Markets play a key role in coordinating the choices of individuals with the decisions of business. In modern market economies goods and services are supplied by both business and government. Hence we call them mixed economies. Some products or services are available to those who wish to buy them and have the necessary income – as in cases like coffee and wireless services. Other services are provided to all people through government programs like law enforcement and health care.
Markets offer the choice of a wide range of goods and services at various prices. Individuals can use their incomes to decide the pattern of expenditures and the bundle of goods and services they prefer. Businesses sell goods and services in the expectation that the market price will cover costs and yield a profit.
The market also allows for specialization and separation between production and use. Rather than each individual growing her own food, for example, she can sell her time or labour to employers in return for income. That income can then support her desired purchases. If businesses can produce food more cheaply than individuals the individual obviously gains from using the market – by both having the food to consume, and additional income with which to buy other goods and services. Economics seeks to explain how markets and specialization might yield such gains for individuals and society.
We will represent individuals and firms by envisaging that they have explicit objectives – to maximize their happiness or profit. However, this does not imply that individuals and firms are concerned only with such objectives. On the contrary, much of microeconomics and macroeconomics focuses upon the role of government: how it manages the economy through fiscal and monetary policy, how it redistributes through the tax-transfer system, how it supplies information to buyers and sets safety standards for products.
Since governments perform all of these socially-enhancing functions, in large measure governments reflect the social ethos of voters. So, while these voters may be maximizing at the individual level in their everyday lives, and our models of human behaviour in microeconomics certainly emphasize this optimization, economics does not see individuals and corporations as being devoid of civic virtue or compassion, nor does it assume that only market-based activity is important. Governments play a central role in modern economies, to the point where they account for more than one third of all economic activity in the modern mixed economy.
While governments supply goods and services in many spheres, governments are fundamental to the just and efficient functioning of society and the economy at large. The provision of law and order, through our legal system broadly defined, must be seen as more than simply accounting for some percentage our national economic activity. Such provision supports the whole private sector of the economy. Without a legal system that enforces contracts and respects property rights the private sector of the economy would diminish dramatically as a result of corruption, uncertainty and insecurity. It is the lack of such a secure environment in many of the world’s economies that inhibits their growth and prosperity.
Let us consider now the methods of economics, methods that are common to science-based disciplines.
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