Neoclassical Economics – Definition

Cite this article as:"Neoclassical Economics – Definition," in The Business Professor, updated December 14, 2018, last accessed May 30, 2020, https://thebusinessprofessor.com/lesson/neoclassical-economics-defined/.

Back to: ECONOMICS, FINANCE, & ACCOUNTING

Neoclassical Economics Defined

Neoclassical Economics is a dominant economic theory that argues, as the consumers’ goal is utility maximization and the organizations’ goal is profit maximization, the customer is ultimately in control of market forces such as price and demand. The theory relates the supply and demand to an individual’s rationality and ability to maximize utility. It applies mathematical equations to analyze different aspects of economics.

A Little More on Neoclassical Economic Theory

The Neoclassical economics has its root in the works of Adam Smith (1723-90) and David Ricardo (1772-1823). The theory was refined by Alfred Marshall (1842-1924), Vilfredo Pareto (1848-1923), John Clark (1847-1938), and Irving Fisher (1867-1947) during 19th and 20th century. The term Neoclassical economics was coined in 1900.
Today, the mainstream economics is dominated by the Neoclassical synthesis formed by the Neoclassical economics together with Keynesian economics.

The Neoclassical theory assumes the consumers often perceive a product as being more valuable than the cost of production and the perceived value depends on the utility of the product and it affects the demand of the product. In contrary, classical economics calculates the value of a product as the cost of material plus the cost of labor. The neoclassical thought refutes this idea of product cost.

The Neoclassical economists argue, the consumers want to maximize their personal satisfaction and thus they make informed decisions based on the evaluation utility of a product. This is similar to the rational behavior theory which argues that people rationally make economic decisions.

This theory also states that competition leads to an efficient allocation of resources within an economy. It says the market equilibrium between supply and demand is established by this resource allocation.

The critics of the neoclassical economic theory argue the neoclassical economics is based on unrealistic assumptions that are far from the real situations. It assumes all parties behave rationally while taking an economic decision, but this assumption does not consider the susceptibility of human nature to other forces. The decision of a consumer is not free, and they may make irrational choices due to other forces.
The neoclassical theory holds that matters like labor law will improve naturally as a result of the economic condition. This argument is vehemently criticized by many economists who believe this theory leads to inequalities in global debt and trade relations.

The neoclassical theory states, there is no upper limit for a capitalist’s profit-making. As the value of the product depends on the perception of the consumers, the capitalists can exploit this to make money. The selling price minus the cost of the production is called the economic surplus.

References for Neoclassical Economics

Academic Research on Neoclassical Economics

  • Viability, Economic Transition and Reflections on Neoclassical Economics, Yifu, L. (2002). Economic Research Journal12, 005. This paper argues that the failure of the neo-classical economic theory in Europe, China and the former Soviet Union is as a result of the implicit viability in the assumption of neo-classical economics. The neoclassical economies absolutely assume that a firm is expected to gain a widely and socially acceptable level of profit in an open but competitive market inasmuch as the firm possesses normal management. Nonetheless, several firms in the transitional and socialist economies are not viable, which means they will never be able to earn the socially acceptable profit in an open but competitive market even if they possess the normal management simply because they are found in sectors that remains inconsistent with their economies’ comparative advantages. This paper predicts that the viability assumption in the neoclassical economics should be relaxed when examining a transition, socialist and developing economies.
  • Neo-classical economics and neo-Darwinism: clearing the way for historical thinking, Khalil, E. L. (1993). In Economics as worldly philosophy (pp. 22-72). Palgrave Macmillan, London. This paper explains the assumption of the Neo-classical economic theory and the Neo-Darwinism by providing solutions for historical studies. According to this paper, the works of Professor Robert L Heilbroner was considered and one out of several arguments was considered in this paper. His assumption as regards the study of large scale historical change was ambiguous. Hence, one should seek answers from the Neo-classical economics since it is ahistorical.
  • Neo-classical economics as a stratagem against Henry George, Gaffney, M. (1994). The corruption of economics, 29-163. This academic paper studies Neo-classical economics as a scheme against Henry George’s belief in Classical economics.
  • Sanctioning resource depletion: economic development and neoclassical economics., Hall, C. A. (1990). Ecologist20(3), 99-104. This paper explains that this course and the Neo-Classical economic model of the development fail to take adequate account of the natural resource use and the environmental costs by relying on massive quantities of fossils fuels. This paper, however, debates that the most important economic goal for the developed nations is to reduce their reliance on polluting non-renewable resources. This paper also suggests that if fuels and its derivatives become too expensive, the market will have no other choice than to re-adjust the resource based on the increase in the population of humans.
  • Social costs, neoclassical economics, environmental planning: A reply, Kapp, K. W. (1972). Information (International Social Science Council)11(1), 17-28. This paper explains the social costs, environmental planning and Neo-classical economics. The correlation and important of these three variable factors were also explained in this study.
  • Public pension privatization: neoclassical economics, decision risks and welfare ideology, Dixon, J., & Hyde, M. (2003). International Journal of Social Economics30(5), 633-650. This paper, however, notes that although the Neo-classical economics has driven the world pension privatization reform agenda, it does not in any form provide adequate agenda for the reform of the retirement income protection. When retirees are confronted with the challenge of income maintenance, policymakers must adequately tackle important value-laden questions. This will cause them to engage in the disclosure of policies that are informed by competing for welfare ideologies. This paper, in a nutshell, studies the public pension privatization in respect to the welfare ideology, decision risks and neo-classical economics.
  • Neo-classical economics in Britain, Hobson, J. A. (1925). Political Science Quarterly40(3), 337-383. This paper explains the ways and manner in which the Neo-classical economics has helped in Britain. The advantages and disadvantages of this theory were studied and explained in this paper.
  • The World Bank, NeoClassical Economics and the Application of Asian Industrial Policy to Africa, Stein, H. (1995). In Asian Industrialization and Africa (pp. 31-52). Palgrave Macmillan, London. According to this paper, the extraordinary industrial expansion of most Asian countries in the last 10 years stands in contrast to the general economic dissatisfaction which has moved into sub-Saharan Africa. According to the pattern of rapid industrial expansion explained in this paper, there has been an association with the rising standard of living in Asia neglecting the Sub-Saharan Africa way behind them. Between 1965 and 1989, the Gross National Product per capita increased at a rate of 5.2% per annum in the east and South Asia while Sub-Saharan Africa managed only a .3% per annum.
  • Neo-classical economics and Indian agriculture: An econometric analysis of production behaviour, Junankar, P. N. (1982). In Development Economics (pp. 133-155). Palgrave Macmillan, London. The main aim of this study is to examine the assumption of the Neo-classical economic theory by making use of data gotten from Indian agriculture. This study discusses some of the major important assumptions to note when considering the neo-classical economics theories. The proposition gotten from this theory is them derived and the policy was proposed based on the Neo-classical economic theory. A new method for explaining the production behaviour of framers in developing countries was propounded and explained using the results gotten from this study via the Neo-classical economics theory.
  • Is management accounting theory breaking free from the shackles of neoclassical economics? A South African perspective, Shotter, M. (2001). Meditari Accountancy Research9(1), 257-284. According to this academic paper, the rate of management of accounting practices is relatively based on the neo-classical economics where all decision made is said to be rational and aimed at profit utilization or maximization and all other circumstances influences the making of decisions are stationary. This paper aims at studying the extent to which the management accounting theory has been founded on these assumptions and also records that the rising management accounting theory is based on the increasing alternative and more liberating foundations.
  • Resource Curse: a Framework of Neo-Classical Economics [J], LIU, R. M., & BAI, Y. X. (2008). Modern Economic Science1, 015. According to a research paper, a framework of the neo-classical economic theory was studied as regards the resource curse.

Was this article helpful?