Marginalism

In 20th century mainstream economics, the term "utility" has come to be formally defined as a quantification capturing preferences by assigning greater quantities to states, goods, services, or applications that are of higher priority.

This law is sometimes treated as a tautology, sometimes as something proven by introspection, or sometimes as a mere instrumental assumption, adopted only for its perceived predictive efficacy.

In the latter case, if the function is also smooth, then the law may be expressed as Neoclassical economics usually supplements or supplants discussion of marginal utility with indifference curves, which were originally derived as the level curves of utility functions,[9] or can be produced without presumption of quantification,[4] but are often simply treated as axiomatic.

Neoclassical economics tends to disregard this argument, but to see marginal costs as increasing in consequence of diminishing returns.

Marginalism and neoclassical economics typically explain price formation broadly through the interaction of curves or schedules of supply and demand.

By confining themselves to limiting cases in which sellers or buyers are both "price takers" – so that demand functions ignore supply functions or vice versa – Marshallian marginalists and neoclassical economists produced tractable models of "pure" or "perfect" competition and of various forms of "imperfect" competition, which models are usually captured by relatively simple graphs.

The law of diminishing marginal utility is said to explain the paradox of water and diamonds, most commonly associated with Adam Smith,[13] although it was recognized by earlier thinkers.

Perhaps the essence of a notion of diminishing marginal utility can be found in Aristotle's Politics, wherein he writes external goods have a limit, like any other instrument, and all things useful are of such a nature that where there is too much of them they must either do harm, or at any rate be of no use[15]There has been marked disagreement about the development and role of marginal considerations in Aristotle's' value theory.

[16][17][18][19][20] A great variety of economists concluded that there was some sort of inter-relationship between utility and rarity that effected economic decisions, and in turn informed the determination of prices.

[21] Eighteenth-century Italian mercantilists, such as Antonio Genovesi, Giammaria Ortes, Pietro Verri, Cesare Beccaria, and Giovanni Rinaldo, held that value was explained in terms of the general utility and of scarcity, though they did not typically work-out a theory of how these interacted.

Like the Italian mercantilists, Étienne Bonnot de Condillac saw value as determined by utility associated with the class to which the good belongs, and by estimated scarcity.

The first unambiguous published statement of any sort of theory of marginal utility was by Daniel Bernoulli, in "Specimen theoriae novae de mensura sortis".

The importance of his statement seems to have been lost on everyone (including Lloyd) until the early 20th century, by which time others had independently developed and popularized the same insight.

[29] In An Outline of the Science of Political Economy (1836), Nassau William Senior asserted that marginal utilities were the ultimate determinant of demand, yet apparently did not pursue implications, though some interpret his work as indeed doing just that.

[31] In 1854, Hermann Heinrich Gossen published Die Entwicklung der Gesetze des menschlichen Verkehrs und der daraus fließenden Regeln für menschliches Handeln, which presented a marginal utility theory and to a very large extent worked-out its implications for the behavior of a market economy.

However, Gossen's work was not well received in the Germany of his time, most copies were destroyed unsold, and he was virtually forgotten until rediscovered after the so-called Marginal Revolution.

Marginalism as a formal theory can be attributed to the work of three economists, Jevons in England, Menger in Austria, and Walras in Switzerland.

There were significant, distinguishing features amongst the approaches of Jevons, Menger, and Walras, but the second generation did not maintain distinctions along national or linguistic lines.

William Smart began as a conveyor of Austrian School theory to English-language readers, though he fell increasingly under the influence of Marshall.

The first volume of Das Kapital was not published until July 1867, when marginalism was already developing, but before the advent of Marxian economics, proto-marginalist ideas such as those of Gossen had largely fallen on deaf ears.

It was only in the 1880s, when Marxism had come to the fore as the main economic theory of the workers' movement, that Gossen found (posthumous) recognition.

[41] Scholars have suggested that the success of the generation who followed the preceptors of the Revolution was their ability to formulate straightforward responses to Marxist economic theory.

[45] The most famous early Marxist responses were Rudolf Hilferding's Böhm-Bawerks Marx-Kritik (1904)[46] and The Economic Theory of the Leisure Class (1914) by Nikolai Bukharin.

[47] In his 1881 work Mathematical Psychics,[48] Francis Ysidro Edgeworth presented the indifference curve, deriving its properties from marginalist theory which assumed utility to be a differentiable function of quantified goods and services.

Indifference curve analysis seemed to represent a way of dispensing with presumptions of quantification, albeit that a seemingly arbitrary assumption (admitted by Hicks to be a "rabbit out of a hat")[52] about decreasing marginal rates of substitution[53] would then have to be introduced to have convexity of indifference curves.

The expected utility hypothesis of Bernoulli et alii was revived by various 20th century thinkers, including Frank Ramsey (1926),[55] John von Neumann and Oskar Morgenstern (1944),[56] and Leonard Savage (1954).

[57] Although this hypothesis remains controversial, it brings not merely utility but a quantified conception thereof back into the mainstream of economic thought, and would dispatch the Ockhamistic argument.

Jevons wrote, for example, "so far as is consistent with the inequality of wealth in every community, all commodities are distributed by exchange so as to produce the maximum social benefit."

Dobb contended that this statement indicated that marginalism is intended to insulate market economics from criticism by making prices the natural result of the given income distribution.

[62] Some economists strongly influenced by the Marxian tradition such as Oskar Lange, Włodzimierz Brus, and Michał Kalecki have attempted to integrate it with the insights of classical political economy, marginalism, and neoclassical economics.