Kautilya- the True Founder of Economics
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There are at least two places in the Arthashastra where intertemporal arbitrage is discernible. Kautilya (p 635), while defining various kinds of gains whether they were temporary, permanent, safe, righteous, growing or great, wrote, ‘A great gain is a substantial gain available immediately (9.4).’ He (p 636) suggested, ‘When the gains from two campaigns are equal, the king shall compare the following qualities and choose the one which has more good points: place and time; the power and the means required to acquire it; the pleasure or displeasure caused by it; speed or slowness of getting it; the proximity or distance, the immediate and future consequences; its high value or constant worth; and its abundance or variety (9.4).’ According to him, if the gains from two campaigns were the same, the one, which had a stable worth, and was available quickly was preferable. Incidentally, the phrase ‘speed or slowness of getting it’ indicates that he had some idea of discounting and the phrase ‘the immediate and future consequences’ indicates that he also made a distinction between short-run and long run. It is obvious that he initiated the discussion on making inter-temporal choices.
Similarly, Kautilya (p 617) asked, ‘Which is preferable—an immediate small gain or a large gain in the future?’ According to him, the answer depended on two factors: ‘A large gain in the future is preferable if it is like a seed [yielding fruit in the future] and if it is not likely to disappear [before fruition]. Otherwise, [if there is no growth and if there is a danger of it not fructifying] the small immediate gain is preferable (7.9).’
He explained that the choice between accepting a small gain immediately and a large gain in the future depended on two factors. First, what was the nature of the gain? Was it like a seed, which had a potential for growth? Secondly, how certain it was? Was it likely to disappear before it materialized?13 He would have preferred the gain available at time Gt, if its discounted value were higher than that of the gain available immediately G0.
Kautilya (p 158) stated, ‘A king shall employ, without hesitation, the methods of secret punishment against traitors in his own camp and against enemies; but he should do so with forbearance keeping in mind the future consequences as well as immediate results (5.1).’
He discussed the immediate and future impacts of several policies. For example, he (p 642) wrote, ‘helping a neighbour on the flank of the enemy with money or troops [without asking for payment; immediate loss of money or troops but long-term gain]’ (9.7). That is, the immediate effect was negative but long-term impact might be positive.
Kautilya (p 594) asserted, ‘A king may agree to forego a large immediate gain and seek [only] a small future benefit if he intends to use again the partner who is being helped (7.8)’. Along with the distinction between short-run and long run, it is also apparent that Kautilya believed in reputation building.
3.8 ARTHASHASTRA ON ECONOMICS AS A SEPARATE DISCIPLINE As mentioned earlier, guidelines provided by Grampp are strictly followed in making the interpretations of Kautilya’s Arthashastra. Ultimately, for Kautilya’s Arthashastra to qualify as the first word on economics and Kautilya its founder, it has to cross the high bar set by Schumpeter (1954).
Economics as a Separate Discipline: According to Kautilya (p 105-106), ‘traditionally, philosophy, the three Vedas, economics and the science of government are considered to be the four branches of knowledge. However, the followers of the Arthashastra of Prachetasa Manu say that there are only three branches— the three Vedas, economics and the science of government. For [to them,] philosophy is only a special branch of Vedic studies. The school of Brihaspati considers only economics and politics to be true branches of knowledge; [they argue that] those experienced in the ways of the world use the Vedas only as a cover [in order to avoid the accusation of being materialistic atheists]. The school of Ushanas maintains that politics is the only science; because, they say, it is in that science all other sciences have their beginning and end. Kautilya holds that there are, indeed, four branches of knowledge. Because one can know from these four branches, all that is to be learnt about dharma [spiritual welfare] and artha [material well-being] they are called ‘knowledge’. Philosophy is the lamp that illuminates all sciences; it provides the techniques for all action; and it is the pillar, which supports dharma. Further, ‘Samkhya, Yoga and atheistic are the three schools of philosophy. One should study philosophy because it helps one to distinguish between dharma and adharma [evil] in the study of the Vedas, between material gain and loss in the study of economics and between good and bad policies in the study of politics. [Above all] it teaches one the distinction between good and bad use of force. When the other sciences are studied by the light of philosophy, people are benefited because their minds are kept steady in adversity and prosperity and they are made proficient in thought, speech and action (1.2).’
The above statements make it clear that Kautilya identified economics as a separate discipline. It is claimed, as explained below, that Kautilya carved out the very first inter-disciplinary matrix.
Table 3.1: Kautilya’s Inter-Disciplinary Matrix Political Science Economics Vedas Philosophy Political Science A11 A12 A13 A14
Economics A21 A22 A23 A24
Vedas A31 A32 A33 A34
Philosophy A41 A42 A43 A44
Interdependence among Different Disciplines: A discipline contributes in three ways. Ideas in a discipline may provide the seeds to create more ideas in its own field, in other disciplines and may help in developing better public policies or better products. It may be noted that the elements of this matrix could be matrices themselves. Kautilya established economics as a separate discipline. However, according to Kautilya, establishment of economics as a separate discipline did not mean its independence from other disciplines. That is, economics could provide and receive inputs from other disciplines.
Economics and Political Science: Kautilya’s inter-disciplinary matrix is essentially hierarchical. Economics does provide inputs to political science but it does not receive any direct input from political science. For example, the king is supposed to carry out the cost-benefit analysis before undertaking a project, that is, economic concepts are used to improve the functioning of the government. Clearly, economics has been colonizing the other disciplines since antiquity.
Economics and Vedas: According to Kautilya, unless the survival of the state is threatened, ethical values should set the boundaries for all endeavours including economic ones. He (p 107) emphasized the basic dharmic (moral) duties of individuals as ‘Duties common to all: Ahimsa [abstaining from injury to all living creatures]; Satyam [truthfulness]; cleanliness; freedom from malice; compassion and tolerance (1.3)’. Independence of economic thought from religion in itself was not a small feat since, even almost two thousand years after the Vedas, Galileo, who only indirectly challenged religion, was faced with Inquisition.
Anviksiki (Philosophy) and Economics: Kautilya believed that philosophy was ‘privileged knowledge’, and was an input to all other branches of knowledge. According to him, philosophy provided the reasoning in distinguishing between good and bad and between ethical and unethical actions. Also the line ‘it provides the techniques for all action’ is noteworthy; it implies that philosophy sheds light on methodological issues in all branches of knowledge including economics. Kautilya dedicated his work to Om (God or moral values) and Brihaspati and Sukra (political thinkers and gurus), implying that his goal was to strike a proper balance between material and spiritual well-being of the people.
Economic Knowledge and Public Policy: Marshall (1920, p 757), while acknowledging the contributions of the Physiocrats asserted, ‘They thus gave to economics its modern aim of seeking after such knowledge as may help to raise the quality of human life.’ Regarding the aim of the Arthashastra, Kautilya (p 100) wrote, ‘By following [the principles set out in] this treatise one can not only create and preserve dharma [spiritual good], artha [material well-being] and kama [aesthetic pleasures] but also destroy [their opposites, ie.] unrighteousness, material loss and hatred
. It is a guide not only for the acquisition of this world but also the next (15.1).’ Thus, contrary to Marshall’s assertion, the above statement by Kautilya and the presentations of his views on various public policies in other studies, indicate that such a change in the goals of economic knowledge had occurred much earlier than the Physiocrats.
Concepts Originated by Kautilya: Some of the concepts may be as old as mankind. Therefore, the critical question is: how did Kautilya use these concepts? And was he coherent in their use? Kautilya referred to eleven schools of thought before him.14 It indicates that he could access the earlier works in physical form or through the practice of oral transmission from teacher to disciple or a combination of the two. These schools existed at different times and there were no ‘competing research programmes’ at one single time. Rangarajan (the editor of the Arthashastra) observes (p 817), ‘The subjects on which Kautilya disagrees with earlier teachers are not many: the nature of the sciences, the number of ministers, the process of deliberation, fines for erring officials, the punishments for perjury and robbery, and calamities, including the discussion on anger and lust, are the more important ones. Most of the disagreements with the unidentified teachers are concentrated in the books on calamities and foreign policy.’
Two points are worth noting. First, it is important to point out that Kautilya originated several of the important concepts in economics while discussing calamities (Book 8) and foreign policy (Books: 6, 7, 9, 11, and 12). Secondly, what matters are the method, coherence and level of reasoning and not on how many topics Kautilya differed on from his predecessors. He did not accept any point without sound reasoning. His scientific methodology blended with rich content set him apart from his predecessors. Kautilya’s Arthashastra has many concepts, which may be classified into two categories: (i) those originated by pre-Kautilyan writers and he refined and adapted them and (ii) those originated by Kautilya himself.
Refinements of the Existing Concepts by Kautilya: Some concepts, like ‘bounded rationality’, were advanced by Kautilya’s predecessors as the primary reason for the establishment of a bureaucratic setup. However, Kautilya elevated the discussion to a higher level by adding the importance of designing a bureaucratic system, which minimized the possibilities of conflict of interest. The identification of wage, rent, profit and interest as different factor payments by his predecessors was remarkable. But Kautilya saw the role of land, labour and capital as sources of economic growth and thus provided a modern interpretation. Finances were always critical to the maintenance of any kingdom and, therefore, some fiscal issues were discussed by his predecessors. However, Kautilya extended that in two directions, viz.: (i) there were limits to taxation and (ii) that tax revenue be directed to the provision of infrastructure, which increased income and consequently to more tax revenue; that is, instead of increasing the tax rate, he suggested enlarging the tax base. Similarly, law and order issues were considered critical to the stability of the kingdom and, therefore, reducing criminal activity through punishment was discussed by pre-Kautilyan writers. But Kautilya (p 377) qualified, ‘It is the power of punishment alone, when exercised impartially in proportion to the guilt, and irrespective of whether the person punished is the king’s son or an enemy, that protects this world and the next.’ Kautilya’s predecessors understood the logic of backward induction but Kautilya added the role of asymmetric information in bargaining and the time inconsistency problem. There are numerous other extensions and refinements undertaken by Kautilya.
Creation of a Core of Economic Knowledge by Kautilya: First, it may be noted that most of the words we use today, such as, principalagent, asymmetric information, time inconsistency have been coined only very recently. But that does not mean that the earlier writers did not understand them or use them. In fact, Kautilya initiated the exploration of ‘science of man’. For example, he (p 283) suggested, ‘The king shall have the work of Heads of Departments inspected daily, for men are, by nature, fickle and, like horses, change after being put to work (2.9).’ Secondly, as discussed above, the origin of a concept is attributed to Kautilya only if it can be ‘found or read into’ the Arthashastra, has a reasonably substantive discussion and correct application. Based on these criteria, more than a score of basic ideas in economics can be found in Kautilya’s Arthashastra.
A partial list of some important concepts contained in The Arthashastra is: (i) opportunity cost, (ii) basic demand and supply apparatus, (iii) the law of diminishing returns, (iv) externalities, (v) undesirability of monopoly and monopsony and need for regulation, (vi) moral hazard, (vii) role of law and order, (viii) public goods, (ix) Kautilya-curve (nowadays called Dupuit-Laffer curve), (x) producer surplus, (xi) importance of human and physical capital accumulation to economic growth, (xii) role of infrastructure in economic growth, (xiii) theory of gains from trade and terms of trade, (xiv) principalagent problem, (xv) efficiency wages (xvi) specification of explanation and prediction as the goals of an economic inquiry, (xvii) role of asymmetric information in bargaining, and (xviii) time inconsistency problem. Kautilya synthesized and refined the existing ideas at his time. But his true genius lay in innovating the novel concepts, such as, the optimization principle (see the next chapter for its exposition). Kautilya (p 609) stated, ‘When equal monetary help is given, it is specially advantageous to get it from one who readily complies with requests, is generous, gives continuously and without much effort (7.9).’
A Set of Hypotheses Proposed by Kautilya: He advanced several hypotheses. A few of them may be listed here: (i) human effort and capital accumulation were the sources of economic growth; (ii) heavy taxation lead to the erosion of tax base; (iii) ‘prosperity changes peoples’ minds’; (iv) information was the key to better decision making; (v) justice and rule of law were the pre-requisites for economic growth, and (vi) consumer durable goods faced unstable demand.
Schumpeter’s Test: The Vedic sages, much before Kautilya, had realized that system-building was essential to peace and harmony and suggested dharmic virtues to ensure its creation (presented in Chapter 6). Kautilya expanded the role of system-building further to nation-building. He developed the concept of systemic risk, identified its sources and suggested effective measures to lower it (systemic-risk arising from a famine is presented in Chapter 13). He conceptualized the whole system and how its different components interacted with each other. For example, he understood how growth in income affected governance and national security and how, in turn, it got affected by them (see details in Chapters 8 and 18).
In summary, Kautilya’s Arthashastra does contain what Schumpeter (p 248) called a ‘theoretical skeleton’ and thus it cannot be labelled pre-scientific. The above analysis establishes that Kautilya’s Arthashastra declares economics as a distinct discipline and thus satisfies the first requirement to declare it as the first origin of economics. It is also indicated that the Arthashastra considers economics as the ‘science of man’ and contains a logically consistent and adequate core of economic knowledge. These concepts, at least in some moderate detail, are presented in other chapters establishing that economics originated as a separate discipline for more than two millennia ago. The analysis in Kautilya’s Arthashastra dispels the myth that Hindu civilization is inimical to economic growth and also sheds some light on issues like ‘second generation’ economic reforms in India, since it is essentially a treatise on the imperative of economic growth. Otherwise also, as per the core Hindu thought to which Kautilya subscribed, pursuit of artha (material well being) is regarded as one of the four purusharthas (human enterprise worth pursuing).
SUMMARY Kautilya specified a very broad scope of economics, more like in the post-modern era with some imperialistic tendencies of colonizing other disciplines. His methodology is essentially Marshallian: the use of partial equilibrium approach and the making of a distinction between the short-run and the long run. Kautilya recommended the use of optimization, subject to constraints methodology. But the mode of implementing this methodol
ogy was beyond his capabilities. Also, discrete marginal analysis is discernible from his analysis. Contrary to the claim by Ekelund and Hebert, Dupuit was not the first one to use ceteris paribus clause or the marginal analysis. Besides Kautilya, Bernoulli also used the ceteris paribus clause earlier than Dupuit. On the other hand, despite the availability of calculus, Adam Smith did not use either the marginal analysis or the ceteris paribus clause.
The following table provides a summary of the contributions of Kautilya, Adam Smith and Dupuit regarding the scope and methodology etc. of economics.
Table 3.2: A Summary of Requirements & Origins of Economics
Requirements Proposed by
Groenewegen Characterization of Economics as a Science
Kautilya’s Arthashastra Fourth Century BCE
Adam
Smith’s the Wealth of Nations 1776
Dupuit and other Engineers Engineers
1870
Definition
Scope Spiegel
Marshall Barber,
Dupuit, Landretb and Colander Separate
Writing a treatise
Number of concepts
Original Broad like today
Broad like today
Yes
Yes
Narrow Narrower
Narrow Narrower No
Yes No
Reasonable Reasonable Very Few
Many
Synthesis Yes Schumpeter Consistent
Economy as a system Method or tooled knowledge Yes
Yes Just one or two
Yes
Not always
Yes
No Scientific Pre
scientific A few
No Yes
Scientific Groenewegen (2002) identifies three origins of economics based on the definition of economics: (i) at the end of the 17th century, if application of scientific method to economic phenomenon is considered its definition, (ii) to the third quarter of the 18th century if its subject matter consists of production and distribution of wealth, and (iii) at the end of 19th century if Robbins’ definition of economics is taken (ie. allocation of scarce resources among alternative uses). Actually, Kautilya’s Arthashastra is broader in scope than Robbins’ definition of economics and, therefore, qualifies to be the true origin of the engineering approach to economics.