1. The Scope and Method of Economics

Economics is the study of how individual and societies choose to use the scarce resources that nature and previous generations have passed to them. In a large measure, it is the behavioral science studying individual choices and more broadly societal choices added up from them. Either you are planning the upcoming holiday against limited time or slicing a gigantic watermelon with several of your siblings, you are doing economics.

1.1. Scope of Economics

You are probably surprised that this brimming page is just a very rough introduction to economics, narrating only on some of the most fundamental terms. Yes, economics has deep roots and close ties in most society problems and global affairs, it also has come a long way with social philosophy, thus bringing about the breadth and depth of this discipline. Anyway, let's first take a brief look at the two major divisions of economics: microeconomics and macroeconomics.

1.1.1. Microeconomics

Microeconomics studies behaviors of individual decision makers such as you in a particular market such as that for refrigerator, and their interrelationships. Microeconomics examines the factors that influence individual economic choices and how the choices of various decision makers are coordinated by markets. To illustrate, microeconomics explains how price and quantity supplied for a certain product interact, determine each other and finally come to equilibrium.

1.1.2. Macroeconomics

Unlike microeconomics that studies particular markets, macroeconomics dedicates itself into the overall behavior and performance of an entire economy. What happens in an economy is the outcome of thousands of millions of individual decisions, and macroeconomics puts all the small pieces that are subjects of microeconomics together to focus on the big picture, as at a national or a global level.

1.2. Analytic Tools and Methods of Economics

1.2.1. A Key Assumption: Rational Self-Interest

A key assumption for economic analysis is that individuals, be it a person, a family or a firm, tend to make choices and select alternatives rationally, that they believe in their best interest. By rational, economists mean simply that people try to make the best choice they can, given the available information and resource. Uncertainty exists and people do not know what will turn out to be the most self-benefiting, so they simply select the alternatives that they expect to yield them the most satisfaction and happiness or the ones with the highest possibility to achieve it. In general, rational self-interest means that given a certain condition, individuals try to minimize the expected cost for a benefit or maximize the expected benefit with a cost.

1.2.2. Opportunity Cost

Opportunity cost is one of the most frequently used tools for modern economic analysis, deriving many important economic theories and models. It is also a powerful tool in analyzing individual decision-making process. Whoever you are, an individual, a company or a nation, you face opportunity cost when making decisions.

Nearly all decisions involve trade-offs. When we are choosing, we are also giving up. Every action and choice is associated with advantages and disadvantages, costs and gains. A key concept that recurs again and again in analyzing the decision-making process is the notion of opportunity cost. The full cost of making a specific choice is what we give up by not taking the alternative. That which we forgo, when making a choice or decision is called the opportunity cost of the decision. More precisely, opportunity cost is not all that we are not choosing added up, instead, it is the most valued one among all that we let go. Sometimes opportunity cost can be measured in terms of money, although money is usually not the only part of it.

Example of Opportunity Cost

What is the opportunity cost of attending college full time this year? What is the best alternative you give up to attend college? Suppose you have a job that guarantees $24,000 a year, by subtracting your summer part-time earning of $7,000 in college, you know you are giving up net earnings of $24,000 - $7,000 = $17,000 for attending college this year. In addition, you are paying $ 6,000 for tuition, various fees and books, which is unavailable for you (or your family) to spend elsewhere. Thus the opportunity cost of paying for tuition, fees and books is the value of the goods and services that could have purchased with the money. To sum up, by choosing to attend college full time this year, your opportunity cost in money would be a total of $17,000 + $6,000 = $23, 000. However, time spent on lessons may well be over and above that spent on going a routine job, leaving less time for you to go to parties or hanging out with family and friends. So you see, opportunity cost does not solely talk about money, in fact, it is usually bigger than those tangible things that we have forgone in the form of money.

Opportunity cost is subjective. Only the chooser can determine the most attractive alternative for itself from its special point of view. We each has a different list of things valued in decline from top to bottom due to our different aims of life and philosophy. Even for the same activity or good or service, different individuals take it with different opportunity cost.

Example of Subjectivity of OC

I started building this website bearing the hope that it would one day become popular so that I could benefit from the commercial value. I made the decision to do this because I believe the other activities I could otherwise be involved in will generate less or no value for me in future as opposed to writing this crash course. Bill Gates, on the contrary, with much more serious and far more profitable business to do, he would have never seen any good in doing this. The opportunity cost he would have to undertake by spending his precious time on this is so huge that it is almost impossible for it to happen to a rational economic man like him.

Nevertheless, the chooser seldom knows the actual value of the second best alternative forgone, since focusing on only the expectedly best alternative makes all other possible alternatives irrelevant. In light of this, you will never know the exact value of what you let go if you give up an evening of pizza and conversation with friends to work on a term paper.