Alfred Marshall
1842-1924
A momentous figure in the history of economic thought
Arguably the father of “neoclassical economics”
Synthesized classical and marginalist economics
Alfred Marshall
1842-1924
An academic, trained in mathematics
Guided by deep humanitarian need to improve the lives of the poor
Became professor of political economy at Cambridge
Biggest goal was to make economics a separate & well-known discipline, accessible to the public and the business world
Alfred Marshall
1842-1924
Very patient, thoughtful thinker and writer
Supposedly discovered marginalism in 1860s, but tested and refined it with his students, didn’t publish until 1890
[Keynes on marginalist revolution]: “Jevons saw the kettle boil and cried out with the delighted voice of a child; Marshall too had seen the kettle boil and sat down silently to build an engine.”
Alfred Marshall
1842-1924
Classical economists focused almost exclusively on supply & cost
Marginalists focused almost exclusively on demand and utility
German Historical economists focused on context & institutions, no universal scientific laws
Marshall wants to synthesize these, “nature makes no leaps”
Alfred Marshall
1842-1924
“Political Economy or Economics is a study of mankind in the ordinary business of life; it examines that part of individual and social action which is most closely connected with the attainment and with the use of the material requisites of well being.”
Marshall, Alfred, 1890, Principles of Economics
John Neville Keynes
Alfred Marshall
1842-1924
Alfred Marshall
1842-1924
“Economics has made greater advances than any other branch of the social sciences, because it is more definite and exact than any other. But every widening of its scope involves some loss of this scientific precision; and the question of whether the loss is greater than the gain resulting from its greater breadth of outlook, is not to be decided by any hard and fast rule.”
Marshall, Alfred, 1890, Principles of Economics
Alfred Marshall
1842-1924
“For that part of economic doctrine, which alone can claim universality, has no dogmas. It is not a body of concrete truth, but an engine for the discovery of concrete truth.”
Marshall, Alfred, 1890, Principles of Economics
Alfred Marshall
1842-1924
Marshall is not primarily interested in discovering static equilibrium allocation of resources like the marginalists
He is primarily interested in how the market system evolves and changes:
“The Mecca of the economist lies in economic biology rather than in economic dynamics”
Marshall, Alfred, 1890, Principles of Economics
Alfred Marshall
1842-1924
“I have not been able to lay my hands on any notes as to Mathematico-economics that would be of any use to you: and I have very indistinct memories of what I used to think on the subject. I never read mathematics now: in fact I have forgotten how to integrate a good many things.
“But I know I had a growing feeling in the later years of my work at the subject that a good mathematical theorem dealing with economic hypotheses was very unlikely to be good economics: and I went more and more on the rules—(1) Use mathematics as a shorthand language, rather than as an engine of inquiry. (2) Keep to them until you have done. (3) Translate into English. (4) Then illustrate by examples that are important in real life. (5) Burn the mathematics. (6) If you can’t succeed in (4), burn (3). This last I did often.”
Marshall, Alfred, 1906, Letter to A.L. Bowley
Alfred Marshall
1842-1924
Marshall famously kept mathematics to a minimum (in the appendices), focused on teachable graphs
His definitions & concepts are not very precise or tidy, but practical
Again, goal of appealing to businesspeople and the educated public, not technical specialists
Instead of the sharp Classical division of land vs. labor vs. capital, Marshall: “the factors of production”
For theory of the firm, “we shall have to study the expenses of a representative producer”
Alfred Marshall
1842-1924
Marshall famously focused his attention on partial equilibrium
Marshall clearly recognized the validity of general equilibrium (the Walrasians)
Alfred Marshall
1842-1924
“[In terms of long run equilibrium,] nothing of this is true in the world in which we live. Here every economic force is constantly changing its action, under the influence of other forces which are acting around it. Here changes in the volume of production, in its method, and its cost are ever mutually modifying one another; they are always affecting and being affected by the character and the extent of demand. Further all these mutual influences take time to work themselves out, and, as a rule, no two influences move at an equal pace. In this world therefore every plain and simple doctrine as to the relations between costs of production, demand and value is necessarily false: and the greater the appearance of lucidity which is given to it by skillful exposition, the more mischievous it is. A man is likely to be a better economist if he trusts to his common sense, and practical instincts, than if he professes to study the theory of value and is resolved to find it easy.”
Alfred Marshall
1842-1924
Because economics can run no experiments like physics, must do so with theoretical constructs by assumption to approximate causal relationships in the complex economy
Ceterus paribus, hold all else equal to investigate the likely consequences of a single change
Isolate a single market and ignore (but don’t deny) interdependencies with other markets (substitutes, complements, inputs, outputs, etc.)
“Time is a chief cause of those difficulties in economic investigations which make it necessary for man with his limited powers to go step by step”
Alfred Marshall
1842-1924
“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. It is true that when one blade is held still, and the cutting is effected by moving the other, we may say with careless brevity that the cutting is done by the second; but the statement is not strictly accurate, and is to be excused only so long as it claims to be merely a popular and not a strictly scientific account of what happens.”
Alfred Marshall
1842-1924
Cournot was the first to draw demand curves on a graph
Marshall switched the axes:
For better or worse (debatable!), we’ve used Marshall’s version ever since
Alfred Marshall
1842-1924
ϵq,p=%Δq%Δp=∂q∂p×pq
ϵq,p=%Δq%Δp
"Elastic" | "Unit Elastic" | "Inelastic" | |
---|---|---|---|
Intuitively: | Large response | Proportionate response | Little response |
Mathematically: | |ϵqD,p|>1 | |ϵqD,p|=1 | |ϵqD,p|<1 |
Numerator > Denominator | Numerator = Denominator | Numerator < Denominator | |
A 1% p-change | More than 1% change in qD | 1% change in qD | Less than 1% change in qD |
ϵq,p=∂q∂p×pq
Elasticity ≠ slope (but they are related)!
Price elasticity changes along the demand curve
Gets less elastic as ↓ price (↑ quantity )
R=pq
Region of Demand Curve | ΔR and Δp |
---|---|
Elastic |ϵ|>1 | p & R change opposite |
Unit Elastic |ϵ|=1 | p & R do not change |
Inlastic |ϵ|<1 | p & R change together |
Revenue max. at price where ϵ=−1
Alfred Marshall
1842-1924
U(x,y,z)=ax+by+cz
U(x,y,z)=xaybzc
Alfred Marshall
1842-1924
Marshall: assumed utility was measurable via prices
The marginal utility of a good is equal to its price times the “marginal utility of money”:
MUa=pa∗MUm
Alfred Marshall
1842-1924
“The amount demanded increases with a fall in price, and dminishes with a rise in price.”
Diminishing marginal utility (Gossen’s first law) ⟹ downward sloping demand
Optimum condition for maximizing utility: equalize marginal utility of the last dollar spent on each good
MUapa=MUbpb=MUcpc=MUm
Alfred Marshall
1842-1924
“The excess of the price which he would be willing to pay rather than go without the thing, over which he actually does pay”
MUa=pa×MUm
Implies that pa=MUaMUm: price directly can measure marginal utility
Consumers willing to pay more for earlier-consumed units of a good than for later-consumed units
Alfred Marshall
1842-1924
The “Cambridge cash-balance” approach to quantity theory of money, vs. Fisherian approach:
Nominal demand for money balances: MD=kPy
Nominal supply of money: MS=M
Equilibrium: MD=M, so P=Mky
Marshall, Alfred, 1871, “Money”
Marshall, Alfred, 1879, Economics of Industry
Marshall, Alfred, 1923, Money, Credit, and Commerce
Alfred Marshall
1842-1924
k is “desired” average level of nominal money balances MPy in long run
Depends on:
This is what Marshall really meant by his “marginal utility of money” MUm
Alfred Marshall
1842-1924
Recall Fisher’s equation of exchange: MV=Py†
Marshall (and Cambridge approach) alternatively uses k
† Updated to modern notation!
Alfred Marshall
1842-1924
“The fact is that in every state of society there is some fraction of their income which people find it worth while to keep in the form of currency, it may be a fifth, or a tenth, or a twentieth. A large command of resources in the form of currency renders their business easy and smooth, and puts them at an advantage in bargaining; but, on the other hand, it locks up in a barren form resources that might yield an income of gratification if invested, say, in extra furniture; or a money income, if invested in extra machinery or cattle.”
“[I]f everything else remains the same, then there is this direct relationship between the volume of currency and the level of prices...Of course, the less the proportion of their resources which peopel care to keep in the form of currency, the lower will be the aggregate value of the currency, that is, the higher will prices be with a given volume of the currency.”
Marshall, Alfred, 1899, “Evidence before the Indian Currency Committee”
Alfred Marshall
1842-1924
Same implications as Fisherian QTM
Ceteris paribus (for constant k and y):
“If [currency] is increased ten per cent, [prices] also will be increased by ten per cent.”
Vertical axis is purchasing power of money (classicals: ‘value of money’), inversely related to price level P
Nominal demand for money, MD=kPy, so real demand (MDP) is constant for given y ⟹ demand curve is a rectangular hyperbola
A doubling of M yields exactly double prices P and exactly cuts purchasing power of money, 1P in 12
If excess supply of money qD<qS
MUgoods>MUmoney
P is too low (1P too high) to clear market
People spend off excess money balances, buy real goods and services
Pushes up prices P, pushes down purchasing power 1P
If excess demand for money qD>qS
MUgoods<MUmoney
P is too high (1P too low) to clear market
People spend less/sell more to build up money balances to desired level
Pushes down prices P, pushes up purchasing power 1P
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