Economics 493/593 - History of Economic Thought

Review Questions - Material after Midterm 2

Review for first midterm is here.
Review for second midterm is here.

Review questions for material since the second midterm:

1. What are the reasons, according to Marx, for the falling rate of profit over time, capital accumulation, and crises? What are the consequences of the falling rate of profit, capital accumulation, and crises?

2. What was Jevons' main contribution to the theory of exchange?

3. Explain Jevons' determination of the length of the working day.

4. What is the water-diamond paradox? How does Jevons solve it?

5. Discuss and illustrate (using a table) Menger's ideas on total and m arginal utility.

6. Compare and contrast Menger's and Jevon's views on total and marginal utility.

7. What are Menger's views on factor price determination? How can they be used to refute the labor theory of value?

8. Explain Clark's marginal productivity theory and how it was used to counter Marx's claim that labor is exploited under capitalism.

9. What was Edgeworth's main contribution to utility theory? Explain.

10. Explain the contributions made by Edgeworth to production theory.

11. Explain why Marshall felt that economics is the most precise of all the social sciences.

12. Explain Marshall's views on consumer and producer surplus.

13. According to Marshall, what determines prices, supply or demand? Does the time period matter?

14. What factors, according to Marshall, cause firms to become more efficient as they grow? What determines whether they are increasing or decreasing cost industries? Why don't decreasing cost industries eventually become monopolized?

15. What economic conditions set the stage for the emergence of Keynesian economics? Prior to Keynesian economics, what was the prevailing view regarding government intervention to cure recessions? What was the basis for this view? What is the Keynesian view on government intervention? Broadly, how has that view changed over time?

Class Materials for Lecture 15

Brief Outline of Topics Covered in Lecture 15:

The Marginalist School (ch. 13)

Video:

Jevons

Homework #7

Economics 493
Fall 2008
Homework 7
Due Thursday, December 4

1. According to Marx, why does profit fall over time?

2. Use the numerical example developed in class to examine what happens to the rate of exploitation and profit if the length of the working day is extended to 15 hours.

3. What is Clark's response to Marx's theory of exploitation?

Class Materials for Lecture 14

Brief Outline of Topics Covered in Lecture 14:

Marxian Socialism (ch. 10) [cont.]
The Marginalist School (ch. 13)

Video:

Lecture 14 - YouTube
Lecture 14 - Google Video

Menger

Midterm 2 Solution

Midterm 2 and solution.

Review Questions for Midterm 2

Review Questions for Midterm 2
Economics 493/593
Fall 2008

1. According to Adam Smith, what is the difference between the market price and the natural price? Why is this distinction important?

2. Explain why Smith's value theory involved circular reasoning.

3. Why did Adam Smith believe wages would differ across occupations? What is the wages fund doctrine?

4. What did Smith think would happen to the rate of profit over time? What reasons did he give for his conclusion?

5. Explain Malthus' population theory. What policy implications did Malthus draw from this analysis?

6. Explain Malthus's theory of gluts. What policy conclusions did he draw from the analysis?

7. Explain Ricardo's theory of rent and the law of diminishing returns. What policy conclusions did he draw from this analysis?

8. Explain Ricardo's theory of comparative advantage.

9. Explain Ricardo's theory of distribution. Also explain why Ricardo believed that rent and profit are inversely related, and that that profit and wages are inversely related

10. How does hedonism differ from utilitarianism?

11. How did Bentham's utilitarianism lead him to egalitarian reform proposals? Why didn't he advocate complete equality of income?

12. According to J.B. Say, what was the fourth factor of production? How did the addition of this fourth factor of production this remove potential sources of class conflict from classical theory?

13. What is Say's law? What are the implications of Say's law?

14. Discuss Nassau William Senior's beliefs concerning positive and normative economics.

15. Discuss Nassau William Senior's views on the poor laws. What policies did he help to enact as a member of the Poor Law Inquiry Commission?

16. How did Nassau William Senior's views on rent differ from Ricardo's? How does this reduce class distinctions based upon the receipt of rent?

17. How do Mill's views on utility differ from Bentham's?

18. According to Mill, what are the three types of goods? Which is the most common?

19. What are Mill's views on government intervention?

20. Define and explain the following modes of production: Capitalism, State Capitalism, State Socialism, Utopian Socialism, Anarchism, Marxian Socialism (including the six stages of production), and Syndicalism.

21. What were Marx's views on the writings of Smith, Ricardo, Mill, Bentham, Say, and Senior? Why was he critical of much of what they wrote?

22. Explain Marx's theory of exploitation.

[Many of these are also homework problems]

Class Materials for Lecture 13

Brief Outline of Topics Covered in Lecture 13:

Marxian Socialism (ch. 10) [cont.]

Video:

Lecture 13 - YouTube
Lecture 13 - Google Video

Younger Karl Marx

"Fibonacci, Fermat, and Finance"

I went to a seminar yesterday in the Physics Department to see the manager of a hedge fund, John Seo, talk about "Fibonacci, Fermat, and Finance: How a Biophysicist Built a Multi-Billion Dollar Catastrophe Bond Fund after Re-Reading the Foundations of Modern Finance" (NY Times magazine story). One thing I learned at the seminar and from asking questions at dinner afterward was about the origins of present value analysis. It goes back to the mathematician Leonardo Fibonacci and chapter 12 of his book "Liber Abaci" written in 1202. Here's a working paper on the topic:

Fibonacci and the Financial Revolution William N. Goetzmann NBER Working Paper No. 10352: ...Traveling Merchant Problems The second type of financial problem is a set of “traveling merchant” examples, akin to accounting calculations for profits obtained in a series of trips to trading cities.

The first example is:

A certain man proceeded to Lucca on business to make a profit doubled his money, and he spent there 12 denari. He then left and went through Florence; he there doubled his money, and spent 12 denari. Then he returned to Pisa, doubled his money and it is proposed that he had nothing left. It is sought how much he had at the beginning.

[Update: the problem isn't clear about this, but 12 denari are spent at each of the three stops, including Pisa] Leonardo proposes an ingenious solution method. Since capital doubles at each stop, the discount factor for the third cash flow (in Pisa) is ½ ½ ½ . He multiplies the periodic cash flow of 12 denari times a discount factor that is the sum of the individual discount factors for each trip i.e. (1/2) + (1/4) + (1/8). The solution is 10½ denari. The discount factor effectively reduces the individual cash flows back to the point before the man reached Lucca.

Notice that this approach can be generalized to allow for different cash flows at different stages of the trip, a longer sequence of trips, different rates of return at each stop, or a terminal cash flow. In the twenty examples that follow the Lucca-Florence- Pisa problem, Leonardo presents and solves increasingly complex versions with various unknown elements. For example, one version of the problem specifies the beginning value and requires that the number of trips to be found – e.g. “A certain man had 13 bezants, and with it made trips, I know not how many, and in each trip he made double and he spent 14 bezants. It is sought how many were his trips.” This and other problems demonstrate the versatility of his discounting method. They also provide a framework for the explicit introduction of the dimension of time, and the foundation for what we now consider finance.

In case you don't see this, though he didn't explicitly use this formula, he realized that the "present value" of the cash flow is:

PV = [R₁/(1+i)¹] + [R₂/(1+i)²] + [R₃/(1+i)³]

where R_j is the cash spent at each point j on the trip, and i is the profit rate. In this case,  R_j = 12 for all j, and i=100%, or 1.0. Thus:

PV = [12/(1+1)¹] + [12/(1+1)²] + [12/(1+1)³]

      = [12/2] + [12/4] + [12/8]

      = 12[(1/2) + (1/4) + (1/8)] (as above)

      = 10.5

But does Fibonacci realize this applies not just to traveling merchants, but also to discounting financial cash flows over time? Yes. All you have to do is convert the problem back to the traveling merchant example. Going back to the NBER paper:

Immediately following the trip problems, Fibonacci poses and solves a series of banking problems. Each of these follows the pattern established by the trips example – the capital increases by some percentage at each stage, and some amount is deducted. For example:

A man placed 100 pounds at a certain [banking] house for 4 denari per pound per month interest and he took back each year a payment of 30 pounds. One must compute in each year the 30 pounds reduction of capital and the profit on the said 30 pounds. It is sought how many years, months, days and hours he will hold money in the house....

Fibonacci explains that the solution is found by using the same techniques developed in the trips section. Intervals of time replace the sequence of towns visited and thus a time-series of returns and cash draw-downs can be evaluated. Once the method of trips has been mastered, then it is straightforward to construct a multiperiod discount factor and apply it to the periodic payment of 30 pounds – although in this problem the trick is to determine the number of time periods used to construct the factor. Now we might use logarithms to address the problem of the nth root for an unknown n, but Fibonacci lived long before the invention of logarithms. Instead, he solves it by brute force over the space of three pages, working forward from one period to two periods etc. until he finds the answer of 6 years, 8 days and [5 and 1/2] hours. The level of sophistication represented by this problem alone is unmatched in the history of financial analysis. Although the mathematics of interest rates had a 3,000 year history before Fibonacci, his remarkable exposition and development of multi-period discounting is a quantum leap above his predecessors.

And, one final example:

Present Value Analysis The most sophisticated of Fibonacci’s interest rate problems is “On a Soldier Receiving Three Hundred Bezants for his Fief.” In it, a soldier is granted an annuity by the king of 300 bezants per year, paid in quarterly installments of 75 bezants. The king alters the payment schedule to an annual year-end payment of 300. The soldier is able to earn 2 bezants on one hundred per month (over each quarter) on his investment. How much is his effective compensation after the terms of the annuity have changed? ...

As before, Fibonacci explains how to construct a multi-period discount factor from the product of the reciprocals of the periodic growth rate of an investment, using the model developed from mercantile trips in which a percentage profit is realized at each city. In this problem, he explicitly quantifies the difference in the value of two contracts due to the timing of the cash flows alone. As such, this particular example marks the discovery of one of the most important tools in the mathematics of Finance – an analysis explicitly ranking different cash flow streams based upon their present value.

Class Materials for Lecture 12

Brief Outline of Topics Covered in Lecture 12:

The Rise of Socialist Thought (ch. 9)
Marxian Socialism (ch. 10)

Video:

Lecture 12 - YouTube
Lecture 12 - Google Video

Karl Marx
(1818-1883)

Homework #6

Economics 493
Fall 2008
Homework 6
Due Thursday, November 13

1. How do Mill's views on utility differ from Bentham's?

2. According to Mill, what are the three types of goods? Which type is the most common?

3. According to Marx, in the transition from slavery to feudalism to capitalism, how does each new system fool workers into working harder even though, in the end, they are no better off (i.e. still at subsistence)?