If you don’t have much experience with economics, the subject might seem daunting and obscure. You might even assume that economics is all about money and finance, and that it has nothing to do with your daily life. This is far from the truth. First of all, it must be understood that economics is a social science. Although many economic principles are critical to finding success in business and finance, economics is also a tool that can be used to predict human behavior, understand the forces behind social issues, or simply, navigate everyday life. In fact, whether you are conscious of it or not, you are constantly making economic decisions, such as choosing how to spend your Friday evening or deciding if it’s really worth eating another piece of chocolate cake (it is!).
Fundamentally, however, economics is the study of scarcity: how to satisfy unlimited wants with limited resources. The world we live in is full people that have all kinds of needs and desires. The problem of scarcity is that there are a finite amount of resources— land, labor, and capital— that can be used to satisfy this infinite set of wants. This basic problem presents society with the following three fundamental questions to be answered: What goods and services will be produced? How will goods and services be produced? Who will consume goods and services? By resolving these questions, an economy can attempt to solve the issue of scarcity. Scarcity also gives way to a variety of key economic concepts, such as opportunity cost. Opportunity cost is one of the most basic economic principles, and demonstrates the idea of trade-offs: by making one decision, the benefits of all other alternatives are forgone. For example, by deciding to go to soccer practice after school, you might be giving up going to the movies with your friends.
Another critical idea to understand in the study of economics is the concept of rational behavior, which assumes that humans are constantly acting to optimize outcomes and maximize personal benefit (or, as it is referred to economics, utility). In other words, when given multiple options, people will always choose the option that provides them with the biggest economic incentive. Although the concept of rational behavior is important to understand since it forms the basis for many fundamental economic models and ideas, it can often be difficult to apply in the real world. Humans are impacted by a variety of different factors— ranging from cognitive to cultural— that cause them to behave irrationally. This overlap between the fields of economics and psychology forms the basis for behavioral economics.
Macroeconomics and Microeconomics
In understanding economics, it is also important to recognize the difference between macroeconomics and microeconomics. Microeconomics is the area of economics that focuses on the decisions and interactions of individual actors, such as buyers, sellers or business owners. Microeconomics, for example, might put emphasis on a specific product, firm or industry. On the other hand, macroeconomics focuses on the bigger picture. This can mean either the economy as a whole, or aggregates, which is the grouping of many smaller economic units. Examples of macroeconomics might include national economies and economic indicators such as GDP and unemployment rates. Despite their differences, however, both macroeconomics and microeconomics are interdependent.
Positive and Normative Economics
Another distinction to be made is the difference between positive and normative statements in economic analysis. Positive economic statements center on factual evidence, while normative economics emphasize value judgements and how things ought to be. For instance, to say that the unemployment rate in America is lower than the unemployment rate in Spain would be a positive statement. Conversely, to declare that taxes in Norway are too high would be a normative statement.
Now that you understand the basics of economics, start looking for these economic principles in your daily life. Can you find examples of scarcity and opportunity cost? Why do you make the decisions that you do? How do you choose to maximize your utility?