Chapter 1

• The Economic Way of Thinking

John Stuart Mill (1806 – 1873), On Liberty

• “The worst offence of this kind which can be committed by a polemic, is to stigmatize those who hold the contrary opinion as bad and immoral men.”

Santa Claus

• Amazingly enough, millions of Americans still believe in Santa Claus.

• In fact, so many still believe in Santa Claus that mental health professionals even have a special name for them…

World View

•Weltanschauung n. - A comprehensive philosophy of the world or of human lifel

Santa Claus

• Democrats !

The Importance of Social Cooperation

• Thomas Hobbes (1588-1679)• Leviathan• “In such a condition there is no

place for industry, because the fruit thereof is uncertain; and consequently no culture on earth; no navigation, nor use of the commodities that may be imported by sea; no commodious building;

Leviathan cont.

• …no instruments of moving and removing such things as require much force; no knowledge of the face of the earth; no account of time; no arts; no letters; no society; and , which is worst of all, continual fear, and danger of violent death; and the life of man, solitary, poor, nasty, brutish, and short.”

Leviathan cont.

Hobbes supported the notion of a strong government, the king!

Adam Smith

• Adam Smith (1723-1790)– 1776– An Inquiry into the Nature and

Causes of the Wealth of Nations

Adam Smith cont.

Division of Labor, that is Specialization

Adam Smith cont.

Specialization requires exchange“He supplies the far greater part of them by exchanging that surplus part of the produce of his own labor, which is over and above his own consumption…”

An Apparatus of the Mind

• John Maynard Keynes (1883 – 1946)

• The Theory of Economics does not furnish a body of settled conclusions immediately applicable to policy. Cont…

An Apparatus of the Mind Cont.

• It is a method rather than a doctrine, an apparatus of the mind, a technique of thinking which helps its possessor to draw correct conclusions.

A Fundamental Assumption

• All social phenomena emerge from the actions and interactions of individuals who are choosing in response to expected benefits and expected costs to themselves.

Economics

• Economic theory attempts to explain the workings of society on the assumption that all participants want to advance their own interests and try to do so in a rational way.

Economics

• The marginal costs/marginal revenue rule is merely a formal expression of these assumptions

Economics

• Note: In a society where people did not value rationality, but celebrated instead the rule of caprice, accident, and purposeless action, economic theory would have almost no predictive power.

Hayek -Spontaneous Order

• At a time when intellectuals across world associated progress with planning, Hayek posited a spontaneous order emerging from the bottom up, …….

Spontaneous Order Cont

• as people, make their own arrangements and develop institutions accordingly… This was too messy for most intellectuals, who preferred the crisp rationality of, say, a five-year plan.

Spontaneous Order Cont

• as people, make their own arrangements and develop institutions accordingly… This was too messy for most intellectuals, who preferred the crisp rationality of, say, a five-year plan.

Spontaneous Order Cont

• messiness was the price of freedom, just as force was the inevitable conclusion of socialism.

Scarcity

• The core problem for economic actions is scarcity.

Individual Projects

• The core problem for economic interactions is a multiplicity of diverse and even incommensurable individual projects.

Social Cooperation

• Social Cooperation is a process of continuing mutual adjustment to the changing net advantages that their interactions generate.

• Individuals choose their actions on the basis of the net advantages they expect.

Commercial Societies

• What is unique about commercial societies is that in these societies people change their behavior largely in response to monetary incentives.

Money

• Money – generalized command over resources.

Bias

• The economic way of thinking is a biased perspective

• Biased in favor of markets• Why?

Bias

• Markets facilitate positive-sum games

• (as opposed to zero- or negative-sum games)

Choice

• Emphasis on Choice

Choice

• Economic theory attempts to explain the social world by assuming that events are the product of people’s choices

Emphasis on the Individual

• Only individuals actually choose

• Individuals choose subject to…

Rules of the Game

• An institutional framework– Laws, conventions, mores, religious

constraints, that is, rules of the game

• Property Rights– well defined– enforced