Download Classical economics is widely regarded as the first modern school of

Classical economics is widely regarded as the first modern school of economic thought. Its
major developers include Adam Smith, Jean-Baptiste Say, David Ricardo, Thomas Malthus
and John Stuart Mill. Sometimes the definition of classical economics is expanded to include
William Petty and Johann Heinrich von Thünen.
Adam Smith's The Wealth of Nations in 1776 is usually considered to mark the beginning of
classical economics. The school was active into the mid 19th century and was followed by
neoclassical economics in Britain beginning around 1870.
Classical economists and their immediate predecessor reoriented economics away from an
analysis of the ruler's personal interests to broader national interests. Adam Smith, and also
physiocrat Francois Quesnay, for example, 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.
Rational choice theory, also known as rational action theory, is a framework for
understanding and often formally modeling social and economic behavior. It is the dominant
theoretical paradigm in microeconomics. It is also central to modern political science and is
used by scholars in other disciplines such as sociology and philosophy.
The 'rationality' described by rational choice theory is different from the colloquial and most
philosophical uses of rationality. 'Rationality' means in colloquial language 'sane' or 'in a
thoughtful clear headed manner'. In Rational Choice Theory 'rationality' simply means that a
person reasons before taking an action. A person balances costs against benefits before taking
any action, be it kissing someone, lighting up a cigarette or murdering an old man. In rational
choice theory all decisions, crazy or sane, are arrived at by a 'rational' process of weighing
costs against benefits.
Gary Becker was an early proponent of applying rational actor models more widely. He won
the 1992 Nobel Prize in Economics for his studies of discrimination, crime, and education.
Although models used in rational choice theory are diverse, all assume individuals choose the
best action according to stable preference functions and constraints facing them. Most models
have additional assumptions. Proponents of rational choice models do not claim that a model's
assumptions are a full description of reality, only that good models can aid reasoning and
provide help in formulating falsifiable hypotheses, whether intuitive or not. Successful
hypotheses are those that survive empirical tests.
It is widely used as an assumption of the behavior of individuals in microeconomic models
and analysis. Although rationality cannot be directly empirically tested, empirical tests can be
conducted on some of the results derived from the models. Over the last decades rational
choice theory has also become increasingly employed in social sciences other than economics,
such as sociology and political science.[1] It has had far-reaching impacts on the study of
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political science, especially in fields like the study of interest groups, elections, behaviour in
legislatures, coalitions, and bureaucracy.[2]
Models that rely on rational choice theory often adopt methodological individualism, the
assumption
Neoclassical economics is a term variously used for approaches to economics focusing on the
determination of prices, outputs, and income distributions in markets through supply and
demand, often as mediated through a hypothesized maximization of income-constrained utility
by individuals and of cost-constrained profits of firms employing available information and
factors of production, in accordance with rational choice theory.[1] Neoclassical economics
dominates microeconomics, and together with Keynesian economics forms the neoclassical
synthesis, which dominates mainstream economics today.[2] There have been many critiques of
neoclassical economics, often incorporated into newer versions of neoclassical theory as
human awareness of economic criteria changes.
The term was originally introduced by Thorstein Veblen in 1900, in his Preconceptions of
Economic Science, to distinguish marginalists in the tradition of Alfred Marshall from those in
the Austrian School.[3][4] It was later used by John Hicks, George Stigler, and others who
presumed that significant disputes amongst marginalist schools had been largely resolved[5] to
include the work of Carl Menger, William Stanley Jevons, John Bates Clark and many
others.[4] Today it is usually used to refer to mainstream economics, although it has also been
[6]
used as an umbrella term encompassing a number of mainly defunct schools of thought,
notably excluding institutional economics, various historical schools of economics, and
Marxian economics, in addition to various other heterodox approaches to economics.
Overview
Neoclassical economics is the singular element[clarification needed] several schools of thought in
economics address. There is not a complete agreement on what is meant by neoclassical
economics, and the result is a wide range of neoclassical approaches to various problem areas
and domains -- ranging from neoclassical theories of labor to neoclassical theories of
demographic changes. As expressed by E. Roy Weintraub, neoclassical economics rests on
three assumptions, although certain branches of neoclassical theory may have different
approaches:
1. People have rational preferences among outcomes that can be identified and associated
with a value.
2. Individuals maximize utility and firms maximize profits.
3. People act independently on the basis of full and relevant information.
From these three assumptions, neoclassical economists have built a structure to understand the
allocation of scarce resources among alternative ends -- in fact understanding such allocation
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is often considered the definition of economics to neoclassical theorists. Here's how William
Stanley Jevons presented "the problem of Economics".
"Given, a certain population, with various needs and powers of production, in possession of certain
lands and other sources of material: required, the mode of employing their labour which will maximize
the utility of their produce."[7]
The exogenous growth model, also known as the neo-classical growth model or
Solow–Swan growth model is a term used to sum up the contributions of various authors to
a model of long-run economic growth within the framework of neoclassical economics.
Development of the model
The neo-classical model was an extension to the 1946 Harrod–Domar model that included a
new term: productivity growth. Important contributions to the model came from the work done
by Robert Solow;[1] in 1956, Solow and T.W. Swan developed a relatively simple growth
model which fit available data on US economic growth with some success.[2] In 1987, Solow
received the Nobel Prize in Economics for his work. Solow was also the first economist to
develop a growth model which distinguished between vintages of capital.[3]In Solow's model,
new capital is more valuable than old (vintage) capital because--since capital is produced
based on known technology, and technology improves with time--new capital will be more
[3]
productive than old capital. Both Paul Romer and Robert Lucas, Jr. subsequently developed
alternatives to Solow's neo-classical growth model.[3] Today, economists use Solow's
sources-of-growth accounting to estimate the separate effects on economic growth of
technological change, capital, and labor.[3]
Graphical representation of the model
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The model starts with a neoclassical production function Y/L = F(K/L), rearranged to y = f(k),
which is the orange curve on the graph. From the production function; output per worker is a
function of capital per worker. The production function assumes diminishing returns to capital
in this model, as denoted by the slope of the production function.
n = population growth rate
d = depreciation
k = capital per worker
y = output/income per worker
L = labor force
s = saving rate
Capital per worker change is determined by three variables:

Investment (saving) per worker

Population growth, increasing population decreases the level of capital per worker.

Depreciation – capital stock declines as it depreciates.
Mathematical framework
The Solow growth model can be described by the interaction of five basic macroeconomic
equations:

Macro-production function
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
GDP equation

Savings function

Change in capital

Change in workforce
[edit] Macro-production function
This is a Cobb–Douglas function where Y represents the total production in an economy. A
represents multifactor productivity (often generalized as technology), K is capital and L is
labor.
An important relation in the macro-production function:
which is the macro-production function divided by L to give total production per capita y and
the capital intensity 'k.
[edit] Savings function
This function depicts savings, I as a portion s of the total production Y.
[edit] Change in capital
The d is change of depreciation.
[edit] Change in workforce
gL is the growth function for L.
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Gross Domestic Product - GDP
What Does Gross Domestic Product - GDP Mean?
The monetary value of all the finished goods and services produced within a country's borders in a
specific time period, though GDP is usually calculated on an annual basis. It includes all of private
and public consumption, government outlays, investments and exports less imports that occur
within a defined territory.
GDP = C + G + I + NX
where:
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"C" is equal to all private consumption, or consumer spending, in a nation's economy
"G" is the sum of government spending
"I" is the sum of all the country's businesses spending on capital
"NX" is the nation's total net exports, calculated as total exports minus total imports. (NX =
Exports - Imports)
Investopedia explains Gross Domestic Product - GDP
GDP is commonly used as an indicator of the economic health of a country, as well as to gauge a
country's standard of living. Critics of using GDP as an economic measure say the statistic does
not take into account the underground economy - transactions that, for whatever reason, are not
reported to the government. Others say that GDP is not intended to gauge material well-being, but
serves as a measure of a nation's productivity, which is unrelated.
Gross National Product - GNP
What Does Gross National Product - GNP Mean?
An economic statistic that includes GDP, plus any income earned by residents from overseas investments, minus income earned within the domestic
economy by overseas residents.
Investopedia explains Gross National Product - GNP
GNP is a measure of a country's economic performance, or what its citizens produced (i.e. goods and services) and whether they produced these
items within its borders.
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