1.1 The Complexity of the Modern Economy • Economy: a system in which scares resources are allocated among competing uses. Economies tend to be complex systems and scares resources include land, labour and machines (capital).
The Self-‐Organizing Economy (Invisible Hand) • “The great insight of economists is that an economy based on free-‐market transactions is self-organizing.” • With Market Economies, there is a “spontaneous economic order” because they are based on the self-‐interests of consumers who make decisions independently based on the prices in open markets. With this – the collective outcome is coordinated based on the independent decisions of several different groups. • “...Things that people want within the constraints set by the resources that are available to the nation.” • Smith recognizes that not all economic interactions are motivated by benevolence (kindness) in a modern economy. Efficient Organization • Efficiency: resources available are organized in a way so that all the goods and services that people require are fulfilled while being produced with the least possible amount of resources. Main Characteristics of Market Economies • Self-‐Interest: Individuals pursue their own self-‐interests. • Incentives: Sellers want to sell more when prices are high, buyers want to buy more when prices are low. • Market Prices and Quantities: P and Q are determined in free markets where potential sellers compete to sell their products to potential buyers. • Institutions: Economic activity is governed and monitored by institutions that tend to be set up by the government. Private property, freedom of contract and the rule of law are the most important institutions; they are defined by contracts, legislation and enforcement.
1.2 Scarcity, Choice and Opportunity Cost • Because we live in a world of scarcity, where not everyone can have everything that they desire, this brings choice, the decision that people must make of what they will and will not have. • “Economics is the study of the use of scares resources to satisfy unlimited human wants.” Resources • Land includes natural endowments such as forests, lakes, minerals and oil. • Labour includes all mental and physical human resources. • Capital includes all manufactured aids to production such as tools, machinery and buildings.
Land, labour and capital make up the Factors of Production.…