How to Understand Economics

Economics does not consist of vague theories that are disconnected from real life. Quite the contrary, the study of economics is rooted in the pursuit of rational explanations of human behavior and the way we interact with each other to maximize mutual economic gains.

Instructions

Learn to Observe Economics Around You

1. Look around you and observe human behavior, which is the basis of all economic decisions. For example, notice the inverse relationship between the price of a product and the quantity demanded when a store announces a sale.

2. Think your money doesn't go very far these days? That's right. When too much money chases too few goods, it results in inflation (your money buys fewer goods than it used to). Understand that inflation is always a monetary phenomenon, created when the central bank infuses excess money into the economy. Keep an eye on your investments so returns are not wiped out by inflation.

3. You're happy the government is building a new science center in your city. Have you ever questioned the spending alternatives for your tax money? In economics, these alternatives are quantified by what is known as opportunity cost. If the alternative yields higher returns on taxpayer money, then the opportunity cost of the science center is high and may not be viable.

Learn the Basics of Key Economic Principles

1. Understand that resources are limited. Human wants are unlimited. Human beings act in self-interest to maximize their utility (satisfaction) from a given set of resources, thereby entering into voluntary, mutually beneficial agreements with other individuals. Scarce resources are maximized through competition, and social interests are served by means of innovation and competitive prices.

2. Think about this key concept, the Law of Diminishing Returns. When a firm increases in equal quantities one variable factor of production (such as labor) and keeps other factors (like technology) constant, it eventually reaches a point where any additional unit of the variable factor will yield a diminishing rate of return.

3. Traveling abroad? Read up on the exchange rates of the countries you are planning to visit to get an idea of how much your dollars can buy in, say, India or Cambodia.

Learning to Interpret Economic Indicators

1. Understand economic indicators by reading online and print publications such as Liberty Fund, Inc.'s economics weblog, Barron's and The Wall Street Journal. Government departments periodically publish reports on key economic indicators, available to the public on specific websites. (See the Resources section for examples.)

2. Read up on gross domestic product (GDP), gross national debt as a percentage of GDP, unemployment and labor force participation rate, consumer price index, and inflation. These indicators tell us how the economy is doing, so we can plan our financial future for the near and long term.

3. Attend seminars on key economic issues that impact our lives. Seminars are held across the U.S. by the Foundation for Economic Education (http://www.fee.org); the Cato Institute (http://www.cato.org); and Ayn Rand Institute (http://www.aynrand.org). The Cato Institute offers online lectures as well.

Resources

• The Federal Reserve's Beige Book
• Bureau of Economic Analysis
• Liberty Fund, Inc. Economics weblog