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!)

Book 3, chapter 4: The elasticity of wants

§1. This chapter is famous, as Marshall is credited with popularizing the concept of “elasticity,” i.e., the measure of how fast (elastic) or slow (inelastic) your demand for a good changes in response to its price changing.

§2. He adds that income affects price elasticity, as a rich man is not as worried about a price change as a poor man. (This concept led to, or referred to, “income elasticity”.)

Marshall states that elasticities fall as prices head to zero, contrary to modern economic assumption that they rise (such that infinite quantity is demanded). The difference is explained in his reference to “satiation,” meaning that you would not want more, at any price. This concept is often set aside, via “non-satiation” assumptions, in modern economic theory, probably to allow for easier mathematical assumptions.

Marshall allows for such [unlimited] elasticities in the case of “display goods” but these are often NOT cheap. Hm.

§3. Marshall shows (figures and tables) how aggregate elasticity is composed from the elasticities of various classes: The poor have inelastic demand for basics; the middle class has elastic demand for status goods; the rich have elastic demand for goods that display “social distinction”.

§4. Marshall discusses how elasticity is weak in the short-run for some basic goods (wheat, fish), in the sense that lower/higher prices don’t really affect demand. Years ago, I wrote a paper on demand curves [pdf], and loved this quotation:

“There may be even more violent changes than this in the price of a thing which is not necessary, if it is perishable and the demand for it is inelastic: thus fish may be very dear one day, and sold for manure two or three days later” [p 90].

But wait! Marshall brings up water (my favorite topic 😉

“Water is one of the few things the consumption of which we are able to observe at all prices, from the very highest down to nothing at all. At moderate prices the demand for it is very elastic. But the uses to which it can be put are capable of being completely filled: and as its price sinks towards zero the demand for it loses its elasticity” [p90].

On the one hand (wait, can’t say that!). Right. So Marshall talks about the very real elasticity of demand for water. He’s also right about demand not rising too much when water is cheap or free in some circumstances. In an English house, that’s probably true, but it’s not true when people add lawns, irrigate crops where there’s no rain, or where water is scarce and thus rivers, aquifers, and lakes are drained for human uses, because the price of extraction is low or non-existent.

Ahhh… he’s onto me:

“Generally speaking those things have the most elastic demand, which are capable of being applied to many different uses. Water for instance is needed first as food, then for cooking, then for washing of various kinds and so on. When there is no special drought, but water is sold by the pailful, the price may be low enough to enable even the poorer classes to drink as much of it as they are inclined, while for cooking they sometimes use the same water twice over, and they apply it very scantily in washing. The middle classes will perhaps not use any of it twice for cooking; but they will make a pail of water go a good deal further for washing purposes than if they had an unlimited supply at command. When water is supplied by pipes, and charged at a very low rate by meter, many people use as much of it even for washing as they feel at all inclined to do; and when the water is supplied not by meter but at a fixed annual charge, and is laid on in every place where it is wanted, the use of it for every purpose is carried to the full satiety limit” [p91]

He even mentions drought, so he probably considered my “some circumstances” comment above!

§5. Marshall explains that time, income, prosperity, and so on impact elasticity. Economists often invoke ceteris paribus to ignore these factors.

§6. Marshall adds that demand fluctuates with fashion, substitutes, complements, and — often overlooked — familiarity and market development. He discusses how coal replaced wood/charcoal, and was likewise displaced by petroleum. These dynamics are driven by prices but those reflect the increasing range of uses for petroleum, which make it simultaneously more attractive and cheaper to gain utility from.

Elasticity also varies with a good’s replacement rate. A change in the price of shoes (replaced annually) will not have a big impact compared to a change in the price of meat (purchased daily). Toilet-paper hoarders will  learn these dynamics if they try to sell off their stockpiles!

§7. Marshall adds more caveats for the variety of buyers and sellers (more of each increases competition and information) and the difference between wholesale markets for traders and retail markets for consumption.

§8. Marshall ends the chapter with what seems an outdated discussion of how merchants have a much better notion of the separate components contributing to demand (weather, wealth, holidays) as well as the difficulties of explaining how different classes demand different “baskets” of goods. Both concerns are often overlooked by modern economists focussed on single aggregated numbers, which is a pity for those who want to understand what actual (not median) people are doing.

Book 3, Chapter 3: Gradations of consumers’ demand

Although Marshall’s book was published in 1920, I cannot find any mention of “Spanish Flu” or influenza attached to him. If you have better memory (or google-fu skills) — then please send me links!

Our current chapter begins with the statement that a manufacturer’s demand (willingness to pay) for an intermediate good depends on the final consumer’s demand for that good. And that consumer’s demand — in terms of purchases or actions — indirectly signal desire, which cannot be directly measured.

Hmmm. Marshall says “utility is correlative to desire” [p78], but I am not sure if he means that utility is equivalent to demand. He says desires drive activities and choices while utility represents the full/partial achievement of those desires.

“There is an endless variety of wants, but there is a limit to each separate want. This familiar and fundamental tendency of human nature may be stated in the law of satiable wants or of diminishing utility thus:—The
total utility of a thing to anyone (that is, the total pleasure or other benefit it yields him) increases with every increase in his stock of it, but not as fast as his stock increases… In other words, the additional benefit which a person derives from a given increase of his stock of a thing, diminishes with every increase in the stock that he already has.” [pp 78-79]

This is Marshall’s first elaboration of decreasing marginal utility (DMU) in consumption [he earlier refers to the marginal utility of income], a concept that revolutionized economic thinking around 1870. From here, Marshall explains how our purchases consider the marginal benefit of each additional item; links these concepts to older ideas on the marginal productivity of land; notes that decrease only begins once one has achieved a “critical mass” of initial consumption (thus, one must paint the entire wall before seeing a decreased benefit from additional painting); and describes how utility need not be consistent with the passing of time:

It is therefore no exception to the law [of DMU] that the more good music a man hears, the stronger is his taste for it likely to become; that avarice and ambition are often insatiable; or that the virtue of cleanliness and the vice of drunkenness alike grow on what they feed upon. For in such cases our observations range over some period of time; and the man is not the same at the beginning as at the end of it. If we take a man as he is, without allowing time for any change in his character, the marginal utility of a thing to him diminishes steadily with every increase in his supply of it 

He ends this section referring the reader to the Mathematical Appendix. There, we can see the calculus underlying his exposition. There, we also see how he preferred reasoned prose over mathematical assertion in his economics.

§2. Marshall then explains how DMU relates to prices, and the difference between “demand price” that varies with quantity already consumed and the “marginal demand price” that eventually limits quantity demanded to where the utility of the last unit consumed equals (or just barely exceeds) the market price of the good.

This calculus, he continues, means that the ratios of marginal utilities of different products will match the ratios of their prices, a concept that is simultaneously obvious and mind-blowing.

§3. The marginal utility of money also declines as one gets more of it, since “every increase in his resources increases the price which he is willing to pay for any given benefit.” Put differently, you’re willing to spend more to get the same utility (benefit) when you have more to spend (and thus less worry about foregoing consumption of other goods).

§4. Marshall sets out a demand schedule (of prices and quantities) which leads to a demand curve with quantity on the horizontal axis and price on the vertical axis. Although this “inverse demand curve” is one of the most well known figures in economics, it is Marshall, I think, who first introduces its use, here. (See my paper [pdf], which asks “is inverse demand perverse?”)

Marshall then gives an elegant description of why economists use “smooth” demand curves in a world in which our demand (for wedding cakes, for example) is anything but smooth:

In large markets, then—where rich and poor, old and young, men and women, persons of all varieties of tastes, temperaments and occupations are mingled together,—the peculiarities in the wants of individuals will compensate one another in a comparatively regular gradation of total demand. [p83]

In sum, there is “a general law of demand:—The greater the amount to be sold, the smaller must be the price at which it is offered in order that it may find purchasers; or, in other words, the amount demanded increases with a fall in price, and diminishes with a rise in price” [p 84].

§6. Marshall ends the chapter* with the caveat — and foreshadowing of future discussions — that the demand schedule is only valid for a given set of conditions, meaning that it could shift in or out, steepen or flatten if those (ceteris paribus) circumstances change. (He mentions how prices of complementary or substitute goods matter; how spectators can manipulate prices by sending false signals; and how a local panic can change general demand for a product — toilet paper in a corona-crisis, for example.)

* His last footnote (p85) is remarkable: Marshall says that the marginalists of the 1870s, who used the differentials of calculus to explain how a small change in price led to a small change in demand (“direct demand curve”) were preceded by others using the same ideas and techniques over 30 years earlier. #nothingnewunderthesun.

Book 3, Chapter 2: Wants in relation to activities

§1. The uncivilized man may only want basic goods but the civilized man desires an increasing variety of more and better (“change for the sake of change”), to the point where the richer man spends more on food, not for his own wants but those of hospitality.

§2. Moving to dress, variety is again valued but responsive to social norms. Thus, some cultures might dictate dress for occupations or castes, and the lower classes will emulate the refinements of their betters. The English upper classes tend to dress modestly compared to Europeans or Asians, with the women being stylish and costly thoughtful while the men dress simply… and thus set the standard for English lower classes.

§3. One’s home should provide shelter, but small “house room… stunts the facilities and limits higher activities” [p 75] — that’s without considering social activities.

§4. When it comes to activities, people [Marshall observes] are increasingly inclined to pursue athletic games and travel over the “mere stagnation” of leisure. (Marshall notes rising tea consumption and stagnating alcohol consumption.)

Turning to work and professions, Marshall says men are increasingly interested in producing (and consuming) clever inventions and finely crafted products. He claims craftsmen’s “activities” result in works that precede the wants for those works, rather than wants leading to works. This perspective echo’s Say’s Law of “supply creates its own demand,” but it rings true: I am attracted to the products artisans produce far more often than I am asked by artisans for ideas of what to make next! 😉

[Marshall then makes a comment of how the “West Indian negro… and English working classes” have little interest in developing their skills. I don’t get his point here.]

Marshall thus states that the driver of progress is not “wants” (demand) but “activities” (supply). He ends the chapter with some long footnotes on how other writers have (de)emphasized, classified and argued over the types, ranking and development of wants. Those nuances are not very interesting at a 100-year distance.

Book 3, Chapter 1: Introductory

Marshall’s third “book” in his book volume on Principles of Economics is “on wants and their satisfaction.” This chapter contextualizes that topic (demand/consumption), thereby setting up Book 4 (production) and Book 5 (“a general theory of demand and supply”). These topics (and their order) will be familiar to a modern reader, but Marshall is innovating here by discussing demand and supply ahead of the traditional focus of economics (“the production, distribution, exchange and consumption of wealth“), which is pushed into Books 5 and 6 (distribution and exchange of value).

§2. Economists have neglected demand and consumption because they result from the decisions of individuals, which implied — since the logic of such dynamics was “the common property of all sensible people”– there was “nothing” for economists to explain [p71].

Marshall is challenging that norm because of (1) a prejudice to studying  production and supply, (2) new mathematical techniques uncovering ignorance of demand,* (3) new statistical measures of demand, and (4) a social pivot from creating wealth to using wealth to improve individual and collective well-being. This last, significant point remains underemphasized in a world that focuses too much on GDP and too little on well-being. Yes, wealth contributes to well-being, but so do many non-wealth factors (friendship, beautiful surroundings, or collective institutions to protect individuals from coronavirus).

[How convenient! In April, I am teaching an (online, closed) course on growth and development, synonyms for production and well-being , respectively.]

* Marshall’s colorful language is worth reproducing:

It is indeed doubtful whether much has been gained by the use of complex mathematical formulæ. But the application of mathematical habits of thought has been of great service; for it has led people to refuse to consider a problem until they are quite sure what the problem is… [p71]

Thus, the book will begin by looking into human wants (demand) as a complement to our efforts and activities (supply), which has received too much attention (in Marshall’s eyes) due to Ricardo and followers asserting that wants are animal and instinctual whereas efforts and activities are the main output of humanity.

Although I (as Marshall) see their point — we talk much more about firms, markets and products than the happiness of consumers — I agree with Marshall that demand needed needs more study. I say this because even today we do not really understand or promote human happiness (safety, friendship, respect, meaningful work, and so on) relative to human activities (production), which has left us blind to non-production policy and life-style paths. The results of our myopia are unsustainability, inequality, misery, and other problems that economists could really address — if they reprioritized.

A promising beginning.