Common Sense Economics What Everyone Should Know About Wealth

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Common Sense EconomicsWhat Everyone Should Know
About Wealth ProsperitybyJames Gwartney,
Richard Stroup, and Dwight LeeCommonSenseEconomic
s.com
10 Key Elements of Economics
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Ten Key Elements of Economics

• Build a bridge between common sense and economic
  applications.
• Provide a solid foundation in economic reasoning.
• Apply common sense to help readers make strategic
  consumption, savings, investment, career, and
  voting choices.
• Explain why people cooperate in order to help
  themselves prosper and their nations grow.

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Incentives matter.

• 10 Key Elements of Economics

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What Are Incentives?

• Incentives are factors that encourage or
  discourage various types of behaviors, actions or
  activities.
• Changes in incentives alter the way people
  behave.
• Incentives influence behavior at all levels-
  personal, familial, business, government, and
  national.

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Gasoline Prices

• When gas prices rise, do you have an incentive to
  change your behavior?
• When do you stop talking and start acting?
• How can you change your behavior in the
  short-run?
• How can you alter it in the long-run?

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Incentives Producers and Consumers

• What is the main incentive of the producer?
• Provide consumers with what they value the most
  while covering their costs of production and
  making a profit.
• What is the incentive of the consumer?
• Get the most of what they value from their
  expenditures.

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Volunteerism

• Incentives matter to everyone, including
  volunteers and charitable organizations.
• What incentives do volunteers have? Are they
  only monetary?
• Describe some incentives offered to encourage
  people to volunteer, donate blood and assist
  Habitat for Humanity in the building of houses.

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There is no such thing as a free lunch.

• 10 Key Elements of Economics

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The Condition of Scarcity

• Our resources are limitedbut our desires for
  goods and services are NOT.
• Something is scarce if it has more than one
  valuable use. Consider your time.
• When resources are used to do one thing, they are
  unavailable to do others.

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To Choose Is To Sacrifice

• Scarcity forces us to make choices.
• Choosing an action means we sacrifice doing
  something else.
• The opportunity cost of a choice is the value of
  what is given up.

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There Is No Such Thing As A Free Lunch

• What if a financial planner offers to buy you
  lunch?
• You incur no money cost but you sacrifice time
  that could have been used to do something else.
• The value of your next best option is the
  opportunity cost of going to the free lunch.

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3. Decisions are made at the margin.

• 10 Key Elements of Economics

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Marginalism

• Few, if any, decisions are all-or-nothing.
• Marginal means additional or one more.
• We are constantly facing marginal choices.
• To get the most out of our resources, we should
  only take an action when the additional benefits
  are greater than the additional costs.

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Marginal Decision Examples

• How much do you clean your house or room?
• Do you clean until 100 of the dirt and clutter
  has been removed when its just you and no company
  is expected?
• Do you clean until 100 of the dirt and clutter
  has been removed when you expect company?
• You clean as long as the marginal costs are less
  than the marginal benefits!

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Apply Marginal Thinking To

• Weeding an overgrown garden
• Cleaning up a polluted stream
• Picking up litter along the highway
• Eating pizza
• Eating at an All You Can Eat buffet

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4. Trade promotes economic progress.

• 10 Key Elements of Economics

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People Gain When They Trade

• Trade (Voluntary Exchange)
• Moves goods and services from people who value
  them less to people who value them more.
• Makes larger output and consumption possible by
  allowing us to specialize in doing what we do
  best.
• Makes larger output and lower per-unit costs
  possible as a result of mass production.
• Trade leads to larger output and higher income
  levels.

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Discuss how trade effects the well being of the
trading partners in the following scenarios.

• Flea Market
• eBay
• Garage sales
• International trade between the U.S. and Mexico

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5. Transaction costs are an obstacle to trade.

• 10 Key Elements of Economics

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Transaction Costs

• Transaction costs resources spent when making an
  exchange or transaction.
• Buyers and sellers spend scarce resources when
  they
• Search for exchange partners
• Locate product information
• Negotiate the terms of trade
• Finalize and formalize contracts and agreements

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Why are there transaction costs?

• Physical obstacles
• Movement of goods from sellers to buyers
• Scarcity of information
• Locate buyers and sellers assess their
  reputation and find best deals
• Political obstacles
• Taxes, tariffs, quotas, licensing requirements,
  and other regulations
• Middlemen
• List a few types.
• Describe how they impact the costs of transacting
  in a complex world.

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6. Profits direct business toward activities that
increase wealth.

• 10 Key Elements of Economics

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Profits Friend or Foe?

• People are better off if their resources are
  directed toward the production of goods and
  services valued highly relative to costs.
• Users should be encouraged to undertake
  productive projects.
• Profits and losses perform this function.
• Profits provide rewards to those who transform
  resources into goods and services that are valued
  more than costs.
• Losses impose a penalty on the unproductive use
  of resources.

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Losses Are Important!

• A T-shirt factory has total production cost of
  20,000.
• 1,000 T-shirts can be sold at 22 each. This
  production results in a 2,000 profit.
• Consumers value the T-shirts more than the
  resources required for their production.
• What if these shirts could be sold for only 17
  each? What is the total sale price? Is there
  loss or a profit?
• This loss of 3000 indicates that the T-shirts
  are worth less to consumers than the resources
  required to produce them.

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7. People earn income by helping others.

• 10 Key Elements of Economics

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Earning Income

• What do you have to do to earn a high income?
• Explain why you need others to earn a high
  income?
• How do you know that others value the services or
  goods you provide?
• Explain why high earnings come from providing
  goods and services that others value.

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Income Variation

• College students are rewarded for studying.
• Star athletes and entertainers are rewarded for
  their specialized skills.
• Entrepreneurs are rewarded for their productive
  innovations and risk-taking.
• Why does Tiger Woods earn more than a nurse?

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8. Economic progress comes primarily through
trade, investment, better ways of doing things,
and sound economic institutions.

• 10 Key Elements of Economics

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What is Economic Progress?

• Americans produce and earn THIRTY TIMES more now
  than colonists did in 1750.
• What contributed to this economic progress?
• Why is this progress important?

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Sources of Economic Growth

• Investments in productive assets
• Physical capital (tools, machines, computers, and
  buildings) and human capital (education,
  vocational training, and professional
  development)
• Entrepreneurial discoveries and improvements in
  technology
• Cotton gin, assembly line, refrigerators,
  telephone, polio vaccine, microwave,
  minicomputer, and artificial heart
• Improvements in economic organization
• Rule of law, even handed enforcement, competitive
  markets, limited government and money of stable
  value

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9. The invisible hand of market prices directs
buyers and sellers toward activities that promote
the general welfare.

• 10 Key Elements of Economics

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Invisible What?

• Adam Smith, The Wealth of Nations (1776)
• It is his own advantage, indeed, and not that of
  society which he has in his view. But the study
  of his own advantage naturally, or rather
  necessarily, leads him to prefer that employment
  which is most advantageous to societyHe intends
  only his own gain, and he is in this, as in many
  other cases, led by an invisible hand to promote
  an end which was not part of his intention.

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What Is the Invisible Hand?

• Through price signals, the primary function of
  markets is to provide information to buyers and
  sellers.
• The invisible hand of market prices directs
  millions of self-interested individuals into
  cooperative action and brings their choices into
  line with each other.
• Friedrich von Hayek

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Price Signals and the Invisible Hand

• By pursuing self-interests in markets,
  individuals help others and everyone is made
  better off.
• Who is made better off when consumers buy MP3
  players?
• How do consumers indicate how much they value MP3
  players?
• How do MP3 manufacturers relate production costs
  to consumers?
• Do the MP3 consumers and producers ever meet to
  swap information on consumer preferences and
  production costs?
• What makes this possible?

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10. Too often long-term consequences, or the
secondary effects, of an action are ignored.

• 10 Key Elements of Economics

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Secondary Effects or Long Range Consequences

• A person
• must trace not merely the immediate results but
  the results in the long run, not merely the
  primary consequences but the secondary
  consequences, and not merely the effects on some
  special group but the effects on everyone.
• - Henry Hazlitt 1979
• Economics in One Lesson

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Unintended Consequences

• Well intended actions have secondary effects that
  impact others. Discuss the secondary effects of
• Rent controls designed to make housing affordable
  for the poor.
• Tariffs and quotas designed to protect domestic
  industries.
• Government projects designed to increase
  employment in construction.

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If policymakers have good intentions

• Will their actions lead to desirable outcomes?