The Father of Neoclassical Economics (along with Leon Walras) The Originator of the Principles of Microeconomics Wrote “The Principles of Economics” (1890) The Stereotypical Economists (“It depends”) Marshall is a very careful thinker. His thoughts on marginal analysis pre-date Stanley Jevons and Carl Menger, yet his publication of this idea was twenty years after the other two rushed onto the economics landscape. Perhaps influenced, to some extent, by Mill’s hasty conclusion to value theory. Marshall rarely attempted a statement or took a position without expressing countless qualifications, exceptions, and footnotes. He showed himself to be an astute mathematician—he studied math at St. John’s College, Cambridge—but limited his quantitative expressions so that he might appeal to the layman. http://www.econlib.org/library/Enc/bios/Marshall.html ALFRED MARSHALL (1842-1924) from the Concise Encylopedia of Economics Alfred Marshall was the dominant figure in British economics (itself dominant in world economics) from about 1890 until his death in 1924. His specialty was MICROECONOMICS—the study of individual markets and industries, as opposed to the study of the whole economy. In his most important book, Principles of Economics, Marshall emphasized that the price and output of a good are determined by both SUPPLY and demand: the two curves are like scissor blades that intersect at equilibrium. Modern economists trying to understand why the price of a good changes still start by looking for factors that may have shifted demand or supply, an approach they owe to Marshall. http://www.econlib.org/library/Enc/bios/Marshall.html for more on Marshall see…. http://www.economyprofessor.com/theorists/alfredmarshall.php JOHN MAYNARD KEYNES ON MARSHALL “Marshall… arrived very early at the point of view that the bare bones of economic theory are not worth much in themselves and do not carry one far in the direction of useful, practical conclusions. The whole point lies in applying them to the interpretation of current economic life. This requires a profound knowledge of the actual facts of industry and trade.” Keynes, John Maynard (1924). “Alfred Marshall, 1842-1924.” The Economic Journal. v34, n135 (September), p. 342 MARSHALL ON ECONOMICS (FROM 1885) (David) Ricardo and his chief followers did not make clear to others, it was not even quite clear to themselves, that what they were building up was not universal truth, but machinery of universal application in the discovery of a certain class of truths. While attributing high and transcendent universality to the central scheme of economic reasoning, I do not assign any universality to economic dogmas. It is not a body of concrete truth, but an engine for the discovery of concrete truth." Alfred Marshall: Life in One Paragraph • Alfred Marshall was born in Bermondsey, a London suburb, on 26 July 1842. He died at Balliol Croft, his Cambridge home of many years, on 13 July 1924 at the age of 81. Professor of Political Economy at the University of Cambridge from 1885 to 1908, he was the founder of the Cambridge School of Economics which rose to great eminence in the 1920s and 1930s: A.C. Pigou and J.M. Keynes, the most important figures in this development, were among his pupils. Marshall’s magnum opus, the Principles of Economics (Marshall, 1890a) was published in 1890 and went through eight editions in his lifetime. It was the most influential treatise of its era and was for many years the Bible of British economics, introducing many still-familiar concepts. • Whitaker, J.K., “Marshall, Alfred,” The New Palgrave: A Dictionary of Economics, Vol. 3 (K to P), John Eatwell et al., eds. (Macmillan Press, 1987), pp. 350–363. • http://http-server.carleton.ca/~karmstro/bios/Marshall.htm More Biography http://econ.unt.edu/~dmoli na/may2nd/history/Marsha ll.ppt Son of a bank cashier. Father pushed him to the point that had it not being for trips to an aunt in the Summers he would have ended up as another J.S. Mill. He did not make friends and his two favorite hobbies (math and chess) were prohibited by his father Refused Oxford scholarship (ministry) More Biography (continuation) http://econ.unt.edu/~dmolina/ may2nd/history/Marshall.ppt Went to Cambridge to study mathematics Had to leave Cambridge in 1877 since he decided to marry (just like Malthus) Bristol took him (have a page dedicated to him in their Web-page) Published “Economics of Industry” with his wife Mary Paley More Biography (continuation) http://econ.unt.edu/~d molina/may2nd/history /Marshall.ppt In 1884 returned to Cambridge In 50 years of writting he produced 82 publications including: 9 editions of Principle of Economics 5 editions of Industry and Trade 2 editions of The Economics of Industry Money, Credit and Commerce appearing in 1923 (year before his death) only appeared in one edition Father of modern orthodox microeconomic theory (neoclassicism) along with Walras More Biography (continuation) http://econ.unt.edu/~ dmolina/may2nd/hist ory/Marshall.ppt Structural basis of undergraduate economic theory (Walras more adequate for graduate classes) Translated Ricardo and J.S. Mill economics into mathematics More Biography (continuation) http://econ.unt.edu/~ dmolina/may2nd/hist ory/Marshall.ppt Father of modern orthodox microeconomic theory (neoclassicism) along with Walras In defining Economics he stated: Political Economy or Economics is a study mankind in the ordinary business of life; it examines the part of the individual and social action which is most closely connected with the attainment and with the use of the material requisites of well being (text 274) APPROACHES TO ECONOMICS FROM JOHN NEVILLE KEYNES 1.Positive economics 2.Normative economics 3.The art of economics (i.e. blending of 1 and 2) THE SCOPE OF ALFRED MARSHALL Marshall used the term “economics” rather than “political economics” because he wished to emphasize the positive aspects of economic thought. However, Marshall’s work is best classified as consistent with the “art of economics” not “positive economics” With respeect to the unification of the social sciences vs. the narrow definition of economics.... Marshall emphasized the gains to be achieved from a narrow focus, although he was sympathetic to those who wished a broader perspective. The chief task of economists: Eliminate poverty, which Marshall said the classicals failed to address adequately. Remember… given the Malthusian population doctrine, the classical position on poverty is that it cannot be eliminated. MARSHALL ON METHOD HTTP://ECON.UNT.EDU/~DMOLINA/MAY2ND/HISTORY/MARSHALL.PPT I know I had a growing feeling in the later years of my work at the subject that a good mathematical theorem dealing with economic hypotheses was very unlikely to be good economics: and I went more on the rules… MARSHALL ON METHOD HTTP://ECON.UNT.EDU/~DMOLINA/MAY2ND/HISTORY/MARSHALL.PPT 1. 2. 3. 4. 5. 6. Use mathematics as a shorthand language, rather than an engine of inquiry Keep to them until you are done Translate to English Then illustrate by examples that are important in real life Burn the mathematics If you can’t succeed in (4), burn (3), This last I did often Marshall believed mathematics could state your ideas efficiently, but at a loss of realism. For Marshall, the economist should always strive to bring the abstract mathematical analysis back to the world in which we live. Marshall’s contributions summarized Supply and Demand Price Elasticity of Demand Consumer Surplus Impact of taxation on society The Short-Run and Long-Run Optimization Marshall also taught John Maynard Keynes. If you have taken macroeconomics you have been exposed to the work of Keynes. History of Supply and Demand The Question to be Addressed: What Determines the Price of the Good? What Determines the Price of a Good? An Answer from David Ricardo and Karl Marx… The Labor Theory of Value - The price of a good is determined by the cost of production, and the cost of production is dictated by the quantity and quality of labor utilized. What of the other factors of production? ◦ Capital: Capital is simply stored up labor. ◦ Land: Ricardo argued that the price of corn determined the price of land, rather than the price of land determining the price of corn. In other words, the price of land is price determined, not price determining. ◦ What about demand? In the long-run, assuming competition, price will equal the cost of production. This comes directly from the work of Adam Smith More on the Labor Theory of Value Karl Marx wished to show that even if capitalism worked exactly as Ricardo believed, capitalism was still a very poor economic system. Consequently, Marx utilized the labor theory of value to explain prices. Given this explanation, Marx offered the following argument: If the value of labor determines value, and value mostly is given to the owners of capital, is it not the case that labor is exploited? Utility Theory Karl Marx published Das Kapital in 1867. In the early 1870s, three different writers – Stanley Jevons, Leon Walras, Carl Menger – offered a different answer to “what determines prices?” Utility - the satisfaction one receives from a good. “The fact is, that labor once spent has no influence on the future value of any article: it is gone and lost forever. In commerce, bygones are for ever bygones.” W.S. Jevons, 1871 Marshallian Cross http://econ.unt.edu/~dmolina/may2nd/history/Marshall.ppt Marshall defined 4 time periods: ◦ Market period - Very short period in which supply is fixed (perfectly inelastic). No reflex action of price on quantity supplied ◦ Short run - A period in which the firm can change production and supply but cannot change plant size. Higher prices cause larger quantities to be supplied (upward sloping supply curve). Marshallian Cross http://econ.unt.edu/~dmolina/may2nd/history/Marshall.ppt ◦Two components of total costs of the firm: ◦ prime costs - costs that vary with output (also called special or direct costs). We call these costs “variable costs”. ◦ supplementary costs - costs that do not vary with output (fixed costs) Marshallian Cross http://econ.unt.edu/~dmolina/may2nd/history/Marshall.ppt ◦ Long run - Plant can vary and all costs become variable. Supply curve becomes size more elastic because of firms adjustment in plant size and can take 3 forms: ◦ Increasing costs - slopes up and to the right ◦ Constant costs - perfectly elastic (horizontal) ◦ Decreasing costs - slopes down and to the right (unusual situations) ◦Secular period - (Very long run) Permits technology and population to vary Marshallian Cross http://econ.unt.edu/~dmolina/may2nd/history/Marshall.ppt Controversy over whether cost of production (classical)or utility (marginal utility school of Jevons, Menger and Walras) determines price. ◦Marshall believed that influence of time and awareness of the independence of economic variables would resolve the question. Marshallian Cross http://econ.unt.edu/~dmolina/may2nd/history/Marshall.ppt Supply curve depends on the time period under analysis. ◦ The shorter the period, the more important the role of demand in determining price. ◦ The longer the period, the more important the role of supply. In LR in constant costs exist so that supply is perfectly elastic, price will depend solely on cost of production CETERIS PARIBUS Defined ceteris paribus and the purpose of this assumption Define partial equilibrium analysis: “the one at a time method” PRICE ELASTICITY HTTP://ECON.UNT.EDU/~DMOLINA/MAY2ND/HISTORY/M ARSHALL.PPT Marshall on Demand Most important contribution to demand theory was his clear formulation of the concept of price elasticity of demand. Price and quantity demanded are inversely related to each other; demand curves slope down and to the right. Degree of relationship is shown by the coefficient of price elasticity: PRICE ELASTICITY HTTP://ECON.UNT.EDU/~DMOLINA/MAY2ND/HISTORY/MARSHALL.PPT Elasticity of Demand eD = percent change in quantity demanded = - q / p percent change in price q p Coefficient is negative b/c of inverse relationship; by convention the coefficient is shown as positive by adding the negative sign to the right side of the equation. If price decreases by 1 percent and quantity demanded increases by 1 percent, total revenue is unchanged, and the coefficient value is 1. The commodity is said to be price elastic.. PRICE ELASTICITY HTTP://ECON.UNT.EDU/~DMOLINA/MAY2ND/HISTORY/MARSHALL.PPT If price decreases by a given percentage and the quantity demanded increases by a smaller percentage, total revenue decreases and the coefficient < 1. The commodity is price inelastic Marshall also applied the elasticity concept to the supply side. Marshall was 1st to express the concept of elasticity with mathematical precision and is considered its discoverer. SUBSTITUTION AND INCOME EFFECTS Substitution effects produced a negatively sloped demand curve Income effects produce a positive or negatively sloped demand curve depending on whether it is an inferior or normal good. Marshall did not have the tools to explain theoretically the impact of substitution and income effects so he assumed income effects were not important (i.e. the marginal utility of money is constant) These concepts are used by theorists to discuss the “Giffen good” http://gregmankiw.blogspot.com/2007/07/real-world-giffengood.html CONSUMER SURPLUS Price and marginal utility are related. People will pay more for the first units consumed than the will for later consumption. However, you only pay one price, so there is a consumer surplus, or the difference between what you pay and what you are willing to pay.