Three Fundamental Concepts of Economics

Topics: Supply and demand, Aggregate demand, Marginal utility Pages: 10 (3458 words) Published: July 7, 2011
1. Human wants.—Two characteristics of human wants possess great importance in their bearing upon the production and consumption of wealth.

First, there seems to be no limit to the number of wants of which a human being is capable. This is one reason why most people find saving so difcult; any growth of income is speedily outdistanced by the growth of wants. This characteristic also ex-plains why a general overproduction of wealth is impossible; there may be too much of one thing but not too much of all things. It also accounts for the al-most infinite variety of goods found in the markets of any modern city.

Second, the continued gratification of any single want finally leads to satiety and may become even tedious and irksome. It is a well-known fact of everyday life that any pleasure loses its zest if indulged in too long.

2. Law of diminishing utility.—The fact that we get less and less satisfaction out of the continued gratification of any single want is so important that it is laid down as a fundamental proposition and is known as the law of diminishing utility. It may be stated as follows: The intensity of any utility, or of a man's desire for any good, tends to decline as he consumes successive units of it.

This law doubtless has both a physiological and a psychological basis. Sports weary certain muscles and finally cease to give pleasure. The hungry man gets great satisfaction out of the first few minutes of his dinner, but his enjoyment of the meal soon begins to decline. A man who is already the owner of a silk hat, is not profusely grateful if a friend sends him a second silk hat as a Christmas gift, and if he gets a third on his next birthday he will probably look at it gloomily and wonder if he has some friend or relative whose head it will fit, for to him it is only a nuisance.

This principle of diminishing utility applies with varying force in the case of different articles and different men. In the case of the silk hat, the utility declines very rapidly as the supply is increased. In the case of shirts the decline will be much less rapid. To the man who has only one shirt it will possess very great utility; he will prize it much more than he would any one shirt if he had twelve in his bureau drawer. It may be said that up to a certain point there is possible an increase in the supply of any commodity in our possession without any appreciable decline in its utility. We want a certain number of suits of clothes and a house with a certain number of rooms. Additional clothing and additional space in our house would be only a burden, something to be cared for but not wanted.

Bread, potatoes and beans are nourishing. Potatoes and beans in ordinary times are cheap. If the human race would be satisfied with such food, the population of the earth might be doubled and yet all be well fed; but we demand variety in food and would protest vigorously if the same rations were placed before us day after day.

3. The law of demand and supply.—Every business man knows that the value or price of any article depends upon the demand for and supply of it. The law of demand and supply may be briefly stated as follows: The price or value of any article tends to vary directly with the demand and inversely with the supply; increasing or declining as the demand increases or declines, but tending to rise as the sup-ply declines and to fall as the supply increases.

The reader must not think of this law as a complete explanation of value. It is not in any sense a theory of value. It merely states in general terms a truth well known to all men familiar with the operations of trade and industry.

If we analyze this law we run up against some difficult questions. What is meant by demand? Why does the value rise when the demand increases? Why does the value tend to fall when the supply increases? We find also that there is a curious interaction between value on the one hand and demand and supply on the other. If the...
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