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Thehistory of economic thought is the study of the philosophies of the different thinkers and theories in the subjects that later becamepolitical economy andeconomics, from theancient world to the present day.
This field encompasses many disparateschools of economic thought. Ancient Greek writers such as the philosopherAristotle examined ideas about the art of wealth acquisition, and questioned whether property is best left in private or public hands. In theMiddle Ages,Thomas Aquinas argued that it was amoral obligation of businesses to sell goods at ajust price.[1]
In the Western world, economics was not a separate discipline, but part ofphilosophy until the 18th–19th centuryIndustrial Revolution and the 19th centuryGreat Divergence, which accelerated economic growth.[2]
Hesiod active 750 to 650 BC, aBoeotian who wrote the earliest known work concerning the basicorigins of economic thought, contemporary withHomer.[3] Of the 828 verses in his poemWorks and Days, the first 383 centered on the fundamental economic problem of scarce resources for the pursuit of numerous and abundant human ends and desires.
Fan Li (also known as Tao Zhu Gong) (born 517 BCE),[4] an adviser to KingGoujian of Yue, wrote on economic issues and developed a set of "golden" business rules.[5]Discourses on Salt and Iron in 81 BCE was one of the first recorded debates ofstate intervention andlaissez faire.[6]
Hindu textsVedas (1700–1100 BC) contain economic ideas butAtharvaveda (1200 BC) is most vocal about such ideas.[7]
Chanakya (born 350 BC) of theMaurya Empire, authored theArthashastra along with several Indian sages, a treatise on statecraft, economic policy and military strategy.[8]
The Arthashastra posits the theory that there are four necessary fields of knowledge: the Vedas, theAnvikshaki (philosophy of Samkhya, Yoga andLokayata), the science of government, and the science of economics (Varta of agriculture, cattle, and trade). It is from these four that all other knowledge, wealth, and human prosperity is derived.[9]
Ancient Athens, an advanced city-state civilisation and progressive society, developed an embryonic model of democracy.[10]
Xenophon's (c. 430–354 BC)Oeconomicus (c. 360 BC) is adialogue principally about household management and agriculture.
Plato's dialogueThe Republic (c. 380–360 BC) describing an idealcity-state run by philosopher-kings contained references tospecialization of labor and toproduction. According toJoseph Schumpeter,Plato was the first known advocate of acredit theory of money that is, money as a unit of account for debt.[11] Plato also argued that collective ownership was necessary to promote common pursuit of the common interest, and to avoid the social divisiveness that would occur "when some grieve exceedingly and others rejoice at the same happenings."[12]
Aristotle'sPolitics (c. 350 BC) analyzed different forms of the state (monarchy,aristocracy,constitutional government,tyranny,oligarchy, anddemocracy) as a critique of Plato's model of rule by philosopher-kings. Of particular interest for economists, Plato provided a blueprint of a society based on common ownership of resources. Aristotle viewed this model as an oligarchicalanathema. Though Aristotle did certainly advocate holding many things in common, he argued that not everything could be, simply because of the "wickedness of human nature".[13]
"It is clearly better that property should be private", wrote Aristotle, "but the use of it common; and the special business of the legislator is to create in men this benevolent disposition." InPolitics Book I, Aristotle discusses the general nature of households and market exchanges. For him there is a certain "art of acquisition" or "wealth-getting", which is necessary and honourable for one's household, while exchange on the retail trade for simply accumulation is "justly censured, for it is dishonorable".[14] Writing of the people, Aristotle stated that they as a whole thought acquisition of wealth (chrematistike) as being either the same as, or a principle ofoikonomia ("household management" –oikonomos),[15][16] withoikos meaning "house" and with (themis meaning "custom")nomos meaning "law".[17] Aristotle himself highly disapproved ofusury and cast scorn on making money through amonopoly.[18]
Aristotle discarded Plato's credit theory of money formetallism, the theory that money derives its value from the purchasing power of the commodity upon which it is based:
Indeed, riches is assumed by many to be only a quantity of coin, because the arts of getting wealth and retail trade are concerned with coin. Others maintain that coined money is a mere sham, a thing not natural, but conventional only, because, if the users substitute another commodity for it, it is worthless, and because it is not useful as a means to any of the necessities of life, and, indeed, he who is rich in coin may often be in want of necessary food. But how can that be wealth of which a man may have a great abundance and yet perish with hunger, likeMidas in the fable, whose insatiable prayer turned everything that was set before him into gold?.
— Aristotle[19]
Thomas Aquinas (1225–74) was an Italian theologian and economic writer. He taught in bothCologne and Paris, and was part of a group of Catholic scholars known as theSchoolmen, who moved their enquiries beyond theology to philosophical and scientific debates. In the treatiseSumma Theologica Aquinas dealt with the concept of ajust price, which he considered necessary for the reproduction of the social order. Similar in many ways to the modern concept oflong-run equilibrium, a just price was just sufficient to cover thecosts of production, including the maintenance of a worker and his family. Aquinas argued it was immoral for sellers to raise their prices simply because buyers had a pressing need for a product.
Aquinas discusses a number of topics in the format of questions and replies, substantial tracts dealing with Aristotle's theory. Questions 77 and 78 concern economic issues, primarily what ajust price might be, and the fairness of a seller dispensing faulty goods. Aquinas argued against any form of cheating and recommended always paying compensation in lieu of service obtained as it utilized resources. Whilst human laws might not impose sanctions for unfair dealing,divine law did, in his opinion.
One of Aquinas' main critics[20] wasDuns Scotus (1265–1308), originally fromDuns Scotland, who taught in Oxford, Cologne, and Paris. In his workSententiae (1295), he thought it possible to be more precise than Aquinas in calculating a just price, emphasizing the costs of labor and expenses, although he recognized that the latter might be inflated by exaggeration, because buyer and seller usually have different ideas of a just price. If people did not benefit from a transaction, in Scotus' view, they would not trade. Scotus said merchants perform a necessary and useful social role by transporting goods and making them available to the public.[20]
Jean Buridan (French:[byʁidɑ̃];LatinJohannes Buridanus; c. 1300 – after 1358) was aFrenchpriest. Buridanus looked at money from two angles: its metal value and its purchasing power, which he acknowledged can vary. He argued that aggregated, not individual,demand andsupply determine market prices. Hence, for him a just price was what the society collectively and not just one individual is willing to pay.
| It should be known that at the beginning of a dynasty, taxation yields a large revenue from small assessments. At the end of the dynasty, taxation yields a small revenue from large assessments.[21] |
| Ibn Khaldun ontaxes and the ideals ofGovernance |
UntilJoseph J. Spengler's 1964 work "Economic Thought of Islam: Ibn Khaldun",[22]Adam Smith (1723–1790) was considered the "Father of Economics". Spengler highlighted the work of Arab scholarIbn Khaldun (1332–1406) of Tunisia, though what influence Khaldun had in the West is unclear.Arnold Toynbee called Ibn Khaldun a "genius" who "appears to have been inspired by no predecessors and to have found no kindred souls among his contemporaries...and yet, in the Prolegomena (Muqaddimat) to his Universal History he has conceived and formulated a philosophy of history which is undoubtedly the greatest work of its kind that has ever yet been created by any mind in any time or place."[23] Ibn Khaldoun expressed a theory of thelifecycle of civilizations, thespecialization of labor, and the value of money as a means of exchange rather than as a store of inherent value. His ideas on taxes were similar tosupply-side economics'Laffer curve, which posits that beyond a certain point highertaxes discourageproduction and actually cause revenues to fall.[24]
French philosopher and priestNicolas d'Oresme (1320–1382) wroteDe origine, natura, jure et mutationibus monetarum, about the origin, nature, law, and alterations of money. It is one of the earliest manuscripts on the concept of money. His treatise argues how money or currency belongs to the public, and that the government or sovereign of the economy has no right to control the value of the currency just so that they can profit from it.
SaintAntoninus of Florence (1389–1459),O.P., was anItalianDominicanfriar, who becameArchbishop of Florence. Antoninus' writings address social and economic development and argued that the state has a duty to intervene in mercantile affairs for the common good, and an obligation to help the poor and needy. In his primary work, "summa theologica" he was mainly concerned about price, justice andcapital theory. LikeDuns Scotus, he distinguishes between the natural value of agood and its practical value. The latter is determined by its suitability to satisfy needs (virtuositas), its rarity (raritas) and its subjective value (complacibilitas). Due to this subjective component, there cannot only be one just price, but a bandwidth of more or less just prices.
Mercantilism dominated Europe from the 16th to the 18th century.[25] Despite thelocalism of the Middle Ages, the waning offeudalism saw new national economic frameworks begin to strengthen. After the 15th century voyages ofChristopher Columbus and other explorers opened up new opportunities for trade with theNew World and Asia, newly-powerful monarchies wanted a more powerful military state to boost their status.Mercantilism was a political movement and an economic theory that advocated the use of the state's military power to ensure that local markets and supply sources were protected, spawningprotectionism.
Mercantile theorists held thatinternational trade could not benefit all countries at the same time. Money and precious metals were the only source of riches in their view, and limited resources must be allocated between countries, thereforetariffs should be used to encourage exports, which bring money into the country, and discourage imports which send it abroad. In other words, a positivebalance of trade ought to be maintained through a surplus of exports, often backed by military might. Despite the prevalence of the model, the termmercantilism was not coined until 1763, byVictor de Riqueti, marquis de Mirabeau (1715–1789), and popularized byAdam Smith in 1776, who vigorously opposed it.
In the 16th and 17th centuries theSchool of Salamanca in Spain developed economic theory, one of the earliest forms of a study in the economic tradition of the field of economics. Even if his doctrine was influenced by thephilosophy of Thomas Aquinas, it sometimes renew the economic thought to such an extent[26] that it was defined as "pro-market, pro-hard money, anti-state in many ways, pro-property, and pro-merchant to a surprising extent."[27][28] There was also the development of an early form of monetarism in response to the introduction of New World gold into the Spanish economy.
With their reflexions on Contract law and fairness in exchange,[29] the members of the School of Salamanca were often confronted with the concept of value. Thus observing the effect of American silver and gold arrivals in Spain, namely lessening of their values and augmentation of prices,Martín de Azpilcueta established the idea of a value-scarcity, first form of thequantity theory of money.[30]
They also renewed the aquilian concept ofjust price, which respects the principle of commutative justice but depends on many factors. The just price have a certain latitude[31] because it's not the result of God's will or oflabor but of the common estimation of the people (communis aestimatio hominum).[32] On thisLuis Saravia de la Calle wrote in 1544:
Those who measure the just price by the labour, costs, and risk incurred by the person who deals in the merchandise or produces it, or by the cost of transport or the expense of traveling...or by what he has to pay the factors for their industry, risk, and labour, are greatly in error.... For the just price arises from the abundance or scarcity of goods, merchants, and money...and not from costs, labour, and risk.... Why should a bale of linen brought overland from Brittany at great expense be worth more than one which is transported cheaply by sea?... Why should a book written out by hand be worth more than one which is printed, when the latter is better though it costs less to produce?... The just price is found not by counting the cost but by the common estimation.
However, asFriedrich Hayek has written,[33] the school rarely followed this idea through systematically. His members thought that authorities were sometimes required to intervene and tocontrol prices,[31] especially in monopoly cases[34] or for staples.[35] The opportunity of aneconomic interventionnism, calledarbitrism, wasn't unanimously accepted: if some thought that the prince concerned with public interest is more trustable that greedy merchants, likeDomingo de Soto andTomás de Mercado, others likeLuis de Molina,Leonardus Lessius orJuan de Lugo considered that any intervention of the authorities is inopportune owing to the corruption and the clientelism that will be created.[35]
In 1516 English humanist SirThomas More (1478–1535) publishedUtopia, which describes an ideal society where land is owned in common and there is universal education and religious tolerance, inspiring theEnglish Poor Laws (1587) and the communism-socialism movement.[citation needed]
In 1517 Polish astronomerNicolaus Copernicus (1473–1543) published the first known argument for thequantity theory of money. In 1519 he also published the first known form ofGresham's law: "Bad money drives out good".
In 1568Jean Bodin (1530–1596) ofFrance publishedReply to Malestroit, containing the first known analysis ofinflation, which he claimed was caused by importation ofgold andsilver fromSouth America, backing thequantity theory of money.
In 1598 French mercantilist economistBarthélemy de Laffemas (1545–1612) publishedLes Trésors et richesses pour mettre l'Estat en splendeur, which blasted those who frowned on French silks because the industry created employment for the poor, the first known mention ofunderconsumption theory, which was later refined byJohn Maynard Keynes.
In 1605 FlemishJesuit theologianLeonardus Lessius (1554–1623) publishedOn Justice and Law, the deepest moral-theological study of economics since Aquinas, whose just price approach he claimed was no longer workable. After comparing money's growth via avarice to the propagation of hares, he made the first statement of the price of insurance as being based on risk.
In 1622 English merchantsEdward Misselden andGerard Malynes began a dispute overfree trade and the desirability ofgovernment regulation of companies, with Malynes arguing againstforeign exchange as under the control of bankers[clarification needed], and Misselden arguing that international money exchange and fluctuations in the exchange rate depend uponinternational trade and not bankers, and that the state should regulate trade to insure export surpluses.
English economistThomas Mun (1571–1641) describes early mercantilist policy in his bookEngland's Treasure by Foreign Trade, which was not published until 1664, although it was widely circulated in manuscript form during his lifetime. A member of theEast India Company, he wrote about his experiences inA Discourse of Trade from England unto the East Indies (1621).
In 1662 English economistSir William Petty (1623–1687) began publishing short works applying the rational scientific tradition ofFrancis Bacon to economics, requiring that it only use measurable phenomena and seek quantitative precision, coining the term "political arithmetic", introducing statistical mathematics, and becoming the first scientific economist.
Philipp von Hörnigk (1640–1712, sometimes speltHornick orHorneck) was born inFrankfurt and became an Austrian civil servant writing in a time when his country was constantly threatened byOttoman invasion. InÖsterreich Über Alles, Wann es Nur Will (1684,Austria Over All, If She Only Will) he laid out one of the clearest statements of mercantile policy, listing nine principal rules of national economy:
To inspect the country's soil with the greatest care, and not to leave the agricultural possibilities of a single corner or clod of earth unconsidered... All commodities found in a country, which cannot be used in their natural state, should be worked up within the country... Attention should be given to the population, that it may be as large as the country can support... gold and silver once in the country are under no circumstances to be taken out for any purpose... The inhabitants should make every effort to get along with their domestic products... [Foreign commodities] should be obtained not for gold or silver, but in exchange for other domestic wares... and should be imported in unfinished form, and worked up within the country... Opportunities should be sought night and day for selling the country's superfluous goods to these foreigners in manufactured form... No importation should be allowed under any circumstances of which there is a sufficient supply of suitable quality at home.
Nationalism, self-sufficiency and national power were the basic policies proposed.[36]
In 1665–1683Jean-Baptiste Colbert (1619–1683) was minister of finance under KingLouis XIV of France, and set up nationalguilds to regulate major industries.Silk,linen,tapestry,furniture manufacture andwine were examples of thecrafts in which France specialized, all of which came to require membership in a guild to operate in until theFrench Revolution. According to Colbert, "It is simply and solely the abundance of money within a state [which] makes the difference in its grandeur and power."[citation needed]
In 1695 French economistPierre Le Pesant, sieur de Boisguilbert (1646–1714) wrote a plea to Louis XIV to end Colbert's mercantilist program, containing the first notion of an economicalmarket, becoming the first economist to question mercantileeconomic policy and value the wealth of a country by itsproduction and exchange of goods instead of its assets.
In 1696 British mercantilistToryMember of parliamentCharles Davenant (1656–1714) publishedEssay on the East India Trade, displaying the first understanding ofconsumerdemand and perfectcompetition.
EmperorAurangzeb (r. 1658–1707), ruler of theMughal India, compiled thesharia basedFatawa-e-Alamgiri along several Muslim scholars which includeIslamic economics,[37][38] whose policies eventually led to the period ofProto-industrialization.[39][40] It lasted as South Asia's principal regulating body until the beginning of the 18th century.[41]
In 1767 Scottish mercantilist economistSir James Steuart (1713–1780) publishedAn Inquiry into the Principles of Political Economy, the first book in English with the term "political economy" in the title, and the first completeeconomics treatise.
In the 17th century Britain went through troubling times, enduring not only political and religious division in theEnglish Civil War, KingCharles I's execution, and theCromwellian dictatorship, but also theGreat Plague of London andGreat Fire of London. The restoration of the monarchy underCharles II, who hadRoman Catholic sympathies, led to turmoil and strife, and his Catholic-leaning successorKing James II was swiftly ousted. Invited in his place were ProtestantWilliam of Orange andMary, who assented to theBill of Rights 1689, ensuring that theParliament was dominant in what became known as theGlorious Revolution.
The upheaval was accompanied by a number of major scientific advances, includingRobert Boyle's discovery of thegas pressure constant (1660) and SirIsaac Newton's publication ofPhilosophiae Naturalis Principia Mathematica (1687), which describedNewton's laws of motion and hisuniversal law of gravitation.
All these factors spurred the advancement of economic thought. For instance,Richard Cantillon (1680–1734) consciously imitated Newton's forces ofinertia andgravity in the natural world with human reason andmarket competition in the economic world.[42] In hisEssay on the Nature of Commerce in General, he argued rational self-interest in a system of freely-adjusting markets would lead to order and mutually-compatible prices. Unlike the mercantilist thinkers however, wealth was found not in trade but in humanlabor. The first person to tie these ideas into a political framework wasJohn Locke.
John Locke (1632–1704) was born nearBristol, and educated inLondon andOxford. He is considered one of the most significant philosophers of his era mainly for his critique ofThomas Hobbes' defense ofabsolutism inLeviathan (1651) and of hissocial contract theory. Locke believed that people contracted into society, which was bound to protect their property rights.[43] He defined property broadly to include people's lives and liberties, as well as their wealth. When people combined their labor with their surroundings, that created property rights. In his words from hisSecond Treatise on Civil Government (1689):
"God hath given the world to men in common... Yet every man has a property in his own person. The labour of his body and the work of his hands we may say are properly his. Whatsoever, then, he removes out of the state that nature hath provided and left it in, he hath mixed his labour with, and joined to it something that is his own, and thereby makes it his property."[44]
Locke argued that not only should the government cease interference with people's property (or their "lives, liberties and estates"), but also that it should positively work to ensure their protection. His views onprice andmoney were laid out in a letter to aMember of Parliament in 1691 entitledSome Considerations on the Consequences of the Lowering of Interest and the Raising of the Value of Money (1691), arguing that the "price of anycommodity rises or falls, by the proportion of the number of buyers and sellers", a rule which "holds universally in all things that are to be bought and sold."[45]
Dudley North (1641–1691) was a wealthymerchant and landowner who worked forHer Majesty's Treasury and opposed most mercantile policy. HisDiscourses upon trade (1691), published anonymously, argued against assuming a need for a favorablebalance of trade.Trade, he argued, benefits both sides, promotes specialization,division of labor and wealth for everyone.Regulation of trade interferes with these benefits, he said.
David Hume (1711–1776) agreed with North's philosophy and denouncedmercantilist assumptions. His contributions were set down inPolitical Discourses (1752), and later consolidated in hisEssays, Moral, Political, Literary (1777). Adding to the argument that it was undesirable to strive for a favourablebalance of trade, Hume argued that it is, in any case, impossible.
Hume held that any surplus ofexports would be paid for by imports of gold and silver. This would increase themoney supply, causing prices to rise. That in turn would cause a decline in exports until the balance with imports is restored.
Bernard Mandeville (1670–1733) was an Anglo-Dutch philosopher, political economist and satirist. His main thesis is that the actions of men cannot be divided into lower and higher. The higher life of man is a mere fiction introduced by philosophers and rulers to simplify government and the relations of society. In fact,virtue (which he defined as "every performance by which man, contrary to the impulse of nature, should endeavour the benefit of others, or the conquest of his own passions, out of arational ambition of being good") is actually detrimental to thestate in its commercial and intellectual progress. This is because it is thevices (i.e., the self-regarding actions of men) which alone, by means of inventions and the circulation ofcapital (economics) in connection with luxurious living, stimulate society into action and progress.
Francis Hutcheson (1694–1746), the teacher ofAdam Smith from 1737 to 1740[46]is considered the end of a long tradition of thought on economics as "household or family (οἶκος) management",[47][48][49]stemming from Xenophon's workOeconomicus.[50][51]
Similarly disenchanted with regulation on trade inspired by mercantilism, the FrenchmanVincent de Gournay (1712–1759) reputedly asked why it was so hard tolaissez faire ("let it be"), laissez passer ("let it pass"), advocatingfree enterprise andfree trade. He was one of the earlyphysiocrats, who regardedagriculture as the source of wealth. As historianDavid B. Danbom wrote, the Physiocrats "damned cities for their artificiality and praised more natural styles of living. They celebrated farmers."[52]Over the end of the seventeenth and beginning of the eighteenth century major advances innatural science andanatomy included the discovery ofblood circulation through the human body – documented byWilliam Harvey in 1628. This concept was mirrored in the physiocrats' economic theory, with the notion of acircular flow of income throughout aneconomy.
François Quesnay (1694–1774) served as the court physician to KingLouis XV of France. He believed that trade andindustry were not sources of wealth, and instead in his bookTableau économique (1758, Economic Table) argued that agricultural surpluses, by flowing through the economy in the form ofrent,wages, andpurchases, were the real economic movers.[53] Firstly, wrote Quesnay,regulation impedes the flow ofincome throughout allsocial classes and thereforeeconomic development. Secondly,taxes on the productiveclasses, such asfarmers, should be reduced in favour of rises for unproductive classes, such aslandowners, since their luxurious way of life distorts the income flow. (Later, in the early 19th century,David Ricardo showed that taxes on land are non-transferable totenants according to hisLaw of Rent.[citation needed])
Jacques Turgot (1727–1781) was born in Paris to an oldNorman family. His best-known work,Réflexions sur la formation et la distribution des richesses (Reflections on the Formation and Distribution of Wealth) (1766) developed Quesnay's theory thatland is the only source ofwealth. Turgot viewed society in terms of three classes: the productive agricultural class, the salariedartisan class (classe stipendice) and the landowning class (classe disponible). He argued that only the net product of land should be taxed and advocated complete freedom ofcommerce andindustry.
In August 1774 KingLouis XVI appointed Turgot asminister of finance, and in the space of two years he introduced many anti-mercantile and anti-feudal measures, supported by the king. His guiding principles, as given to the king, were "nobankruptcy, notax increases, noborrowing". Turgot's ultimate wish was to have a single tax on land and to abolish all other indirect taxes, but measures he introduced before that met with overwhelming opposition from landed interests. Twoedicts in particular, one suppressingcorvées (forced-labour obligations due by peasants to landlords) and another renouncing privileges given toguilds, inflamed influential opinion. He was forced from office in 1776.
In 1751,Neapolitan philosopherFerdinando Galiani published a nearly exhaustive treatise on money calledDella Moneta (On Money), 25 years before Adam Smith'sThe Wealth of Nations, and therefore is seen as possibly the first truly modern economic analysis. In its five sections,Della Moneta covered all modern aspects ofmonetary theory, including the value and origin of money, its regulation, and inflation. This text remained cited by various economists for centuries, as wide-ranging a list asKarl Marx andAustrian economistJoseph Schumpeter.
Adam Smith (1723–1790) is popularly seen as the father of modern political economy. His 1776 publicationAn Inquiry Into the Nature and Causes of the Wealth of Nations happened to coincide not only with theAmerican Revolution, shortly before the Europe-wide upheavals of theFrench Revolution, but also the dawn of a newindustrial revolution that allowed more wealth to be created on a larger scale than ever before.
Smith was a Scottish moral philosopher, whose first book wasThe Theory of Moral Sentiments (1759). He argued in it that people's ethical systems develop through personal relations with other individuals, that right and wrong are sensed through others' reactions to one's behaviour. This gained Smith more popularity than his next work,The Wealth of Nations, which the general public initially ignored.[54] Yet Smith'spolitical economicmagnum opus was successful in circles that mattered.
| "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 own self-interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages."[55] |
| Adam Smith's famous statement on self-interest |
Smith argued for a "system of natural liberty"[56] where individual effort was the producer of social good. Smith believed even the selfish within society were kept under restraint and worked for the good of all when acting in a competitive market. Prices are often unrepresentative of the true value of goods and services. FollowingJohn Locke, Smith thought true value of things derived from the amount of labour invested in them.
Every man is rich or poor according to the degree in which he can afford to enjoy the necessaries, conveniencies, and amusements of human life. But after the division of labour has once thoroughly taken place, it is but a very small part of these with which a man's own labour can supply him. The far greater part of them he must derive from the labour of other people, and he must be rich or poor according to the quantity of that labour which he can command, or which he can afford to purchase. The value of any commodity, therefore, to the person who possesses it, and who means not to use or consume it himself, but to exchange it for other commodities, is equal to the quantity of labour which it enables him to purchase or command. Labour, therefore, is the real measure of the exchangeable value of all commodities. The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it.
— [57]
When the butchers, the brewers and the bakers acted under the restraint of an open market economy, their pursuit of self-interest, thought Smith, paradoxically drives the process to correct real lifeprices to their just values. His classic statement on competition goes as follows.
When the quantity of any commodity which is brought to market falls short of the effectual demand, all those who are willing to pay... cannot be supplied with the quantity which they want... Some of them will be willing to give more. A competition will begin among them, and the market price will rise... When the quantity brought to market exceeds the effectual demand, it cannot be all sold to those who are willing to pay the whole value of the rent, wages and profit, which must be paid to bring it thither... The market price will sink...[58]
Smith's vision of a free market economy, based on secure property,capital accumulation, widening markets and a division of labour contrasted with the mercantilist tendency to attempt to "regulate all evil human actions."[56] Smith believed there were precisely three legitimate functions of government. The third function was...
...erecting and maintaining certain public works and certain public institutions, which it can never be for the interest of any individual or small number of individuals, to erect and maintain... Every system which endeavours... to draw towards a particular species of industry a greater share of the capital of the society than what would naturally go to it... retards, instead of accelerating, the progress of the society toward real wealth and greatness.
In addition to the necessity of public leadership in certain sectors Smith argued, secondly, thatcartels were undesirable because of their potential to limit production and quality of goods and services.[59] Thirdly, Smith criticised government support of any kind ofmonopoly which always charges the highest price "which can be squeezed out of the buyers".[60] The existence ofmonopoly and the potential forcartels, which would later form the core ofcompetition law policy, could distort the benefits of free markets to the advantage of businesses at the expense ofconsumer sovereignty.
William Pitt the Younger (1759–1806),ToryPrime Minister in 1783–1801 based his tax proposals on Smith's ideas, and advocatedfree trade as a devout disciple ofThe Wealth of Nations.[61] Smith was appointed a commissioner ofcustoms and within twenty years Smith had a following of new generation writers who were intent on building thescience of political economy.[54]
Adam Smith expressed an affinity to the opinions of Irish MPEdmund Burke (1729–1797), known widely as a political philosopher:
"Burke is the only man I ever knew who thinks on economic subjects exactly as I do without any previous communication having passed between us."[62]
Burke was an established political economist himself, known for his bookThoughts and Details on Scarcity. He was widely critical of liberal politics, and condemned theFrench Revolution which began in 1789. InReflections on the Revolution in France (1790) he wrote that the "age of chivalry is dead, that of sophisters, economists and calculators has succeeded, and the glory of Europe is extinguished forever." Smith's contemporary influences includedFrançois Quesnay andJacques Turgot whom he met on a visit to Paris, andDavid Hume, his Scottish compatriot. The times produced a common need among thinkers to explain social upheavals of theIndustrial Revolution taking place, and in the seeming chaos without the feudal and monarchical structures of Europe, show there was order still.
Jeremy Bentham (1748–1832) was perhaps the most radical thinker of his time, and developed the concept ofutilitarianism. Bentham was anatheist, aprison reformer,animal rights activist, believer inuniversal suffrage,freedom of speech,free trade andhealth insurance at a time when few dared to argue for any of these ideas. He was schooled rigorously from an early age, finishing university and being called to the bar at 18. His first book,A Fragment on Government (1776), published anonymously, was a trenchant critique ofWilliam Blackstone'sCommentaries on the Laws of England. This gained wide success until it was found that the young Bentham, and not a revered Professor had penned it. InAn Introduction to the Principles of Morals and Legislation (1789) Bentham set out his theory ofutility.[63][64]
Jean-Baptiste Say (1767–1832) was a Frenchman born inLyon who helped popularize Adam Smith's work in France.[65] His bookA Treatise on Political Economy (1803) contained a brief passage, which later became orthodoxy in political economics until theGreat Depression, now known asSay's law of markets. Say argued that there could never be a general deficiency ofdemand or ageneral glut of commodities in the wholeeconomy. People produce things, to fulfill their own wants rather than those of others, thereforeproduction is not a question ofsupply but an indication of producersdemandinggoods.
Say agreed that a part ofincome is saved by households, but in the long term,savings are invested.Investment andconsumption are the two elements ofdemand, so that productionis demand, therefore it is impossible for production to outrun demand, or for there to be a "general glut" of supply. Say also argued thatmoney was neutral, because its sole role is to facilitate exchanges, therefore, people demand money only to buy commodities; "money is a veil".[66]
David Ricardo (1772–1823) was born in London. By the age of 26, he had become a wealthy stock market trader, and bought himself a constituency seat in Ireland to gain a platform in theBritish parliament'sHouse of Commons.[67] Ricardo's best known work isOn the Principles of Political Economy and Taxation (1817), which contains his critique of barriers to international trade and a description of the manner in which income is distributed in the population. Ricardo made a distinction between workers, who received a wage fixed to a level at which they could survive, the landowners, who earn a rent, and capitalists, who own capital and receive a profit, a residual part of the income.[68]
If population grows, it becomes necessary to cultivate additional land, whose fertility is lower than that of already cultivated fields, because of the law of decreasing productivity. Therefore, the cost of the production of the wheat increases, as well as the price of the wheat: The rents increase also, the wages, indexed to inflation (because they must allow workers to survive) as well. Profits decrease, until the capitalists can no longer invest. The economy, Ricardo concluded, is bound to tend towards asteady state.[66]
Jean Charles Léonard de Sismondi (1773–1842) was the earliest author of systemicCrisis theory.
John Stuart Mill (1806–1873) was the dominant figure of political economic thought of his time, as well as aMember of parliament for the seat ofWestminster, and a leading political philosopher. Mill was a child prodigy, reading Ancient Greek from the age of 3, and being vigorously schooled by his fatherJames Mill.[69]Jeremy Bentham was a close mentor and family friend, and Mill was heavily influenced byDavid Ricardo. Mill's textbook, first published in 1848 and titledPrinciples of Political Economy was essentially a summary of the economic thought of the mid-nineteenth century.[70]
Principles of Political Economy (1848) was used as the standard text by most universities well into the beginning of the twentieth century.[citation needed] On the question ofeconomic growth Mill tried to find a middle ground between Adam Smith's view of ever-expanding opportunities for trade and technological innovation andThomas Malthus' view of the inherent limits of population. In his fourth book Mill set out a number of possible future outcomes, rather than predicting one in particular.[66]
The classical economists were referred to as a group for the first time byKarl Marx.[71] One unifying part of their theories was thelabour theory of value, contrasting to value deriving from ageneral equilibrium theory of supply and demand. These economists had seen the first economic and social transformation brought by the Industrial Revolution: ruraldepopulation, precariousness, poverty, apparition of aworking class.
They wondered aboutpopulation growth, becausedemographic transition had begun in Great Britain at that time. They also asked many fundamental questions, about the source of value, the causes ofeconomic growth and the role ofmoney in theeconomy. They supported a free-market economy, arguing it was a natural system based upon freedom andproperty. However, these economists were divided and did not make up a unified current of thought.
A notable current within classical economics wasunderconsumption theory, as advanced by theBirmingham School andThomas Robert Malthus in the early 19th century. These argued for government action to mitigateunemployment and economic downturns, and were an intellectual predecessor of what later becameKeynesian economics in the 1930s. Another notable school wasManchester capitalism, which advocatedfree trade, against the previous policy ofmercantilism.
Marx wrote his magnum opusDas Kapital(Capital: A Critique of Political Economy) (1867) at theBritish Museum's library in London. Karl Marx begins with the concept ofcommodities, which he views as a historically specific phenomenon.[72] He hence looks to history to state that before capital, production was based onslavery – inancient Rome for example – thenserfdom in thefeudal societies ofmedieval Europe. Marx viewed the current mode of production as one which would ultimately produce an erratic and unstable situation allowing the conditions forrevolution in the long term.
Marx uses the word commodity in an extensivemetaphysical discussion of the nature of material wealth, how the objects of wealth are perceived and how they can be used.[73] A commodity contrasts to objects of the natural world. When people mix their labor with an object it becomes acommodity. In the natural world there are trees,diamonds,iron ore and people. In the world of the economists they become chairs,rings,factories and workers. However, says Marx, commodities have a dual nature. He distinguishes theuse value of a thing from itsexchange value.[73] If commodities are considered absolutely isolated from their useful qualities the common property ishuman labor in the abstract. A phenomenon unique to a specific historical configuration, which is dependent on certain social practices, most dominantlywaged work, executed en masse.[72] Marx argued for critique by linking his ideas ofsurplus value andsocially necessary labor time with the classicallabor theory of value andtheories of rent.
Marx believed that areserve army of the unemployed would grow and grow, fueling a downward pressure on wages as desperate people accepted work for less. But this would produce a deficit ofdemand as the people'spower to purchase products lagged. A glut of unsold products would result, production would be cut back, and profits decline until capital accumulation halted in aneconomic depression. When the glut cleared, the economy would again start to boom before the next cyclical bust begins. With everyboom and bust, with every capitalist crisis, thought Marx, tension andconflict between the increasingly polarized classes of capitalists and workers would heighten due tothe tendency of the rate of profit to fall.
Henry George (1839–1897) is popularly recognized as the intellectual inspiration for the economic philosophy now known asGeorgism. George is said to be the last classical economist. During his life, George was one of the three most famous Americans, along withHenry Ford andThomas Edison. George's first book,Progress and Poverty, was one of the most widely printed books in English, selling between 3 and 6 million copies by the early 1900s.Progress and Poverty sparked a worldwide reform movement and is sometimes marked as the beginning of theProgressive Era. Georgism declined in the second half of the 20th century as theMarxist andAustrian andKeynesian neoclassical schools gained popularity. However, there are still active Georgist organizations and land reform movements around the world. George's ideas have been incorporated into the philosophies ofsocialism,libertarianism, andecological economics.Paul Samuelson listed Henry George as one of only six "American saints" in classical economics.[74]
In 1895 the London School of Economics (LSE) was founded byFabian Society membersSidney Webb (1859–1947),Beatrice Webb (1858–1943), andGeorge Bernard Shaw (1856–1950), joining theUniversity of London in 1900.
In the 1930s LSE memberSir Roy G.D. Allen (1906–1983) popularized the use of mathematics in economics.
Neoclassical economics developed in the 1870s. There were three main independent schools. TheCambridge School was founded with the 1871 publication of Jevons'Theory of Political Economy, developing theories of partial equilibrium and focusing on market failures. Its main representatives wereStanley Jevons,Alfred Marshall, andArthur Pigou. TheAustrian School of Economics was made up of Austrian economistsCarl Menger,Eugen von Böhm-Bawerk, andFriedrich von Wieser, who developed the theory ofcapital and tried to explain economic crises. It was founded with the 1871 publication of Menger'sPrinciples of Economics. TheLausanne School, led byLéon Walras andVilfredo Pareto, developed the theories ofgeneral equilibrium andPareto efficiency. It was founded with the 1874 publication of Walras'Elements of Pure Economics.
American economistJohn Bates Clark (1847–1938) promoted themarginalist revolution, publishingThe Distribution of Wealth (1899), which proposed Clark's Law of Capitalism: "Given competition and homogeneous factors of production labor and capital, the repartition of the social product will be according to the productivity of the last physical input of units of labor and capital", also expressed as "What a social class gets is, under natural law, what it contributes to the general output of industry." In 1947 theJohn Bates Clark Medal was established in his honor.[64]
In 1871 Menger's English counterpartStanley Jevons (1835–1882) independently publishedTheory of Political Economy (1871), stating that at the margin the satisfaction of goods and services decreases. An example of theTheory of Diminishing Marginal Utility is that for every orange one eats, one gets less pleasure until one stops eating oranges completely.[64]
Alfred Marshall (1842–1924) is also credited with an attempt to put economics on a more mathematical footing. The first professor of economics at theUniversity of Cambridge, his 1890 workPrinciples of Economics[75] abandoned the term "political economy" for his favorite "economics". He viewed math as a way to simplify economic reasoning, although he had reservations as revealed in a letter to his studentArthur Cecil Pigou:[64][76]
(1) Use mathematics as shorthand language, rather than as an engine of inquiry. (2) Keep to them till you have done. (3) Translate into English. (4) Then illustrate by examples that are important in real life. (5) Burn the mathematics. (6) If you can't succeed in 4, burn 3. This I do often.
In 1972 American economistsHarold Demsetz (1930–2019) andArmen Alchian (1914–2013) publishedProduction, Information Costs and Economic Organization, foundingNew Institutional Economics, an updating of the works ofRonald Coase (1910–2013) with mainstream economics.[64]
TheLausanne School is named afterUniversity of Lausanne whereLéon Walras andVilfredo Pareto held professorships.
In 1874 working independently, French economistLéon Walras (1834–1910) generalized marginal theory across the economy inElements of Pure Economics: Small changes in people's preferences, for instance shifting from beef to mushrooms, would lead to a mushroom price rise, and beef price fall; this stimulates producers to shift production, increasing mushrooming investment, which would increase market supply and a new price equilibrium between the products, e.g. lowering the price of mushrooms to a level between the two first levels. For many products across the economy the same would happen if one assumes markets are competitive, people choose on the basis of self-interest, and there is no cost for shifting production.[64]
Similar to Walras,[77]Vilfredo Pareto tried to sketch the mathematical description of economics in analogy to mechanics, explicitly linking pure (and applied) economics to pure (and applied) mechanics.[78][79][80][81][82] Similar approaches were put forward byIrving Fisher in the United States in his 1892 dissertation.[83][84][85]
While economics at the end of the nineteenth century and the beginning of the twentieth was dominated increasingly by mathematical analysis, the followers ofCarl Menger (1840–1921) and his disciplesEugen von Böhm-Bawerk (1851–1914) andFriedrich von Wieser (1851–1926) (coiner of the term "marginal utility") followed a different route, advocating the use of deductive logic instead. This group became known as theAustrian School of Economics, reflecting the Austrian origin of many of the early adherents.Thorstein Veblen inThe Preconceptions of Economic Science (1900) contrasted neoclassicalmarginalists in the tradition ofAlfred Marshall with the philosophies of the Austrian School.[86][87]
In 1871 Austrian School economistCarl Menger (1840–1921) restated the basic principles ofmarginal utility inGrundsätze der Volkswirtschaftslehre[88] (Principles of Economics): Consumers act rationally by seeking to maximize satisfaction of all their preferences; people allocate their spending so that the last unit of a commodity bought creates no more satisfaction than a last unit bought of something else.[64]
In 1881 Irish economistFrancis Ysidro Edgeworth (1845–1926) publishedMathematical Psychics: An Essay on the Application of Mathematics to the Moral Sciences, which introduced indifference curves and the generalized utility function, along withEdgeworth's Limit Theorem, extending the Bertrand Model to handle capacity constraints, and proposingEdgeworth's Paradox for when there is no limit to what the firms can sell.[64]
In echoes of Smith's "system of natural liberty", Hayek argued that the market is a "spontaneous order" and actively disparaged the concept of "social justice".[89]Ludwig von Mises's outspokencriticisms of socialism had a large influence on the economic thinking of Austrian School economistFriedrich Hayek (1899–1992), who, while initially sympathetic, became one of the leading academic critics ofcollectivism in the 20th century.[90] Hayek believed that all forms of collectivism (even those theoretically based on voluntary cooperation) could only be maintained by a central authority. But he argued that centralizing economic decision-making would lead not only to infringements of liberty but also to depressed standards of living because centralized experts could not gather and assess the knowledge required to allocate scarce resources efficiently or productively. In his book,The Road to Serfdom (1944) and in subsequent works, Hayek claimed that socialism required central economic planning and that such planning in turn would lead towardstotalitarianism. Hayek attributed the birth of civilization toprivate property in his bookThe Fatal Conceit (1988). According to him,price signals are the only means of enabling each economic decision maker to communicatetacit knowledge ordispersed knowledge to each other, to solve theeconomic calculation problem. Along with his Socialist Swedish contemporary and opponentGunnar Myrdal (1898–1987), Hayek was awarded the Nobel Prize in Economics in 1974.[91]
In the early 19th century German-born English astronomer SirWilliam Herschel (1738–1822) noted a connection between 11-yearsunspot cycles and wheat prices. In 1860 French economistClément Juglar (1819–1905) positedbusiness cycles seven to eleven years long. In 1925 the Soviet economistNikolai Kondratiev (1892–1938) proposed the existence ofKondratiev waves in Western capitalist economies fifty to sixty years long.
In the mid-1840s German economistWilhelm Roscher (1817–1894) founded the Germanhistorical school of economics, which promoted the cyclical theory of nations—economies passing through youth, manhood, and senility—and spread through academia in Britain and the U.S., dominating it for the rest of the 19th century.[64]
Thorstein Veblen (1857–1929), who came from rural midwestern America and worked at theUniversity of Chicago is one of the best-known early critics of the "American Way". InThe Theory of the Leisure Class (1899) he scornedmaterialistic culture and wealthy people whoconspicuously consumed their riches as a way of demonstrating success. InThe Theory of Business Enterprise (1904) Veblen distinguished production for people to use things and production for pure profit, arguing that the former is often hindered because businesses pursue the latter. Output and technological advance are restricted by business practices and the creation of monopolies. Businesses protect their existing capital investments and employ excessive credit, leading to depressions and increasing military expenditure and war through business control of political power. These two books, focusing on criticism ofconsumerism andprofiteering did not advocate change. However, in 1918 he moved to New York to begin work as an editor of a magazine calledThe Dial, and then in 1919, along withCharles A. Beard,James Harvey Robinson, andJohn Dewey he helped found the New School for Social Research (known today asThe New School). He was also part of theTechnical Alliance,[92] created in 1919 byHoward Scott. From 1919 through 1926 Veblen continued to write and to be involved in various activities at The New School. During this period he wroteThe Engineers and the Price System (1921).[64][93]
At the outbreak ofWorld War I (1914 –1918),Alfred Marshall was still working on his last revisions of hisPrinciples of Economics. The 20th century's initial climate of optimism was soon violently dismembered in the trenches of the Western Front. During the war, production in Britain, Germany, and France was switched to the military. In 1917 Russia crumbled into revolution led byVladimir Lenin who promoted Marxist theory and collectivized the means of production. Also in 1917, the United States of America entered the war on the side of theAllies (France and Britain), with PresidentWoodrow Wilson claiming to be "making the world safe for democracy", devising a peace plan ofFourteen Points. In 1918 Germany launched a spring offensive which failed, and as the allies counterattacked and more millions were slaughtered, Germany slid into theGerman Revolution, its interim government suing for peace on the basis of Wilson's Fourteen Points. After the war, Europe lay in ruins, financially, physically, psychologically, and its future was dependent on the dictates of theVersailles Conference in 1919.
After World War I, Europe and the Soviet Union lay in ruins, and theBritish Empire was nearing its end, leaving the United States as the preeminent global economic power.Before World War II, American economists had played a minor role. During this timeinstitutional economists had been largely critical of the "American Way" of life, especially theconspicuous consumption of theRoaring Twenties before theWall Street crash of 1929. The most important development in economic thought during theGreat Depression was theKeynesian revolution, including the publication in 1936 of TheGeneral Theory of Employment, Interest, and Money byJohn Maynard Keynes. (See the discussion ofKeynesianism below.) Subsequently, a more orthodox body of thought took root, reacting against the lucid debating style of Keynes, and remathematizing the profession. The orthodox center was also challenged by a more radical group of scholars based at the University of Chicago, who advocated "liberty" and "freedom", looking back to 19th century-style non-interventionist governments.[citation needed]
In the 1930s Norwegian economistRagnar Frisch (1895–1973) and Dutch economistJan Tinbergen (1903–1994) pioneeredEconometrics, receiving the first-ever Nobel Prize in Economics in 1969. In 1936 Russian-American economistWassily Leontief (1905–1999) proposed theInput-Output Model of economics, which uses linear algebra and is ideally suited to computers, receiving the 1973 Nobel Economics Prize. After World War II,Lawrence Klein (1920–2013) pioneered the use of computers in econometric modeling, receiving the 1980 Nobel Economics Prize. In 1963–1964 asJohn Tukey of Princeton University was developing the revolutionaryfast Fourier transform, which greatly speed up the calculation of Fourier Transforms, his British assistant SirClive Granger (1934–2009) pioneered the use of Fourier Transforms in economics, receiving the 2003 Nobel Economics Prize. Ragnar Frisch's assistantTrygve Haavelmo (1911–1999) received the 1989 Nobel Economics Prize for clarifying the probability foundations of econometrics and for analysis of simultaneous economic structures.
TheGreat Depression was a time of significant upheaval in the world economy. One of the most original contributions to understanding what went wrong came fromHarvard UniversitylawyerAdolf Berle (1895–1971), who likeJohn Maynard Keynes had resigned from his diplomatic job at theParis Peace Conference, 1919 and was deeply disillusioned by theVersailles Treaty. In his book with American economistGardiner C. Means (1896–1988)The Modern Corporation and Private Property (1932) he detailed the evolution in the contemporary economy of big business and argued that those who controlled big firms should be better held to account.Directors of companies are held to account to theshareholders of companies, or not, by the rules found incompany law statutes. This might include rights to elect and fire the management, requirements to hold regular general meetings, satisfy accounting standards, and so on. In 1930s America the typical company laws (e.g. inDelaware) did not clearly mandate such rights. Berle argued that the unaccountable directors of companies were therefore apt to funnel the fruits of enterprise profits into their own pockets, as well as manage in their own interests. The ability to do this was supported by the fact that the majority of shareholders in bigpublic companies were single individuals, with scant means of communication, in short, divided and conquered. Berle served in PresidentFranklin Delano Roosevelt's administration through the Great Depression as a key member of hisBrain Trust, developing manyNew Deal policies.
In 1967 Berle and Means issued a revised edition of their work, in which the preface added a new dimension. It was not only the separation of controllers of companies from the owners as shareholders at stake. They posed the question of what the corporate structure was really meant to achieve:
"Stockholders toil not, neither do they spin, to earn [dividends and share price increases]. They are beneficiaries by position only. Justification for their inheritance... can be founded only upon social grounds... that justification turns on the distribution as well as the existence of wealth. Its force exists only in direct ratio to the number of individuals who hold such wealth. Justification for the stockholder's existence thus depends on increasing distribution within the American population. Ideally, the stockholder's position will be impregnable only when every American family has its fragment of that position and of the wealth by which the opportunity to develop individuality becomes fully actualized."[94]
In 1933 American economistEdward Chamberlin (1899–1967) publishedThe Theory of Monopolistic Competition. The same year British economistJoan Robinson (1903–1983) publishedThe Economics of Imperfect Competition. Together they founded Industrial Organization Economics. Chamberlin also foundedExperimental Economics.
In 1939 Russian economistLeonid Kantorovich (1912–1986) developedLinear Programming for the optimal allocation of resources, receiving the 1975 Nobel Economics Prize.
By the twentieth century, the Industrial Revolution had led to an exponential increase in the human consumption of resources. The increase in health, wealth and population was perceived as a simple path of progress. However, in the 1930s economists began developing models ofnon-renewable resource management (seeHotelling's rule) and the sustainability of welfare in an economy that uses non-renewable resources.
Concerns about the environmental and social impacts of industry had been expressed by someEnlightenment political economists and in theRomantic movement of the 1800s. Overpopulation had been discussed in an essay byThomas Malthus (seeMalthusian catastrophe), whileJohn Stuart Mill foresaw thedesirability of astationary state economy, thus anticipating concerns of the modern discipline ofecological economics.[95][96][97][98][99]
Ecological economics was founded in the works ofKenneth E. Boulding,Nicholas Georgescu-Roegen,Herman Daly and others. The disciplinary field of ecological economics also bears some similarity to the topic of green economics.[100]
According to ecological economist Malte Faber, ecological economics is defined by its focus on nature, justice, and time. Issues ofintergenerational equity,irreversibility ofhuman impact on the environment,uncertainty of long-term outcomes, thermodynamics limits to growth, andsustainable development guide ecological economic analysis and valuation.[101]
Energy accounting was proposed in the early 1930s as a scientific alternative to aprice system, or money method of regulating society.[102][103]Joseph Tainter[104] suggests that a diminishing ratio ofenergy returned on energy invested is a chief cause of the collapse of complex societies. Falling EROEI due to the depletion of non-renewable resources also poses a difficult challenge for industrial economies.Sustainability becomes an issue as survival is threatened due to climate change.
In 1919 Yale economistWalton H. Hamilton coined the term "Institutional economics".In 1934John R. Commons (1862–1945), another economist from midwestern America publishedInstitutional Economics (1934), based on the concept that the economy is a web of relationships between people with diverging interests, including monopolies, large corporations, labor disputes, and fluctuating business cycles. They do however have an interest in resolving these disputes. Government, thought Commons, ought to be the mediator between the conflicting groups. Commons himself devoted much of his time to advisory and mediation work on government boards and industrial commissions.
In 1920 Alfred Marshall's studentArthur Cecil Pigou (1877–1959) publishedWealth and Welfare, which insisted on the possibility ofmarket failures, claiming that markets are inefficient in the case ofeconomic externalities, and the state must interfere to prevent them. However, Pigou retained free market beliefs, and in 1933, in the face of the economic crisis, he explained inThe Theory of Unemployment that the excessive intervention of the state in the labor market was the real cause of massiveunemployment because the governments had established a minimal wage, which prevented wages from adjusting automatically. This was to be the focus of attack from Keynes. In 1943 Pigou published the paperThe Classical Stationary State, which popularized thePigou (Real Balance) Effect, the stimulation of output and employment during deflation by increasing consumption due to a rise in wealth.
In response to theEconomic Calculation Problem proposed by the Austrian School of Economics that disputes the efficiency of a state-run economy, the theory ofMarket Socialism was developed in the late 1920s and 1930s by economistsFred M. Taylor (1855–1932),Oskar R. Lange (1904–1965),Abba Lerner (1903–1982) et al., combining Marxian economics with neoclassical economics after dumping the labor theory of value. In 1938Abram Bergson (1914–2003) defined theSocial Welfare Function.
In the 1930s theStockholm School of Economics was founded byEli Heckscher (1879–1952),Bertil Ohlin (1899–1977),Gunnar Myrdal (1898–1987) et al. based on the works ofJohn Maynard Keynes andKnut Wicksell (1851–1926), advising the founders of the Swedish Socialist welfare state.
In 1933 Ohlin and Heckscher proposed theHeckscher-Ohlin Model of International Trade, which claims that countries will export products that use their abundant and cheap factors of production and import products that use their scarce factors of production. In 1977 Ohlin was awarded a share of the Nobel Economics Prize.
In 1957 Myrdal published his theory ofCircular Cumulative Causation, in which a change in one institution ripples through others. In 1974 he received a share of the Nobel Economics Prize.
This school includes economists likeMichel Aglietta (1938),André Orléan (1950),Robert Boyer [fr] (1943),Benjamin Coriat (1948) andAlain Lipietz (1947). It is one of the two heterodox schools in France, the other beingl'école des conventions. Their interests revolves around accounting for the regime of regulation of specific historic stage of capitalism. They have mainly analysed the fordist mode of regulation, who corresponds to the after war period. Production as organised scientifically and products were not diversified. This corresponds with a homogenous consumption of goods. The economy was production led, where firms first produce the optimal amount of a type of good in the cheapest manner possible, destined to be mass consumed. Their inquiry consists of explaining how a stable mode of regulation can emerge in a capitalist economy, which inherently contains crises. Whereas orthodox economists tend to explain the causes of crises and disequilibriums in a supposedly self-regulating economy.
In 1885 theAmerican Economic Association (AEA) was founded byRichard T. Ely (1854–1943) et al., publishing theAmerican Economic Review starting in 1911. In 1918 Ely publishedPrivate Colonization of Land, founding Lambda Alpha International in 1930 to promoteLand Economics.[64]
John Maynard Keynes (1883–1946) was born in Cambridge, educated atEton, and supervised by bothA. C. Pigou andAlfred Marshall atCambridge University. He began his career as a lecturer before working for the British government during the Great War, rising to be the British government's financial representative at theVersailles Conference, where he profoundly disagreed with the decisions made. His observations were laid out in his bookThe Economic Consequences of the Peace[105] (1919), where he documented his outrage at the collapse of American adherence to theFourteen Points[106] and the mood of vindictiveness that prevailed towards Germany.[107] He resigned from the conference, using extensive economic data provided by the conference records to argue that if the victors forcedwar reparations to be paid by the defeatedCentral Powers, then a worldfinancial crisis would ensue, leading toWorld War II.[108] Keynes finished his treatise by advocating, first, a reduction in reparation payments by Germany to a realistically manageable level, increased intra-governmental management of continental coal production and a free trade union through theLeague of Nations;[109] second, an arrangement to set off debt repayments between the Allied countries;[110] third, complete reform of international currency exchange and an international loan fund;[111] and fourth, a reconciliation of trade relations with Russia and Eastern Europe.[112]
The book was an enormous success, and though it was criticized for false predictions by a number of people,[113] without the changes he advocated, Keynes's dark forecasts matched the world's experience through theGreat Depression which began in 1929, and the descent intoWorld War II in 1939. World War I had been touted as the "war to end all wars", and the absolute failure of the peace settlement generated an even greater determination to not repeat the same mistakes. With the defeat ofFascism, theBretton Woods Conference was held in July 1944 to establish a new economic order, in which Keynes was again to play a leading role.[114]
During the Great Depression, Keynes published his most important work,The General Theory of Employment, Interest and Money (1936). The Great Depression had been sparked by theWall Street crash of 1929, leading to massive rises in unemployment in the United States, leading to debts being recalled from European borrowers, and an economic domino effect across the world. Orthodox economics called for a tightening of spending, until business confidence and profit levels could be restored. Keynes by contrast, had argued inA Tract on Monetary Reform (1923) (which argues for a stable currency) that a variety of factors determined economic activity, and that it was not enough to wait for the long run market equilibrium to restore itself. As Keynes famously remarked:
"...this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again."[115]
On top of thesupply of money, Keynes identified thepropensity to consume, inducement to invest, marginal efficiency of capital, liquidity preference, and multiplier effect as variables which determine the level of the economy's output, employment, and price levels. Much of this esoteric terminology was invented by Keynes especially for hisGeneral Theory. Keynes argued that ifsavings were being withheld frominvestment, total spending falls, leading to reduced incomes and unemployment, which reduces savings again. This continues until the desire to save becomes equal to the desire to invest, which means a new "equilibrium" is reached and the spending decline halts. This new "equilibrium" is a depression, where people are investing less, have less to save and less to spend.
Keynes argued that employment depends on total spending, which is composed ofconsumer spending and business investment in theprivate sector. Consumers only spend "passively", or according to their income fluctuations. Businesses, on the other hand, are induced to invest by the expected rate of return on new investments (the benefit) and the rate of interest paid (the cost). So, said Keynes, if business expectations remained the same, and government reduces interest rates (the costs of borrowing), investment would increase, and would have a multiplied effect on total spending.Interest rates, in turn, depend on the quantity of money and the desire to hold money in bank accounts (as opposed to investing). If not enough money is available to match how much people want to hold, interest rates rise until enough people are put off. So if the quantity of money were increased, while the desire to hold money remained stable, interest rates would fall, leading to increased investment, output and employment. For both these reasons, Keynes therefore advocated low interest rates and easy credit, to combat unemployment.
But Keynes believed in the 1930s, conditions necessitatedpublic sector action.Deficit spending, said Keynes, would kick-start economic activity. This he had advocated in an open letter to U.S. PresidentFranklin D. Roosevelt inThe New York Times (1933). TheNew Deal programme in the U.S. had been well underway by the publication of theGeneral Theory. It provided conceptual reinforcement for policies already pursued. Keynes also believed in a more egalitarian distribution of income, and taxation onunearned income arguing that high rates of savings (to which richer folk are prone) are not desirable in a developed economy. Keynes therefore advocated both monetary management and an active fiscal policy.
During World War II Keynes acted as adviser toHM Treasury again, negotiating major loans from the U.S., helping formulate the plans for theInternational Monetary Fund, theWorld Bank, and theInternational Trade Organisation[116] at the 1944Bretton Woods Conference, a package designed to stabilize world economy fluctuations that had occurred in the 1920s and create a level trading field across the globe. Keynes died little more than a year later, but his ideas had already shaped a new global economic order, and all Western governments followed theKeynesian economics program of deficit spending to avert crises and maintain full employment.
One of Keynes's pupils at Cambridge wasJoan Robinson (1903–1983), a member of Keynes'sCambridge Circus, who contributed to the notion thatcompetition is seldom perfect in a market, an indictment of the theory of markets setting prices. InThe Production Function and the Theory of Capital (1953) Robinson tackled what she saw to be some of the circularity in orthodox economics. Neoclassicists assert that a competitive market forces producers to minimize the costs of production. Robinson said that costs of production are merely the prices of inputs, likecapital. Capital goods get their value from the final products. And if the price of the final products determines the price of capital, then it is, argued Robinson, utterly circular to say that the price of capital determines the price of the final products. Goods cannot be priced until the costs of inputs are determined. This would not matter if everything in the economy happened instantaneously, but in the real world, price setting takes time – goods are priced before they are sold. Since capital cannot be adequately valued in independently measurable units, how can one show that capital earns a return equal to the contribution to production?
Alfred Eichner (1937–1988) was an American post-Keynesian economist who challenged the neoclassical price mechanism and asserted that prices are not set through supply and demand but rather through mark-up pricing.Eichner is one of the founders of the post-Keynesian school of economics and was a professor at Rutgers University at the time of his death. Eichner's writings and advocacy of thought, differed with the theories of John Maynard Keynes, who was an advocate of government intervention in the free market and proponent of public spending to increase employment. Eichner argued that investment was the key to economic expansion. He was considered an advocate of the concept that government incomes policy should prevent inflationary wage and price settlements in connection to the customary fiscal and monetary means of regulating the economy.
Richard Kahn (1905–1989) was a member of the Cambridge Circus who in 1931 proposed theMultiplier.
Piero Sraffa (1898–1983) came to England fromFascist Italy in the 1920s, and became a member of the Cambridge Circus. In 1960 he published a small book calledProduction of Commodities by Means of Commodities, which explained how technological relationships are the basis for production of goods and services. Prices result from wage-profit tradeoffs, collective bargaining, labour and management conflict and the intervention of government planning. Like Robinson, Sraffa was showing how the major force for price setting in the economy was not necessarily market adjustments.
John Hicks (1904–1989) of England was a Keynesian who in 1937 proposed theInvestment Saving – Liquidity Preference Money Supply Model, which treats the intersection of the IS and LM curves as the general equilibrium in both markets.
In 1977Edmund Phelps (1933–) (who was awarded the 2006 Nobel Economics Prize) andJohn B. Taylor (1946–) published a paper proving thatstaggered setting of wages and prices gives monetary policy a role in stabilizing economic fluctuations if the wages/prices aresticky, even when all workers and firms have rational expectations, which caused Keynesian economics to make a comeback among mainstream economists withNew Keynesian Macroeconomics. Its central theme is the provision of a microeconomic foundation for Keynesian macroeconomics, obtained by identifying minimal deviations from the standard microeconomic assumptions which yield Keynesian macroeconomic conclusions, such as the possibility of significant welfare benefits from macroeconomic stabilization.[117]
In 1985George Akerlof (1940–) andJanet Yellen (1946–) publishedmenu costs arguments showing that, under imperfect competition, small deviations from rationality generate significant (in welfare terms)price stickiness.[118]
In 1987 British economistHuw Dixon (1958–) publishedA simple model of imperfect competition with Walrasian features,[119] the first work to demonstrate in a simple general equilibrium model that the fiscal multiplier could be increasing with the degree of imperfect competition in the output market, helping developNew Keynesian economics. The reason for this is thatimperfect competition in the output market tends to reduce thereal wage, leading to the household substituting away fromconsumption towardsleisure. Whengovernment spending is increased, the corresponding increase inlump-sum taxation causes both leisure and consumption to decrease (assuming that they are both a normal good). The greater the degree of imperfect competition in the output market, the lower thereal wage and hence the more the reduction falls on leisure (i.e. households work more) and less on consumption. Hence thefiscal multiplier is less than one, but increasing in the degree of imperfect competition in the output market.[120]
In 1997 American economistMichael Woodford (1955–) and Argentine economistJulio Rotemberg (1953–) published the first paper describing a microfounded DSGE New Keynesian macroeconomic model.
In 1975 American economistsSidney Weintraub (1914–1983) andHenry Wallich (1914–1988) publishedA Tax-Based Incomes Policy, promotingTax-Based Incomes Policy (TIP), using the income tax mechanism to implement an anti-inflationary incomes policy. In 1978 Weintraub and American economistPaul Davidson (1930–) founded theJournal of Post Keynesian Economics. This opened the door to many younger economists such as E. Ray Canterbery (1935–). Always Post Keynesian in his style and approach, Canterbery went on to make contributions outside traditional Post Keynesianism. His friend,John Kenneth Galbraith, was a long-time influence.
In 1913 English economist-diplomatAlfred Mitchell-Innes (1864–1950) publishedWhat is Money?, which was reviewed favorably byJohn Maynard Keynes, followed in 1914 byThe Credit Theory of Money, advocating theCredit Theory of Money,which economist L. Randall Wray called "The best pair of articles on the nature of money written in the twentieth century."[121]
The government-interventionist monetary and fiscal policies that the postwar Keynesian economists recommended came under attack by a group of theorists working at theUniversity of Chicago, which came in the 1950s to be known as theChicago School of Economics. Before World War II, the Old Chicago School of strong Keynesians was founded byFrank Knight (1885–1972),Jacob Viner (1892–1970), andHenry Calvert Simons (1899–1946). The second generation was known for a more conservative line of thought, reasserting alibertarian view of market activity that people are best left to themselves to be free to choose how to conduct their own affairs.[64]
Ronald Coase (1910–2013) of the Chicago School of Economics was the most prominent economic analyst of law, and the 1991Nobel Prize in Economics winner. His first major articleThe Nature of the Firm (1937) argued that the reason for the existence of firms (companies, partnerships, etc.) is the existence oftransaction costs.Homo economicus trades through bilateralcontracts on open markets until the costs of transactions make the use of corporations to produce things more cost-effective. His second major articleThe Problem of Social Cost (1960) argued that if we lived in a world without transaction costs, people would bargain with one another to create the same allocation of resources, regardless of the way a court might rule in property disputes. Coase used the example of an oldlegal case aboutnuisance namedSturges v Bridgman, where a noisy sweets maker and a quiet doctor were neighbors and went to court to see who should have to move.[122] Coase said that regardless of whether the judge ruled that the sweets maker had to stop using his machinery, or that the doctor had to put up with it, they could strike a mutually beneficialbargain about who moves house that reaches the same outcome of resource distribution. Only the existence oftransaction costs may prevent this.[123] So the law ought to preempt whatwould happen, and be guided by the mostefficient solution. The idea is that law and regulation are not as important or effective at helping people as lawyers and government planners believe.[124] Coase and others like him wanted a change of approach, to put the burden of proof for positive effects on a government that was intervening in the market, by analyzing the costs of action.[125]
In the 1960sGary Becker (1930–2014) andJacob Mincer (1922–2006) of the Chicago School of Economics foundedNew Home Economics, which spawnedFamily Economics.
In 1973 Coase discipleRichard Posner (1939–) publishedEconomic Analysis of Law, which became a standard textbook, causing him to become the most cited legal scholar of the 20th century. In 1981 he publishedThe Economics of Justice, which claimed that judges have been interpreting common law as it they were trying to maximize economic welfare.
Milton Friedman (1912–2006) of the Chicago School of Economics is one of the most influential economists of the late 20th century, receiving the Nobel Prize in Economics in 1976. He is known forA Monetary History of the United States (1963), in which he argued that theGreat Depression was caused by the policies of theFederal Reserve. Friedman argues that laissez-faire government policy is more desirable than government intervention in the economy. Governments should aim for a neutral monetary policy oriented toward long-runeconomic growth, by gradual expansion of the money supply. He advocates thequantity theory of money, that general prices are determined by money. Therefore, active monetary (e.g. easy credit) or fiscal (e.g. tax and spend) policy can have unintended negative effects. InCapitalism and Freedom (1962), Friedman wrote:
"There is likely to be a lag between the need for action and government recognition of the need; a further lag between recognition of the need for action and the taking of action; and a still further lag between the action and its effects."[126]
Friedman was also known for his work on the consumption function, thePermanent Income Hypothesis (1957), which Friedman referred to as his best scientific work.[127] This work contended that rational consumers would spend a proportional amount of what they perceived to be their permanent income. Windfall gains would mostly be saved. Tax reductions likewise, as rational consumers would predict that taxes would have to rise later to balance public finances. Other important contributions include his critique of thePhillips Curve, and the concept of thenatural rate of unemployment (1968).[64]
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In the early 1970s American Chicago School economistRobert E. Lucas, Jr. (1937–) foundedNew Classical Macroeconomics based onMilton Friedman's monetarist critique of Keynesian macroeconomics, and the idea ofrational expectations,[128] first proposed in 1961 byJohn F. Muth, opposing the idea that government intervention can or should stabilize the economy.[129] ThePolicy-Ineffectiveness Proposition (1975)[130] ofThomas J. Sargent (1943–) andNeil Wallace (1939–), which seemed to refute a basic assumption of Keynesian economics was also adopted. TheLucas aggregate supply function states that economic output is a function of money or price "surprise." Lucas was awarded the 1995 Nobel Economics Prize.
Lucas' model was superseded as the standard model of New Classical Macroeconomics by theReal Business Cycle Theory, proposed in 1982 byFinn Kydland (1943–) andEdward C. Prescott (1940–), which seeks to explain observed fluctuations in output and employment in terms of real variables such as changes in technology and tastes. Assuming competitive markets, real business cycle theory implies that cyclical fluctuations are optimal responses to variability in technology and tastes, and that macroeconomic stabilization policies must reduce welfare.[131]
In 1982 Kydland and Prescott also founded the theory ofDynamic Stochastic General Equilibrium (DSGE), large systems of microeconomic equations combined into models of the general economy, which became central to theNew Neoclassical Synthesis, incorporating theoretical elements such as sticky prices from New Keynesian Macroeconomics. They shared the 2004 Nobel Economics Prize.[64]
In 1965 Chicago School economistEugene Fama (1939–) publishedThe Behavior of Stock Market Prices, which found that stock market prices follow a random walk, proposing the Efficient Market Hypothesis, that randomness is characteristic of a perfectly functioning financial market. The same yearPaul Samuelson published a paper concluding the same thing with a mathematical proof, sharing the credit. Earlier in 1948Holbrook Working (1895–1985) published a paper saying the same thing, but not in a mathematical form. In 1970 Fama publishedEfficient Capital Markets: A Review of Theory and Empirical Work, proposing that efficient markets can be strong, semi-strong, or weak, and also proposing theJoint Hypothesis Problem, that the idea of market efficiency can not be rejected without also rejecting the market mechanism.
In 1898 Thorstein Veblen publishedWhy is Economics not an Evolutionary Science, which coins the termEvolutionary economics, making use of anthropology to deny that there is a universal human nature, emphasizing the conflict between "industrial" or instrumental and "pecuniary" or ceremonial values, which became known as the Ceremonial/Instrumental Dichotomy.[64]
Joseph Alois Schumpeter (1883–1950) was an Austrian School economist and political scientist best known for his works onbusiness cycles andinnovation. He insisted on the role of the entrepreneurs in an economy. InBusiness Cycles: A theoretical, historical and statistical analysis of the Capitalist process (1939), Schumpeter synthesized the theories about business cycles, suggesting that they could explain the economic situations. According to Schumpeter, capitalism necessarily goes through long-term cycles because it is entirely based upon scientific inventions and innovations. A phase of expansion is made possible by innovations, because they bringproductivity gains and encourage entrepreneurs to invest. However, when investors have no more opportunities to invest, the economy goes into recession, several firms collapse, closures and bankruptcy occur. This phase lasts until new innovations bring acreative destruction process, i.e. they destroy old products, reduce the employment, but they allow the economy to start a new phase of growth, based upon new products and newfactors of production.[64][132]
In 1944 Hungarian-American mathematicianJohn von Neumann andOskar Morgenstern publishedTheory of Games and Economic Behavior, foundingGame Theory, which was widely adopted by economists. In 1951 Princeton mathematicianJohn Forbes Nash Jr. published the articleNon-Cooperative Games, becoming the first to define aNash Equilibrium for non-zero-sum games.
In 1956 American economistRobert Solow (1924–2023) and Australian economistTrevor Swan (1918–1989) proposed theSolow–Swan model, based on productivity, capital accumulation, population growth, and technological progress. In 1956 Swan also proposed theSwan diagram of the internal-external balance. In 1987 Solow was awarded the Nobel Economics Prize.[133]: 440–41
The globalization era began with the end of World War II and the rise of the U.S. as the world's leading economic power, along with theUnited Nations. To prevent another global depression, the victorious allies countries forgave Germany its war debts and used its surpluses to rebuild Europe and encourage reindustrialization of Germany and Japan. In the 1960s it changed its role to recycling global surpluses.[134]
After World War II, Canadian-bornJohn Kenneth Galbraith (1908–2006) became one of the standard bearers for pro-active government and liberal-democrat politics. InThe Affluent Society (1958), Galbraith argued that voters reaching a certain material wealth begin to vote against the common good. He also argued that the "conventional wisdom" of the conservative consensus was not enough to solve the problems of social inequality.[135] In an age of big business, he argued, it is unrealistic to think of markets of the classical kind. They set prices and useadvertising to createartificial demand for their own products, distorting people's real preferences. Consumer preferences actually come to reflect those of corporations – a "dependence effect" – and the economy as a whole is geared to irrational goals.[136] InThe New Industrial State Galbraith argued that economic decisions are planned by a private-bureaucracy, atechnostructure of experts who manipulatemarketing andpublic relations channels. This hierarchy is self-serving, profits are no longer the prime motivator, and even managers are not in control. Because they are the new planners, corporations detest risk, require steady economic and stable markets. They recruit governments to serve their interests with fiscal and monetary policy, for instance adhering to monetarist policies which enrich money-lenders in the City through increases in interest rates. While the goals of an affluent society and complicit government serve the irrational technostructure, public space is simultaneously impoverished. Galbraith paints the picture of stepping from penthouse villas onto unpaved streets, from landscaped gardens to unkempt public parks. InEconomics and the Public Purpose (1973) Galbraith advocates a "new socialism" as the solution,nationalising military production and public services such ashealth care, introducing disciplined salary and price controls to reduce inequality.[137]
In contrast to Galbraith's linguistic style, the post-war economics profession began to synthesize much ofKeynes' work with mathematical representations. Introductory university economics courses began to present economic theory as a unified whole in what is referred to as theneoclassical synthesis. "Positive economics" became the term created to describe certain trends and "laws" of economics that could be objectively observed and described in a value-free way, separate from "normative economic" evaluations and judgments.
ThePaul Samuelson's (1915–2009)Foundations of Economic Analysis published in 1947 was an attempt to show that mathematical methods couldrepresent a core of testable economic theory. Samuelson started with two assumptions. First, people and firms will act tomaximize their self-interested goals. Second, markets tend towards anequilibrium of prices, where demand matches supply. He extended the mathematics to describe equilibrating behavior ofeconomic systems, including that of the then newmacroeconomic theory ofJohn Maynard Keynes. WhilstRichard Cantillon had imitatedIsaac Newton's mechanical physics of inertia and gravity in competition and the market,[42] thephysiocrats had copied the body's blood system into circular flow of income models,William Jevons had found growth cycles to match the periodicity ofsunspots, Samuelson adaptedthermodynamics formulae to economic theory. Reasserting economics as a hard science was being done in the United Kingdom also, and one celebrated "discovery", ofA. W. Phillips, was of a correlative relationship between inflation and unemployment. The workable policy conclusion was that securing full employment could be traded-off against higher inflation. Samuelson incorporated the idea of thePhillips curve into his work. His introductory textbookEconomics was influential and widely adopted. It became the most successful economics text ever. Paul Samuelson was awarded the newNobel Prize in Economics in 1970 for his merging of mathematics and political economy.
American economistKenneth Arrow's (1921–2017) publishedSocial Choice and Individual Values in 1951. It consider connections between economics and political theory. It gave rise tosocial choice theory with the introduction of his "Possibility Theorem". This sparked widespread discussion over how to interpret the different conditions of the theorem and what implications it had for democracy and voting. Most controversial of his four (1963) or five (1950/1951) conditions is theindependence of irrelevant alternatives.[138]
In the 1950s Kenneth Arrow andGérard Debreu (1921–2004) developed theArrow–Debreu model ofgeneral equilibria. In 1963 Arrow published a paper which foundedHealth Economics.[citation needed]
In 1971 Arrow andFrank Hahn publishedGeneral Competitive Analysis (1971), which reasserted a theory of general equilibrium of prices through the economy. In 1971, US PresidentRichard Nixon's had declared that "We are all Keynesians now", announcing wage and price controls. He lifted this from a comment byMilton Friedman in 1965 which formed aTime.[139]
In 1951 English economistJames Meade (1907–1995) publishedThe Balance of Payments, volume 1 of "The Theory of International Economic Policy", which proposed the theory of domestic divergence (internal and external balance), and promoted policy tools for governments. In 1955 he published volume 2Trade and Welfare, which proposed the theory of the "second-best", and promoted protectionism. He shared the 1977 Nobel Economic Prize with Bertil Ohlin.
In 1979 American economistPaul Krugman (1953–) published a paper foundingNew trade theory, which attempts to explain the role of increasing returns to scale and network effects in international trade. In 1991 he published a paper foundingNew economic geography. His textbookInternational Economics (2007) appears on many undergraduate reading lists. He was awarded the Nobel Prize in Economics in 2008.
In 1954 Saint Lucian economistSir Arthur Lewis (1915–1991) proposed theDual Sector Model ofDevelopment Economics, which claims that capitalism expands by making use of an unlimited supply of labor from the backward non-capitalist "subsistence sector" until it reaches the Lewisian breaking point where wages begin to rise, receiving the 1979 Nobel Economics Prize.
In 1955 Russian-born American economistSimon Kuznets (1901–1985), who introduced the concept ofGross domestic product (GDP) in 1934 published an article revealing an inverted U-shaped relation between income inequality and economic growth, meaning that economic growth increases income disparity between rich and poor in poor countries, but decreases it in wealthy countries. In 1971 he received the Nobel Economics Prize.
Indian economistAmartya Sen (1933–) expressed considerable skepticism about the validity of neoclassical assumptions, and was highly critical ofrational expectations theory, devoting his work toDevelopment Economics and human rights.
In 1981, Sen publishedPoverty and Famines: An Essay on Entitlement and Deprivation (1981), a book in which he argued that famine occurs not only from a lack of food, but from inequalities built into mechanisms for distributing food. Sen also argued that the Bengal famine was caused by an urban economic boom that raised food prices, thereby causing millions of rural workers to starve to death when their wages did not keep up.[140]
In addition to his important work on the causes of famines, Sen's work in the field of development economics has had considerable influence in the formulation of the "Human Development Report",[141] published by theUnited Nations Development Programme.[142] This annual publication that ranks countries on a variety of economic and social indicators owes much to the contributions by Sen among other social choice theorists in the area of economic measurement of poverty and inequality. Sen was awarded theNobel Prize in Economics in 1998.
In 1958 American economistsAlfred H. Conrad (1924–1970) andJohn R. Meyer (1927–2009) foundedNew Economic History, which in 1960 was called Cliometrics by American economistStanley Reiter (1925–2014) afterClio, the muse of history. It uses neoclassical economic theory to reinterpret historical data, spreading throughout academia, causing economic historians untrained in economics to disappear from history departments. American cliometric economistsDouglass Cecil North (1920–2015) andRobert William Fogel (1926–2013) were awarded the 1993 Nobel Economics Prize.
In 1962 American economistsJames M. Buchanan (1919–2013) andGordon Tullock (1922–2014) publishedThe Calculus of Consent, which revivedPublic Choice Theory by differentiating politics (the rules of the game) from public policy (the strategies to adopt within the rules), foundingConstitutional Economics, the economic analysis of constitutional law. Buchanan was awarded the 1986 Nobel Economics Prize.
In 1962–1963 Scottish economistMarcus Fleming (1911–1976) and Canadian economistRobert Mundell (1932–) published theMundell–Fleming Model of the Economy, an extension of the IS–LM Model to an open economy, proposing the Impossible Trinity of fixed exchange rate, free capital movement, and an independent monetary policy, only two of which can be maintained simultaneously. Mundell received the 1999 Nobel Economics Prize.
In 1965 American economistHenry G. Manne (1928–2015) publishedMergers and the Market for Corporate Control inJournal of Political Economy, which claims that changes in the price of a share of stock in the stock market will occur more rapidly when insider trading is prohibited than when it is permitted, founding the theory ofmarket for corporate control.
In 1970George Akerlof (1940–) published the paperThe Market for Lemons, founding the theory ofInformation Economics, receiving the 2001 Nobel Economics Prize.
Joseph E. Stiglitz (1943–) also received the Nobel Economics Prize in 2001 for his work inInformation Economics. He has served as chairman of President Clinton's Council of Economic Advisers, and as chief economist for theWorld Bank. Stiglitz has taught at many universities, including Columbia, Stanford, Oxford, Manchester, Yale, and MIT. In recent years he has become an outspoken critic of global economic institutions. InMaking Globalization Work (2007) he offers an account of his perspectives on issues of international economics:
"The fundamental problem with the neoclassical model and the corresponding model under market socialism is that they fail to take into account a variety of problems that arise from the absence of perfect information and the costs of acquiring information, as well as the absence or imperfections in certain key risk and capital markets. The absence or imperfection can, in turn, to a large extent be explained by problems of information."[143]
Stiglitz talks about his bookMaking Globalization Work here.[144]
In 1973 Russian-American mathematician-economistLeonid Hurwicz (1917–2008) foundedMarket (Mechanism) Design Theory, a.k.a. Reverse Game Theory, which allows people to distinguish situations in which markets work well from those in which they do not, aiding the identification of efficient trading mechanisms, regulation schemes, and voting procedures; he developed the theory withEric Maskin (1950–) andRoger Myerson (1951–), sharing the 2007 Nobel Economics Prize with them.
In 1974 American economistArthur Laffer formulated theLaffer curve, which postulates that no tax revenue will be raised at the extreme tax rates of 0% and 100%, and that there must be at least one rate where tax revenue would be a non-zero maximum. This concept was adopted by U.S. PresidentRonald Reagan in the early 1980s, becoming the cornerstone ofReaganomics, which was co-founded by American economistPaul Craig Roberts.
In 1986, French economistJean Tirole (1953–) published "Dynamic Models of Oligopoly", followed by "The Theory of Industrial Organization" (1988), launching his quest to understand market power and regulation, resulting in the 2014 Nobel Economics Prize.
 | This section needs to beupdated. Please help update this article to reflect recent events or newly available information.(September 2020) |
The2008 financial crisis led to theGreat Recession. This prompted some macroeconomists and Financial Economists to question the current orthodoxy.[145][146]
One response was theKeynesian resurgence. This emerged as a consensus among some policy makers and economists for Keynesian solutions.[further explanation needed] Figures in this school includedDominique Strauss-Kahn,Olivier Blanchard,Gordon Brown,Paul Krugman, andMartin Wolf.[147][148][149]Austerity was another response, the policy of reducinggovernment budget deficits. Austerity policies may include spending cuts, tax increases, or a mixture of both.[150][151] Two influential academic papers support this position. The first wasLarge Changes in Fiscal Policy: Taxes Versus Spending, published in October 2009 byAlberto Alesina and Silvia Ardagna. It asserted that fiscal austerity measures did not hurt economies, and actually helped their recovery.[152] The secondGrowth in a Time of Debt, published in 2010 byCarmen Reinhart andKenneth Rogoff. It analyzed public debt and GDP growth among 20 advanced economies and claimed that high debt countries grew at −0.1% since WWII. In April 2013 theIMF and theRoosevelt Institute exposed basic calculation flaws in the Reinhart-Rogoff paper, claiming that when the flaws were corrected, the growth of the "high debt" countries was +2.2%, much higher than the original paper predicted. Following this, on 6 June 2013,Paul Krugman publishedHow the Case for Austerity Has Crumbled inThe New York Review of Books, arguing that the case for austerity was fundamentally flawed, and calling for an end to austerity measures.[153]
This article, which is a supplement to Understanding Economics (McGraw-Hill Ryerson, 1998), describes the early Arab historian Ibn Khaldun's views of taxation, and their parallels with the modern-day Laffer Curve.
...the first HDR called for a different approach to economics and development - one that put people at the centre. The approach was anchored in a new vision of development, inspired by the creative passion and vision of Mahbub ul Haq, the lead author of the early HDRs, and the ground-breaking work of Amartya Sen.Pdf version.Archived 2016-07-22 at theWayback Machine
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