Alfred Marshall

1842-1924
 Biography
 Son of a bank cashier. Father pushed him
to the point that had it not being for trips to
an aunt in the Summers he would have
ended up as another J.S. Mill.
 He did not make friends and his two
favorite hobbies (math and chess) were
prohibited by his father
 Biography (continuation)
 Refused Oxford scholarship (ministry)
 Went to Cambridge to study mathematics
 Had to leave Cambridge in 1877 since he
decided to marry (just like Malthus)
 Bristol took him (have a page dedicated to him
in their Web-page)
 Published “Economics of Industry” with his
wife Mary Paley
 Biography (continuation)
 In 1884 returned to Cambridge
 In 50 years of writting he produced 82
publications including:
• 9 editions of Principle of Economics
• 5 editions of Industry and Trade
• 2 editions of The Economics of Industry
• Money, Credit and Commerce appearing in 1923
(year before his death) only appeared in one edition
 Alfred Marshall (cont.)
 Father of modern orthodox microeconomic
theory (neoclassicism) along with Walras
– Structural basis of undergraduate
economic theory (Walras more
adequate for graduate classes)
– Translated Ricardo and J.S. Mill
economics into mathematics
 Alfred Marshall (cont.)
 Father of modern orthodox microeconomic theory
(neoclassicism) along with Walras
In defining Economics he stated:
• Political Economy or Economics is a study
mankind in the ordinary business of life; it
examines the part of the individual and social
action which is most closely connected with the
attainment and with the use of the material
requisites of well being (text 274)
 Alfred Marshall (cont.)
– Forged the principles of supply and
demand analysis
– Religious and humanitarian
convictions
 Concern for the poor and desire to
improve the well-being of society
through economics (focused on applied
theory)
 Alfred Marshall (cont.)

– Initiated not just modern economics

but THE PROFESSION:
• Students: J.M. Keynes and Joan
Robinson
• TEXT BOOK LEGACY
– At the end of his life he began to deal
in what today we call Macroeconomics
 Alfred Marshall (cont.)
 Economics is not a body of concrete truths,
but an “engine for the discover of concrete
truth.”
 Published findings in Principles of
Economics (1890) after 20 years of work,
with mathematics and graphs in footnotes
and appendices so as to be understandable
to businessmen and society as a whole
 Alfred Marshall (cont.)
 Refused to take rigid positions on
theoretical and methodological issues.
 Practiced the art (rather than the science) of
economics (related the insights of the
positive science to the goals determined in
the normative branch).
 Alfred Marshall (cont.)
 Marshall on Method
• The Scope and Method of Political Economy (1891)
 Consumer wants proceed from activities (allies him
more closely with classical emphasis on supply than
with neoclassical emphasis on demand—Jevons,
Menger)
– Suggested economists start with preliminary demand, proceed to
activities and supply, then return to demand.
 Observe complex interconnections between wants
and activities
 Alfred Marshall (cont.)
 Marshall on Method
• The Scope and Method of Political Economy (1891)
 Consumer wants proceed from activities (allies
him more closely with classical emphasis on
supply than with neoclassical emphasis on
demand—Jevons, Menger)
– Suggested economists start with preliminary demand, proceed
to activities and supply, then return to demand.
 Observe complex interconnections between wants
and activities
 Alfred Marshall (cont.)
 Marshall on Method
 Chief task of economics - elimination of
poverty.
• Believed in the possibility of increasing the
well-being of the working classes (as opposed
to classicals)
 Alfred Marshall (cont.)
 Marshall on Method
 Attempted to Merge Theoretical,
Mathematical, and Historical Approach
• However he saw mathematics to have
limitations:
 Alfred Marshall (cont.)
 Marshall on Method
• …I know I had a growing feeling in the later
years of my work at the subject that a good
mathematical theorem dealing with economic
hypotheses was very unlikely to be good
economics: and I went more on the rules
 Alfred Marshall (cont.)
 Marshall on Method
• (1) Use mathematics as a shorthand
language, rather than an engine of inquiry
• (2) Keep to them until you are done
• (3) Translate to English
• (4) Then illustrate by examples that are
important in real life
• (5) Burn the mathematics
 Alfred Marshall (cont.)
 Marshall on Method
• (6) If you can’t succeed in (4), burn (3),
This last I did often (TEXT 278).
 Of course, trying to merge three
methodologies had the result of being
disliked by all:
 Alfred Marshall (cont.)
 Critics:
• German & English historically oriented economists
found his economics too abstract and rigid.
• Veblen and institutionalists attacked his method.
• Advocates of abstract mathematical methodology
criticized his historical method and resented his
remarks about the limitations of theory and
mathematics
 Alfred Marshall (cont.)
 Marshall defined 4 time periods:
• Market period - Very short period in which
supply is fixed (perfectly inelastic). No reflex
action of price on quantity supplied
• Short run - A period in which the firm can
change production and supply but cannot change
plant size. Higher prices cause larger quantities
to be supplied (upward sloping supply curve).
 Alfred Marshall (cont.)
• Two components of total costs of the
firm:
– prime costs - costs that vary with output
(also called special or direct costs)
– supplementary costs - costs that do not vary
with output (fixed costs)
 Alfred Marshall (cont.)
• Long run - Plant size can vary and all costs
become variable.
 Supply curve becomes more elastic because of
firms adjustment in plant size and can take 3
forms:
– Increasing costs - slopes up and to the right
– Constant costs - perfectly elastic (horizontal)
– Decreasing costs - slopes down and to the
right (unusual situations)
 Alfred Marshall (cont.)

• Secular period - (Very long run) Permits

technology and population to vary
 Alfred Marshall (cont.)
 Controversy over whether cost of production
(classical)or utility (marginal utility school
of Jevons, Menger and Walras ) determines
price.
– Marshall believed that influence of time and
awareness of the independence of economic variables
would resolve the question.
 Demand curve for final goods slopes downward and to the
right and individuals will buy larger quantities at lower
prices.
 Alfred Marshall (cont.)
 Supply curve depends on the time period
under analysis.
– The shorter the period, the more important
the role of demand in determining price.
– The longer the period, the more important
the role of supply. In LR in constant costs
exist so that supply is perfectly elastic, price
will depend solely on cost of production
 Alfred Marshall (cont.)
 Marshall on Demand
• Most important contribution to demand
theory was his clear formulation of the
concept of price elasticity of demand.
– Price and quantity demanded are inversely related to
each other; demand curves slope down and to the
right.
– Degree of relationship is shown by the coefficient of
price elasticity:
 Alfred Marshall (cont.)
 Elasticity of Demand
 eD = percent change in quantity demanded = - q / p
percent change in price
q p
 Coefficient is negative b/c of inverse relationship; by
convention the coefficient is shown as positive by
adding the negative sign to the right side of the equation.
 If price decreases by 1 percent and quantity demanded
increases by 1 percent, total revenue is unchanged, and
the coefficient value is 1. The commodity is said to be
price elastic..
 Alfred Marshall (cont.)
• If price decreases by a given percentage and the
quantity demanded increases by a smaller
percentage, total revenue decreases and the
coefficient < 1. The commodity is price
inelastic
– Marshall also applied the elasticity concept
to the supply side.
– Marshall was 1st to express the concept of
elasticity with mathematical precision and is
considered its discoverer.
 Alfred Marshall (cont.)
• Marshall ignored substitution and
complementary relationships (utility received
from consuming good A depends solely on the
quantity of A consumed, not on the quantities of
other goods consumed).
 This gives an additive utility function: U =
f1qA + f2qB = f3qC + . . . + fnqn
• More generalized utility function (F.Y.
Edgeworth & Irving Fisher) now general used:
U = f (q A, qB, qC, . . . , qN )
 Alfred Marshall (cont.)
 Consumers’ surplus - the difference between the total
expenditures consumers would be willing to pay and what
they actually pay.
MU Consumer Surpluss

Demand

Quantity
 Alfred Marshall (cont.)
 Marshall on Supply
• Most important contribution to theory of supply was
his concept of the time period, particularly the short
run and the long run.
– Spoiling the market - selling at low prices today and
preventing the rise of market prices tomorrow, or selling at
prices that incur resentment of other firms in the industry.
– True cost curve for SR is not marginal cost curve but a
supply curve to the left of the marginal cost curve (here,
Marshall dropped the assumption of perfect competition).
 Alfred Marshall (cont.)
 Marshall on Supply
• LR forces that determine the shape and
position of firm’s cost and supply curves:
• Internal forces - as the size of firm
increases, internal economies of scale
lead to decreasing costs and internal
diseconomies result in increasing costs.
 Alfred Marshall (cont.)
 Marshall on Supply
• LR forces that determine the shape and position of
firm’s cost and supply curves:
• External forces - external economies (not clear
whether to firm or industry) result in downward shift
of firm and industry cost and supply curves as
industry develops.
– Major causes of external economies are the
reductions in costs that take place for all firms in
an industry when all firms locate together and
share ideas and attract subsidiary industries and
skilled labor to the area.
 Alfred Marshall (cont.)
 Stable and Unstable Equilibrium
• Stable equilibrium is achieved when any
displacement from equilibrium will produce
forces returning the market to equilibrium
• Unstable equilibrium is possible when supply
curve in downward sloping. If price or quantity
attain equilibrium values, they will remain there,
by if system is disturbed it will not return to
these equilibrium values.
 Alfred Marshall (cont.)
 His dabbling into Macroeconomics
• Economic Fluctuations, Money and
Prices
• Marshall studied influence of monetary
forces on general level of prices.
• Money, Credit and Commerce (1923)
 Alfred Marshall (cont.)
 His dabbling into Macroeconomics
• Suggested 2 public policies to combat depression and
unemployment:
• Control markets so that credit is not over-
expanded in periods of rising business
confidence b/c over-expansion may lead to
recession.
• If depression occurs, governments can help
restore business confidence by guaranteeing
firms against risk