Background and Origin of Mainstream Economics - Essay Example

Mainstream Economics Background and origin of mainstream economics Mainstream economics refers to widely accepted economics across the world which entails formal mathematical modeling. It is also referred to as mathematical economics and applies mathematical approaches such as linear algebra, game theory, calculus, and computer science (Mankiw, 2006). These tools enable professional mainstream economists to address various economic issues facing the world. Mainstream economics is about modeling in a way that traditional or heterodox economics is not. It originated from the neoclassical synthesis of the neoclassical economic school of thought, which was the successor of classical economics. Neoclassical synthesis was a post-war economic concept which combined the Keynesian macroeconomics and microeconomics of the neoclassical school of thought (Mankiw, 2006). Paul Samuelson personified and popularized the neoclassical synthesis by trying to make a solid mathematical foundation of economics. This has led to the current domination of neoclassical synthesis in mainstream economics. The mainstream economics combines the supply and demand models of markets with Keynesian theory (Mankiw, 2006). It provides that costs and opportunities play an important part in shaping the decision making process of economic agents. For example, the consumer theory of demand is a model of mainstream economics which determines how prices (costs) affect quantity demanded of a particular product. In this case, decision makers (e.g. consumers) will choose products with lower costs or prices; hence affecting quantity demanded. Theoretical assumptions of mainstream economics One of the theoretical assumptions of neoclassical microeconomics is the allocation of scarce resources among unlimited wants. It is assumed that people develop rational preferences of identifiable outcomes that can be valued. Consumers/households maximize utility while firms maximize profits. Provided that they get access to sufficient information, individuals make independent decisions and act independently. Aggregate demand and aggregate supply are the main theoretical foundations of Keynesian macroeconomics (Mankiw, 2006). The IS-LM model is the basic theory of aggregate demand. When these two classes of theoretical foundations (neoclassical microeconomics and Keynesian macroeconomics) are combined, they result in short-run economic fluctuations which form the basis of mainstream economics. The new neoclassical synthesis borrows the general equilibrium theory from the new classical models. The microeconomic foundations of preferences and constraints also form the basis of the neoclassical synthesis. Furthermore, the real effects of monetary policy in the short run are borrowed from the Keynesian model of nominal rigidities (Mankiw, 2006). Generally, neoclassical synthesis is based on the assumption that the economy is a system of general dynamic equilibrium which comes from a Pareto optimum point due to sticky prices and other market imperfections. Methods The main methods of analysing mainstream economics are through mathematical models. One of the methods of analysing the assumption of sticky prices is the Philips curve which determines expectations. The Philip’s curve measures the relationship between unemployment rate and inflation rate. Various fields that embrace mathematical modeling include behavioural economics, neuroeconomics, econophysics, non-linear complexity theory, and growth theory (Samuelson, 1955). Mainstream economics also uses mathematical approaches such as linear algebra, game theory, calculus, and computer science as methods of measuring several economic factors. The IS-LM model is also mathematical method of measuring aggregate demand (Samuelson, 1955). These methods support the assumptions of the neoclassical synthesis and enhance effective economic analysis as well as an easy understanding of mainstream economics concepts. Strengths There are various strengths of the mainstream economics. One of the strengths is that it enables individuals to understand situations that require them to act in their rational self-interest. It also enables firms to understand the situations in which they can maximize their profits and minimize their costs; and individuals can understand the situations in which they can maximize their utility. The rational choice concept which is an assumption of the mainstream economics enables people to be committed because that would give them enough utility to supersede their costs or prices. The second strength of mainstream economics is that it provides mathematical methods which can be used to analyze economic situations and make rational decisions in the world of scarce resources and unlimited wants. These mathematical techniques are quantitative and can therefore provide objective results needed for effective decision making in terms of consumption and production. Mainstream economics suggests the need for using information to make rational decisions (Samuelson, 1955). Therefore, mathematical models are used to analyse the available information in order to make appropriate decisions and provide solutions to various problems. Limitations Mainstream economics is also important in effective allocation and efficient utilization of resources in order to match unlimited wants with limited resources. It is necessary for cost saving and profit maximization; whereby the available resources are used to achieve the highest level of value and utility. Firms need quantitative methods in order to understand how they can allocate their resources in the most viable projects so that they can earn the highest returns using the lowest costs. Apart from the strengths of mainstream economics, there are also some limitations. One of the limitations of mainstream economics is normative bias that characterizes the mainstream economics. Mankiw (2006) suggests that mainstream economics does not explain economies; instead it explains utopia which relies on Pareto optimality. Furthermore, it also relies on unrealistic assumptions; hence they lack realism. Its assumptions do not provide real-life evidence and examples that can be tangible in real life situations. The assumption of rationality among individuals also ignores certain aspects of human behaviour. For instance, human beings often tend to make commitments even when such commitments do not make them better off. This reflects the erroneousness of the rationality assumption. The neoclassical general equilibrium theory does not also apply in real life because the world economy is usually dynamic and develops over time (Mankiw, 2006). Mainstream economics is also based on mathematical models which may not necessarily reflect or describe the real economy. For instance, some mathematical formulas such as that of National Income computation ignore the welfare aspects of human life including social interactions, health and domestic work. Furthermore, the assumptions and methods of mainstream economics ignore how complex nature and human creativity is. This general approach relies on mechanical ideas which do not reflect natural occurrences and human creativities. Therefore it does not work in reality. References list Samuelson, P.A. (1955). Economics, 3rd ed. McGraw-Hill. Gregory Mankiw (2006) ‘The macroeconomist as scientist and engineer’, Journal of Economic Perspectives, Vol. 20(4), pp. 36-46. Read More