.|alt=A vegetable vendor in a marketplace.]]
Economics is the
social science that analyzes the
production,
distribution, and
consumption of
goods and
services. The term
economics comes from the
Ancient Greek (
, "management of a household, administration") from
(
, "house") +
(
, "custom" or "law"), hence "rules of the house(hold)". Current economic models developed out of the broader field of
political economy in the late 19th century, owing to a desire to use an
empirical approach more akin to the physical sciences.Clark, B. (1998).
Political-economy: A comparative approach. Westport, CT: Preager.
Economics aims to explain how
economies work and how economic
agents interact. Economic analysis is applied throughout society, in
business,
finance and
government, but also in
crime,
Friedman, David D. (2002).
"Crime," The Concise Encyclopedia of Economics. Accessed October 21, 2007.
education,
The World Bank (2007).
"Economics of Education." Accessed October 21, 2007. the
family,
health,
law,
politics,
religion,Iannaccone, Laurence R. (1998). "Introduction to the Economics of Religion,"
Journal of Economic Literature, 36(3),
pp. 1465–1495..
social institutions, war,
Nordhaus, William D. (2002). "The Economic Consequences of a War with Iraq", in
War with Iraq: Costs, Consequences, and Alternatives,
pp. 51–85. American Academy of Arts and Sciences. Cambridge, MA. Accessed October 21, 2007. and
science.Arthur M. Diamond, Jr. (2008). "science, economics of,"
The New Palgrave Dictionary of Economics, 2nd Edition, Basingstoke and New York:
Palgrave Macmillan. Pre-publication
cached ccpy. The expanding domain of economics in the
social sciences has been described as
economic imperialism. •
Lazear, Edward P. (2000|. "Economic Imperialism,"
Quarterly Journal Economics, 115(1)|, p
p. 99–146.
Cached copy. Pre-publication copy(larger print.) •
Becker, Gary S. (1976).
The Economic Approach to Human Behavior.
Links to arrow-page viewable chapter. University of Chicago Press.
Common distinctions are drawn between various dimensions of economics. The primary textbook distinction is between
microeconomics, which examines the behavior of basic elements in the economy, including individual markets and agents (such as consumers and firms, buyers and sellers), and
macroeconomics, which addresses issues affecting an entire economy, including unemployment, inflation, economic growth, and monetary and fiscal policy. Other distinctions include: between
positive economics (describing "what is") and
normative economics (advocating "what ought to be"); between economic theory and
applied economics; between
mainstream economics (more "orthodox" dealing with the "rationality-individualism-equilibrium nexus") and
heterodox economics (more "radical" dealing with the "institutions-history-social structure nexus"Davis, John B. (2006). "Heterodox Economics, the Fragmentation of the Mainstream, and Embedded Individual Analysis,” in
Future Directions in Heterodox Economics. Ann Arbor: University of Michigan Press.); and between
rational and
behavioral economics.
Microeconomics
Markets
Microeconomics, like macroeconomics, is a fundamental method for analyzing the
economy as a
system. It treats households and firms interacting through individual markets as irreducible elements of the economy, given scarcity and
government regulation. A
market might be for a
product, say fresh corn, or the
services of a factor of production, say bricklaying. The theory considers
aggregates of
quantity demanded by buyers and
quantity supplied by sellers at each possible price per unit. It weaves these together to describe how the market may reach
equilibrium as to price and quantity or respond to market changes over time.
Such analysis includes the theory of
supply and demand. It also examines market structures, such as
perfect competition and
monopoly for implications as to behavior and
economic efficiency. Analysis of change in a single market often proceeds from the simplifying assumption that relations in other markets remain unchanged, that is,
partial-equilibrium analysis.
General-equilibrium theory allows for changes in different markets and aggregates across
all markets, including their movements and interactions toward equilibrium. •
Blaug, Mark (2007). "The Social Sciences: Economics," Microeconomics,
The New Encyclopædia Britannica, v. 27, pp. 347–49. Chicago. ISBN 0-85229-423-9 •
Varian, Hal R. (1987). "microeconomics",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 461–63. London and New York: Macmillan and Stockton. ISBN 0-333-37235-2
Production, cost, and efficiency
In microeconomics,
production is the conversion of
inputs into
outputs. It is an economic process that uses inputs to create a
commodity for
exchange or direct use. Production is a
flow and thus a rate of output per period of time. Distinctions include such production alternatives as for
consumption (food, haircuts, etc.) vs.
investment goods (new tractors, buildings, roads, etc.),
public goods (national defense, small-pox vaccinations, etc.) or
private goods (new computers, bananas, etc.), and
"guns" vs. "butter".
Opportunity cost refers to the
economic cost of production: the value of the next best opportunity foregone. Choices must be made between desirable yet
mutually exclusive actions. It has been described as expressing "the basic relationship between
scarcity and
choice.".
James M. (1987). "opportunity cost",
, v. 3, pp. 718–21. The opportunity cost of an activity is an element in ensuring that scarce resources are used efficiently, such that the cost is weighed against the value of that activity in deciding on more or less of it. Opportunity costs are not restricted to monetary or financial costs but could be measured by the
real cost of
output forgone,
leisure, or anything else that provides the alternative benefit (
utility).
The Economist, Economics A-Z, [http://www.economist.com/research/Economics/searchActionTerms.cfm?query=OPPORTUNITY+COST "Opportunity Cost." Accessed 3 Aug. 2010
Inputs used in the production process include such primary
factors of production as
labour services,
capital (durable produced goods used in production, such as an existing factory), and
land (including natural resources). Other inputs may include
intermediate goods used in production of final goods, such as the steel in a new car.
Economic efficiency describes how well a system generates desired output with a given set of inputs and available
technology. Efficiency is improved if more output is generated without changing inputs, or in other words, the amount of "waste" is reduced. A widely-accepted general standard is
Pareto efficiency, which is reached when no further change can make someone better off without making someone else worse off.
The
production-possibility frontier (PPF) is an expository figure for representing scarcity, cost, and efficiency. In the simplest case an
economy can produce just two goods (say "guns" and "butter"). The PPF is a table or graph (as at the right) showing the different quantity combinations of the two goods producible with a given technology and total factor inputs, which limit feasible total output. Each point on the curve shows
potential total output for the economy, which is the maximum feasible output of one good, given a feasible output quantity of the other good.
Scarcity is represented in the figure by people being willing but unable in the aggregate to consume
beyond the PPF (such as at
X) and by the negative slope of the curve.Montani, Guido (1987), "scarcity," , v. 4, p. 254. If production of one good
increases along the curve, production of the other good
decreases, an
inverse relationship. This is because increasing output of one good requires transferring inputs to it from production of the other good, decreasing the latter. The
slope of the curve at a point on it gives the
trade-off between the two goods. It measures what an additional unit of one good costs in units forgone of the other good, an example of a
real opportunity cost. Thus, if one more Gun costs 100 units of butter, the opportunity cost of one Gun is 100 Butter.
Along the PPF, scarcity implies that choosing
more of one good in the aggregate entails doing with
less of the other good. Still, in a
market economy, movement along the curve may indicate that the
choice of the increased output is anticipated to be worth the cost to the agents.
By construction, each point on the curve shows
productive efficiency in maximizing output for given total inputs. A point
inside the curve (as at
A), is feasible but represents
production inefficiency (wasteful use of inputs), in that output of
one or both goods could increase by moving in a northeast direction to a point on the curve. Examples cited of such inefficiency include high
unemployment during a
business-cycle recession or economic organization of a country that discourages full use of resources. Being on the curve might still not fully satisfy
allocative efficiency (also called
Pareto efficiency) if it does not produce a mix of goods that consumers prefer over other points.
Much
applied economics in
public policy is concerned with determining how the efficiency of an economy can be improved. Recognizing the reality of scarcity and then figuring out how to organize society for the most efficient use of resources has been described as the "essence of economics," where the subject "makes its unique contribution."
Specialization
Specialization is considered key to economic efficiency based on theoretical and
empirical considerations. Different individuals or nations may have different real opportunity costs of production, say from differences in
stocks of
human capital per worker or
capital/
labour ratios. According to theory, this may give a
comparative advantage in production of goods that make more intensive use of the relatively more abundant, thus
relatively cheaper, input. Even if one region has an
absolute advantage as to the ratio of its outputs to inputs in every type of output, it may still specialize in the output in which it has a comparative advantage and thereby gain from trading with a region that lacks any absolute advantage but has a comparative advantage in producing something else.
It has been observed that a high volume of trade occurs among regions even with access to a similar technology and mix of factor inputs, including high-income countries. This has led to investigation of economies of
scale and
agglomeration to explain specialization in similar but differentiated product lines, to the overall benefit of of respective trading parties or regions.
Krugman, Paul R. (1980). "Scale Economies, Product Differentiation, and the Pattern of Trade,"
American Economic Review, 70(5), pp.
950–59. • William C. Strange, 2008, "urban agglomeration,"
The New Palgrave Dictionary of Economics, 2nd Edition.
Abstract.
The general theory of specialization applies to trade among individuals, farms, manufacturers,
service providers, and
economies. Among each of these production systems, there may be a corresponding
division of labour with different work groups specializing, or correspondingly different types of
capital equipment and differentiated
land uses. • Groenewegen, Peter (2008). "division of labour",
The New Palgrave Dictionary of Economics.
Abstract. • Johnson, Paul M. (2005).
"Specialization," A Glossary of Political Economy Terms. • Yang, Xiaokai, and Yew-Kwang Ng (1993).
Specialization and Economic Organization.
Description. Amsterdam: North-Holland.
An example that combines features above is a country that specializes in the production of high-tech knowledge products, as developed countries do, and trades with developing nations for goods produced in factories where labor is relatively cheap and plentiful, resulting in different in opportunity costs of production. More total output and utility thereby results from specializing in production and trading than if each country produced its own high-tech and low-tech products.
Theory and observation set out the conditions such that market
prices of outputs and productive inputs select an allocation of factor inputs by comparative advantage, so that (relatively)
low-cost inputs go to producing low-cost outputs. In the process, aggregate output may increase as a
by-product or by
design.
Cameron, Rondo (1993, 2nd ed.).
A Concise Economic History of the World: From Paleolithic Times to the Present, Oxford, pp. 25, 32, 276–80. Such specialization of production creates opportunities for gains from trade whereby resource owners benefit from trade in the sale of one type of output for other, more highly valued goods. A measure of gains from trade is the increased income levels
that trade may facilitate. • Samuelson, Paul A., and William D. Nordhaus (2004). Economics
,ch. 2, "Trade, Specialization, and Division of Labor" section, ch. 12, 15, "Comparative Advantage among Nations" section," "Glossary of Terms," Gains from trade. • Findlay, Ronald (2008). "comparative advantage", The New Palgrave Dictionary of Economics
. Abstract. • Kemp, Murray C. (1987). "gains from trade", '', v. 2, pp. 453–54.
Supply and demand
model describes how prices vary as a result of a balance between product availability and demand. The graph depicts an increase (that is, right-shift) in demand from D1 to D2 along with the consequent increase in price and quantity required to reach a new equilibrium point on the supply curve (S).|alt=A graph depicting Quantity on the X-axis and Price on the Y-axis]]
Prices and quantities have been described as the most directly observable attributes of goods produced and exchanged in a
market economy.Brody, A. (1987). "prices and quantities",
The New Palgrave: A Dictionary of Economics, v. 3, p. 957. The theory of supply and demand is an organizing principle for explaining how prices coordinate the amounts produced and consumed. In
microeconomics, it applies to price and output determination for a market with
perfect competition, which includes the condition of no buyers or sellers large enough to have price-setting
power.
For a given market of a
commodity,
demand is the relation of the quantity that all buyers would be prepared to purchase at each unit price of the good. Demand is often represented by a table or a graph showing price and quantity demanded (as in the figure).
Demand theory describes individual consumers as
rationally choosing the most preferred quantity of each good, given income, prices, tastes, etc. A term for this is 'constrained utility maximization' (with income and
wealth as the
constraints on demand). Here,
utility refers to the hypothesized relation of each individual consumer for ranking different commodity bundles as more or less preferred.
The
law of demand states that, in general, price and quantity demanded in a given market are inversely related. That is, the higher the price of a product, the less of it people would be prepared to buy of it (other things
unchanged). As the price of a commodity falls, consumers move toward it from relatively more expensive goods (the
substitution effect). In addition,
purchasing power from the price decline increases ability to buy (the
income effect). Other factors can change demand; for example an increase in income will shift the demand curve for a
normal good outward relative to the origin, as in the figure.
Supply is the relation between the price of a good and the quantity available for sale at that price. It may be represented as a table or graph relating price and quantity supplied. Producers, for example business firms, are hypothesized to be
profit-maximizers, meaning that they attempt to produce and supply the amount of goods that will bring them the highest profit. Supply is typically represented as a directly-proportional relation between price and quantity supplied (other things unchanged). That is, the higher the price at which the good can be sold, the more of it producers will supply, as in the figure. The higher price makes it profitable to increase production. Just as on the demand side, the position of the supply can shift, say from a change in the price of a productive input or a technical improvement.
Market equilibrium occurs where quantity supplied equals quantity demanded, the intersection of the supply and demand curves in the figure above. At a price below equilibrium, there is a shortage of quantity supplied compared to quantity demanded. This is posited to bid the price up. At a price above equilibrium, there is a surplus of quantity supplied compared to quantity demanded. This pushes the price down. The
model of supply and demand predicts that for given supply and demand curves, price and quantity will stabilize at the price that makes quantity supplied equal to quantity demanded. Similarly, demand-and-supply theory predicts a new price-quantity combination from a shift in demand (as to the figure), or in supply.
For a given quantity of a consumer good, the point on the demand curve indicates the value, or
marginal utility, to consumers for that unit. It measures what the consumer would be prepared to pay for that unit.
Baumol, William J. (2007). "Economic Theory," Measurement and ordinal utility,
The New Encyclopædia Britannica, v. 17, p. 719. The corresponding point on the supply curve measures
marginal cost, the increase in total cost to the supplier for the corresponding unit of the good. The price in equilibrium is determined by supply and demand. In a
perfectly competitive market, supply and demand equate marginal cost and marginal utility at equilibrium.
On the supply side of the market, some factors of production are described as (relatively)
variable in the
short run, which affects the cost of changing output levels. Their usage rates can be changed easily, such as electrical power, raw-material inputs, and over-time and temp work. Other inputs are relatively
fixed, such as plant and equipment and key personnel. In the
long run, all inputs may be adjusted by
management. These distinctions translate to differences in the
elasticity (responsiveness) of the supply curve in the short and long runs and corresponding differences in the price-quantity change from a shift on the supply or demand side of the market.
Marginalist theory, such as above, describes the consumers as attempting to reach most-preferred positions, subject to
income and
wealth constraints while producers attempt to maximize profits subject to their own constraints, including demand for goods produced, technology, and the price of inputs. For the consumer, that point comes where marginal utility of a good, net of price, reaches zero, leaving no net gain from further consumption increases. Analogously, the producer compares
marginal revenue (identical to price for the perfect competitor) against the
marginal cost of a good, with
marginal profit the difference. At the point where marginal profit reaches zero, further increases in production of the good stop. For movement to market equilibrium and for changes in equilibrium, price and quantity also change "at the margin": more-or-less of something, rather than necessarily all-or-nothing.
Other applications of demand and supply include the
distribution of income among the
factors of production, including labour and capital, through factor markets. In a competitive
labour market for example the quantity of labour employed and the price of labour (the wage rate) depends on the
demand for labour (from employers for production) and supply of labour (from potential workers).
Labour economics examines the interaction of workers and employers through such markets to explain patterns and changes of wages and other labour income,
labour mobility, and (un)employment, productivity through
human capital, and related public-policy issues.
Freeman, R.B. (1987). "labour economics",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 72–76. • Taber, Christopher, and Bruce A. Weinberg (2008). "labour economics (new perspectives),"
The New Palgrave Dictionary of Economics, 2nd Edition,
Abstract. • Hicks, J.R. (1963, 2nd ed.).
The Theory of Wages. London: Macmillan.
Demand-and-supply analysis is used to explain the behavior of perfectly competitive markets, but as a standard of comparison it can be extended to any type of market. It can also be generalized to explain variables across the
economy, for example, total output (estimated as
real GDP) and the general
price level, as studied in
macroeconomics.
Blanchard, Olivier (2006, 4th ed.).
Macroeconomics, ch. 7, "Putting All Markets Together: The AS–AD Model," Prentice-Hall. Tracing the
qualitative and quantitative effects of variables that change supply and demand, whether in the short or long run, is a standard exercise in
applied economics. Economic theory may also specify conditions such that supply and demand through the market is an efficient mechanism for allocating resources.Jordan, J.S. (1982). "The Competitive Allocation Process Is Informationally Efficient Uniquely."
Journal of Economic Theory, 28(1), p. 1–18.
Abstract.
Firms
, buyer and seller are not present and trade via intermediates and electronic information. Pictured:
São Paulo Stock Exchange.|alt=Two men sit at computer monitors with financial information]]
One of the assumptions of perfectly competitive markets is that there are many producers, none of which can influence prices or act independently of market forces. In reality, however, people do not simply trade on markets, they work and produce through firms. The most obvious kinds of firms are
corporations,
partnerships and
trusts. According to
Ronald Coase people begin to organise their production in firms when the costs of doing business becomes lower than doing it on the market.Coase,
The Nature of the Firm (1937) Firms combine labour and capital, and can achieve far greater
economies of scale (when producing two or more things is cheaper than one thing) than individual market trading.
Industrial organization studies the strategic behavior of firms, the structure of markets and their interactions. The common market structures studied include
perfect competition,
monopolistic competition, various forms of
oligopoly, and
monopoly.Schmalensee, Richard (1987). "Industrial Organization",
The New Palgrave: A Dictionary of Economics, v. 2, pp. 803–808.
Financial economics, often simply referred to as
finance, is concerned with the allocation of financial resources in an uncertain (or
risky) environment. Thus, its focus is on the operation of
financial markets, the pricing of
financial instruments, and the
financial structure of companies.
Ross, Stephen A. (1987). "finance",
The New Palgrave: A Dictionary of Economics, v. 2, pp. 322–26.
Managerial economics applies
microeconomic analysis to specific decisions in business firms or other management units. It draws heavily from quantitative methods such as
operations research and programming and from statistical methods such as
regression analysis in the absence of certainty and perfect knowledge. A unifying theme is the attempt to
optimize business decisions, including unit-cost minimization and profit maximization, given the firm's objectives and constraints imposed by technology and market conditions. • NA (2007). "managerial economics". • Hughes, Alan (1987). "managerial capitalism",
, v. 3, pp. 293–96.
Market failure
can be a simple example of market failure. If
costs of production are not borne by producers but are by the environment, accident victims or others, then prices are distorted.|alt=A smokestack releasing smoke]]
The term "
market failure" encompasses several problems which may undermine standard economic assumptions. Although economists categorise market failures differently, the following categories emerge in the main texts. • Cf.
Nicholas Barr (2004) whose list of market failures is melded with failures of economic assumptions, which are (1) producers as price takers (i.e. presence of oligopoly or monopoly; but why is this not a product of the following?) (2) equal power of consumers (what labour lawyers call an imbalance of bargaining power) (3) complete markets (4) public goods (5) external effects (i.e. externalities?) (6) increasing returns to scale (i.e. practical monopoly) (7) perfect information
his Economics of the Welfare State, 4th ed., Oxford University Press, pp. 72–79. •
Joseph E. Stiglitz (2000) classifies market failures as from failure of competition (including
natural monopoly),
information asymmetries,
incomplete markets,
externalities,
public good situations, and
macroeconomic disturbances (in his
Economics of the Public Sector, 3rd ed., Ch.4, W.W. Norton).
Natural monopoly, or the overlapping concepts of "practical" and "technical" monopoly, is an extreme case of
failure of competition as a restraint on producers. The problem is described as one where the more of a product is made, the greater the unit costs are. This means it only makes economic sense to have one producer.
Information asymmetries arise where one party has more or better information than the other. The existence of information asymmetry gives rise to problems such as
moral hazard, and
adverse selection, studied in
contract theory. The economics of information has relevance in many fields, including
finance,
insurance,
contract law, and decision-making under risk and uncertainty.Lippman, S. S., and J. J. McCall (2001). "Information, Economics of,"
International Encyclopedia of the Social & Behavioral Sciences, pp. 7480–7486.
Abstract.
Incomplete markets is a term used for a situation where buyers and sellers do not know enough about each other's positions to price goods and services properly. Based on
George Akerlof's
Market for Lemons article, the paradigm example is of a dodgy second hand car market. Customers without the possibility to know for certain whether they are buying a "lemon" will push the average price down below what a good quality second hand car would be. In this way, prices may not reflect true values.
Public goods are goods which are undersupplied in a typical market. The defining features are that people can consume public goods without having to pay for them and that more than one person can consume the good at the same time.
Externalities occur where there are significant social costs or benefits from production or consumption that are not reflected in market prices. For example, air pollution may generate a negative externality, and education may generate a positive externality (less crime, etc.). Governments often tax and otherwise restrict the sale of goods that have negative externalities and subsidize or otherwise promote the purchase of goods that have positive externalities in an effort to correct the price
distortions caused by these externalities.
Laffont, J.J. (1987). "externalities",
The New Palgrave: A Dictionary of Economics, v. 2, p. 263–65. Elementary demand-and-supply theory predicts equilibrium but not the speed of adjustment for changes of equilibrium due to a shift in demand or supply.
Blaug, Mark (2007). "The Social Sciences: Economics".
The New Encyclopædia Britannicav. 27, p. 347. Chicago. ISBN 0-85229-423-9
In many areas, some form of
price stickiness is postulated to account for quantities, rather than prices, adjusting in the short run to changes on the demand side or the supply side. This includes standard analysis of the
business cycle in
macroeconomics. Analysis often revolves around causes of such price stickiness and their implications for reaching a hypothesized long-run equilibrium. Examples of such price stickiness in particular markets include wage rates in labour markets and posted prices in markets
deviating from
perfect competition.
Macroeconomic instability, addressed below, is a prime source of market failure, whereby a general loss of business confidence or external shock can grind production and distribution to a halt, undermining ordinary markets that are otherwise sound.
sampling water|alt=A woman takes samples of water from a river]]
Some specialised fields of economics deal in market failure more than others. The
economics of the public sector is one example, since where markets fail, some kind of regulatory or government programme is the remedy. Much
environmental economics concerns externalities or "
public bads".
Policy options include regulations that reflect
cost-benefit analysis or market solutions that change incentives, such as
emission fees or redefinition of property rights. • Kneese, Allen K., and Clifford S. Russell (1987). "environmental economics",
The New Palgrave: A Dictionary of Economics, v. 2, pp. 159–64. • Samuelson, Paul A., and
William D. Nordhaus (2004).
Economics, ch. 18, "Protecting the Environment." McGraw-Hill.
Public sector
Public finance is the field of economics that deals with budgeting the revenues and expenditures of a
public sector entity, usually government. The subject addresses such matters as
tax incidence (who really pays a particular tax), cost-benefit analysis of government programs, effects on
economic efficiency and
income distribution of different kinds of spending and taxes, and fiscal politics. The latter, an aspect of
public choice theory, models public-sector behavior analogously to microeconomics, involving interactions of self-interested voters, politicians, and bureaucrats.
Musgrave, R.A. (1987). "public finance",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 1055–60.
Much of economics is
positive, seeking to describe and predict economic phenomena.
Normative economics seeks to identify what economies
ought to be like.
Welfare economics is a normative branch of economics that uses
microeconomic techniques to simultaneously determine the
allocative efficiency within an economy and the income
distribution associated with it. It attempts to measure
social welfare by examining the economic activities of the individuals that comprise society.Feldman, Allan M. (1987). "welfare economics",
The New Palgrave: A Dictionary of Economics, v. 4, pp. 889–95.
Macroeconomics
|alt=A graph depicting "Circulation in Microeconomics"]]
Macroeconomics examines the economy as a whole to explain broad aggregates and their interactions "top down," that is, using a simplified form of
general-equilibrium theory.Blaug, Mark (2007). "The Social Sciences: Economics,"
The New Encyclopædia Britannica, v. 27, p. 345. Such aggregates include
national income and output, the
unemployment rate, and price
inflation and subaggregates like total consumption and investment spending and their components. It also studies effects of
monetary policy and
fiscal policy.
Since at least the 1960s, macroeconomics has been characterized by further integration as to
micro-based modeling of sectors, including
rationality of players,
efficient use of market information, and
imperfect competition.
Ng, Yew-Kwang (1992). "Business Confidence and Depression Prevention: A Mesoeconomic Perspective,"
American Economic Review 82(2), pp. 365–371.
link This has addressed a long-standing concern about inconsistent developments of the same subject.Howitt, Peter M. (1987). "Macroeconomics: Relations with Microeconomics".
Macroeconomic analysis also considers factors affecting the long-term level and
growth of national income. Such factors include capital accumulation,
technological change and
labor force growth. • Blaug, Mark (2007). "The Social Sciences: Economics," Macroeconomics,
The New Encyclopædia Britannica, v. 27, p. 349. • Blanchard, Olivier Jean (1987). "neoclassical synthesis",
, v. 3, pp. 634–36.
Growth
|alt=A world map with countries colored in different shades of orange]]
Growth economics studies factors that explain
economic growth – the increase in output
per capita of a country over a long period of time. The same factors are used to explain differences in the
level of output per capita
between countries, in particular why some countries grow faster than others, and whether countries
converge at the same rates of growth.
Much-studied factors include the rate of
investment,
population growth, and
technological change. These are represented in theoretical and
empirical forms (as in the
neoclassical and
endogenous growth models) and in
growth accounting. • Samuelson, Paul A., and William D. Nordhaus (2004).
Economics, ch. 27, "The Process of Economic Growth" McGraw-Hill. ISBN 0-07-287205-5. •
Uzawa, H. (1987). "models of growth",
, v. 3, pp. 483–89.
Business cycle
The economics of a depression were the spur for the creation of "macroeconomics" as a separate discipline field of study. During the
Great Depression of the 1930s,
John Maynard Keynes authored a book entitled
The General Theory of Employment, Interest and Money outlining the key theories of
Keynesian economics. Keynes contended that
aggregate demand for goods might be insufficient during economic downturns, leading to unnecessarily high unemployment and losses of potential output.
He therefore advocated active policy responses by the
public sector, including
monetary policy actions by the
central bank and
fiscal policy actions by the government to stabilize output over the
business cycle{{cite book
| last = Sullivan
| first = Arthur
| authorlink = Arthur O' Sullivan
| coauthors = Steven M. Sheffrin
| title = Economics: Principles in action
| publisher = Pearson Prentice Hall
| year = 2003
| location = Upper Saddle River, New Jersey 07458
| pages = 396
| url = http://www.pearsonschool.com/index.cfm?locator=PSZ3R9&PMDbSiteId=2781&PMDbSolutionId=6724&PMDbCategoryId=&PMDbProgramId=12881&level=4
| doi =
| id =
| isbn = 0-13-063085-3}}
Thus, a central conclusion of Keynesian economics is that, in some situations, no strong automatic mechanism moves output and employment towards
full employment levels.
John Hicks'
IS/LM model has been the most influential interpretation of
The General Theory.
Over the years, the understanding of the
business cycle has branched into various schools, related to or opposed to Keynesianism. The
neoclassical synthesis refers to the reconciliation of Keynesian economics with
neoclassical economics, stating that Keynesianism is correct in the short run, with the economy following neoclassical theory in the long run.
The
New classical school critiques the Keynesian view of the business cycle. It includes Friedman's
permanent income hypothesis view on consumption, the "
rational expectations revolution"
The Macroeconomist as Scientist and Engineer, Gregory Mankiw, Harvard University, May 2006 spearheaded by
Robert Lucas, and
real business cycle theory.
In contrast, the
New Keynesian school retains the rational expectations assumption, however it assumes a variety of
market failures. In particular, New Keynesians assume prices and wages are "
sticky", which means they do not adjust instantaneously to changes in economic conditions.
Thus, the new classicals assume that prices and wages adjust automatically to attain full employment, whereas the new Keynesians see full employment as being automatically achieved only in the long run, and hence government and central-bank policies are needed because the "long run" may be very long.
Inflation and monetary policy
sets monetary policy as the
central bank of the United States.]]
Money is a
means of final payment for goods in most
price system economies and the
unit of account in which prices are typically stated. It includes currency held by the nonbank public and checkable deposits. It has been described as a social convention, like language, useful to one largely because it is useful to others.
As a
medium of exchange, money facilitates trade. Its economic function can be contrasted with
barter (non-monetary exchange). Given a diverse array of produced goods and specialized producers, barter may entail a hard-to-locate
double coincidence of wants as to what is exchanged, say apples and a book. Money can reduce the
transaction cost of exchange because of its ready acceptability. Then it is less costly for the seller to accept money in exchange, rather than what the buyer produces.
Tobin, James (1992). "Money" (Money as a Social Institution and Public Good),
The New Palgrave Dictionary of Finance and Money, v. 2, pp. 770–71.
At the level of an
economy,
theory and evidence are consistent with a
positive relationship running from the total
money supply to the
nominal value of total output and to the general
price level. For this reason, management of the
money supply is a key aspect of
monetary policy. •
Milton Friedman (1987). "quantity theory of money",
The New Palgrave: A Dictionary of Economics, v. 4, pp. 15–19. • Samuelson, Paul A., and William D. Nordhaus (2004).
Economics, ch. 2, "Money: The Lubroicant of Exchange" section, ch. 33, Fig. 33–3.
Fiscal policy and regulation
National accounting is a method for summarizing aggregate economic activity of a nation. The national accounts are
double-entry accounting systems that provide detailed underlying measures of such information. These include the
national income and product accounts (NIPA), which provide estimates for the money value of output and income per year or quarter.
NIPA allows for tracking the performance of an economy and its components through
business cycles or over longer periods. Price data may permit distinguishing
nominal from real amounts, that is, correcting money totals for price changes over time. • Usher, D. (1987), "real income",
The New Palgrave: A Dictionary of Economics, v. 4, p. 104. •
Sen, Amartya (1979), "The Welfare Basis of Real Income Comparisons: A Survey,"
Journal of Economic Literature, 17(1), p
p. 1–45. The national accounts also include measurement of the
capital stock,
wealth of a nation, and
international capital flows.Ruggles, Nancy D. (1987), "social accounting".
International economics
International trade studies determinants of goods-and-services flows across international boundaries. It also concerns the size and distribution of
gains from trade. Policy applications include estimating the effects of changing
tariff rates and trade quotas.
International finance is a macroeconomic field which examines the flow of
capital across international borders, and the effects of these movements on
exchange rates. Increased trade in goods, services and capital between countries is a major effect of contemporary
globalization. • Anderson, James E. (2008). "international trade theory",
The New Palgrave Dictionary of Economics, 2nd Edition. Abstract. • Venables, A. (2001), "international trade: economic integration," International Encyclopedia of the Social & Behavioral Sciences, pp. 7843–7848. Abstract. • Obstfeld, Maurice (2008). "international finance", The New Palgrave Dictionary of Economics, 2nd Edition''.
Abstract.
.|alt=A world map with countries colored in different colors.]]
The distinct field of
development economics examines economic aspects of the development process in relatively
low-income countries focussing on
structural change,
poverty, and
economic growth. Approaches in development economics frequently incorporate social and political factors. • Bell, Clive (1987). "development economics",
, v. 1, pp. 818–26. • Blaug, Mark (2007). "The Social Sciences: Economics," Growth and development,
The New Encyclopædia Britannica, v. 27, p. 351. Chicago.
Economic systems is the of economics that studies the methods and
institutions by which societies determine the ownership, direction, and allocaton of economic resources. An
economic system of a society is the unit of analysis.
Among contemporary systems at different ends of the organizational spectrum are
socialist systems and
capitalist systems, in which most production occurs in respectively state-run and private enterprises. In between are
mixed economies. A common element is the interaction of economic and political influences, broadly described as
political economy.
Comparative economic systems studies the relative performance and behavior of different economies or systems. •
Heilbroner, Robert L. and Peter J. Boettke (2007). "Economic Systems",
The New Encyclopædia Britannica, v. 17, pp. 908–15. • NA (2007). "economic system,"
Encyclopædia Britannica online Concise Encyclopedia
entry.
Practice
Contemporary
mainstream economics, as a formal
mathematical modeling field, could also be called
mathematical economics. It draws on the tools of
calculus,
linear algebra,
statistics,
game theory, and
computer science.
Debreu, Gerard (1987). "mathematical economics",
The , v. 3, pp. 401–03. Professional economists are expected to be familiar with these tools, although all economists specialize, and some specialize in econometrics and mathematical methods while others specialize in less quantitative areas.
Heterodox economists place less emphasis upon mathematics, and several important historical economists, including Adam Smith and
Joseph Schumpeter, have not been mathematicians. Economic reasoning involves intuition regarding economic concepts, and economists attempt to analyze to the point of discovering
unintended consequences.
Theory
Mainstream economic theory relies upon quantitative
economic models, which employ a variety of concepts. Theory typically proceeds with an assumption of
ceteris paribus, which means holding constant explanatory variables other than the one under consideration. When creating theories, the objective is to find ones which are at least as simple in information requirements, more precise in predictions, and more fruitful in generating additional research than prior theories.
Friedman Milton (1953). "
The Methodology of Positive Economics",
Essays in Positive Economics, University of Chicago Press, p. 10.
In
microeconomics, principal concepts include
supply and demand,
marginalism,
rational choice theory,
opportunity cost,
budget constraints,
utility, and the
theory of the firm.Boland, Lawrence A. (1987). "methodology",
, v. 3, pp. 455–58. Accessed on 2007-03-17. Early
macroeconomic models focused on modeling the relationships between aggregate variables, but as the relationships appeared to change over time macroeconomists were pressured to base their models in
microfoundations.
The aforementioned microeconomic concepts play a major part in macroeconomic models – for instance, in
monetary theory, the
quantity theory of money predicts that increases in the
money supply increase
inflation, and inflation is assumed to be influenced by
rational expectations. In
development economics, slower growth in developed nations has been sometimes predicted because of the declining marginal returns of investment and capital, and this has been observed in the
Four Asian Tigers. Sometimes an economic hypothesis is only
qualitative, not
quantitative.Quirk, James (1987). "qualitative economics",
The New Palgrave: A Dictionary of Economics, v. 4, pp. 1–3.
Expositions of economic reasoning often use two-dimensional graphs to illustrate theoretical relationships. At a higher level of generality,
Paul Samuelson's treatise
Foundations of Economic Analysis (1947) used mathematical methods to represent the theory, particularly as to maximizing behavioral relations of agents reaching equilibrium. The book focused on examining the class of statements called
operationally meaningful theorems in economics, which are
theorems that can conceivably be refuted by empirical data.
Empirical investigation
Economic theories are frequently tested
empirically, largely through the use of
econometrics using
economic data.Hashem, M. Pesaren (1987). "econometrics", , v. 2, p. 8. The controlled experiments common to the
physical sciences are difficult and uncommon in economicsProbability, econometrics and truth: the methodology of econometrics
By Hugo A. Keuzenkamp
Published by Cambridge University Press, 2000
ISBN 0-521-55359-8, 9780521553599
312 pages, page 13: "...in economics, controlled experiments are rare and reproducible controlled experiments even more so..." , and instead broad data is
observationally studied; this type of testing is typically regarded as less rigorous than controlled experimentation, and the conclusions typically more tentative. The number of laws discovered by the discipline of economics is relatively very low compared to the physical sciences.
Statistical methods such as
regression analysis are common. Practitioners use such methods to estimate the size, economic significance, and
statistical significance ("signal strength") of the hypothesized relation(s) and to adjust for noise from other variables. By such means, a hypothesis may gain acceptance, although in a probabilistic, rather than certain, sense. Acceptance is dependent upon the
falsifiable hypothesis surviving tests. Use of commonly accepted methods need not produce a final conclusion or even a consensus on a particular question, given different tests,
data sets, and prior beliefs.
Criticism based on professional standards and non-
replicability of results serve as further checks against bias, errors, and over-generalization,Blaug, Mark (2007). "The Social Sciences: Economics" ( Methods of inference and Testing theories),
The New Encyclopædia Britannica, v. 27, p. 347. although much economic research has been accused of being non-replicable, and prestigious journals have been accused of not facilitating replication through the provision of the code and data. Like theories, uses of test statistics are themselves open to critical analysis, • Kennedy, Peter (2003).
A Guide to Econometrics, 5th ed., "21.2 The Ten Commandments of Applied Econometrics," pp. 390–96
(excerpts). • McCloskey, Deirdre N. and Stephen T. Ziliak (1996). "The Standard Error of Regressions,"
Journal of Economic Literature, 34(1), pp.
97–114.
• Hoover, Kevin D., and Mark V. Siegler (2008). "Sound and Fury: McCloskey and Significance Testing in Economics,"
Journal of Economic Methodology, 15(1), pp. 1–37
(2005 prepubication version). Reply of McCloskey and Ziliak and rejoinder, pp. 39–68. although critical commentary on papers in economics in prestigious journals such as the
American Economic Review has declined precipitously in the past 40 years.{{cite journal | author = Coelho, P.R.P. | coauthors = De Worken-eley Iii, F.; McClure, J.E. | year = 2005 | title = Decline in Critical Commentary, 1963–2004 | journal = Econ Journal Watch | volume = 2 | issue = 2 | pages = 355–361
| url = http://www.econjournalwatch.org/pdf/CoelhoetalAbstractAugust2005.pdf | accessdate = 2008-06-10|format=PDF}} This has been attributed to journals' incentives to maximize citations in order to rank higher on the Social Science Citation Index (SSCI).{{cite journal | author = Whaples, R. | year = 2006
| title = The Costs of Critical Commentary in Economics Journals | journal = Econ Journal Watch | volume = 3 | issue = 2 | pages = 275–282 | url = http://ideas.repec.org/a/ejw/volone/2006275-282.html | accessdate = 2008-06-10
}}
In applied economics,
input-output models employing
linear programming methods are quite common. Large amounts of data are run through computer programs to analyze the impact of certain policies;
IMPLAN is one well-known example.
Experimental economics has promoted the use of
scientifically controlled experiments. This has reduced long-noted distinction of economics from
natural sciences allowed direct tests of what were previously taken as axioms. •
C.F. (1925). "experimental methods in economics,"
Palgrave's Dictionary of Economics, reprinted in
The New Palgrave: A Dictionary of Economics (1987, v. 2, p. 241. •
Smith, Vernon L. (1987), "experimental methods in economics", ii.
The New Palgrave: A Dictionary of Economics, v. 2, pp. 241–42. In some cases these have found that the axioms are not entirely correct; for example, the
ultimatum game has revealed that people reject unequal offers.
In
behavioral economics, psychologists
Daniel Kahneman and
Amos Tversky have won Nobel Prizes in economics for their empirical discovery of several
cognitive biases and
heuristics. Similar empirical testing occurs in
neuroeconomics. Another example is the assumption of narrowly selfish preferences versus a model that tests for selfish, altruistic, and cooperative preferences. • Fehr, Ernst, and Urs Fischbacher (2003). "The Nature of Human Altruism,"
Nature 425, October 23,
pp. 785–791. • Sigmund, Karl, Ernst Fehr, and Martin A. Nowak (2002),"The Economics of Fair Play,"
Scientific American, 286(1) January,
pp. 82–87. These techniques have led some to argue that economics is a "genuine science."
Game theory
Game theory is a branch of
applied mathematics that studies strategic interactions between agents. In
strategic games,
agents choose strategies that will maximize their payoff, given the strategies the other agents choose. It provides a formal modeling approach to social situations in which decision makers interact with other agents.
Game theory generalizes maximization approaches developed to analyze markets such as the
supply and demand model. The field dates from the 1944 classic
Theory of Games and Economic Behavior by
John von Neumann and
Oskar Morgenstern. It has found significant applications in many areas outside economics as usually construed, including formulation of
nuclear strategies,
ethics,
political science, and
evolutionary theory.
Aumann, R.J. (1987). "game theory",
, v. 2, pp. 460–82.
Profession
The professionalization of economics, reflected in the growth of graduate programs on the subject, has been described as "the main change in economics since around 1900".
O. Ashenfelter (2001), "Economics: Overview," The Profession of Economics,
International Encyclopedia of the Social & Behavioral Sciences, v. 6, p. 4159. Most major
universities and many colleges have a major, school, or department in which
academic degrees are awarded in the subject, whether in the
liberal arts, business, or for professional study.
The
Nobel Memorial Prize in Economic Sciences (commonly known as the Nobel Prize in Economics) is a prize awarded to economists each year for outstanding intellectual contributions in the field. In the private sector, professional economists are employed as consultants and in industry, including
banking and
finance. Economists also work for various government departments and agencies, for example, the national
Treasury,
Central Bank or
Bureau of Statistics.
Related subjects
Economics is one
social science among several and has fields bordering on other areas, including
economic geography,
economic history,
public choice,
energy economics, , and
institutional economics.
Law and economics, or economic analysis of law, is an approach to legal theory that applies methods of economics to law. It includes the use of economic concepts to explain the effects of legal rules, to assess which legal rules are
economically efficient, and to predict what the legal rules will be. •
Friedman, David (1987). "law and economics,"
The New Palgrave: A Dictionary of Economics, v. 3, p. 144. •
Posner, Richard A. (1972).
Economic Analysis of Law. Aspen, 7th ed., 2007) ISBN 978-0-7355-6354-4. A seminal article by
Ronald Coase published in 1961 suggested that well-defined property rights could overcome the problems of
externalities.
Coase, Ronald, "The Problem of Social Cost",
The Journal of Law and Economics Vol.3, No.1 (1960). This issue was actually published in 1961.
Political economy is the interdisciplinary study that combines economics, law, and
political science in explaining how political institutions, the political environment, and the economic system (
capitalist,
socialist, mixed) influence each other. It studies questions such as how
monopoly,
rent seeking behavior, and
externalities should impact government policy. • Groenewegen, Peter (2008). "'political economy',"
The New Palgrave Dictionary of Economics. •
Krueger, Anne O. (1974)."The Political Economy of the Rent-Seeking Society,"
American Economic Review, 64(3), pp.291–303
Historians have employed
political economy to explore the ways in the past that persons and groups with common economic interests have used politics to effect changes beneficial to their interests.McCoy, Drew R. "The Elusive Republic: Political Ecocomy in Jeffersonian America", Chapel Hill, University of North Carolina, 1980.
Energy economics is a broad
scientific subject area which includes topics related to
energy supply and
energy demand.
Georgescu-Roegen reintroduced the concept of
entropy in relation to
economics and energy from
thermodynamics, as distinguished from what he viewed as the mechanistic foundation of neoclassical economics drawn from Newtonian physics. His work contributed significantly to
thermoeconomics and to
ecological economics. He also did foundational work which later developed into
evolutionary economics. • Cleveland, C. and Ruth, M. 1997. When, where, and by how much do biophysical limits constrain the economic process? A survey of Georgescu-Roegen's contribution to ecological economics.
Ecological Economics 22: 203-223. • Daly, H. 1995. "On Nicholas Georgescu-Roegen’s Contributions to Economics: An Obituary essay."
Ecological Economics 13: 149-54. • Mayumi, K. 1995. Nicholas Georgescu-Roegen (1906-1994): an admirable epistemologist.
Structural Change and Economic Dynamics 6: 115-120. • Mayumi,K. and Gowdy, J. M. (eds.) 1999.
Bioeconomics and Sustainability: Essays in Honor of Nicholas Georgescu-Roegen. Cheltenham: Edward Elgar. • Mayumi, K. 2001.
The Origins of Ecological Economics: The Bioeconomics of Georgescu-Roegen. London: Routledge.
The
sociological subfield of
economic sociology arose, primarily through the work of
Émile Durkheim,
Max Weber and
Georg Simmel, as an approach to analysing the effects of economic phenomena in relation to the overarching social paradigm (i.e.
modernity). Classic works include
Max Weber's
The Protestant Ethic and the Spirit of Capitalism (1905) and
Georg Simmel's
The Philosophy of Money (1900). More recently, the works of
Mark Granovetter,
Peter Hedstrom and
Richard Swedberg have been influential in this field.
History
Economic writings date from earlier
Mesopotamian,
Greek,
Roman,
Indian,
Chinese,
Persian, and
Arab civilizations. Notable writers from antiquity through to the 14th century include
Aristotle,
Xenophon,
Chanakya (also known as Kautilya),
Qin Shi Huang,
Thomas Aquinas, and
Ibn Khaldun. The works of Aristotle had a profound influence on Aquinas, who in turn influenced the
late scholastics of the 14th to 17th centuries."
The history of economic thought: a reader". Steven G. Medema, Warren J. Samuels (2003).
Routledge. p.3. ISBN 0-415-20550-6
Joseph Schumpeter described the latter as "coming nearer than any other group to being the 'founders' of scientific economics" as to
monetary, interest, and
value theory within a
natural-law perspective.Schumpeter, Joseph A. (1954).
History of Economic Analysis, pp. 97–115. Oxford.
|alt=A seaport with a ship arriving]]
Two groups, later called 'mercantilists' and 'physiocrats', more directly influenced the subsequent development of the subject. Both groups were associated with the rise of
economic nationalism and
modern capitalism in
Europe.
Mercantilism was an economic doctrine that flourished from the 16th to 18th century in a prolific pamphlet literature, whether of merchants or statesmen. It held that a nation's wealth depended on its accumulation of gold and silver. Nations without access to mines could obtain gold and silver from trade only by selling goods abroad and restricting imports other than of gold and silver. The doctrine called for importing cheap raw materials to be used in manufacturing goods, which could be exported, and for state regulation to impose protective tariffs on foreign manufactured goods and prohibit manufacturing in the colonies. • NA (2007). "mercantilism," • Blaug, Mark (2007). "The Social Sciences: Economics".
The New Encyclopædia Britannica, v. 27, p. 343.
Physiocrats, a group of 18th century French thinkers and writers, developed the idea of the economy as a
circular flow of income and output. Physiocrats believed that only agricultural production generated a clear surplus over cost, so that agriculture was the basis of all wealth. Thus, they opposed the mercantilist policy of promoting manufacturing and trade at the expense of agriculture, including import tariffs. Physiocrats advocated replacing administratively costly tax collections with a single tax on income of land owners. In reaction against copious mercantilist trade regulations, the physiocrats advocated a policy of
laissez-faire, which called for minimal government intervention in the economy.NA (2007). "physiocrat," • Blaug, Mark (1997, 5th ed.)
Economic Theory in Retrospect, pp, 24–29, 82–84. Cambridge.
Modern economic analysis is customarily said to have begun with
Adam Smith (1723–1790).E. K. Hunt (2002).
History of Economic Thought: A Critical Perspective, p.3. ISBN 0-7656-0606-2 Smith was harshly critical of the mercantilists but described the physiocratic system "with all its imperfections" as "perhaps the purest approximation to the truth that has yet been published" on the subject."
The making of modern economics: the lives and ideas of the great thinkers". Mark Skousen (2001). p.36. ISBN 0-7656-0479-5
Classical political economy
Publication of
Adam Smith's
The Wealth of Nations in 1776, has been described as "the effective birth of economics as a separate discipline."
Blaug, Mark (2007). "The Social Sciences: Economics".
The New Encyclopædia Britannica, v. 27, p. 343. The book identified land, labor, and capital as the three factors of production and the major contributors to a nation's wealth.
wrote
The Wealth of Nations|alt=A man facing the right]]
Smith discusses the benefits of the specialization by
division of labour. His "theorem" that "the division of labor is limited by the extent of the market" has been described as the "core of a
theory of the functions of firm and industry" and a "fundamental principle of economic organization." theory — that, under competition, owners of resources (labor, land, and capital) will use them most profitably, resulting in an equal rate of return in
equilibrium for all uses (adjusted for apparent differences arising from such factors as training and unemployment).Stigler, George J. (1976). "The Successes and Failures of Professor Smith,"
Journal of Political Economy, 84(6), p. 1202.
[p. 1199-1213.]] Also published as Selected Papers, No. 50
(PDF), Graduate School of Business, University of Chicago.
In Smith's view, the ideal economy is a self-regulating market system that automatically satisfies the economic needs of the populace. He described the market mechanism as an "invisible hand" that leads all individuals, in pursuit of their own self-interests, to produce the greatest benefit for society as a whole. Smith incorporated some of the Physiocrats' ideas, including laissez-faire, into his own economic theories, but rejected the idea that only agriculture was productive.
In his famous
invisible-hand analogy, Smith argued for the seemingly
paradoxical notion that competitive markets tended to advance broader
social interests, although driven by narrower
self-interest. The general approach that Smith helped initiate was called
political economy and later
classical economics. It included such notables as
Thomas Malthus,
David Ricardo, and
John Stuart Mill writing from about 1770 to 1870.Blaug, Mark (1987). "classical economics",
]], v. 1, pp. 434–35. Blaug notes less widely used datings and uses of 'classical economics', including those of Marx and Keynes. The period from 1815 to 1845 was one of the richest in the history of economic thought.Screpanti, Ernesto, and Stefano Zamagni (2005). An Outline of the History of Economic thought''. Oxford University Press. p.2. ISBN 0-19-927914-4
While Adam Smith emphasized the production of income,
David Ricardo focused on the distribution of income among landowners, workers, and capitalists. Ricardo saw an inherent conflict between landowners on the one hand and labor and capital on the other. He posited that the growth of population and capital, pressing against a fixed supply of land, pushes up rents and holds down wages and profits.
cautioned law makers on the effects of poverty reduction policies|alt=A man facing the viewer]]
Thomas Robert Malthus used the idea of diminishing returns to explain low living standards.
Human population, he argued, tended to increase geometrically, outstripping the production of food, which increased arithmetically. The force of a rapidly growing population against a limited amount of land meant diminishing returns to labor. The result, he claimed, was chronically low wages, which prevented the standard of living for most of the population from rising above the subsistence level.
Malthus also questioned the automatic tendency of a
market economy to produce full employment. He blamed unemployment upon the economy's tendency to limit its spending by saving too much, a theme that lay forgotten until
John Maynard Keynes revived it in the 1930s.
Coming at the end of the Classical tradition,
John Stuart Mill parted company with the earlier classical economists on the inevitability of the distribution of income produced by the market system. Mill pointed to a distinct difference between the market's two roles: allocation of resources and distribution of income. The market might be efficient in allocating resources but not in distributing income, he wrote, making it necessary for society to intervene.
Value theory was important in classical theory. Smith wrote that the "real price of every thing ... is the toil and trouble of acquiring it" as influenced by its scarcity. Smith maintained that, with rent and profit, other costs besides wages also enter the price of a commodity.Smith, Adam (1776).
The Wealth of Nations, Bk. 1, Ch. 5, 6. Other classical economists presented variations on Smith, termed the '
labour theory of value'. Classical economics focused on the tendency of markets to move to long-run equilibrium.
Marxism
.|alt=A man facing the viewer]]
Marxist (later, Marxian) economics descends from classical economics. It derives from the work of
Karl Marx. The first volume of Marx's major work,
Das Kapital, was published in German in 1867. In it, Marx focused on the
labour theory of value and what he considered to be the exploitation of labour by capital. •
Roemer, J.E. (1987). "Marxian value analysis".
The New Palgrave: A Dictionary of Economics, v. 3, 383. •
Mandel, Ernest (1987). "Marx, Karl Heinrich", ''The New Palgrave: A Dictionary of Economicsv. 3, pp. 372, 376. The labour theory of value held that the value of an exchanged commodity was determined by the labor that went into its production.
Neoclassical economics
A body of theory later termed 'neoclassical economics' or '
marginalism' formed from about 1870 to 1910. The term 'economics' was popularized by such neoclassical economists as
Alfred Marshall as a concise synonym for 'economic science' and a substitute for the earlier, broader term '
political economy'. • Marshall, Alfred, and Mary Paley Marshall (1879).
The Economics of Industry
, p. 2. • W. Stanley Jevons (1879, 2nd ed.) The Theory of Political Economy
, p. xiv. This corresponded to the influence on the subject of mathematical methods used in the natural sciences.Clark, B. (1998). Political-economy: A comparative approach'', 2nd ed., Westport, CT: Preagerp. p. 32..
Neoclassical economics systematized
supply and demand as joint determinants of price and quantity in market equilibrium, affecting both the allocation of output and the distribution of income. It dispensed with the
labour theory of value inherited from classical economics in favor of a
marginal utility theory of value on the demand side and a more general theory of costs on the supply side.Campos, Antonietta (1987). "marginalist economics",
The New Palgrave: A Dictionary of Economics, v. 3, p. 320 In the 20th century, neoclassical theorists moved away from an earlier notion suggesting that total utility for a society could be measured in favor of
ordinal utility, which hypothesizes merely behavior-based relations across persons.R.D. Collison Black (1987
2008)). "utility,"
The New Palgrave: A Dictionary of Economics, v. 3, p. 778.
In
microeconomics, neoclassical economics represents incentives and costs as playing a pervasive role in shaping
decision making. An immediate example of this is the
consumer theory of individual demand, which isolates how prices (as costs) and income affect quantity demanded. In
macroeconomics it is reflected in an early and lasting
neoclassical synthesis with Keynesian macroeconomics. •
Hicks, J.R. (1937). "Mr. Keynes and the 'Classics': A Suggested Interpretation,"
Econometrica, 5(2), p
2.0.CO;2-E&size=LARGE&origin=JSTOR-enlargePage">p. 147–159. • Blanchard, Olivier Jean (1987). "neoclassical synthesis",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 634–36.
Neoclassical economics is occasionally referred as
orthodox economics whether by its critics or sympathizers. Modern
mainstream economics builds on neoclassical economics but with many refinements that either supplement or generalize earlier analysis, such as
econometrics,
game theory, analysis of
market failure and
imperfect competition, and the
neoclassical model of
economic growth for analyzing long-run variables affecting
national income.
Keynesian economics
(right), was a key theorist in economics.]]
Keynesian economics derives from
John Maynard Keynes, in particular his book
The General Theory of Employment, Interest and Money (1936), which ushered in contemporary
macroeconomics as a distinct field. • • Blaug, Mark (2007). "The Social Sciences: Economics,"
The New Encyclopædia Britannica, v. 27, p. 347. Chicago. The book focused on determinants of national income in the short run when prices are relatively inflexible. Keynes attempted to explain in broad theoretical detail why high labour-market unemployment might not be self-correcting due to low "
effective demand" and why even price flexibility and monetary policy might be unavailing. Such terms as "revolutionary" have been applied to the book in its impact on economic analysis. • Tarshis, L. (1987). "Keynesian Revolution",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 47–50. • Samuelson, Paul A., and William D. Nordhaus (2004).
Economics, p. 5. • Blaug, Mark (2007). "The Social Sciences: Economics,"
The New Encyclopædia Britannica, v. 27, p. 346. Chicago.
Keynesian economics has two successors.
Post-Keynesian economics also concentrates on macroeconomic rigidities and adjustment processes. Research on micro foundations for their models is represented as based on real-life practices rather than simple optimizing models. It is generally associated with the
University of Cambridge and the work of
Joan Robinson.Harcourt, G.C.(1987). "Post-Keynesian Economics",
The New Palgrave: A Dictionary of Economics, v. 3, pp. 47–50.
New-Keynesian economics is also associated with developments in the Keynesian fashion. Within this group researchers tend to share with other economists the emphasis on models employing micro foundations and optimizing behavior but with a narrower focus on standard Keynesian themes such as price and wage rigidity. These are usually made to be endogenous features of the models, rather than simply assumed as in older Keynesian-style ones.
Chicago School of economics
The Chicago School of economics is best known for its free market advocacy and
monetarist ideas. According to
Milton Friedman and monetarists, market economies are inherently stable
if left to themselves and depressions result only from government intervention. Friedman, for example, argued that the Great Depression was result of a contraction of the money supply, controlled by the
Federal Reserve, and not by the lack of investment as Keynes had argued.
Ben Bernanke, current Chairman of the Federal Reserve, is among the economists today generally accepting Friedman's analysis of the causes of the Great Depression.
Milton Friedman effectively took many of the basic principles set forth by
Adam Smith and the classical economists and modernized them. One example of this is his article in the September 1970 issue of The New York Times Magazine, where he claims that the social responsibility of business should be “to use its resources and engage in activities designed to increase its profits...(through) open and free competition without deception or fraud.” Friedman, Milton. "The Social Responsibility of Business is to Increase its Profits." The New York Times Magazine 13 Sep. 1970.
Other schools and approaches
Other well-known schools or trends of thought referring to a particular style of economics practiced at and disseminated from well-defined groups of academicians that have become known worldwide, include the
Austrian School, the
Freiburg School, the
School of Lausanne,
post-Keynesian economics and the
Stockholm school. Contemporary
mainstream economics is sometimes separated into the Saltwater approach of those universities along the
Eastern and
Western coasts of the US, and the Freshwater, or Chicago-school approach.
Within macroeconomics there is, in general order of their appearance in the literature;
classical economics,
Keynesian economics, the neoclassical synthesis,
post-Keynesian economics,
monetarism,
new classical economics, and
supply-side economics. Alternative developments include
ecological economics,
institutional economics,
evolutionary economics,
dependency theory,
structuralist economics,
world systems theory,
econophysics, and
biophysical economics.
New School of Thought Brings Energy to 'the Dismal Science' New York Times Retrieved Oct-26-09
Criticisms
"
The dismal science" is a derogatory alternative name for economics devised by the
Victorian historian
Thomas Carlyle in the 19th century. It is often stated that Carlyle gave economics the nickname "the dismal science" as a response to the late 18th century writings of The Reverend
Thomas Robert Malthus, who grimly predicted that starvation would result, as projected population growth exceeded the rate of increase in the food supply. The teachings of Malthus eventually became known under the umbrella phrase "
Malthus' Dismal Theorem". His predictions were forestalled by unanticipated dramatic improvements in the efficiency of
food production in the 20th century; yet the bleak end he proposed remains as a disputed future possibility, assuming human innovation fails to keep up with population growth.
Some economists, like
John Stuart Mill or
Leon Walras, have maintained that the production of wealth should not be tied to its distribution. The former is in the field of "applied economics" while the latter belongs to "social economics" and is largely a matter of power and politics.
The Origin of Economic Ideas, Guy Routh (1989)
In
The Wealth of Nations,
Adam Smith addressed many issues that are currently also the subject of debate and dispute. Smith repeatedly attacks groups of politically aligned individuals who attempt to use their collective influence to manipulate a government into doing their bidding. In Smith's day, these were referred to as
factions, but are now more commonly called
special interests, a term which can comprise international bankers, corporate conglomerations, outright
oligopolies,
monopolies,
trade unions and other groups.See Noam Chomsky (
Understanding Power),
link on Smith's emphasis on class conflict in the Wealth of Nations
Economics per se, as a social science, is independent of the political acts of any government or other decision-making organization, however, many
policymakers or individuals holding highly ranked positions that can influence other people's lives are known for arbitrarily using a plethora of economic concepts and
rhetoric as vehicles to legitimize
agendas and
value systems, and do not limit their remarks to matters relevant to their responsibilities. The close relation of economic theory and practice with
politics Research Paper No. 2006/148 Ethics, Rhetoric and Politics of Post-conflict Reconstruction How Can the Concept of Social ContractHelp Us in Understanding How to Make Peace Work? Sirkku K. Hellsten, pg. 13 is a focus of contention that may shade or distort the most unpretentious original tenets of economics, and is often confused with specific social agendas and value systems.
Political Communication: Rhetoric, Government, and Citizens, second edition, Dan F. Hahn Notwithstanding, economics legitimately has a role in informing government policy. It is, indeed, in some ways an outgrowth of the older field of political economy. Some academic economic journals are currently focusing increased efforts on gauging the consensus of economists regarding certain policy issues in hopes of effecting a more informed political environment. Currently, there exists a low approval rate from professional economists regarding many public policies. Policy issues featured in a recent survey of AEA economists include trade restrictions, social insurance for those put out of work by international competition, genetically modified foods, curbside recycling, health insurance (several questions), medical malpractice, barriers to entering the medical profession, organ donations, unhealthy foods, mortgage deductions, taxing internet sales, Wal-Mart, casinos, ethanol subsidies, and inflation targeting.Whaples, Robert. "The Policy Views of American Economic Association Members: The Results of a New Survey".
Econ Journal Watch 6(3): 337-348.
link
In
Steady State Economics 1977,
Herman Daly argues that there exist logical inconsistencies between the emphasis placed on economic growth and the limited availability of natural resources.
Steady-State Economics, by Herman Daly
Issues like
central bank independence, central bank policies and rhetoric in central bank governors discourse or the premises of
macroeconomic policiesJohan Scholvinck, Director of the UN Division for Social Policy and Development in New York,
Making the Case for the Integration of Social and Economic Policy, The Social Development Review (
monetary and
fiscal policy) of the
States, are focus of contention and criticism. • Bernd Hayo (Georgetown University & University of Bonn),
Do We Really Need Central Bank Independence? A Critical Re- examination, IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut • Gabriel Mangano (Centre Walras-Pareto, University of Lausanne BFSH 1, 1015 Lausanne, Switzerland, and London School of Economics), Measuring Central Bank Independence: A Tale of Subjectivity and of Its Consequences, Oxford Economic Papers. 1998; 50: 468–492. • Friedrich Heinemann,
Does it Pay to Watch Central Bankers' Lips? The Information Content of ECB Wording, IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut • Stephen G. Cecchetti,
Central Bank Policy Rules: Conceptual Issues and Practical Considerations, IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut
Deirdre McCloskey has argued that many empirical economic studies are poorly reported, and while
her critique has been well-received, she and Stephen Ziliak argue that practice has not improved.{{cite journal | author = Ziliak, S.T. | coauthors =
McCloskey, D.N. | year = 2004 | title = Size Matters: The Standard Error of Regressions in the American Economic Review | journal = Econ Journal Watch | volume = 1 | issue = 2
| pages = 331–358 | url =http://www.econjournalwatch.org/pdf/ZiliakMcCloskeyAugust2004.pdf | accessdate = 2008-06-10|format=PDF}} This latter contention is controversial.
A 2002
International Monetary Fund study looked at “consensus forecasts” (the forecasts of large groups of economists) that were made in advance of 60 different national recessions in the ’90s: in 97% of the cases the economists did not predict the contraction a year in advance. On those rare occasions when economists did successfully predict recessions, they significantly underestimated their severity."How Accurate Are Private Sector Forecasts? Cross-Country Evidence from Consensus Forecasts of Output Growth", by Prakash Loungani, International Monetary Fund (IMF), December 2002
Criticism of assumptions
Economics has been subject to criticism that it relies on unrealistic, unverifiable, or highly simplified assumptions, in some cases because these assumptions lend themselves to elegant mathematics. Examples include
perfect information,
profit maximization and
rational choices.Rappaport, Steven (1996). "Abstraction and Unrealistic Assumptions in Economics,"
Journal of Economic Methodology, 3(2}, pp. 215–236.
Abstract, (1998).
Models and Reality in Economics. Edward Elgar, p. 6, ch. 6–8.
Friedman, Milton (1953), "The Methodology of Positive Economics,"
Essays in Positive Economics, University of Chicago Press, pp. 14–15, 22, 31. • Boland, Lawrence A. (2008). "assumptions controversy",
The New Palgrave Dictionary of Economics, 2nd Edition Online abstract. Accessed May 30, 2008. Some contemporary economic theory has focused on addressing these problems through the emerging subdisciplines of
information economics,
behavioral economics, and
complexity economics, with
Geoffrey Hodgson forecasting a major shift in the mainstream approach to economics. }} Nevertheless, prominent mainstream economists such as Keynes