Understanding Neoclassical Consumer Theory
This is an academic paper I wrote in the summer of 2011 at the Ludwig von Mises Institute. It explores the foundations of neoclassical consumer theory and offers a critique from the perspective of the Autrian School.
Abstract: Neoclassical consumer theory forms the core of modern economics. Its evolution culminated in the early half of the 20th century with the development of indifference curve analysis, which allegedly bridged the gap between the undeniable fact of ordinal utility and the application of the revered methods of differential calculus to economics. Widespread acceptance of the theory was inevitable, for economists who had pointed to the success of calculus in physics were now justified in employing it themselves. Today, economists of all types conduct research under the principles of neoclassical consumer theory.
But modern economic theory, including the the theory of the consumer, is not universally cherished. Austrian economists in particular have criticized almost every aspect of neoclassical consumer theory. Unfortunately, these critiques are scattered and incomplete, and some even misrepresent the neoclassical position completely. This paper attempts to rectify this. The first section is a charitable exposition of neoclassical consumer theory, in which the reader will learn which assumptions are essential to the framework, as well as many of the key differences between the neoclassical and Austrian approaches. The second section offers a brief discussion of the utility function approach to neoclassical consumer theory, and points out several common misunderstandings that stem from that approach. The third section concludes by critiquing the neoclassical position. Upon completion of this paper, the reader will have a better understanding of what neoclassical consumer theory says, what it does not say, and its many flaws.
