Imagine that you find yourself on an island with a small number of other people. To make the math simple, lets put it at a hundred. The island is small, but it possesses enough natural resources to keep the current population healthy. Rivers flow with fresh, clean water. There are plenty of fish to catch in the surrounding sea, and the land produces an abundance of fruit. The climate is pleasant. This should be paradise.
But it isn’t. Some people seem determined to catch all of the fish, wasting what they cannot consume immediately. Others cut down the fruit trees, dump waste into the water, and use up as many resources as they possibly can with no thought for others or for their future selves. People, it appears, are greedy and lazy. And stupid. They want to eat. They want to enjoy all the island has to offer, but they want to share none of the good things the island has to offer with others and think nothing of the future.
What could possibly go wrong?
But wait, you say. This is not a realistic scenario. And of course it isn’t. Except for the part about people being selfish and lazy and occasionally stupid. But more than that, our imaginary island is a pretty good model for the world as a whole. We live on a planet rich in resources, but we do not do a great job of equitably sharing those resources. Nor do we consider the claims of future generations, or even of our future selves.
This is the problem of economics.
This is the question we try to answer in economics: Given that people can be selfish, lazy, and short-sighted, how do societies distribute things of value?
Notice that I did not ask about “fairness.” Some economic systems value fairness and attempt to distribute the basic necessities more or less equitably. Others are elitist and seek to ensure that a small number of elites enjoy all that they could desire while others—usually the majority—know only hunger an poverty.
The economic system in which we live—we might call it regulatory capitalism—tries to strike a balance between protecting private property on the one hand and ensuring that everyone has at least some access to the basic necessities of life. It has evolved over the last 800 years or so and makes a few assumptions that will be our focus for the first few weeks of class.
Economic Assumptions:
There is no such thing as a free lunch. If something is given to you for free, you can assume that someone else paid for it and offered it to you for a reason.
All things of value are scarce relative to demand. That is, things of value are valuable because demand for them is greater than the supply. Diamonds are more valuable than sand, not just because they are rare, but because people like diamonds and find them useful. Societies establish formal and informal rules to decide who is going to enjoy things of value and who will do without.
The most valuable commodity any of us possess is our time. It is, perhaps, the only thing of value we possess. We exchange our time for a paycheck. We exchange time in order to receive an education, for opportunities to do things we enjoy. We spend time cooking a nice meal that we can enjoy. Or, we pay someone else to prepare the meal, exchanging the value of our time for the value of the chef's time. When we invest time in gaining skills that are scarce and “in demand,” then our time becomes more valuable and we can expect to be paid more for it.
Money is not, in itself, a thing of value. Rather, money is a way of keeping track of value and exchanging one thing of value for another.