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The Marginalist School

The marginalist school of economic thought was founded in the 1870s by William S. Jevons, Karl Menger, Leon Walras, and Knut Wicksell. By the turn of the century, the marginalists had more fully explored the process of rational decision making on both sides of the market—the demand side and the supply side. Economic decisions, the marginalists argued, were typically made at the margin. In economics, “margin” refers to the next unit or the additional unit. The groundbreaking work of the marginalists soon dominated supply and demand analyses, the theory of value, and other topics related to decision making by market participants.

On the demand side of the market, the marginalists developed the concept of utility and how changes in utility effect the price people are willing to pay for goods or services. Utility refers to the usefulness or satisfaction a consumer derives from the consumption of an item. In the early 1870s, marginalists developed the law of diminishing marginal utility. This economic law states that as a consumer purchases additional units of the same item in a given period of time, the marginal utility falls. This observation is core to rational consumer decision making and to pricing decisions by businesses.

On the supply side of the market, the marginalists built on earlier work by the classical economists to more fully examine the value of resources used in production. The supply side of the market deals with the behaviors and actions of the producer. In the 1890s, Swedish economist Knut Wicksell developed the marginal productivity theory. According to this theory, firms should employ additional resources in production only when the additional (marginal) revenues were equal to or greater than the additional (marginal) costs that they had to pay for these resources. After all, if the marginal costs were greater than the marginal revenues, the firm would lose money. Meanwhile in Austria, Karl Menger developed the concept of derived demand, which stated the demand for resources was derived from the demand for the goods that these resources produced. In other words, resources—including human labor—have value only when they can be used to produce goods that people are willing to buy.

Marxism

Marxism is a school of economic thought grounded in socialist principles, dedicated to the overthrow of capitalism, and committed to the creation of a perfected form of socialism called communism. Marxism originated in the mid-nineteenth century when Germanborn Karl Marx teamed with English businessman Friedrich Engels to write The Communist Manifesto (1848). In this brief treatise, Marx and Engels examined the nature of class conflict throughout history, concluding that communism would inevitably replace the oppressive capitalist system. Marxism has sometimes been called scientific socialism to reflect the depth of Marx's examination of capitalism, its weaknesses, and reasons for its eventual collapse. Much of the theory of the Marxist school of economic thought is presented in The Communist Manifesto and in several volumes of Capital.

Marxism is based on socialist principles. But Marxism carried socialist ideas to a new, more revolutionary level in several key respects. First, it called for the complete abolition of private property, which Marxists believed was the root cause of injustice, oppression, and class conflict. Second, it argued that all surplus value—the value of the worker's contribution to the production of a good—belonged to the worker and not the capitalist who owned the plant. In Marx's view, the excesses of nineteenth-century industrialism such as sweatshops and absence of labor power intensified class antagonism. Third, Marxism offered a theory of history based on the clash of conflicting classes, broadly defined as the oppressor class and the oppressed class. Past conflicts that had toppled old political and economic systems were a prelude to the decisive battle between oppressors and the oppressed during the capitalist stage of history. Marx observed that under capitalism society was “splitting up into two great hostile camps, into two great classes directly facing each other: bourgeoisie and proletariat.”[1] The proletariat consisted of the industrial wage laborers, and the bourgeoisie consisted of the factory owners. The Marxists concluded that the inevitable clash between the proletariat and the bourgeoisie would likewise topple capitalism and result in a new and final stage of history, communism. Under communism, private property would disappear and the government would wither away.

Marxism drew its inspiration from the writings of Karl Marx, but the Marxist school of thought splintered into a number of directions soon after his death in 1883. One early debate within the Marxist camp concerned the inevitability of capitalism's demise and the triumph of socialism. This basic tenet of Marxism was challenged by Eduard Bernstein but was vigorously defended by those closest to Marx, including Friedrich Engels and Karl Kautsky.

During the twentieth century, Marxist views were adapted to address unforeseen situations. In the early 1900s, Russian revolutionary Vladimir Ilyich Lenin abandoned the Marxist notion that the proletarian revolution would necessarily begin in an industrialized country with a large urban proletariat, such as Germany or Great Britain. Lenin eventually led a successful communist revolution in largely agrarian Russia and, under the banner of Marxism-Leninism, established the Union of Soviet Socialist Republics in 1922. Similarly, Mao Zedong adapted Marxist ideas by tapping into the revolutionary fervor of China's rural peasantry, rather than an urban proletariat, to topple the Nationalist government of Chiang Kai-shek. In 1949 Mao established the People's Republic of China.

The Keynesian School

The Keynesian school of economic thought, also called the Keynesians, provided the theoretical foundations for greater government intervention to promote economic growth and stability. British economist John Maynard Keynes founded the Keynesian school in the 1930s. During the global depression of the 1930s, many of the world's advanced economies suffered from a drop in national output and investment as well as a dramatic rise in unemployment. In his landmark book—The General Theory of Employment, Interest, and Money (1936)—Keynes recommended that governments intervene in the economy to stimulate aggregate (total) demand, create jobs, and boost economic growth. Keynes's proposals were viewed as heresy by mainstream economists, many of whom were disciples of the classical laissez-faire doctrine. As the worldwide depression deepened during the 1930s, the influence of laissez-faire economists diminished.

Keynes focused on changing aggregate demand to promote economic growth and stability. Aggregate demand is the total demand for all goods in an economy. During the global depression of the 1930s, called the Great Depression in the United States, aggregate demand was low due to massive unemployment, an epidemic of bank failures, and low consumer confidence. Keynes believed that the federal government should increase aggregate demand by pumping more money into the economy.

To jump-start the U.S. and other stagnant economies, Keynes proposed an aggressive use of fiscal policy by the federal government. Specifically, he supported an expansionary fiscal policy, a policy that included tax reductions and increased government spending. Keynes noted that these fiscal policy actions would immediately put more money into the hands of individuals and businesses and, thus, cause a rebound in aggregate demand. Higher demand, in turn, would cause businesses to increase production, employ additional workers, and invest in new capital goods.

President Franklin D. Roosevelt, fireside chat, 1937. (Library of Congress)

President Franklin D. Roosevelt, fireside chat, 1937. (Library of Congress)

Governments from around the world, including the administration of Franklin D. Roosevelt (FDR) in the United States, latched onto the Keynesian solution during the 1930s. In the United States, FDR and Congress approved an avalanche of new programs, collectively called the New Deal, to bolster consumer confidence and aggregate demand. During the dark days of the Great Depression, FDR also provided moral support to the shaken American people with regular radio addresses called fireside chats.

The Keynesians ushered in a new era in economic thinking, particularly with respect to expanded government responsibilities in the economy. The Keynesians opened new discussions and debate in the field of macroeconomics, especially problems related to economic growth, unemployment, and inflation. In the United States, the Employment Act of 1946, which made it national policy to “promote maximum employment, production, and purchasing power,”[2] formalized a new era of government responsibility in supporting the nation's macroeconomic goals.

  • [1] Capitalism and Imperialism
  • [2] “The Employment Act of 1946,” in Documents in American History, 7th ed., edited by Henry S. Commager (New York: Appleton-Century-Crofts, 1963), 514–15.
 
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