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Classical economics or classical political economy is a school of
thought in economics 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 Karl Marx, to distinguish the
"greats" of economic theory from their "vulgar" successors.
There is some debate about what is covered by the term classical economics,
particularly when dealing with the period from 1830–75, and how classical
economics relates to neoclassical economics.
History:
The classical economists produced their "magnificent dynamics"[3]
during a period in which capitalism was emerging from feudalism and in which
the Industrial Revolution was leading to vast changes in society. These changes
raised the question of how a society could be organized around a system in
which every individual sought his or her own (monetary) gain. Classical
political economy is popularly associated with the idea that free markets can
regulate themselves.[4] Classical economists and their immediate predecessors
reoriented economics away from an analysis of the ruler's personal interests to
broader national interests. Adam Smith, following the physiocrat
François Quesnay, identified the wealth of a nation with the yearly
national income, instead of the king's treasury. Smith saw this income as
produced by labour, land, and capital. With property rights to land and capital
held by individuals, the national income is divided up between labourers,
landlords, and capitalists in the form of wages, rent, and interest or profits.
In his vision, productive labour was the true source of income, while capital
was the main organizing force, boosting labour's productivity and inducing
growth.
Ricardo and James Mill systematized Smith's theory. Their ideas became economic
orthodoxy in the period ca. 1815–1848, after which an "anti-Ricardian
reaction" took shape, especially on the European continent, that
eventually became marginalist/neoclassical economics.[5] The definitive split
is typically placed somewhere in the 1870s, after which the torch of Ricardian
economics was carried mainly by Marxian economics, while neoclassical economics
became the new orthodoxy also in the English-speaking world.
Henry George is sometimes known as the last classical economist or as a bridge.
The economist Mason Gaffney documented original sources that appear to confirm
his thesis arguing that neoclassical economics arose as a concerted effort to
suppress the ideas of classical economics and those of Henry George in
particular.[6]
Modern legacy:
Classical economics and many of its ideas remain fundamental in economics,
though the theory itself has yielded, since the 1870s, to neoclassical
economics. Other ideas have either disappeared from neoclassical discourse or
been replaced by Keynesian economics in the Keynesian Revolution and
neoclassical synthesis. Some classical ideas are represented in various schools
of heterodox economics, notably Georgism and Marxian economics – Marx and
Henry George being contemporaries of classical economists – and Austrian
economics, which split from neoclassical economics in the late 19th century. In
the mid-20th century, a renewed interest in classical economics gave rise to
the neo-Ricardian school and its offshoots.
Classical theories of growth and development:
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.
Value theory:
Classical economists developed a theory of value, or price, to investigate
economic dynamics. In political economics, value usually refers to the value of
exchange, which is separate from the price.[7] William Petty introduced a
fundamental distinction between market price and natural price to facilitate
the portrayal of regularities in prices. Market prices are jostled by many
transient influences that are difficult to theorize about at any abstract
level.
Natural prices, according to Petty, Smith, and Ricardo, for example, capture
systematic and persistent forces operating at a point in time. Market prices
always tend toward natural prices in a process that Smith described as somewhat
similar to gravitational attraction. The theory of what determined natural
prices varied within the Classical school. Petty tried to develop a par between
land and labour and had what might be called a land-and-labour theory of value.
Smith confined the labour theory of value to a mythical pre-capitalist past.
Others may interpret Smith to have believed in value as derived from labour.[1]
He stated that natural prices were the sum of natural rates of wages, profits
(including interest on capital and wages of superintendence) and rent. Ricardo
also had what might be described as a cost of production theory of value. He
criticized Smith for describing rent as price-determining, instead of
price-determined, and saw the labour theory of value as a good approximation.
Some historians of economic thought, in particular, Sraffian
economists,[14][15] see the classical theory of prices as determined from three
givens: The level of outputs at the level of Smith's "effectual
demand", technology, and wages. From these givens, one can rigorously
derive a theory of value. But neither Ricardo nor Marx, the most rigorous
investigators of the theory of value during the Classical period, developed
this theory fully. Those who reconstruct the theory of value in this manner see
the determinants of natural prices as being explained by the Classical
economists from within the theory of economics, albeit at a lower level of
abstraction.
For example, the theory of wages was closely connected to the theory of
population. The Classical economists took the theory of the determinants of the
level and growth of population as part of Political Economy. Since then, the
theory of population has been seen as part of Demography. In contrast to the
Classical theory, the determinants of the neoclassical theory value: tastes
technology, and endowments are seen as exogenous to neoclassical economics.
Classical economics tended to stress the benefits of trade. Its theory of value
was largely displaced by marginalist schools of thought which sees "use
value" as deriving from the marginal utility that consumers finds in a
good, and "exchange value" (i.e. natural price) as determined by the
marginal opportunity- or disutility-cost of the inputs that make up the
product.
Ironically, considering the attachment of many classical economists to the free
market, the largest school of economic thought that still adheres to classical
form is the Marxian school.
Monetary theory:
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:
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 1830–75 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.
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