MODULE WEEK NO.

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TAGOLOAN Community College
Baluarte, Tagoloan, Misamis Oriental
Tel. No. (08822)740-835/(088)5671-215

University
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College of Business Administration
BAC 101/BAC 202/ECON 101: Basic Micro Economics
1st Semester of A.Y. 2020-2021

Introduction

The history of economic though deals with different thinkers and theories in the field of
political economy and economics from the ancient world right up to the present day.
Although the British philosopher Adam Smith is generally considered the father of economics,
his ideas built upon a considerable body of work from predecessor in the eighteenth century.
They in turn were grappling with wisdom received from centuries before and attempting to
apply it to modern setting. Economics was not considered a separate discipline until
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nineteenth century. Aristotle, the ancient Greek philosopher, grappled with the “art” of
wealth acquisition, and whether property is best left in private, or public, hands in his works
on politics and ethics. In mediaeval times, scholars like Thomas Aquinas argued that it was a
moral obligation of businesses to sell goods at a just price. Economic thought evolved
through feudalism in the Middle Ages to mercantilist theory in the renaissance, when people
were concerned to orient trade policy to further the national interest. The modern political
economy of Adam Smith appeared during the industrial revolution, when technological
advancement, global exploration, and material opulence that had previously been
unimaginable was becoming a reality. Changes in economic thought have always
accompanied changes in the economy, just as changes in economic thought can propel
change in economic policy.

Rationale

The Greeks are often regarded as the first important contributors to western culture. While
archaeology continually discovers new information, it is commonly believed that the early
man evolved in Africa and began as early as 8000 B.C. in the area between the east end
of the Mediterranean Sea and valleys of the Tigris and Euphrates rivers. Between 1200 and
200 B.C., the classical Greek civilization developed and flourished. The Greek lived in city-
states and sustained a level of economic development. There were many factors that
contributed to their success. In addition to resources, weather and location, the attitudes of
the Greeks toward knowledge and philosophy contributed to their development.

Following Adam Smith’s Wealth of Nations, classical economists such as David Ricardo and
John Stuart Mill examined the ways the landed, capitalist and laboring classes produced
and distributed national riches. In the midst of the London slums, Karl Marx castigated the
capitalist system of exploitation and alienation he saw around him, before neo-classical
economics in a new Imperial era sought to erect a positive, mathematical and scientifically
grounded field above normative politics. After the wars of the early twentieth century, John
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Maynard Keynes led a reaction against governmental abstention from economic affairs,
advocating interventionist fiscal policy to stimulate economic demand, growth and
prosperity. But with a world divided between the capitalist first world, the communist
second world, and the poor of the third world, the post-war consensus broke down. Men
like Milton Friedman and Friedrich Von Hayek caught the imagination of western leaders,
warning of The Road to Serfdom and socialism, focusing their theory on what could be
achieved through better monetary policy and deregulation.

A body of theory later termed neo-classical economics or marginalist economics was

formed about 1870. Neo-classical economists popularized the term economics as a
substitute for the earlier termed “political economy.” The neo-classical economics
systemized supply and demand as joint determinants of price and quantity in market
equilibrium, affecting both the allocation of output and the distribution of income. It
dispensed with the labor theory of value inherited from classical economics in favor of a
marginal utility theory of value on the demand side and a more general theory of costs on
the supply side.

Its critics or sympathizers occasionally refer neo-classical economics as Orthodox

Economics. Modern mainstream economics build on neo-classical economics introduces
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many refinements that either supplement or generalize earlier analysis in analyzing long-run
variables affecting national income.

Intended Learning Outcomes

A. Identify the Greek philosophers and their contributions to economist;

B. Identify the different classical economist and their achievements; and
C. Identify the neo-classical economists and their contributions.
Activity

What is History of economic thought? Explain History of economic thought.

https://www.youtube.com/watch?v=zpItZSLaiOg

Discussion

* THE ANCIENT ECONOMIC THOUGHT *

ANCIENT ECONOMIC THOUGHT
Some prominent classical scholars have asserted that relevant economic thought did not
arise in Europe until the Enlightenment (Meikle 1997). Early economic thought was based on
metaphysical principles which are incommensurate with contemporary dominant
economic theories such as neo-classical economics (Lowry 2003).

Starting with Hesiod (8BC), being a farmer, was interested in efficiency-an economic
concept measured as a ratio of outputs to inputs. Maximum efficiency is taken to be
achieving the largest possible output with a given input. Hesiod lived in a place that was not
exactly conducive to agriculture, a “sorry place… bad in winter, hard in summer, never
good” (Rand1911). Because of this, he understood and wanted to help alleviate the
problem of scarcity on earth. In Works and Day, he noted that because of scarcity time,
labor, and production goods had to be carefully allocated. He advocated more freedom

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in land owning and less stringent rules on the payment of interest. When one considers the
audience for whom he wrote, it can be understood that Hesiod wanted to help alleviate
the problems of hunger and debt. (Rand 1911:131-165).

One of the prolific philosophers of Greece who made a philosophical point of view was
Plato (468-399 BC). In his Republic, he made mention of specialization as the reason for and
justification of society. He said that through specialization, the individual learns and perfect
his knowledge in skills in an art or practice as well as increasing the production of material
things. Specialization results in increased production because the individual becomes more
knowledgeable about their craft.

For Plato, specialization has two effects, First, it increases output and improves the welfare of
the individual in society by producing more goods and services. Second, it is a component
of justice. Plato has linked justice with each person. He said that individuals are not self-
sufficient and that humans must coordinate their activities to facilitate their works. He further
stated that interpersonal relationship is necessary and justice exists when each group does
those things that are in their nature.

Xenophone (430-355 BC), was student of Socrates who viewed division of labor and the
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allocation of resources within the Latifunda, pieces of landed property covering tremendous
areas, as a way to self-sufficiency. He said that with efficient management of this large
estate, it will eventually lead to self-sufficiency. He termed this kind of management as
“Oeconomicus.”

Aristotle (384-322 BC) divided the concerns of economics into two separate fields: one was
oikonomiks and the other chrematitiks. Oikonomiks dealt with the production and
consumption of goods while chrematistiks encompassed the activities of money-making as
well as some aspects of production. Oikonomiks was an analysis of how decisions were
made regarding the management of resources. Chrematistiks studied human activities
involved with wealth-getting which could be natural and unnatural.

Aristotle made a clear distinction between the activities that involved real things and those
that were pecuniary or monetary. While the two activities were related, he saw them as
fundamentally different.

In the modern world, observers often confused the two. It is often not clear whether the
economic unit is making goods or making money or both.

THE RISE OF MERCANTILISM

Mercantilism is an economic theory that holds the prosperity of a nation depends upon its
supply of capital, and that the global volume of trade is “unchangeable.” Economic assets,
or capital, are represented by bullion (gold, silver, and trade value) held by the state, which
is best increased through a positive balance of trade with other nations (exports minus
imports). Mercantilism suggest that the ruling government should advance these goals by
playing a protectionist role in the economy, by encouraging exports and discouraging
imports, especially through the use of tariffs. The economic policy based upon these ideas is
often called the mercantile system.

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Mercantilism was established during the early modern period (starting in the 16th to the 18th
century, which roughly corresponded to the emergence of the nation-state). This led to
some of the first instances of significant government intervention and control over market
economies, and it was during this period that much of the modern capitalist system was
established.

With the rise of nation-states and expanded trade, economic thought was restricted.
Mercantilism provided for a justification for and explanation of the activities of the rising
merchant class. Trade was seen as the source of national wealth. The accumulation of
bullion was the objective of trade and was to be accomplished by a favorable balance of
trade or the exercise of national power. This leads to a new role for governments; the
regulation of trade and economic activities.

Mercantilism was not without problems. Its success, particularly in Spain, led to the discovery
of the “quantity theory of money” and inflation. Excesses in regulation and inflation
ultimately lead to a re-evaluation of economic thought.

THE PHYSIOCRATS
The physiocrats were a group of economists who believed that the wealth of nations was
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derived solely from the value of land agriculture and land development. Their use of the
term laissez faire meant that the only legitimate form of government revenue derived from
the value of land. Their theories originated in France and were most popular during the
second half of the 18th century. Physiocracy is perhaps the first well developed theory of
economics. The movement was particularly dominated by Anne-Robert-Jacques Turgot
(1727-1781) and Francois Quesnay (1694-1774). It immediately preceded the first modern
school, classical economics, which began with the publication of Adam Smith’s The Wealth
of Nations in 1776.

The most significant contribution of the physiocrats was their emphasis on productive work
as the source of national wealth. This is in contrast to earlier schools, in particular
mercantilism, which often focused on the ruler’s wealth, accumulation of gold or the
balance of trade. A chief weakness from the mistaken viewpoint of modern economics is
that they only considered agricultural labor to be valuable. Physiocrats viewed the
production of goods and services as consumption of the agricultural surplus, while modern
economics consider these to be productive activities which add to national income.

The Physiocrats, especially Turgot, believed that self-interest was the motivating reason for
each segment of the economy to play its role. Each individual was best suited to determine
what goods he wanted and what work would provide him with what he wanted out of life.
While a person might labor for the benefit of others, he will work harder for the benefit of
himself; however. Each person’s needs are being supplied by many other people. The
system works best when there is a complementary relationship between one person’s needs
and another person’s desires, and trade restrictions place an unnatural barrier to achieve
one’s goals.

THE LAISSEZ-FAIRE THEORY

Laissez-Faire is a French phrase meaning ”let do”. From the French diction first used by the
18th century physiocrats as an injunction against government interference with trade, it
became used as a synonym for strict free market economics during the early and mid-19th
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century. It is generally understood to be a doctrine that maintains that private initiative and
production are best allowed to roam free, opposing economic interventionism and taxation
by the state beyond that which is perceived to be necessary to maintain individual liberty,
peace, security, and property rights.

It was originally introduced in the English-language word in 1774, by George Whatley, in the
book Principles of Trade, which was co-authored with Benjamin Franklin.

In the laissez-faire view, the state has no responsibility to engage in intervention to maintain
a desired wealth distribution or to create a welfare state to protect people from poverty,
instead relying on charity and the market system. Laissez-faire also embodies the notion that
a government should not be in the business of granting privileges. As such, advocates of
laissez-faire support the idea that the government should not create legal monopolies or
use force to damage de facto monopolies. Supporters of laissez-faire also support the
notion of free trade on the grounds that the state should not use protectionist measures,
such as tariffs and subsidies, in order to curtail trade through national frontiers.

* THE INDUSTRIAL REVOLUTION AND CLASSICAL ECONOMICS *

ADAM SMITH AND THE CLASSICAL SCHOOL
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Adam Smith (1723-1790), who is recognized as the founder of Classical School, constructed
an explanation on how social behavior is regulated. Like Aristotle, Smith’s view of
economics was shaped by the world he observed. Smith saw a world where each person
sought his own self-interest but was constrained by morality, markets and government.

Smith developed an analysis of the moral system through his

book entitled, “The theory of Moral Sentiment’ in 1759 and on
economics, the “Wealth of the Nation” in 1776.

The Wealth of Nations rejects the Physiocratic school’s emphasis

on the importance of land; instead, Smith believed labor was
paramount, and that a division of labor would affect a great
increase in production. However, it is less well known that Smith
also concluded that excessive division of labor would lead man
to his most ignorant state possible. The Wealth of the Nations was
so successful, in fact, that it led to the abandonment of earlier
economic schools, and later economists, such as Thomas
Malthus and David Ricardo, focused on refining Smith’s theory
into what is now known as classical economics. Both Modern
Adam Smith (1723-1790) Adam Smith (1723-1790)
economics and separately, Marxian economics owed
significantly to classical economics. Malthus expanded Smith’s thoughts on overpopulation,
while Ricardo believed in the “iron law of wages” –that overpopulation would prevent
wages from topping the subsistence level. Smith postulated as increase of wages with an
increase in production, a view considered more accurate today.

One of the main points of The Wealth of Nations is that the free market, while appearing
chaotic and unrestrained, is actually guided to produce the right amount and variety of
goods by a so-called “invisible hand,” an image that Smith had previously employed in
Theory of Moral Sentiments, but which has its original use in his essay, “The History of
Astronomy”. If a product shortage occurs, for instance, its price rises, creating a profit
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margin that creates an incentive for others to enter production, eventually curing the
shortage. If too many producers enter the market, the increased competition among
manufacturers and increased supply would lower the price of the product to its production
cost, the “natural price”. Even as profits are zeroed out at the “natural price,” there would
be incentives to produce goods and services, as all costs of production, including
compensation for the owner’s labor, are also built into the price of the goods. If prices dip
below a zero profit, producers would enter the market. Smith believed that while human
motives are often selfishness and greed, the competition in the free market would tend to
benefit society as a whole by keeping prices low, while still building in an incentive for a
wide variety of goods and services. Nevertheless, he was wary of businessmen and argued
against the formation of monopolies.
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DAVID RICARDO (THE THEORY OF COMPARATIVE ADVANTAGE)

Ricardo’s most famous work is his Principles of Political Economy and Taxation. Ricardo
opens the first chapter with a statement of the labor theory of value. Later in this chapter,
he demonstrates the prices do not correspond to this value. He retains the theory, however,
as an approximation. Ricardo continued to work on his value theory to the end of his life.

This book introduces the theory of comparative advantage. According to Ricardo’s theory,
even if a country could produce everything more efficiently than another country, it would
reap gains from specializing in what it was best at producing and trading with other nations.
(Case & Fair, 1999). Ricardo believed that wages should be left to free competition, so there
should be no restrictions on the importation of agricultural products from abroad.

The benefits of comparative advantage are both distributional and related to improved
real income. Within Ricardo’s theory, distributional effects included that foreign trade could
not directly affect profits because profits respond only in changes to the level of wages. The
effects on income are always beneficial because foreign trade does not affect value.

Comparative advantage from the basis of modern trade theory, reformulated as the
Heckscher-Ohlin theorem, which states that a country has a comparative advantage in the
production of a product if the country is relatively well endowed with inputs that are used
intensively in producing the product. (Case & Fair, 1999).
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THOMAS ROBERT MALTHUS AND THE PRINCIPLE OF POPULATION
Malthus largely developed his views in reaction to the optimistic opinions of his father and
his associates, notably Rousseau. Malthus’s essay constituted a response to the views of the
Marquis de Condorcet (1743-1794). In An Essay on the Principle of Population, first published
in 1798, Malthus made the famous prediction that population would outrun food supply,
leading to decrease in food per person. (Case & Fair, 1999).

This “Principle of Population” depended on the idea that population, if unchecked,

increases at a geometric rate (i.e. 2, 4, 8, 16, etc.), whereas the food-supply grows at an
arithmetic rate (i.e. 1, 2, 3, 4, etc.).

Malthus suggested that only natural causes (such as accidents and old age), misery (war,
pestilence, plague, and above all the famine), moral restraint and vice (which for Malthus
included infanticide, murder, contraception and homosexuality), could check excessive
population-growth.

Malthus favored moral restraint (including late marriage and sexual abstinence) as a check
on the growth of population. Note, however, that Malthus proposed this only for the working
and poor classes. The lower social classes took a great deal of responsibility for societal ills,
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according to his theory. In his work An Essay on the Principle of Population, he proposed the
gradual abolition of poor laws. Essentially, this resulted in the promotion of legislation, which
degenerated the conditions of the poor in England, lowering their population but
effectively decreasing poverty.

Malthus himself noted that many people misrepresented his theory; he took pains to point
out that he did not just predict future catastrophe. He argued: “…this constantly subsisting
cause of periodical misery has existed ever since we have had any histories of mankind,
does exist at present, and will for ever continue to exist, unless some decided change takes
place in the physical constitution of our nature.”

Thus, Malthus regarded his Principle of Population as an explanation of the past and of the
present situation of humanity, as well as a prediction of the future.

MARGINALIST SCHOOL
Classical economists theorized that prices are determined by the costs of production.
Marginalist economist emphasized that prices also depend upon the level of demand,
which in turn depends upon the amount of consumer satisfaction provided by individual
good and services.

Marginalists provided modern macroeconomics with the basic analytic tools of demand
and supply, consumer utility, and a mathematical framework for using those tools.
Marginalist also showed that in a free market economy, the factors of production –labor,
labor, and capital – receive returns equal to their contributions to production. This principle
was sometimes used to justify the existing distribution of income: that people earned exactly
what they or their property contributed to production.

THE MARXIST ECONOMICS

The Marxist economic thought comes from the work of German economist Karl Marx. The
first volume of Marx’s major work, The Capital, was published in Germany in 1867. In it, Marx
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focused on the labor theory of value and what he considered to be the exploitation of
labor by capital. Marx proclaimed the capitalism was doomed and would soon be followed
by business depressions, revolutionary upheavals and socialism.

In the 1830’s and 1930’s deep economic depressions, the twentieth (20 th) century economic
intellectuals began to question the economic viability of private enterprise capitalism.
Socialists began to apply their model in the Soviet Union in 1917 and by the 1980’s almost
one-third of the world was ruled by Marxian doctrines.

* THE NEO-CLASSICAL ECONOMICS *

Alfred Marshall was the dominant figure in British economics from about 1890 until his death
in 1924. His specialization was microeconomics – the study of individual markets and
industries, as opposed to the study of the whole economy. His most important book was
Principles of Economics. In it Marshall emphasized that the price and output of a good were
determined by both supply and demand: the two curves are like scissor blades that
intersect at equilibrium. Modern economists trying to understand why the price of a good
changes still start by looking for factors that may have shifted demand or supply. They owe
this approach to Marshall. To Marshall also goes credit for the concept of price-elasticity of
demand, which quantifies buyers’ sensitivity to price.
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Marshall also originated the concept of consumer surplus. He noted that the price was
typically the same for each unit of a commodity that a consumer bought, but the value to
the consumer of each additional unit declines. A consumer will buy units up the point where
the marginal value equals the price. Therefore, an all units previous to the last one, the
consumer reaps a benefit by paying less than the value of the good to himself. The size of
the benefit equals the difference between the consumer’s value of all these units and the
amount paid for the units. This difference is called the consumer surplus, for the surplus value
or utility enjoyed by consumers. Marshall also introduced the concept of producer surplus,
the amount the producers is actually paid minus the amount that he would willingly accept.
Marshall used these concepts to measure the changes in well-being from government
policies such as taxation. Although economists have refined the measures since Marshall’s
time, his basic approach to what is now called welfare economics still stands.

Marshall wanted to understand how markets adjusted to changes in supply or demand over
time. Therefore, he introduced the idea of three periods. First is the market period, the
amount of time for which the stock of a commodity is fixed. Second, the short period is the
time in which the supply can be increased by adding labor and other inputs but not by
adding capital, third, the long period is the amount of time taken for capital to be
increased.

To make economics dynamic rather that static, Marshall used tools of classical mechanics,
including the concept of optimization. With these tools he, like neoclassical economists who
have followed in his footsteps, took as givens technology, market institutions, and people’s
preferences. But Marshall was not satisfied with his approach. He once wrote: “the Mecca
of the economist lies in economic biology rather than in economic dynamics.” In other
words, Marshall argued that the economy was an evolutionary process in which
technology, market institutions, and people’s preferences evolved along with people’s
behavior.

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Rarely did Marshall attempt a statement or position without expressing countless
qualifications, exceptions, and footnotes. Marshall showed himself to be an astute
mathematician –he studied math at St. John’s College, Cambridge –but limited his
quantitative expressions so that he might appeal to the layman.

THE KEYNESIAN ECONOMICS

During the Great Depression, Keynes had published his most important work, The General
Theory of Employment, Interest, and Money (1936). The depression had been sparked by the
Wall Street, leading to debts being recalled from European borrowers, and an economic
domino effect across the world. Orthodox economics called for a tightening of spending,
until business confidence and profit levels could be restored. Keynes by contrast, had
argued in A Tract on Monetary Reform (1923) that a variety of factors determined
economic activity, and that it was not enough to wait for the long run market equilibrium to
restore itself. As Keynes famously remarked, “…this long run is a misleading guide to current
affairs. In the long run we are all dead. Economists set themselves too easy, too useless a
task if in tempestuous seasons they can only tell us that when the storm is long past the
ocean is flat again.”

On top of the supply of money, Keynes identifies the propensity to consume, inducement to
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invest, the marginal efficiency of capital, liquidity preference and the multiplier effect as
variables which determine the level of the economy’s output, employment and level of
prices. Keynes especially for his General Theory invented much of this esoteric terminology,
though some simple ideas lay behind. Keynes argued that if savings were being kept away
from investment through financial markets, total spending falls. Falling spending leads to
reduce incomes and unemployment, which reduces savings again. This continues until the
desire to save becomes equal to the desire to invest, which means a new “equilibrium” is
reached and the spending decline halts. This new “equilibrium” is a depression, where
people are investing less, have less to save and less to spend.

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Exercise

1. Explain economic principles present in Xenophone “Oeconomicus.” Just provide a

short original answer in not more than fifty (50) words.
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2. Discuss Aristotle’s distinction of the divided concerns of economics. Just provide a

short original answer in not more than fifty (50) words.
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3. Discuss the contributions made by Mercantilism and the Physiocrats to economic

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theory. Just provide a short original answer in not more than fifty-five (55) words.
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4. What is Laissez-faire Theory. Just provide a short original answer in not more than
forty-five (45) words.
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5. Explain the difference between Classical Economics and Neo-Classical Economics

Theory.
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Assessment

Name: Date: Score:

Year/Section: Day/Time:

MULTIPLE CHOICE: FOLLOW INSTRUCTION. Choose the letter of the correct answer and write
it down on the space provided for in each item:

_______ 1. He stated that specialization is the reason for and justification of society.
A. Socrates C. Plato
B. Aristotle D. Jeremy Bentham

_______ 2. He viewed division of labor and proper allocation of resources as a way to

self-sufficiency.
A. George Whatley C. Karl Marx
B. John Maynard Keynes D. Xenophone

_______ 3. It deals with the production and consumption of goods.

A. Oikonomiks C. Chrematistiks
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B. Physiocracy D. Latifunda

_______ 4. It encompasses activities of money making and aspects of production.

A. Oikonomiks C. Chrematistiks
B. Physiocracy D. Latifunda

_______ 5. He made a clear distinction between the activities that involved real things
and those that were pecuniary or monetary.
A. Francois Quesnay C. Chrematistiks
B. Aristotle D. Socrates

_______ 6. An economic theory that holds, “prosperity of a nation depends upon its
supply of capital.”
A. Laissez-Faire C. Physiocracy
B. Latifunda D. Mercantilism

_______ 7. A group of economists who believed that the wealth of nation is derived from
land development.
A. Aristocrats C. Marginalists
B. Physiocrats D. None of the Above

_______ 8. It is believed to be the first well-developed theory of economics.

A. Growth Theory C. Mercantilism
B. Laissez-Faire D. Physiocracy

_______ 9. A synonym for strict free market economics:

A. Socialism C. Laissez-Faire
B. Communism D. None of the Above

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_______ 10. Laissez-Faire is a French phrase meaning:
A. Free Competition C. Market
B. Let do D. None of the Above

_______ 11. The tern “economics” was popularized by neo-classical economists as

substitute for:
A. Wealth C. Natural Resources
B. Division of Labor D. Political Economy

_______ 12. David Ricardo’s famous work introduces the theory of:
A. Malthusian Theory C. Population Explosion
B. Comparative Advantage D. Production

_______ 13. He made the famous prediction that population would outrun food supply.
A. Thomas Malthus C. Socrates
B. Adam Smith D. Jeremy Bentham

_______ 14. He opposed capitalism and would soon result to business depression.
A. Jeremy Bentham C. Karl Marx
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B. Alfred Marshall D. Adam Smith

_______ 15. Alfred Marshall’s most important book:

A. Growth Theory C. The Capital
B. Principles of Economics D. Wealth of Nations

Reflection

Identify the different Greek Philosophers, Classical & Neo-Classical economists and their
achievements or contributions.
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Resources and Additional Resources

Fundamentals of Economics with Agrarian Reform, Taxation and Cooperatives

(A Modular Approach) Revised Edition by Roman D. Leaño, Jr. and Ronald M. Corpuz
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