David Ricardo is one of history's most influential economists.
Born in England, Ricardo made a fortune on the London Stock Exchange. This wealth gave him the time to write and to serve in Parliament's House of Commons. His most famous work, «Principles of Political Economy and Taxation» (1817), marked him as the greatest spokesman for classical economics since Adam Smith.
Ricardo is especially famous in international economics for demonstrating the advantages of free trade. Free trade is a policy in which tariffs and other barriers to trade between nations are removed. To prove his point, Ricardo developed a concept we now call the principle of comparative advantage. Comparative advantage enabled him to demonstrate that one nation might profitably import goods from another even though the importing country could produce that item for less than the exporter. Ricardo's explanation of comparative advantage went as follows:
Portugal and England, both of whom produce wine and cloth, are considering the advantages of exchanging those products with one another.
Let's assume that:
• x barrels of wine are equal to (and therefore trade evenly for) у yards of cloth.
• In Portugal 80 workers can produce x barrels of wine in a year. It takes 120 English workers to produce that many barrels.
• 90 Portuguese workers can produce у yards of cloth in a year. It takes 100 English workers to produce у yards of cloth.
We can see, Ricardo continued, that even though Portugal can produce both wine and cloth more efficiently than England, it pays them to specialize in the production of wine and import English cloth. This is so because by trading with England, Portugal can obtain as much cloth for 80 worker-years as it would take 90 worker-years to produce themselves.
England will also benefit. By specializing in cloth, it will be able to obtain wine in exchange for 100 worker-years of labour rather than 120.
As a Member of Parliament, Ricardo pressed the government to abandon its traditional policy of protection. Though he did not live to achieve that goal, his efforts bore fruit in the 1840s when England became the first industrial power to adopt a policy of free trade. There followed 70 years of economic growth during which the nation became the world's wealthiest industrial power.
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His textbook «Principles of Economics» (1890), and the doctrines that it discussed, became the standard for the teaching of that subject until well into the 1940s. Marshall spent most of his adult life as a professor of Economics at Cambridge University. His most famous pupil, John Maynard Keynes, described Marshall as «the greatest economist of the 19th century. » Interestingly, Keynes went on to become the most influential economist of the 20th century.
Marshall is best known for the order that he made out of the theories of the earlier «classical economists» like Adam Smith, David Ricardo and John Stuart Mill. («Classical» is the name given by modern economists to the theories of those whose views were most widely held during the 75 years following the publication of «The Wealth of Nations»). Despite the passage of 100 years since the publication of his «Principles», his analysis of market forces is still relied upon to explain economic events.
In Marshall's world, economic events could be explained in terms of the equilibrium market price resulting from the interaction of supply and demand. One of Marshall's lasting contributions was differentiating between supply and demand in the short run and the long run. Comparing the two forces to the blades of a scissors, he argued that neither could function without the other. But, just as (depending on how the scissors is held) one blade can be more active than the other, so supply and demand varies in importance in the long and short run. In the short run, the quantity of available goods is more or less fixed (because crops have been planted, production schedules set, etc.). Therefore it is the demand for those items that will be most influential in determining their price. In the long run, he went on, the opposite is true. Both farmers and businesses can add to or reduce their production facilities as the needs dictate. In that way the supply side of the market becomes most influential in determining price.
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John Maynard Keynes stands with Adam Smith and Karl Marx as one of the world's most influential economists. The son of a noted British economist, Keynes amassed a fortune through speculation in stocks and commodities. He served the British government as a financial adviser and treasury official through most of his adult life and was a key participant in the negotiations following both World Wars I and II.
Although Adam Smith had written «The Wealth of Nations» about the time of the American Revolution, by the 1930s little had changed in the thinking of mainstream economists. Most would have agreed with Smith, that the best thing government could do to help the economy would be to keep its hands off. They reasoned that as long as the economy was free to operate without interference, the forces of supply and demand would come into balance. Then, with total supply and demand in equilibrium, everyone looking for work could find a job at the prevailing wage, and every firm could sell its products at the market price.
But the 1930s was the period of the Great Depression. Despite the assurances of the classical economists, the fact was that unemployment and business failure had reached record proportions in the United States and the rest of the industrialized world. It was at this time (1936) that Keynes' «General Theory of Employment, Interest, and Money» was published. The «General Theory» transformed economic thinking in the 20th century much the way that «The Wealth of Nations» had in the 18th.
Keynes demonstrated that it was possible for total supply and demand to be at equilibrium at a point well under full employment. What is more, Keynes demonstrated that unemployment could persist indefinitely, unless someone stepped in to increase total demand.
The «someone» Keynes had in mind was government. He reasoned that if, for example, government spent money on public works and the income received by formerly idle workers would lead to increased demand, a resurgence of business activity and the restoration of full employment.
The suggestion that government abandon laissez faire in favour of an active role in economic stabilization was regarded as revolutionary in the 1930s. Since then, however, the ideas advanced by the «Keynesian Revolution» have become part of conventional wisdom. Now, whenever a nation appears to be entering into a period of recession or inflation, economists and others immediately think of steps the government might take to reverse the trend.
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Standards of living in many developing nations continue to decline because the growth in population is greater than economic growth. If world economic growth continues to average about two percent annually, nearly half the world's people will live in countries where population growth exceeds economic growth.
This was foretold by an 18th-century English economist, Thomas Malthus. In his «Essay on Population» (1798) Malthus warned of the dire consequences of uncontrolled population growth. His argument was direct and simple. While food supplies can be increased through the addition of land and labour, the rate of growth is in an arithmetic progression (2, 4, 6, 8, 10 and so on). But population growth expands in a geometric progression (2, 4, 8, 16, 32, 64 and so on).
Given the difference between the rate of population growth and that of food production, Malthus concludes that a large portion of humanity was doomed to a life of misery. Worse yet, as the arithmetically increasing food production fell short of satisfying the geometrically increasing population, malnutrition and disease would take their toll until the rising death rate restored the balance between food and population.
Other than urging the poor to have fewer children, there was nothing that society could do to reduce starvation or suffering, Malthus thought. For that reason, he opposed legislation to provide relief and housing for those living in poverty. In his view, such aid would simply encourage the poor to have more children and worsen their lot. It is little wonder that after reading the «Essay on Population», Thomas Carlyle, a contemporary British writer, called Economics the «dismal [depressing] science. » Since Malthus's day several factors have prevented the fulfillment of his prophecies. The most visible of these has been the enormous increase in food production, on the one hand, and declining birthrates in the industrialized nations on the other. Food production increased far beyond anything he could have foreseen, owing to scientific and technical advances in farming. Meanwhile, declining birthrates have brought several European countries near zero population growth.
Critics of Malthusian theory argue that the focus on population misses the main causes of hunger and starvation. The fact is that the agricultural nations grow enough to feed themselves and the rest of the world. However, not enough food reaches those in need because poor nations do not have the international currency with which to purchase it from world suppliers.
Thomas Malthus, a controversial figure in his own time, remains one today. To some he was a great prophet whose theories are still relevant. To others, his opinions are as shortsighted and inappropriate today as they were nearly two hundred years ago.
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Irving Fisher spent most of his adult life as a professor of Economics at Yale University. An accomplished mathematician, he used those skills to explain many of his theories. In his best known formulation, the equation of exchange, Professor Fisher showed the relationship between the quantity of money in circulation and the level of prices.
The equation of exchange is stated as follows:
MV = PQ, where:
M = money supply
V = velocity of circulation
P = average price of goods and services
Q = quantity of units sold
Simply stated, the equation of exchange tells us that total spending is equal to the total value of the goods and services produced by the economy. Let's see why. M is the total amount of money in circulation, and V is its velocity. Velocity is simply the number of times that money turns over in a year. In other words, the amount of money in circulation, multiplied by the number of times it is spent (MV) is equal to the total amount of money spent by the economy in the course of the year. To illustrate, let's suppose that each student in your class produced a product for sale, and that the selling price of each item is $1. Your teacher buys the product from the student sitting in the first row, first seat. That student uses the dollar to buy the product from the student in the second seat.
The process continues around the room as each student uses the dollar from the preceding student to buy the product of the next student. Assuming that there are 30 class members (including the teacher), 30 items will be sold. One dollar bill will be exchanged 30 times. Applying the equation of exchange, the total amount of money in circulation will be $30 because:
M = $1; V = 30; and MV = $1 x 30 = $30.
The equation of exchange helps to explain why prices (and therefore the value of money) fluctuate. Since MV = PQ, it follows that when V and Q are constant, any change in the money supply will directly affect prices. In other words, when the money supply increases, so will prices, and vice versa. We can also see that increases in the money supply will not result in price increases if the output of goods and services is increased at the same or a faster rate.
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For more than half of Europe and a third of the world's population, history's greatest economist was Karl Marx. Born in Germany, Marx's revolutionary activities got him into trouble with the authorities, and from 1842 until his death in 1883 he lived his life in exile.
In 1849, Marx moved to London, England, where he studied, wrote, and produced his greatest work "Capital".
Marx's single-minded dedication to his studies made it all but impossible for him to earn a living. Were it not for the financial help he received from his friend Frederick Engels, a wealthy textile manufacturer from Manchester, England, he and his family might have starved to death. As it was, they lived a life of poverty.
In 1845, the League of the Just (later to change its name to the Communist League) asked Marx and Engels to prepare a statement of beliefs. They wrote “The Communist Manifesto”. The “Manifesto”, which contains some of the most memorable lines of revolutionary literature, concludes with: «... Let the ruling classes tremble at a Communistic revolution. The proletarians [workers] have nothing to lose but their chains. They have a world to win. Working men of all countries unite!».
The Economic Theories of Karl Marx
It is not possible to summarize briefly everything that Karl Marx had to say about the world in which he lived. However, the following paragraphs describe some of his more important theories.
The economic interpretation of history. In Marx's view, the course of history has been determined almost solely by economic forces. Forget about things like great men and women, religion, patriotism, and the like. Look instead, he said, at the economic events of the time to find the real reasons why people and states behaved the way they did.