(1) Introduction.Human existence can hardly be imagined without consumption. People have to consume things (goods and services) in order to satisfy their wants and needs. But most of the thingsthat people wish to have in order tomeet their needs and wants seldom can be found in Nature in a “ready-made” form. More often than not, people have to produce them using available resources.
(2) Economy versus economics. A bad thing about it is that resources used in the production of goods and services are scarce or limited/finite, while people’s wants are, on the contrary, unlimited/infinite. As a result, the number of goods which can be produced at a given time from available resources is limited too. It is for this reason that a system of distribution based on certain principles must exist in a community to efficiently allocate the available resources and goods among those who want to have them. Consequently, a system of managing the production, distribution, and consumption of goods and services under scarcity is normally called economy or economic system, while a social science involved in studying such systems is called economic theory or economics for short.
(3) Economy types. Any economic system refers to the organizational arrangements and processes through which a society makes its production-, distribution-, and consumption decisions as to what to produce, how to produce it, and who gets what is produced. Different economic systems answer these questions differently.
Depending on whether individual economic agents or government make decisions on the matters of production, distribution, and consumption, market-type and command-type economies may be distinguished. However, in the modern world neither of the two economy types mentioned above exists in its pure form. All what exists in reality is the mixed-type economy, since economic decisions in a modern society are actually made by both individual economic agents and government.
(4) To sum up. Thus, economy is the human activity that consists in producing, distributing, and consuming goods and services, realized inside an economic system and studied by economics. An economic system is a way of answering the three basic economic questions: what to produce, how to produce, and for whom to produce. These questions result from the scarcity of available resources and unlimited people’s wants. The two opposing economic systems to answer differently these questions are the market economy and the command economy. However, all real-world economic systems are nowadays of mixed type.
What Exactly is Economics?
"Economics is the only field in which two people can share a Nobel Prize
for saying opposing things!”– A popular joke about economists.
(1) Etymology. The English word “economics” comes from the Greek words “oikos” (house), and “nemos” (norms), which roughly means “household management”.
(2)Definition of economics. There’s no one universally accepted answer to the question “What is economics?” There are many definitions, past and present, which have been appliedto the term economics.
Still, broadly speaking, economics is a social science, a “school of thought” or “theory”, and its area of study is human activity involved in meeting people’s needs and wants. Economics tells us how people and economies normally behave, and why they behave like that/the way they do, and predicts what will result if certain economic factors are disturbed or changed.
(3) Early definitions of economics. Two of the earliest definitions of economics based on the notion of wealth and offered by Adam Smith (1723-1790), generally regarded as the father of economics, are “the science of wealth” and “the science relating to the laws of production, distribution and exchange (of wealth)”. Some academic dictionaries still define economics as “a social science that studies the production, distribution, and consumption of goods and services and their management” or as “the science of how people produce goods and services, how they distribute them among themselves, and how they use them”, while modern academic definitions of economics involve mostly the notions of scarcity and choice.
(4) Modern definitions of economics. Though the exact wording differs from author to author, the standard definition of economics in terms of scarcity and choice is something like this: “Economics is a social science which examines how people choose to use limited or scarce resources in order to satisfy their unlimited wants.” This scarcity definition of economics means that people’s resources are scarce, and whenever an individual, a business, or a nation faces a competing alternative, a choice must be made. From this point of view,economics is essentially the study of choice and decision-making in a world with limited or, otherwise, scarce resources.
The focus on scarcity continues to dominate neoclassical economics, which, in turn, predominates in most academic economics departments, though it has been criticized in recent years from a variety of quarters. Because scarcity and choice are central concepts in modern economics, they are discussed in more detail in Unit 2 that follows.
(5) Other definitions of economics. The above definitions of economics are the dominant but not the only possible ones. Beyond them, there are many other definitions ranging from “the dismal science” and “what economists do” to “the mechanics of utility and self-interest” and “the study of how people earn their daily bread”, depending on the school of economic thought the economists represent and/or their sense of humour.
(6) To sum up. So, what exactly is economics in modern terms? Economics, first and foremost, is a social science, a “school of thought” or “theory”. As such, economics helps to explain the mysteries of human behaviour in relation to the production, distribution and consumption of goods and services under conditions of scarce resources and unlimited wants: why people and economies behave the way they do, and why things happen the way they do.
Neoclassical economics is mostly the study of scarcity and choice. More precisely, it is the study of how individuals and society choose to use limited resources in an effort to satisfy their unlimited wants.
The role of economists is thus to analyze scarcity and make predictions and practical recommendations regarding the most effective ways of using available resources to achieve people’s economic desires and goals.
Economics: Areas of Studies
“Microeconomics looks at the trees,
while macroeconomics looks at the forest.” – A popular saying.
(1) Micro vs macro.Traditionally, economics is broadly divided into two main/major branches: microeconomics which is the study of economy at the level of individual economic entities (individuals, households, and firms), and macroeconomics – the study of the behaviour of the economy taken as a whole. In other words, macroeconomics is the study of the entire system of economics, while microeconomics is the study of individual parts of such a system.
(2)Meso- and megaeconomics. Some economists also argue that two other branches of economics should be distinguished, namely mesoeconomics, which is the study of markets and other similar intermediary institutional arrangements within a nation, and megaeconomics, which is the study of economy at the international level. As national economies get more and more connected globally to one another, their study at the international level becomes an extremely important one.
(3) Micro-macro sub-disciplines. The main areas of studies into which economics is typically divided can be further sub-divided into numerous sub-disciplines that do not always fit neatly into the micro-macro-meso-mega categorization. These sub-disciplines, in alphabetical order, are: agricultural economics, business economics, ecological economics, environmental economics, evolutionary economics, international economics, labour economics, managerial economics, resource economics, socioeconomics, transport economics, urban economics, economic geography, economic history, industrial organization,just to name a few of them.
As to Finance that has traditionally been considered a part of economics, it has today effectively established itself as a separate, though closely related to economics, discipline.
(4) Other subdivisions of economic study are also possible, the more so that in recent years the subject matter that economists have studied for centuries has expanded, making its boundaries less defined. Since modern economic analysis focuses on decision-making, it can be applied, with varying degrees of success, to any field where people are faced with alternatives – education, marriage, health, etc.Some economists extend economical analysis to all personal decisions regarding not only questions like “How many eggs should I buy?”, but also “How many hours should I spend with my kids?”, and “How long should I spend brushing my teeth?”
(5) To sum up. Any modern economy can be represented as a two-level arrangement. The lower level of economy is known as microeconomy, which is the subject matter of microeconomics or microeconomic theory. The upper level is called macroeconomy, which is the subject matter of macroeconomics or macroeconomic theory. Two of the intermediate, and relatively new, fields of economic study are meso- and megaeconomics. Since modern economic analysis focuses on decision-making, it is often applied to most different fields of human activity.
UNIT 2 THE BASIC ECONOMIC TRILOGY:
SCARCITY, CHOICE AND COST
The Problem of Scarcity
"The first lesson of economics is scarcity:
There is never enough of anything to satisfy all those who want it."– Tomas Sowell.
(1) Introduction. Economists argue that people are never satisfied with what they have, and practically everyone wants more of something. If we interview people to find out what they think they need, or want, or desire, the list will be very long indeed. It will include all material desires plus non-material desires, such as love, affection, companionship, power, prestige, and leisure. In contrast to our wants and desires, the resources (such as time, money, or goods) we have at hand to satisfy our desires or achieve our goals are scarce (otherwise, finite or limited).
(2)Scarcity is universal. Because wants are unlimited, and resources are not, scarcity exists everywhere and at any point in time.Scarcity is an inescapable fact of our life, like gravity. Neoclassical economists argue that it is scarcity that makes the world go round. In a world without scarcity, there would be no economics!
(3)What, exactly, is scarcity? The word scarcity comes from the word scarce, which means “the amount available is limited” or, alternatively, “the available amounts are not completely unlimited”. Consequently, “scarcity”, in the economic sense, means “not having sufficient resources to produce enough to fulfill unlimited subjective wants”. Both of the following qualifications, thus, must be met if something is going to be called “scarce” in terms of economics: (a) people must want it, and (b) the amount of it must be limited.
(4)Scarcity is a relative concept.Whether a thing is scarce or free is not an inherent characteristic of the thing itself. Its scarcity is relative to how much it is wanted by people, and how much of it is available at a given time. Scarcitycan thus be defined as the condition that exists whenever the things (resources, goods, and services) available to people are limited relative to the wants and desires for them.
(5) A measure of relative scarcity is price. The signal that indicates the relative scarcity of the resources necessary to produce the goods and services as well as individual and collective preferences for goods and services are prices. When a thing is abundant (not scarce at all), its price is zero, and you can get it for free or with no efforts. Conversely, when a resource is scarce, its price is high. When the price is rising, the commodity is becoming relatively scarcer. When the price is falling, the commodity is becoming relatively less scarce.
(6)Things that are not scarce don’t have economic value. If you can get something for free or with no efforts, it means that no one wants any more of it than is already available. It is abundant (available in unlimited quantities), its price is zero, and it has no economic or exchange value.
Conversely, if people want something enough to pay for it or work for it or trade for it, then it’s scarce. And the scarcer something is, the higher will be its economic value or the price you pay for it. If only a small amount of something is available and many people want very much to have it, then it is very scarce. Its price will be very high, and its use will be carefully considered. Thus, value and scarcity are two sides of the same coin, and the abolition of scarcity would mean the abolition of value.
(7)Scarcity requires choice. Since neither an individual nor a society can have everything desired, each must make choices as to which of their desires and objectives to fulfil and which to leave unfulfilled. If you don’t have enough money to buy, say, all the foods you need (and many, many people don’t, by the way), then you have to make choices. And the more scarcity you see on the shelves of the market, the more difficult choices you have to make.
If there were no scarcity of resources, then we could produce and have all of the goods we could ever possibly want and never have to make sacrifices. Such a state of negative scarcity is called abundance or plenitude.
However, this is not the case in reality. Scarcity does exist, and so does the need to make choices about what things to produce we shall use these resources for.
(8) To sum up. We live in the world of scarcity. It is an inescapable fact of our life. Scarcity means that we do not and cannot have enough resources available to satisfy our every want or desire, all our goals.
Scarcity is a relative concept. It is relative to our wants and resources.
Scarcity is reflected by prices. Something is scarce only if people want more of it than they can get for free. As something that you are in need of gets more scarce, it gets more costly. If something is available in unlimited quantities (abundant), its price is zero, and it is of no economic value.
Scarcity and choice go hand in hand: under conditions of unlimited wants relative to limited resources people have to make choices.
Scarcity is a central idea of neoclassical economics. This focus on scarcity continues to dominate neoclassical economics, which, in turn, predominates in most academic economics departments. However, it should be noted that the neoclassical school of economic thought has been criticized from a variety of quarters in recent years.
The Problem of Choice
“People define themselves by the choices they make.” – A popular saying.
(1) Introduction.Economics is sometimes called the study of choice because at the heart of any economic activity are the actions and choice-decisions of human beings. How are these choices made? How do the individual and the business and the society decide what to do with their scarce things? And what difference does it all make? These are the questions of economics. Thus, at the basis of any economic theory there must be some assumptions about human behaviour, about how human beings act and how human beings decide how to act and, more precisely, how they choose to act.
(2)Who, exactly, chooses? Everyone. Each person, each family, each business, each educational or religious or political organization, each society, each nation, everyone. The successful ones are the ones who are making the right choices.
(3)Why do we choose?Life is a series of choices. We must choose. We are forced to choose. We can’t but choose! There’s no way about it. Too many things we want to have are scarce or limited. So we have to choose because we can’t have everything we want at any one time.
(4)What if nothing were scarce? It is easy to see that if either our wants were limited or our resources were unlimited, everything would be free. We would not necessarily have to make choices. We could “have it all.” There would be enough of everything for all of us to have all we could ever want and some left over. But that’s just not the way it is. We live in the world of scarcity, and almost everything is scarce. So, like it or not, we must choose and conserve and economize. We have no choice about that!
(5)What do we choose?Because of scarcity, we have to make choice-decisions. Wemust decide which of our desires we will satisfy and which we will leave unsatisfied. Also, we must decide how to best employ or, in terms of economics, to best allocate available resources to achieve maximum satisfaction of our wants. Most simply put, we must decide what to do with what we have in order to get as much as we can of what we want. If we’re smart or lucky (or maybe both) we will choose the way that does the most to help us to achieve our desires or objectives. That’s what most of us are trying to do, anyway.
(6)How are choices made?Rational self-interest is the term economists use to describe how people make choices. Rational self-interest is the assumption that individuals behave in a reasonable (rational) way in making choices to further their own interests, fulfill their own goals, advance their own values, or achieve their own both monetary and non-monetary (such as love, prestige, helping others, and all that) objectives. So whatever people consider to be most important to them, those are the objectives which will guide their choices.
In other words, before taking any economic choice-decision “a rational economic man” (“Homo economicus”) weighs, balances or calculates the costs (pains) and benefits (gains) of his decisions and his potential actions in order to choose the onewhich is the best for himself, which will give him the greatest amount of satisfaction. At least, that is the basis of “neoclassical” economics, the dominant economic school of today.
Strictly speaking, neoclassicaleconomics does not assume that each and every real, concrete human being is rational and self-interested.But if the average is a person who is rational and self-interested, then the system will act “as if” people in general were rational and self-interested. Accordingly, neoclassical economics studies an economic system consisting of rational, self-interested individuals.
(7)Which choice-decisions are the best ones? Those which best serve the wishes of the chooser. Every person has a “personal set” of desires and objectives, which makes them unique. You chase your rainbow and I’ll chase mine, and all that. Because different constraints (such as time, money, preferences, lack of information) limit the options/alternatives from which people can choose, any choice involves deciding in favour of one option (alternative) and discarding others. To make the best decision, a person must choose the option that both is possible and contributes most to the achievement of that person’s goals. But which option(s) to forgo, to give up? And which to choose? These are really tough questions for a decision-maker, be it an individual, a business, or society. Are your choices helping you maximize your progress as much as possible toward fulfilling your desires, or achieving your objectives? If so, you are making the best choices for you.
It isn’t always easy to make the right choices. Everyone makes bad choices sometimes. Even the society as a whole can (and does) make unwise choices. It would be just great if all of us could make the right choices all the time!
(8) To sum up. We live in the world of scarcity, and almost everything is scarce. Because of scarcity, we have to make choice-decisions. We must decide what to do with what we have in order to get as much as we can of what we want. An analysis of the choices we have to make forms the basis of the social science of economics.
Neoclassical economics assumes that economic behaviour of people is rational, and motivated primarily by their self-interest. Before taking any economic choice-decision people tend to balance the costs and benefits of their potential actions in order to select the alternative(s) that they believe will give them the greatest amount of satisfaction. So a goal in life for each of us is to look at our wants, determine our opportunities, and try and make the best choices by weighing the costs and benefits of our potential decisions and our potential actions.
The Basic Economic Problem:
a Matter of Scarcity and Choice
“You can’t have your cake and eat it, too.”
“You can’t be at two different places at the same time.”
(1) Introduction. Do you happen to know that no matter what problem you are facing you’re facing an economic problem? When you’re trying to decide whether to save your money or spend it, you’re facing an “economic problem”. But what about deciding whether to study English or watch TV? Or who will get to use how much of what? An “economic problem” too? Sure. An economic problem is a problem of having to choose – like whether to have your cake or eat it.
What about the whole society? Does it face a problem of choosing? Of deciding who will do what, who will get to have how much of what, which things to use up and which to save and all that? Of course it does!
These days people are concerned about the crime rate, inadequate housing, drug abuse, AIDS, unemployment, rising prices, poverty, the population problem and about environmental destruction. Are problems of this sort economic problems? Yes, they are. No argument on that score.
What about the problem of international tensions? wars? terrorism? separatism? drug and human beings traffic? Are these economic problems? Of course they are.
All real-world problems – all the problems that face the human race – are economic problems. True, you’ll never find a real-world issue or problem that is purely economic. But almost every real-world issue or problem you can think of has some important economic aspect.
(2) What is the basic economic problem? All economic problems – no matter whether they are large or small, individual or national, monetary or non-monetary – result from two undeniable facts. First, the wants of people, as individuals, businesses, or society, are unlimited and endless – as some of these wants are satisfied, more arise naturally.
Second, there is a constraint on people in their attempt to satisfy these wants. The constraint is that there are limited amounts of available resources. As a result, choices must be made about how to use these resources in order to maximize our satisfaction, or progress toward our objective. Since all economic problems we can think of refer to the same two things – the scarcity of resources and unlimited wants, we can talk about some basic economic problem which can be defined as the problem of carefully choosing what to do with our scarce things in order to maximize our progress toward our objective.
(3) Who faces the economic problem? Everyone. Each person, each family, each business, each society, each nation. Everyone. The economic problem – the problem of deciding what to do with the things we have – is truly universal. It faces us practically everywhere, and all the time. It is present in everything. It faces each individual, each family, each business. It faces each society, each nation. More and more it is coming to face the entire world as a whole.
(4) The economic problem relates to all of us in many ways. It relates to us as individuals who must make choices as to what goals to set and how much of what to use in order to achieve them; it relates to us as consumers who must decide which goods and services to buy. It relates to us as citizens who must vote for political candidates who decide how much of our income to tax and how then to spend those tax revenues. Finally, it relates to us as a society in having to answer some fundamental economic questions such as What to produce? How to produce? (By what methods? Using what resources?) and For whom to produce?
(5) Why do we face the economic problem? The reason that we face the economic problem – individually and as a nation – is that none of us can have all what we want given the scarcity of available resources. So we have to choose. If we make the best choices we will make the most progress toward our objectives – toward whatever it is that we want most to achieve. If not, not.
(6) When are we facing the economic problem? All the time! Every moment of every day of our life we’re having to decide what to do with ourselves – with our time and energy, and what to do with our possessions – our money and our things. So many, many choices we all have: to do this or that, to make this or that, to use up this or that, to save this or that. There’s just no end to it! All the time all of us think about the different things we might do, and then we try to make the best choices – from our own point of view – as to how to solve the economic problem we are facing.
(7) To sum up. The basic economic problem is the problem of having to choose what to do with our scarce resources in order to make the most progress toward whatever it is that we want most to achieve – like whether to have your cake or eat it. The economic problem is inescapable. It results from two undeniable facts: people’s unlimited wants, and the scarcity of available resources. It is impossible to avoid it personally or as a nation. And it is facing us all the time.
Solving the Basic Economic Problem
“If you do not care where you are going, any way will take you there.”– An English proverb.
(1) Introduction. What do we need to do to solve the economic problem?Basically, solving the economic problem is simple enough. All we need to do is (to) answer this question: How can we best use what we have to achieve what we want? That’s what it’s all about. But it is a really tough question to answer.
(2) The best possible way to solve the economic problem is to maximize. In economics, doing the best you can possibly do with the limited things you have to work with when solving your economic problem is often referred to as maximizing. Maximizing is using each thing you have in the best possible way – in the way that will help you the most to get to your chosen objective(s). When you are maximizing, you are making as much progress as you can on the way of solving your economic problem.
(3)What are people trying to maximize?Every time people use up or spend up something, they do it for some reason. They have some objectives and they would like to maximize their progress toward those objectives.
As individuals, people make choices that maximize their self-interest. As consumers, we make choices that maximize our satisfaction from consuming goods and services or by engaging in some activity. As producers, firms make choices that help to achieve a high level of efficiency and maximize their profits. As a society, we make choices that maximize the satisfactionlevels of all individuals, aiming for “the greatest happiness for the greatest number”.
(4) To maximize means to economize and optimize. If you want to use your money, time, and everything else you have to work with so as to maximize whatever you want to maximize, then you have to manage your resources as carefully as possible. You have, in terms of economics, to economize and optimize. For example, in order to maximize your progress in learning something you must economize and optimize the use of your study time.
(5) Economizing and optimizing are two sides of the same coin.The terms economizing and optimizinghave the same meaning, but the emphasis is different. Economizing emphasizes the negative side of choosing. Optimizing emphasizes the positive side of choosing.
Economizing says: “I will use my money and time and scarce things I have as sparingly as I can in order to achieve my objectives at the least cost. In other words, I’ll try to minimize costs for a given gain (benefit) as much as I can.”
Optimizingsays: “I will trytouse each dollar and each hour and each thing I have in such a way that each will carry me as far and as fast as possible toward my objectives. In other words, I’ll try to maximize gains (benefits) for a given cost as much as possible”.
In a free society, people who have a clear-cut objective and want to achieve it must manage their resources carefully by both economizing and optimizing.
(6)Economizing andoptimizing are very personal things: some are wise, and some are otherwise. All of us want what we want. We all have our own objectives, goals, desires, and wants. In order to fulfil them, to get as much as we can of what we want, of whatever means the most to us we all try to use (sometimes thoughtfully, sometimes instinctively) the things we have to work with – our money, time, energy, and things – as effectively as possible. In other words, while solving our economic problems we all try to economize and optimize the use of our scarce resources, to manage them carefully.
But there’s no one universally accepted way of economizing and optimizing. Different people choose to economize and optimize the use of their resources indifferent ways. Some people make wise choices. They succeed in doing the very best they can with what they have and are happy. Some people make unwise choices. They fail to achieve their dreams or objectives and are miserable. That’s the result of each individual’s economic problem solving – yours, mine, everybody’s.
(7)How to succeed in life?The lesson to be learned is that our success in life depends largely on how much effort we actually put into the task of economizing and optimizing our time and money and things when trying to achieve our objectives and get ahead – to have more things and to build some future freedom and security . Those who don’t care so much about the future don’t have to go to all that trouble. After all, if you do not care where you are going, any way will take you there.
(8) To sum up.The economic problem is a problem of having to choose what to do with our scarce resources in order to maximize our progress toward our objective(s). To solve the economic problem and thus to reach our objectives all we need to do is (to) answer the question of how we can best use what we have to work with. People normally try to solve their economic problems by either economizing (minimizing costs for a given gain) or optimizing (maximizing gains for a given cost) the use of the available things.Those who do the best possible job of answering this question get the most they can of what they want. Those who don’t, don’t.
The Discomfort of Opportunity Cost
“There is no such thing as a free lunch.” – An English proverb.
(1)Introduction.People (and organizations, and societies) are never satisfied with what they have: they always want more. They want to do more and to have more than they can do or have. It’s too bad, but the resources they use up making, improving, protecting, enjoying, learning, or doing any onething can’t be used for making, improving, learning or doing any other competing thing.
Sowhat happens? It happens that you have to choose among competing alternatives. One of the most important results of this choice-making necessity is that each time you choose to do or have or use one thing, you are automatically denying yourself the opportunityto do or have or use some other thing, which is the opportunity cost of our choice-decision – mine, yours, everybody’s.
(2)What, exactly, is opportunity cost?Opportunity cost, or economic cost, or simply cost, is a key economic concept and one that we can observe daily, although we seldom stop to think of the true costs of the decisions we make each day. It can be defined as the cost of any good, service or activity measured in terms of the lost opportunity to use the good, service, or time in its best alternative activity (and the benefits that could be received from that opportunity). Put another way, it is the highest valued option (the next-best or the second-best alternative) that must be sacrificed to attain something or satisfy a want.
(3) An opportunity cost is the benefit/opportunity lost. The basic idea behind the opportunity cost is that most things in life are never free – they come at the opportunity cost of something forgone. In other words, in order to have whatever you decide to have you must give up (or: forgo, discard, pass up) the opportunityto have the “something else” you also wanted. Choices to use our scarce resources in one way are also choices to not use our resources in some other way.
(4) How can one evaluate the opportunity cost of a choice-decision?The simplest way to estimate/evaluate the opportunity cost of any single economic decision is to consider, “What is the next best alternative choice that could be made?” or “What would Ihave done if Ididn't make the choice that Idid?”
(5) The cost of any item or activity is not what you pay for it. It follows also that the cost of any item or activity is not just what you pay for it. It always involves the benefits you could have received by taking an alternative action, or the “risk” that you could achieve greater benefits with another option.
(6) Opportunity cost is a subjective concept.It follows that opportunity cost is a subjective, individual concept, and the evaluation of choices and opportunity costs will differ across individuals, households, and societies. Note once again that an opportunity cost is not the sum of the available alternatives, but rather the benefit of the best one (in the decision-makers’ view).
(7)An opportunity cost is not always a number. Unlike most costs discussed in economics, an opportunity cost is not always a number. While it is customary to associate cost with the money price of goods (also called the accounting or explicit or out-of-pocket cost), an opportunity cost is the value (be it monetary or otherwise) of the good or activity given up in place of the good or activity actually chosen (also called the additional, subjective or implicit cost).
(8) There is no full cost without opportunity cost. It follows thatthe full cost of any choice is not the amount you pay at the register. It includes what is directly paid for the item or activity chosen and thecost of giving up the next best alternative, i.e. theopportunity cost of this choice. In economics, it is the true, total measure of the cost of anything.
(9) The importance of the economic concept of opportunity costlies in the fact that you can not assess the true/total cost of your choice-decision without taking into account its opportunity cost.
Opportunity cost also helps us to reflect on the values we place on decisions. If we choose to part with our limited income on good A rather than good B it suggests we value good A more than good B.
(10) To sum up. We live in the world of scarcity, and we can’t do and have everything we’d like to. The natural fact of scarcity leads to the necessity of making choices among competing alternatives. One of the most important results of this choice-making necessity is that every choice made (or not made for that matter) means that some other choice had to be sacrificed. In economics, the highest valued (in the decision-makers’ view) alternative that must be sacrificed to attain something or satisfy a want is referred to as opportunity cost.
Some most important things to remember about opportunity cost are:
· opportunity cost is the benefit lost from making one choice over another;
· opportunity cost is involved in all kinds of decisions, not just economic
ones about how to spend your money;
· opportunity cost is a subjective, individual concept, and different people
evaluate opportunity costs differently;
· an opportunity cost is not always a number;
· not all forgone opportunities are counted in the calculation of opportunity
cost, but only the costliest one of all those forgone;
· you ñan not assess the true/total cost of your choice-decision without
taking into account its opportunity cost.
Finally, we have to learn to live with the discomfort of opportunity cost – the fact that there is no such thing as a free lunch, and thatmostthings in life are never free and come at the opportunity cost of something forgone.
“Enough is enough.” – An English proverb.
(1)Introduction. When neoclassical economists analyze consumer decision-making they base their analysis on certain assumptions about human behaviour (that may seem simplistic at first glance).Two most important of them are as follows. First, it is assumed that consumers, taken as a group, tend to act rationally. Second, it is assumed that consumers – individuals, families, households, businesses, and societies – all are guided by the principle of utility maximization. They all want to maximize their utility – that is, they always prefer more of a good to less of it, and strive to make the most progress toward their objectives, be it advance, profit, satisfaction, or any other gain, or benefit.
(2) Definition. In economics, marginal means “at the margin”, or, “the next one”, “the additional one”, “additional” or “extra”, while utility is a measure or index of the satisfaction, or happiness, or pleasure, or subjective benefit gained by an individual from the consumption of a good or serviñe.So, marginal utility means “the additional or extra amount of satisfaction you derive (or: get, gain, receive) from having a little more of something you already have.”
It should be noted /born in mind that marginal utility is a subjective concept, since one and the same thing may have different marginal utilities for different people, reflecting different tastes, preferences, or individual circumstances.
(3)The law of diminishing marginal utility.Although economists assume that consumers always prefer more of a thing to less of it, they also realize that the increased satisfaction gained from having more of a good depends on how much we have already consumed. As more and more of something is available to you, the additional utility you could get from having even more gets smaller and smaller – the 10th candy bar doesn’t taste as good as the first one and so brings less marginal utility. Thus, the more of something you already have, the less important it is to you to get even more of it. If unlimitedamounts are available, then the marginal utility (the extra utility from having more) drops all the way to zero.What we’re talking about is called the law or principle of diminishing marginal utility.
The law of diminishing marginal utilitystates that the marginal utility of a good or service decreases/declines as consumption of that good or service increases, holding consumption of all other goods fixed.
(4) Marginal utility, market price, and economic value. The concept of marginal utility grew out of attempts by economists to explain the determination of price. If you expect the marginal utility to be zero you won’t pay anything for it. If you think about it you’ll realize that the price you would be willing to pay for an additional something reflects the importance of that additional something to you. If you think you’re going to gain a lot of additional satisfaction from whatever you’re thinking of buying, then you’ll be willing to pay a high price. Right? But if you think you’ll gain only a little from it, you’ll buy it only if the price is low.
We’re into an important concept in economics now. It’s this: the price you would be willing to pay for something (that is the economic value of that something to you) is never determined by the “total usefulness” of it. The value is determined by how useful it would be for you to have more of it than you already have. In terms of economics, it means that the economic value of a good is directly related to the subjective marginal utility derived from that good in a given period of time, taking into account its scarcity.Thus, water has utility but little market value (market price), since it is generally not scarce.
(5)Think marginally. Intuitively, all intelligent people think marginally, more or less. To “think marginally” means to think in terms of additional costs and benefits your decision whether to do a little more or a little less of something involves. Put most simply, what is relevant to any decision is what is gained or lost depending on how the decision is made.
As long as “the marginal return” (utility, profit) you’re getting is worth more to you than “the marginal effort” (costs, pains) you’re spending, you’re doing just fine.
As long as the additional “value” or “satisfaction” you’re getting from the time and effort you’re spending is greater than the additional satisfaction you could get from spending that time and effort in any other way, you are optimizing. That’s the best you can do. You’re making the best marginal choices.
(6) To sum up. In analyzing consumer’s decision-making, economists assume that consumers display rational behaviour when making their choice-decisions. In particular, economists assume that consumers strive to maximize their utility.
Utility is typically defined as the satisfaction or happiness, derived by an individual from the consumption of a good or serviñe, while the additional or extra amount of satisfaction individuals gain from having a little more of something they already have is called marginal utility.
The fact that the marginal utility of that good or service decreases as the quantity of the good increases is called the principle or law of diminishing marginal utility.
Sincesuccessive increases in consumption of a good provide us with less and less of additional satisfaction we would be willing to pay less and less to have more and more of the good we already have. So, the market price (the economic value) of a good is related not to the total usefulness of a good, but to the marginal utility derived from that good at a given time, taking into account its scarcity.
All intelligent people think marginally. In everyday life, to “think marginally” means to make each little choice so it will do you the most good. It means each time you spend each extra bit of effort or time or money or anything, make it do the best it can, for you. It means to optimize the use of everything you have to work with. Basically, it’s just age-old good common sense.
So, once in a while it’s a good idea to stop and remind ourselves that we really dohave a choice about how to spend each five minutes during each day, how to spend each dollar we have, how to use each thing we have – and that success in life depends very much on how wisely we make these little choice-decisions at the margin.
UNIT 3 THE MARKET, PRIVATE PROPERTY,
“The market is a place set apart where men may deceive each other.”– Diogenes Laertius.
(1)Definition: what exactly is the market? Although an understanding of markets is at the heart of any study of economics and business studies, there is no universally accepted definition of the term market in economics.The term originally referred to a special place (typically, the main square of the largest village in the vicinity) where products were bought and sold once a week. Modern day flea and farmers’ markets are fairly close to the original concept.
Nowadays, a market does not have to be a physical place like a shop. In modern times, a market is any arena, however abstract or far-reaching, in which buyers and sellers make transactions. It is a means by which the exchange of goods and services takes place as a result of buyers and sellers being in contact with one another/communicating with each other, either directly or through mediating agents or institutions. Markets may be general or specialized, large or small, local or global.
(2)Market participants: buyers, sellers, and intermediaries. Any market consists of two main groups of people: all those who have commodities for sale, and all those who are interested in buying those commodities, – that is sellers and buyers. In some cases, their number can be very small, in other instances there are millions of people who make up the market.
Besides, most markets comprise groups of people who act as intermediaries between the first seller of a commodity and the final buyer. There are all kinds of intermediaries, from the brokers in the great produce exchanges down to the village grocer. They may be meredealers with no equipment but a telephone, or they may provide storage and perform important services of grading, packaging, and so on.
(3)Other market arrangements.Markets also include the arrangements by which buyers and sellers communicate their intentions, such as business letters, phone calls, radio-, television-, newspaper-, and Internet ads. These market mechanisms provide information about the quantity, quality, and price of products offered for sale, to facilitate the exchange of goods and services between buyers and sellers and, thus, to efficiently allocate scarce resources.
(4)Market items: goods, services, and resources. While, in principle, almost any commodity of value can be exchanged through markets, they are primarily used to exchange goods, services, and resources.
Goods are physical, tangible items or products that are used to satisfy wants and needs. Services are intangible activities that provide direct satisfaction of wants and needs without the production of tangible products or goods. Resources (labour
, capital, and land) are inputs that are used in the production of goods and services.
Speaking in broad terms, any item or service of value can be referred to as a good. Economists also study “bads” – items like garbage and “services” like crime you have to pay to get rid of.
(5) How do people make a trade? Markets work by placing many interested sellers in one place, thus making them easier to find for prospective buyers, and strike a deal/make an exchange.
Most market exchanges in modern economies involve a commodity on one side and a monetary payment on the other. In essence, a buyer gives up money and receives a good, while a seller gives up a good and receives money.
Buyers and sellers negotiate with each other trying to get the best deal for them. Sellers call out how much they will accept for the item. They know if they receive more than the item value, they will have earned a profit. That’s whysellers sell only if the market price is greater than or equal to the price they require to give up a good or resource that they own.
Buyers call out how much they will pay for the item. They know perfectly well that “a penny saved is a penny gained”, so if they pay less than the item value, they will have “earned” by saving. That’s whybuyers purchase products and resources only if the market price is less than or equal to the price they are willing and able to pay.
(6) Any market transaction is a product of compromise. If you want to sell, say, your car, you will be looking to get the highest price possible. If you are looking to buy a car you might be looking to get the cheapest price possible for the type of car you want to buy.Therefore,on the one side of the market (the buyers’ side), shoppers attempt to purchase goods at the lowest prices after allowing for various considerations of cost and convenience. On the other side of the market (the sellers’ side), producers attempt to sell goods at the highest prices after allowing for similar considerations.
Since both parties expect to become better off as a result of the transaction, any voluntary transaction takes place only if the price is mutually agreeable on the basis of a compromise.
A market compromise, like every compromise, fully satisfies no one. In fact, it is just midway between the competing interest of those who are buying something and those who are selling that something. It is a settlement in which each party makes a concession for the purpose of reaching an agreement. Without compromise, it would be difficult to reach agreements and keep the market running.
(7) Who benefits most from a market exchange? In contrast to political “solutions”, under which the losing side is always forced to submit to the winners, free market exchanges normally leave both sides equally satisfied. According to standard capitalist theory, as explained by Adam Smith in Wealth of Nations, when individuals make a trade they value what they are purchasing more than they value what they are giving in exchange for a commodity. If this were not the case, then they would not make the trade but retain ownership of the more valuable commodity. This notion underlies the concept of mutually-beneficial trade where it is held that both sides tend to benefit by an exchange.
(8) Barter exchanges: no money is needed.While most markets involve the exchange of money for a commodity, sometimes one commodity can be traded for another, doing what is commonly termed barter. In other words, barteris the exchange of goods and services performed directly, without using money. “I’ll cook dinner if you do the dishes” and “You scratch my back, and I will scratch yours” are typical examples of barter.
Barter requires a double coincidence of wants:Amust have what B wants, andBmust have what A wants. The transaction costs(the costs involved in making an exchange) of finding a double coincidence of wants for barter transactions are typically very high. That’s why most markets involve money because goods and services can be exchanged more easily with money than without it.
(9)Money exchanges. Money is an extremely difficult concept to define with precision. Most simply put, it is anything “what you buy things with”. It is a medium of exchange, in terms of which the value of all goods and services is expressed.The reason that people value money as a medium of exchange is that it allows for complex exchanges to take place more easily than using barter.
(10)Market price. The amount of money for which a/one unit of goods or services is exchanged is called price. In other words, price is the money value of a good or service. It is a component of an exchange or transaction that takes place between two parties and refers to what must be given up by one party (i.e. buyer) in order to obtain something offered by another party (i.e. seller).
In economic terms, a market price (i.e. market-determined price) is the amount of money that a willing buyer will pay a willing seller for a given good or service. Market price is established at the point of exchange through the interaction of buyers and sellers.
Prices are providers of information. They reflect how much people value goods and what sacrifices society has to make to provide the goods.
(11) Free market. A free market is a market where price is determined by trade rather than by government. A completely free market is an idealized form of a market economy where buyers and sells are allowed to transact (i.e. buy/sell/trade) freely without any state intervention in the form of taxes, subsidies or regulation.
Because no national economy in existence fully manifests the ideal of a free market as theorized by economists, some critics of the concept consider it to be a fantasy – outside of the bounds of reality. Some of them hold that “the free market is socialism for the rich”, and that free markets are for the poor, while state protection is for the rich.
Not all advocates of capitalism consider free markets to be practical, too. Some of them hold it wrong to believe that government is per se bad and unproductive while the private sector is per se good and productive. In well-run modern economies, they say, there is a marriage between government and the private sector, each benefiting from the other.
(12)Market, non-market, and mixed economies.An economic system in which goods and services are exchanged by market functions is called a market economy (also termed capitalism). An alternative economic system in which non-market forces (often government regulations) determine prices is called a planned economy or command economy (also termed socialism). An economic system in which an attempt is made to combine socialist ideals with the market economy is known as a mixed economy or market socialism.
“Property is theft.”– P.-J. Proudhon.
“By abolishing private property one takes away the human love of aggression.”– S. Freud.
(1)Introduction. The concept of a market presupposes the existence of certain sorts of property relations in the society involved. At least some goods and services must be legally or socially regarded as alienable property of private individuals who are recognized as having not just the right to use particular scarce economic resources for their own purposes but also to transfer such rights of use to someone else in exchange for money or other goods or services.
Not all human societies have recognized any such rights to transfer ownership, while the very justification for the institution of private property to exist has been questioned through centuries by a great number of outstanding philosophers, moralists, politicians, scholars, and economists.
(2)What is property?The concept of property has no single or universally accepted definition. Like other foundational concepts which have great weight in economics, its usage varies broadly.
In common use, property is simply “one’s own thing”, and refers to the relationship between individuals and the objects which the former see as being their own to dispense with as they wish.
In contrast, scholars in the social sciences conceive of property not as a relationship between people and things, but as a relationship between people with regard to things. Seen as such, property is not a thing, but a title to such a thing, or rights in or to it. When we offer a house for sale, for example, we only offer the legal title, which is the exclusive right to the house we are selling.
A common means of acquiring property nowadays is by transfer from the previous owner or owners: one can purchase it with money, trade it for other property, receive it as a gift, inherit it, steal it, find it, or make it.
(3) Real property and personal property. Property can be classified into real property (also sometimes called real estate or realty), and personal property (also sometimes called chattel or personalty).
Real property, also referred to as immovable property or immovables, is land and ordinarily anything erected on, growing on, or affixed to it, including buildings and crops.
Personal property, also referred to as movable property or movables, is anything other than land that can be moved from one location to another.
(4) Tangible and intangible property. Property can also be divided into other two major categories: tangible and intangible. Tangible property includes such items as residential buildings, machinery, livestock, automobiles, or jewelry. Intangible or abstract property includes intellectual property (non-corporeal things like ideas, patents, copyrights, trademarks, musical compositions, novels, computer programs), financial instruments (like shares of common stock in a corporation, bonds, insurance policies), or contractual obligations to provide, say, goods or services at some time in the future.
Lastly, the purpose distinguishes property into goods of consumption and goods/means of production, according as the goods are directly intended either for production, i.e. for producing new goods, or for final consumption.
(5) Collective property and private property. Property may be further classified as either public (collective) or private (individual). Public property is that which belongs to a whole community collectively or a state. Private property is that which belongs to an individual or a group of individuals.
Public property is intended to serve the interests of the community at large; private property, the interests of a limited circle. Family property is private property, even if it belongs to the family as a whole.
(6) Communal property. When a group of people shares the ownership of property amongst each other, communal or common ownership of property occurs. A common form of communal real estate ownership is a cooperative or co-op. A co-op is a group of persons who join together, or cooperate, to own a building for mutual benefit.
(7) Private property: pro and contra. Private property is the key building block of capitalism, – an economic system in which most economic decisions are made by private owners and most property is privately owned.
The concept of private property is simply the idea that you, as a private individual, have the right to own and to do whatever you please with anything which is “yours” – your house, your land, your car, your guitar, your money, your anything.
The idea that people have a governmentally protected right to own things and use them as they see fit – is very basic: the market process couldn’t work unless people had the right to keep and/or exchange the things they earned, or otherwise produced or bought.
Supporters of private property rights state that the institution of private property enables both better protection and more efficient allocation of society’s scarce resources, and provides more wealth and better standards of living for all in the long run.
Critics of this concept argue that private property is inherently illegitimate, and has no moral justification since it will always lead to inequality, domination of one group of people, – that is, private property owners – over the non-property holders.
The most radical critics hold that only collective ownership will assure the minimization of unequal or unjust outcomes and the maximization of benefits for all members of a society, and that therefore all private property should be abolished.
Competition, Market Control, and Market Structure “Competition is a creative destruction.” – J. A. Schumpeter.
“Competition kills competition”. – P. -J. Proudhon.
(1)Introduction.Competition is one of the fundamental features of all living organisms. Nowadays, the term is widely used in numerous fields, including biology, business, politics, sports and, of course, economics. Other words with similar meaning in English are rivalry, and contest.
(2) Definition. Competition is the act of striving against others for the purpose of achieving dominance or acquiring more of something that is scarce. Typically, competition is a highly dynamic process inwhich only the fittest survive and thrive.
(3) Competition as an economics concept.In economics, competition is one of the most important concepts. As a product of scarcity, it is normally defined as the contest for command over scarce resources: if