How People Interact
The first four principles discussed how individuals make decisions. As we go
about our lives, many of our decisions affect not only ourselves but other people as well. The next three principles concern how people interact with one another.
Principle 5:
Trade Can Make Everyone Better Off
You may have heard on the news that the Chinese are our competitors in the
world economy. In some ways, this is true because American and Chinese firm's produce many of the same goods. Companies in the Unfiled States and China compete for the' same customers in the markets for clothing, toys, solar panels, automobile tires, and many other items.
Yet it is easy to be misled when thinking about competition among countries. Trade between the United States and China, is not, like a sports contest in which one side wins and the other side loses. In fact, the opposite is true: Trade between two countries can make each country better off.
To see why, consider how trade affects your family. When a member to you
family looks for a job, she competes against members of other families who are looking for jobs. Families also compete against one another when they go shopping because each family wants to buy the best goods at the lowest prices. In a sense, each family in an economy competes with all other families.
Despite this competition, your family would not be better off isolating itself
from all other families. If it did, your family would need to grow its own food, make its own clothes, and build its own home. Clearly, your family gains much from its ability to trade with others. Trade allows each person to specialize in the activities she does best, whether it is farming, sewing, or home building. By trading with others, people can buy a greater variety of goods and services at lower cost.
Like families, countries also benefit from the ability to trade with one another.
Trade allows countries to specialize in what they do best and to enjoy a greater variety of goods and services. The Chinese, as well as the French, Egyptians, and Brazilians, are as much our partners in the world economy as they are our competitors.
Principle 6: Markets Are Usually a Good' Way to Organize Economic
Activity The collapse of communism in the Soviet Union and Eastern Europe in the late.
1980s and early 1990s was one of the last century's most transformative events.Communist countries operated on the premise that government officials were in the best position to allocate the economy's scarce resources. These central planners decided what goods and services were produced, how much was produced, and who produced and consumed these goods and services. The theory behind central planning was that only the government could organize economic activity
in a way that promoted economic well-being for the country as a whole.
Most countries that once had centrally planned economies have abandoned the system and are instead developing market economies. In a market economy, the decisions of a central planner are replaced by the decisions of millions of firms and households. Firms decide whom to hire and what to make. Households
decide which firms to work for and what to buy with their incomes. These firms and households interact in the marketplace, where prices and self-interest guide their decisions. At first glance, the success of market economies is puzzling. In a market economy, no one is looking out for the economic well-being of society as a whole. Free markets contain many buyers and sellers of numerous goods and services, and all of them are interested primarily in their own well-being. Yet despite decentralized decision making and self-interested decision makers, market economies have proven remarkably successful in organizing economic activity to promote overall economic well-being
In his 1776 book An Inquiry into the Nature and Causes of the Wealth of Nations, economist Adam Smith made the most famous observation in all of economics.
Households and firms interacting in markets act as if they are guided by an "in-Visible hand" that leads them to desirable market outcomes. One of our goals in this book is to understand how this invisible hand works its magic
AS you study economics, you will learn that prices are the instrument with
which the invisible hand directs economic activity, In any market, buyers.
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