Common Sense Economics

Contents

1 Chapter Summaries o 1.1 Part I: The Key Elements of Economics o 1.2 Part II: Seven Major Sources of Economic Progress o 1.3 Part III: Economic Progress and the Role of Government o 1.4 Part IV: Twelve Key Elements of Practical Personal Finance

Part I: The Key Elements of Economics

1. Incentive matter. 1. People care about personal costs and benefits. 2. Applies to economical, political and social situations, selfish and altruistic acts. 2. There is no such thing as a free lunch. 1. Everything has a cost, direct or opportunity cost. 3. Decisions are made at the margin. 1. The cost and benefit of one-more. 4. Trade promotes economic progress. 1. Trade moves goods from people who value them less to people who value them more. 2. Trace makes larger outputs and consumption levels possible because it allows each of us to specialize more fully in the things that we do best. 3. Voluntary exchange makes it possible for firms to achieve lower per-unit costs by adopting mass production methods. 5. Transaction costs are an obstacle to trade. 1. Not all middlemen are obstacles; sometimes they reduce transaction costs by brokering deals. 6. Profits direct businesses toward activities that increase wealth. 7. People earn income by helping others. 8. Economic progress comes primarily through trade, investment, better ways of doing things, and sound economic institutions. 1. Investments in productive assets (e.g. tools and machines) and in the skills of workers enhance our ability to product goods and services. 2. Improvements in technology spur economic progress. 3. Improvements in economic organization can promote growth. 9. The invisible hand of market prices directs buyers and sellers toward activities that promote the general welfare. 10. Too often long-term consequences, or the secondary effects, of an action are ignored.

Part II: Seven Major Sources of Economic Progress

1. Legal system: The foundation for economic progress is a legal system that protects privately owned property and enforces contracts in an even-handed manner. 1. Private ownership encourages wise stewardship. 2. Private ownership encourages eople to use their property productively. 3. Private owners have a strong incentive to develop things that they own in ways that are beneficial to others. 4. Private ownership promotes the wise development and conservation of resources for the future. 2. Competitive markets: Competition promotes the efficient use of resources and provides a continuous stimulus for innovative improvements. 1. Competition places pressure on producers to operate efficiently and cater to the preferences of consumers. 2. Competition gives firms a strong incentive to develop better products and discover lower-cost methods of production. 3. Competition also discovers the business structure and size of firms that can best keep the per-unit cost of a product or service low. 3. Limits on government regulation: Regulatory policies that reduce trade also retard economic progress. 1. Many countries impose regulations that limit entry into various businesses and occupations. 2. Regulations that substitute political authority for the rule of law and freedom of contract will tend to undermine gains from trade. 3. The imposition of price controls will also stifle trade. 4. An efficient capital market: To realize its potential, a nation must have a mechanism that channels capital into wealth-creating projects. 5. Monetary stability: Inflationary monetary policies distort price signals, undermining a market economy. 6. Low tax rates: People will produce more when they are permitted to keep more of what they earn. 1. High tax rates discourage work effort and reduce the productivity of labor. 2. High tax rates will reduce both the level and efficiency of capital formation. 3. High marginal tax rates encourage individuals to consume tax-deductible goods in place of nondeductible goods, even though the nondeductible goods may be more desirable. 7. Free trade: A nation progresses by selling goods and services that it can produce at a relatively low cost and buying those that would be costly to produce. 1. The people of each nation benefit if they can acquire a product or service through trade more cheaply than they can produce it domestically. 2. International trade allows domestic producers and consumers to benefit from the economies of scale typical of any large operations. 3. International trade promotes competition in domestic markets and allows consumers to purchase a wider variety of goods at lower prices.

Part III: Economic Progress and the Role of Government

1. Government promotes economic progress by protecting the rights of individuals and supplying goods that cannot be provided through markets. 2. Government is not a corrective device. 3. The costs of government are not only taxes. 1. There is the loss ofprivate-sector output that could have been produced with the resources that are now employed producing the goods supplied by the government. 2. There is the cost of resources expended in the collection of taxes and the enforcement of government mandates. 3. There is the cost of price distortions resulting from taxes and borrowing. 4. Unless restrained by constitutional rules, special interest groups will use the democratic political process to fleece taxpayers and consumers. 5. Unless restrained by constitutional rules, legislators will run budget deficits and spend excessively. 6. Government slows economic progress when it becomes heavily involved in trying to help some people at the expense of others. 7. The costs of government income transfers are far greater than the net gain to the intended beneficiaries. 1. An increase in government transfers will reduce the incentive of both the taxpayer-donor and the transfer recipient to earn income. Economic growth will thereby be retarded. 2. Competition for transfers will erode most of the long-term gain of the intended beneficiaries. 3. Programs that protect potential recipients against adversity arising from their imprudent decisions encourage them to make choices that increase the likelihood of the adversity. 8. Central planning replaces markets with politics, which wastes resources and retards economic progress. 1. Central planning merely substitutes politics for market verdicts. 2. The incentive of government-operated firms to keep costs low, be innovative, and efficiently supply goods is weak. 3. There is every reason to believe that investors risking their own money will make better investment choices than central planners spending the money of taxpayers. 4. There is no way that central planners can acquire enough information to create, maintain, and constantly update a plan that makes sense. 9. Competition is just as important in government as in markets. 10. Constitutional rules that bring the political process and sound economics into harmony will promote economic progress.

Part IV: Twelve Key Elements of Practical Personal Finance

1. Discover your comparative advantage. 2. Be entrepreneurial. In a market economy, people get ahead by helping others and Discovering better ways of doing things. 3. Providing others with goods and services that are highly valued compared to their cost is the key to financial success. 4. Spend less than you earn. Begin a regular savings program now. 5. Dont finance anything for longer than its useful life. 6. Two ways to get more out of our money: Avoid credit-card debt and consider purchasing used items. 7. Begin paying into a real-world savings account every month. 8. Put the power of compound interest to work for you. 9. Diversifydont put all of your eggs in one basket. 10. Indexed equity funds can help you beat the experts without taking excessive risk. 11. Invest in stocks for long-run objectives; as the need for money approaches, increase the proportion of bonds. 12. Beware of investment schemes promising high returns with little or no risk. 13. Teach your children how to earn money and spend it wisely.