16 July 2007

Smoke and mirrors

Yoram Bauman, Ph.D., the stand-up economist, offers us some help with the principles of economics.
The cornerstone of Harvard professor N. Gregory Mankiw’s introductory economics textbook, Principles of Economics, is a synthesis of economic thought into Ten Principles of Economics ....
  1. People face tradeoffs.
  2. The cost of something is what you give up to get it.
  3. Rational people think at the margin.
  4. People respond to incentives.
  5. Trade can make everyone better off.
  6. Markets are usually a good way to organize economic activity.
  7. Governments can sometimes improve market outcomes.
  8. A country’s standard of living depends on its ability to produce goods and services.
  9. Prices rise when the government prints too much money.
  10. Society faces a short-run tradeoff between inflation and unemployment.
Yoram’s Translations
  1. Choices are bad.
  2. Choices are really bad.
  3. People are stupid.
  4. People aren’t that stupid.
  5. Trade can make everyone worse off.
  6. Governments are stupid.
  7. Governments aren’t that stupid.
  8. Blah blah blah.
  9. Blah blah blah.
  10. Blah blah blah.
To continue to deepen the reader’s understanding of why choices are bad—really bad—let’s return to our previous example, in which somebody offers you a choice between a Snickers bar and a package of M&Ms. Suppose, for the sake of argument, that you take the M&Ms. According to Mankiw, the cost of those M&Ms is the Snickers bar that you had to give up to get the M&Ms. Your gain from this situation—what economists call “economic profit”—is therefore the difference between the value you gain from getting the M&Ms (say, $.75) and the value you lose from giving up the Snickers bar (say, $.40). In other words, your economic profit is only $.35. Although you value the M&Ms at $.75, having the choice of the Snickers bar reduces your gain by $.40. Hence Principle #2: Choices are really bad.

Indeed, the more choices you have, the worse off you are. The worst situation of all would be somebody coming up to you and offering you a choice between two identical packages of M&Ms. Since choosing one package (which you value at $.75) means giving up the other package (which you also value at $.75), your economic profit is exactly zero! So being offered a choice between two identical packages of M&Ms is in fact equivalent to being offered nothing.

This vital work informing the public is available as a paper in the Annals of Improbable Research and as a video on YouTube.

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