Neoclassical economics has become the dominant orthodoxy in economic analysis during the twentieth century. It borders on the conditions of economic equilibrium and is normally based on the simplifying assumptions:
- that economic agents have perfect knowledge Opens in new window;
- that people pursue their purposes rationally and maximize some target variable subject to budget constraints;
- that it is possible to describe representative households, producer-investors, and government;
- that business transactions, for example in markets, are frictionless and cost-free; and
- that the individual preferences of the members of society can somehow be expressed in a social welfare function.
In contradistinction to evolutionary economics Opens in new window, the analysis typically begins with an equilibrium Opens in new window — understood as a situation in which everybody’s plans and expectations are mutually compatible.
This equilibrium is disturbed by an isolated event; the analysis then shows the new equilibrium to which the system moves (comparative static analysis Opens in new window, assuming all other things to be equal, the famous ceteris paribus Opens in new window clause of economic textbooks).
It is often assumed that policy makers are able to design a line of rational actions, which achieve their objectives. These assumptions facilitate the formulation of mathematical models and economic analyses.
In turn these models suggest that economic policy should be conducted in terms of predetermined goals and instruments, with policy makers pulling deftly at ‘the levels of the economy.’