Classical economics vs Neoclassical Economics View

Classical economics vs. Neoclassical Economics View: – As a coherent theoretical body, the classical school of economic thought starts with Smith’s writings, continues with the work of the British economists Thomas Robert Malthus and David Ricardo, and culminates with the synthesis of Jonhn Stuart Mill, disciple of Ricardo. 

Classical Approach of Economics

The classics took from Ricardo the concept of diminishing returns, which affirms that q increases labor force and capital q is used to tillage the land, decreases yields or, as Ricardo said, overcome some stage not very advanced, the process Of agriculture is gradually declining.

The scope of economics science is greatly expanded when Smith emphasizes the role of consumption over production. He hoped that it was possible to raise the overall standard of living of the community as a whole. He argued that it was essential to allow individuals to try to achieve their own welfare as a means to increase the prosperity of the whole society.

More from Business Study Notes:- What is Economy

On the other hand Malthus in his essay on the principle of the population (1798) raised the pessimistic note of the classical school, stating that the hopes of greater prosperity would rest against the rock of excessive population growth. He argued that natural control was positive: the power of the population is so superior to the power of the earth to allow man’s subsistence that premature death must restrain human growth to some extent.

Mill’s political economy principles were the center of this science until the late nineteenth century. Although he accepted the theories of his classical predecessors, he relied more on educating the working class to limit its reproduction than did Ricardo and Malthus. In addition, Mill was a reformer who wanted to forcefully record the inheritance, and even allow the government to assume its major role in protecting children and workers.

Neoclassic Approach of Economics

Classical economics was based on the principle of scarcity, as shown by the law of diminishing returns and the Malthusian doctrine of production, from the 1870s, neoclassical economists such as William Stanley in Great Britain, Leon Walras in France, and Karl Menger in Austria, shifted the economy, abandoned supply constraints to focus on the interpretation of consumer preferences in psychological terms.

The neoclassical explained the formation of prices, not in terms of the quantity of labor needed to produce the goods, but in terms of the intensity of consumers’ preference for obtaining an additional unit of a given product.

In competitive markets, consumer preferences for cheaper goods and producers’ preferences towards more expensive ones would be adjusted to reach a level of equilibrium, this balance would also be reached in the money and labor markets.

Neoclassical doctrine is, implicitly, conservative, advocates of this doctrine prefer to operate competitive markets to find a public intervention. The neoclassicals do not care about the cause of wealth implies that the unequal distribution of income is due largely to the different degrees of intelligence, talent, energy and ambition of people. Therefore, the success of each individual depends on their individual characteristics, not that it benefits their exceptional advantages or are victims of a special disability.

Classical economics vs. Neoclassical Economics View

 Throughout history, some countries have placed themselves above others on the world scale. Thus it was possible to determine who the first power was, and who, his followers. However, this classification has never made reference to the fact that economies are very different between countries and even between large continents.

There are two studies, two schools of economics, which are fully applicable to these differences. They are none other than the studies of classical economics, and the Keynesian economy, based on completely contrary principles.

1 – The classical school could refer to the American economy. It can be said that it follows its principles, since this is completely capitalist. These principles are:

2 – The Money is only a means of transaction has no impact on the social economy. It is reflected by a well-known work of Jean-Baptiste Say, who receives its name for the study like “The law of Say”.

With this law, explains that the market is perfect. In it, is all the information of the own market and that makes possible that the exchange is comparable. Therefore, as companies know what consumers need, the supply generates demand, and the price at which it is paid is reasonable.

For this reason, money is only used as a means of transaction, it has no other function.

1 – The Market is perfect, there is free competition. All companies are able to enter that market, so it is impossible to set prices that are not available to consumers. Reference is again made to the fact that supply determines demand.

2 – The Unemployment is voluntary. Anyone who wants to work will work, so unemployment is frictional or short-term. The individual is the one who decides if he wants to work more, or he prefers to devote more of his time to leisure.

3 – The State action is ineffective. As the market is perfect, if there is any failure will be corrected by the market’s own functioning. Therefore, the state intervene with fiscal policy (changes in spending and transfers, such as investment or pensions for unemployed, or changes in taxes) is useless.

However, this capitalism has errors. In 1929, with the first crack of the bag, people start to run out of work, even if they want to work. Not only that, poverty increases, social differences, and the most disadvantaged multiply. The classic school was born when there is economic boom, when everyone has work and everyone who wants to have one can get it, but sometimes (crack 29, the current financial crisis  these market mistakes cannot be solved in the short term , But are lengthened.

For that reason, in 1929, the other figure appears that marks a major change in the economy, especially in the European: John Maynard Keynes. By the influence of his work, it is generated what we know today as Keynesian economics. And its basic pillars are completely contrary to the previous structure.

1 – The Market is not perfect. There is no perfect information, and the inefficiencies are structural (they end up being corrected in the long run). There is no equality between social classes, and those who want to find work cannot access it.

2 – The money can be used for various reasons, not just to buy consumer goods. Thus, when we have money, we use one part to consume, another to speculate (stock market, real estate market and another, for the sake of caution (we save in case something happens that we do not expect and, therefore, we need the money).

3 – The demand generates the supply. It comes into play that if consumers do not buy, companies have too many products that they are not able to sell, therefore, they stop producing until they finish the stock of their stores. If the opposite happens, people want to buy more than they have made, companies see that their products are depleted, so they want to manufacture more to meet the needs of their consumers.

4 – The Intervention of the State is necessary. The country’s economy focuses on social welfare. If the difference between social classes is enlarged, and the most disadvantaged cannot survive, the state must do something. It can use its power to influence the economy, giving transfers (by unemployment, retirement, orphanhood, widowhood increasing the expense (roads, public schools, social security or with taxes.

Thus, a new term appears: fiscal policy, which will be expansive when taxes are lowered, and transfers and / or expenditure increase; and will be contractive when taxes rise and expenditure and / or transfers decrease.