Classical economics was eventually replaced with more updated ideas, such as Keynesian economics, which called for more government intervention.Theories to explain value, price, supply, demand, and distribution, were the focus of classical economics.Adam Smith’s 1776 release of the Wealth of Nations highlights some of the most prominent developments in classical economics.Classical economic theory helped countries to migrate from monarchic rule to capitalistic democracies with self-regulation.It refers to the dominant school of thought for economics in the 18th and 19th centuries. Classical economic theory was developed shortly after the birth of western capitalism. Hayek believed that markets alone would have the information needed to make these decisions, because markets coordinate the views and information held by everyone, in a ‘spontaneous’ way. Hayek also argued strongly against command economies, noting that a small group of individuals would be entirely responsible for determining the allocation and distribution of resources in his view, it would be completely impossible for them to ever have enough information to do this properly to meet people’s needs. Later in life, he did suggest that the state could provide a small ‘safety net’ for those who found themselves unable to work. For Hayek, the only possible role for a government was to maintain law and order. In other words, Hayek saw less of a role for governments in an economy than even Smith. Whereas Adam Smith saw a role for government intervention in money markets and financial markets, Hayek disagreed, arguing that intervention in money markets was one of the main causes of economic instability (the pattern of booms and recessions). Hayek is probably the best-known member of what is known as the Austrian School of economics, in which there is a strong belief in the role and importance of the individual in the economy, rather than any collective group or government.ĭuring the 1930s, he engaged in lively debate with the economist Keynes – Keynes supported significant government intervention in the economy to stimulate growth whereas Hayek did not. Smith is now regarded as the founder of free market (or laissez-faire) economics, despite recognising the need for some government intervention. Other roles for the government, identified by Smith, include the issuing of patents and copyright (to protect invention), providing national defence, regulating the banking sector, building infrastructure, and public goods. He said that one important role of government in this type of economic system would be to maintain law and order, because the many poor would want to take over the property of the rich. owners of the factors of production, and there would be far fewer of these people than labourers. Smith also recognised that in a free market economy, some people would be rich ‘property owners’ i.e. He recognised that the government should keep an eye on their activities, but believed it was dangerous for large businesses to influence politics and legislation. monopolies) because of their tendency to raise prices. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.”Īt the same time, however, Adam Smith warned that we should be wary of businesses that become too large (i.e. “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. I have never known much good done by those who affected to trade for the public good.” By pursuing his own interest, he frequently promotes that of the society more effectually than when he really intends to promote it. Nor is it always the worse for the society that it was no part of it. By preferring the support of domestic to that of foreign industry, he intends only his own security and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. “ generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. The key quotes from Wealth of Nations on this topic are: In his 1776 book ‘Wealth of Nations’, Adam Smith (amongst many other things!) wrote about the ‘ invisible hand’ of resource allocation, and the role of ‘self-interest’, in an early reference to free-market economies.
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