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ThreeFundamentalConceptsOfEconomics

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ThreeFundamentalConceptsOf
Economics
(OriginallyPublishedEarly1900's)
1.Humanwants.
Twocharacteristics
ofhumanwants
possessgreat
importanceintheir
bearinguponthe
productionand
consumptionof
wealth.
First,thereseems
tobenolimittothe
numberofwantsofwhichahumanbeingis
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capable.Thisisonereasonwhymost
peoplefindsavingsodifcultanygrowthof
incomeisspeedilyoutdistancedbythe
growthofwants.Thischaracteristicalsoex
plainswhyageneraloverproductionof
wealthisimpossibletheremaybetoomuch
ofonethingbutnottoomuchofallthings.It
alsoaccountsforthealmostinfinitevariety
ofgoodsfoundinthemarketsofanymodern
city.
Second,thecontinuedgratificationofany
singlewantfinallyleadstosatietyandmay
becomeeventediousandirksome.Itisa
wellknownfactofeverydaylifethatany
pleasurelosesitszestifindulgedintoolong.
2.Lawofdiminishingutility.Thefactthat
wegetlessandlesssatisfactionoutofthe
continuedgratificationofanysinglewantis
soimportantthatitislaiddownasa
fundamentalpropositionandisknownasthe
lawofdiminishingutility.Itmaybestatedas
follows:Theintensityofanyutility,orofa
man'sdesireforanygood,tendstodecline
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asheconsumessuccessiveunitsofit.
Thislawdoubtlesshasbothaphysiological
andapsychologicalbasis.Sportsweary
certainmusclesandfinallyceasetogive
pleasure.Thehungrymangetsgreat
satisfactionoutofthefirstfewminutesofhis
dinner,buthisenjoymentofthemealsoon
beginstodecline.Amanwhoisalreadythe
ownerofasilkhat,isnotprofuselygratefulif
afriendsendshimasecondsilkhatasa
Christmasgift,andifhegetsathirdonhis
nextbirthdayhewillprobablylookatit
gloomilyandwonderifhehassomefriendor
relativewhoseheaditwillfit,fortohimitis
onlyanuisance.
Thisprincipleofdiminishingutilityapplies
withvaryingforceinthecaseofdifferent
articlesanddifferentmen.Inthecaseofthe
silkhat,theutilitydeclinesveryrapidlyasthe
supplyisincreased.Inthecaseofshirtsthe
declinewillbemuchlessrapid.Totheman
whohasonlyoneshirtitwillpossessvery
greatutilityhewillprizeitmuchmorethan
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hewouldanyoneshirtifhehadtwelveinhis
bureaudrawer.Itmaybesaidthatuptoa
certainpointthereispossibleanincreasein
thesupplyofanycommodityinour
possessionwithoutanyappreciabledecline
initsutility.Wewantacertainnumberof
suitsofclothesandahousewithacertain
numberofrooms.Additionalclothingand
additionalspaceinourhousewouldbeonly
aburden,somethingtobecaredforbutnot
wanted.
Bread,potatoesandbeansarenourishing.
Potatoesandbeansinordinarytimesare
cheap.Ifthehumanracewouldbesatisfied
withsuchfood,thepopulationoftheearth
mightbedoubledandyetallbewellfedbut
wedemandvarietyinfoodandwouldprotest
vigorouslyifthesamerationswereplaced
beforeusdayafterday.
3.Thelawofdemandandsupply.Every
businessmanknowsthatthevalueorprice
ofanyarticledependsuponthedemandfor
andsupplyofit.Thelawofdemandand
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supplymaybebrieflystatedasfollows:The
priceorvalueofanyarticletendstovary
directlywiththedemandandinverselywith
thesupplyincreasingordecliningasthe
demandincreasesordeclines,buttendingto
riseasthesupplydeclinesandtofallasthe
supplyincreases.
Thereadermustnotthinkofthislawasa
completeexplanationofvalue.Itisnotinany
senseatheoryofvalue.Itmerelystatesin
generaltermsatruthwellknowntoallmen
familiarwiththeoperationsoftradeand
industry.
Ifweanalyzethislawwerunupagainst
somedifficultquestions.Whatismeantby
demand?Whydoesthevaluerisewhenthe
demandincreases?Whydoesthevalue
tendtofallwhenthesupplyincreases?We
findalsothatthereisacuriousinteraction
betweenvalueontheonehandanddemand
andsupplyontheother.Ifthepriceofan
articleislowered,wediscoverthatthe
demandforittendstoincreaseandthatat
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thesametimethesupplytendstodecrease.
Wewillnotundertaketodiscussallthese
problemsinthischapter,butwillbesatisfied
withanexaminationofthetermsdemand
andsupply.
4.Analysisofdemand.Thedesirefora
commodityisnotinitselfaneconomic
demandforit.Nomatterhowmuchaman
maywantanautomobile,hisdesirecan
havenoeffectuponthepricesorvalueof
automobilesunlessbehasthenecessary
meansofpayment.Desiremustbe
accompaniedbythenecessarypurchasing
powerbeforeitcanbecomeeconomicor
effectivedemand,orhaveanyinfluencein
themarket.
Thesecondpointtonoticeinconnectionwith
demandisthatitvarieswiththeprice.For
example,ifthepriceofautomobilesand.the
costofoperationcouldbecutonehalf,there
wouldundoubtedlybeagreatincreaseinthe
demandforautomobilesandmanymore
carswould,bemadeandsold.Ontheother
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hand,ifanyconditionscausethepricesof
automobilesandgasolenetobeadvanced,
thetendencywillbetowardaweaker
demandandsmallersales.Hencewhenwe
speakofthedemandforanyarticle,
manifestlywemustalwayshaveinminda
certainprice,forthedemandvarieswiththe
price.
Thereisonlyonewayofmeasuringthe
demandforanarticleatanygivenprice,and
thatisbythequantityofitwhichissoldat
thatprice.Thatshowshowmanypeopleare
willingtobuyatsuchaprice.
Henceitispossibleforustodefinedemand
asbeingtheamountofgoodswhichpeople
arewillingtotakeatagivenprice.
5.Analysisofsupply.Thewordsupplyas
commonlyusedincludestheentirestockof
goodswithinreachofthemarket,but
economistsuseitinastrictersense,
meaningbyitonlythatportionoftheentire
stockwhichisactuallyofferedforsaleata
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givenprice.Theentirestockofwheat,for
example,inacountrymightbe500,000
bushelsandtheprice$2.Ifonly100,000
bushelswereofferedforsale,thatwouldbe
theeconomicoreffectivesupplyatthat
price,andif100,000bushelsweresoldat
thatprice,thatwouldconstitutealsothe
economicdemand.
Thusinouranalysisofdemandandsupply,
wefindthatatanyparticulartimeandprice
theyaremeasuredbythesamequantityof
goods.
Thisconclusionisnotremarkable,fora
man'spurchasingpowerdependsuponthe
goodshepossesses,plushiscreditor
borrowingpowerwhichinturndependson
hispowertoproduceinthefuture.Howhe
shalluseitisdeterminedbyhiswants.A
farmergoingtomarketwith10bushelsof
potatoes,intendingtosellthemand
purchasegrocerieswiththeproceeds,is
increasingthesupplyofpotatoesinthe
marketandthedemandforcertaingroceries.
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Tothebuyersofpotatoeshisload
constitutesanadditiontothesupply,butto
thegroceritrepresentsademandforcertain
groceries.Moneyismerelythemediumby
whichtheexchangesareeffectedthe
economicdemandforgoodsisthegoods
thatareinthebuyer'spossession.Inmodern
businessthebuyeralwaysgoestomarket
equippedwithmoneyorcredit,andthishe
hasobtainedeitherbytheproductionof
goodsorbytheperformanceofvaluable
services.
6.Potentialdemandandsupply.Thatpart
ofthestockofanarticlewhichisnotoffered
forsaleatagivenpriceissometimescalled
thepotentialsupply.Whenwouldbebuyers
ofanarticlearenotquitesatisfiedwiththe
presentpriceandholdbackforalowerprice,
thisisreferredtoasthepotentialdemand.
Dealersinanyarticlewhendeterminingwhat
pricetheymayhopefornaturallytakeinto
account,,sofaraspossible,theintensityof
thepotentialdemandandtheamountofthe
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potentialsupply.
Thegreatenlargementofcoldstorageand
warehousingfacilitiesinrecentyearshas
madethepotentialsupplyofmany
commoditiesexceedinglyimportant.The
thriftyfarmerisnolongercompelledto
marketallhiseggs.inthespringand
summer,norallhispotatoesandgraincrops
inthefall.Innormaltimesthiswithholdingof
foodstuffsfromthemarket,sothattheyare
notpartoftheeffectivesupply,tends,first
towardthesteadyingofpricesand,second
towardtheloweringofprices,forthefarmer,
hisprofitsbeinglargerandmoresecure,is
stimulatedtoanincreaseofproduction.
Inthisbookweshalluse,thewordsdemand
andsupplyinthesensegiventhem
ordinarilybybusinessmen,meaningby
supplythegoodsinthemarketseekinga
purchaser,andbydemandthequantityof
goodswhichpeoplewillbuyatornearany
givenprice.
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7.Thevalueequation.Anybusinessman
knowsthatthepriceorvalueofanarticle
tendstorisewheneverthedemandforitat
theexistingpriceisinexcessofthesupply
offeredforsaleatthatpriceandconversely
thatthepriceofanarticleislikelytodecline
wheneverthesupplyofferedattheexisting
priceisgreaterthanthedemand.Itis
conditionsofthissortwhichaccountforthe
zigzaggingofpricesinthespeculative
markets.Intheworld'sgreatexchanges,
wherethepricesofcertainbasic
commoditiesarefixed,thetradersgive
considerationtoallpossiblecircumstances
thatmayaffectthepresentorfuturedemand
orsupplyofthearticleinwhichtheyare
trading.AdroughtinArgentinamayfore
shadowalessenedsupplyofwheatand
causetraderstobidahigherpriceforit,or
stormsinKansasandNebraskamay
threatenthecorncropandbringonarisein
thepricebothofcornandofpork.
Atanygiventimethereareinanymarketa
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numberofmenmoreorlessanxioustobuy
acertaincommodityandotherswhowishto
sell.Ifthesellersareaskingtoohighaprice,
certainbuyersholdoffandallthestock
cannotbesold.Ontheotherhand,ifthey
shouldoffertheirgoodsattoolowaprice,
thedemandwouldexceedthesupply,
certainbuyerswouldgetalltheywantedand
otherswouldbedisappointed.
Assumingthatthebuyersandsellersareall
keenlycompetingwithoneanother,each
anxioustogetallpossibleadvantageoutof
themarket,itisevidentthatthesellers,even
thotheyenterintonoagreementwithone
another,willendeavortoputthepriceatthe
highestpossiblefigureatwhichalltheir
supplycanbesold.Sowemaysayin
generalthatvalueorpriceissucharatioof
exchangeastendstoestablishanequation
betweendemandandsupply.Thereader
willnotunderstandthisdefinitionunlesshe
givescarefulconsiderationtothefactthat
changesinthe.priceorvalueofa
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commoditytendtocausechangesinthe
demandandsupply.InthechapteronValue
weshalldiscussthissubjectfromother
pointsofview.
8.Agriculturallawofdiminishingreturns.
Oneofthemostimportantlawsineconomics
wasborrowedfromthescienceofagriculture
andisknownasthelawofdiminishing
returns.Most.economistshavetreatedit
mainlywithreferencetoitsbearinguponthe
profitsofagriculture,butitappliesalsoto
otherindustries.
Thelawasitappliestolandmaybestated
asfollows:Inthecultivationofapieceof
land,afteracertainpointisreachedthe
applicationofadditionallaborandcapital
failstocauseaproportionateincreaseinthe
yield.
Thislawstatesatruththattheexperienceof
everyfarmerconfirms.Onagivenfielda
fannerknowshowmanyloadsoffertilizer
andhowmanymencanbeemployedtothe
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greatestadvantage.Heknowsthatifheputs
onadditionalloadsoffertilizeroremploys
anadditionalmaninthecultivationofthe
field,althothetotalyieldmaybeincreased,
thereturnperunitofcapitalandlaborwill
beless.Supposethatthelandwhen
cultivatedbytwomenandenrichedbyten
loadsoffertilizeryields1,000bushelsof
wheat.Thenextseasonlethimincreasethe
useofcapitalandlaborby50percent,that
is,apply15loadsoffertilizerandkeepthree
menatworkinthefield.Ifheobtainsless
than1,500bushelsofwheatitismanifest
thatthepointofdiminishingreturnshas
beenreachedandthathiswheatcostshim
moreperbushelthesecondyearthaninthe
first.
Thislawisimportantbecauseofitsbearing
uponthecostofproduction.Aspopulation
increasesfarmersmustdooneoftwothings:
(1)Theymustbringpoorerormoredistant
landsintocultivation(2)thelandalready
tilledmustbecultivatedmoreintensively,by
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whichismeantthatmorelaborandcapital
mustbeapplied.Theresultineithercaseis
thesame,namely,highercostsofproduction
andhencehigherpricesoffoodstuffsinthe
markets.
Thelawismanifestlyapplicablenotonlyto
agriculture,buttoallextractiveindustries,
suchasminingandlumbering.Asthe
demandfororesandlumberincreases,
minesmustbeworkedtogreaterdepthsand
lumbermustbebroughtfromforestsmore
remote,allofwhichmeanshighercostsof
productionandatendencytowardhigher
prices.
9.Generallawofdiminishingreturns.The
lawisapplicabletoallformsofindustryand
maybestatedasfollows:Inthe
developmentofanyindustrythereisapoint
atwhichthereturnsuponcapitalandlabor
investedareatamaximumafterthispointis
reached,theapplicationoffurtherlaborand
capitaldoesnotcauseaproportionate
increaseinthevalueofthereturn.
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Notethedifferencebetweentheagricultural
lawandthismoregenerallaw.Inagriculture
thereisadeclineofproductperunitof
capitalandlaborinindustryingeneralthere
isadecline,notnecessarilyofproduct,butin
thevalueoftheproduct.Thisdifferenceis
duetothefactthatthesupplyoflandis
limited,whereasinindustrythenumberof
factoriesmaybeindefinitelyincreased.
Ifweconsidertheproducingpowerofa
singlefactory,thelawappliestoitexactlyas
toapieceofland.Inagivenbuildingonlya
certainnumberofmachinesandmencanbe
employedtothegreatestadvantage.Ifmore
areintroduced,theoutputpermanandma
chinedeclines,althothetotalproductmay
beincreased.Henceitfollowsthatin
industryingeneral,afteracertainpointof
developmenthasbeenreached,moremen
andcapitalcannotbeemployedwithouta.
certaindeclineintheoutputpercapitaland
permanunlessadditionalspacefortheir
employmenthasbeenprovided.Since
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additionalspaceformanufacturingindustries
caneasilybefound,anincreasingdemand
formanufacturedarticlesdoesnotalways
leadtohighercostsofproductionandhigher
prices.Onthecontrary,itoftenlowerscosts
becauseoftheeconomiesmadepossibleby
largescaleproduction.
Butinanyindustry,ifthedemandforits
productremainunchanged,thenaftera
certainperiodinitsdevelopmenthasbeen
reachedtheemploymentofadditionalmen
andmachineswillnotyieldaproportionate
increaseinthevalueoftheproduct,forthe
supplyoftheproductonthemarketwouldbe
increasedandthevaluewouldtend
downwardasaresult.Atanygiventimein
anycountryonlyadefinitenumberofmen
andadefiniteamountofcapitalcanbe
employedtothegreatestadvantageinany
industry.
Takeshoes,forinstance.Themanufacturer
musttakeintoaccountthecostofleather
andothermaterials,thewagesoflabor,the
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costofmachineryanditsdepreciation,and
finallythemarketdemandatpriceswhich
willyieldhimprofit.Thesearethingswhich
hecannotcontrol,yetuponthemdependhis
costsofproductionandthepriceofhis
product.Hehascontrolsolelyoftheamount
ofhisownoutputheknowstheamountthat
hecanproducewithhispresentplantandhe
hasprettycarefullyestimatedtheprobable
outputofhiscompetitors,andhemaydecide
thatanyincreaseofoutputbyhimorbyany
othermanufacturerwouldtendtodemoralize
themarketandcompelsalesatlowerprices,
eventhothecostofmakingapairofshoes
hadnotdeclined.
Inallindustries,therefore,thereisconstant
effortonthepartofmanagerstokeeptheir
outputatthepointwhichshallyieldthem
maximumprofit.Inanindustrywherethereis
absolutefreedomofcompetitionthisisone
ofthemanager'shardestproblems.
10.Counteractingforces.Whereverthelaw
ofdiminishingreturnsapplies,eachincrease
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inproductisobtainedatanincreasedcost.
Whilethisistrueforagiventimeandagiven
procedureinindustry,itdoesnotfollowthat
onlythruincreasedcostperunitcanthere
beanincreaseofproduct.Increaseinthe
efficiencyofcapitalandlabormayeffecta
correspondingincreaseinproduction.The
progressofcivilization,asshownin
inventions,bettermethodsoftransportation,
thelesseningoftaxation,improvementsin
education,tendstolessenthecostof
production,anditisthereforeboundtobring
aboutgreaterreturnsfromtheapplicationto
natureofcapitalandlabor.AsJohnStuart
Millsays:"Thereisscarcelyanypossible
ameliorationofhumanaffairswhichwould
not,amongitsotherbenefits,havea
favorableoperation,directandindirect,upon
theproductivenessofindustry."
Itwastheimprovementinagricultural
machineryandtheextensionand
cheapeningoftransportationfacilitiesthat
broughtthewesternlandsoftheUnited
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StatesandCanadaintothewheatproducing
areaandmadethemprofitablebecauseofa
lessenedproducingcost.Theriseinthe
priceofanorewillbringamineintothe
marketwithitsproduct,whilealoweringof
thepricewillexcludeit.Thisisfrequently
illustratedinthecaseofbituminouscoal.
Improvementsinproductionhavethesame
effect.Theimmensedepthsofthecopper
minesinnorthernMichiganareaccounted
forbytheriseinthepriceofcopper,andthe
markedimprovementsinpumps,engines
anddrillsaswellasinminingtechnic.Yet
withoutquestiontheincreaseinthe
temperatureatthelowerdepthsofthe
mines,thelargeamountofwatertobe
pumpedout,andthegraduallesseningof
thesupplywillintimebringaboutan
increasedcostofproducingthesupply.
Unlessthereisacorrespondingriseinthe
priceofcoppersuchmineswillbeforcedinto
themarginofproduction,wheretheirowners
willbeconfrontedbythequestionwhetherto
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continueatalossinthehopeofbetter
prices,ortoabandonoperations.
Furthermore,thehistoryofminingrecords
manyinstanceswhereariseinthepriceof
theproducthasledtothereworkingof
propertiesonceabandoned.
Thelawofdiminishingreturns,whileitistrue
anddoesapplyinanindustryatagiven
time,isnottobeextendedinitsapplication
fromoneseasontoanother,orfromone
periodtoanother,withouttakinginto
considerationtheintroductionofmachinery
ornewmethodsofproductionwhichmay
changetheratioofreturn.
Whatisthelawofdiminishingutility?Give
anillustrationofit.
Whataretheessentialthingstobenotedin
demand?Howisitmeasured?
Showbyanillustrationhowtheeconomist
usessupplyinadifferentsensefromthat
ordinarilygiventoit.Howaredemandand
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supplymeasured?
Definepotentialdemandandsupply.
Whatistheagriculturallawofdiminishing
returns?How
doesthegenerallawofdiminishingreturns
differfromit?Doesincreaseofproduct
alwaysimplyanincreasedunitcostof
production?Illustrate.
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