Classical economics
Classical economics, classical political economy, or Smithian economics is a school of thought in political economy that flourished, primarily in Britain, in the late 18th and early-to-mid-19th century. Its main thinkers are held to be Adam Smith, Jean-Baptiste Say, David Ricardo, Thomas Robert Malthus, and John Stuart Mill. These economists produced a theory of market economies as largely self-regulating systems, governed by natural laws of production and exchange (famously captured by Adam Smith's metaphor of the invisible hand).
Adam Smith's The Wealth of Nations in 1776 is usually considered to mark the beginning of classical economics.[1] The fundamental message in Smith's book was that the wealth of any nation was determined not by the gold in the monarch's coffers, but by its national income. This income was in turn based on the labor of its inhabitants, organized efficiently by the division of labour and the use of accumulated capital, which became one of classical economics' central concepts.[2]
In terms of economic policy, the classical economists were pragmatic liberals, advocating the freedom of the market, though they saw a role for the state in providing for the common good. Smith acknowledged that there were areas where the market is not the best way to serve the common interest, and he took it as a given that the greater proportion of the costs supporting the common good should be borne by those best able to afford them. He warned repeatedly of the dangers of monopoly, and stressed the importance of competition.[1] In terms of international trade, the classical economists were advocates of free trade, which distinguishes them from their mercantilist predecessors, who advocated protectionism.
The designation of Smith, Ricardo and some earlier economists as "classical" is due to a canonization which stems from Karl Marx's critique of political economy, where he critiqued those that he at least perceived as worthy of dealing with, as opposed to their "vulgar" successors. There is some debate about what is covered by the term classical economics, particularly when dealing with the period from 1830 to 1875, and how classical economics relates to neoclassical economics.
Classical international trade economics[edit]
Adam Smith refuted Mercantilist thought with his most influential publication: An Inquiry into the Nature and Causes of the Wealth of Nations.[1] He argued against mercantilism, and instead favored free trade and free markets, while believing that this would favor the countries who participate in free trade. He elucidated that mercantilist policies would benefit domestic producers but not the country because it prevents consumers buying products at competitive prices, therefore directing cashflow ineffectively. Smith believed that deviating from free trade costs society in a similar manner as to how monopolies negatively affect competition in a market.
During the classical era and after Adam Smith, David Ricardo became a prominent economist with thoughts on international trade. Ricardo’s most famous economic theory was the theory of comparative advantage as the foundation of the international division of labor. He argued that international trade, in any case, would increase the standard of living.[3] His main idea on international trade was that while it does add to real output produced in a country, the main benefits are derived from the encouragement of specialization and the division of labor on an international scale, leading to a more effective use of resources in all countries involved. One of Ricardo’s greatest assumptions and observations was that the factors of production are immobile between countries while finished goods are perfectly mobile, this assumption was critical to depict the advantages of international trade and specialization. His theory on international trade was weakened by how the labor theory of value clashes with the theory of comparative advantage. Ultimately both theories collide with a question on how the price is relatively determined and Ricardo simply stated that it does not hold in international trade theory.
John Stuart Mill would later come and solve this dilemma and further build upon Ricardo’s theory of comparative advantage. John Stuart Mill’s contribution to Ricardo’s theory of comparative advantage came about when he introduced demand to the equation. Mill introduced demand and was the first to promote the idea that demand and supply are functions of price, and the market equilibrium is where price is adjusted to where there is equilibrium between supply and demand.[7] Overall, prior to Adam Smith and the classical economic wave, the main view of international trade was viewed negatively and not in favor of the countries who would participate in international trade with the economic policies of mercantilism. However, once Adam Smith, David Ricardo, and John Stuart Mill arrived with the classical wave of economics, international trade came to be viewed favorably and ultimately beneficial for all parties involved.
Classical theories of growth and development[edit]
Analyzing the growth in the wealth of nations and advocating policies to promote such growth was a major focus of most classical economists. However, John Stuart Mill believed that a future stationary state of a constant population size and a constant stock of capital was both inevitable, necessary and desirable for mankind to achieve. This is now known as a steady-state economy.[7]: 592–96
John Hicks & Samuel Hollander,[8] Nicholas Kaldor,[9] Luigi L. Pasinetti[10][11] and Paul A. Samuelson[12][13] have presented formal models as part of their respective interpretations of classical political economy.
Monetary theory[edit]
British classical economists in the 19th century had a well-developed controversy between the Banking and the Currency School. This parallels recent debates between proponents of the theory of endogeneous money, such as Nicholas Kaldor, and monetarists, such as Milton Friedman. Monetarists and members of the currency school argued that banks can and should control the supply of money. According to their theories, inflation is caused by banks issuing an excessive supply of money. According to proponents of the theory of endogenous money, the supply of money automatically adjusts to the demand, and banks can only control the terms and conditions (e.g., the rate of interest) on which loans are made.
Debates on the definition[edit]
The theory of value is currently a contested subject. One issue is whether classical economics is a forerunner of neoclassical economics or a school of thought that had a distinct theory of value, distribution, and growth.
The period 1830–1875 is a timeframe of significant debate. Karl Marx originally coined the term "classical economics" to refer to Ricardian economics – the economics of David Ricardo and James Mill and their predecessors – but usage was subsequently extended to include the followers of Ricardo.[16]
Sraffians, who emphasize the discontinuity thesis, see classical economics as extending from Petty's work in the 17th century to the break-up of the Ricardian system around 1830. The period between 1830 and the 1870s would then be dominated by "vulgar political economy", as Karl Marx characterized it. Sraffians argue that: the wages fund theory; Senior's abstinence theory of interest, which puts the return to capital on the same level as returns to land and labour; the explanation of equilibrium prices by well-behaved supply and demand functions; and Say's law, are not necessary or essential elements of the classical theory of value and distribution. Perhaps Schumpeter's view that John Stuart Mill put forth a half-way house between classical and neoclassical economics is consistent with this view.
Georgists and other modern classical economists and historians such as Michael Hudson argue that a major division between classical and neo-classical economics is the treatment or recognition of economic rent. Most modern economists no longer recognize land/location as a factor of production, often claiming that rent is non-existent. Georgists and others argue that economic rent remains roughly a third of economic output.
Sraffians generally see Marx as having rediscovered and restated the logic of classical economics, albeit for his own purposes. Others, such as Schumpeter, think of Marx as a follower of Ricardo. Even Samuel Hollander[17] has recently explained that there is a textual basis in the classical economists for Marx's reading, although he does argue that it is an extremely narrow set of texts.
Another position is that neoclassical economics is essentially continuous with classical economics. To scholars promoting this view, there is no hard and fast line between classical and neoclassical economics. There may be shifts of emphasis, such as between the long run and the short run and between supply and demand, but the neoclassical concepts are to be found confused or in embryo in classical economics. To these economists, there is only one theory of value and distribution. Alfred Marshall is a well-known promoter of this view. Samuel Hollander is probably its best current proponent.
Still another position sees two threads simultaneously being developed in classical economics. In this view, neoclassical economics is a development of certain exoteric (popular) views in Adam Smith. Ricardo was a sport, developing certain esoteric (known by only the select) views in Adam Smith. This view can be found in W. Stanley Jevons, who referred to Ricardo as something like "that able, but wrong-headed man" who put economics on the "wrong track". One can also find this view in Maurice Dobb's Theories of Value and Distribution Since Adam Smith: Ideology and Economic Theory (1973), as well as in Karl Marx's Theories of Surplus Value.
The above does not exhaust the possibilities. John Maynard Keynes thought of classical economics as starting with Ricardo and being ended by the publication of his own General Theory of Employment Interest and Money. The defining criterion of classical economics, on this view, is Say's law which is disputed by Keynesian economics. Keynes was aware, though, that his usage of the term 'classical' was non-standard.[16]
One difficulty in these debates is that the participants are frequently arguing about whether there is a non-neoclassical theory that should be reconstructed and applied today to describe capitalist economies. Some, such as Terry Peach,[18] see classical economics as of antiquarian interest.
