Inventing the Invisible Hand

“Inventing the Invisible Hand: Adam Smith and the Chicago School of Economics”
If you were to ask someone what they know about Adam Smith, one of the most common responses you can expect is, “I know about the invisible hand.” Smith’s metaphor has become a hallmark of what we might refer to as “American capitalist doctrine,” and has become synonymous with the notion of self-interest—or more reductively, selfishness—over benevolence to promote the public good. 

Smith scholars have long known that these popular representations of Smith’s ideas are misleading. Much of their work today focuses on Smith's ideas about sympathy, justice, social ethics, the duties of government, and the downsides of market societies, all of which challenge the common caricature of the invisible hand. But how, when, and why did such a selective reading and portrayal of Smith’s ideas emerge in the first place? 

To try to answer this question, I look at how economists of the so-called “Chicago school of economics” read, taught, and appropriated Adam Smith’s ideas in the twentieth century.  Today, the University of Chicago is one of the most if not the most decorated institutions in the field of economics. The department boasts over a dozen Nobel Prizes in economics (including the most recent recipient, Richard Thaler) and John Bates Clark medalists. However, in its early years Chicago’s department of economics was considered unorthodox. In developing and championing Chicago price theory, Chicago economists used Adam Smith’s ideas in ways that influenced the field of economics and, more importantly, political ideas in the last quarter of the twentieth century. In this essay, I highlight several different ways that the Chicago school shaped one of the most enduring and recognizable interpretations of Adam Smith and the invisible hand.

In order to understand how Chicago economists were reimagining Adam Smith, it is first important to understand how they were trying to redefine the field of economics after the Great Depression. In the 1930s, Frank H. Knight and Jacob Viner laid the foundations for Chicago Price Theory, which became the foundation for modern microeconomic theory. Rather than looking to state or social institutions to explain economic phenomena and prescribe solutions to problems, Knight and Viner framed supply, demand, prices, and value as the most fundamental forces of economic behavior. Price theory claimed that in a competitive economy, prices were the most important signal of what individuals want and determine not just what is produced but how things get produced and who gets them. It was in Chicago Price Theory courses that many economics students would first encounter Adam Smith’s ideas in two important ways.  

One of Smith’s examples that Knight and Viner seemed particularly fond of was the so-called “deer-beaver exchange” from An Inquiry into the Nature and Causes of the Wealth of Nations (hereafter Wealth of Nations) Book I, Chapter VI. In this passage, Smith describes how we understand value in terms of the opportunity cost of labor—how much a beaver should be valued is based on how many deer might be caught in the same amount of time. If it takes twice the labor to kill a beaver than it does a deer, for example, “one beaver should naturally exchange for, or be worth, two deer.”[1] 

Knight and Viner repeatedly used this example not to illustrate that Smith’s theory was right, but that Smith was wrong. Modern economics rejects the idea that the essence of value is in labor—it is instead found in the power of a particular good to satisfy a need or desire. However, even though Smith was wrong, it was important to recognize his ideas in a longer perspective. Smith, the father of economics, was a historical mile-marker back at which twentieth-century students could look to recognize how far economics had progressed. Teaching Smith in this way reinforced the idea that he was the founding father of economics whose ideas, even when wrong, are still worth learning. More importantly, reminding students that Smith was an intellectual ancestor provided both lineage and legitimacy to an unconventional approach to economics.

Another prominent way Chicago school economists reimagined Smith was as a kind of role model for how to relate economic ideas to politics. Wealth of Nations demonstrated that economics could be as rigorous and objective as the natural sciences without losing relevance to politics. However, Knight and Viner’s generation—which Steven Medema has called the “old Chicago school”—did not characterize Smith as a one-sided ideologue who stood for laissez-faire politics. In fact, both Knight and Viner strongly resisted ideological readings of Smith’s ideas and criticized many interpretations of Smith’s political economy as being “oversimplified and perhaps too emotional and one-sided.” [2]  Viner was one of the first economists to emphasize the importance of reading Smith’s The Theory of Moral Sentiments alongside Wealth of Nations. He emphasized that Smith’s notion of laissez-faire (a term Smith did not use) did not imply that all government activity was bad. On the contrary, Smith allowed for a “wide and elastic range of activity for government” that would support a free and flourishing society.[3] 

 Thus, the “old Chicago school” of Knight and Viner portrayed Smith as a multifaceted economist whose ideas not only paved the way for modern economics—specifically, Chicago Price Theory—but also provided a model for the relationship between economic science and politics. However, the next generation of economists, which I will refer to as the “new Chicago school,” would radically change this vision of economics and of Adam Smith’s ideas. 

Knight and Viner’s students of the 1930s and ‘40s became some of the most formidable economists in the ‘60s and ‘70s. While the way they taught price theory was more or less the same, the approach of economists like George Stigler and Milton Friedman differed from their teachers’, putting a greater emphasis on prediction and the empirical testing of more abstract theories, as well as a different interpretation and use of Adam Smith’s ideas, particularly “self-interest” and “the invisible hand.” 

The concept of self-interest was perhaps of most interest to George Stigler. Stigler won the Nobel Prize in Economic Sciences in 1982 and over the course of his career became known as “Adam Smith’s Best Friend” in close circles. [4] Stigler called self-interest the “crown jewel” of Wealth of Nations and an idea that “remain[ed] to this day, the foundation of the theory of the allocation of resources.”[5] Stigler’s construct of self-interest was the following: acting in one’s own rational interest was the most socially-productive and efficient behavior. Smithian self-interest was a principle “Newtonian in its universality” which informed our understanding of prices in the market. Moreover, if self-interest produced such efficient outcomes, doubt was cast on the ability of institutions—public and private—to determine what was in the public interest through any other means. 

This seems like a political claim. Indeed, Stigler once wrote that economists who believed in the power of self-interest to explain human behavior stood at the “forefront of what presently appears to be a modest policy of deregulation of certain areas of economic behavior.”[6] But Stigler shied away from politicizing his ideas and insisted on the pursuit of ideas that would “increase the understanding of economic life,” rather than ideas to influence politics. In fact, Stigler thought that Adam Smith’s success as an economist was due to his “impact…on other scholars, not his impact on public thinking or policy.” [7] In this sense, Stigler tried to separate Smith’s scientific contributions as an economist from contemporary applications of those contributions to public policy. 

By contrast, one of Stigler’s closest friends and colleagues, Milton Friedman, treated Smith’s contributions to economic science as inseparable from his contributions to politics. Smith’s great metaphor of “the invisible hand” was one of the most powerful images that Friedman drew on in his public-facing work. The idea of the invisible hand connected the economists’ assumption about self-interest producing the most efficient outcomes with a political claim about the absence of government interference in economic life. In Friedman’s terms, Smith’s invisible hand was “a vision of the way in which the voluntary actions of millions of individuals can be coordinated through a price system without central direction.”[8] The invisible hand was much more than a metaphor for the price mechanism for Friedman. It also was an explicit political statement about limited government and the superiority of free enterprise.

Friedman propagated this interpretation of the invisible hand with unmatched popular reception. In 1980, Friedman debuted on a public television series entitled Free to Choose, which featured Friedman narrating “major issues relevant to understanding free markets and their relation to a free society” all over the world. The core message of the program was that economic freedom was the foundation for political and personal freedom—that Adam Smith discovered the law of the invisible hand 200 years ago and this insight was central to Thomas Jefferson’s creed of life, liberty, and the pursuit of happiness. So long as this invisible hand was left to work on its own, said Friedman, there was no need for government interference in our economic and personal lives. An estimated three million viewers watched Free to Choose. The accompanying book, which Friedman co-authored with his wife, Rose, sold over a million copies. If Friedman could have had his way, the show—and book—would have both been named The Invisible Hand, rather than Free to Choose. [9]

In 1974, two years before he was awarded the Nobel Prize in Economics, Milton Friedman delivered a speech before the Board of Trustees at the University of Chicago. In that speech, he summed up what he believed the “Chicago school” stood for: a belief in the efficacy of free markets, skepticism of government intervention in economic life, and, more broadly, an approach to economics that “takes seriously the use of economic theory as a tool for analyzing a startlingly wide range of concrete problems…for an approach that insists on the empirical testing of theoretical generalizations and that rejects alike facts without theory and theory without facts.”[10] 

In the same speech, Friedman also suggested that the Chicago approach to economics had a distinguished lineage. Chicago economists were all students of Frank Knight, Jacob Viner, and Henry Simons (three of Friedman’s own teachers), and “at a still longer remove, of Adam Smith—who but for the accident of having been born in the wrong century…would undoubtedly have been a Distinguished Service Professor at the University of Chicago.” [11]

These statements aptly summarize two important points about how and why economists at the University of Chicago used Adam Smith’s ideas, ultimately leaving us with perhaps the most recognizable version of Adam Smith today. First, as they were developing their own approach to economics, Chicago economists had to prove that their method of doing economics was credible. The older generation of Knight and Viner used examples from Smith’s Wealth of Nations to show how classical thinkers like Smith anticipated central concepts within Price Theory. Stigler and Friedman used ideas like “self-interest” and “the invisible hand” as the foundation for their approach to studying economic behavior. Drawing on Smith’s intellectual authority as the “father of economics”—and more specifically, the father of Chicago economics—gave intellectual heft to an otherwise unorthodox approach to economics at the time.[12]

Second, by claiming Adam Smith as one of their own, Chicago economists were “economizing” Smith in two senses of the term: trying to show that he was a modern economist like themselves and stripping away Smith’s ideas (like his moral philosophy and political theory) that were not relevant to their own projects. 

Once Smith was turned into an economist, his ideas were more easily politicized. Even though figures like Knight, Viner, and Stigler tried to resist using economics to preach any one political ideology, Friedman used the idea that economics is an objective science as a political tool. Self-interest and the invisible hand provided the scientific grounding for a political agenda that aggressively attacked government interference in private economic life. 

The Chicago school’s figures and their readings of Smith were far more complex and nuanced than can be recounted in this brief essay. They were not the only “school” of economists interested in Adam Smith’s relevance for modern economics and politics. Nevertheless, examining how these important figures taught, read, and used Smith’s ideas is important. It shows how influential their interpretation of Smith’s ideas both was and is, and it reminds us of how we often take for granted that ideas commonly attributed to Smith are not those of Smith himself, but rather of prominent figures with their own intellectual and political agendas.



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[1] WN I.vi (p. 65). The example appears in Jacob Viner’s 1930 lectures in Economics 301, numerous iterations of Knight’s version of the course between 1930 and 1939, and also in Knight’s earlier article on “A Suggestion for Simplifying the Statement of the General Theory of Price” published in 1928.   

[2] See Viner’s entry, “Adam Smith,” in David L. Sills, International Encyclopedia of the Social Sciences, vol. 14 (New York: MacMillan, 1979), 328.

[3] Viner, "Adam Smith and Laissez Faire", 231, 218.

[4] Stigler was quite proud of this epithet, as he recalled in his 1976 article: “There is a game I sometimes play with children; I call it ‘Three Questions.” If all three questions are answered correctly I promise $1 million…The first two questions present no difficulty: perhaps the number of brothers and sisters the child has, and the city in which it lives. The third question is a different matter. Once I asked, “Who was Adam Smith’s best friend?” The reply from this child was, “You are, Uncle George.” I had someone like David Hume or James Hutton or Joseph Black in Mind. Still I have long been a good friend of Smith, though I have no right to claim priority in his circle.” Stigler, “The Successes and Failures of Professor Smith,” 1200; Nathan Rosenberg, “George Stigler: Adam Smith’s Best Friend,” Journal of Political Economy, 1993, 833–48.

[5] George J. Stigler, “The Successes and Failures of Professor Smith,” The Journal of Political Economy, 1976, 1201.

[6] Stigler, “Economics or Ethics?,” 171.

[7] Ibid.

[8] Friedman, “Adam Smith’s Relevance for Today,” 11.

[9] Friedman and Friedman, Two Lucky People, 497–498. Friedman recalls the struggle to name the TV series. Originally he had suggested “The Invisible Hand,” but some exchanges amongst the producers and Friedman revealed that nobody liked the name that Friedman and his wife suggested. Mike Latham, one of the show’s producers, ultimately suggested the winning title, “Free to Choose.” Friedman and Friedman, Two Lucky People, 495–6.

[10] Milton Friedman, speech at the 54th Annual Board of Trustees’ Dinner for the Faculty. January 9, 1974. Milton Friedman Papers, Box 55.8.

[11] Ibid.

[12] Jones, Masters of the Universe, 101.