B4/C7: The growth of wealth

§1. The form of wealth has changed as civilization has passed through “revolutions”, from personal ornaments among hunter gatherers, to land and hand tools during the Agricultural Revolution, to expensive machines for creating and moving goods in the Industrial Revolution. These days, wealth is embodied in algorithms, data and other “intangible” capital and intellectual property.

§2. Wealth is possible with savings, and savings (i.e., capital) help generate further wealth:

As civilization has progressed, man has always been developing new wants, and new and more expensive ways of gratifying them…And with the growth of openings for the investment of capital there is a constant increase in that surplus of production over the necessaries of life, which gives the power to save… . After a time civilization became possible in temperate and even in cold climates; the increase of material wealth was possible under conditions* which did not enervate the worker, and did not therefore destroy the foundations on which it rested. p 186

* Marshall’s footnote to “conditions” is fascinating:

For instance, improvements which have recently been made in some American cities indicate that by a sufficient outlay of capital each house could be supplied with what it does require, and relieved of what it does not, much more effectively than now, so as to enable a large part of the population to live in towns and yet be free from many of the present evils of town life. The first step is to make under all the streets large tunnels, in which many pipes and wires can be laid side by side, and repaired when they get out of order, without any interruption of the general traffic and without great expense. Motive power, and possibly even heat, might then be generated at great distances from the towns (in some cases in coal-mines), and laid on wherever wanted. Soft water and spring water, and perhaps even sea water and ozonized air, might be laid on in separate pipes to nearly every house; while steam-pipes might be used for giving warmth in winter, and compressed air for lowering the heat of summer; or the heat might be supplied by gas of great heating power laid on in special pipes, while light was derived from gas specially suited for the purpose or from electricity; and every house might be in electric communication with the rest of the town. All unwholesome vapours, including those given off by any domestic fires which were still used, might be carried away by strong draughts through long conduits, to be purified by passing through large furnaces and thence away through huge chimneys into the higher air… This conjecture as to the ultimate course of town improvement may be wide of the truth; but it serves to indicate one of very many ways in which the experience of the past foreshadows broad openings for investing present effort in providing the means of satisfying our wants in the future.

§3. Marshall points out that it’s important to balance between spending all earnings as a spendthrift and saving too much as a miser. He acknowledges how cultures (as well as classes within cultures) differ on that balance, with  this slightly offensive but insightful comment:

In India, and to a less extent in Ireland, we find people who do indeed abstain from immediate enjoyment and save up considerable sums with great self-sacrifice, but spend all their savings in lavish festivities at funerals and marriages. They make intermittent provision for the near future, but scarcely any permanent provision for the distant future: the great engineering works by which their productive resources have been so much increased, have been made chiefly with the capital of the much less self-denying race of Englishmen. p187

These differences would be attributed to discount rates (or time preferences), with savers/lenders possessing lower discount rates and spenders/borrowers higher rates. The poor tend to have high discount rates due to a combination of “live for today” (YOLO), pessimism over life expectancy, and powerlessness (spend it now before it’s stolen) — all problems that the British inflicted on the Indians and Irish. So Marshall’s condescension is perhaps misplaced.

§4. Indeed, he sees the issue (my emphasis):

The thriftlessness of early times was in a great measure due to the want of security that those who made provision for the future would enjoy it: only those who were already wealthy were strong enough to hold what they had saved; the laborious and self-denying peasant who had heaped up a little store of wealth only to see it taken from him by a stronger hand, was a constant warning to his neighbours to enjoy their pleasure and their rest when they could…Insecurity of this kind also is being diminished: the growth of enlightened views as to the duties of the State and of private persons towards the poor, is tending to make it every day more true that those who have helped themselves and endeavoured to provide for their own future will be cared for by society better than the idle and the thoughtless.

§5. New financial and market instruments have made it easier to turn wages into wealth. One can rent housing instead of buying it, buy beer instead of making it, etc. These developments bring greater satisfaction and security from the same base income.

§6. Although some save out of competitive instincts, most save to leave wealth to their families. Some are tempted to consume extravagantly, while those with poor backgrounds are the most thrifty. Those who grew up in the Depression (the Silent Generation) fell into this category, as do many Gen-Zers experiencing both the Great Recession and Covid-shocks.

§7. The rich use their savings to invest in further capital. The working and middle classes invest in their children’s physical and intellectual capital, respectively. Given this, Marshall says it’s perhaps better to tax the rich and use their money to help the lower classes accrue more “human capital” (my words), since the ROI to society is much greater.

§8. Marshall spends a few pages discussing the pros and cons of spending less now (saving) so as to have more later, assuming that the savings can be safely and productively set aside.

§9. Savings rates depend on the rate of interest. Lower interest means more years of work to save more. In 2020, with interest rates near zero, people face the depressing reality of having to work longer and consume far less in their quest to save “enough” for retirement. This situation can be blamed on central banks that are printing so much money — and buying so much debt — that savers (qua investors) faced with miserable returns. And thus do we see the rich get richer as their assets rise in value while the poor (or middle classes) see their savings in a coma 🙁

§10. In summary (p 196):

The accumulation of wealth is governed by a great variety of causes: by custom, by habits of self-control and realizing the future, and above all by the power of family affection. Security is a necessary condition for it, and the progress of knowledge and intelligence furthers it in many ways.

A rise in the rate of interest offered for capital, i.e., in the demand price for saving, tends to increase the volume of saving. For in spite of the fact that a few people who have determined to secure an income of a certain fixed amount for themselves or their family will save less with a high rate of interest than with a low rate, it is a nearly universal rule that a rise in the rate increases the desire to save; and it often increases the power to save, or rather it is often an indication of an increased efficiency of our productive resources: but the older economists went too far in suggesting that a rise of interest (or of profits) at the expense of wages always increased the power of saving: they forgot that from the national point of view the investment of wealth in the child of the working man is as productive as its investment in horses or machinery.

§11. In his “Note on the Statistics of the Growth of Wealth,” Marshall compares the UK to the US and France. He explains that land, houses and livestock constitute wealth, and that the value of land depends on population density. Thus, France is “worth” double the UK or US, but the value of US land will skyrocket as its population increases. That seems to be true, with the exception of prices in pre-Brexit London ;).

B4/C6: Industrial training

§1. Marshall worries that the “vigorous races” are not perhaps taking advantage of scientific and technological advancements because they are indulging tastes for luxury over hard work, lack the training needed to understand and advance science (a problem that is even worse today!), and delayed by the lag between an innovation’s arrival and the development of an ecosystem to maximize its value. He also laments the lack of respect for the modern factory worker over the (far less productive) craftsmen of past eras.

§2. Marshall takes another jab at the “very backward races” that cannot be taught productivity (see prior chapter) but then argues that basic education and good work habits allow the “unskilled worker” to work in a broader range of jobs (e.g., from making shoes to refining oil) than they could in the past. Advances in machines and production processes make it easier to “add labor” to any sort of production.

§3. Mothers, then fathers, then servants (if any) affect childhood development. Mothers tend to convey morals; servants can drag a child’s perspective downwards, with their “self-indulgent habits.” School is useful when “a truly liberal general education adapts the mind to use its best faculties in business and to use business itself as a means of increasing culture.”

§4. Technical education is pulled towards specialization by sophisticated manufacturers and away from the “general apprentice system” that gave broad knowledge in the many processes related to a specific product. The Continentals have more thorough education, but their deeper knowledge may not help them compete with benefit-cost driven English or Americans. Marshall suggests spending half the year in school and the other half working as a means of balancing academic and practical skills. Although the English lead the world in inventing and innovating, “the excellence of the common schools of the Americans, the variety of their lives, the interchange of ideas between different races among them, and the peculiar conditions of their agriculture have developed a restless spirit of inquiry; while technical education is now being pushed on with great vigour.” The Germans benefits from traveling to learn, unlike the English, who are “great travellers; but partly perhaps on account of their ignorance of other languages they seem hardly to set enough store on the technical education that can be gained by the wise use of travel” [p 175].

§5. Although the share of geniuses among the working classes is lower than the share in the upper classes (remember Marshall’s Social Darwinist sympathies), the sheer number of working class children means that much potential is going to waste without access to education and training. He thus calls for educating most workers as a means of promoting growth but also improving their quality of life.

§6. Education in art is not as useful as technical education, and it is under threat by the mechanization of so many elements of life.

§7. Positive externalities!

We may then conclude that the wisdom of expending public and private funds on education is not to be measured by its direct fruits alone. It will be profitable as a mere investment, to give the masses of the people much greater opportunities than they can generally avail themselves of… And the economic value of one great industrial genius is sufficient to cover the expenses of the education of a whole town… All that is spent during many years in opening the means of higher education to the masses would be well paid for if it called out one more Newton or Darwin, Shakespeare or Beethoven. p 178

§8. Rising wages in any given “grade” of work (e.g., “responsible manual labor vs automatic brain workers”) can attract more workers, thereby breaking the historic norm of children following in their parents’ footsteps, as if bound by caste. Marshall thus broaches social mobility, a topic he promises to address later.

B4/C5: The health and strength of the population

§1. This chapter is coincidentally “timely” in these days of coronavirus. Marshall begins by noting that physical, mental and moral strength is what leads to wealth but also that the same wealth “if wisely used” contributes to strength. I think it’s pretty clear that some countries are using their wealth wisely… and some not.

§2. Marshall then opines that population depends on vigour, which depends on climate and race, where he veers onto dangerous ground — and backs off again:

In warm countries we find early marriages and high birth-rates, and in consequence a low respect for human life: this has probably been the cause of a great part of the high mortality that is generally attributed to the insalubrity of the climate. [Footnote: A warm climate impairs vigour. It is not altogether hostile to high intellectual and artistic work: but it prevents people from being able to endure very hard exertion of any kind for a long time.] Vigour depends partly on race qualities: but these, so far as they can be explained at all, seem to be chiefly due to climate. [Footnote: Race history is a fascinating but disappointing study for the economist: for conquering races generally incorporated the women of the conquered; they often carried with them many slaves of both sexes during their migrations, and slaves were less likely than freemen to be killed in battle or to adopt a monastic life. In consequence nearly every race had much servile, that is mixed blood in it: and as the share of servile blood was largest in the industrial classes, a race history of industrial habits seems impossible.] p162

§3. Marshall sometimes sounds wiser than he was (p164):

  • The great mortality of infants among the poor is largely due to the want of care and judgment in preparing their food; and those who do not entirely succumb to this want of motherly care often grow up with enfeebled constitutions. This statement is wrong not complete, since infant mortality was also linked to dirty water and milk.
  • Badly-built houses with imperfect drainage cause diseases which even in their slighter forms weaken vitality in a wonderful way; and overcrowding leads to moral evils which diminish the numbers and lower the character of the people. Although the first part of this statement seems to make sense, it’s not the construction of the buildings that causes diseases, but the manner in which poor drainage pollutes drinking water drawn from communal wells. The second part on overcrowding and “moral evils” leaves much to the imagination.
  • Overwork of every form lowers vitality; while anxiety, worry, and excessive mental strain have a fatal influence in undermining the constitution, in impairing fecundity and diminishing the vigour of the race. This is still true!

§4. In another comment that deserves prominence these days, Marshall says (p 164):

Next come three closely allied conditions of vigour, namely, hopefulness, freedom, and change. All history is full of the record of inefficiency caused in varying degrees by slavery, serfdom, and other forms of civil and political oppression and repression.[Footnote: Security of person and property are two conditions of this hopefulness and freedom; but security always involves restraints on freedom, and it is one of the most difficult problems of civilization to discover how to obtain the security which is a condition of freedom without too great a sacrifice of freedom itself.] In all ages colonies have been apt to outstrip their mother countries in vigour and energy… the most important cause of all is to be found in the hope, the freedom and the changefulness of their lives. [Footnote: …a shifting of places enables the more powerful and original minds to find full scope for their energies and to rise to important positions: whereas those who stay at home are often over much kept in their places. Few men are prophets in their own land; neighbours and relations are generally the last to pardon the faults and to recognize the merits of those who are less docile and more enterprising than those around them. It is doubtless chiefly for this reason that in almost every part of England a disproportionately large share of the best energy and enterprise is to be found among those who were born elsewhere.]

Take that, Brexiteers!

§5. Another section that deserves to be quoted (p165):

Bodily and mental health and strength are much influenced by occupation. At the beginning of this century the conditions of factory work were needlessly unhealthy and oppressive for all, and especially for young children. But Factory and Education Acts have removed the worst of these evils from factories; though many of them still linger about domestic industries and the smaller workshops.

The higher wages, the greater intelligence, and the better medical facilities of townspeople should cause infant mortality to be much lower among them than in the country. But it is generally higher, especially where there are many mothers who neglect their family duties in order to earn money wages.

§6. The young, best and the brightest migrate to towns to seek opportunity. Some move to the suburbs, for clean air and water (“supply and drainage”, so Marshall did understand clean water), better schools &c. Going further, “there is no better use for public and private money than in providing public parks and playgrounds in large cities, in contracting with railways to increase the number of the workmen’s trains run by them…

§7. Marshall ventures into Social Darwinism with fears that the upper classes — due to their “selfish” desire to gain social standing for their children — are being displaced by the faster-breeding working classes, that the weak are kept alive by medical advances, and that progress slows when the “conquoring races” have fewer babies. [Footnote: “Again, on the Pacific Slope, there were at one time just grounds for fearing that all but highly skilled work would be left to the Chinese; and that the white men would live in an artificial way in which a family became a great expense. In this case Chinese lives would have been substituted for American, and the average quality of the human race would have been lowered” p 167]. So, yeah, Marshall was sympathetic to Social Darwinist racist ideas when he was not confronted by data (see §2, above).

§8. Marshall ends the chapter by noting that children should have better physical and mental development than their parents, how progress and government health programs are prolonging lives, and how racial progress slows with too many children, too few children, or over-crowding towns. Overall, he is optimistic, with “the average duration of life for both men and women increasing steadily…” [p169].

 

B4/C4: The Growth of Population

§1. This chapter concerns the supply of labor, and thus population. Marshall points out that leaders and thinkers changed their minds, in favor or against greater population, over the centuries, depending on wars, food supplies, religious influences, etc. There were many cases in which taxes were forgiven to large, legal families (i.e., to fathers with more than 10 legitimate children).

§2. In opposition to those favoring more people were those who wanted more income per person. Malthus is the most famous proponent of population control as a means to prosperity.

§3. Malthus was not worried about absolute population, but population relative to the “income of Nature” which includes food but also many other goods whose supply is fixed (relative to labor involved).

Marshall notes some figures: The UK’s population was 7 million (it’s 60 million today), the world’s population was estimated at 1.5 billion, and it would reach — following on British population growth rates — 6 billion by 2090. We got there a little sooner!

§4. An interesting excerpt:

The age of marriage varies with the climate. In warm climates where childbearing begins early, it ends early, in colder climates it begins later and ends later; but in every case the longer marriages are postponed beyond the age that is natural to the country, the smaller is the birth-rate; the age of the wife being of course much more important in this respect than that of the husband. Given the climate, the average age of marriage depends chiefly on the ease with which young people can establish themselves, and support a family according to the standard of comfort that prevails among their friends and acquaintances; and therefore it is different in different stations of life.

In the middle classes a man’s income seldom reaches its maximum till he is forty or fifty years old; and the expense of bringing up his children is heavy and lasts for many years. The artisan earns nearly as much at twenty-one as he ever does, unless he rises to a responsible post, but he does not earn much before he is twenty-one: his children are likely to be a considerable expense to him till about the age of fifteen; unless they are sent into a factory, where they may pay their way at a very early age; and lastly the labourer earns nearly full wages at eighteen, while his children begin to pay their own expenses very early. In consequence, the average age at marriage is highest among the middle classes: it is low among the artisans and lower still among the unskilled labourers.

§5. Population will rise quickly when there is more land that can provide food and jobs to children. This was the case in the New World. In the old world, tradition (primogeniture, nunneries, monasteries, servitude etc.) kept men from marrying and having children.

§6. Marriage and large families were encouraged after wars or pestilence (the Black Death). In other times, Perish and Poor laws were used to prevent family formation, immigration, and other actions that would increase  claims on welfare by the poor and numerous.

§7. Although there was a strong negative correlation between food prices and marriage rates, that relation broke down in 1870s England. Prices were falling but people were not marrying as quickly, so the average standard of living (resources or consumption per capita) was rising rapidly. This note matches what I’ve read elsewhere: the Industrial Revolution really only began to help the middle classes after 70 or so years…

B4/C3: The fertility of land, continued. The tendency to diminishing return

This chapter, with 20 pages, is the longest so far in the book, and I am in a bit of a hurry, so my brief comments here might not do it justice. (OTOH, it seems these posts are for my enjoyment only, so no blood no foul, right?)

§1. “An increase in the capital and labour applied in the cultivation of land causes in general a less than proportionate increase in the amount of produce raised, unless it happens to coincide with an improvement in the arts of agriculture” (p 125). From this, Marshall states that farmers initially have increasing returns to the application of labor and capital to land, but that these returns inevitably diminish as production reaches a maximum, after which point additional capital and labor investments return less value (in output) than they cost. The only way to increase production, then, is to cultivate more land (on the extensive margin), which is fine until all the “free” land is gone, which was already true in the times of the Old Testament. The only way left to increase production on the intensive margin is, therefore, to have better technology (e.g., seeds, fertilizer, machines, etc.).

§2. Marshall goes into (tedious) detail in explaining diminishing and marginal returns, using footnotes and diagrams that were — at the time of his book — revolutionary in setting “rigorous” standards. These concepts are well-known today. He also makes the interesting distinction between returns from land itself, man’s effort to improve the land, and access from the land to markets, etc. This last bit uncovers an interesting connection between private property (and effort) and collective goods such as roads and markets that help everyone.

§3. Returns to effort and capital can rise and fall over different types of land and in different stages of intensity. Some land becomes more valuable with a little effort; other land needs much more effort. In some cases, effort will “uncover” an opportunity that awards later effort. This process takes time and experimentation. Farmers know this; economists would be wise to remember it — but they have not, since today’s theory assumes returns diminish continuously, always and everywhere, once they get started.

§4. Different lands tend to converge in their values as farmers adjust the mix of crops and inputs in response to market prices.

§5. Marshal defends Ricardo’s assumption (that settlers in a new region cultivate the most fertile lands first, then move to less fertile lands) as the result of “unclear writing rather than unclear thought” since initial cultivation decisions will change over time with new knowledge — and especially when agricultural products move from own consumption to being traded in markets. In a footnote to this passage, Marshall makes a note on productivity in the tropics that applies to our climate-changing world:

But much of the apparent attractiveness of tropical countries is delusive: they would give a very rich return to hard work: but hard work in them is impossible at present, though some change in this respect may be made by the progress of medical and especially bacteriological science. A cool refreshing breeze is as much a necessary of vigorous life as food itself. Land that offers plenty of food but whose climate destroys energy, is not more productive of the raw material of human wellbeing, than land that supplies less food but has an invigorating climate. (p 137)

§6. Marshall’s description of “the commons” mentioned above (§2) is also worth quoting:

But in fact every farmer is aided by the presence of neighbours whether agriculturists or townspeople. Even if most of them are engaged like himself in agriculture, they gradually supply him with good roads, and other means of communication: they give him a market in which he can buy at reasonable terms what he wants, necessaries, comforts and luxuries for himself and his family, and all the various requisites for his farm work: they surround him with knowledge: medical aid, instruction and amusement are brought to his door; his mind becomes wider, and his efficiency is in many ways increased. And if the neighbouring market town expands into a large industrial centre, his gain is much greater. All his produce is worth more; some things which he used to throw away fetch a good price.

§7. Marshall opines on the differences between diminishing returns to land,  fisheries and mines. In the cases of land and fisheries, returns can be continuous due to the renewable nature of the yields (crops and fish, respectively). He then gives a nice example of early 20th century thinking over fisheries:

As to the sea, opinions differ. Its volume is vast, and fish are very prolific; and some think that a practically unlimited supply can be drawn from the sea by man without appreciably affecting the numbers that remain there; or in other words, that the law of diminishing return scarcely applies at all to sea-fisheries: while others think that experience shows a falling-off in the productiveness of those fisheries that have been vigorously worked, especially by steam trawlers. The question is important, for the future population of the world will be appreciably affected as regards both quantity and quality, by the available supply of fish. (p138)

The population of the world today should be quite concerned: one-third of fisheries are over-fished.

Marshall’s comments on mining for non-renewable resources are also interesting. He says that mining can indeed witness decreasing returns, but not necessarily before the mine has given its entire yield.

§8. Marshall ends the chapter with a long, tedious note in which he makes two useful observations. First, there’s a difference between an individual changing their mix of land, labor and capital to maximize the productivity of each input and a nation changing that mix, since some inputs are fixed in aggregate, based on different times and places, with land being the most common. Following on this, he clarifies that Americans are not having the same discussion over diminishing returns as people in the Old World, since American lands were valued according to their market access rather than their fertility.

B4/C2: The fertility of land

§1. “Land” is defined as an input to production which is, contra capital, not made by man. Thus, dirt, but also trees, fish, reefs, the air. Humans do not make these elements of “land” but they are important as an input, and — in the case of dirt — also as the source of spacial rights that have their own value, in position and security.

§2. Agricultural soil comes with a range of characteristics (sandy, clay, organic, etc), which man can affect by tillage or adding (artificial) manure.

§3. Soil has been affected by human action for ages, but we should not forget the value of the heat, water and air that comes with some locations but not others. Those characteristics explain the “rents” that vary by plot.

§4. The relative contributions of land and labor, in terms of dividing the rents, varies with crops. Wood-bearing trees require much less labor than fruit-baring trees, or vegetables. Once the land contribution is made, labor and capital will be used until diminishing marginal returns advise a cut off, in terms of maximal output or value.

 

Book 4, chapter 1: Introductory

§1. This first chapter introduces Book 4: The Agents of Production: Land, Labour, Capital and Organization.

Marshall defines “land” to include all that Nature has given freely, “labour” as human work not for pleasure, “capital” to include knowledge that might be private or public (as in the goods), and “organization” — an input not often included in production that Marshall defines as “aiding knowledge’ (p 115) but I would define as “institutions.”

Marshall then pivots to a model of production relying on two inputs: Nature and Man, given that man supplies labor, capital and organization. This definition does not ignore our present understanding of “natural capital” as Marshall just placed that value within Nature.

As if in passing, Marshall notes that “The growth of mankind in numbers, in health and strength, in knowledge, ability, and in richness of character is the end of all our studies” (p 116). This assertion still isn’t controversial today, but I look forward to Marshall’s thoughts on population, which was 1.9 billion — 25% of today’s — in 1920.

§2. Marshall defines demand as a “desire to obtain commodities… whereas supply depends on a willingness to overcome discommodities.” What are they? Consider:

The discommodity of labour may arise from bodily or mental fatigue, or from its being carried on in unhealthy surroundings, or with unwelcome associates, or from its occupying time that is wanted for recreation, or for social or intellectual pursuits. But whatever be the form of the discommodity, its intensity nearly always increases with the severity and the duration of labour. [p 117]

I find this a reasonable definition, especially for its contribution to a modern discussion of “work” being composed of unpleasant (labor) and pleasant (social or intellectual) tasks. By Marshall’s definition, I might describe my work as 50% “labor” (the part I dislike) and 50% “consumption” (the part I like).

Marshall does not follow this line. Using marginal analysis, he claims we work until our disutility rises to the level of the wage. In this setting (a supply curve), we are paid “more than necessary” for initial hours of work and “just enough” on the margin, which means we receive a producer’s surplus from those early hours.  Could this also be called “consumption”? Seems ok to me, but Marshall prefers, perhaps, to keep separate our consumer and producer roles.

Marshall ends by noting that the supply curve (and thus schedule of wages required to attract a targeted quantity of labor) is fixed in the short run but not in the long run, since people enter or switch trades.

Book 3, chapter 6: Value and Utility

§1. This chapter explores an important idea in economics that’s often confused in everyday life, i.e., the consumer surplus (CS) equal to the difference between a good’s price and someone’s value of that good. The greater the difference — which varies with individual values — the greater their satisfaction. CS is also captured in “value for money” or “it’s a steal,” but some people make the mistake of assigning CS (or value) to the price when the gap is what matters.

§2. Marshall gives a verbal description of how CS rises with quantity voluntarily purchased at the same price, i.e., CS(2 units) is greater than CS(1 unit) as well as how CS rises if the price per unit falls. Through a slightly exhausting example, he explains how one’s “demand schedule” (the units of quantity demanded at different prices) results from decisions based on marginal rather than average values. If you buy one pound of tea for 20 shillings (s.) but add another (buying two pounds) when the price is 14s. each, then we know you value the first at 20s. (or more) and the second at 14s. (or more), for a total of 34s. When comparing value (34s.) to price (28s.), the key is not to compare average value (17s.) but the marginal values of 20s and 14s implied by prices paid.

These ideas are much easier to convey with a picture…

§3. So it’s nice that Marshall draws that picture in a footnote:This demand curve is familiar to anyone who has taken Economics 1, but let me reinforce the lesson: The area DOHA represents value, COHA equals cost, and DCA represents consumer surplus.

Marshall then explains the difference between marginal and total utility, i.e., that the marginal utility of a pound of tea is greater than that of a pound of salt but the total utility of consuming many pounds of salt is greater than that of consuming a few pounds of [way more expensive] tea, adding that — given a choice between two gifts — the consumer would choose more tea over more salt.

In a footnote to this example, Marshall quotes Harris (1757):

“Water is of great use, and yet ordinarily of little or no value; because in most places, water flows spontaneously in such great plenty, as not to be withheld within the limits of private property; but all may have enough, without other expense than that of bringing or conducting it, when the case so requires. On the other hand, diamonds being very scarce, have upon that account a great value, though they are but little use.” [pp 107-8]

Although he’s not as direct as I’d like, it seems he quotes this example to show how marginal and total values differ, thereby showing how the Diamond-Water paradox offered by Adam Smith in his 1776 Wealth of Nations resulted from misunderstanding marginal values. This oversight  won Smith few admirers, and it was (again) corrected by the “Marginalists” upon whose late-19th-century shoulders Marshall stood.

Marshall cautions against comparing the utilities of individuals (especially from different classes) and explaining how the loss of utility from losing access to tea would be much greater if coffee were not available as a substitute. Put differently, “let them eat cake” works only if you have cake to replace lost bread!

§4. Marshall’s assumption that changes in price can be analyzed ceteris paribus (all things equal) will break down if that change in price has an appreciable impact on buying power for other items, by depleting limited income, a problem of those particular inferior goods known as Giffen goods. He also notes that a complete demand schedule is more assumed than real, since it’s hard to know how demand responds to big price changes. Bravo!

§5. Well being depends on personal income but also “external considerations,” i.e., non-excludable (public and common pooled) goods:

Some are free gifts of nature; and these might indeed be neglected without great harm if they were always the same for everybody; but in fact they vary much from place to place. More of them however are elements of collective wealth which are often omitted from the reckoning of individual wealth; but which become important when we compare different parts of the modern civilized world, and even more important when we compare our own age with earlier times. [p 111]

His note here pushes back my mental model for economists’ awareness of non-excludable goods from Ostrom and Ostrom (1977) and Samuelson (1954).

§6. Marshall defines happiness as beginning once one has “enough to support life,” and that happiness rises more quickly for the poor than the rich. He then explains how this [decreasing marginal utility of income] justifies lower (higher) taxes on the poor (rich), as well as how a gambling loss of £100 is more painful than a win of £100, since the value of £1 is greater to a poorer person. These ideas were made famous by Kahneman and Tversky (1979) [cf. my review of Thinking Fast and Slow], but it’s quite interesting to see Marshall citing Bernoulli (1738)!

The chapter ends with some comments on work, wealth, consumption and quality over quantity, to whose eloquence I defer:

In every civilized country there have been some followers of the Buddhist doctrine that a placid serenity is the highest ideal of life; that it is the part of the wise man to root out of his nature as many wants and desires as he can; that real riches consist not in the abundance of goods but in the paucity of wants. At the other extreme are those who maintain that the growth of new wants and desires is always beneficial because it stimulates people to increased exertions. They seem to have made the mistake, as Herbert Spencer says, of supposing that life is for working, instead of working for life.

The truth seems to be that as human nature is constituted, man rapidly degenerates unless he has some hard work to do, some difficulties to overcome; and that some strenuous exertion is necessary for physical and moral health. The fulness of life lies in the development and activity of as many and as high faculties as possible. There is intense pleasure in the ardent pursuit of any aim, whether it be success in business, the advancement of art and science, or the improvement of the condition of one’s fellow-beings. The highest constructive work of all kinds must often alternate between periods of over-strain and periods of lassitude and stagnation; but for ordinary people, for those who have no strong ambitions, whether of a lower or a higher kind, a moderate income earned by moderate and fairly steady work offers the best opportunity for the growth of those habits of body, mind, and spirit in which alone there is true happiness.

There is some misuse of wealth in all ranks of society. And though, speaking generally, we may say that every increase in the wealth of the working classes adds to the fulness and nobility of human life, because it is used chiefly in the satisfaction of real wants; yet even among the artisans in England, and perhaps still more in new countries, there are signs of the growth of that unwholesome desire for wealth as a means of display which has been the chief bane of the well-to-do classes in every civilized country. Laws against luxury have been futile; but it would be a gain if the moral sentiment of the community could induce people to avoid all sorts of display of individual wealth. There are indeed true and worthy pleasures to be got from wisely ordered magnificence: but they are at their best when free from any taint of personal vanity on the one side and envy on the other; as they are when they centre round public buildings, public parks, public collections of the fine arts, and public games and amusements. So long as wealth is applied to provide for every family the necessaries of life and culture, and an abundance of the higher forms of enjoyment for collective use, so long the pursuit of wealth is a noble aim; and the pleasures which it brings are likely to increase with the growth of those higher activities which it is used to promote.

When the necessaries of life are once provided, everyone should seek to increase the beauty of things in his possession rather than their number or their magnificence. An improvement in the artistic character of furniture and clothing trains the higher faculties of those who make them, and is a source of growing happiness to those who use them. But if instead of seeking for a higher standard of beauty, we spend our growing resources on increasing the complexity and intricacy of our domestic goods, we gain thereby no true benefit, no lasting happiness. The world would go much better if everyone would buy fewer and simpler things, and would take trouble in selecting them for their real beauty; being careful of course to get good value in return for his outlay, but preferring to buy a few things made well by highly paid labour rather than many made badly by low paid labour.

…and thus, Marshall channels Thoreau (1854) (“my needs are few, therefore I am rich”), extolls the value of work while denouncing vanity, calls for the rich to provide public goods to all, and suggests that a few beautiful things are worth more than many things of poor quality.

Those who engage in “retail therapy” need to read Marshall!

Wagner on Marshall (1891)

I’m taking a little side trip this week, to take a look at a contemporary article reviewing Marshall’s Principles of Economics (1890 first edition).

Adolf Wagner (1835-1917) wrote his review in 1891.

Wagner’s review is relentlessly polite, as was the tradition of the time, but it also highlights the differences and novelties in Marshall’s work.

First, Wagner is at pains to admire Marshall’s contribution from the Ricardian/abstract perspective, which varies from that of Wagner and other German political economists who are so committed, as members of the German Historical School,

…that we point to the need of induction side by side with deduction; that we warn against hasty generalization, against exclusive reasoning on the basis of economic self-interest; that in practical problems we have no faith in any absolute solutions, and insist upon the principle of relativity. But, like myself, many German scholars, old and young, even those whose own researches are directed mainly to economic history, believe it to be false and narrow to go to the other extreme, and to fling aside deduction from assumed motives, and especially from the motive of self-interest. We would not limit political economy to the mere presentation of the various historic stages in the application of labor, nor do away with all abstract thought or abstract statement. [p 320]

From this beginning, Wagner explains how Marshall is using algebra and abstract theory to build reasonable models of what really happens. Thus, Marshall’s work is complementary to the historicists (who would today be named institutionalists).

Second, Wagner makes serious suggestions (in terms of necessary word counts) for additional work, viz.:

No doubt the future volume or volumes will bring the needed additional matter on money, credit, foreign trade… a systematic discussion of economic policy in regard to agriculture, trade, and industry. Further, the discussion of questions of policy in regard to money, coinage, credit, banks, insurance, transportation, should find a place, with some detailed consideration of historical development, of statistics, and of legislation, and with a comparison of the conditions of different countries. [p 326]

What a laundry list! As it turns out, Marshall never officially got around to a second volume.

Third, Wagner praises Marshall for his restraint in the use of mathematics, even as he complains that Marshall might be “cherry picking” (English) history in assembling his “universal” theories of price, cost, value, and so on. Wagner appeals to cultural factors with a jarring example:

Marshall, like many other English writers, seems to me not to lay sufficient stress upon the favorable natural conditions in which its insular position has placed his country.
[snip]

Indeed, he finds occasion to give praise in several places to the German merchant, who, though supported by the political resources of his country much less than the British merchant, yet has been able to attain a dominant position in foreign countries.
[snip]

On the other hand, I am unable, judging from our own experience, to concur in the praise bestowed on the German Jew, whether in economic theory or in industry. In the intellectual field, as in others, the Jew is much more apt to be a middleman than an original producer; and in German industrial life his activity is generally harmful. [pp 328-9]

This statement doesn’t just give one pause (or worse) in terms of Wagner’s “own experience” — it highlights a weakness of the German School: a dependency on path-dependent, “just so” stories that lack (or bury) interactions, causal forces, and the aggregation of highly varied actions. Marshall aggregates many supply and demand actions to smooth idiosyncrasies and identify trends. Such analytical (and data-driven) methods strengthened the use of “science” in economics in a way that complemented and challenged the irregular, humanities-dependent perspective of the historicists.

Finally, Wagner comes back to the need to consider the organization of industry, the relation between industry and the State (far friendlier in Germany than in England), the difficulty in assuming that it would always be possible to trade one widget for another (e.g., labor for food, or cash for ventilators), and the role of social values in distributing the gains and losses  of capitalism among various classes. On this last point, Wagner highlights how Germany and England have very different conceptions of an acceptable social balance. It also highlights “Wagner’s Law (1890)” i.e., that the size of the (welfare) state increases as the nation grows richer — a concept compatible with the Simon Kuznet’s (1955) claim that inequality falls as countries move from middle to upper income.

Wagner’s review highlights the gaps among different schools of economic thought and the importance of learning from a variety of those schools. It also highlights the danger of carelessly extrapolating from an opinion to a generalization.

NB: I have another 7-8 review articles published between 1920-1993, but I will wait to read and comment on those (spoilers!)

Book 3, chapter 5: Choice between different uses of the same thing. Immediate and deferred uses.

§1. This chapter begins with the housewife’s dilemma: when to switch between using wool for producing socks to using it for producing vests. Marshall then explains how the housewife wants to balance the marginal value of the last sock or vest, i.e.,

“If a person has a thing which he can put to several uses, he will distribute it among these uses in such a way that it has the same marginal utility in all. For if it had a greater marginal utility in one use than another, he would gain by taking away some of it from the second use and applying it to the first” [p 98].

§2. He then moves from the household to trade between producers of wool and wood, which goes on until both sides are happy with their wood/wool balances, i.e., where the marginal utilities they receive from each commodity are equal. Moving from barter to trade facilitated by money, Marshall states that consumers seek to balance the marginal benefits of all the goods they consume, using money to fine tune the mix. (He then adds an interesting footnote, to the effect that Anglo-American housewives are less able to maximize the benefits of their consumption than French housewives who are able to consume more because they are more skilled at maximizing their production from raw materials. Plus ça change!)

§3. Marshall then explores how we balance between present and future consumption, which depends on three factors. The first is “uncertainty (this is an objective property which all well-informed persons would estimate in the same way)” [p 100] or what economists have called “risk” since Frank Knight defined the difference between risk (measurable in terms of probabilities) and uncertainty (not measurable) in 1921. The second factor is how individuals apply personal discount rates in comparing future and present values. Marshall explicitly states that one’s personal discount rate varys with conditions, that children and impatient people pay less attention to the future (=low discount rates), and how discount rates affect one’s enjoyment of a long-lived good. This last use underlies basic savings and investment decisions. The third factor, often forgotten these days, is that we might be eager to possess something merely for the pleasure, ignoring financial considerations. Although such “possession utility” might be rolled into utility maximization, some people are not so accepting that others might really be better off consuming now rather than delaying their urges.

§4. Marshall ends the chapter cautioning against comparing present to future consumption, which ignores “uncertainty” (risk) and the fact that personal preferences change. That said, he does draw the useful connection between (individual) discount and (market) interest rates, i.e., that borrowers and lenders tend to have discount rates that are higher and lower than market rates, respectively. (Crazy that I am just teaching these ideas to my students!)