Judd W. Patton, Ph.D. (Biography) Bellevue University Online
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A Historical Perspective on Economic Schools of Thought
by
Dr. Judd W. Patton

Once upon a time there were two skeletons locked in a closet.  After a long silence, one finally rattled over the other one and said, “How did we ever got in this mess?”  After a short pause the second one rattled back, “I don’t know.  But if we had any guts, we’d get out!”  Yes, world economic conditions of chronic unemployment, continually rising prices, labor strife, pollution, persistent poverty, and threats of international trade wars reveal all too clearly the “mess” of the new 21st century.  Moreover, it is going to take more than just “guts” to conquer these problems.

 Obviously something is fundamentally and desperately wrong.  But there is hope!  Mankind can triumph over these seemingly insolvable economic problems (triumph is nothing more than “tri”, with some “umph” added!), but first humankind needs to be educated.  Our economic woes are rooted in a lack of knowledge and understanding regarding economic cause and effect.

Cause and Effect

For every effect there must be a cause.  Basic truth?  Indeed.  Conventional wisdom to the contrary, there is a fundamental and primary cause to the phenomenon of ever rising prices, popularly called inflation.  Likewise, there are basis causes for unemployment and recessions.  The same is true for all economic disorders.

 It’s all a matter of cause and effect.  Once identified, elimination of the causes must necessarily eliminate the effects.

 So who has the knowledge and wisdom of the basic laws and principles governing economic events?  Besides many intelligent laymen and businessmen, the obvious individuals to look to for the answers would be the specialists in economic theory, the economists.

 Unfortunately, that brings us to a disturbing dilemma.  Which economists should one seek out?  There are Supply-Siders, Demand-Siders, Conservatives, Liberals, Neo-Classicals, Monetarists, Marxists, et cetera.  Each has different principles, different cause and effect relationships, and different policy prescriptions.  Ghastly!  If you ask six economists about a particular economic problem, you will likely get at least seven different answers!

 To make matters worse, many of today’s economists frankly feel disillusioned.  A well-known economist, Kenneth Boulding, expressed his sentiment that today there exists among economists, “a generally hopeless feeling that all the answers to social questions are wrong.”  Looking at the performance of economic advisors, Nobel-winning economist F. A. Hayek expressed his disillusionment when he said, “one sometimes feels that untaught common sense would probably have done better.” 

The science of economics today appears to be in as much chaos and distress as world economies.  Perhaps there is a relationship!  Ironically, economics has been dubbed the “dismal science” since the early nineteenth century.

 Classical Economics

The science of economics is generally recognized by economic historians to have begun with the 1776 publication, Inquiry into the Nature and Causes of the Wealth of Nations by the Scottish moral philosopher Adam Smith.  He, unlike his predecessors of previous centuries, systematically deduced many principles of cause and effect relationships in a market economy.  As a result he became recognized as the “father of economics.”  In addition he founded a tradition known now as the Classical School of Economics, which lasted nearly a century.  Great economists, such as Jean-Baptist Say, James Mill, David Ricardo, and John Stuart Mill, subsequently developed the tradition and were a major force in ushering in the age of Capitalism.

 For Adam Smith and most of the classical economists, economics, known to them as political economy, was a subdivision of moral philosophy.  Their economic science was built on a moral base.  Economic science was not hermetically sealed from moral questions of right and wrong.

 Adam Smith himself believed in the existence of a moral order that he called natural liberty or natural law.  For him economics was a normative science, which of course, explains what ought to be.  He convincingly made his case, based in his moral framework that laissez-faire Capitalism, besides being a more productive system than its alternatives, was the only right, moral choice.  Under Capitalism individuals, acting in their own self-interest (not necessarily selfishly) are led to promote, as through an invisible hand, the general well-being of society.  Competitive Capitalism was in harmony with the natural, God-ordained order.

 Neo-Classical Economics

However, the Classical Traditionalists had one major, glaring flaw in their work.  They believed that market prices were determined in the long run by the amount of labor time embodied in the products.  This simply did not square with reality.  Why for instance did gold command a higher price than iron and its products, when the latter not only required more labor time to produce but also seemed more useful as well?  Their answer was highly unsatisfactory.

 Then in the 1870s three economists, working independently, “revolutionized” economic science by discovering the subjective theory of value as the basis for market prices and phenomena.  Carl Menger at the University of Vienna, William Jevons at Cambridge University and Leon Walras at the University of Lausanne perceived that it is the acting, preferring, valuing individual that is the source of value and prices, not labor time!  The result was the birth of the Neo-Classical Tradition.

 This new foundational principle subsequently produced great fruit.  However, key differences in the three founders’ expositions led to three separate schools of thought within the Neo-Classical Tradition.  Only the followers of Menger developed the subjective insight.  More on them later.

 Rising of Humanism and Empiricism

Another equally “revolutionary” idea emerged during the nineteenth century.  The idea was that economics should become an “exact” science, like the natural sciences, by adopting its trial and error approach.  The impetus to this experimental or empirical method was due in large part to the notable successes and progress of Newtonian physics, biology, and astronomy.

 A corollary to this development was that science should not have a moral foundation, as did Adam Smith and the Classicals.  Science should be value-free.

 It seems clear and obvious that no scientist should inject his opinions, prejudices, and judgments into his analysis or work.  Scientists by definition are unbiased researchers.  Nevertheless, it is widely recognized today that all science is based on a foundation or paradigm that conditions the nature of thinking and theorizing.  To exclude God or revealed knowledge from the “starting point” in the study of economic phenomena, in an effort to be unbiased, is to make man and his reasoning the sole source of knowledge.

 In the rush to be unbiased and value-free, humanism (man as the sole source of knowledge) replaced the Creator God as the foundation of all knowledge and reasoning.  And a humanistic trial and error science obviously has no absolute truths.  As the author of a current-day popular economic textbook put it, “It would be foolish to regard a set of principles as absolute truth.  The testing process in economics and in other sciences never ends.  Economic theory is not a once-and-for-all set of principles.  It is viable, evolving and continually growing.”

 This virtually unheralded “revolution” changed the scope of economics from a morally-based, deductive science producing what were believed to be universal principles that governed the wealth of nations, to an amoral, humanistic, experimental science producing “principles” that are relative to time and place, continually open to refinement or refutation.  As a noted scientific empiricist proclaimed, “truth may exist out there in the universe, but science can never know for sure if it has discovered it!”

 Thus, economics “progressed” from a science of wealth and welfare based on a moral framework to a science of getting the most for the least (Science of Avarice), finally culminating in the twentieth century as the humanistic science of economizing (Microeconomics) and the science of governmental management of the economy (Macroeconomics).

 Humanism and empiricism swept the day even enhancing Neo-Classical schisms into various Schools of Thought.  The modern-day Neo-Classical descendants include the Monetarists, led by Nobel-Laureate Milton Friedman, who stresses that the proper management of the economy requires a steady growth in the money supply; and the relatively new Supply-Side school of the 1970s, who emphasize restoring incentives to the economy by cutting taxes to stimulate work, savings, and investment.

 Keynesian Economics

The dominant tradition for the last sixty years has not been Neo-Classical however.  Born in the midst of the Great Depression, Keynesian Economics (named after the founder John Maynard Keynes – pronounced “Canes”) revolutionized the science of economics by supposedly proving that Capitalism was inherently unstable, contrary to Neo-Classical thought.  Their theory provided the “principles” for government to manage the economy to attain the goals of full employment, growth, and price level stability.

Pragmatic Economics

One final development needs to be noted.  With the rise of Keynesian, Demand-Side economics came the rise of pragmatic economists (which include economists of all traditions).  These economists direct their work and research to solve the problems of the moment.  Their job is the rationalization of politically expedient policies.  Their theorizing and forecasting follow elections and particular administration lines.  Amazingly, these economists seem oblivious to the fact that their pragmatism smuggles value judgments into their analysis!  In doing so they openly contradict their own time hallowed tenet of humanistic science to be unbiased, neutral, and value-free.

 The Austrian School Tradition

There is only one school of economic thought that has not followed the pragmatic, empirical, humanist, no-truth ideology.  The Austrian School, founded by the Neo-Classical economist Carl Menger and developed notably by Ludwig von Mises (1881-1973), has developed a body of inexorable economic principles based on the self-evident, biblically-based axiom of purposeful human action.  These deduced principles, reminiscent of Adam Smith, are believed to be universal laws of human action that are true and absolute regardless of time or place.

 Furthermore, these cause and effect economists (Austrians) perceive that questions of “what ought to be” are questions that require an ethical standard.  Advice and questions of public policy are in the area of normative economics.  In their view Adam Smith was right after all!  A moral framework is essential to any pronouncements of public policy.  The role of value-free, cause and effect economics, according to these economists, is to provide the knowledge of the proper economic means that must be followed to achieve an ethically chosen end.  Economic science cannot establish policies or answer questions of what ought to be.  Economic science is neutral with regard to human values, but it provides acting man with vital information he may need to form his valuations and to act successfully.

 Humanist economic schools today typically lack this necessary, well thought out ethical system for their public policy pronouncements.  If you don’t believe that, just ask one for the ethical basis of his policy statements.

Conclusion

Here is the most important point concerning economic schools of thought: disagreements among economists, and therefore their policy prescriptions, are not because they have widely divergent values, but primarily the result of different paradigms or worldviews. They just don’t see the world in the same way. Their “starting points” or premises and assumptions vary significantly. Therefore, economists will continue to disagree until they can agree on the fundamental premises upon which they build their theories.

 The author believes that lasting solutions to economic problems require the recognition of inexorable economic principles of cause and effect, as elaborated by the Austrians. Until that proposition becomes mainstream and generally accepted, economics students would be well-advised to study and seek the answer to the difficult question: “Which Economic Tradition has the right paradigm and worldview?” It’s a difficult and challenging task to be sure. But it is necessary and essential if one ever hopes to know where he or she stands, and what economists one should listen too for advice and council.


(click photo to enlarge)

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