1.3 The Field of Economics

If doing one thing requires giving up another, then the value of the alternatives we face can affect our choices. Economists argue that an understanding of opportunity cost is crucial to understanding the choices people make.

As the value or number of available alternatives changes, economists expect to see individual choices change—and change in predictable ways! The surprise announcement that Disney+ would air the original Broadway recording of Hamilton over the 2020 July 4th weekend changed, for millions, the opportunity cost of spending that weekend at the lake. An unexpectedly warm winter day might change your opportunity cost of going to class; your econ professor likely expects lower attendance when the weather is particularly delightful. In the same vein, a high income makes it more costly to take a day off; economists expect highly paid individuals to work more hours than those who are not paid so well. In each of these examples, and in millions more each day, the emphasis economists place on opportunity cost helps us better understand peoples’ choices by pushing us to think about the relative values of the alternatives they face.

What motivates people as they make choices? Perhaps more than anything else, it is the economist’s answer to this question that distinguishes economics from other fields.

Economists assume that individuals, first and foremost, pursue their own self-interest—doing things that make them, as individuals, better off; avoiding things that make them worse off. Economists assume that in chasing those rainbows, people make choices that will ultimately bring them the greatest possible benefits, given the constraints they face. 

Economists assume, for example, that the owners of business firms try to maximize their profits. That assumption gives economists power to predict how firms in an industry will respond to changes in the markets where they operate. For example, as new U.S. tariffs (a fancy word for taxes) on imported steel and aluminum drove up prices for those metals in early 2018, economists were not surprised to see heavy users of those metals, such as Harley-Davidson Motor Company, shuttering U.S. plants and shifting production to countries where tariff rates were lower and steel cheaper. 

Assumptions about the profit-maximizing behavior of business firms give economists great power to explain how firms behave in the real world. Likewise, assumptions about the goals of people who buy products (often referred to as consumers) shed similar light on those peoples’ behavior. Of course, consumers don’t maximize profits. Instead, economists assume that individual consumers make choices in order to maximize their satisfaction, or utility. That utility-maximization assumption, again, gives economists great power to explain all kinds of interesting consumer behavior—like why birthday celebrants often prefer cash to gifts, and why we tend to overeat when the restaurant we choose happens to offer a buffet.

A cautionary note: Study economics long enough, and sooner or later you’ll be accused of  endorsing greed. But good economists know that there’s a difference between self-interest and selfishness. People clearly gain satisfaction by helping others—just ask any parent, or anyone who has ever volunteered their time or donated to a charity. So, when economists make the assumption that consumers maximize their satisfaction, they include such seemingly altruistic activities among the choices consumers face.

The third thing that sets economics apart from other disciplines is that in economics, we argue that most choices are made “at the margin.” The marginThe current level of an activity. is the current level of an activity. Think of it as the “edge” from which a choice is to be made. A choice at the marginA decision to do a little more or a little less of something. is a decision to do a little more or a little less of something.

Here’s an example of a choice made at the margin: Imagine you pull into the drive-thru at your favorite fast-food joint. You scan the menu and see the following:

Based on those prices, the cash in your wallet, and your particular preferences, you decide to get a burger and a drink; the fries just aren’t worth the $2. And then, the clown’s mouth asks you an all-important question, a question you’ve probably often been asked: “Would you like burger/fry/drink combo meal for $8?”

This is an interesting question—you’ve now got a new option to evaluate, one that wasn’t even on the menu! And notice that you don’t really have to think about whether the combo meal is worth the $8, because you’ve already committed to a $7 purchase of a burger and drink either way. Instead, all you have to determine is whether the extra food (fries) is worth the extra money (now $1 rather than $2!). The idea of only evaluating extra or additional costs and benefits in decision-making is the essence of marginal thinking, and the good news is that such marginal thinking will automatically guide you to the best choice between just the burger and drink or the combo meal.

Evaluating choices at the margin can lead to extremely useful insights. Consider, for example, the problem of curtailing water consumption when, say, a drought makes water increasingly scarce. Economists argue that one way to induce people to conserve water is to raise its price. But non-economists often disagree with this assessment, claiming that prices won’t affect water consumption because water is a necessity.

But choices in water consumption, like virtually all choices, are made at the margin. Individuals don’t make all-or-nothing decisions about whether they should or should not consume water. Instead, they decide whether to consume a little more or a little less water. For example, the typical person in the United States uses about 100 gallons of water each day. If the price of water doubled, could some of those people cut consumption to, say, 95 gallons per day by taking slightly shorter showers, or maybe flushing less often? High prices might also make people evaluate choices about what they use their water for: Few of us would eliminate toothbrushing at any price (we hope?), but many of us might stop washing our cars and watering our lawns with precious liquid gold. When we examine the choice to consume water at the margin, the notion that a higher  price would reduce consumption seems much more plausible. Prices affect our consumption of water because choices in water consumption, like other choices, are made at the margin.

You’re now acquainted with the three key elements of the economic way of thinking—opportunity cost, optimization, and decision-making at the margin. We’ll revisit and expand on these concepts repeatedly as we analyze the inner workings of the market system and the economy as a whole. 

Suppose you decide to become an economist. Where can you find a job? Economists work in all kinds of places, but most of those places can be generally categorized in one of three ways: government agencies, business firms, and colleges and universities.

One dollar out of every five that gets spent in the economy is spent by some unit of government—either federal, state, or local. For all the highbrow talk about the dignity of public service, most government work reduces to making decisions about how to bring in tax money and then how to send it out again. In other words, your legislators, your governors, your president are all making the same kinds of choices you make about your own income and expenditures, but on a much larger scale. Governments employ economists to help them make decisions about how to spend this money: “Will we get the biggest bang for our buck building a border wall, or should we spend that money on an aircraft carrier?” Governments also employ economists to help them forecast economic activity, to measure the cost of living and other important variables, and to advise them on matters of policy: “If we give each taxpayer a $1,200 tax rebate, how many retail jobs will be saved?” or “Will more support for Head Start pre-K programs increase future SAT scores?”

Economists work for businesses, too, and businesses beyond the stereotypical Wall Street firms like Goldman Sachs and Deutschebank. Hallmark employs economists to forecast sales of greeting cards. World Series champions employ economists to help them strategically price their tickets. BMW employs economists to help develop more efficient production processes (remember the choice of human power vs. robot power we talked about earlier? That’s just one piece of building the greatest number of cars out of the fewest resources). And economists’ training makes them particularly well suited for the rapidly growing field of data analytics, where the exploding world of internet data is used to determine the best location for a new Walgreens, Netflix’s best recommendations for those who loved The Good Place,  and the best products for Amazon to discount on Cyber Monday.

But we’re getting ahead of ourselves. After all, you’re young, and you probably haven’t met many industry or government economists yet. The economists you know probably work at your college or university. And yes, colleges and universities employ thousands and thousands of economists. In addition to teaching you about economic theory, those economists help guide your senior theses; they help faculty members in other disciplines crunch numbers for research projects; they conduct research projects of their own. In fact, the most brilliant economists in the world aren’t found on Wall Street or at the Federal Reserve; you’ll find most of our Nobel laureates in economics in university classrooms, teaching students by day and cultivating brilliance by night.  

“Okay, but I don’t really want to become an economist. I’m just taking this course because it’s required for my Social Influencing minor. Will training in econ still be useful?”

While we’re sorry you’re not really interested in becoming a working economist, the good news is that your time in the econ classroom isn’t likely to be wasted. The economic way of thinking is both insightful and incisive; it helps people in all kinds of professions to make better decisions.

Suppose, for example, that you are considering law school. The study of law requires keen analytical skills; studying economics sharpens such skills. Not only do students with training in economics tend to do better in law school than students who lack such training, but students with econ training tend to have an easier time getting into law school in the first place!

One of the big litmus tests aspiring law students must pass is getting a good score on the Law School Admission Test (LSAT). Because econ students are taught to think carefully and logically through somewhat messy problems, year after year, students with economics training excel on this exam. That excellence is summarized in Table 1.1, which shows scores by major for entering law school students. 

Of course, you may not be interested in going to law school. But people with training in economics have lots of other great options and tend to do very well in terms of their lifetime earnings. The Georgetown Center on Education and the Workforce surveyed a large group of college graduates at various stages in their careers regarding both their earnings and their undergraduate major. Their study found that people with degrees in economics (but who weren’t necessarily working as economists) earned much more than people with degrees in the other social sciences. They also found economics to be the only non-STEM discipline among the top twenty-five highest-paid majors (that list is dominated by engineering and computer sciences). So whether you decide to become a production manager, an aircraft refurbisher, a personal financial planner, a baseball analyst, or a wedding planner, the skills you learn in the economics classroom will be both useful in advancing your career and financially rewarding.

Of course, your choice of a major isn’t likely to be based solely on considerations of potential earnings or the prospect of landing a spot in law school. You are surely also considering your interests and abilities, and hopefully you’re also considering the benefits (both monetary and non-monetary) of other possible degree paths. What is your opportunity cost of pursuing a degree in economics? Does studying more economics serve your interests? Will doing so maximize your utility, now and over your lifetime? These considerations may be on your mind as you begin to study economics at the college level. But, should you decide to pursue further study in economics, you can rest assured that a background in this field is likely to serve you well.