How the Market System Developed

The Hong Kong Skyline in 2013

The Hong Kong Skyline in 2013

by Ryan Allis

To be a good entrepreneur, it is helpful to understand how the system of the competitive market economy has developed. The system of entrepreneurship and competitive market economies was threatened during most of the 20th century by the concept of centrally planned state economies in a massive battle of ideas.

In the 20th century, we used the new tools of the Industrial Age to create major scientific advances. The century was filled with technological innovation as well as an ideological struggle between centrally planned economies based on state control and distributed planning economies based on the competitive market economy.

From two atomic bombs dropped on Japan to Mao’s Great Leap Forward to the Khmer Rouge in Cambodia to the Rwandan Genocide it was a turbulent century that brought approximately 200 million deaths from war.. Unemployment in the U.S. rose from 4% in 1928 to 24% in 1933, as government fiscal policy under President Hoover remained conservative.

John Maynard Keynes’ General Theory of Employment, Interest and Money (February 1936 ) laid out the plan for President Franklin Roosevelt. It wasn’t until the implementation of Roosevelt’s New Deal Reforms of the mid-1930s, based on the counter-cyclical fiscal policy of Keynes, followed by the economic expansion from World War II, that the U.S. economy got back on track. The debate as to whether an economy should be based on central state planning or decentralized market prices was on.

How the Global Economic System Formed

World War II was a war caused, in part, by economics. The German disgust over the forced World War I reparations and the subsequent German hyperinflation enabled the rise to power of Adolf Hitler, who became Chancellor of Germany in 1934 with a nationalistic perspective combined with a belief that the Aryan race was superior to others. Hitler’s attack on Poland in 1939 thrust the world into World War II, in which France, Britain, Russia, China, and the United States (and their colonial-tied countries) fought Germany, Italy, and Japan (and the countries they influenced). At the beginning of World War II, Japan controlled much of Eastern China after the Second Sino-Japanse war.

The destruction to lives, dignity, and property caused by World War II cannot be overemphasized. From the Holocaust extermination camps in Germany and Poland to the Nanjing Massacre in China, our species went through a six year period that showed the worst of the human condition. As an aside, my father (Andrew P. Allis) was born in 1938 and was a young boy growing up in Pennsylvania during this period of atrocities. Although two generations have now passed since those times, I hope we never forget the horrors of World War II and that the continued innovation in global communication technologies and trade continues to bring us closer together as a single, empathetic species in which we all see ourselves as part of the same human tribe. Happily, the internet is beginning to play a major role in creating a single connected human identity and consciousness at the species level.

Near the end of World War II, in 1944, the Allied powers gathered in Bretton Woods, New Hampshire, to lay out the rules of the new global economic system. The Bretton Woods conference created the World Bank and the International Monetary Fund, and laid the foundations for the 1947 General Agreement of Tariffs and Trade (GATT), the forerunner to the World Trade Organization and our global economic system. The Bretton Woods delegates established these global organizations to govern international trade and finance in the hope of never returning to the protectionist economic policies that decreased trade, fostered an “us vs. them mentality,” and worsened the Great Depression.

In June 1945, the United Nations was created by 51 original signatories, designed to reduce conflict and provide a forum for diplomacy to reduce the likelihood of another devastating world war.

In World War II, the United States, Russia, and China all fought on the same side. But by the late 1940s, tensions grew as the dominant division was no longer between Democracy and Fascism, but between Capitalism and Communism.

In 1949, Mao Zedong’s Communist Party of China won the Chinese Civil War and set up the People’s Republic of China, sending much of the formerly ruling nationalist party to Taiwan.

By 1950, the U.S. had entered a war with Soviet Russia and China in the Korean theater. Divided at the 38th parallel in 1945, the Korean Peninsula was split between a Soviet-backed government in the North and a Western-backed government in the South. Northern forces crossed the 38th parallel in June 1950 and had nearly consolidated the entirety of the Peninsula by late June 1950. President Truman, backing up his 1947 Truman Doctrine that he would not let Communism spread, sent in American troops under General MacArthur to Korea, creating a drawn-out three year war with massive casualties and numerous massacres in which the USSR, China, and North Korea battled the United States and South Korea. Over 500,000 troops were killed on both sides, with another 2.5 million civilians killed or wounded.

The beginning of the Cold War wasn’t actually all that cold.

In the USSR, the perspective was that the Red Army of Stalin had defeated the fascism of Hitler and Mussolini and that state planning was the way to go.

New Economic Models in Germany, India, and Britain

In Germany, because of the separation beween East and West Berlin, there was a unique opportunity to see a comparison of the two competing economic models. Ludwig Erhard, from 1946 to 1949, was the West German Minister of Economics (and later the Chancellor of West Germany). One of Erhard’s first tasks as Minister of Economics was slowing hyperinflation by removing price controls to enable markets to properly function and get goods into stores. In the ensuing decades, West Germany would have a competitive market economic combined with a strong safety net.

In 1947, India became independent of Britain and Jawaharlal Nehru became the first Prime Minister. Nehru led India into an economic model focused on the scientific state planning of a mixed economy. India’s socialist model was looked to across the developing world as the preferred model of development. By 1950, Socialism, planning, government control, and government ownership became the standard in the developing world. India chose to shut out foreign imports based on the ideals of self-sufficiency.

“If you have a controlled economy cut off from the rest of the world by infinite protection, nobody has any incentive to innovative, nobody has any incentive to increase productivity, to bring new ideas.” – Manmohan Singh, Finance Minister, 1991-1996, and current Prime Minister of India

In Britain, the Labour Party’s Clement Attlee won the 1945 election, defeating Winston Churchill. He argued that the way to “win the peace” was with a socialist state, with many private owners compelled to sell their businesses to the State. The British government took over enterprises like coal, steel, and the railroads. The sense was  that the way forward was through government ownership of the largest, most important industries. It took until the 1980s for the determined Margaret Thatcher, influenced by F.A. Hayek’s Road to Serfdom, to move the United Kingdom away from price controls and worker’s strikes and toward a competitive market-based economy.

Winning the Battle of Ideas

In 1947, President Harry Truman signed the National Security Act in the United States, creating the Central Intelligence Agency. The CIA played a significant role in enforcing the Truman Doctrine to contain the spread of communism. The United States government, sadly, in many cases undermined the role of democracy globally in order to “protect” capitalism.

To put into context just how hot the proxy wars were between the USSR and the USA between 1949 and 1991, here’s a list of just a few of the countries that had civil wars, coups, or revolutions related to the “Cold” War between communism and capitalism: North Korea (1950), Iran (1953), Guatemala (1954), Brazil (1964), Vietnam (1965), Greece (1967), Cambodia (1970), Bolivia (1971), Chile (1973), El Salvador (1979), and Afghanistan (1979).

As an American, I am honestly embarrassed by some of the actions our government took from 1950-1980. While the battle of economic ideas was ultimately won with the market system demonstrating much better results for both the poor and the well-off than a centrally planned economy was ever able to, I am still disturbed by the number of coups and assassinations against democratically elected leaders our Central Intelligence Agency was part of, leading to continued mistrust and conflicts to this day. Ultimately, I hope that 2015-2050 will be a time of much greater compassion and understanding between cultures across the world—spurred on by the growing connection to human identity that many of us in Generation Y are feeling as we communicate and connect with people all over the world.

It took the combination of Ronald Reagan in the U.S. and Margaret Thatcher in the UK and the collapse of the Soviet Union to swing the pendulum back toward a global belief in competitive market economies. In the 1980s and 1990s, industries around the world were privatized, regulations were reduced, and the model of the market-driven economy became the primary world model.

The Advancing Market Economy

“You can’t get away from the fact that globalization makes us more interdependent. It’s not an option to shed it. So is it going to be on balance positive or negative?” – Bill Clinton, 42nd President of the United States

The basis for today’s global system was formed in Bretton Woods in 1944. That meeting formed the basis for today’s global banking, trading, and currency system, and set up the World Bank, International Monetary Fund, and the General Agreement of Tariffs and Trade.

Fifty years later, on April 15, 1994, the Uruguay round of the General Agreement on Tariffs and Trade was completed. Delegates had agreed to form the World Trade Organization (WTO), based in Geneva, to govern international rules on tariffs, subsidies, intellectual property, and foreign investment.

These economic standardizations did not come without event. The 1997 Asian crisis followed the Thai Bhat devaluation, caused by markets overly open to speculative currency trades. The 1998 Argentinian default followed a similar track.

In the 1999 Seattle meetings, the 2001 Doha meetings, and the 2003 Cancun meetings of the World Trade Organization, developing countries combined forces to negotiate updates to the rules to allow emerging markets to better prosper.

Why does all this matter to entrepreneurs? Because after a 20th century of warfare, genocide, conflict, and a battle of ideas between centrally planned and market economies, the global system was finally developing sufficiently to enable greater global stability, transparency, and rules that made it easier for anyone to start and build a business and solve problems in their community.

In 1979 the World Economic Forum (based in Switzerland) began publishing an annual Global Competitiveness Report and in 2004 the World Bank (based in Washington D.C.) began publishing an annual Doing Business Report comparing business regulations in 185 countries.

Instead of focusing on consolidating power through military means as they did in the 20th century, world leaders today focus on consolidating power by creating legitimacy in the eyes of their people through the pursuit of a strong, growing, and efficient economy in which the needs of the people are served.



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The first World War began in 1914 when Archduke Ferdinand was shot by Serbian nationalist Gavrilo Princip in Sarajevo. Should you ever have any doubt that the world of today is substantially more peaceful and interconnected than the world of 1914, read the July Ultimatum between the Austro-Hungarian Empire and Serbia. It was a world of miscommunication and mistrust in which national and religious identity often trumped human identity and the broader empathy circles and better communication tools we have today.

World War I ended with the Treaty of Versailles in Paris 1919. With the treaty, the Allied Forces compelled Germany to pay reparations roughly equivalent to $440 billion (in today’s dollars), strongly against the wishes of British economist John Maynard Keynes, who saw the payments as excessive and counterproductive to continued peace.

“If we take the view that Germany must be kept impoverished, and its children starved and crippled, vengeance I dare predict will not limp. Nothing can delay that final war that will destroy the civilization and progress of our generation.”  – John Maynard Keynes, The Economic Consequences of the Peace (1919)

Changes were at hand in Russia as well, an Allied country in World War I, much affected by the conflict with Germany. In 1922, the Soviet Union was formed following the 1917 Bolshevik Revolution and a Russian Civil War. The Lenin-led USSR, influenced by the ideas of German philosopher Karl Marx, implemented a centrally planned economic model in which prices, outputs, and professions were determined by the government instead the market.

Against the background of the new Soviet economic model, the U.S. the Dow Jones Industrial Average dropped 89% between 1929 and 1932 from a high of 380.3 in 1929 to a low of 42.8. The U.S. GDP dropped from $103.6 billion in 1929 to $56.4 billion in 1932.Bureau of Economic Analysis, Current-dollar and “real” GDP, –
The Commanding Heights, Episode 2, The Agony of Reforms, 19 min 14 sec

The History of Entrepreneurship

The early silk trade routes, dating from the Han Dynasty in 200 BCE

The early silk trade routes, dating from the Han Dynasty in 200 BCE

By Ryan Allis

The Beginnings of Trade

The original entrepreneurs were, of course, traders and merchants. The first known instance of humans trading comes from New Guinea around 17,000 BCE, where locals exchanged obsidian, a black volcanic glass used to make hunting arrowheads for other needed goods. These early entrepreneurs exchanged one set of goods for another.

The first known instance of humans trading with other humans comes from New Guinea around 17,000 BCE when locals exchanged obsidian, a black volcanic glass used to make hunting arrowheads for other needed goods.

The first known instance of humans trading comes from New Guinea around 17,000 BCE when locals exchanged obsidian, a black volcanic glass used to make hunting arrowheads for other needed goods.

Around 15,000 BCE, the first animal domestication began taking place, and around 10,000 BCE, the first domestication of plants. This step toward agriculture was critical for the advancement of the human species. Now, instead of having to continually move around as nomadic tribes, seeking new places to hunt and to gather, we could stay in one place. Agriculture allowed us to start to form larger stationary communities and cities (the basis for civilizations), which set the stage for the development and spread of human knowledge. Agriculture changed everything for humans, enabling the formation of stable rather than migratory populations and laying the foundation for human populations to grow from 15 million to over 7 billion in the millennia ahead.

As more people moved into these stable communities, one of the most important advances took place with the advent of specialization. Instead of each tribe hunting and gathering their food, different individuals within each tribe would become experts at certain tasks, such as farming, hunting, gathering, fishing, cooking, tool-making, shelter-building, or clothes-making. The importance of specialization in various tasks (versus self-sufficiency in all) cannot be overstated. As some individuals in a community focused on one activity or another, they got much better at it, speeding up the pace of innovation. As different people got better at different tasks through specialization, they were then able to exchange with one another for the various goods and services needed, increasing the benefits for all.

As methods of agriculture improved, the first towns and cities were seen. Dependable food supplies allowed people to build permanent houses and settle in one area. As settlements increased in size, new social institutions such as religious centers, courts, and marketplaces developed. The advent of towns produced further specialization, creating jobs in tool-making, pottery, carpentry, wool-making, and masonry, among others. The specialist created items faster and of a better quality than each family making its own, increasing standards of living.

When the last Ice Age ended around the year 8,000 BCE, the poles melted, raising sea levels and creating a divide between Siberia and North America. This divide created two separate human civilizations for nearly 10,000 years, until European explorers reached the Americas again in the 15th century.

The First Cities

The Middle East’s fertile crescent between the Tigris and the Euphrates had the right mix of plants and animals to sustain the foundations of civilization. Around 4,000 BCE, people in central Asia tamed horses, giving them a major advantage in both agricultural work and warfare. By 3,000 BCE, the first settlements and cities formed in Sumeria (modern day Iraq). During this timeframe, the city of Uruk along the banks of the Euphrates River was home to 50,000 people in an amount of space that would have previously supported just one hunter-gatherer.. Humans had become much more efficient at generating the food and energy necessary to support their communities.

Human civilizations began to spring up near rivers like the Nile, the Tigris and Euphrates, the Indus, and the Yellow and Yangtze. In the first cities, writing was developed to keep track of crops. In this period, the first armies developed and the first city governments were formed. Agricultural settlements had put humanity on a rapidly developing path toward intellectual and scientific advancement.

Trade Routes Allow Ideas and Memes to Spread

Trade routes between the new cities soon sprang up. Donkeys, horses, and camels enabled trade caravans between civilizations, moving both goods and ideas. Ships were built to carry trade over the seas. Networks and hubs soon formed and more complex structures emerged. Great Pyramids were built in Cairo. Temples were built in Sumeria.

Around 2000 BCE, iron was discovered, leading to advances in warfare and a very tumultuous few centuries. Around 600 BCE, human warriors with iron weaponry on horseback led to the creation of empires. Between 500 BCE and 117 CE, small cities turned into the Persian Empire, Alexander’s Empire, Han Chinese Empire, and Roman Empire with complex political systems and philosophies and beliefs. Judaism, Christianity, Hinduism, Buddhism, and Islam formed and became the world’s five major religions between 1300 BCE and 600 CE.

Trade routes expanded. Salt from Africa reached Rome, rice traveled from China to Asia, and the secrets of making paper were transferred from China to Europe. Arab traders brought coffee, lemons, and oranges into Europe for the first time. Around 800, gunpowder was discovered in China when carbon and sulphur were combined with potassium nitrate. Around the year 1200, an Italian trader named Leonardo Fibonacci brought the standard system of numbers that we still use today from Arabia to Europe.

Separated from the rest of the world, the Aztecs, Mayans, and Incan empires had formed in the Americas. Starting in 1492, Columbus’ voyages connected Europe and the Americas, bringing guns, horses, and disease. With the importance of Atlantic trade, power would shift toward the West in the coming centuries as Europeans colonized and laid the foundations for a globalized world. The reconnection of the hemispheres marked a major turning point for our species.

The Invention of Money

Early trade consisted of barter (one good for another). If Tom had twenty cows and Igor had eighty hens, and Tom and Igor agreed that one cow was worth four hens, then the trade could take place. The problem with the barter system, however, was that in order for a trade to take place, both parties had to want what the other party had. This “co-incidence of wants” often did not happen. Thus, the demands of growing business and trade gave rise to a money system. Silver rings or bars are thought to have been used as money in Ancient Iraq before 2000 B.C. Early forms of money (called specie) would be often be commodities like seashells, tobacco leaves, large round rocks, or beads.

While the money system still had much development to go through (credit and paper money did not yet exist), its invention over four thousand years ago was of crucial importance to the world we live in today. The use of money, an accepted medium to store value and enable exchange, has greatly enhanced our world, our lives, our potential, and our future.

By the year 1100, the prevailing cultural system in the Western World was feudalism. It was a world of kings and lords, vassals and serfs, kingdoms and manors. Long-distance trade was expanding and new worlds of foreign spices, oriental treasures, and luxurious silks were discovered. Three hundred and fifty years later, after weathering a Black Death and the Hundred Years War, Europe emerged by expanding trade to new levels and building the foundation for the start of the competitive market economy we know today.

The Creation of Markets

With a population spurt starting around 1470, cities, markets, and the volume of trade grew. Banking, initially started by Ancient Mesopotamians, grew to new heights and complexities; the guild system expanded; and the idea that a business was an impersonal entity, with a separate identity from its owner, started to take hold. Silver imports from the new world drove expanded trade and bookkeepers created standardized principles for keeping track of a firm’s accounts based on Luca Pacioli’s accounting advances. Early entrepreneurs, called merchants and explorers, began to raise capital, take risks, and stimulate economic growth. Capitalism had begun.

Early on in the history of capitalism, the idea of monetary gain was shunned and shamed by many. The practice of usury, charging interest on loans, was banned by the Christian Church. Jobs were assigned by tradition and caste. Innovation was stifled and efficiency was forcefully put down, sometimes punishable by death. In sixteenth-century England, when mass production in the weaving industry first came about, the guildsmen protested. An efficient workshop containing two hundred looms and butchers and bakers for the workers was outlawed by the King under the pretense that such efficiency reduced the number of available jobs. Makers of innovative shirt buttons in France in the late 1600s were fined and searched and the importation of printed calico textiles cost the lives of 16,000 people.

The world would soon see, however, that innovation was generally a good thing, making lives better, and that efficiency was a path toward a higher standard of a living. As Robert L. Heilbroner says in The Worldly Philosophers,

“The precapitalist era saw the birth of the printing press, the paper mill, the windmill, the mechanical clock, the map, and a host of other inventions. The idea of invention itself took hold; experimentation and innovation were looked upon for the first time with a friendly eye.” 

The Hochelaga Cotton Factory in 1860, near Montreal, Quebec

The Hochelaga Cotton Factory in 1860, near Montreal, Quebec on the banks of the Ottawa River

Markets & Machines

Just when it seemed we had reached our human limits we found the energy and technology to carry us into the future. On Earth, the seeds of the past have bloomed into a present filled with energy creativity. The stories of billions of lives have played out against a backdrop of a universe almost too vast to comprehend. In everything that we do, in all that we are, we remain living monuments to the past, as we continue to make history every day.” – The History Channel

The story of the last 200 years is truly one of machines and markets.

With the advent of a complex marketplace and a system of capitalism, a battle of ideas raged to explain the sources of wealth and to explain the workings of the market. Between approximately 1550 and 1800, a philosophy called mercantilism was at the forefront. The mercantilists had the misguided notions that a country’s wealth was solely based on how much treasure and gold it could obtain and how much more it exported than imported. Monopolies and tariffs were promoted and competition and trade were discouraged. But they had gotten it all wrong.

“It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their self-interest.” – Adam Smith, The Wealth of Nations

Fortunately, new schools of thought sprung up in the 18th century that promoted commerce as the source of wealth, rather than the mercantilist notion of the hoarding of gold. Adam Smith further backed this idea and was the first to capture and explain the essence of the marketplace. He did so in his seminal 1776 work An Inquiry into the Nature and Causes of the Wealth of Nations, slaying the mercantilist dragon in the process. Smith explained that self-interest acts as a guiding force toward the work society desires.

While one would naturally assume that everyone simply following his or her self-interest would not create a very positive society, there is another force that prevents selfish individuals from exploiting the marketplace in a healthy economy. That regulator is competition.

This principle can be explained best with the following excerpt from Robert L. Heilbroner’s book The Worldly Philosophers:

“A man who permits his self-interest to run away with him will find that competitors have slipped in to take his trade away; if he charges too much for his wares or if he refuses to pay as much as everybody else for his workers, he will find himself without buyers in the one case and without employees in the other.”

Those customers will go to the competitor who charges less and those workers will go to the competitor who is willing to pay more. The wonderful paradox of the market, through the interaction of supply and demand and competition, creates a price that properly allocates industry so as to produce the proper quantities of goods and services. No intervention, planning, or forethought is needed to create exactly what society desires, in the exact amount it desires. What a wonderful contraption the market is. As long as society can promote competition and innovation, standards of living will continue to grow and wealth will increase.

The Start of the Industrial Age

The Industrial Age truly began in 1712 with the invention of Thomas Newcomen’s steam engine in Devon, Britain. But it wasn’t until James Watt’s steam engine in 1763 that things really got moving, enabling work to be done through the movement of pistons rather than the movement of muscle.

By the time of Adam Smith’s death in 1790, the nascent Industrial Revolution had already reared its head. The effects of the Renaissance, the humanist movement, and the Enlightenment’s focus on science and empiricism would translate into the launch of a movement that would impact the world as none before it had. It was this revolution—often dirty, harsh, and cruel—that prompted thoughts of communism and created robber barons and industrial titans. It was this same revolution, however, that led to the development of the innovations, technology, and standards of living we have today.

From the Industrial Revolution, the concept of mass production and economies of scale came about. Bigness, trusts, and vertical integration became the key to riches at that time. It was Andrew Carnegie and J. P. Morgan in steel, John D. Rockefeller and Frank Kenan in oil, and Henry Ford in automobiles. While some of these titans had questionable ethics, no one can deny that they were innovators. They forged alliances, developed new ways of doing business, and created efficiency across industries.

It was the combination of energy and engine that freed man from the constraints of muscle power, making the Atlantic world the greatest military power and laying the foundations for the locomotive, the internal combustion engine, the automobile, and the discovery of oil. The telegraph and telephone connected humanity around the world. With electricity, we lit up the night.

While critical governance institutions are required for the effective functioning of capitalism, the market system has been one of the most significant innovations in the history of humankind.
The History Channel, The History of the World in Two Hours,
Davies, Glyn. A History of money from ancient times to the present day, 3rd. ed. Cardiff: University of Wales Press, 2002. 720p.
Mortimer, Chambers; Hanawalt, Barbara, et al. The Western Experience, 8 th ed. New York: McGraw-Hill, 2003. pp 474.
Heilbroner, Robert L. The Worldly Philosophers. Page 25-31. New York: Touchstone. 1999.