27 Jun 2023

By Bruce Lyons

The Tercentenary of Adam Smith’s birth prompted me to revisit one of the most famous quotes in competition policy and remind myself what he really said and in what context. Would he have approved of modern cartel policy, or would he have considered it regulatory meddling in the natural working of the market?

Smith was a strong advocate of competition and worried about how it could be undermined. He thought that collusion was endemic: ‘People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.’ [1] His deep scepticism about business motives has become a cornerstone of effective competition law enforcement. He further considered it ‘self-evident’ that: ‘Consumption is the sole end and purpose of all production, and the interest of the producer ought tobe attended to only so far as it may be necessary for promoting that of the consumer.’[2] This is a very modern consumer welfare standard – his concern with collusion was that it raises profits at the expense of consumers. Yet Smith did not go as far as to propose that cartels should be illegal.

There is another important foundation for Smith’s normative analysis. He believed strongly in personal liberty and advocated an economic system in which every man ‘is left perfectly free to pursue his own interest in his own way, and to bring both his industry and his capital into competition with those of any other man’.[3]  Although it may appear similar to modern concerns about ‘exclusionary effects’, the latter have an eye to future price rises whereas Smith saw a very direct virtue in individual freedom of entry, which is separate from the consequences for consumer price and product quality.

A deeper look at his analysis in The Wealth of Nations helps us understand both his position on cartels and why he is an enduring influence on competition policy today. As background, recall the historical context of the economy at the time. While factory production was developing fast, eighteenth century commerce was still dominated by guilds and ‘corporations’. These had legally enforceable powers to impose regulations limiting entry in a particular trade and town, or to operate as a monopoly. Smith observed that poor quality workmanship was the typical consequence. He considered them self-serving and without benefit to consumers: ‘The pretence that corporations are necessary for the better government of the trade, is without any foundation. The real and effectual discipline which is exercised over a workman, is not that of his corporation, but that of his customers. It is the fear of losing their employment which restrains his frauds and corrects his negligence. An exclusive corporation necessarily weakens the force of this discipline.’[4]

On the positive side, these institutions often provided a form of social insurance for their members. Smith’s worry was that even this laudable aim required all members to meet in the same room. He argued that nothing should be done to help firms identify rivals, put them in the same room, or allow them to require any form of joint action with rivals: ‘though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies, much less to render them necessary.’[5] His concern for liberty led Smith to argue that, while the state should not do anything to facilitate what we now call cartels, it should not go so far to prohibit meetings where prices might be fixed: ‘It is impossible, indeed, to prevent such meetings, by any law which either could be executed, or would be consistent with liberty and justice.’

Under modern competition law, it is illegal to be party to an agreement to fix price, allocate markets or share price-sensitive information. Being in the same room when such matters are discussed is similarly illegal. This a step further than Smith considered feasible, though it took until the twenty-first century before enforcement became widespread and reasonably effective.[6] I consider that Smith’s concern for liberty is still met in that it is not illegal for rival firms to meet in the same room, but now they are best advised to take a lawyer to ensure that the conversation does not stray into pricing. On this basis, I suspect that Smith might have approved that cartels are now illegal.

On a final note, it is worth emphasising something I mentioned earlier in passing, and which is much less widely appreciated than his cartel quote. Smith’s eighteenth century focus on consumers has been resurrected in twenty-first century competition policy. It has outlasted nineteenth century utilitarianism and twentieth century welfare economics which had lent support to policies that balance consumer and producer interests. Smith’s legacy in competition policy remains profound.

[1] All quotes are from Adam Smith’s The Wealth of Nations, with references such as [1.7] in the following footnotes meaning Book 1, chapter 7. In this case, the reference is [1.10] with emphasis added.

[2] [4.8]

[3] [4.9]

[4] [1.10]

[5] [4.2]

[6] Landmark legislation was the Sherman Act (1890) in the USA, EU Treaty (1957) and UK Competition Act (1998). However, it was not until the 1990s that there was effective implementation of anti-cartel legislation in most of Europe. It was also around this time that most countries across the globe introduced their own anti-cartel laws. For a brief history of competition policy in Europe, see Lyons (ed.) 2009, Cases in Competition Policy: The Economic Analysis, Introduction, section 4, pp.14-20, CUP.