Lecture 2. Basic Microeconomics

Labor force – part of the population who are at least 15 years old, willing and able to workUnemployment rate – the percentage of the labor force that is unemployedUnderemployment – part of the labor force who work for less than 40 hours per weekVisible underemployment – those people working for less than 40 hours per week and wanting additional workInvisible underemployment – those people working for 40 hours or more per week and still wanting additional workFrictional unemployment – unemployment that results because it takes time for workers to search for the jobs that best suit their tastes and skillsStructural unemployment – unemployment that results because the number of jobs available in some labor markets is insufficient to provide a job for everyone who wants oneLabor problems – conflicts on social reality with social ideals that normally rise out of employmentLaissez-Faire Theory – states that individuals ought to be free to act in their own self- interest. They must be allowed to move about without interference, choose their own business and occupation, gain wealth, do whatever they like with their profits and property.Market – a place where buyers and sellers interact and engage in exchange

Classical Theory of Economics (mid 1700s and 1800s)The classical theory of economics, which dominated in the 18th and early 19th centuries,

laid the foundation for much of modern economics. Sometimes referred to as laissez faire economics, classical theory emphasized growth, free trade, and competition, as free from government regulation as possible. Under classical thought, when individuals pursue their own interest, society as a whole benefits.

Under classical economics, the self-regulating market transforms a seemingly chaotic process of buying and selling among consumers and producers into an orderly system of transactions that meets individual needs and increases national wealth.

Under classical economics, the role of government is to provide national defense, a system of justice that includes enforcement of contracts and a system of public works, including infrastructure and education.

Smith, Adam, 1723–90, Scottish economist, educated at Glasgow and Oxford. He became professor of moral philosophy at the Univ. of Glasgow in 1752, and while teaching there wrote his Theory of Moral Sentiments (1759), which gave him the beginnings of an international reputation. He is referred to as the “Father of Economics”. He travelled on the Continent from 1764 to 1766 as tutor to the duke of Buccleuch and while in France met some of the physiocrats and began to write An Inquiry into the Nature and Causes of the Wealth of Nations, finally published in 1776.

In that work, Smith postulated the theory of the division of labor and emphasized that value arises from the labor expended in the process of production. He was led by the rationalist current of the century, as well as by the more direct influence of Hume and others, to believe that in a laissez-faire economy the impulse of self-interest would bring about the public welfare; at the same time he was capable of appreciating that private groups such as manufacturers might at times oppose the public interest. One of his major contributions was his analysis of the relationship between consumers and producers through demand and supply, which ultimately explained how the market works through the invisible hand.

'Labor Theory of Value '- an economic theory that stipulates that the value of a good or service is dependent upon the labor used in its production. The theory was first proposed by Adam Smith (1723-1790), the founder of modern economics, and was an important concept in the philosophical ideals of Karl Marx. The labor theory of value suggests that goods which take the same amount of time to produce should cost the same.

Malthus, Thomas Robert (February 13, 1766 – December 29, 1834) was a British demographer and political economist, best known for his highly influential views on population growth. Malthus is widely regarded as the founder of modern demography. He made the prediction (Essay on Population, 1789) that population would outrun food supply, leading to a decrease in food per person and so to widespread famine. He thus advocated sexual abstinence and late marriages as methods of controlling the population growth.

The influence of Malthus' theories was substantial. His theory of demand-supply mismatches, which he termed "gluts" was a precursor to later theories about the Great Depression, and to the works of admirer and economist John Maynard Keynes. Malthus' idea of humanity’s "Struggle for existence” also had a decisive influence on Charles Darwin and evolutionary theory. Although Malthus opposed the use of contraception to limit population growth, his work had a strong influence on Francis Place, whose Neo-Malthusian movement was the first to advocate contraception. Concerns based on Malthus' theory also helped promote the idea of a national population Census in the UK. His writings also were also influential in bringing about the Poor Law Amendment Act of 1834.

Thomas Malthus is a key figure in demography; he thought that human population increases much faster than agricultural production. Given this situation, something would have to hold the population growth in check. He believed that there were two general kinds of checks that limited population growth: preventive checks and positive checks. Preventive checks reduce the birth rate, while positive checks increase the death rate.

Ricardo, David (1772–1823) British economist, of Dutch-Jewish parentage. At the age of 20 he entered business as a stockbroker and was so skillful in the management of his affairs that within five years he had amassed a huge fortune. He then turned much of his attention to scientific topics, and in 1799, after reading Adam Smith's The Wealth of Nations, began to study political economy. However, 10 years elapsed before the appearance of his first writings on the subject, a series of letters to the Morning Chronicle. A number of pamphlets and tracts followed, in turn succeeded by Ricardo's major work, The Principles of Political Economy and Taxation (1817). In that book he presented most of his important theories, especially those concerned with the determination of wages and value. For the problem of wages he proposed the "iron law of wages," according to which wages tend to stabilize around the subsistence level. Any rise in wage rates above subsistence will cause the working population to increase to the point that heightened competition among the glut of laborers will merely cause their wages to fall back to the subsistence level.

Mill, John Stuart (1806–73) British philosopher and economist. A precocious child, he was educated privately by his father, James Mill. In 1823, abandoning the study of law, he became a clerk in the East India company, where he rose to become head of the examiner's office by the time of the company's dissolution (1858). During this period he contributed to various periodicals and met with discussion groups, one of which included Thomas Macaulay, to explore the problems of political theory. His A System of Logic (1843) was followed in 1848 by the Principles of Political Economy, which influenced English radical thought.

Neoclassical Economics (around 1870s)Neoclassical Economics main concern was market system efficiencies. It brought

recognition to the economists Leon Walras, who introduced the general economic system, and Alfred Marshall, who became the most influential economist during that time because of his book Principles in Economics. Leon Walras developed the analysis of equilibrium in several markets. On the other hand, Alfred Marshall developed the analysis of equilibrium of a particular market and the concept of “marginalism”.

Keynes, John Maynard, Baron Keynes of Tilton (kānz), 1883–1946, English economist and monetary expert, studied at Eton and Cambridge.

Keynes's departure from classical concepts of laissez-faire dated from the mid-1920s, when he formulated the Liberal party's program to promote employment by a program of government spending on public works. Keynes came to believe that such a program would

increase national purchasing power as well as foster employment in complementary industries. For the sake of full employment Keynes also modified his classical belief in international free trade. His ideas, based on large-scale government economic planning, are best expressed in his chief work, The General Theory of Employment, Interest, and Money (1936). Coming at a time when many nations had been racked by depressed economies, the book offered a sharp critique of laissez-faire economic policies and argued that central government needed to step in, particularly during periods of chronic unemployment. Other works by Keynes from this period are the Tract on Monetary Reform (1923) and the Treatise on Money (1930).

'Keynesian Economics'An economic theory stating that active government intervention in the marketplace and

monetary policy is the best method of ensuring economic growth and stability. A supporter of Keynesian economics believes it is the government's job to smooth out the bumps in business cycles. Intervention would come in the form of government spending and tax breaks in order to stimulate the economy, and government spending cuts and tax hikes in good times, in order to curb inflation. In Keynesian theory, government action is designed to stimulate the market, not to eliminate it.