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Lecture notes, cheat sheets
History of economic thought. Theories of general equilibrium and economic development (lecture notes)
Directory / Lecture notes, cheat sheets Table of contents (expand) LECTURE 9. THEORIES OF GENERAL EQUILIBRIUM AND ECONOMIC DEVELOPMENT 1. L. Walras. Creation of a general economic equilibrium model According to some researchers in the field of the history of economic thought, L. Walras (1834-1910) is the greatest economist of the nineteenth century. He earned such recognition for developing a system of general market equilibrium, which was called the closed model of economic equilibrium, set out in his main work “Elements of Pure Political Economy” (1874). Walras made an attempt to create a closed mathematical model of general economic equilibrium based on the principle of subjective utility and the premise that all economic actors of production are divided into two groups: owners of productive services (land, labor and capital) and entrepreneurs. Walras expressed the economic links between them through a system of interrelated equations, but for simplicity of presentation, we can illustrate the course of his reasoning with the help of a diagram. Households are understood as owners of production factors (labor, capital, land) under enterprises - buyers of production factors and at the same time producers of goods and services. As we can see, according to Walras, the owners of productive services are at the same time sellers.
of these services and buyers of consumer goods, and entrepreneurs - buyers of productive services and sellers of consumer products. Thus, production and consumption are connected through two interacting markets: markets for productive services (or factors of production) and consumer products. The supply of productive services and the demand for products are linked as follows: the supply of productive services is considered as a function of market prices for these services, and the demand for products is considered as a function of the prices of productive services (since they determine the income of the owners of production factors) and the prices of these products. Of course, the markets for factors of production and products are interconnected, but how does it follow that they are in a state of equilibrium? To answer this question, let's trace the movement of resources and products in kind and in cash. Let's start with households. The owners of the factors of production sell them in the resource market, earning income, which is nothing but the prices of the factors of production. With the income they receive, they go to the product market, exchanging them for the necessary goods and services. Let us pay attention to the fact that in the Walrasian scheme, households spend their income in full, that is, the amount of income received is equal to the amount of consumer spending, which is why there is no accumulation. Enterprises, in turn, are also connected with the market of resources and products. However, what is income for households (prices of production factors), for enterprises are costs, that is, payments to owners of production factors that they cover from the gross proceeds from sales of goods and services in the product market. The circle is closed. In the Walrasian model, the prices of factors of production are equal to the costs of enterprises, which are equal to the gross receipts of enterprises, and the latter, in turn, are equal to consumer spending by households. In other words, the equilibrium state of the markets means that the demand and supply of productive services are equal, there is a constant stable price in the market for products, and the selling price of products is equal to the costs, which are the prices of production factors. The Walrasian model, although logically complete, is too abstract in nature, as it excludes many important elements of real economic life. In addition to the lack of accumulation, oversimplifications include: ▪ static model (assumes that the stock and range of products remain unchanged, as well as production methods and consumer preferences are unchanged); ▪ the assumption of the existence of perfect competition and ideal awareness of production subjects. In other words, the problems of economic growth, innovation, changes in consumer tastes, and economic cycles remained outside the scope of the Walras model. Walras's merit lies more in posing the problem than in solving it. It gave impetus to economic thought to search for models of dynamic equilibrium and economic growth. We find the development of Walras's ideas in the works of the American economist V. Leontiev, whose algebraic theory of analysis of the input-output model in the forties of the twentieth century made it possible to numerically solve large systems of equations, called “balance equations”. However, the first economist who studied the issues of dynamic development within the framework of neoclassical theory was J. Schumpeter. 2. Economic views of J. Schumpeter So far, we have considered various economic schools, although this division is rather arbitrary. But even such a conditional division does not fit the figure of J. Schumpeter, who stands apart in the history of economic thought, combining in his theory both elements of institutionalism and premises of the neoclassical direction of economic science. J. Schumpeter (1883-1950), economist and sociologist, was born in Austria, where he gained fame as a theorist with the release of one of his most famous works, The Theory of Economic Development (1912). Since 1932, Schumpeter lived and worked in the United States, being a professor at Harvard University, where he published no less famous works "Business Cycles" (1939) and "Capitalism, Socialism and Democracy" (1942). Already in the work "The Theory of Economic Development" Schumpeter, in contrast to Walras, who studied the conditions of static equilibrium, develops a theory of economic development, placing in the center of analysis those internal factors that cause the economic development of the system. The very word "development" is already a novelty for neoclassical theory, since, as is known, it tended to consider static problems. Two fundamental ideas were placed in the center of her attention: the best use of available resources and equilibrium (partial - in Marshall, general - in Walras). And Schumpeter first, completely in the spirit of neoclassical theory, begins his analysis with a static model, where all parameters of production, exchange, distribution and consumption remain unchanged. Everything seems to move in a circle. Schumpeter calls this state the economic cycle. Considering the Walrasian model, we noted that with such an equilibrium, all incomes are equal to costs and the value of any product of production is equal to the value of the factors of production used, where the formation of values obeys the law of opportunity costs. There is no entrepreneurial profit (the excess of price over payment for factors of production acquired on the side is the cost of lost opportunities for the direct organizer of production). This is a pure neoclassical model. Schumpeter adds that it lacks not only profit, but also interest, because (since we have a process of unchanging economic circulation) there is no reason to distinguish between present and future income. But Schumpeter's contribution to economic theory lies precisely in the fact that he explores those factors that "blow up" the equilibrium of the market system from the inside. These internal factors are new production combinations, which determine the dynamic changes in the economy. Schumpeter identifies several types of fundamentally new combinations of factors of production: ▪ creation of a new product; ▪ use of new production technology; ▪ use of a new production organization; ▪ opening new markets and sources of raw materials. New combinations of factors of production are called "innovations". It should be emphasized that in Schumpeter's terminology "innovation" is not synonymous with the word "invention". Entrepreneurial activity is associated with the use of existing funds, and not with the creation of new ones. The possibilities for a new use of funds are in abundance in themselves, they can be known. But, as Schumpeter suggests, these are "dead" possibilities. The entrepreneur, on the other hand, implements them allotment, overcoming technological and financial difficulties and opens up new ways of making a profit, which should be considered as an excess over the income that was established in the process of circulation. And it is the entrepreneur, a person whose function is to implement a new combination of factors of production, that is given a particularly important role in Schumpeter's concept of economic development. It should be emphasized that entrepreneurship, according to Schumpeter, is a special gift, a property of the human character, in no way dependent on class, social belonging. This type of character is distinguished by the following features: ▪ self-reliance; ▪ risk preference; ▪ the value of one's own independence; ▪ focus on one’s own opinion; ▪ the need to achieve success, despite the fact that the intrinsic value of money for him is small; ▪ and as a key quality of an entrepreneur - the desire for innovation. The entrepreneur is the main subject of economic development. It is thanks to his activity that technical progress is carried out, an excess of value is created, the stationary situation is "hacked" and the economy receives an incentive for development. It is interesting to see how, in the theory of entrepreneurship, Schumpeter reconciles the concept of a rational ("economic") and a real ("irrational") person, the object of study of institutional economists. Considering the motives of economic activity in a static state, Schumpeter singles out the motive for satisfying needs on the basis of rational behavior (maximizing utility or benefit). Considering the dynamic model, Schumpeter believes that the motives of entrepreneurial activity are irrational, because the main motives are the self-development of the individual, success, the joy of creativity. An entrepreneur is driven by a thirst for activity and the will to win. It is curious to note that the entrepreneur, according to Schumpeter, is not burdened with an excess of intelligence, and in this case this is a positive quality. It is the relative limitation of his outlook that does not give him the opportunity to compare many different options for achieving the goal and indulge in long hesitation. The identification of irrational motives in the behavior of an entrepreneur led to the recognition that the theory of entrepreneurship is precisely the area where economic science and psychology found a common language, which contributed to the emergence of such a science as "economic psychology". Capitalist production, according to Schumpeter, cannot exist without constant revolutionary changes in the technique and technology of production, the development of new markets, and the reorganization of market structures. Such constant innovations carried out in the production process are the main source of profit that does not exist in a situation of simple reproduction (or, in Schumpeter's words, economic circulation). Profit takes place only when the economy is in constant motion, in the process of dynamic development. In connection with the development of a dynamic model of economic development, Schumpeter introduced the concepts of "effective competition" and "effective monopoly", linking them to the process of innovation and the function of entrepreneurship. Innovation, according to Schumpeter, is the core of a new type of competition, much more effective than price competition. Innovations make it possible to change not only technology and products, but also affect the structure of demand, the conditions for the formation of costs and prices. And competition, stimulated by the desire for profit at the expense of advantages in production costs and the quality of the product itself, Schumpeter called "effective competition." In Schumpeter's concept, a new type of monopoly is also associated with innovation, which differs from those forms of monopoly that are based on special rights and privileges, ownership of limited resources or scarce goods. Monopoly, which is a consequence of innovation, Schumpeter called effective, since it is formed in conditions of active competition, and, in his opinion, is incompatible with stagnation and exploitation through the price mechanism. The monopoly profit received by the innovator is an incentive and reward for innovation. At the same time, it is a transient phenomenon for a particular company, as it disappears under the influence of the same mechanism of competition to which the monopoly owes its existence, that is, as a result of specific innovations. Thus, in Schumpeter's theory, "effective monopoly" is a natural element of economic development. An important role in the study of internal factors of economic growth, Schumpeter gave credit, considering it as the most important condition for using existing factors to create new production combinations. In order for innovative entrepreneurs to be able to get their hands on the means of production, they must use bank credit. Banks "create" money for innovators, and this begins the redistribution of the flow of resources, that is, social capital. Thus, banks, according to Schumpeter, are a special phenomenon of development, which, speaking on behalf of the national economy, issue the authority to implement new production combinations. They act as necessary mediators between the desire to innovate and the ability to do so. The payment for the provision of such opportunities is the percentage, which is the price paid for the acquisition of new productive forces. According to Schumpeter, it is development in the true sense of the word (and not circulation) that in principle needs credit. But back to the entrepreneur. Having received a loan, he goes to the market for factors of production, where, according to our assumption, there is a complete balance of supply and demand and disrupts it. He needs additional resources and offers a higher price for them. The system of equilibrium prices is disturbed, the direction of resource flows changes, and hence the flow of consumer goods. The whole rhythm of the circulation breaks down, the whole system of prices, costs and incomes. At the same time, someone goes bankrupt, but the bulk of entrepreneurs follow the innovator - and such a "disturbance" of the system occurs constantly. It is this that is the usual state, and not the equilibrium circuit. And that is why entrepreneurial profit constantly exists and for these reasons capitalism does not stand still, but is constantly developing. Schumpeter is aware that the increase in money in circulation due to the credit provided by banks causes a general increase in prices, primarily for production resources, including wages. But, according to Schumpeter, this is not just inflation, as it is considered in quantity theory. As a result of this initial inflation, the course of the economic cycle is disrupted: enterprises that operate traditionally fail (because under the new conditions income does not cover expenses), innovative entrepreneurs, on the contrary, make a profit. There is not just an increase in prices, but also a parallel change in the economic structure, a transition to a new round of the development spiral. Thus, a bank loan turns out to be closely connected with the phenomenon of economic development, and money performs the function of not just a means of circulation and a measure of values, but plays the role of a catalyst for economic growth, including through profit and interest. Schumpeter connects the cyclical form of economic development with innovative activity. He devotes his work "Business Cycles" (1939) to the study of this problem. Having identified and established a connection between three types of cycles (long, classical and short), Schumpeter deduces the existence of economic cycles from the periods of inventions. The latter are carried out in jerks, when one invention "pulls" a bunch of innovations along with it. As Schumpeter writes, every innovation sets off a wave of imitations going out in all directions. Many of these waves diverge simultaneously, they overlap each other, and such a movement (when all waves are summed) cannot be smooth and uniform. It gives rise to periods of general upswing, which may be followed by periods of general decline. This is the essence of Schumpeter's approach to the analysis of business cycles. He saw the cause of economic crises in the panic associated with the termination of the economic boom, highlighting the psychological motive as central in explaining this economic phenomenon. Schumpeter was not only an economist, but also a sociologist who was interested in the prospects for the development of capitalism. Let me remind you that the driving force behind Schumpeter's development is an entrepreneur, an innovator. That is why Schumpeter saw the basis for the existence of capitalism in a classical private enterprise system based on small and medium-sized property. With the accumulation of wealth, its institutionalization, the emergence of corporations, the depersonalization of innovative activity occurs, the culture and nature of thinking change. The main figures in the business world are managers who manage large corporations. But the manager has completely different traits than the entrepreneur, and instead of the desire for innovation, risk and independence, we see caution, the desire for promotion and power, for the consistency of decision-making at all levels. And this is not accidental, since the hierarchical (bureaucratic) structure of a large corporation generates both relatively weak incentives for activities that are inadequate to entrepreneurs' risk incentives, and a certain loss of responsibility for doing business. And the very behavior of the "man of the organization", which implies loyalty, obedience, reliability, has nothing to do with the behavior of an entrepreneur. The figure of the entrepreneur disappears, and the possibility of economic development also disappears. Moreover, the exit from the stage of the entrepreneur also means the quick death of the bourgeoisie, since the interest is paid out of his profits. In addition, the disappearance of the figure of the entrepreneur will lead to the destruction of the social base of capitalism, the basis of which is the individual owner. But the main reason for the imminent, according to Schumpeter, the death of capitalism lies not in the sphere of the economy, but in the sphere of the cultural superstructure, since a hostile attitude towards entrepreneurs is formed in society from other social groups. Schumpeter lays the blame for this on radical intellectuals with their exorbitant ambition. He notes that one of the characteristic features of the civilization of late capitalism is the growing availability of education, including higher education. The number of highly educated people is growing, but there is no adequate growth of jobs corresponding to their claims. And then a large army of intellectuals begins to look for the reasons for their unsatisfactory position in the shortcomings of the existing social system, realizing itself in its fierce criticism. Thus, according to Schumpeter, an environment unsuitable for entrepreneurship is being formed and it will disappear, and along with its disappearance, social and social progress will stop. The paradoxical conclusion suggests itself that capitalism will wither away under the burden of its own successes - high rates of economic development, leading to the dominance of "big business" and the availability of education. But let us return again to the economic aspects of Schumpeter's views and consider in more detail his concept of profit and entrepreneurship against the backdrop of the evolution of profit theories. 3. The evolution of profit and entrepreneurship theories In the modern interpretation, net profit is considered as the balance after payments by the owner of all factors of production (interest, rent, wages), including the costs of lost opportunities or the so-called implicit costs. Under perfect competition, the total product is reduced to payments to factors of production, that is, under these conditions, economic (net) profit does not exist. However, this view of profit did not always exist, and its evolution was closely related to the evolution of views on entrepreneurship. The concept of an entrepreneur performing a function completely different from the functions of a capitalist and manager was formalized in the mid-eighteenth century by the French economist R. Cantimon. He showed that the discrepancy between market demand and supply creates opportunities to buy low and sell high. And Cantillon called people who use the opportunity to make a profit under these conditions entrepreneurs, that is, individuals who want to buy at a known price and sell at an unknown price. Moreover, he noted that these activities do not necessarily require production activities and do not necessarily consume the entrepreneur's personal funds. According to Cantillon, entrepreneurial profit is a matter of foresight and the willingness to take risks, and entrepreneurship itself is a special kind of economic function, consisting in bringing supply in accordance with demand in various product markets. This idea of Cantillon was further developed in the works of the American economist F. Knight. As for the representatives of classical political economy, neither Smith nor Ricardo identified the functions of the entrepreneur, apparently believing that the processes of production and investment are more or less automatic, not requiring decisions regarding risk assessments and any kind of foresight. Nor did they make a clear distinction between profit and interest. So, in considering the concepts of entrepreneurship, one should immediately move from Cantillon to J.B. Say, who, on the one hand, distinguished between the provision of capital to an enterprise, and on the other hand, the numerous functions of supervision, management, control and evaluation. The reward for the first function is interest, and profit acts as a reward for the rational combination of all factors of production. Say drew attention to the creative nature of this function in contrast to the routine, everyday operations of production management, actually distinguishing between the functions of an entrepreneur and a simple manager. The "marginalist revolution" solved the problem, since under conditions of perfect competition and static equilibrium, total product is exactly reduced to factor payments in accordance with the principle of marginal productivity. And what the classics called profit is now called interest. It is no coincidence that therefore the interest in the theory of profit coincides with the interest in the analysis of dynamic models. And Schumpeter's contribution to profit theory is undeniable. Profit in his dynamic model of economic development acts as a reward for entrepreneurial activity, for the discovery and implementation of new combinations of factors of production, for the embodiment of previously unknown, new market opportunities in the form of new goods, services, technologies, etc. According to Schumpeter, entrepreneurial profit is temporary , short-lived character and disappears as soon as the innovative form of production turns into a traditional, repetitive activity. The entrepreneur himself, as we have already noted, is a special social type with the ability to realize diverse market opportunities. As an integral part of the modern theory of profit, there is a view on the nature of profit expressed by the American economist F. Knight (1885-1972) in his famous book “Risk, Uncertainty, Profit” (1921), where he considers profit as income for bearing the burden of uncertainty. At the same time, Knight makes a clear distinction between the concepts of “risk” and “uncertainty”. In his opinion, a significant part of the risks in the economic process is calculable, is the object of insurance and therefore becomes an item of production costs, deducted from profit. Profit, according to Knight, arises from genuine uncertainty and represents the unexpected difference between expected and actual sales receipts as a result of guessing the price. Therefore, profit can be either positive or negative. Uncertainty generates a discrepancy between actual and expected income and the quantitative expression of this discrepancy is profit (loss). As a consequence, profits will disappear in a stationary economy, where all future events can be predicted. In addition to profit theories: a) as a temporary income received from technical innovations (I. Schumpeter); b) as a result of the uncertain nature of future events (F. Knight); There is another aspect of profit: c) profit as income generated by the existence of monopolies. Profit can exist if at least one of these conditions is present. Under conditions of perfect competition, which exists under static conditions with complete certainty of prospects, lowering prices to the level of production costs eliminates any additional profit over and above the sum of wages, interest and rent, which is formed under the influence of competition. An overwhelming amount of economic research in the last third of the nineteenth and early twentieth centuries was devoted to the analysis of static equilibrium and the problems of the optimal allocation of resources in conditions of perfect competition. However, the strengthening of monopolistic tendencies in the economy made it necessary to pay attention to the problem of pricing and distribution of resources under the domination of monopolies. Author: Agapova I. I. << Back: Historical school and institutionalism (The contribution of the historical school to the development of economic theory. Institutionalism. Economic views of T. Veblen) >> Forward: Theories of monopoly and monopolistic pricing (Analysis of the process of monopolization of the economy by representatives of the historical school and Marxism. The theory of monopolistic competition by E. Chamberlain. The theory of imperfect competition by J. Robinson)
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