Why The Thought Of Increasing Returns Suspended?

The idea of increasing returns could be traced back to Plato, Aristotle, Xenophon in ancient Greece, and it could also be found in the works of classical economists, such as Smith, Mill, and it plays an important role in Marshall's system. However, in neoclassical economics, the idea of increasing returns lost. It's not until the 1980s that the thought of increasing returns came back to mainstream economics in New Growth and New Trade theory. Therefore, it could be concluded that the period between the beginning of the twentieth century and the 1980s can be called "The suspension period" of the idea of increasing returns. Why this suspension happens? That is the question to be answered in this paper.In explaining why the idea of increasing returns disappears, the "Marshall-centered" approach can be viewed as an innovation in this paper. Two points make the "'Marshall-centered" approach necessary:Firstly, the word "suspension" has two meanings:on one hand, it means a process that the thought of increasing returns continued for a long time and then disappeared. On the other hand, it means a process of recovery. There is a turning point in each process. The turning point should be invested, and Marshall is the exact turning point.Secondly, the key is to the turning point is the distinction between two different contexts:the context of Marshallian economics and neoclassical economics. This could be seen as an innovation point of this paper. This research is based on the development of intellectual history, and by examining the relationship between increasing returns and competition dynamically:an improper view is to look at Marshall backward from the standpoint of neoclassical economics. Many authors hold that since Marshall is the founder of neo-classical economics, then neoclassical economics and the Marshallian economics is the same, while in fact it's a misreading of Marshall. This misunderstanding is mainly reflected in two aspects:on one hand, many authors misunderstood some key words of Marshall, such as increasing returns and competing. On the other hand, many economists misunderstood Marshall's methods. The static partial equilibrium analysis is commonly known to be Marshall's distinguishable method, but Marshall was very cautious to this approach, and he paid more attention to reality in his whole life. He insisted that has been that "the Mecca of the economist is economic biology". Reality and dynamics, the distinguishing features of Marshall's method is rarely mentioned in modern mainstream economics.Based on this point, this paper reached the following conclusions:whether increasing returns and competition is harmonious is an important clue to examine whether increasing returns could exist in economics. Marshall tried two ways to accomplish this harmony:First, a special interpretation of competition; Second, trying to establish dynamic analysis paradigm to accommodate increasing returns in his system. In Marshall's system, "market imperfections" corresponds to the first; "'increasing returns with external economies" and the "life cycle theory of firm" correspond to the second. The interruption of the thought of increasing returns is closely related to the departure from these two aspects. Compared to Marshallian economics, neoclassical economics experienced "two deviations":the change in the theory of competition and methodology. The "two deviations" are necessary in order to make economics more scientific. Science requires precision, and precision requires formalization, and under the constraints of limited mathematical tools, formalization must leads to abstract of reality. It is exactly the "two deviations" make the idea of increasing returns abandoned by the neoclassical economics. To be specific:First, the deviation from Marshall's competition theory:Marshall thought competition is a kind of reality, and his interpretation is the same with classical economics. In Marshall's theory of competition, consumer demand is not fully flexible, so that the restrictions from the demand constitute suppressions to internal economies. When internal economies of scale do not lead to monopoly, it is possible for increasing returns and competition to coexist.In Marshall's time, accompanied by marginal revolution, competition theory was undergoing a change, that is, a change from the competition of classical economics to the theory of perfect competition in neoclassical economics. The theory of perfect competition established its dominant position in neo-classical economics; it's different from the competition in Marshall's economics. In Marshall's economics, competition is realistic and dynamical, while the competition in neo-classical economics is just an abstract and static assumption. The confliction between increasing returns and competition, and the necessity that perfect competition provide for the marginal distribution theory, made the idea of increasing returns abandon by the mainstream economics. The perfect combination between the good nature of the production function of constant returns to scale and perfect competition is necessary to prove the legitimacy of the marginal distribution theory, which was widely seen as proof of the legality of the market economy. During the change of competition theory, the old idea of increasing returns was expelled from the neo-classical economics for its confliction with perfect competition.. Namely, this is one reason why the idea of increasing returns is abandoned.Second, the deviation from Marshall's methodology:Marshall repeatedly emphasized in his Principles of Economics that static partial equilibrium analysis is difficult to deal with the problem of increasing returns, that's his character of methodology. In order to avoid the unrealistic conclusion of monopoly deduced from increasing returns, which Marshall named "Cournot dilemma", he turned to seek help from Biology, and then he avoided the defect of purely deductive methodology. In Marshall's Principles of Economics, in order to accommodate the dynamical problems such as increasing returns, he tried to establish a dynamic theory. The "increasing returns with external economies" and "life cycle theory of firm" correspond to his dynamic analysis paradigm and economic biology. Therefore, Marshall's methodology has obvious binary features. The exploration of Marshall's methodology, especially his economic biology can be seen as another innovation of this paper. In his Principles of Economics, in fact, contains both static analysis (economic mechanics) and dynamic analysis (economic biology). The partial equilibrium analysis belongs to the former, the analysis of increasing returns belong to the latter. The dynamics in Marshall's system is a key that makes increasing returns and competition compatible. In fact, Marshall's emphasis on dynamics is closely related to his realism care. To understand Marshall's realism care is helpful to understand the original intention of his economics study, his vocational course, the overall view of economics, the basic economic method, as well as his views on specific economic issues. Marshall's view of the world guides his realism care, and his realism care guides his methodology. Based on this point, a more profound understanding of the compatibility between increasing returns and competition could be realized.Unfortunately, after the Marshall, economics witnessed a development far from "economic biology". On the one hand, in the social sciences of Europe and the United States, an ideological movement against the use of biological knowledge happened. On the other hand, during the 1920s-1930s. a controversy about increasing returns happened. Sraffa, Pigou and Robbins. as important participants in the controversy, leaded neo-classical economics go to way close to economic mechanics and far from economic biology. This made mainstream economics abandon Marshall's attempt to establish dynamic analysis paradigm. Under the assumptions of perfect competition and constant returns to scale, mainstream economics gives priority to Marshall's static analysis paradigm. Increasing returns belongs to the scope of the dynamics, and static analysis paradigm could not deal with it. The methodological shift made Marshall's efforts of reconciling increasing returns and competitive vanished. Most neoclassical economists abandoned the attempt to build a dynamic economics, though some economists (e.g., Clarke, Hicks, Knight, Schumpeter, and others) committed to building dynamic economics, but they didn't succeed, and they didn't involve the analysis of increasing returns. Therefore, in neo-classical economics to formal period of great development, static paradigm is dominant; the dynamic analysis is very poor. After neoclassical economics abandoned Marshall's dynamics (economic biology), and changed to static analysis paradigm, increasing returns thinking disappeared in mainstream economics. Thus, methodological shift is another important reason for the interruption of the idea of increasing returns.Since the problem of increasing returns is an important phenomenon in new era, and the idea of increasing returns has its ancient tradition, this paper must has both practical and theoretical significance:The practical significance is that:on the one hand, it may deepen the thinking of increasing returns, especially Marshall's idea of increasing returns, and can resolve some confusion in new era. On the other hand, it may provide some practical guidance to the relevant policy.As to the theoretical significance:Firstly, this study allows us to understand how the idea of increasing returns evolves, and it could provide some inspiration to the revival of the idea of increasing returns. Secondly, this paper may provide some inspiration for the development of the economics. The formal predicament faced by modern mainstream economics made it necessary to revisit Marshall's intellectual legacy. Where is economics going in the future? The explanation to the interruption of the idea of increasing returns may perhaps provide some indirect inspiration.