The Rolling Stones may have said it in the most entertaining way in the late 1960’s, but economists have been saying it for centuries, “you can’t always get what you want”
Economics is a ‘social science’ because it is the study of human behaviour, specifically, human behaviour in the pursuit of the satisfaction of our material needs and wants in opposition to our limited resources. It is therefore the science, or study, of choice.
The pillars of modern mainstream economics include the concepts of scarcity, opportunity cost, self-interest, market dynamics and market failure – all of which are relevant to an understanding of the reasons to invest.
The basic problem we all face, is having limited resources in the face of our unlimited needs and wants i.e. scarcity
This applies to us collectively as a race, as a nation and as individuals.
While Australia is a rich, naturally endowed nation, our resources are finite. To be useful, resources need to be known and accessible. Only then can they be considered as one of the four factors of production – land, labour, capital and enterprise.
For example, Australia has an abundance of land but most of it is arid desert.
The cost of development and infrastructure provision to make a desert inhabitable would be prohibitive.
Today we live in a specialized, highly interdependent society. It’s not up to each of us to go out and plant our own wheat fields, harvest it and turn it into bread!
Rather, we each focus on a range of skills, earn an income and buy bread from the baker.
In a specialised economy we rely on markets – the coming together of buyers and sellers, for all sorts of goods and services in our daily lives.
In a predominately free enterprise economy like Australia, largely driven by self-interest, demand and supply interact to stimulate the production of goods and services and establish prices to ration those goods and services.
Typically, your income is the resource you have at your disposal to satisfy your wants and needs in the marketplace.
Income is the return to the factors of production. There are four types of income:
- Land (refers to all natural endowments) – rent (economic rent, not paid by tenants, but the technical term!)
- Labour (human capital in the production process, both physical and mental) – wages & salaries
- Capital – (the physical means of production, financed through savings) – interest & dividends
- Enterprise – (the organizational and risk-taking efforts to combine the factors) – profit
Most of us will earn an income in return for labour, either physical or mental, but we also have the opportunity to earn income in other ways too.
Once you have earned your income, there are only 3 things you can do with it, you can spend it, you can save it and of course, pay taxes with it.
INCOME can be used for CONSUMPTION, SAVING and paying TAXES
Y (income) = C + S + T
There are no other alternatives!
Most people have the tax taken out automatically before they get to make any choices about consuming or saving. What you are left with is disposable income.
Disposable Income = Gross Income – Taxation
Our dilemma forces us to make choices. As rational human beings it’s assumed that we all try to allocate our scarce resources to our competing needs and wants to maximise our satisfaction. We are all economists!
In the next section we will examine how we make those choices. How do we weigh up the pros and cons to get the best combination of goods and services we can? How do we maximise our satisfaction?
How do we as individuals and as a nation achieve the goal of allocative efficiency?