Making the World of Economics a Simpler Place
What Is Economics?
Wikipedia gives you a long boring answer (I know most of you think economists are boring anyways, so it is only fitting to have a long boring answer), so if you don’t understand it you are not alone, and you have come to the right place.
Economics is the study of the world around us. Most people think economics has to do with money and politics…but… It is very simply the balance of wants and needs. Everyone and every company, and every country has a limited amount of time and resources, and economics tell us what the best uses of those resources are.
The most basic form of economics is supply and demand. Supply is very simply how much of something will be provided (or produced) and demand is how much something will be wanted (or purchased). Supply and demand can be used from everything to multi-billion budgets for government and company production forecasts, to allocating your free time this weekend. There are only so many hours in a weekend (supply), and only so many things you can do with those hours (demand).
What Is Supply and Demand?
As stated before, supply and demand can be used to measure what will be the best use of your free time this weekend, or to answer problems with complex multi-billion dollar government budgets or corporate production problems.
We typically talk about supply and demand “curves” in economics, but all they are telling us is the price that people value something, whether it is watching movies on the weekend or buying pizza. Producers want to sell lots of “stuff” at high prices (supply always “slopes” upward), and people want to buy lots of stuff at low prices (demand always “slopes” downward). Supply and demand “curves” tell us what that balance is, and what prices (or value) is placed on that “stuff.” That value (it could be hours working vs. playing on the weekend, or price of pizza) is called equilibrium.
So, in a nutshell, we care about supply and demand “curves” because it tells us equilibrium (the point where supply and demand meet).
What Can We Do With Money?
One thing we like to study in economics is money. As economists, we like to know what people do and will do with their money. We can really on do five things with money…
- Earn it
- Spend it
- Save it
- Invest it
- Give it
We all know that you have to work to earn money (yes the “work” could vary wildly, but even if someone gives you money it is “work” to take it). Spending money is easy, so easy in fact that we have mountains of personal and government debt. Giving money away is even easier than spending it, so what is the one thing that typically gives people a hard time? … Investing it … What confuses most people is how to invest their money. Let’s go over a few basics to better understand what investing is and why you should do it.
What Is the Stock Market?
The stock market (or equity market) is just one big real time supply and demand “game” to identify the value of a company. Stock is simply a percentage of ownership of a company, and the stock market is the buying and selling of an ownership in that company. The “game” of the stock market is to identify the “equilibrium” price of what that company is worth. Because companies may earn more or less money in the future, the company’s value may be worth more or less depending on the expected earnings of that company.
What Are Bonds?
We now know what stocks are, so what are bonds? Stocks and bonds are both securities, but stockholders have ownership (equity) in a company, and bond holders have a credit stake (they are lenders). There are all kinds of bonds, government bonds, corporate bonds, education bonds, war bonds, but at the end of the day it is just a loan to someone or something.
What Are Commodities?
The last major investment is commodities. Commodities are things that you can touch. When you buy stock you buy a percentage of ownership in a company, with a bond get an I.O.U to be repaid at some point in the future. Commodities are all that other stuff that you can actually feel. We typically think of commodities as those natural resources that we use to make other things. Lumber, oil, gas, iron, gold, silver, corn, beans, cotton and many, many more things make up commodities. Just like everything else in economics, supply and demand set the prices for commodities. A drought can cause the supply of coffee to go down which makes prices go up. High demand for RedBull can cause less people to demand coffee and prices can go down. At the end of the day economics play a critical role in the pricing of commodities.
Why Should You Invest?
Investment can mean many things to many different people. Most people thing of investment as putting money in the bank, or the stock market, but investment is much more than that. You can invest in yourself by going to college or learning something about economics (which is what you are currently doing), or an investment can occur when a country builds roads and bridges, or a company buys a new machine to make products quicker and cheaper.
No matter who or what does the investing, investment is the time, energy, and money spent on something that will add benefits in the future. If you invest your money in the stock market you hope that the investment is worth more tomorrow than today. If you are a country investing in your Army or a highway system you hope that your country is more productive in the future, and if you are a company you hope that new machine will make you more profitable than before.
The Value of Compound Interest
Finance and Economics are two totally different things, but they share many things. One thing that is really not a part of economics but everyone should understand is the beauty of compound interest. It’s just like investing in a high school education then “compounding” that investment with a college education. The same is true with money.
If you invest a hundred dollars and earn a 10% return after a year you have $110. If you then earn a 10% return on that $110 the next year you will earn not $10 but $11, then the next year you will earn $12.10, and that amount keeps building, or compounding every period.
Compound interest is why it is so important to start saving early because with compound interest the longer the time period, the more the interest compounds and earns.
LambONOMICS (www.LambONOMICS.com) provides full economic forecasting for small and middle market companies, and micro and macro models for national and global needs. As a subsidiary of Lamb Investments, INC, we provide our clients with a broad range of economic knowledge, and actual information that is useful and relevant to what they care about, the bottom line and how to preserve and grow it. We assess risk and provide risk management plans across a broad range of businesses. We have many publications and writing works, and one of our major missions is to bring financial literacy to the masses.
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