4 Economic Principles to Help You Make Better Decisions This Year

When I first started learning economics my first class was principles of macroeconomics, that was the class that made me love it. The class that made me question my sanity was principles of microeconomics. So, of course, we’re going to start off by studying microeconomics. Because, even though that class was a real pain in the butt to learn, the lessons in it can be more easily applied to everyday life. That is why today I’m going to go over the first group from the 10 principles of economics from Dr. N. Gregory Mankiw’s Principles of Microeconomics 7th edition. This is the book that I’ll be using for explaining microeconomics on this blog.

Dr. Mankiw breaks the 10 principles up into three sections

  1. How people make decisions
  2. How people interact
  3. How the economy works as a whole

Principles one through four fall under, how people make decisions.

Principle 1: Trade-offs

Simple enough right? I feel like we’ve all been told since before we could walk that, “You can’t have something for nothing.” “To get something, you’ve got to give up something.” It’s the same when understanding economics. In fact, its principles like this that made me want to study economics. There is a political application to economics, which is what everyone focuses on, but beyond, and around, and surrounding all of that are people and the small decisions they make everyday. In fact, you’ll see here at the new year that millions of people are making resolutions. That’s part of economics. Because right now, we’re all thinking that the trade-off is not that bad, if you go on a diet, or save money, gain or give up a habit. A lot of us feel like the trade off is not that bad right now. Wait, there’s a better way to phrase this:

Principle 2: Opportunity Cost

Everyone faces trade offs when they want something, but opportunity cost does not refer to say, the amount of money that you’re going to spend on food for your new diet. Rather, opportunity cost refers to the food that you’re going to give up. Opportunity cost is whatever you give up to get something else. For example, this year I will be writing something on my blog every single day (Lucky you!). My opportunity cost when I do that will probably be my naps (I must love you guys if I’m going to give up naps <3). In our own lives, we really only appreciate the opportunity cost when we think about big-ticket items, like a computer or vacation. But I want to help you think about it all the time, because in my opinion, if you’re more aware then you’re more prepared to make better choices.

Principle 3: Marginal Thinking

Economists assume people are rational. Dr. Mankiw defines rational people as “People who systematically and purposefully do the best they can to achieve their objectives.” Let me add to that and say that when thinking about economics, it makes more sense to me to include that rationality applies to actions and not necessarily beliefs. So most rational people make decisions at the margin. This means that most people are not an all or nothing type person. If we make decisions at the margin, then we make small incremental changes either way, that effect our total outcome. Unless it’s the holidays or an election year, then I think there’s no such thing as marginal thinking.

Principle 4: Incentives

Let’s work down our list here with an example. It’s New Year’s Day. I have set a resolution to write a blog post every single day this year. My trade-off is naps (among other things) and time studying, or making money. My opportunity cost is what I’m going to give up to blog. I think this may depend on the day for me, but let’s make it simple and generalize it down that my opportunity cost is my time. But if I’m a rational person (I hope so, but no promises) and I think at the margin then, my decision to blog everyday won’t be an all or nothing. It won’t take up all of my time, and my goal is also to not give up on it completely, so I’ll make sure to set aside a few hours a day, because I know that it will give a marginal benefit. What incentive do I have to blog? I think there’s a couple of reasons. One is, I want to teach people about economics in a way that is fun and positive and not on television. I want to see more people thinking for themselves and realizing that economics is not just for Washington or TV to prescribe. The second reason is, I do want to know what it takes to make a blog profitable. What does that mean in our changing work environment? What does it mean economically?

I want to be in the middle of that.

So, Happy New Year everybody! I’ll see you tomorrow.

 

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