THE ANNUAL MEETING OF THE American Economic Association draws thousands of economists, young and old, famous and obscure. There are booksellers, business meetings, and quite a few job interviews. But mainly the economists gather to talk and listen. During the busiest times, 60 or more presentations may be taking place simultaneously, on questions that range from financial market crises to who does the cooking in two-earner families.
What do these people have in common? An expert on financial markets probably knows very little about the economics of housework, and vice versa. Yet an economist who wanders into the wrong seminar and ends up listening to presentations on some unfamiliar topic is nonetheless likely to hear much that is familiar. The reason is that all economic analysis is based on a set of common principles that apply to many different issues.
Some of these principles involve individual choice—for economics is, first of all, about the choices that individuals make. Do you save your money and take the bus or do you buy a car? Do you keep your old smartphone or upgrade to a new one? These decisions involve making a choice from among a limited number of alternatives—limited because no one can have everything that he or she wants. Every question in economics at its most basic level involves individuals making choices.
But to understand how an economy works, you need to understand more than how individuals make choices. None of us are Robinson Crusoe, alone on an island. We must make decisions in an environment that is shaped by the decisions of others.
Indeed, in a modern economy even the simplest decisions you make—say, what to have for breakfast—are shaped by the decisions of thousands of other people, from the banana grower in Costa Rica who decided to grow the fruit you eat to the farmer in Iowa who provided the corn in your cornflakes.
Because each of us in a market economy depends on so many others—and they, in turn, depend on us—our choices interact. So although all economics at a basic level is about individual choice, in order to understand how market economies behave we must also understand economic interaction—how my choices affect your choices, and vice versa.
Many important economic interactions can be understood by looking at the markets for individual goods, like the market for corn. But an economy as a whole has ups and downs, and we therefore need to understand economy-wide interactions as well as the more limited interactions that occur in individual markets.
In this chapter, we will look at twelve basic principles of economics—four principles involving individual choice, five involving the way individual choices interact, and three more involving economy-wide interactions.