Jón Erlendsson Námsnet HÍ  UH LJ NL LI HI KHI BOK HV WOS  KHIB Símar: 525.4666           525-4665 TP:     joner@hi.is Fax:   525-4723 HS:    565-2238   Ummæli   viðskiptavina   Háskóli Íslands   Kennaraháskólinn   UH heimasíða

Upplýsingaþjónusta Háskólans     Hagsaga: Hugmyndafræðin  "He who cannot draw on 3000 years of history is living   merely from hand to mouth"-Goethe "        http://www.hi.is/~joner/eaps/wh_econh.htm       Gert:  99.11.07     (Jón Erlendsson)

History of Economic Thought



I.Pre-Classical Economic Thought

II.The Classical School
Bentham http://www.mtsu.edu/~tvs2/bentham.html   BH1

III.Revolts Against Classical Economics

IV.Neo-Classical Economics

     
V.Twentieth Century Schools of Thought

http://coba.usf.edu/departments/economics/programs/phd/history.htm
http://coba.usf.edu/departments/economics/programs/phd/

A History of Value Theory

Martin Fogarty~Senior Sophister

_______________________________________________________________________

For millennia, literally, scholars and theorists have tried to deduce how items attained their 'value'. From pre-Christian to pre-Keynesian times, various strands of thought have proposed (often divergent) explanations for this phenomenon. In this paper Martin Fogarty analyses the 'value' propositions of several prominent thinkers, loosely grouped as Pre-Classical, Classical and Neo-Classical theorists.

_______________________________________________________________________

"He who cannot draw on 3000 years of history is living merely from hand to mouth"-Goethe

The debate on the theory of value, which was initiated in Ancient Greece and which became dormant during the Middle Ages, later re-emerged at the close  of the seventeenth century to dominate economic thought for the next 200 years. Even today its primary importance is such that Schumpeter claimed that "the problem of value must always hold the pivotal position, as the chief tool of analysis in any pure theory that works with a rational schema."
Similar hypothetical solutions varied from time to time. Henceforth, it is the intention of this paper to trace the history of value-theories from the late 1600's to the late 1800's which is crucial to an understanding of economic thought today.

Considering that this piece is hyperbolic in scope, the analysis shall be narrowed down to the following structure. Firstly, an overview to the essay shall be created by briefly sketching Aristotelian, Scholastic and Mercantilistic views on value. Secondly will follow an analysis of the contribution of pre-classicalist writers like Petty, Cantillon, Galiani and Law to the debate. Thirdly, the supply oriented theory of value put forward by classical economists like Smith, Ricardo, Marx and Mill shall be examined. Fourthly, Jevons and Mengers' neo-classical attempt to replace the classicalists with their demand oriented theory
of value will be scrutinised. Finally, both Walras' and Marshall's respective resolution to the conflict shall be investigated by individually accommodating the interactions of both supply and demand as determinants of value within their overall economic framework.

Early Economic Thought

The first great landmark in the long and tortuous intellectual struggle with the riddle of value, was laid by the philosophers of the Athenian Academy in the 4th century BC. It was Aristotle (384-322) who held that the source of value was based on need, without which exchange would not take place. Originally, it was he who distinguished between value in use and value in exchange- "Of everything which we possess, there are two uses; For example a shoe is used for wear and it is used for exchange". Despite these novel insights, the legacy of Aristotle is minimized due to his lack of investigation in this area.

While the Scholastics later adopted and accommodated these views to Christian thought, like the Aristotelian philosophers before them, economics was not   regarded as an independent discipline but merely as an integral part of ethical and moral philosophy. As a result, the debate on value was centred and
henceforth retarded by a normative approach - what value should 'justly' be, instead of what actually is. During this period, utility was widely held as the determinant of value with only a minority of theorists such as St. Thomas Aquinas (1225-1274) and John Duns Scotus (1265-1308) taking note of the cost of the production side. However, historians commonly excuse the schoolmen for their lack of insight on value as "Early medieval society was not a suitable environment for an unrestricted play of forces of supply and demand."

The search concerning value was continued in the direction of utility by early mercantilists during the 16th and the first half of the 17th century. The supremacy of this argument was highlighted in 1588 when Bernardo Davanzati unsuccessfully attempted to construct a utility theory of value in Lecture On Money. It is not surprising that they concentrated on the determinants of the demand for goods (utility), since the merchants' profits depended on the exploiting of the difference between the market buying and the selling prices rather than controlling the production process. For medieval theorists, value depended not on any intrinsic value but on utility and scarcity. Shakespeare's Richard III battle plea "A horse, a horse, my kingdom for a horse" epitomises the subjective approach to value of this era. Yet despite the failings and limitation of this one-sided method, this period is viewed as embryonic with regard to value theories, and one which would spawn subsequent economic developments.

Pre-Classical Thought

It was only at the end of the seventeenth century when economists following a Cartesian philosophy of deduction, broke away from the dominant mercantilistic utility view and looked for a solution in the cost of production. William Petty (1623-1687) who was influenced by the scientific advances of his era, abandoned the subjective theory of value and instead objectively searched for the natural and intrinsic laws of reality - of which 'natural value' was one of them. According to Petty, the market price ('actual price') of any commodity would fluctuate perpetually around its natural value ('natural price').
The determinants of this natural value were deduced as the factors of production - land and labour.

In keeping with his mathematical nature, Petty attempted to reduce his theory of value to a labour one only, by looking for a 'par' value for land in terms of labour forces. In the political Anatomy of Ireland (1691), he states that the unit of measure consisted of "The easiest-gotten food of the respective countries of the world"- average daily diet necessary to sustain a worker. Although he successfully anticipated the classical-Marxian theory of subsistence wages and surplus, he also inherited the endless difficulties associated with a labour cost theory of value.

Richard Cantillon (168?-1734) who was another practitioner of the Cartesian approach also began with the labour-and-land theory of value. Although, similar to Petty in that he reduces the determinants of intrinsic value in terms of one factor, unlike him, Cantillon, who was influenced by French agrarian protectionists, chose land. Cantillon finds his 'par' value by equating the value of a labourer with that of twice the produce of the land he consumes, while allowing for variations in the labourers' skills and status. Once this 'par' value is calculated, the intrinsic values of any good can be reduced to land only. With his assumptions of constant returns to scale, Cantillon provides us with his land theory of value. He also originally shows us how resources were allocated between different markets when the market price diverges from his intrinsic 'land' value. Unfortunately, Cantillon's land theory, like Petty's labour theory, was only a true description of value in highly specific cases.

Meanwhile the medieval subjective approach to value was continued by another branch of pre-classical economists which included people like Nicholas Barbon (1640-1698) who thought that the natural value of goods was simply represented by their market price. For him "the value of all wares arise from their use; things of no use, have no value, as the English phrase is, they are good for nothing". Furthermore, on the continent, the Italian Ferdinando Galiani (1728-1787) borrowed the early mercantilistic writings of Davanzati and Montanari on the subjective nature of value. He devoted his
time to developing a theory of utility value and even implicitly described the notion of diminishing marginal utility. His deductions just "lacked the concept of marginal utility" of the neo-classical economists, Jevons and Menger.

Although Galiani vaguely accounted for the cost of production in his utility value theory, he failed to develop it into a fully-fledged supply and demand analysis. This monumental project was taken up by the Scotsman John Law (1671-1729). In his Essay on a Land Bank, Law outlined the old water / diamond paradox of value, in which comparatively 'useless' diamonds are more highly valued than the more 'useful' water and reconciled the mystery by using a supply and demand analysis. Unlike his predecessors and his immediate successors (until Walras and Marshall), Law used both demand and supply
factors in determining the value of a good which has a use in society. Henceforth any changes in the value of goods were due to a change in the quantity supplied or demanded.

Although John Locke (1632-1704) in, Some Considerations on the Consequences of Lowering of Interest and the Raising the Value of Money, had developed a theory of price determination earlier, it lacked the clarity, precision and understanding of Law. In Money and Trade Considered, Law corrects Locke's unpolished value by stating that "The prices of goods are not according to the quantity in proportion to the vent, but in proportion to the demand" . Surprisingly, Law's early solution to value theory gained little following owing probably to his failed financial operations in France. Even more
surprisingly has been the reduction of Law's contributions in this area to mere footnotes in the mainstream economic history books. Unfortunately, for the development of value theory, this dualistic analysis was suppressed for almost 200 years, until its resurrection at the close of the 19th century.

Classical Thought

The publication of Adam Smith's (1723-1790) Wealth of Nations in 1776 heralded the rise of the classical school and swung the value debate back towards Petty's objective labour theory of value. According to J. Niehans, the classical emphasis on the labour cost was "a step backward" compared to the pre-classical analysis. Indeed, Smith who borrowed the water / diamond paradox from Law without acknowledging it, failed to resolve the riddle and the resulting relationship between use-value and use-exchange, by mistakenly focusing on total rather than marginal utility.

His confusion is further shown in his experimentation with three value theories. He provided a labour cost and a labour command theory of value for a primitive society and finally a cost of production theory for an advanced one. In his "Nation of hunters" analogy, Smith's notion of labour cost of value is determined by the quantity of labour which is measured by wages which is also extended to his labour command theory- "Value of any commodity.......to the person who processes it and who means not to use or consume it himself, but to exchange it for other commodities, is equal to the quantity of
labour which enables him to purchase or command" . However, when he perceived that if wages were not the same proportionate part of final prices of all goods, he then realised that his labour theory of value for an advanced economy would not hold. Instead, it appears that he opted for a cost of production value theory consisting of land, labour and capital value theory .

David Ricardo (1772-1823) who adopted Smith's abandoned labour hypothesis tried to avoid his circular reasoning of measuring labour with wages. Instead he felt that value depended upon the quantity of labour necessary for production which would be calculated by time. More precise and clearer than Smith, Ricardo stated that "Possessing utility, commodities derive their exchangeable value from two sources : from their scarcity and from the quantity of labour required to obtain them." Although he acknowledged that value could be determined by scarcity alone (e.g. rare documents), he felt
that these were insignificant cases. His value theory therefore only applies to freely reproducible goods in competitive markets.

Discarding Smith's labour command and cost of production theories of value, Ricardo attempted to prove his labour theory of value against its inherent difficulties. To bolster his hypothesis, he used time as a measure of labour quantity, accommodated the different skills of labour by comparing wages to productivity and also assumed that capital influence on value was neutralised since it was merely stored up in labour. He also added a theory of land rent, in which he claimed that rent is price determined (not price determining) and provided reasons why profits had varying effects on value (different capital
intensive industries). Despite these attempts, Ricardo in the end was forced to accept that there were other forces affecting value which prevented a pure theoretical labour theory of value. Nevertheless he still believed that it was the quantity of labour to produce goods that was the crucial element in his calculation.

Karl Marx's (1818-1883) approach to value was essentially Ricardo's labour theory of value. According to Marx, the values of "All commodities are only definite masses of congealed labour time." As an advocate of Ricardo's original theory, he also followed and built on his solutions to the labour value theory's inherent deficiencies. Although Marx used the classical concepts of value he applied his vast philosophical and sociological knowledge to reach conclusions in Capital that diverged radically from them. In his labour theory, he developed his original rate of exploitation (s'=s/v) and its resulting critique of
capitalism-"Derriere le phenomene du profit se cache la realite do surtravail." Like Aristotle, exchange of value or more appropriately exchange of 'just' value had for Marx, moral and judicial implications as well as economic ones.

Despite John Stuart Mill's (1806-1873) claim to the continuity of Ricardo's labour theory of value, his work in retrospect was closer to Marshall and to the approaching neo-classical school. Mill gave up the classical-Ricardian search for absolute value for his belief that "The value which a commodity will bring in any market is no other than the value which, in that market, gives a demand just sufficient to carry off the existing supply." Although lacking the tools of the supply and demand schedules, Mill clearly recognised the effects of demand on the supply in different time periods of a value theory.
Although he acquired a more advanced comprehension on the subject of value than his contemporary theorists did, unfortunately it led him to prematurely and embarrassingly state in 1848 that "Happily, there is nothing in the laws of value which remains for the present or any future writer to clear up; the theory of the subject is complete."

Neo-Classical Thought

Although the origins of modern utility theory can be traced back to Mountifort Longfield in 1834 at Trinity College Dublin
it was
   William Jevons (1835-1882) with his Theory of Political Economy and
   Carl Menger's (1840-1921) Principles of Economics
who both developed the new tool of marginal analysis in 1871 as a means of understanding value

. For the rising neo-classical school in the 1870s, the classical cost of production theory of value seriously lacked generality - especially in determining value of goods with inelastic supply curves. Instead, Jevons and Menger separately formulated their marginal utility theory, in which it was calculated that "Value depends entirely on utility."

Like Davanzati in the 16th century, they felt that no matter what costs were incurred in producing a good, when it arrived on a market its value would depend solely on the utility the buyer expects to receive.

Menger used his marginal utility table to explain the old water / diamond paradox. The value of diamonds was greater than the value of water because it was marginal utility and not total utility that determines consumer choice and hence value. From this they also argued that value comes from the future and not past production. Henceforth, the factors of production are not price-determining but price-determined, as Jevons clearly states- "Cost of production determines supply, supply determines final degree of utility, final degree of utility determines value." Jevons and Menger like their predecessors before, erred in trying to find a simple one-way, cause and effect relationship between value, and in their case utility. It took the intellect of Leon Walras and Alfred Marshall to see that both the cost of production (supply) and utility (demand) were interdependent and mutually determinant of each other's values.

Leon Walras (1834-1910) also independently discovered the concept of marginal utility although he went beyond Jevons and Mengers application of it to merely a utility value theory. He did not see their simple and direct causal link from subjective utility to value. Instead, he saw a complex interrelated and interactive economic system. In his Elements of Pure Economics, he created his theoretical model of General Equilibrium as a means of integrating both the effects of the demand and supply side forces in the whole economy. This mathematical model of simultaneous equations concluded that "In general
equilibrium everything depends upon everything else".

Meanwhile, Alfred Marshall (1842-1924) was also amalgamating the best of classical analysis with the new tools of the marginalists in order to explain value in terms of supply and demand. He acknowledged that the study of any economic concept, like value, is hindered by the interrelativeness of the economy and varying time effects. As a result, Marshall who differed from Walras' general schema, instead used a partial equilibrium framework, in which
most variables are kept constant, in order to develop his analysis on the theory of value.

Marshall divided his study into four time periods.
  Firstly, in the market period where time is so short that supply is fixed, value of a good is determined by its
demand.
  Secondly, in the short-run period, firms can change their production but cannot vary their plant size, which allows supply as well as demand to have an effect on value. In the long-run periods where plant size can be altered, the large effects of the supply side on value depends on whether the industry of a particular good has constant, increasing or decreasing costs to scale. Finally, in the secular period in which technology and population are allowed to vary,
the supply side conditions dominate value.

For Marshall a correct understanding of the influence of time and interdependence of economic variables would resolve the controversy over whether it was the cost of production or utility which determines value. In general, however he felt that it was fruitless to argue whether demand or supply determines value as "we might as reasonably dispute whether it is the upper or under blade of a pair of scissors that cuts a piece of paper, as whether value is governed by utility or costs of production." Any attempt to find one single cause of value as others had unsuccessfully attempted in the past, were doomed
to failure.

Conclusion

From its origins in medieval times, the historical evolution of the value debate became locked into a centuries old dialectical conflict between the objective and subjective approaches. This study has traced the waves of value theories which oscillated back and forth towards each approach, until Walras and Marshall accommodated both rivaling approaches of value within their separate General and Partial Equilibrium frameworks. Yet John Law in his Essay on the Land Bank, had provided this supply and demand approach almost two centuries before which has remained unacknowledged and ignored by most
conventional economic history books. This episode shows the importance and value of writings from earlier economic theorists who may possess insights into present day and future problems. Armed with the knowledge of economic thought from various epochs, current economists who are inevitably chained to their contemporary condition can henceforth avoid the theoretical 'cul de sacs' of their ancestors. One laments the fact that if classical economists had held Goeth's appreciation, and close investigation of past theorists, economics might not have been condemned to the fruitless one dimensional (supply oriented)
approach of value theory, until the end of the 19th century. In the light of this failing in the history of value theory, one should remember the biblical warning "Those who forget history are condemned to relive it".

Bibliography

Commentaries :

Deane, P. (1978) The Evolution of Economic Ideas, Cambridge University Press, Cambridge
Dobb, M. (1973) Theories of Value and Distribution Since Adam Smith, Cambridge University Press, Cambridge
Gordon, B. (1975) Economic Analysis Before Adam Smith, Macmillan, London
Gouverneur, J. (1994) Les Fondements de l'Economie Capitaliste
Landreth, H. (1976) A History of Economic Theory, Scope, Method and Content, Houghton-Mifflin, London
Niehans, J. (1990) A History of Economic Theory, Johns Hopkins University Press, Baltimore
Roll, E. (1992) A History of Economic Thought (5th ed.), Faber, London
Rubin, I. (1979) A History of Economic Thought, Ink Links Ltd., London
Schumpeter, J. (1991) History of Economic Analysis, Allen & Unwin, London
Screpanti, E. and Zamagni, S. (1993) An Outline of The History of Economic Thought, Clarendon Press, Oxford
Spiegel, H.W. (1991) The Growth of Economic Thought (3rd ed.), Duke University Press, London
Original Texts:

Barbon, N. (1690) A Discourse of Trade, T. Milbourn, London
Jevons, W.S. (1970) The Theory of Political Economy, Penguin, Harmondsworth
Law, J. (1994) Essay on a Land Bank, Aeon Publishing, Dublin
Law, J. (1996) Money and Trade Considered with a Proposal for Supplying The Nation With Money, Augustus M. Kelly, New York
Marshall, A. (1920) Principles of Economics, Macmillan, London
Marx, K. (1974) Capital, Lawrence & Wishent, London
Mill, J. S. (1862) Principles of Political Economy, Parker, son, and Brown, London
Ricardo, D. (1817) On the Principles of Political Economy and Taxation, London
Smith, A. (1991) An Enquiry into the Nature and Causes of the Wealth of Nations, Oxford University Press, Oxford
http://www.economics.tcd.ie/ser/1996/mfogarty.htm

Introduction

The word "economics" is derived from oikonomikos, which means skilled in household management. Although the word is very old, the discipline of economics as we understand it today is a relatively recent development. Modern economic thought emerged in the 17th and 18th centuries as the western world began its transformation from an agrarian to an industrial society.

Despite the enormous differences between then and now, the economic problems with which society struggles remain the same:

How do we decide what to produce with our limited resources?
How do we ensure stable prices and full employment of our resources?
How do we provide a rising standard of living both for ourselves and for future generations?

Progress in economic thought toward answers to these questions tends to take discrete steps rather than to evolve smoothly over time. A new school of ideas suddenly emerges as changes in the economy yield fresh insights and make existing doctrines obsolete. The new school eventually becomes the consensus view, to be pushed aside by the next wave of new ideas.

This process continues today and its motivating force remains the same as that three centuries ago: to understand the economy so that we may use it wisely to achieve society's goals.

Mercantilists

Mercantilism was the economic philosophy adopted by merchants and statesmen during the 16th and 17th centuries. Mercantilists believed that a nation's wealth came primarily from the accumulation of gold and silver. Nations without mines could obtain gold and silver only by selling more goods than they bought from abroad. Accordingly, the leaders of those nations intervened extensively in the market, imposing tariffs on foreign goods to restrict import trade, and granting subsidies to improve export prospects for domestic goods. Mercantilism represented the elevation of commercial interests to the level of national policy.

Physiocrats

Physiocrats, a group of 18th century French philosophers, developed the idea of the economy as a circular flow of income and output. They opposed the Mercantilist policy of promoting trade at the expense of agriculture because they believed that agriculture was the sole source of wealth in an economy. As a reaction against the Mercantilists' copious trade regulations, the Physiocrats advocated a policy of laissez-faire, which called for minimal government
interference in the economy.

Classical School

The Classical School of economic theory began with the publication in 1776 of Adam Smith's monumental work, The Wealth of Nations. The book identified land, labor, and capital as the three factors of production and the major contributors to a nation's wealth. In Smith's view, the ideal economy is a self-regulating market system that automatically satisfies the economic needs of the populace. He described the market mechanism as an "invisible hand" that leads all individuals, in pursuit of their own self-interests, to produce the greatest benefit for society as a whole. Smith incorporated some of the Physiocrats' ideas, including laissez-faire, into his own economic theories, but rejected the idea that only agriculture was productive.

While Adam Smith emphasized the production of income, David Ricardo focused on the distribution of income among landowners, workers, and capitalists. Ricardo saw a conflict between landowners on the one hand and labor and capital on the other. He posited that the growth of population and capital, pressing against a fixed supply of land, pushes up rents and holds down wages and profits.

Thomas Robert Malthus used the idea of diminishing returns to explain low living standards. Population, he argued, tended to increase geometrically, outstripping the production of food, which increased arithmetically. The force of a rapidly growing population against a limited amount of land meant diminishing returns to labor. The result, he claimed, was chronically low wages, which prevented the standard of living for most of the
population from rising above the subsistence level.

Malthus also questioned the automatic tendency of a market economy to produce full employment. He blamed unemployment upon the economy's tendency to limit its spending by saving too much, a theme that lay forgotten until John Maynard Keynes revived it in the 1930s.

Coming at the end of the Classical tradition, John Stuart Mill parted company with the earlier classical economists on the inevitability of the distribution of income produced by the market system. Mill pointed to a distinct difference between the market's two roles: allocation of resources and distribution of income. The market might be efficient in allocating resources but not in distributing income, he wrote, making it necessary for society to intervene.

Marginalist School

Classical economists theorized that prices are determined by the costs of production. Marginalist economists emphasized that prices also depend upon the level of demand, which in turn depends upon the amount of consumer satisfaction provided by individual goods and services.

Marginalists provided modern macroeconomics with the basic analytic tools of demand and supply, consumer utility, and a mathematical framework for using those tools. Marginalists also showed that in a free market economy, the factors of production -- land, labor, and capital -- receive returns equal to their contributions to production. This principle was sometimes used to justify the existing distribution of income: that people earned exactly what they or their
property contributed to production.

Marxist School

The Marxist School challenged the foundations of Classical theory. Writing during the mid-19th century, Karl Marx saw capitalism as an evolutionary phase in economic development. He believed that capitalism would ultimately destroy itself and be succeeded by a world without private property.

An advocate of a labor theory of value, Marx believed that all production belongs to labor because workers produce all value within society. He believed that the market system allows capitalists, the owners of machinery and factories, to exploit workers by denying them a fair share of what they produce. Marx predicted that capitalism would produce growing misery for workers as competition for profit led capitalists to adopt labor-saving machinery, creating a
"reserve army of the unemployed" who would eventually rise up and seize the means of production.

Institutionalist School

Institutionalist economists regard individual economic behavior as part of a larger social pattern influenced by current ways of living and modes of thought. They rejected the narrow Classical view that people are primarily motivated by economic self-interest. Opposing the laissez-faire attitude towards government's role in the economy, the Institutionalists called for government controls and social reform to bring about a more equal distribution of income.

Keynesian School

Reacting to the severity of the worldwide depression, John Maynard Keynes in 1936 broke from the Classical tradition with the publication of the General Theory of Employment, Interest, and Money. The Classical view assumed that in a recession, wages and prices would decline to restore full employment.Keynes held that the opposite was true. Falling prices and wages,  by depressing people's incomes, would prevent a revival of spending. He insisted that direct government intervention was necessary to increase total spending.

Keynes' arguments proved the modern rationale for the use of government spending and taxing to stabilize the economy. Government would spend and decrease taxes when private spending was insufficient and threatened a recession; it would reduce spending and increase taxes when private spending was too great and threatened inflation. His analytic framework, focusing on the factors that determine total spending, remains the core of modern macroeconomic analysis.

Summary

Economic theories are constantly changing. Keynesian theory, with its emphasis on activist
government policies to promote high employment, dominated economic policymaking in the early
post-war period. But, starting in the late 1960s, troubling inflation and lagging productivity prodded
economists to look for new solutions. From this search, new theories emerged:

Monetarism updates the Quantity Theory, the basis for macroeconomic analysis before Keynes. It
reemphasizes the critical role of monetary growth in determining inflation.

Rational Expectations Theory provides a contemporary rationale for the pre-Keynesian tradition of
limited government involvement in the economy. It argues that the market's ability to anticipate
government policy actions limits their effectiveness.

Supply-side Economics recalls the Classical School's concern with economic growth as a
fundamental prerequisite for improving society's material well-being. It emphasizes the need for
incentives to save and invest if the nation's economy is to grow.

These theories and others will be debated and tested. Some will be accepted, some modified, and
others rejected as we search to answer these basic economic questions: How do we decide what
to produce with our limited resources? How do we ensure stable prices and full employment of resources? How do we provide a rising standard of living
both for now and the future?

http://www.frbsf.org/econedu/unfrmd.great/greatschls.html#A5