There is a reason why children when asked ‘what do you want to grow up to be?’, never answer ‘Economist’. The reason simply is that children have not been told or made to think about the idea of economy or economics. For children, everything is in limitless supply, though they may not have everything. Economics is the science of managing scarcity, balancing supply and demand and of how to enable society, company, country or individual to thrive by making the right choices. Let’s say we are willing to take the trouble of explaining a bit about economics, question arises: where do we start? How much of economics should we know ourselves as Parents and which are the principles we can teach children? Quite a daunting task, isn’t it?
This is where the work of Harvard economics professor N. Gregory Mankiw, comes in handy. His book ‘Principles of Economics is an introductory economics textbook for college students. In this text, He describes in detail the 10 principles of Economics, that we should all know about to get a sense of how the economy works. I have summarised them here in simple words (I hope) so that we can lead and discuss them with our children too:
1. People Face Tradeoffs
A tradeoff is also a situation in which the achieving of something you want involves the loss of something else which is also desirable. To get one thing, we usually have to give up something else.
Ex. Leisure time vs. work
2. The Cost of Something is What You Give Up to Get It
Technically this is also called Opportunity cost. It is the value of the action that you do not choose when choosing between two possible options:
If we do take any project/ investment/ purchase/ decision, we need to think about the opportunity costs involved. For instance, the opportunity cost of studying at university for three years is the three years of pay that you do not earn during that time. It is the second-best alternative foregone.
3. Rational People Think at the Margin
Marginal changes are small, incremental changes to an existing plan of action. Marginal benefit (for the consumer) and marginal cost (from the producer) are two measures of how the cost or value of a product changes. A marginal benefit is the maximum amount of money a consumer is willing to pay for an additional good or service. The consumer’s satisfaction tends to decrease as consumption increases. For eg., You wish to eat a dessert after a meal and so you order a cup of strawberry ice cream for 3$. For the ice cream maker, the marginal cost of ice cream i.e. cost of producing an additional cup of ice cream let’s say does not change. But as a consumer, you have already had a fill of ice cream, and so your willingness to pay for an additional cup is lower than 3$. You may be willing to pay only 2$ for an additional scoop. That’s the reason why typically two scoops of ice cream cost less than double the price of a single scoop.
4. People Respond to Incentives
An incentive is something that causes a person to act. Because people use cost and benefit analysis, they also respond to incentives
Ex. When Government wants you to invest money into the economy by buying houses, it provides you with tax-saving benefits as an incentive. It also works the opposite way. If you want to stop people from doing something undesirable, make it expensive. If Government wants to discourage people from smoking, it levies higher taxes on cigarettes, which increases cigarette prices and dissuades people from smoking to save money.
5. Trade Can Make Everyone Better Off
Not every country, state, district, company or even person is equally good at everything it does or produces. Trading allows the exchange of goods/services that each entity can best produce. Eg. Trade allows countries to specialize according to their comparative advantages and to enjoy a greater variety of goods and services. India imports oil from the Gulf countries and exports food grains and other commodities in trade.
6. Markets Are Usually a Good Way to Organize Economic Activity
A market is a place where people go to buy or sell things- products, commodities or services. Markets are where the demand is met with supply and as if by an ‘invisible hand’ decides pricing and consumption. Eg. Amazon is a great marketplace to buy or sell products because it presents a huge variety and choices to the consumer and is a very convenient platform to sell for traders. It’s a win-win for both and hence an efficient way to encourage economic activity.
7. Governments Can Sometimes Improve Economic Outcomes
Governments can create the “rules of the game” for citizens, businesses, civil society and even government so that they can protect the markets, protect the rights and safety of citizens and ensure the delivery of public goods and services. This is called market regulation and is intended to help the economy foster. Common examples of regulation include limits on environmental pollution, laws against child labour or other employment regulations, minimum wages laws, regulations requiring truthful labelling of the ingredients in food and drugs, and food and drug safety regulations establishing minimum standards of testing.
8. The Standard of Living Depends on a Country’s Production
A country that produces a lot or produces more valuable goods and services will be able to pay higher wages. That means its residents can afford to buy more of its plentiful production. Its residents will be able to afford more comforts and security. Therefore, the more goods and services produced in a country, the higher is the standard of living.
9. Prices Rise When the Government Prints Too Much Money
If you print more money, the amount of goods doesn’t change. With more money printed, households will have more cash and more money to spend on goods. If there is more money chasing the same amount of goods, companies will increase prices causing inflation.
10. Society Faces a Short-Run Tradeoff Between Inflation and Unemployment
Unemployment generally refers to individuals who are employable and actively seeking a job but are unable to find a job. There can be many clauses for unemployment like increasing the use of technology or automation requiring fewer people to do the same or even more amount of work. In the short run, when prices increase, suppliers will want to increase their production of goods and services. In order to achieve this, they need to hire more workers to produce those goods and services. More hiring means lower unemployment while there is still inflation. So for governments, it’s a tight walk to decide exactly how much money to print, so that inflation doesn’t hurt yet unemployment doesn’t rise too much.
Gregory suggests these 10 principles of economics “supposedly represent the heart of economic wisdom”. The book was first published in 1997 and has nine editions as of 2020, standing the test of modern times. Even though I don’t recommend reading the entire book, I do recommend getting an overview as it makes great learning for children and adults alike. Hope this post gave you a good overview of the key principles of economics in a 10-minute capsule.