Neoclassical View of Competition - Case Study Example

< Neo ical View of Competition > by Abstract In the essay, the criticisms of the Neoclassical view of competition by the Post Keynesian and especially the Austrian school of thought is discussed in detail. Table of Contents I. Introduction…………………………………………………..………….4 II. The Austrian School …………………………………………...……….5 III. Keynesian Economics………………………………………….……….6 IV. Analyzing Neoclassical Economics…………..……………….……..…6 V. The Austrian Criticisms………….……………………………..….….…8 V. Conclusion……………………………………………………....…….....9 Neoclassical View of Competition Introduction The neoclassical approach in economics focuses primarily on income distributions, priced terminations and outputs in the market with the economic entity service supply and demand. Along with Keynesian economics, Neoclassical economics is one of most vital forms of economics used by economists of the world today. Furthermore, neoclassical economics is widely used in the study of microeconomics. Lately, Neoclassical economics have been subject to a variety of criticisms, especially from the schools of Keynesian economics and the Austrian school. Essentially, Neo-Classical economics helps in establishing of equilibrium conditions which are known. Israel M. Kirzner (1997, p 63) states ‘Valiant attempts have been made to enrich the realism of these equilibrium microeconomic models by building into them assumptions acknowledging imperfections in competition. Nonetheless, the dominant trend has been to concentrate upon models of competitive equilibrium that is upon models in which both prices and product/resource qualities are taken as given to each decision maker, and as being in- dependent of the decisions made.’ Since the technology, preferences, the choice set and the variety as well as the number of goods are known values, Neoclassical in economics helps in providing a better defined solution for problems pertaining to resource allocation. According to some schools such as the Austrian school, Neoclassical economics has certain intrinsic problems. One of them is that neoclassical economics uses general assumptions for a better understanding of central planning solutions. However, the neoclassical economists do not give enough importance to the maximizing decisions. Rather, neoclassical economists make general assumptions about the market. This approach of neoclassical economics which undermines the contribution of the entrepreneur is sometimes harshly criticized by schools such as the Keynesian economics and the Austrian school. Israel M. Kirzner (1997, p 64) argues ‘Modern presentations of the entrepreneurial discovery approach have echoed these criticisms of equilibrium economics, and have deployed these criticisms in seeking to demote the concept of perfect competition from its position of dominance in modern neoclassical theory, in order to replace it by notions of dynamic competition (in which market participants are, instead of exclusively price takers, competitive price-and quality-makers). Within the two broad bases for Austrian (as well as for non-Austrian) criticism, several strands of difficulty with the neoclassical competitive equilibrium paradigm may be distinguished.’ The Austrian School The Austrian school is also called the Psychological School or the Vienna School. The Austrian school encourages a price mechanism for a price system which has a spontaneous organizing power. According to the mathematicians and economists is in the Austrian school, human behavior is extremely complex and dynamic, therefore making a perfect mathematical model of a market is very tough. Therefore, the Austrian school encourages the laissez faire economic approach. Additionally, the Austrian school also believes in the application of voluntary contractual accords on economic agents. Some of the notable supporters and founders of the Austrian school include Eugen von Böhm-Bawerk , Carl Menger, Ludwig von Mises, Henry Hazlitt and Friedrich Hayek. Austrian school today is considered to be part of mainstream economics. Israel M. Kirzner (1973, p 91) states ‘It was perhaps (not at least in annual American economics) until Hayek’s penetrating and pioneering paper “The Meaning Of Competition” that the distinction between the two concepts, competition as the process and competition as the state to resulting from the process, was drawn with clarity. Whether or not it is fair to ascribe to the neoclassical economist a theory of price that depended entirely on perfect competition is not our present concern.’ Keynesian Economics Yet another school which has been strongly opposing the neoclassical view of competition is Keynesian economics or the Keynesian Theory. The Keynesian Theory was proposed by John Maynard Keynes, the British economist. The Keynesian Theory states that the private sector is not efficient enough to make decisions which can help at the macroeconomic level. Therefore it is necessary that the public sectors such as central banks and fiscal policies to control the decision-making process of the private sector, so as to ensure that the business’s output are more stabilized. Moreover, Keynesian economics also supports the mixed economy comprising of the private sector, public sector and the government. It’s a proven fact that specialized knowledge is effectively utilized by decentralized markets. In Austrian economics, competition is defined and described in more realistic fashion than the Neoclassical view of competition. The Austrian school believes that the number of social as well as legal arrangements, which includes competition, helps to a great extent in preventing deceit by specialists who have private knowledge. Competition actually reduces the amount of choices for the economic agents, thereby reducing the chances of cheating and opportunism in the market. As such, Neoclassical view of competition sometimes ignores these important points related to competition, and as consequence, have been often criticized by the Austrian School. Analyzing Neoclassical Economics Although some believe Neo-Classical economics to be an extension of the classical form of economics, some other experts are of the opinion that neoclassical economics is a radical break from classical economics. In Neoclassical economics, ‘Exchange’ is used more often than ‘Profit’ for analyzing value. Neoclassical economics puts more emphasis on ‘Exchange Value’, unlike classical economics which focuses more on ‘Surplus Exchange’. Therefore it can be deduced that Neoclassical economics doesn’t put much importance to surplus exchange. Some experts from the Keynesian school of economics believe that this means that exchange does not include the concept of surplus exchange value, and hence the Neoclassical notion that competition eliminates profit is wrong concept. Concepts of competition and exchange are indirectly identified by Neoclassical economics. Especially in the microeconomics textbooks pertaining to Neoclassical economics, there are a number of contradictory chapters. It is described that competition eliminates profit and thus competition eliminates surplus exchange value. It also considers a competitive capitalist economy to be similar to a barter economy. However, the consideration that competitive capitalist economy eventually becomes an option is not at all correct, according to the economists following the Keynesian theory and the Austrian school. The Neoclassical theory also highlights the importance of market process allocation. According to this view, the incentive structures that help the individuals to make alternative choices often do not correspond to the preferences of the individual. Additionally, the resources are not always put to use which are highly valued economically, since the individual decision makers do not always make decisions which helps in getting a conceptually desirable result. Israel M. Kirzner (1973, p 208) comments ‘Now we see that the course of entrepreneurial competition itself may again and again generate at least temporarily patterns of resource ownership preventing subsequent entrepreneurs from duplicating what the most alert entrepreneurs have discovered it is profitable to produce.’ Central planning is a critique which is based on the idea of competitive general equilibrium. However, the idea of General Equilibrium makes a number of conjectures which includes perfect rationality and perfect competition of the economic agents. Willi Semmler (1982, p 95) states ‘Although neo-classical economists trace their theoretical roots back to Smith, classical political economy (Smith, Ricardo) developed a notion of competition and long-run equilibrium that is different from the neoclassical theory of perfect competition. The main features of classical political economy are the concept of reproduction and social surplus, a concept of a centre of gravity for market prices, and a particular notion of `equilibrium.’ The Austrian Criticisms The Austrian school believes that most of these assumptions by Neoclassical economics are controversial. Rationality cannot be conjectured to be always perfect, since relevant information needs to be perfect which is not always so. The Austrian school believes that perfect rationality can only be possible when there is Timeless Equilibrium, in which actions follow a general solution of the collective statements of the resources and preferences of the participants. According to Shackle, the meaning of General Equilibrium comes to an end when an economic theory supports imperfect competition. These are some of the reasons why the modern Austrian theorists severely criticized the Neoclassical view or Neoclassical critique of central planning and competition. Israel Kizner is one of the well known proponents of the Austrian school, who supports the view that a decentralized market is the ideal market structure for capturing the knowledge of localized conditions, which are essential for defining ultimate valuation. Kizner also believes that an individual can discover their preferences only through the market. The Smiths Theory of a Market System is stretched by the neoclassical economists, who have formulated a number of conditions which help in the realization of optimum resource allocation. Some of the important conditions emphasized by the neoclassical writers are producers who maximize profit, consumers who maximize utility, perfect mobility of the resources, and the lack of externalities among the activities of market agents. If these conditions are met, the prices converge to equilibrium prices in a competitive process. Therefore, the Neoclassical view of competition predicts a continuous exchange of commodities. Furthermore, competition causes and an innovation of disturbances and also perfect allocation of the resources. Another criticism of the neoclassical view is pertaining to the method in which a given economic commodity is distributed among the potential customers or claimants of the commodity. Neoclassical economics puts certain restrictions on capitalist earnings and receipts of existing goods. The Austrian school believes that such restrictions are wrong since this places certain artificial barriers when making an assessment of capitalist income. The Austrian school rather believes that Discovered Income should also be considered when making an assessment, which is disregarded by Neoclassical writers. Discovered Income is something which is gained when some valuable is discovered which was unknown earlier. Discovery can include input as well as new kinds of natural resources which were unknown earlier. Willi Semmler (1982, p 107) argues ‘However, a small number of firms, high entry barriers, and the possibility of collusion, does not mean that the competition among capitals is abolished. As Marx and a certain stream in the post-Marxian literature assume, regardless of concentrated and centralized capital, capitalism is regulated by the self-expansion and accumulation of independent units of capital. Competition among capitals in production, realization and distribution of surplus value cannot be abolished by concentration and entry barriers.’ Conclusion Since Neo-Classical view of competition ignores the concept of entrepreneurship to a great extent, the Austrian school of competition is considered to be more effective since it looks that competition has an evolutionary struggle. Furthermore, the Neoclassical view of competition and Neoclassical dynamics are presented as a processes having a moving equilibrium whereas the Austrian school views them as having permanently disturbed disequilibrium. It’s not true that the Neoclassical view of competition has a number of flaws and the other schools such as the Austrian school and the Keynesian school doesn’t. Although the Neoclassical view of competition is one of the most criticized, it is a fact that economic problems greatly differ and that is why certain schools are effective for certain problems while some are not. This is also why the four alternative schools of thought, namely the Neo-Classical; Keynesian school; Schumpeterian school and the Austrian school still coexist today, and most probably will continue to exist in the future. Bibliography Carlton and Perloff (2005) Chapts. 3 & 8 Cowling, K. (1982), Monopoly Capitalism. Earl, P. (1995) Microeconomics for Business and Marketing. Chapts.4 and 5 Kirzner, (1973), Competition and Entrepreneurship. Kirzner, (1997), Entrepreneurial Discovery and the Competitive Market Process: An Austrian Apprioach, Journal of Economic Literature, Vol.35. Lavoie, M. (1992) Foundations of Post Keynesian Economics Chpt 3. Reekie, W.D. (1979), Industry, Prices and Markets. Semmler (1982), Theories of Competition and Monopoly, Capital and Class. Vol.18. Carlton, D. and Perloff, J. (2005) Modern Industrial Organization (4th.ed.) Davies & Lyons (1989) Economics of Industrial Organisation. Hay, D. & Morris, D. (1991), Industrial Economics and Organisation, (2nd ed.). Lipczynski,J. Wilson,J. & Goddard,J. (2005) Industrial Organization: competition, strategy and policy (2nd.Ed.) Scherer, F. and Ross, D. (1990), Industrial Market Structure and Economic Performance, (3rd ed.). Tirole, J. (1989), The Theory of Industrial Organization. Waterson, M. (1984), Economic Theory of the Industry. Ricardo, D . (1951) . Principles of Political Economy and Taxation. Cambridge Read More