Economic liberalism was the prevailing economic philosophy in much of the nineteenth and early twentieth centuries, and the U. S. economy developed within its framework. Economic liberalism promoted freedom of action for die indivi¬dual and the firm through the doctrines of free trade, self-interest, private prop¬erty and competition. According to this philosophy, individuals were free to seek their own occupa¬tions, to enter any business, and to act as they saw fit to improve their economic welfare.
Economic society was held together by mutual exchanges founded on the division of labor and prompted by self-interest. Self-interest was thus the motivat¬ing force of the economy. For example, to increase personal economic welfare, an individual might decide to produce goods and sell them for a profit. Bur. in so doing, that individual automatically benefited the community as well—by pur¬chasing raw materials, providing employment, and supplying goods or services. Workers seeking to increase their wages could do so by increasing productivity.
This, too, benefited the employer and the community in general. According to Adam Smith (often called the father of economics), the individual, in seeking personal gain, was led by an invisible hand to promote the welfare of the whole community. Under economic liberalism, individuals were free to engage in the trade, occupation, or business they desired. Workers were free to move from one job to another and to enter into or exit from any industry. Workers were free to work or not to work, and businesses were free to produce or nor to produce.
Competition was the regulator of the economy under economic liberalism. Businesses competed with one another for consumer trade by developing new and better products and by selling existing products at lower prices. Free entry into the market ensured ample competition, and prices were determined by the free forces of supply and demand. Equilibrium prices were determined by the actions of individual buyers and sellers, with each buyer and seller acting in his or her own self-interest.
Whenever there was excesses on either the supply or the demand side, markets behaved as though there were an invisible hand of competition guiding them back toward equilibrium, where supply equaled demand. This unseen force seemed to select prices that cleared the market by eliminating surpluses and shortages. Equilibrium prices received by sellers and paid by consumers were equal to production costs. Thus, by each individual max¬imizing his or her own self-interest, everyone benefited. Competitive forces deter¬mined not only the prices of goods and services but also wage rates.
In theory, economic liberalism was a sound philosophy, and the early U. S. economy prospered under it. But it was not without its weaknesses. The most pronounced weaknesses were its dependence on the beneficial effects of self- interest and its undue reliance on competition to regulate the economy and pro¬mote the general welfare. Unfortunately, self-interest in many cases translated into greed and abuse of economic liberty. At the same time, competition proved to be an inadequate guarantor of the free market.