Classical Economics Definition
Classical economics refers to one of the prominent economic schools of thought that originated in Britain in the late 18th century. It advocates the development of a free economy with minimal government intervention to trigger economic growth.
The concept is more inclined towards capitalism. Freedom to trade and compete motivates private entities to act on self-interest, resulting in efficient resource allocation, increased investments, profit generation, and benefit to society. This scenario prioritizes the production of goods and services, boosting economic growthEconomic GrowthEconomic growth refers to an increase in the aggregated production and market value of economic commodities and services in an economy over a specific period.read more.
Table of contents
Key Takeaways
- Classical economics theory originated in the late 18th century in Britain. Adam Smith propagated it through his book Wealth of Nations, and the concept favored the laissez-faire concept, free trade, and competition to stimulate economic growth.
- The main classical economists are Adam Smith, Jean-Baptiste Say, David Ricardo, Thomas Robert Malthus, and John Stuart Mill.
- The neoclassical model highlights supply and demand as the major determining factor behind producing and consuming goods and services.
- Keynesian economics theory encourages government intervention in the economy.
How Classical Economics Theory Work?
Classical economics concept was first propagated by Adam Smith, the father of modern economics, through his famous work “An Inquiry into the Nature and Causes of the Wealth of Nations“—commonly known as “The Wealth of Nations” published in 1776. Adam Smith proposed that the wealthWealthWealth refers to the overall value of assets, including tangible, intangible, and financial, accumulated by an individual, business, organization, or nation.read more of any country is not derived from its gold reserve but the national income backed by the effective division of labor and the optimum use of capital. Furthermore, the field was enriched by the contributions of classical economists like David Ricardo and John Stuart Mill.
Adam Smith stressed the importance of an economic system based on individuals’ self-interest. He coined the phrase “invisible hand” to explain the invisible market forces aligning individuals’ actions out of self-interest to benefit society. These market forces help the supply and demand of goods and services in a free marketFree MarketA free market refers to an economic system free from government interventions and controlled by privately owned businesses.read more attain economic equilibriumEconomic EquilibriumEconomic equilibrium refers to a situation wherein specific market forces remain balanced, resulting in optimal market conditions in a market-based economy. The term is often used to describe the balance between supply and demand or, in other words, the perfect relationship between buyers and sellers.read more.
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The theory emphasized laissez-faireLaissez-faireLaissez-Faire refers to an economic doctrine advocating minimum or no interference from the government in business and economic affairs.read more ideas promoting the free market, free trade, and free competition for economic growth. A free market manifests a scenario without government intervention; hence the prices of goods and services are self-adjusted when buyers and sellers negotiate in an open market. As a result, the supply and demand market forces stabilize the economic system. Altogether the concept was against the idea and practice of mercantilist theory, which was prevalent in Britain during the 16th and 17th-century manifesting high government intervention.
Ricardo strengthened the notion by interpreting and contributing to “labor theory of valueLabor Theory Of ValueLabour theory of value emphasizes that the price of any economic goods or service is highly dependent on the amount of labour essential for its production. Thus, if the two commodities are available at a similar price, it results from their equivalent labour time requirement.read more” and “theory of distribution” in the Principle of Political Economy and Taxation. The labor theory of value highlighted the proportionality between the cost of goods and the labor costs incurred in making them. Through the theory of distribution, he explained the importance of social classes: wages for laborers, profits for owners of capital, and rents for landlords.
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Example
Israel has become a shining example of how following certain elements of the classic economic model leads to economic prosperity. Though many tourists have visited the country for its historical and cultural heritage in the last fifty years, their government has implied the sound science of economicsEconomicsEconomics is an area of social science that studies the production, distribution, and consumption of limited resources within a society.read more. They promoted a free-market economy and knowledge economy. Now the economyEconomyAn economy comprises individuals, commercial entities, and the government involved in the production, distribution, exchange, and consumption of products and services in a society.read more is dominated by technology and industrial manufacturing sectors. Liberalization of the economy and heavily investing in the tech sector paved the way for becoming one of the top 25 wealthy countries globally.
Classical Economics vs Neoclassical Economics
Let’s look into the difference between classical and neoclassical economicsNeoclassical EconomicsAccording to Neoclassical economic theory, a governed product or service is valued above or below its production cost. It takes into account the flow of various goods, services, outputs, and income distribution using the demand-supply approach, which assumes the unity of customers in the economy.read more:
| Classical Economics | Neoclassical Economics |
|---|---|
| The analysis is based on historical events. | The analysis is based on mathematical models. |
| Popularized during the late 18th and 19th centuries. | Popularized during the 20th century. |
| The theory focuses on producing goods and services, expanding the market, free trade, and competition to overall economic growth. | The neoclassical model concentrates on exchanging goods and services and how individuals deal and operate within an economy. |
| Economists supporting this theory shared a 360-degree view of the economy. Their analysis was based on the complete structure and the whole system. | The neoclassical model focuses on a small element of the entire system or prefers a segmented view. It deals with individual behavior and its consequences. |
| Goods and services produced in the economy have value. The cost of manufacturing is the prime determinant. | The value of goods and services also depends on factors like who produced them, who uses them, and how it is used. Supply and demand play an important role in pricing. |
| The main classical economists are Adam Smith, Jean-Baptiste Say, David Ricardo, Thomas Robert Malthus, and John Stuart Mill. | The main neoclassical economists were Stanley Jevons, Maria Edgeworth, Vilfredo Pareto, Leon Walras. |
Frequently Asked Questions (FAQs)
Classical economics refers to one of the major economic schools of thought that emerged in the late 18th century in Britain. The concept supported various ideas of capitalism and advocated for free commerce and the laissez-faire approach. Classical economists argue for as little government interference as possible to promote a free market and maximize economic growth.
The idea of a free market, an invisible hand, and Individuals acting out of self-interest are central to the classical model. Liberal policies, free entrance, and profit incentives encourage private entities to behave in their self-interest, resulting in effective resource allocation, higher investments, profit creation, and societal gain. In a free market, these market forces assist the supply and demand in reaching equilibrium.
The critical distinguishing point between both theories is the participation of the government. The classical theory admonishes the slightest intervention of government exhibiting free market trade and economic growth, and market competition. In comparison to it, Keynesian economics supports the active participation of the government to control the economy and prevent the occurrences of events like recessions.
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