Economics is the study of people's actions. The notion of action is actually quite rich and carries a number of implications to the analysis of the subject. Notably, it implies that individuals pursue goals in the context of constrained resources and therefore make choices.
Analyzing those implications may appear at first to be stating the obvious, but we will see that it actually leads to a fundamental understanding of economics. Today, we'll focus on the notions of value and preferences.
Man acts because he is dissatisfied. He can be hungry, tired, bored, curious, lacking companionship, longing for aesthetics or comfort, or aspiring to achievement or notoriety, amongst other things. There is no limit to his wants, as new ones appear as old ones get fulfilled.
His voluntary actions aim to resolve this dissatisfaction; this involves means such as his time, abilities, labor and physical resources. Those means are used in a certain way, which he thinks or believes will lead to the desired result. In that sense, he is rational.
By this definition of rationality, we cannot assume that he can anticipate the result perfectly, does not change his mind, or is logical by some objective criteria. The outcome of his action may turn out unexpectedly pleasing or disappointing, and he may find he was mistaken in some way.
Aside from the problem of unlimited wants and our cognitive limitations, man is confronted with the dilemma of limited resources. All of his goals cannot be achieved; he has to choose which ones to pursue and allocate resources correspondingly.
Each of the goals carry an expected satisfaction for the actor. This so-called psychic utility, or utility, cannot be seen or measured, but it allows the individual to rank his goals on a subjective and ever-changing scale. We can never observe the individual's preference scale directly, and therefore must abandon any notions of numerical measurement, cardinal comparison (this goal's utility is 2.5 time higher than that other goal's) or interpersonal comparison. That said, we can know the actor's highest preference at any instant, as it is revealed by his choosing which end to pursue first.
Because man values certain ends and pursuing an end involves means, he imputes use-value, or simply value, to the different means used in his action.
Value is subjective, as is differs in the eyes of different actors and is not objectively derived from the good itself. Value is marginal, as it applies to units of goods rather categories of goods. Just like preferences, value cannot be measured, but we can infer that they are ranked.
For example, a carpenter values a box of nails because of the goals the nails enable him to pursue (ie. building a house).
If a second box of nails would enable the carpenter to pursue a lower preference end (ie. building some furniture or a second house), then the carpenter imputes more value to the first box than to the second. Generally, the more units of a kind of good an individual possesses, the lower his marginal utility for additional units (Law of marginal utility).
In this initial post, we reviewed some key insights from the classical and Austrian schools: that the study of economics is primarily deductive and analytical; that utility and value are subjective, marginal, and not measurable; and that value is derived from usage, not from the good itself or how it was produced.
In the next post, we will continue to cover the basics of economics, and look at action in the setting of a group of individuals, with the appearance of indirect and direct exchange, and the emergence of exchange rates and prices.