What Is Economics?

Scarcity: Society's resources are limited. For example, time, natural resources, labor, money, wealth, income, capital, and other factors of production.

Economics studies how society manages its scarce resources and investigates such questions as the following:

• How do we decide on the allocation of our income for consumption, our time for work, and our savings for retirement?
• How do firms decide what they produce and how much? How do firms decide on renting capital or hiring workers?
• How do societies decide on the allocation of their resources between consumption, fixed capital investment, environmental protection, public spending, and goods and services (macroeconomics)?

Microeconomics and Macroeconomics

Economics is studied on two major levels:

• Microeconomics: Microeconomics focuses on individual economic units (such as firms, consumers, investors, entrepreneurs, and workers) and the markets in which they function (Lessons 1–11).
• Macroeconomics: Macroeconomics focuses on total economic activities. Examples are total production, total consumption, total investment, inflation, economic policies, trade, interest rates, and unemployment (Lessons 12–15).

Microeconomics and macroeconomics are closely related because overall changes in an economy start from the economic decisions of individual firms and households. Given that microeconomics and macroeconomics focus on different questions, each branch has its own models to explain economic activities.

Economists use scientific methods to explain economic activities:

1. Observations of economic events lead us to develop theories. Then, we collect data to analyze the accuracy of theories. Mostly, historical data are used in economic analyses.
2. In order to explain economic events, we use many economic models, which mostly consist of equations and graphical presentations of these equations. We use economic models to better comprehend the nature of current and future economic events.
3. Some models include simplifying assumptions so that we can evaluate economic events more understandably. For example, we start analyzing the total production of firms by assuming that there are only labor and capital as inputs. Then, after initial analyses, if we need to extend the nature of the model, we can relax these assumptions or include more realistic assumptions. If we do not use assumptions, it is not easy to see the main findings.