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Summary Economic Challenges
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Summary - Economic ChallengesModule 1 – What are economic challenges?
Economic is the science of choice. Economist study how people use scare factors of production
(land, labour and capital) to produce various commodities and how these are distributed amongst
the members of society for consumption. Economists analyze trends in the business cycle, inflation,
economic growth and unemployment. Economics is the study of wealth, poverty and inequality
also studies the effect of government policy. The economy can be organized in different systems:
- Custom system (tradition): society is organized around tradition and habits. Custom
introduces elements of regularity, predictability and conformity into social relationships.
- Command system (authority): government or state decides the quantity, types and prices of
the goods being produced. Considered as the main characteristics of a communist economy.
- Market system: decentralized economic system in which firms and consumers pursue their
own material objectives and prices are determined by demand and supply of a country’s
individual citizens and businesses. Government interference is minimal, and the government
does not engage in central planning. In the market system the profit motive conducts the
majority to his tasks, this is a relative new concept. The market system is a mechanism for
sustaining and maintaining an entire society.
Until the 17th century the factors of production were not allocated by the market system. Land
resulted in prestige and status but was not a rent-producing good. There was no labour market
where individuals sold their services to the highest bidder. Capital only existed as private wealth, it
was not used for investing or risk taking. Land, labour and capital need to enter the market to make
the market system work. The economic revolution was a gradual process of spontaneous change:
- Emergence of national political units, isolated feudalism gave way to centralizes monarchies
- Rules and regulations of guilds were replaced by national laws, common measurements and
standardized currencies
- Material changes that made the market system possible (towns, roads and food provision)
- Rise of scientific curiosity and innovation
Module 2 – From Aristotle to Aquinas
Ancient Greece was a cashless society, most of the agricultural output never entered the market.
There was a very limited capacity to sustain non-farming population, most food was for the farmers
themselves. Cities had a market economy, but two differences with contemporary market society:
1. Parasitic role of the city as only importer of luxury goods for its upper class. It was the center
of consumption, not of production.
2. Reliance on unpaid slave labor.
In the pre-capitalist societies, wealth followed power. Either power trough politics, military or
religion. Nowadays power follows wealth. Political and economic life was dominated by warfare, the
Greek thinkers were mostly interested in efficient organization and administration. The man was the
leader of the household, consisting of women, children and slaves.
Xenophon (427 – 355 B.C.)
Xenophon’s book Oikonomikos is a Socratic dialogue about household management (Oikonomikos)
and agriculture. Xenophon believes that a good manager strives to increase the size of economic
surplus he supervises, this is accomplished through skill, order and the division of labour. Xenophon
developed a new concept of wealth; he made a distinction between use value and exchange value.
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,According to Xenophon wealth is gained when an individual experiences subjective use value in
consumption, when consumption is harmful, it cannot be wealth. Use value is the qualitative aspect
and exchange value is the quantitative aspect of value. The use value is different for everyone,
because of their personal experiences, because of this the use value of objects is impossible to
calculate. However, it is still important to Xenophon.
Plato (427 – 347 B.C.)
Plato attributes the emergence of a city to specialization, for Athens this is commerce and ocean
navigation, for Sparta this is agriculture and army. Plato started a theory of exchange:
specialization mutual dependence mutual exchange trade. However, Plato did not believe
that the market was capable of self-regulation, it required administrative control. The ideal state was
ruled by a philosopher-king, who purses true knowledge and has access to Plato’s ideal world. Plato
was no economist, he did not see the spontaneous working of the markets, he believed that there
needs to be authority, while this is not the case.
Aristotle (384 – 322 B.C.)
Aristotle was a pupil of Plato and the mentor of Alexander the Great. For Aristotle telos, the purpose
of things, was very important and usury, lending money against interest, was against the telos of
money, as the purpose of money is facilitating exchange, so usury is highly unjust. According to him
you should strive for happiness, so called eudaimonia. The role of the government should be to
maximize welfare. There are three types of justice:
1. Distributive justice: goods are distributed in proportion to the amount of work
2. Corrective justice: previous injustices demand compensation
3. Reciprocal justice or justice in exchange: if exchange is voluntary, it must be just
Aristotle recognizes that just exchange does not determine a unique price: range between the
lowest price (L) the seller is willing to accept and the highest price (H) the buyer is prepared to pay.
The just price is not the arithmetic or geometric mean, but the harmonic mean of L and H. There are
two types of economic activity that can be used to become wealth: Oeconomia (housekeeping) and
Chrematistiké (profit making), according to Aristotle household management is natural but retail
trade is unnatural. The essence of economic activity is enabling a good life in the city.
In the roman empire there was a development of the law and there came jurisprudence and this was
of great importance for economic activity. The Islam was important for saving the thought Greek
philosophers. Ibn Khaldun (1332 – 1406) was influential because he discusses the effect of division
of labour and specialization on productivity, the influence of tastes on demand, the choice between
consumption and capital accumulation and the impact of taxes on production.
The Middle Ages
There was a manorial system in place during the Middle Ages, while land was rule by feudalism.
Meaning that local lords were the center of power, land was divided amongst vassals, in exchange
for loyalty, military aid and taxes. During the Middle Ages there was a static economic system, low
productivity, which was aimed at self-sufficiency. Different dynamic grew within cities, townspeople
free themselves from feudal obligations which led to merchants starting to regulating commercial
activity within towns. Guilds were very important because they imposed general rules on production
methods, prices and wages. However, they discouraged competition and gained a monopoly in the
industry. The church reconsidered the view on usury, they consider risk, opportunity costs and
compensation cost. They normalize usury and make money with money at expense of others.
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, Thomas Aquinas (1225 – 1274)
In Summa Theologica Thomas Aquinas talks about the ethical aspects of prices, the so-called
doctrine of just price. The just price is the current price, which depends on location, time and risk of
transport. Willingness to pay should not influence the price and profit-making is only virtuous if
there is a just price in exchange. There was an introduction of indigentia, the demand influences the
price. However, if the market price does not cover the production costs, the production will stop.
This is the influence of supply on price. The Scholastics fail to clearly distinguish the influence of
demand and supply on prices.
There are three important changes that were needed to convert a medieval society to a market
society as we are used to today:
1. General acceptance of profit-making being legitimate
2. Economic life needs to be monetized, every task must have a monetary reward
3. The laws of demand and supply must take over the role of lords and guilds, who are guiding
economic activity
Module 3 – Mercantilists, Physiocrats & Adam Smith
There were changes in European feudalism: urbanization, crusades, rise of commerce between
nations, the Ages of Exploration and the change in religions, because Calvinism was better for
business than Catholicism. The consequences of these changes were:
- Separation of economic from social life
- Land, labour and capital become factors of production
- Formation of different social classes: laborer’s, landowners and capitalists
- Emergence of profit motive in all layers of society
Mercantilism refers to the period between feudalism and liberalism. Mercantilism is an economic
system of a country that focuses on the accumulation of wealth, specifically on precious metals,
through maximizing exports and limiting imports. Mercantilists saw international trade as a zero-
sum game, which means that gains in wealth from one country are at the expense of the other.
Mercantilists were advisors to European monarchs in the 16 th-18th century, they were not an
organized school of thought. During their policy countries consolidate their borders and fight for
overseas colonies. They believed that the wealth of a nation depends on the amounts of silver and
gold (bullionism). Mercantilism caused a shift in economic thinking from justice to materialism. A
consistent positive trade balance causes an inflow of gold and silver. Key points under Mercantilism:
- Positive trade balance: exports > imports
- Imports should be restricted to raw materials, which should be processed domestically
- Better to extract precious metals and raw materials from colonies
- Award monopolies, patents, subsidies and privileges to loyal subjects of the crown
David Hume (1711 - 1776) criticized the Mercantilism, he created the price-specie flow mechanism:
exports > import gold flows into the country more gold for an equal amount of good
inflation discourages exports and stimulates imports gold flows out of the country deflation
stimulates exports and discourages imports the cycle continues.
Adam Smith thinks that true wealth should be measure by standard of living of consumers. True
wealth is measured by real goods. David Ricardo though about the comparative advantage, and that
international trade can be a win-win situation.
In France the national income had fallen by half from 1660 to 1700, because of the expensive wars +
extravagances of Louis XIV, multiple famines and an underconsumption because of high taxes: there
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