Incentives rule the world

While capitalism’s profit motive rewards and thus encourages virtue, without supportive moral values it can promote and inflame greed. Economists often look at capitalism (competitive, market economies) as directing man’s natural greed (self interest) to the service of the public good (Adam Smith’s invisible hand). Before he wrote his most famous work, “The Wealth of Nations,” Adam Smith wrote the “Theory of Moral Sentiments” (1759). It provided the ethical, philosophical, psychological, and methodological underpinnings to his later works, including “The Wealth of Nations” (1776). In it he elaborates far more fully his views on the supportive and reinforcing relationship between man’s nature (self-love, reason, sentiment, etc.) and morality (propriety, prudence, benevolence, etc.) and the invisible hand of the market place that leads mans’ quest for personal gain (profit) to serve the public good.

But whether capitalism tends to promote morality or not, any economic system will perform better if supported by moral values of mutual respect, compassion, and honesty. Our persons and our other property—our very lives—are best protected by the voluntary respect and honesty of our neighbors. If everyone (or almost everyone) is honest and does not steal, our property can be protected at negligible cost and we will all be wealthier. Today’s need to imbed security sensors in merchandize is a cost of business, like a tax, necessitated by weakened public morality and it makes us poorer. It is a cost with no benefit other than counterbalancing a failure of morality. Whether capitalism makes us more virtuous or not, the quality of our lives will be better in a moral society than an immoral one. Thus we need to be concerned with the inculcation of such values in each generation as much as with the preservation of free markets.

Beyond some point, a larger government, responsible for more and more of our needs and behavior, begins to displace and to undermine the morality that supports our prosperity. Our sense of self-reliance and personal responsibility begins to give way to reliance on others through state institutions. Profits become more reflective of the ability to gain favors from the state than from satisfying the wants of our neighbors. The incentives for corruption thus created bring forth more corruption. Capitalism begins to slide into socialism.

I replied to the young Kenyan man that capitalism is not immoral nor does it encourage or promote immorality. But it is not in itself a set of moral principles that any society needs to be prosperous and good. We need to worry about preserving such values as much as our freedoms to develop our talents and serve our fellow man as we each see fit.

Warren Coats retired from the International Monetary Fund in 2003, where he lead technical assistance missions to central banks in more than twenty countries. He is Senior Monetary Policy Advisor to the Central Banks of Iraq and Afghanistan. His most recent book, “One Currency for Bosnia: Creating the Central Bank of Bosnia and Herzegovina,” was published in November 2007. He has a Ph.D. in economics from the University of Chicago and lives in Bethesda Maryland.