The Economics Book

126

I

n the late 18th century Adam

Smith (p.61) wrote about the

impact of competition on

firms’ abilities to set prices and

make profits above a “natural” level.

However, there was no formal

analysis of the situation until

British economist Alfred Marshall

(p.110) published Economic

Principles in 1890. The ideas in

Marshall’s model remain a key part

of mainstream economic theory,

although the theory has been

criticized as not representing the

true nature of competition.

Perfect competition

The model that Marshall developed

to explain why firms were unable to

set their own prices has become

known as “perfect competition.”

IN CONTEXT

FOCUS

Markets and firms

KEY THINKER

Alfred Marshall (1842–1924)

BEFORE

1844 Jules Dupuit, a French

engineer, originates the idea

of consumer surplus—a

measurement of welfare that

can be used to assess the

impact of competition.

1861 John Elliott Cairnes

clarifies the logic of

J. S. Mill’s and David Ricardo’s

theories of competition.

AFTER

1921 Frank Knight develops

the notion of perfect

competition.

1948 Friedrich Hayek’s

Individualism and Economic

Order attacks Marshall’s view

of perfect competition.

COMPANIES

ARE PRICE

TAKERS NOT

PRICE MAKERS

THE COMPETITIVE MARKET