This section covers the following topics:

• Economic reasoning
• The Invisible Hand
• Trade and the production possibility curve
• Sectors of the economy
• The Role of Government

Section Summary

Classical economics assumes that individuals are rational and self-interested, while modern economics takes a more nuanced (and realistic) view. The price of a good is regulated by the Invisible Hand, which equalizes supply and demand.

The production possibility curve shows all of the goods that can be created with given resources. It also demonstrates the concept of opportunity cost, or the benefit of the next-best alternative that you forgo when making a decision. By trading with each other, countries can exceed the production possibility curve and consume more goods. Countries have comparative advantages (which can be inherent or transferable) in the production of certain goods, meaning the opportunity cost of producing those goods is lower.

The economy has three main sectors: households, businesses and government. The government has the duty of facilitating sustainable economic growth by enforcing property rights, regulating the economy, preventing negative side-effects and correcting for externalities.

Scarcity and Economics

In a nutshell, economics is the study of how the market allocates resources to satisfy people’s desires. The market acts as a “coordination” mechanism that answers three main questions:

• What (and how much) is produced?
• How is it produced?
• Who is it produced for?

Resource allocation is darn important because people’s desires are basically infinite…but our resources are limited (have you noticed?). People who own resources have to decide what to produce with them. The awesome thing about the market economy is that if everyone follows their own self-interest then the right goods will be produced in the right way and for the right people (generally). We’ll discuss this... Sign up to continue reading The Foundation of Economics >

• Supply and Demand >>