Economic Way of Thinking - Chapter 1
Lots of people find economic problems baffling because they don't understand how economy works.
We don't notice how our system works because we are used to it, so we take it for granted.
Example: rush hour is chaos but it works.
Hobbes believed that if people could be induced to not attack each other, then cooperation would emerge bc people are committed to self-preservation.
We depend on organizations that encourage cooperation.
The life Hobbes knew was simpler, more bound by custom and tradition, so he didn't understand the importance of his question.
Adam Smith did not agree with thinkers of his age that said that only the careful planning of political rulers could prevent society from crumbling.
He believed that society functioned well on its own.
"Wealth is created via labor, and self-interest spurs people to use their resources to earn money"
The Economic Way of Thinking is an approach, a technique of thinking about the complex world around us.
"All social phenomena emerge from the actions and interactions of individuals who are choosing in response to expected additional benefits and costs to themselves."
It displays three aspects: one focusing on actions, the second on interactions, and the third on consequences.
Economize: to use resources in a way that extracts from them the most of whatever the economizer wants. Continually comparing expected additional benefits and costs.
Scarcity: making a sacrifice to get more of what you want.
We deal with scarcity by economizing.
Each does what they think is best for themselves, and end up contributing to the bigger flow of things.
This leads to the idea of unintended consequences.
"How can such an orderly pattern of events emerge, not on purpose, but as a by-product of people pursuing their own separate interests?"
Specialization: the division of labor, according to Smith.
A necessary condition for the increases in production that have expanded the wealth of nations in recent centuries.
Specialization in the absence of coordination is the road to chaos.
In the modern society, people's economizing actions occur in the context of extreme specialization.
Interactions: exchange
Commercial society: when the division of labor has been once throughly established.
A man's wants produce surplus which can be exchanged for other goods.
Individuals choose their actions on the basis of the net advantages they expect.
When the ratio of expected benefit to expected cost increases, people do more of it.
Why does it happen? "a process of continuing mutual adjustment to the changing net advantages that their actions generate."
People need information to successfully accomodate and adjust to others.
Market-formed prices communicate useful information to participants in the economy.
Prices help us know what to produce, to clarify options to consumers, etc.
Economic systems are shaped by the "rules of the game".
Rules affect incentives, so everyone must know roughly what they are and they must be reasonable and stable.
When they are not, the game breaks down.
Property rights form a large and important part of the rules governing most of the social interactions in which people regularly engage.
A market-exchange economy is based on private property rights.
Private property rights help clarify our options and opportunities.
Private property rights can be voluntarily traded for similar rights to other goods and services.
In socialist economies, private property rights are different from social property rights.
This creates confusion.
Clear property rights spark efforts to discover new resources, to innovate.
Is this perspective biased? No because it makes emphasis on choice.
Society by itself never makes choices and decisions. Only individuals can do that.
Individuals are the fundamental units of analysis.
Individuals choose after weighing benefits and costs.
Economic thinking is criticized by the emphasis on the economizing process, it assumes that people are calculating.
No. Economic thinking analyzes the way that humans naturally act.
Is criticized because it contains a pro-market bias.
Can't we call "biases" conclusions?
We can observe facts but it takes a theory to explain the causes.
It takes a theory about cause and effect to weed out the irrelevant facts from the relevant ones.
The economic way of thinking has to be supplemented with information from other areas of knowledge.
Lots of people find economic problems baffling because they don't understand how economy works.
We don't notice how our system works because we are used to it, so we take it for granted.
Example: rush hour is chaos but it works.
Hobbes believed that if people could be induced to not attack each other, then cooperation would emerge bc people are committed to self-preservation.
We depend on organizations that encourage cooperation.
The life Hobbes knew was simpler, more bound by custom and tradition, so he didn't understand the importance of his question.
Adam Smith did not agree with thinkers of his age that said that only the careful planning of political rulers could prevent society from crumbling.
He believed that society functioned well on its own.
"Wealth is created via labor, and self-interest spurs people to use their resources to earn money"
The Economic Way of Thinking is an approach, a technique of thinking about the complex world around us.
"All social phenomena emerge from the actions and interactions of individuals who are choosing in response to expected additional benefits and costs to themselves."
It displays three aspects: one focusing on actions, the second on interactions, and the third on consequences.
Economize: to use resources in a way that extracts from them the most of whatever the economizer wants. Continually comparing expected additional benefits and costs.
Scarcity: making a sacrifice to get more of what you want.
We deal with scarcity by economizing.
Each does what they think is best for themselves, and end up contributing to the bigger flow of things.
This leads to the idea of unintended consequences.
"How can such an orderly pattern of events emerge, not on purpose, but as a by-product of people pursuing their own separate interests?"
Specialization: the division of labor, according to Smith.
A necessary condition for the increases in production that have expanded the wealth of nations in recent centuries.
Specialization in the absence of coordination is the road to chaos.
In the modern society, people's economizing actions occur in the context of extreme specialization.
Interactions: exchange
Commercial society: when the division of labor has been once throughly established.
A man's wants produce surplus which can be exchanged for other goods.
Individuals choose their actions on the basis of the net advantages they expect.
When the ratio of expected benefit to expected cost increases, people do more of it.
Why does it happen? "a process of continuing mutual adjustment to the changing net advantages that their actions generate."
People need information to successfully accomodate and adjust to others.
Market-formed prices communicate useful information to participants in the economy.
Prices help us know what to produce, to clarify options to consumers, etc.
Economic systems are shaped by the "rules of the game".
Rules affect incentives, so everyone must know roughly what they are and they must be reasonable and stable.
When they are not, the game breaks down.
Property rights form a large and important part of the rules governing most of the social interactions in which people regularly engage.
A market-exchange economy is based on private property rights.
Private property rights help clarify our options and opportunities.
Private property rights can be voluntarily traded for similar rights to other goods and services.
In socialist economies, private property rights are different from social property rights.
This creates confusion.
Clear property rights spark efforts to discover new resources, to innovate.
Is this perspective biased? No because it makes emphasis on choice.
Society by itself never makes choices and decisions. Only individuals can do that.
Individuals are the fundamental units of analysis.
Individuals choose after weighing benefits and costs.
Economic thinking is criticized by the emphasis on the economizing process, it assumes that people are calculating.
No. Economic thinking analyzes the way that humans naturally act.
Is criticized because it contains a pro-market bias.
Can't we call "biases" conclusions?
We can observe facts but it takes a theory to explain the causes.
It takes a theory about cause and effect to weed out the irrelevant facts from the relevant ones.
The economic way of thinking has to be supplemented with information from other areas of knowledge.