The Marginal Revolution

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The decade of 1870 supposed a radical break with the previous political economy; this break was called the marginalist revolution, promulgated by three economists: English William Stanley Jevons; the Austrian Anton Menger; and the Frenchman Léon Walras. His great contribution consisted in substituting the theory of labor value with the theory of value based on marginal utility. In the long run, it has been shown that the concept of marginal unity, or ultimate unity, is far more important than the concept of utility. This contribution of the notion of marginality was what marked the rupture between the classic theory and the modern economy. The classical political economists considered that the main economic problem was to predict the effects that the changes in the amount of capital and labor would have on the rate of growth of the national production. However, the marginalist approach focused on knowing the conditions that determine the allocation of resources (capital and labor) between different activities, in order to achieve optimal results, ie maximizing the utility or satisfaction of consumers.

 

This new perspective is characterized, in the first place by its initial theme: the reflections on the diminishing marginal utility of consumer goods. But the authors immediately discover that the principles of this particular domain are easily generalizable. Hence the main theme: marginalism will apply procedures of maximization to the different economic variables reasoning in the margin, that is to say on the last unit of the good consumed, produced, exchanged or retained. If one were to summarize the marginalist reasoning in a sentence, we would say that the optimal use of a given resource is obtained when there is no longer any net gain to be obtained from the displacement of a unit of such resource from one job to another. The optimum is born of the equalization in the margin of the utilities of the resources in the different possible uses. This is a universal principle, from which a theory of the behavior of the individual agents of the economy is built, based on the rationality of economic decisions.

 

During the last three decades of the nineteenth century the English, Austrian and French marginalists moved away from each other, creating three new schools of thought. The Austrian school focused on the analysis of the importance of the concept of utility as a determinant of the value of goods, attacking the thinking of classical economists, which for them, was outdated. A leading second-generation Austrian economist, Eugen von Böhm-Bawerk, applied new ideas to determine interest rates, forever marking the theory of capital. The English school, led by Alfred Marshall, tried to reconcile the new ideas with the work of the classic economists. According to Marshall, classical authors had concentrated on analyzing supply; the theory of marginal utility focused more on demand, but prices are determined by the interaction of supply and demand, just as the scissors cut through their two blades. Marshall, seeking practical utility, applied his analysis of partial equilibrium to certain markets and industries. Walras, the leading French marginalist, deepened this analysis by studying the economic system in mathematical terms.

 

In addition, since it is a question of maximizing objective functions, one should not be surprised at the use of mathematics admitted and claimed by most authors, although many exceptions can be made (among them the so-called Austrian school). In summary, the three essential characteristics of marginalism are: maximization as a reference of behavior, calculation at the margin as a principle of rationality and mathematics as a technique of analysis. Marginalism then has the ambition at the same time of rigor and generality. But this ambition is not going to be achieved without changing the issues raised by economic analysis and may lead to reductionism. We have seen that classical theory, constructed from the opposition between labor and the greed of nature in a context of competition, emphasizes the problems of economic development and distribution and was therefore fundamentally macroeconomic and dynamic. The marginalist thinking, dedicated to the search for the best possible use of the resources given, will tend to consider as fixed what the classics considered as a variable and to make the economy essentially microeconomic and static.

For each product there is a demand function that shows the quantities of products demanded by consumers according to the different possible prices of that good, the other goods, the income of consumers and each product also has an offer function that shows the quantity of products that the manufacturers are willing to offer according to the production costs, the prices of the productive services and the level of technological knowledge. In the market, there will be an equilibrium point for each product, similar to the balance of forces of classical mechanics. It is not difficult to analyze the equilibrium conditions to be met, which depend, in part, on equilibrium in other markets. In an economy with infinite markets the general equilibrium requires the simultaneous determination of the partial equilibria that occur in one. Walras’s attempts to describe in general terms the functioning of economics led economic historian Joseph Schumpeter to describe Walras’s work as the ‘Magna Carta’ of economics. The Walrasian economy is rather abstract, but provides an adequate framework for analysis to create a global theory of the economic system.

 

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