Investment Analysis, Market Insights, and Trading Strategies
Based on “Basic Economics” by Thomas Sowell
Scarcity occurs when the sum of individual demands exceeds existing resource quantities. While this concept seems simple, it’s often misunderstood, even by those with higher education.
Economics not only concerns how people, as consumers, arrange existing goods and services, but more importantly, it focuses on production - the process of transforming inputs into outputs from scarce resources.
If each resource had only one use, economics would be much simpler. For example, the Soviet Union’s industrial electricity consumption exceeded that of the United States, yet its industrial output was lower.
Current misconceptions about economics include the belief that it teaches people how to make money, run businesses, or predict stock market movements. However, economics cannot provide personal financial advice, business management guidance, or reliable formulas for predicting stock market fluctuations.
One effective approach is to examine the incentives created by economic decisions rather than just their intended goals.
How does an economy allocate scarce resources?
Prices play a crucial role in determining how resources are used and how finished products are distributed among millions of people. However, this role is rarely understood by the public and often overlooked by government officials.
Prices are not merely a means of transferring money. Their primary function is to provide economic incentives that influence how people use resources and produce goods.
While the free market system is sometimes called a profit system, it’s actually a profit-and-loss system, where losses are equally important for economic efficiency as they tell producers what to stop doing - what to stop producing, where to stop investing resources, and what to stop investing in.
Long before the internet, prices formed a global information network.
Market prices are not numbers arbitrarily set by sellers. While you can set any price for your product or service, it only becomes an economic fact when others are willing to pay.
From an overall economic perspective, this means that when price competition exists in the market, resources tend to flow to their most valuable uses. This doesn’t mean one use completely excludes others. Instead, resource adjustments between uses are gradual.
In an economy where obtaining resources requires competition with users of other uses, the waste of inputs described by economics cannot persist. Moreover, in such an economy, businesses can only survive by keeping costs below sales revenue. In a price-regulated market economy, the amount of inputs a business needs is based on precise assessment of its actual needs, not on how well its managers can convince high-level government officials to allow them to have.
Knowledge is one of the scarcest resources, and the price system forces those who best understand their situation to buy goods and resources based on their knowledge, not based on their influence over price committees, legislatures, or royalty. No matter how much intellectuals value verbal expression, when people need to “take action,” verbal expression is no longer an effective way to convey accurate information. They need to provide the most accurate information, not what sounds most reasonable.
There is no objective value, fundamentally because if objective value existed, all transactions would lose their rational basis.
During World War II, despite no change in the number of landlords and tenants, rent price controls led to housing shortages.
Under New York’s rent control, the largest differences between controlled rents and free market rents were in high-end housing prices. In other words, under rent control policies, the rich benefited more economically than the poor, despite the policy’s original intention to help the poor.
It’s crucial to remember the vital distinction between scarcity due to fewer goods than people, and “shortage” as a price phenomenon. Sometimes items become increasingly scarce without showing shortages; sometimes items become increasingly scarce without showing shortages.
Price control policies often lead to hoarding besides causing shortages and quality declines. People tend to keep more price-controlled items than they would under free market conditions because they’re uncertain about future availability. During the 1970s gasoline shortages, drivers typically wouldn’t wait until their tanks reached normal levels before refueling.
Note: Good stocks often show hoarding phenomena because they’re typically priced at unreasonable levels.
While basic economic principles may be simple, their policy outcomes can be quite complex, as seen in the various consequences of rent control laws and agricultural price support laws. However, even such simple economic theories are far from being understood by the public, and the political “solutions” people seek often make things worse. This is not a new phenomenon in today’s world.
Many basic economic principles may seem simple to understand, but grasping their deeper meanings is not easy, and these meanings are precisely what’s crucial. As someone once pointed out, Newton wasn’t the first to see an apple fall; he gained widespread recognition because he was the first to understand its meaning.
Scarcity means that no one’s desires can be fully satisfied, regardless of the economic system or government policies we choose, or whether individuals or societies are poor or rich, smart or foolish, noble or humble. Competition for scarce resources is inherent, regardless of whether we like competition or not. Scarcity means we don’t have the right to choose whether competition exists in the economic system, as only one economic system is feasible. The only thing we can do is choose among specific methods available to handle competition.
Knowledge is the most important and scarcest resource, and prices allow individuals and organizations to make decisions without possessing vast amounts of knowledge.