencies: a trade imbalance corrects itself. The slides trace the chain for England:

1. England imports more than it exports.
2. The value of the pound falls relative to other currencies (England needs more foreign currency to finance imports than it earns from sales abroad).
3. This shortage of foreign currencies increases their prices in pounds.
4. The pound depreciates, other currencies appreciate.
5. English goods become cheaper than other nations’ goods, so England’s exports rise.
6. England reduces imports because foreign goods are more expensive.
7. The initial net import surplus disappears.

International trade, for Hume, is a positive sum game in which all parties gain. Powerful nations do not gain more, because provisions and labor become more expensive in those nations. This optimist view was sometimes justified and sometimes not. Rich countries attract capital and talent; wealth leads to improvements in health and education, increases social capital, and leads to larger markets. Hume also rejected the physiocratic view that taxes on workers get passed to the landowner as higher wages and reduced rent: wages depend on supply and demand, not on taxes. A tax on products makes consumers consume less or work more.

Jean-Jacques Rousseau (1712-1778) — an opponent view. Rousseau was more critical of capitalism, the market economy and inequalities. An ideal economic system has three purposes: abundance, freedom, justice. His policies: promotion of agriculture and useful crafts; important enterprises for the necessities of life while restricting luxury production and consumption; increase of wheat and population; limitation of commerce based on the money economy; restriction of foreign trade; increasing nutrients and consumers in the country as much as possible; and progressive taxation.

8. From early modern to classical: where the period leaves us

The conclusion of the lecture: the early modern period was a period of different ideas about the economy, most of them diverging from medieval ideas. Three strands:

• Mercantilism: a focus on the national economy and the power of a nation.
• Physiocracy: the importance of agriculture, natural order and laissez-faire.
• Forerunners of the classical school: some early formulations of the classical doctrine.

The chain of ideas runs like this: mercantilists (1500-1776) treated the national economy as the object of policy and looked for recipes for statesmen; physiocrats (1756-1776) reacted against mercantilist regulation and feudal privilege by appealing to natural order and agriculture; then writers such as Hobbes, North, Cantillon and Hume assembled pieces — the rational individual, non-zero-sum trade, the entrepreneur, the price specie-flow mechanism — that Adam Smith would combine in 1776, the year the classical school begins.

Exam practice

Summary and review

• Early modern period (roughly 1500-1800): the age of revolutions. Feudal hierarchy declined; towns, trade, finance, humanism, reformation, discoveries, Enlightenment and national states rose. Humanism was the unifying spirit; the economy as a whole became the object of thought.
• Mercantilism (1500-1776) was not a theory but practical maxims for statesmen: bullionism (wealth equals gold and silver), nationalism (exports and bullion at other nations’ expense), protection of domestic final goods, raw-material import and export restrictions, colonization and colonial monopolies, free internal movement of goods, strong central government, and a large, hardworking, low-wage population.
• Mercantilism can be seen as extreme rent-seeking: monopoly grants, import prohibitions, entry barriers. It benefited merchant capitalists, kings and officials. Bullionism made sense while money and international finance were undeveloped: bullion was needed to make international payments.
• Inflation from American bullion: inflow of precious metals into Spain raised the money supply, and by Fisher’s equation $M \times V = P \times T$, prices rose; mercantilist policies beyond bullion sped up capitalist transformation and helped lay the foundations of classical political economy.
• Figures: Mun (overall balance of trade, invisible costs), Malynes (merchants serve the nation, regulate goods, more money raises prices), Davenant (enlightened mercantilist: production, not bullion), Colbert (Colbertism: bullionist, militarist, regulation, work above all), Petty (political arithmetic, velocity, capital, labor theory of value), cameralism (German version: bureaucrats, strong state, the police).
• Physiocracy (1756-1776, France): rule of nature; a reaction to mercantilism and feudalism. Natural order, laissez-faire (coined by Gournay), agriculture as the only productive activity, taxation of the landowner, and the circular flow. Best members: Quesnay (Tableau Economique, 1758) and Turgot (iron law of wages, diminishing returns, reforms from freedom of grain to a central bank).
• Forerunners of the classical school (classical school starts 1776, ends 1870s with the marginalist revolution): Hobbes (social contract, rational self-interested individual, consumption taxes), North (trade is not zero-sum; no privileges), Cantillon (“entrepreneur”, value and price, risk), Hume (price specie-flow mechanism, quantity theory, positive-sum trade), Rousseau (opponent: abundance, freedom, justice; anti-luxury, progressive taxation).

Step-by-step examples

These examples are a ladder: easy questions first, then medium, then full exam answers. Read the setup, try each step yourself, and only then reveal the next line.

Easy

Your turn. Try this before moving up to the medium rung.

Medium

Your turn. Now test the last three examples before the exam rung.

Exam level

These are short-essay questions. The model steps show the blocks of a good answer: thesis, argument 1, argument 2, argument 3, conclusion.

Your turn. One last question to check the whole ladder.