A Student's Guide to Economics
By Paul Heyne
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About this ebook
Paul Heyne, one of the nation’s best-selling economists, provides an accessible overview of the discipline of economics. Economic knowledge, he contends, is not complete without reference to the totality of human society—a realization essential to a proper understanding of the fundamental principles of economics. The sweep of economic thinking is presented here with reference to the great economists and important schools of thought.
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A Student's Guide to Economics - Paul Heyne
INTRODUCTORY NOTE
WHAT IS ECONOMICS and what can you expect to learn from studying it? Those questions are harder to answer than you might suppose.
Dictionaries offer little help. The standard dictionary definition says that economics studies the production, distribution, and consumption of wealth, which is clearly not the case. Economics does not tell farmers how to produce wheat or instruct railroad managers on how to distribute it or advise consumers on the contribution whole wheat bread makes to an adequate diet. Economics studies only very limited aspects of the production, distribution, and consumption of wealth.
IN THE BEGINNING: ECONOMIC GROWTH AND RELATIVE PRICES
IF ECONOMICS BEGAN, as most (but not all) economists believe, with the publication in 1776 of Adam Smith’s Inquiry into the Nature and Causes of the Wealth of Nations, then economics originated as an attempt to answer the question, What causes economic growth? The volume of a nation’s annual production, Smith asserted, will depend primarily on the skill, dexterity, and judgment
with which people apply their labor to the natural resources available to them, and this in turn will depend primarily upon the extent to which they have carried the division of labor, or what we would call specialization. But specialization requires trade, so that when the division of labor has extended itself sufficiently throughout a society, everyone lives by exchanging. Everyone, Smith wrote, becomes in some measure a merchant,
and the society becomes a commercial society.
Smith set himself the task of explaining how productive activity is coordinated in a commercial society.
The way in which Smith went about constructing his explanation established a major part of the agenda for his successors up to the present day. He saw that the wealth-producing activities of a commercial society are coordinated through movements in the relative prices of goods, both outputs and inputs. And so he had to explain how these prices are determined. For two centuries, the theory of relative prices has continued to be the core of economics. What is economics and what will you learn from studying it? You will learn first of all a theory of relative prices: how they come to be what they are and what effects they have. If Adam Smith is in fact the founder of economic science, it is primarily because he first set out this basic agenda.
His questions were better than his answers, however. Smith’s theory of relative prices was fundamentally incomplete and inconsistent. He tried to explain the prices of goods by reference to their costs of production. But costs of production are themselves prices: the prices of labor, of natural resources and raw materials, and of previously produced goods that are used in the production process. The wages of a carpenter and the cost of lumber do indeed determine, at least in part, the price of a bookcase. But the prices people are willing to pay for bookcases and other goods that carpenters make out of wood also help determine the wage rates carpenters must be paid and the cost of purchasing lumber. Relative prices cannot be explained as a result of one-way causation, because everything depends on everything else. Smith had an inkling of this truth, as he showed in some of his attempts to explain the evolution of particular prices over time. But he was unable to incorporate the concept of mutual determination into his general theory of prices. For about the next one hundred years, neither were his successors.
SMITH, ADAM (1723-1790), was born in Kirkcaldy, Scotland. His mother was the daughter of a prominent landowner and his father, who died before Smith was born, was the comptroller of customs. Escaping a reputed attempt by gypsies to carry him away when he was four, Smith entered the University of Glasgow at age fourteen and later studied at Oxford. In 1751, Smith was appointed professor of logic at Glasgow, and a year later moved into the chair of moral philosophy. Opportunities afforded him by the success of his Theory of Moral Sentiments (1759) allowed him to retire early and concentrate on his second book, An