written by | October 31, 2022

What is Classical Economics? Definition, History & Theory

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Table of Content


Economics is one subject that needs deep thinking and understanding of several factors like trade, commerce, production, consumption, politics and philosophy. Because of its vastness, many thinkers have formulated their own theories from time to time. Some that were powerful ideas and well communicated stayed for decades, while others which were perhaps superficial, evaporated as fast as they surfaced. Classical Economics has created legends that are referred to in textbooks even today.

Did You Know?

Economics is at the root of all business and commerce in any part of the world. Without sound economic sense, no society could exist.

Definition of Classical Economics

Classical Economics can be defined as the thought process where commerce was moved out of monarchy and commercial control to the concept of free trade and competition. It can be defined as the pioneering gateway to capitalism.

History of Classical Economics

It all started in the late 18th century when societal thinking on wealth and commerce started changing. The thinking shifted from age-old concepts to creating ways by which there could be more equitable growth beyond the country's rulers and a handful of merchants. The concept took shape when the legendary Adam Smith published his book, "The Wealth of Nations".

Basic Concepts in Classical Economics

When classical economist Adam Smith released his memorable book, "The Wealth of Nations", it took the world by storm. In his book, Adam Smith proposed his theory that the gold in the monarch's treasury is not necessarily a measure of the country's wealth. Through his disruptive thinking, he described that the true wealth of a nation could only be on account of income generated by the effort of people as a whole. This was possible through the best utilisation of labour (he termed it Division of Labour which eventually led to the concept of specialisation) and skills wise allocation of resources.

Also Read: Economic Survey 2022

Impact of Classical Economics

The time was ripe for change. Adam Smith's concept caught on rapidly, and many intellectuals subscribed to the newly defined concept of classical economics. Individually and collectively, the idea spread around that any economic policy that encouraged market freedom could provide for the needs of people. Some economists also felt there would be segments where this may not work and the state would need to step in and take charge of such areas of activity. This was necessary to ensure that basic needs were within reach of everyone and not limited only to the rich who could afford them. 

The whole idea was to block the monopolistic trends. They also believed that those willing to risk their wealth by investing as business capital should be rewarded. It was believed that they knew how best to use labour and resources. This was the seed of the concept of a Capitalistic Economy which thrived on supremacy. This is the point in history when the concepts of demand and supply came into picture. This also conceptualised that supply and demand market forces created a self-regulating equilibrium.

The Gradual Slide of Classical Economics Theory

Eventually, however strong and forceful, every theory will have to face obstacles. Towards the end of the 19th century, there were issues from some sections of intellectuals that classical economics work in favour of those with huge money bags. They induced the thought among the poor that capitalists were exploiting them and that things must change for the poor to have a better life.

It began with the active entry of German philosopher and sociologist Karl Heinrich Marx into the field. He postulated that the relationship between capitalists and labour was primarily exploitative. He argued that labour was weak and had no means to protect itself against an unfair attack by powerful capitalists. He further warned that such continued wrongdoing would lead to a class struggle that would create irreparable damage to society, and the poor being the most affected.

Karl Marx & Birth of Communism 

Karl Marx created the Communist Manifesto in 1848 along with economist Friedrich Engels. This led to him widely circulating a four-volume set of books, Das Kapital. This book and its powerful teachings influenced many intellectuals, labour groups and even politicians, and the theme was set forever. Communism was born. 

The birth of Communism opened a perennial war of ideologies between Classical Economics and Marxist Philosophies that exists even today. It has now become a war between capitalists and labour, and it has often turned violent and has led to deadlocks and closed factories. It has been a case of a Lose-Lose situation where everyone is a loser.

In countries ruled by communist governments, it is believed that people do not have the freedom that those in democracies enjoy. Opposition is crushed, so no one can dare raise a voice against the government. But, on the contrary, some of these countries are today among the biggest contributors of products across the globe. Almost every country in the world depends on them. Perhaps, economics sometimes takes precedence over ideologies!

Also Read: What is a Natural Monopoly? Meaning, Definition, Examples

Challenge from Keynes

Another wave that caused disturbance a few decades before Karl Marx was the ‘Theory of Aggregate Demand and Aggregate Supply’ presented by James Waynard Keynes, a British Mathematician. Keynes countered the generalist approach of classical economics and said that the world would not see such a hypothetical equilibrium in reality. Aggregate Demand and Aggregate Supply must be balanced through the government playing an active role, especially in difficult times like a recession. Only if the government intervened through corrective measures like creating employment, supporting infrastructure development and expanding the reach of education; economies can prosper.

As the Keynesian Theory was more appropriate under given circumstances, most Governments made it the core of their policy making.

Other Thinkers on Economics

Between Adam Smith, Keynes, and Karl Marx, several thinkers and economists influenced the world's thinking on economics. While they did influence during their times, none of them created an impact as lasting as Adam Smith, Keynes and Karl Marx. Let us glance through some of them:

David Ricardo was an eminent economist who emphasised international trade. His theory of Comparative Advantage laid the foundation for the international division of labour principle. He assured that international trade would improve the standard of living of all. He justified his thinking by stating that while international trade does not increase a country's output, utilising specialist skills (a division of labour) helps better use resources for all.

John Stuart Mill followed Ricardo. He made some improvements to Ricardo's theory and added the concept of demand. He actively promoted the thinking that price influences demand and supply. And price modulation is what enables market equilibrium. He was also somewhat instrumental in changing the mindsets of people. While traditionally, international trade was looked down upon negatively, his convincing arguments changed public and government perception that it was not as evil after all. The world began looking at international trade favourably and recognised the good it could do for all.

Apart from the above, other economists include Paul Samuelson, Luigi Pasinetti, John Hicks, Hollander and Nicholas Kaldor.

Conclusion:

From what we have seen above, a question is bound to occur in the reader's mind – Is Classical Economics relevant today? Fair doubt. With massive changes in every sphere of life, the world is so different today than it was 250 years ago. Is the study of Classical Economics required anymore? Well, in a very narrow sense, the answer is NO. However, we can find several traces of this knowledge in modern economics in some way or the other. 

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FAQs

Q: Is Classical Economics applicable today?

Ans:

Not directly. Certainly not in the exact form in which it was introduced centuries ago. But some of its principles are found in traces in modern economics too.

Q: Who is Karl Marx? What is his contribution to the world?

Ans:

Karl Marx, through his assertions that capitalism was exploiting labour, had a significant impact on countries and people, which resonated very well with his thinking. He propagated Communism where equality was the key. Even today, we see his deep influence in the world. Russia, China, North Korea and a few other countries have fully embraced Communism and are a power that cannot be ignored.

Q: What prompted the weakening of Classical Economics?

Ans:

Two thinkers impacted Classical Economics. Keynes brought forth the Theory of Aggregate Demand and Aggregate Supply. The next was Karl Marx, who established Communism.

Q: What is the fundamental concept of Classical Economics?

Ans:

The fundamental concept of Classical Economics recognises the role of people's contribution through work and the importance of capital in business development.

Q: When did Classical Economics originate and where?

Ans:

Adam Smith first propounded classical Economics through his book, The Wealth of Nations, in 1776.

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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.