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Back to The Future of Economic Thought Timothée Parrique (Uppsala University, September 8, 2014) What is the difference between economic history and history of economics (HET)? Eco. History = the study
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Back to The Future of Economic Thought Timothée Parrique (Uppsala University, September 8, 2014) What is the difference between economic history and history of economics (HET)? Eco. History = the study of economies or economic phenomena in the past HET = the study of economics or economic ideas in the past; the history of intellectual efforts that men have made in order to understand economic phenomena. (Schumpeter) INTRO: the study of the history of economic thought (17:15-15min) Whenever you re going to spend an extended amount of time doing anything, it is always very good to ask WHY? a. Why do we study the history of economics? What does Schumpeter say? 3+1 gains: (a) Pedagogical advantage (b) New ideas (c) Insights into the working of the human mind But Schumpeter warning: We stand to profit from visits to the lumber room provided we do not stay there too long. It s fine for us, we re only staying 2 hours. GOAL: A mental framework needed to be a critical thinker in economics (Smith and degrowth) Now, once you ve asked WHY, we can move to HOW. b. How shall we study the HET? 2 different ways o Cumulative view: progressive discovery of an objective economic reality o Competitive view: impossible to choose competing theoretical approaches with an objective criteria!embracing pluralism means accepting this diversity of conflicting ideas as an asset; = competitive! Also, it is important to always look at ideas within their historical context. Ideas don t develop in a vacuum; they are the product of a social, cultural, ecological context. So if we don t acknowledge the uniqueness of this context in time and space, we run the risk of making anachronisms (an act of attributing a concept/custom to a period to which it does not belong). For example, François Hollande, the current French president used a famous saying from Jean Baptiste Say in his last speech, supply creates its own demand, economists call this Say s law. This is, Jean Baptiste Say formulated this theory in 18 th century France, in a cultural context extremely different from 2014 France. So in HET, always mind your surroundings. That was how. Now that we have established WHY and HOW, we can move on to WHAT. c. What are we going to be looking at today? I m going to tell you the story of how economics as a science (understood as refined common sense 1 ). To simplify, there is 6 big time periods in the history of economic ideas. Pre-classical or prehistory (up to 1776) Classical ( s): 5 authors Marginal revolution (1870s-1890s): 3 authors Neoclassical economics (1890s-today): 1 author Keynesian revolution ( s): author Formalist economics (1945-today) I will present an overview of the big thinkers that characterised every period. But the goal is not only to look at the ideas they produced (the answers), but most importantly to look at the questions they were asking (the nature of the inquiry). In a way, it s like looking at what they thought economics should be about. 1 «A science is any kind of knowledge that has been the object of conscious efforts to improve it.» Schumpeter And now, since you re today s generation of economists. I m going to ask you the same question: What should economics be about? What kind of questions should economists try to answer? I would like you to think about this question for 1 minute and write down what you think is the most important question of economics. (Get some feedback, write key words on board) These are the questions we re asking in the context of our time. I want you to keep this multitude in mind as we re traveling through the HET. GOAL = to reflect on the following question: How has the focus of economics changed over time? Okay let s begin our journey. I want you to close your eyes for a minute. Take a deep breath (inhale).(exhale). Forget we re in Uppsala. Forget we re in the Gustavianum. I want you to be transported to Ancient Greece around 400BC, or what some historians understand to be the beginning of the prehistory of political economy. PART I: The prehistory of political economy (17:30-15min) Why do they call it prehistory? Because there were no such thing as economics or economists back then. The philosophers of classical antiquity and theologians of the middles ages considered it their task not so much to describe and interpret the way the economy works, but rather to provide advice on morally acceptable behaviour in the field of economic relations.! Moreover they did not create a systematic analysis of economic issues. PE was born out of 2 issues: - Moral issue (how should we behave) - Scientific issue (how does society function) (Xenophon, Plato, Aristotle) a. Classical antiquity, 400BCE Very small market: Greek culture followed an administrative and not market approach to economic phenomena. Economic issues were dealt with either in the framework of discussion concerning: Sound management of the household or the farm (Xenophon, Hesiod) Discussion of the political institutions (Plato, Aristotle). Although, Obsession with economic gain = morally wrong, it was expected for people to provide for their needs and those of their family in a morally sound way. The early Greeks called this sound management of the household OIKONOMOS (oikos, home; nomos, rule, law) = root of the word ECONOMICS. Types of issues discussed: - Xenophon: efficient management of the household - Plato: division of labour, communal property - Democritus: private property - Aristotle: theory of value, condemnation of usury, private property Questions: What does it mean to live a good life? What is the fair price for a good in the market? How should I morally behave in my monetary relationships? Fair price = the one prevailing on market (that does not modify the natural division of labour, Plato) Production of commodities to satisfy need is right and natural (BARTER)! Oikonomos Production of commodities to satisfy desires is wrong and unnatural (USE OF MONEY)! Chrematistics (to get rich, money for money s sake). Let s move on about 1000 years. b. The Scholastics, 12 th -16 th (Aquinas) Scholasticism/medieval economics = a struggle to reconcile the religious teachings of the church with the increasing economic activity of the time (production, consumption, distribution and exchange of goods). So the economic inquiry did not change that much from Ancient Greece, it is still: How do we live a good life? In the sense of, how should good Christians behave in their economic affairs? Most important of the scholastic writer: Thomas Aquinas ( ) Like the early Greeks, Aquinas was not an economist. He was a philosopher and theologian who also happened to treat economic matters.! Original fusion between the Christian tradition & Aristotle s philosophy. He was particularly concerned with the moral dimensions of economics: Usury (i.e. charging interest on loans): According to him, loan at interest is condemned in principle by Christian faith, but justified if it s for a good deed. Not all loans for interest should be considered as usury ( 10% and for charity, is okay). Usury becomes interest! Private property: against early Christian thought, he convincingly argued that private property is not contrary to natural law. Just price: is the price prevailing in the markets in the absence of fraud or monopolistic practices (different from legitimate price (the price at which a thing can be sold). Just price = inputs/efforts put into producing the good charging any more than that was not fair. Very important revolution for the later emergence of capitalism in Europe! Let s move to the last phase of the prehistory of political economy. c. The Mercantilists, 16 th th (Thomas Mun, ) -18 Mmh the 16 th century. The time of voyages of discovery, Europeans ships sailing the oceans looking for spices, silk, sugar, gold and other exotic commodities. The period marks an explosion of trade in the Europe, led to an increasing amount of merchants and bankers. So one could say the mercantilists were the first to discuss the economy per se. Economic thinking developed from a simple application of ideas about individuals, households and producers, to a more complicated view of the economy as a system with laws and interrelationship. They were businessmen and so they wanted to understand how the economy worked, what were the causes and effects, which levers should they pull and which buttons to push in order to make their business profitable. 3 big Questions: What is the wealth of nations? For mercantilists it was clear, wealth is measured by the quantity of gold and other precious metal a country holds. How should we trade with other countries? Like the Scholastics, they believed that the total wealth of the world is fixed. So they saw trade as a zero-sum game (if I win, you loose), so they wanted to protect their economic borders, export more than you import (sell more than you buy; positive balance of trade) and keep wages to your workers low. That s the way to increase the wealth of a nation. How does money work? When conquistadors started shipping back gold from the new world, something happened in Europe. Inflation; prices started to rise. Some mercantilists saw that if the amount of money in circulation increases, but the amount of goods to buy remains the same, you will get a rise in prices (because more money is chasing the same goods). So the mercantilists started to uncover the dynamics of money, and created more sophisticated credit and banking systems to facilitate commerce. The mercantilists cannot be considered a school of thought because they did not provide a coherent system of interpretation of economic reality. They were too many diverging opinions, and every author was mostly trying to promote their view for the sake of their own economic gain. But this was about to change 1-minute paper + Movement PART II: The birth of political economy (17:45 15 min) Adam Smith ( ) Adam Smith, the Scottish philosopher that is considered the father of political economy. Why father? What would Schumpeter say about this? Precursors of classical economics saw bits and pieces of the puzzle, but Smith was the first to integrate everything into a single coherent framework. 2 books FIRST BOOK: Why do we behave the way we behave? (What are the motivations for human actions?) According to Smith, we are animated by the simultaneous presence of 2, sometimes conflicting, motivations: passions and interests. Moral principle of sympathy : the ability to share the feelings of others leads us to judge our actions on the basis of their effects in others in addition to their effects on ourselves (Golden rule in ethics; one should treat others as one would like others to treat oneself). Example: me stealing your pen Smith s liberal view is based on a two-fold assumption: 1. Each person knows better than anybody else her or his own interests (rejection central management of the eco.) 2. One of our interest is the desire to be loved by others (we re social animals) and hence respect for the well-being of others (precondition to ensure that self-interest will lead to collective well-being). The impartial spectator = individuals evaluate their own actions by taking the viewpoint of an impartial spectator who, knowing all the element, judges such action as an average citizen. Difference between self-interest/selfishness? Self-interest implies attention to one s own interests moderated by the recognition (or sympathy ) for the interests of others. If people are selfish, private interest will not lead to public interest; if they re self-interested, it will. SECOND BOOK: what is the wealth of nations? Why are some nations poor and other rich? Starting point: the division of labour (pin factory) What is Smith s main point? And why is it revolutionary? DoL is not a new phenomenon (Plato, Aristotle, Xenophon) but Smith is the first to bring to the centre of the analysis, as a key to progress. Smith s thesis: we can measure the wealth of nations with per capita income (standards of living). Per capita income depends on 2 factors: (a) Labour productivity 2 (b) The share of citizen employed in productive labour Argument 1: The DoL increases labour productivity (a) improves the kills of the worker, (b) saves labour time needed to shift, (c) fosters technical progess Argument 2: The DoL depends on the size of the markets (the production is limited by what can be sold on the market) Hence Smith s economic liberalism 3 : whatever is an obstacle to commerce, also constitutes an obstacle to the development of the DoL, and so to increases in productivity and the increase in the welfare of citizens, or in other words to the wealth of nations. Society divided in 3 classes (contrast with the old feudal division, farmers/artisans/nobility&clergy). Workers (wages) Capitalists (profits) Landlords (rents) 2 types of value (following Aristotle) VALUE & PRICE 2 Productivity = measure of the efficiency of production (output per unit of input). 3 The ideological belief in organizing the economy on indiviualist lines, meaning that the greatest possible number of economic decisions are made by individuals and not by collective institutions or organizations. Use value Exchange value He illustrates with the famous Diamond/water paradox: Nothing is more useful than water: but it will purchase scarcely anything; scarcely anything can be had in exchange for it. A diamond, on the contrary, has scarcely any use-value; but a very great quantity of other goods may frequently be had in exchange for it.! Apparent contradiction that, although water is more necessary for survival than diamonds, diamonds command a higher price in the market. 2 types of prices: Natural price: price sufficient to pay wages, profits and rents. Market price: price of the actual act of exchange Smith suggests a few general rules - Adjustment mechanism relying on competition: - supply demand = Market price natural price, and vice versa - Deviation of the market price from the natural price will provoke reactions on the part of buyers and producers A short comment on the invisible hand: The term invisible hand 4 is only used 3 times in total in Smith s work. Nobody until the middle of the twentieth century gave it any attention. In the WoN, he uses it once in a specific context (the capitalists preference for investing in the most profitable sectors of the national industry rather than in foreign countries, although motivated by personal interest, has a positive effect for society since it tends to increase the national income, as led by an invisible hand ).! The idea of the invisible hand of the market is a distortion of the history of thought. Adam Smith marked the beginning of the classical era. The 4 other thinkers I m now going to present were taking Smith s framework as a starting point. Let s go back: end of the 18 th century, Britain. BREAK (18:00-10min) Thomas Robert Malthus ( ) Early phase of the industrial revolution + explosion of population in Britain = endless swarm of people flocking to the cities to work in the factories. Malthus is witnessing this, and becomes alarmed by this growing number of people: how would they be fed? This led him to formulate The population principle (1798) : Human require food Humans wish to procreate. But since agricultural production tends to grow in arithmetical proportion (at a constant rate, 1,2,3,4,5), while population tends to grow in geometrical proportion (exponential; 1, 2, 4, 8, 16), population growth is necessarily limited by the availability of means of subsistence. Argument: it s no use trying to implement policies aiming to eliminate poverty. Because if they re successful, improvement in the standard of living will be followed by a faster rate of population increase, which brings wages and the standard of living of the great mass of workers back to simple subsistence level.! public opinion of the time to identify PE as the dismal science 5 (depressive, gloomy, dreary) Iron Law of Wages = real wages always tend, in the long run, toward the minimum wage necessary to sustain the life of the worker; subsistence level. David Ricardo ( ) While Smith was very much a contextual thinker, drawing on history, sociology and politics (method = historical analysis), Ricardo was one of the first to create abstract economic models. 4 Individual s efforts to maximise their own gains in a free market may benefit society, even if the ambitious have no benevolent intentions. 5 Scottish philosopher/historian Thomas Carlyle ( ). Argument 1: He carried on Smith s argumentation on the DoL, but took it further. The advantages of the DoL were not limited to each country, but were also true internationally. Each country should produce what they are best and most efficient at and then trade, this would be a win-win situation. This is the theory of comparative advantage (you ll hear more about it later in the course).! As you can see, this is quite far from the Mercantilist idea of trade as a zero-sum game; for Ricardo, trade is advantageous for everyone; free trade benefits everyone (one of our debate topic). Argument 2: profits decrease in the long term (decreasing returns on land) Eco. growth! pop. Growth! more food consumption! more demand for agricultural product! expansion of cultivation. If we assume that the lands currently cultivated are more fertile than the ones left uncultivated; the more we cultivate, the more we have to cultivate relatively less fertile lands. Therefore, farmers profits on the marginal land decreases (and rent on relatively more fertile land increase). The decrease in profit is transmitted from agriculture to manufacturing through the increase in the price of agricultural products, and hence in wages. All this hinders accumulation. Policy implication: one needs to import foreign corn to avoid cultivating new land and therefore pushing down profits and accumulation. We must then eliminate all obstacles to the importation of agricultural product (free trade). John Stuart Mill ( ) Like Malthus, Mill also witnessed the social hardship of the people moving to the city. How can they live a better life? How can we improve the role of the individual in society? Mill expended the analysis of Ricardo; but he was more optimistic than Malthus and Ricardo. He believed that society could do better. He was the pupil of one of the great philosophers of the time, Jeremy Bentham, the founder of utilitarianism (a theory in ethics holding that the proper course of action is the one that maximises utility; i.e. max. pleasures and min. pains). Now we call this a CBA, but back then, it was understood as a felicific calculus (= promoting increased happiness). Individual felicific calculus as a key to happiness: Mill expanded on this, and believed that a good society was one in which you pursued individual happiness, that was based on individual improvement and selffulfilment. His most important contribution to economic theory: international trade theory Ricardo extended Smith s analysis of the benefits of free trade to the international level; but he failed to determine the international price of commodities, as well as how the gains of trade would be distributed between the two countries. Mill concluded that the terms of trade would depend on the demands for the imported products by the two countries (the country that is less dependent on the other has more power to bargain). Example: Russia/Ukraine Stationary State Common question: What happen to the economy in the long term? Mill agrees with Ricardo; falling rates of profit and stationary state. But Mill s stationary state was not the dismal one imagined by Ricardo. Mill was the first orthodox economist to question if a nation with a growing economy was a desirable place in which to live. A stationary state might be a highly desirable society, as the pace of economic activity decreases and more attention is focused on the individual and their noneconomic an
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