Basics of Economics
Economics Online Tutor
For new students, a logical place to start would be to ask: What is
economics?  For the answer to that question, consider these two facts of
life: Human wants are unlimited, and resources are finite.  This means
that not everybody can have everything.  This combination of unlimited
wants and limited resources is called scarcity.  Scarcity, in economics
lingo, is not the same thing as shortage.  The term shortage is a
completely different concept and will be encountered elsewhere in the
study of economics.  Scarcity is called "the economic problem".  How
individuals, groups of individuals, and entire societies deal with this
economic problem is what economics is all about.  So one definition of
economics is this:


ECONOMICS: THE STUDY OF HOW PEOPLE CHOOSE TO USE THEIR
SCARCE RESOURCES IN AN ATTEMPT TO SATISFY THEIR UNLIMITED
WANTS.


Economics deals with the answers to the what, how, and who questions: WHAT
should be produced?  HOW should it be produced?  WHO should it be
distributed to?


As you will figure out, if you haven't done so already, the study of economics
involves a certain kind of logic, a unique kind of thinking.  This is one of the
things that is difficult to define, but you will recognize it when you see it.  This
form of thinking is called "economic thinking", or the "economic approach".


Economic thinking involves the concept that costs include unintended
consequences.  Economists attempt to include these costs in the decision
making process.  This leads to a thoroughness of the thought process not
found in all social sciences.

USING MATH IN
THE STUDY OF
ECONOMICS:

Different levels of economic
study require different levels
of mathematical knowledge.  
The purpose of this site is to
teach basic economic
concepts.  With that in mind,
an attempt is made to
include only a minimal level
of math.  However, some
math is included, because it
is impossible to get very far
in the study of economics
without encountering some
math.  I am using the
following rule for this site
when it comes to using
math: Some math is
included, but nothing beyond
linear algebra.  This will
cover the basics, and many
students are familiar with
the use of such math.  For
those who are not, much can
be learned from reading this
site: just skip over the math
portions that are not
understood.  Much can be
learned in that manner, but
more can be learned if the
math is also followed.  Any
questions involving a higher
level of math will not be
answered through this site.  
Also, statistics, important in
many areas related to
economics, will not be used
here.

FIRM
BUSINESS FIRM
COMPANY
ENTERPRISE
BUSINESS
SELLER
PRODUCER

These are all terms
that refer to the same
thing: the terms are
interchangeable.

They all refer to an
organization that is
controlled by one
management structure
and offers goods or
services for sale in the
hopes of earning a
profit.
A very important concept that is involved in all areas of economic analysis is the concept of equilibrium.  
I have found that while textbooks and classroom instruction generally explain this concept well as it
relates to many economic principles, the concept of equilibrium is still often under-emphasized.  If you
keep in mind that if forms the basis for
ALL areas of analysis, you should be able to have a clearer
understanding of economic analysis.

The definition of equilibrium as it relates to the study of economics:

EQUILIBRIUM: A SITUATION IN WHICH NO FORCES EXIST TO CREATE CHANGES

This definition can be applied to all areas of life, not just the areas normally associated with the study of
economics.

The opposite of equilibrium is disequilibrium.  When disequilibrium exists, the current situation is not
sustainable in the long run and will change, with changes moving towards a situation of equilibrium.

On the subject of economic analysis, the study of economics necessarily involves learning many
different topics and concepts.  This site is divided into various topics accordingly.  In order to
fully understand and analyze real life situations, knowledge of many different topics must be
understood and incorporated into the analysis.  Most topics are taught in terms of specific
relationships, with assumptions made in order to isolate these relationships.  These assumptions
include one involving "ceteris paribus", or "everything else held constant or equal".  This
assumption allows for a better understanding of the concepts being studied.  It is necessary to
make this assumption for studying concepts, but it is an assumption that does not hold true in
the real world and must be relaxed when applying these concepts to real-life situation.  In the real
world, everything else is
not constant or equal.  The economy is dynamic, and changes are
always occurring.  With constant changes, real world analysis means that disequilibrium of some
kind is always involved with any situation.  Knowing which relationships are in equilibrium and
which are in disequilibrium for any given situation is a key to proper economic analysis.

When you hear people, especially politicians, discuss economics issues, you
often hear them talk about what should be done, or what course of action
should be followed.  Such statements are called normative statements.  
Normative statements are statements about "what ought to be".  Other kinds of
statements you may hear in relation to economics are called positive
statements, which are statements of facts, statements of the results of studies,
etc.  Positive statements include no value judgements, while normative
statements include value judgements.  The economic approach requires the
avoidance of using normative statements.  Only positive statements should be
used in applying the principles of economics to real-world situations.


The use of normative statements is one trap to avoid when studying
economics.  For the economic approach, it might be helpful to note three other
common mistakes to avoid:


1. Economics involves the study of human behavior.  This should be done by
assuming that people's behavior is governed by "rational self interest" (more
on that later on this page), instead of assuming that behavior is governed by
ignorance.  Don't assume that people behave in a certain way because they are
too "stupid" to behave rationally.  Instead, assume a rational reason for
behavior.

2. Avoid the fallacy of composition.  This is the fallacy of saying that what
applies to one will apply to many.  It may be safe for one driver to go through
an intersection when the light is yellow, but that doesn't mean that it is equally
safe for many drivers to do so at the same time.

3. Just because an association between events can be found does not mean
that one event caused the other.  Two things happening together could be a
coincidence.  Or there may be a provable statistical connection between two
events.  But just because the events can be linked does not in any way imply
that one caused the other.


I mentioned the term "rational self interest".  This is the assumption that
economists make that states that the choices people make are done rationally,
based on the information known at the time, in an attempt to maximize their
satisfaction.  'This satisfaction is known in economics lingo as utility (the term
"utility" will come up often in the study of economics).  "Rational", in this
sense, does not imply that everybody would make the exact same decision
when confronted with the same choice, using the same available information.  
Different people can make different decisions and each can still be rational.  
Different people have different goals, different attitudes, and different costs.

Some economists use the term "bounded rationality" instead of "rational self
interest", in order to emphasize the fact that people do not have perfect
knowledge at the time that they make decisions.  But the terms are
interchangeable.  Also, it is important to note that "self interest" is not the
same thing as "selfish".  People who are acting in rational self interest, and are
trying to maximize their satisfaction, can very well do so by helping others,
giving to charity, and making numerous sacrifices.
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