Classical theory includes the following as regards to development.
(i) Laissez-Faire Policy:
The classical economists believe in the existence of an automatic free market policy competitive economy which is free from any government interference. It is the “invisible hand” which maximises the national income.
(ii) Capital Accumulation, the Key to Progress:
All classicists regard capital accumulation as the key to economic progress. They, therefore, lay emphasis on larger savings. Only capitalists and landlords are capable of saving, according to them. The working class in incapable of saving because it gets wages equal to the subsistence level
(iii) Profits, the Incentive to Investment:
According to the classicists, profits induce investment. The larger the profits, the greater the capital accumulation and investment
(iv) Tendency of Profits to Decline:
Profits do not increase continuously. They tend to decline when competition increases for larger capital accumulation among capitalists. The reason, according to Smith, is increase in wages due to competition among capitalists. Whereas, according to Ricardo, when wages and rent rise with the increase in the price of corn, profits decline.
(v) Stationary State:
All classical economists visualize the stationary state as the end of the process of capital accumulation. When once profits start declining, this process continues till profits become zero, population and capital accumulation stop increasing and the wage rate reaches the subsistence level. According to Smith, it is the scarcity on natural resources that finally stops growth and leads the economy to the stationary state.
The classical theory of economic development may be stated as:
Suppose an expected increase in profits brings about an increase in investment which adds to the existing stock of capital and to the steady flow of improved techniques. This increase in capital accumulation raises the wages fund. As a result wages rise. Higher wages induce an accelerated population growth which causes the demand for food to raise. Food production is raised by employing additional labour and capital.
But diminishing returns to land bring about a rise in labour cost. Consequently, the price of corn goes up and in turn rents increase, wages rise, thereby reducing profits. Reduction in profits implies reduction investment, retarded technological progress, diminution of wages fund and slowing down of population growth and capital accumulation the end result of capitalist development is stagnation.
This stagnation is resulted from the natural tendency of profits to fall and there is consequent choking off capital accumulation. When this happens capital accumulation ceases, population becomes constant and the stationary state sets in.