Economics is an indispensable part of the human civilization that affects the choices made at individual and state levels. The following report deals with the current economic theory and principles affecting the daily lives of individuals and conditions in a state.
What is economy:
Economics is a science which studies production, distribution, and consumption of services and goods. This study of how and why people make choices is analyzed at two levels. Microeconomics, where individual or business level economics is studied, that how these entities behave in the milieu of scarcity and under government interventions, and what factors control the supply and demand of goods and services. In contrast, Macroeconomics deal with the structure and functioning of a whole economic setup, such as at state level where concepts like inflation, unemployment, international trade, and national production and consumption are studied. Thus economist works like a scientist by developing models and making assumptions about economic activities and formulate policies for the economic development of a country (Mankiw, 2016).
On what principles a society Allocates its limited resources:
Resource in an economy are scarce, which must be utilized to maximize the output for the benefit of the society. Thus people use tradeoffs between alternatives to obtain certain goods and services, which vary with the abilities, desires, and efforts made by them. This is reflected at macro scale when a country allocates its budget for defense, and infrastructure and human development, the more is allocated for one sector cuts the share of other. A similar tradeoff is made between the efficiency of economic activity and equality in the society, which is decided at the policy level to incentivize one group at the expense of other’s efforts (Rajewski, 2016).
The flow of Good and Money in an economy:
Money in an economy follows a circular path. In an economy, consisting of firms and households, money from firms finds its way to the household when the firm pays workers in the form of wages. This money is spent by the household members to buy goods and services offered by the firms. The governments on the other hand levy taxes on these exchanges between firms and households and provides certain benefits to everyone.
Economy coordinates independent economic actors in a society:
Households, firms, governments, and individuals act independently and their actions are coordinated by the economy through markets. Households supply labor, capital, and resources to the market and create demand for goods and services which are in return satiated by the firms. The economy provides a platform for the coordination between the households and individuals through market power, that determines prices and supply of the goods and services depending on the demand. How the economy coordinates independent economic actors in a society are determined by the gross domestic product of that country.
Gross Domestic Product:
The gross domestic product commonly known as GDP is described as “the market value of all the final services and goods produced in a given country during a specific time period.” GDP gives a holistic picture of the overall performance of a country’s economy by measuring the total income earned by everyone in that country and total expenses on the production of goods and services in the economy. GDP measure all the money, goods, and services that find their way into the market where exchange takes place. Thus it excludes all the things and services manufactured or generated in a household and never made their way to the market, illegal goods an services, and purchase of goods and services in foreign countries (Rajewski, 2016). Following simple formula is used to calculate GDP of a given country:
GDP = private consumption +gross investment+govt investment+govt spending+(export- imports).
Consumer Price Index:
Price of goods and services never remain stagnant various factors and market forces bring about changes in the prices. The gain in prices also termed as inflation leads to various socio-economic problems which governments tend to control. To identify the inflation/deflation trends in the economy and their effects on people consumer price index (CPI) is used. It evaluates mean level of prices of good and services expended by a city-dwelling family, where price level is mean price level obtained from a price index. CPI, in addition to indicating the inflation trend, also serves as a key to determine the effectiveness of economic policies of the government. It informs the governments, individuals, and business about the general price trends in economy and assists in informed decision making regarding the economy. It is a statistical tool to measure the weighted mean of values in monetary terms of a basket of consumer merchandise and services such as housing, education, apparel, medical care, transport, food items etc (Investopedia, 2015).
CPI is constructed in three stages that constitute selecting the CPI basket, the conductance of a month based price survey, and utilizing the price and the basket to evaluate the CPI. This may lead to biased CPI calculations due to inherent shortcomings in the method. New good, not accounted for in the base year, which may be expensive or cheaper than the goods they replace, substitution of goods and outlets on behalf of the consumers, leading to understating or overstating the actual figures.
From above discussion, it is concluded that people face tradeoffs in making economic decisions, which are determined various factors. The economy interconnects various actors via market and trade activities that benefit all, which with the help of proper government intervention lead to healthy competition and efficient utilization of limited resources. Thus overall, the wellbeing of a country depends on its ability to produce goods and services and balancing various developmental and non-developmental needs of the nation.
Investopedia. (2015, April). Consumer Price Index – CPI. Retrieved March 28, 2018, from Investopedia: https://www.investopedia.com/terms/c/consumerpriceindex.asp
Mankiw, N. G. (2016). The Macroeconomist as Scientist and Engineer. Journal of Economic Perspectives, 20(4), 29-46.
Rajewski, Z. (2016). Gross Domestic Product. Eastern European Economics, 32(4), 71-80.