Key Assumptions of Classical Economics
Classical economic theory assumes that trade between two subjects in inherently free. One individual possessing a commodity barters with another individual possessing a commodity. The two either come up with terms of exchange, or trade does not occur. The market consists of this natural process of free trade.
Classical economists argue the separation of the state from the market results in the most amount of economic wealth. Economic wealth is best achieved when each individual possessing a commodity has the freedom to stop an exchange if they do not agree with the terms. Furthermore, even when one group has power over another (i.e., relative advantage), free trade is economically beneficial (Ricardo 1821). As such, classical economics supports the separation of economic and political spheres of society.
Polanyi's Critique of Classical Economics
For Polanyi, it is not possible for the marketplace to be distinct from the state because the economy is embedded in the social structure. The market emerged as a result of social, cultural and political relations. Specifically, it developed as a result of particular state laws that established private property, wage labor, and the gold standard (Polanyi 1944). As such, the economic market never has been and never can be separated from political social institutions.
According to Polanyi (1944), the marketplace cannot be free because land labor and money are all false commodities. A commodity is something that is produced for the purpose of exchanging for profit. Land, labor and money do not emerge for the natural purpose of exchange. It is only through public policy that land,labor and money have been transformed into commodities.
Furthermore, Polanyi (1944) argues the separation of economic and state spheres is problematic, not ideal. Land, labor and money (false commodities) markets are dependent upon social relations to prevail because they were formed by the social structure. When the market attempts to disembed itself from the social structure, if social relations do not intervene, the modern marketplace will fail. In order for society to survive, when the economic market tries to separate itself from society, society must act in order to protect itself, or the social order will collapse.
By providing historical evidence showing the state's influence upon the development of the modern market, Polanyi completely decimates the key tenants of classical economics: the state and the market can and should be distinct. Polanyi problemetizes classical economists understanding of the marketplace. According to Polanyi, classical economists are incorrect in assuming the marketplace is a natural phenomenon. Instead, he provides historical evidence showing that the concept of the free market is socially constructed. Only through political and social relations can the modern economy be created and maintained. Through historical analysis, Polanyi is able to demonstrate that the market has never been and never can be self-sufficient because it is embedded in society. If the market cannot and will not ever be able to sustain economic relations without state intervention, the classical economic pursuit for a free market becomes completely irrelevant.
Political, Economic and Cultural Embeddedness
Like Polanyi, Granovetter (1985) critiques classical economic accounts of the economic man, minimally affected by political and cultural institutions. Granovetter's (1985:481) research "concerns the extent to which economic action is embedded in structures of social relations, in modern industrial society." Granovetter's theory contrasts with that of classical economics. Classical economics assumes competitive markets ensure trust and the absence of malfeasance since those things are necessary for transactions to occur. Granovetter, on the other hand, finds it is not competitive markets but social networks and relations that are primarily responsible for the trust necessary for economic life. In short, Granovetter provides theoretical support for Polanyi's argument that the social structure is necessary for market transactions.
Grant (1995) provides more empirical support for Polanyi's theoretical argument that economic markets are embedded in society. Grant builds upon Polanyi's concept of double movements. According to Polanyi, in order for society to survive, when the free market tries to separate itself from society, it results in a double movement. Grant examines the 1970s recession and the state response of New Federalism. Grant uses a random effects model drawing from Dun and Bradstreet, Census, Department of Commerce and Conway Data datasets to examine the factors influencing business failure rates. Grant finds the social embeddedness of markets matter in explaining economic outcomes. Upon economic decline in the 1970s, the government initiated numerous economic policies that allocated more economic regulation authority to regional states. The goal was to reduce business failure rates, however, the policy did not fulfill its promises. Instead, policies shifted the fiscal crises from the federal level, to the state. Grant furthers the concept of embeddedness by showing changes in the social structure result in changes in economic relations.
Uzzi (1996) shows how social relations shape economic outcomes providing empirical support for Polanyi's arguments that economic markets are embedded within social institutions. Using data from the International Ladies Garment Workers Union and logit regression analysis, Uzzi examines how a firm's likelihood of failure is related to social embeddedness and network structure, controlling for ecological and economic factors. According to Uzzi, social ties affect the opportunities and expectations of economic actors. Individuals within the market face bounded rationality (i.e. a lack of information) that creates uncertainty. Embedded ties help economic actors by creating trust, fine-grained information transfer and joint problem-solving arrangements. Uzzi's empirical analysis finds markets are characterized by embedded social networks and embeddedness yields positive economic outcomes. This provides support for Polanyi's argument that economic actors require social embeddedness for capital relations to be reproduced.
Dreiling's (2000) research provides further support for Polanyi's theoretical argument that the market is embedded within the social structure. Using network analysis of the 700 largest corporations in the USA*NAFTA coalition, Dreiling examines how social and economic factors relate to leadership in the USA*NAFTA coalition. Dreiling undermines classical economic assumptions that competition forces individual economic actors to act in their economic interests over social relations. Rather than being driven by economic factors, Dreiling finds social embeddedness affects the political behavior of economic actors. This provides further support for Polanyi's critique of classical liberal economics.
Like Polanyi, Brayden and Pearce (2010) emphasize the political nature of markets. According to Brayden and Peace (2010:249): "Markets are inherently political, both because of their ties to the regulatory functions of the state and because markets are contested by actors who are dissatisfied with market outcomes and who use the market as a platform for social change." Whereas much of economic sociology focuses on the stabilizing aspects of social embeddedness, King and Pearce use social movement perspectives to show how social contention affects economic markets. As such, Brayden and Pearce provide support and further Polanyi's perspective of social embeddedness.
Granovetter, Mark. 1985. “Economic Action and Social Structures: The Problem of Embeddedness.” American Journal of Sociology 91:481–510.
Grant, Donald. 1995. “The Political Economy of Business Failures across the American States, 1970–1985: The Impact of Reagan’s New Federalism.” American Sociological Review 60:851–873.
King, Brayden and Nicholas Pearce. 2010. “The Contentiousness of Markets: Politics, Social Movements, and Institutional Change in Markets.” Annual Review of Sociology. 36: 249-267.
Polanyi, Karl.  2001. The Great Transformation: The Political and Economic Origins of Our Time. Boston, MA: Beacon Press.
Ricardo, David. 1821. On the Principles of Political Economy, and Taxation. 3rd edition. London, UK: John Murray.
Smith, Adam.  2003. The Wealth of Nations. Bantam Classics.
Uzzi, Brian. 1996. “The Sources and Consequences of Embeddedness for the Economic Performance of Organizations: The Network Effect.” American Sociological Review 61.