Introduction to introduction to economics

What is Economics?

In the long run, overall economics tends to grow, an improvement in the living conditions of people.

At the core of Economics is the study of how individuals make decisions given scarcity, where “scarcity” is the characterizing aspect of economy: what is not affected by a scarcity issue is not of much interest to the subject.



Microeconomics

The mechanisms which drive the market.

  • A focus on economic agents; both consumers and companies
  • Production choices by companies



Macroeconomic

Focusing on the economy as a whole, with a specific interest in price stability



Historical outline

  • The first scholars actually debating on Economics in detail are the physiocrats, in the XVII century.
  • Only at the end of the XIX century Economics started being considered and studied as a standalone field, before that period it was a branch of Philosophy.
  • Jeremy Bentham is the father of Utilitarianism, developed between the XVIII and XIX century.
    Marxist economy developed as an opposite to utilitarianism.
  • In XIX century, the neoclassical revolution defined Marginalism: the basic rules of economic behavior can be studied by focusing on individuals. Macroeconomics basically starts with it.
  • Michał Kalecki and John Maynard Keynes introduced the concept of Macroeconomics.
    According to Keynes, the market tends to reach an equilibrium which is not efficient.
  • Nowadays, macroeconomics can be explained with the tools of Microeconomics, and the two branches tend to converge.



Economics is a social science: it is not as much as functions and mathematics as much as it is how individuals (defined as economic agents) make decisions.
It is not about an absolute truth, but about ways of interpreting the dynamics of the world. Heterodox schools think about Economics as a strictly rational and mathematical matter, and while they were more diffused in the past, they are a little fraction of the overall thinking today.

The Standard Economics is based on the fundamental principles below.



Scarcity

Principle 1

Scarcity refers to the basic fact of life that there exists only a finite amount of human and nonhuman resources which the best technical knowledge is capable of using to produce only limited maximum amounts of each economic good.


According to Jeremy Bentham, from this it follows that economic agents are rational utility-maximizers: they have preferences over alternatives and they aim to choose the best outcome in terms of benefits and costs ratio. Practically speaking, nevertheless, there is a strong factor played by feelings and irrational impulses. The 2002 Nobel prize for Economics was awarded to the psychologist Daniel Kahneman: people are not always rational when making choices.

One of the key points of Economics is scarcity. Unless there is a problem of quantity and availability of a resource, something does not interest Economics.

Using a microeconomical perspective, we should look at the individual and we can state that time is scarce and founds available to the single person are scarce too.

How do individuals make choices? Economic agents are rational utility-maximizers.

The focus of scarcity is not about what will be missed or scarce in the future, but about what is scarce already, and managing the limited amount of resources.


Scarcity of what?

From a macroeconomical point of view, scarcity can be applied also to society as a whole:

  • Labor
  • Capital
  • Physical resources
  • Human Capital
  • Land



Opportunity cost

Principle 2: it is not only about the monetary price or the strictly monetary cost, but also the opportunity cost, which is the cost of the alternatives, therefore the cost of what the economic agents are giving up.

It is not a moral perspective, therefore, it is not about wasting time or resources into something that does not deserve it, it is rather about the potential benefits of another product/activity which are not gained.



Quantity

Principle 3: by answering the “how much” question, we know it is a matter of marginal analysis.

People can get what they want by trading, so trade contributes to overall wealth. Furthermore, markets move towards equilibrium



Exploiting opportunities

Principle 4: people usually exploit opportunities to make their life better.

Incentives are used as a tool to drive and change individuals’ behavior. Designing incentives is a way of directing the economy towards better behaviors.



Trade

Principle 5: people are better off if they trade rather than if they are on their own.



Market equilibrium

Principle 6: the market tends to an equilibrium.

If incentives are changed, individual choices change accordingly, but in the long run they tend to stabilize to gain the most they can with the incentives at their disposal.



Efficiency

Principle 7: the purpose of economy is to provide the most efficient solutions possible to achieve goals in the best interest for the whole society. Wasting resources is never a good thing, in every society.

A society is efficient when it finds a way to make someone better off without making the others worse off.


The Pareto efficiency

Trading commodities until a welfare is reached. Individuals will freely pursue their wealth.
Utility maximizing: I am an individual and I have some finite resources; I will trade them freely, if I can, until I get to the Pareto efficient solution.

Even if the monetary value of some good I own is greater than the good I lack, I will attempt nevertheless to achieve it.

The equilibrium is not something unreachable, but it is something achieved often in microeconomics.

From the Keynesian point of view, the macroeconomical equilibrium is never an efficient equilibrium, therefore it does not achieve full employment; the government will intervene and influence this.


Principle 8: the market usually leads to efficiency.

By themselves, resources tend to be allocated in an efficient way. From a theoretical point of view, the market alone naturally tends to equilibrium only in very specific circumstances which are seldom verified.



## Government intervention

Principle 9: the government can intervene to influence the market to hinder externalities’ actions towards market failure.

Public intervention can push the economy to achieve full employment. One of the ways to do so, is directly giving money to people to give them buying power and subsequently improving the economy.

A recent example is the European Recovery Fund.


Externalities

The behavior of an agent affects other agents; e.g. pollution: some agents produce pollution, and it indirectly influences the market.

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