There are some necessary evils in the world that we have to contend with and one of them is interacting with other people. For some people it’s easy, some companies have a real knack for it and build multinational organizations, and for most countries it’s not. What basic principles regulate this and how can we apply it in our daily lives in order to become better participants in our local, national, and global markets?
Welcome to section two, principle five, still following Dr. Mankiw’s book.
Principle 5: Trade Benefits All Involved
These days, people seem to be against trade and tend to take a realist perspective when analyzing it, especially when we talk about trade with other countries. However, if we look at it from a liberal perspective (which by the way liberal in the world economy and liberal in the US are completely different. Unless specifically expressed liberal refers to a global economic theory.) then everyone gains from trade. I will prove this mathematically later on and explain absolute and relative gains from trade, but I don’t want to bore you with graphs right now. For now think of it like this, whatever room you are sitting in right now has something to do with trade. Whether that trade is local, national, or global. You benefit from trade immensely, every single day for the mere fact that you do not have to go out and gather the material to make the products around you. If you had to do that, even if you saved money you would use time, and time equals money. Not only that, but since we all are competing with other households for the best price when we go to the grocery store that has a positive effect on product prices and helps to create an equilibrium we can all benefit from.
Principle 6: Markets Are A Good Way to Organize Economic Activity. (This is really close to how it’s said in the book, I’m not trying to plagiarize, there’s just not a whole lot of other ways to say it.)
Let’s look at the grocery store again. We are able to get good prices because households interact with the firm that is running the grocery store and this creates an equilibrium for the products bought and sold at that grocery store. This method creates an infinite number of markets by which to judge our economy. From small things like shoes and bags, to things that really impact our lives like wages. No matter where you go, you will interact with some market in the economy and you are a part of how that market reacts and changes according to the market. This links back to Adam Smith, who is considered one of the modern fathers of economics. He said that there is an “invisible hand” governing the market and that the effect of each person acting in their own self-interest is what keeps it in balance.
Now, in centrally planned economies where the government controls everything, these market economies do not exist, since everything is controlled by the government. Think back to principle five, if an outside force is hindering your trade ability, then your benefit from trade will lessen, because it will essentially be non-existent.
Principle 7: Governments Are Sometimes Useful In The Market Place
Unfortunately, the “invisible hand” is not omnipotent, so this is why we do need the government. the invisible hand only works if the government enforces rules and maintains institutions that are so important to a market economy. Dr. Mankiw says that, “Most important, market economies need institutions to enforce property rights so individuals can own and control scarce resources.” This makes sense since economics is about managing our scarce resources efficiently. If a producer of a good, any good, is scared that his ability to make that good is taken away, then what incentive (4th basic principle) is there to make that good and therefore help improve the market? By having property rights and the ability push new products into the government, we are able to better our economy. If the government is able to keep the institutions and policies in place that protect producers then it is helpful. It also protects consumers, so that for example, if somebody steals your things, then they can take responsibility by going to jail or doing community service.
I know we’re talking about micro right now, but here’s what I find really interesting: from a global perspective, there is no unifying governing body to make a country go into time out if it does something bad. There’s the UN, but that isn’t the UN’s primary job. So that means that the global market should be run by Adam Smith’s theory of the invisible hand, right? I can’t wait to study macro economics with you guys!
disclaimer: I’m not a professional economist (yet) nor do I mean to plagiarise any of the works cited.