Why do we need to understand economics?
"The test of our progress is not whether we add more to the abundance of those who have too much; it is whether we provide enough for those who have too little… I see one-third of a nation ill-housed, ill-clothed, ill-nourished."
FRANKLIN D. ROOSEVELT
USA President
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The purpose of understanding economics is so we are able feed ourself and others. It is that simple. We need to understand how we can use limited resources to live well. Most economists' jobs are really about that, they measure, predict and evaluate what is happening around us everyday. They use economic modelling to frame their ideas so that they can understand events from different perspectives but most of the time they are looking at how we can improve our world.
We live in a capitalist society. Most political historians, economists and social commentators would agree this usually means that we can own property, this is the most distinguishing feature from socialism and capitalism as well as economic models used in China such as the command economy. It is more than owning property though, it also means we have some freedoms and leave the market to decide some of the big questions on distribution. The market can decide on price, availability, quality or other aspects that are personally or socially motivated. Sometimes you don't always buy something because it is the least expensive item, sometimes it is an irrational choice, something you just have to have!
Beyond our own society in our own time, capitalism has made some pretty amazing changes to people's lives. Watch what Hans Roslings has to say in "200 countries, 200 years" and watch the countries that emerge from being 'poor and sick'. What do you think they have in common?
Beyond our own society in our own time, capitalism has made some pretty amazing changes to people's lives. Watch what Hans Roslings has to say in "200 countries, 200 years" and watch the countries that emerge from being 'poor and sick'. What do you think they have in common?
What has created this new era?
This can best be summed up in the concept of economic growth.
Countries measure their yearly production of everything in their Gross Domestic Product. To calculate economic growth, economists work out how much GDP has grown or shrunk from year to year. A useful measure is when GDP is divided by the number of people in a country or the GDP per capita. |
Capitalism and inequality
The CORE team have written an open source economics textbook which outlines some of the important aspects of economics, including how we measure prosperity and the links between capitalism and inequality. Click on the image here to go to CORE.
Reading through the book you will find out about Adam Smith, the father of capitalism. His book, "Wealth of Nations" was published in 1776 and remains a blueprint for capitalism. Smith came up with the idea of self-interest and how this motivates people. He also wrote about how we often do things for other people, just for the sake of it. Read the following excerpt from CORE about Smith. What would you say to him if you met him? |
Adam Smith
Adam Smith (1723–1790) is considered by many to be the founder of modern economics. Raised by a widowed mother in Scotland, he went on to study philosophy at the University of Glasgow and later at Oxford, where he wrote: ‘the greater part of the … professors have … given up altogether even the pretence of teaching.’He travelled throughout Europe, visiting Toulouse, France where he claimed to have ‘very little to do’ and thus began ‘to write a book in order to pass away the time.’ This was to become the most famous book in economics.
In An Inquiry into the Nature and Causes of the Wealth of Nations, published in 1776, Smith asked: how can society coordinate the independent activities of large numbers of economic actors—producers, transporters, sellers, consumers—often unknown to each other and widely scattered across the world? His radical claim was that coordination among all of these actors might spontaneously arise, without any person or institution consciously attempting to create or maintain it. This challenged previous notions of political and economic organization, in which rulers imposed order on their subjects.
Even more radical was his idea that this could take place as a result of individuals pursuing their self-interest: ‘It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest,’ he wrote.
Elsewhere in the Wealth of Nations, Smith introduced one of the most enduring metaphors in the history of economics, that of the invisible hand. The businessman, he wrote: ‘intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.’
Among Smith’s insights is the idea that a significant source of prosperity is the division of labour or specialization, and that this in turn is constrained by the ‘extent of the market.’ Smith illustrated this idea in a famous passage on the pin factory by observing that ten men, each fully specialized in one or two of 18 distinct operations, could produce close to 50,000 pins a day. But ‘if they had all wrought [pins] separately and independently … they certainly could not each of them have made twenty, perhaps not one pin in a day.’
But such an enormous number of pins could only find buyers if they were sold far from their point of production. Hence specialization was fostered by the construction of navigable canals and the expansion of foreign trade. And the resulting prosperity itself expanded the ‘extent of the market’, in a virtuous cycle of economic expansion.
Smith did not think that people were guided entirely by self-interest. Seventeen years before The Wealth of Nations, he had published a book about ethical behaviour called The Theory of Moral Sentiments.6
Smith, Adam. 1759. The Theory of Moral Sentiments. London: Printed for A. Millar, and A. Kincaid and J. Bell.
In An Inquiry into the Nature and Causes of the Wealth of Nations, published in 1776, Smith asked: how can society coordinate the independent activities of large numbers of economic actors—producers, transporters, sellers, consumers—often unknown to each other and widely scattered across the world? His radical claim was that coordination among all of these actors might spontaneously arise, without any person or institution consciously attempting to create or maintain it. This challenged previous notions of political and economic organization, in which rulers imposed order on their subjects.
Even more radical was his idea that this could take place as a result of individuals pursuing their self-interest: ‘It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest,’ he wrote.
Elsewhere in the Wealth of Nations, Smith introduced one of the most enduring metaphors in the history of economics, that of the invisible hand. The businessman, he wrote: ‘intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.’
Among Smith’s insights is the idea that a significant source of prosperity is the division of labour or specialization, and that this in turn is constrained by the ‘extent of the market.’ Smith illustrated this idea in a famous passage on the pin factory by observing that ten men, each fully specialized in one or two of 18 distinct operations, could produce close to 50,000 pins a day. But ‘if they had all wrought [pins] separately and independently … they certainly could not each of them have made twenty, perhaps not one pin in a day.’
But such an enormous number of pins could only find buyers if they were sold far from their point of production. Hence specialization was fostered by the construction of navigable canals and the expansion of foreign trade. And the resulting prosperity itself expanded the ‘extent of the market’, in a virtuous cycle of economic expansion.
Smith did not think that people were guided entirely by self-interest. Seventeen years before The Wealth of Nations, he had published a book about ethical behaviour called The Theory of Moral Sentiments.6
Smith, Adam. 1759. The Theory of Moral Sentiments. London: Printed for A. Millar, and A. Kincaid and J. Bell.
He also understood that the market system had some failings, especially if sellers banded together so as to avoid competing with each other. ‘People in the same trade seldom meet together,’ he wrote, ‘even for merriment and diversion, but the conversation ends in a conspiracy against the public; or in some contrivance to raise prices.’
He specifically targeted monopolies that were protected by governments, such as the British East India Company that not only controlled trade between India and Britain, but also administered much of the British colony there. He agreed with his contemporaries that a government should protect its nation from external enemies, and ensure justice through the police and the court system. He also advocated government investment in education, and in public works such as bridges, roads, and canals. Smith is often associated with the idea that prosperity arises from the pursuit of self-interest under free market conditions. However, his thinking on these issues was far more nuanced than he is given credit for. |
A new model for capitalism
Doughnut Economics is a new way to understand economics. Watch Kate Raworth's TEd talk to find out why we need new models and what they could look like.