Thinking Like an Economist

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Thinking Like an Economist by Mind Map: Thinking Like an Economist

1. Economic methodology

1.1. Formulate theory

1.2. Gather data

1.3. Test theory against data

1.4. Revise if necessary

2. 6 Principles of Economics

2.1. Individuals act optimally

2.1.1. individuals & firms act in own self-interest

2.1.2. individuals act at the margin cost vs. benefit do I buy this item or that item?

2.1.3. caution: hard to know all variables involved in individual decisions

2.2. Competition works

2.2.1. Assumptions: all firms offer products at prices determined by the market there are markets for all products including pollution rights there are no market constricting government regulations

2.2.2. If assumptions true = market economy will produce social optimal allocation of goods & services

2.2.3. "invisible hand" optimizing behavior of all individuals creates an optimal economy.

2.3. Measurement matters

2.3.1. 3 primary variables: Gross domestic product market value of all final goods & services during year Unemployment rate % of people in labor force that are not employed Consumer price index measures changes in prices

2.3.2. 4 misconceptions: confusion over real vs. nominal values of different variables nominal includes inflation which can distort activity confusion of real vs. nominal interest rates Real rate = nominal rate - inflation rate confusion of deficits vs. debt deficit = government receipts - expenditures debt = cumulative value of past + current debt discounted present value the value of today and future dollars is determined by the interest rate must use discount present value to compare current to future alternatives

2.4. No free lunches

2.4.1. everything has a cost explicit direct payment for expenses implicit opportunity cost example: government spends $1 billion to start building a border wall implicit cost = $1 billion explicit cost = spending $1 billion on something else like healthcare

2.5. Government intervention with caution

2.5.1. government policy doesn't always work gov't intervention may make problem worse or have unintended consequences government can be used as a tool by those who benefit from the policy policies to be more aggressive against crime in order to keep prisons full

2.6. Correlation is not causality

2.6.1. just because 2 variables are correlated - doesn't mean one causes the other. correlated means the 2 variables have some type of similarity example a rooster crows at the same time the sun comes up