Key Principles of Economics

Topics: Economics, Opportunity cost, Marginal cost Pages: 5 (1463 words) Published: February 18, 2012
The study of economics is vital as it provides an understanding of how the world works. It is the study of how people choose to use resources to improve their well-being. According to Samuelson (1948) “Economics is the "study of how societies use scarce resources to produce valuable commodities and distribute them among different people.” This paper will outline the 10 key principles of economics. These principles are grouped into the three 3 categories of “How people make decision”, “How people interact” and “How the economy works as a whole and will be presented in that order.

The category “how people make decision” speaks about the principles people use to make decision. Under this category four (4) principles come in play. Principle 1, “People face Tradeoffs.” This principle states, “There is no such thing as a free lunch.” there are always trade-offs to get more of something we like; we have to give up something else that we like. For example, if you spend money on dinner and a movie, you won't be able to spend it on new clothes. Societies face a tradeoff between more consumer goods (low taxes) and more public goods (defense, social programs) (Transtutors, n.d). There is sometimes a tradeoff between the environment and jobs. Government also faces trade off between efficiency and equity. Efficiency is the property of society getting the most it can from its scarce resources. Equity on the other hand is the property of distributing economic prosperity fairly among the members of society. For example, tax dollars paid by wealthy and then distributed to those less fortunate may improve equity but lower the return to hard work and therefore reduce the level of output produced by our resources. This implies that the cost of this increased equity is a reduction in the efficient use of our resources. It is therefore best to recognize that tradeoff exists, as it helps one decide which decision to make.

Since people faces tradeoff, people should make decision and compare the benefit of all options that they have. Principle 2, states, “The Cost of Something is What You Give Up to Get It.” This is called the “opportunity cost” of an item or action. The opportunity cost of an item is what you give up to get that item. It is the true cost of the item. When attending college, the student should be aware of the opportunity costs that accompany each possible action. One example of this principle is college attendance decision. The benefit is intellectual enrichment and a lifetime of better jobs opportunities.

Rational people systematically do the best they can to achieve their objectives. Principle 3, states, “Rational People Think at the Margin,” meaning a rational decision-maker takes action if and only if the marginal benefit of the action exceeds the marginal cost (Transtutors, n.d). For example, you should only attend school for another year if the benefits from that year of schooling exceed the cost of attending that year.

As outline in Principle 3, rational people weigh marginal costs and marginal benefits of activities, and as a result they will respond when these costs or benefits change. Principle 4 states, “People respond to incentives.” An incentive is something that induces a person to act. One obvious source of incentives is the price of goods and services. If gas becomes more expensive, people adjust their behavior. In the same way, the primary reason both the government and private sector take various actions is for the motive of making a profit. As the cost and benefits changes so will their behavior change as a means to be successful. (Mankiw n.d.)

Our second category “How the economy works on a whole?” comprises of the fifth, sixth and seventh principle. Principle 5 states “Trade Can Make Everyone Better Off.” Trade allows each trader to specialize in what he or she does best, whether it is farming, construction, or manufacturing, and trade their output for the output of other efficient producers. This is...

Cited: Mankiw, N. G. (n.d.). Pricple of Economics. Retrieved Feburary 9, 2012, from National and Kapodistrian University of Athens:
Samuelson, A. P. (1948). Economics. New York: McGraw-Hill.
Slembeck, T. (2006, Octobeer 1). Principles of Econmics. Retrieved Febraury 9, 2012, from
Transtutors (n.d). Principles of Economics. Retrieved February 9, 2012, from economics/principles/
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