Adam Smith’s Division of Labour in Today’s World of Global Markets

One of the most famous passages in Adam Smith’s Wealth of Nations is his description of the division of labour in the pin factory, contrasting the output of ten people each specialising in a stage of the process with one person making whole pins: “Each person, therefore, making a tenth part of forty-eight thousand pins, might be considered as making four thousand eight hundred pins in a day. But if they had all wrought separately and independently, and without any of them having been educated to this peculiar business, they certainly could not each of them have made twenty, perhaps not one pin in a day” (WoN, paragraph three).

This progressive specialisation driving what Smith referred to as ‘universal opulence’ has continued ever since the book was published. What economists refer to as ‘process innovations’, or in other words new and improved ways of producing goods and services (rather than exciting new gadgets or medicines, which tend to garner more attention), have been the engine of growth in productivity and living standards. Examples include the just-in-time revolution in manufacturing in the 1970s and the digitisation of logistic chains in the 1990s.

The more the division of labour progresses, the bigger the market needs to be – after all, people need to buy those 48,000 pins. But prices fall and trade expands, bringing about economic growth. The outcome has been today’s world of global production networks whereby almost any manufactured item will consist of components made in many different countries.

But is there a limit to the benefits of increasing specialisation? Another of Smith’s arguments, just as famous, is that competition is essential for everybody to gain from the continuing division of labour. As he put it, “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” (Book IV, Chapter Eight). There is much empirical evidence of a positive association between competition and productivity growth.

For competition to be possible, though, the size of the market is again important. Any production process is likely to involve a minimum efficient scale; up to a certain level of output each new item will be produced at a lower unit cost, either because of initial fixed costs (such as buying the right machine tools) or because of the learning involved in all production processes. Such ‘economies of scale’ were a key focus in the economic literature of the early 20^th century; they need to come back into focus given the importance of scale economies in the 21^st century.

The question now is whether the process of specialisation has gone so far that competition is limited. Is there now a trade-off between increasing specialisation and the need for competition? There are many examples of components where the maximum number of firms that can produce efficiently in each specialised market segment is just one or two. The pandemic and energy shocks provided unexpected examples, such as the fact that the UK had only one producer of fertilizer, or that only one company in Northern Ireland could put vaccines into suitably sized vials. TSMC, the Taiwanese producer – and only producer – of the most advanced computer chips, on which the economy depends, is another, high profile, example. Many of the components involved in global production chains are now so specialised that the scope of their particular market is limited to only one or two competitors, with highly specialised equipment or know-how.

The same consideration applies in digital markets, where there has been a lot of focus on the dominance of a handful of tech giants. Their characteristics, involving high upfront costs, low marginal costs, and powerful network effects that increase economies of scale, mean that for companies like Google or Amazon Web Services the global market can be efficiently supplied by one player. For Adam Smith, specialisation and competition went hand in hand; in some global markets, they may be in tension.

Diane Coyle is the Bennett Professor of Public Policy at the University of Cambridge and the Co-Director of the Bennett Institute for Public Policy.