Basic Business Economics
Business economics is
defined as the study of how businesses manage scarce resources. Microeconomics
is the study of the decisions of individuals, households, and businesses in
specific markets, whereas macroeconomics is the study of the overall functioning
of an economy such as basic economic growth, unemployment, or inflation.
Scarcity in microeconomics is not the same as poverty. It arises from the
assumption of very large (or infinite) wants or desires, and the fact that
resources to obtain goods and services are limited.
- wants exceed resources necessary to obtain them
- therefore we must make choices
- every choice leads to a cost
Principles of Economics:
1. People face
trade-offs.
Every decision
involves choices and more of one good means less of another good. Income and
wealth are not limitless, since there is only so much time available.
Trade-offs apply to individuals, families, corporations, and societies.
2. Cost of something is
what you give up to get it.
When we make a
decision we implicitly compare the costs and benefits of our choices.
Opportunity cost is whatever must be given up to obtain something. Some costs
are obvious – out-of-pocket expenses; other costs are less obvious but must be
included in the total opportunity cost.
3. Rational people
think at the margin.
Basic economics
assumes that people act rationally and try to act so as to gain the most
benefit for themselves compared to the associated costs. Microeconomics focuses
on small or marginal) changes, and it is often rational to consider the
marginal rather than the average effects of decisions.
4. People respond to
incentives.
If rational people
compare costs and benefits, then changes in either one may change decisions. An
example of an incentive that people respond to, changes in prices. In
general, people are more likely to buy something if it is cheaper. If an activity
becomes more costly, then there is an incentive to switch to other choices.
Note that all actions have substitutes.
Explicit costs vs. Implicit costs
The cost of something,
say a business, includes both the explicit cost (usually the price) and the
implicit costs. One major implicit cost is the opportunity cost. Opportunity
costs include the next best opportunity given up. Only actions have costs; if
there are no choices, then there are no costs. Be aware that cost is
subjective. For example, compare the psychological benefit of a new computer.
Decide whether you would rather have the vacation to Europe, or a brand new
computer.
Keep in mind that when
you're not making a purchase today, and instead of waiting for a future date, the
cost of inflation is likely to be added. As such, ongoing inflation has an
impact on a consumer's purchasing power.
Disagreement in Economics
Business economics is
both a science and a study of policy – united by a common "way of
thinking." As a science, economists develop models and deliberately
simplify accounts of how cause and effect work in some parts of the economy.
Based on assumptions of what is important, models are created and used to make
suggestions about policy and improve basic economic outcomes. The policy involves
decisions about scientific theories, personal values, and particular
circumstances.
Positive statements
are claims about what the world is like, although they may be false. For
example, "Minimum wage laws cause unemployment." Normative statements
are claims about how the world ought to be and are based on values as well as
positive knowledge. For example, "The government should raise the minimum
wage." Economists may disagree over either positive or normative
statements or both, but the great majority tend to agree over basic positive
propositions. As such, most disagreements are over normative/policy issues.
Public Goods
Public goods include
things such as fireworks displays and basic research. According to basic
economics, a free market is unlikely to provide enough public goods, due to the
“free-rider” problem. A free-rider is a person who consumes a good without
paying for it. Public goods create a free-rider problem because the quantity
consumed is not directly related to the amount paid. As a result:
- there may not be enough incentive to pay for
public goods through individual action;
- you cannot be prevented from consuming the good
even if you do not pay for it and;
- it creates an external benefit for those not
involved.
Business economics
state that we can decide how much public good to produce, by considering a
cost-benefit analysis of public goods. The total benefit is equal to the total
dollar value that an individual places
on a given level of production of a public good. Total Cost is what we must
give up to get more of the public good. These are often difficult to calculate
- especially the benefits. For example, what is the benefit of saving a human
life, and what is the benefit of more flowers downtown?
Once we decide on the
benefits, then we want to provide enough of the public good to maximize net
benefits. That is total benefits - total costs. The private market will
usually not produce enough of a public good. However, it is often done by the government because it can compel everyone to contribute through taxes.
The problem is not
that people are selfish, per se, but the free-rider problem. If some people do
not voluntarily contribute, others who do contribute will feel that it is
unfair and may stop contributing as well.
Common Property Resources
These resources
include clean air, oil pools, congested roads, fish, whales, and other wildlife. The problem here is that it is hard to exclude people, but one person’s
use reduces that of others'. Over-use of these resources is sometimes
dramatically referred to as, "Tragedy of the Commons". This tragedy
refers to the common grazing rights in medieval England, in which:
- all families could graze sheep on the common land
which was collectively owned and;
- as population and number of sheep increased,
common land became over-grazed.
People did not reduce
their use, because social and private incentives differed. Each individual’s
best move is to get as much of the resource as possible before it is gone. The
social optimum is to restrict use. The problem is that each individual creates
a negative externality by reducing the amount available to others. A few possible
solutions were:
1.
Custom or regulations could put a
maximum on how much each family could use the resource;
2.
They could have internalized the
externality by auctioning off rights to graze and;
3.
They could have created private property
rights.
Property Rights
Economists realize
that property rights are very important for the efficient use of resources. When an
individual owns and controls the resource, they have an incentive to increase
its value. When everyone owns a resource, or rather, no one owns the resource,
there is no one to charge for use, or who can attach a price. An example of
such is the air that we breathe.
For some goods, we can
establish property rights, like the pollution permit. For other goods, like
national defense or clean air, the government can improve the outcome by
regulating or providing the product.
(Basic Business Economics
- aspropendo.org)
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