In several principles-of-economics textbooks, the first chapter is devoted to the basic elements of economics such as scarcity, tradeoffs, opportunity costs, incentives, marginal thinking, etc. Most instructors spend very little time with this chapter.Sphere: Related Content
I spend weeks on these concepts. These principles are at the heart of economics, which is, essentially, the study of human behavior. Economics explains how people make decisions—important ones such as where to go to college and unimportant ones such as which shampoo to buy.
Economics teaches us that if given a certain set of conditions and incentives, rational humans behave quite predictably. We need to look no further than the macroeconomic crisis that our nation is currently experiencing. As well-meaning government officials promoted homeownership over the years, the incentives they put into place led, gradually but almost inevitably, to a housing boom and then a bust. Those incentives included lower mortgage standards, the Federal Reserve’s low interest rate policy in 2002-2004, and changes in accounting rules that allowed financial institutions to expand their capital when asset prices rose but reduced their capital when asset prices fell.
Just as my students learn to understand the causes of today’s problems, they learn why conventional wisdom is often wrong. For example, most people think that rent control—government limits on rent increases—make the poor better off by keeping housing affordable. But my students understand the unintended side effects. In cities like New York, rich insiders are often the ones who get the breaks. Because landlords can’t get a market rent, few people want to build more apartments, so existing houses often cost more. When rents are low, landlords don’t want to make necessary repairs and in extreme cases they abandon the apartments.
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