DEFINING ECONOMICS

What is economics? How can we define it beyond saying that it concerns the way economists study the economy and try to intervene to change it? To begin, we can examine various ways economists have commonly defined it. After that I will offer a critique of those definitions and offer an alternative. Economics has traditionally been defined as an area of study that focuses on the social spheres in which wealth is produced and distributed. More recent definitions have treated it as the study of private and public choices concerning the allocation of scarce resources to competing ends. Let's look at these definitions in turn.

Economics as the Study of Production and Distribution

The preoccupation with the production and distribution of wealth was, in the 18th and 19th Centuries, imminently political. It was tied to the rise of the capitalist nation state. That is why when Adam Smith (1723-1790) wrote the seminal work on this subject he called it The Wealth of Nations. He was no mere academic observer but a man deeply concerned with augmenting the wealth of his native land, as were economists elsewhere.

Smith refocused policy makers attention away from the acquisition of money and land toward the central role of work in producing wealth. In some pre-capitalist societies, such as that of the pre-colonial aborigines in Australia, work occupies only a small amount of people's time, and there is a great deal of time free for other activities. In what we call capitalist societies, on the other hand, the sphere of production dominates people's lives. A hundred years ago they were forced to work 10 to 14 hours out of every day, 6 or 7 days out of each week, and 50 to 52 weeks out of every year. Even today most of us must work 8 hours a day, five days a week and 48 to 50 weeks a year.

Given the centrality of work, or labor, in capitalist societies, it should not be surprising that many of those whom we now call the "classical" economists, such as Adam Smith or David Ricardo (1772-1823), developed tools of economic analysis based on a "labor" theory of value. With this theory they sought to analyze production and distribution in terms of the division of labor and of the exchange of goods embodying equal quantities of labor. For various reasons, some political, most contemporary economists no longer do this. As we will see, they prefer to begin with theories of choice.

The sphere of distribution includes the distribution of two things: the wealth that workers produce for human consumption and the wealth they produce as resources for future production. In many small-scale societies the distribution of wealth is fairly direct. Either the producers consume what they themselves produce or they share their production among themselves according to traditional rules of kinship. In a capitalist economy such as that in the United States, the sphere of distribution is organized primarily through markets. That is to say, the wealth people produce through their work is then sold to them by the capitalists for whom they have worked. Because wealth is by no means distributed equally, the issue of wealth distribution -- what it is and why -- is one that has interested many economists.

Market economies function largely through the use of money and are generally called money economies. The workers, for example, are paid wages in the market for their labor and spend those wages in the market for the goods they have produced. The capitalists use the money they receive in payment for the goods to pay their bills, including the workers' wages, and they either pocket or invest (hire more workers and buy more machinery) whatever surplus (profit) remains. In such situations money is used as a standard of price and one of the central areas of study in economics has been the analysis of the forces that determine prices.

In societies such as the Soviet Union, people's lives were also organized around work and they too had to use their wages to buy goods and services from those for whom they worked. However, in the Soviet version of capitalism (which many call "socialism"), the central government acts as the collective capitalist owning and overseeing most production and distribution (and sometimes setting prices directly rather than allowing them to be determined by market forces).

This role of the government is somewhat different than in the United States where the role of the state is less pervasive and individual corporations are allowed greater independence. The role of the government in the economy has less to do with setting prices and allocating resources directly (although this is done in some cases) and more to do with using its powers of taxation, spending and law making to shape the environment within which private corporations organize production and distribution. Although it is also true that the state uses its powers of taxation and spending to encourage and discourage various industries thus directly shaping the pattern of economic development.

In both the United States and in socialist countries there are some spheres of production and distribution that are organized outside of market arrangements. In both cases there is considerable domestic or home production that is not distributed through markets but is allocated directly to family members. In the United States the government allocates some goods and services directly to citizens, e.g., surplus foodstuffs or public health services. In socialist countries the prevalence of such allocations is greater and includes such things as most housing.

The sphere of distribution also includes the distribution of resources to productive units. Foremost among these "resources" is the human capacity to labor, i.e., to work productively and creatively. In many capitalist systems, as in the United States, such distribution is accomplished primarily through markets. Most people are forced, because they have little access to the tools and land necessary to produce their own wealth, to sell their capacity to work to capitalist firms. Yet people do have some choice as to where they will work and for which corporations. In the Soviet Union there was somewhat more government allocation of people to jobs and less individual choice (This has often been overstated. In reality there was actually more room for individual manoeuvre than most commentators in the West realized, or were willing to admit.)

The same is true for other resources such as raw materials, plant and equipment. In the United States corporations sell these resources to each other. In socialist countries this also occurred, but again the government has overseen these sales more closely, having considerable say about which corporations get what.

Beyond the spheres of production and distribution there is one other sphere that concerns social wealth: that of consumption. However, until very recently the sphere of consumption was not considered a suitable subject for economic study. Economists limited themselves to analyzing consumer behavior in the marketplace because this behavior creates the supply of labor and the demand for goods and services and helps determine their price. The allocation of goods within the home or community was, for a long time, generally considered to be better suited for such fields as home economics or perhaps sociology and psychology. This has only changed in the post-WWII period.

Economics as the Study of the Allocation of Scarce Resources

There are two focal points to this second approach to defining economics. The first is the focus on allocation, or choosing among alternatives. The second is the emphasis on scarcity.

The preoccupation with allocation in economics has evolved into seeing economics essentially as a theory of choice --of the logical processes through which people choose among alternatives. Thus, economists study how individuals, corporations and the government choose to allocate their resources.

In the case of individuals, economists study how they choose to allocate their time between working for a wage and leisure, how they choose to allocate their wage among various goods and services they can buy, and how they choose to allocate those goods within the family. In most theories of individual choice, it is assumed that individuals make their choices in the light of factors over which they have no influence, e.g., the wage rate available to them, the prices they must pay for goods, the amount of money they have available and so on.

In the case of the business firm (most commonly today this is a limited liability corporation), economists look at the decision about which goods to produce, what combination of inputs to buy to produce them and, in some cases, what prices to charge. Here again it is often assumed that firms face given prices of inputs, a given demand for various products and a given array of available technologies.

In the case of the government, there are two areas of economics that study decisions about economic policy. Macroeconomics focuses on two things: first, what is called fiscal policy or decisions about aggregate spending and its financing, i.e., the mix of taxation and borrowing, and second, it also concerns government monetary policy, i.e., control over the aggregate quantity of money in circulation.

The second area of economics concerned with government choices is called public finance. It is preoccupied with a detailed, disaggregated analysis of how the government chooses to allocate its spending and how it chooses to impose its taxes and organize its borrowing. For example, public finance economists ask questions about the impact on industrial structure of a given pattern of government expenditures or about the impact of a given tax policy on the distribution of wealth.

In all of these cases we can see how the study of choice is aimed at providing theory which can provide useful input into policy making, into the management of various aspects of the “economy,” whether by business, individuals or government.

When economists think about the process of choosing among alternatives, they usually assume what they call "rationality" on the part of decision-makers. By rationality they mean that those doing the choosing are able to rank their preferences (i.e., know they prefer choice A to choice B or vice versa or are indifferent between the two choices). This also implies decision-makers understand the trade-offs involved in choosing A over B or vice versa. By trade-off economists mean what the chooser gives up by taking A instead of B. What they are giving up by not taking B these economists call the "opportunity cost" of A.

Now, we must note that in these analyses of choice, economists assume that decisions are made by individuals or groups acting as individuals. There is little analysis in economics of the actual processes through which groups actually make decisions. That is another subject which economists, for the most part, leave to managers and sociologists (in the case of corporations) or to political scientists (in the case of governments). There is thus a bias in contemporary mainstream economics to analyze choice in terms of individual choice.

The second focus of most contemporary definitions of economics is scarcity. Decision-makers are thought to be choosing among scarce resources. Most economists consider the concept of scarcity to be fairly commonsensical and obvious. That which is not infinite, is, by definition, scarce. Individuals must decide how to allocate their money because they have only limited amounts of it to spend. Firms must carefully calculate how to employ their investment funds to avoid waste because they have only so much money available. If there was no scarcity, if there was an infinite amount of everything, then there would be no choices to be made; everyone could have as much as they wanted of everything. Scarcity, economists never tire of saying, is "a basic fact of life." As we will see a little later, things are not quite this simple.

This preoccupation with the idea of scarcity is closely related to the concept of "opportunity cost" discussed above. One need only be concerned with what one gives up, if it is necessary to give up something. If there were infinite amounts of everything then you could have some of everything and there would be no trade-offs. The most common textbook example of this is that of allocating resources among various areas of production. If resources are limited (scarce), then by using them to produce one thing you will have less left over to produce something else.

The traditional Cold War illustration of this relationship, and one that is still relevant these days, is guns and butter. The more resources you devote to producing armaments, the less you have left over to produce food and other necessities of life. The more resources you devote to policing and building prisons, the less you have left over for education, job training, day care, battered women's centers and career counseling.

These, then, are the kinds of problems that concern economists who define economics as the allocation of scarce resources among competing ends. Because the focus is on choosing, rather than on particular spheres of life, this way of defining economics has resulted in a number of new areas being considered fair game for economic analysis. One such we have already mentioned: the sphere of consumption. Another, perhaps a less obvious area, is warfare. The tools of economic analysis have been brought to bear on the problem of choosing where (what targets or objectives) to allocate scarce resources (troops, bombs, fuel, and so on). Not surprisingly, some of the best known economists of the post-World War II period were employed during the war helping to make such decisions.

Is Economics A Science?

Therefore, despite the pretensions of some economists to universal Truth, theories are always historically specific. During its first two centuries (the 18th and 19th) economics was known as political economy. The very title bespoke a consciousness about the way in which economics and the real world of politics were interwoven. The organization and operation of the economy was recognized to be a fundamental political issue. Not only did political economists study the politics of the economy, but commentators on government and politics were inevitably well versed in economics.

Today, except for a few honest souls --usually mainstream economists involved in policy making or their radical critics-- economists have dropped the title "political economy" and prefer the more neutral title of "economics." Along with this change in title has gone a change in image. Economics today is said to be a social "science" --in French it is called la science economique. Some, such as well-known economist Paul Samuelson, have even called it "queen of the social sciences."

The emphasis on "science" is extremely important to many economists (as it is to many other social "scientists" such as sociologists or political "scientists"). Some, such as the conservative economist Milton Freedman, go so far as to declare that in its current form economics is a value-free, or "positive" science.

For many of us, however, this is pretentious, ideological nonsense. It is a somewhat pathetic attempt to imitate the so-called hard sciences such as chemistry or physics which pretend to be immune to value judgements or subjectivity. Without getting too deeply into issues of the philosophy of science, let me just say that there are good reasons to reject these claims by practitioners of the hard sciences. One such reason is the easily observable historical fact that the core suppositions and conclusions of many sciences have changed radically over time. In the language of Thomas Kuhn, the author of The Structure Of Scientific Revolutions, the sciences have undergone many "paradigm changes" in which whole sets of theory have been thrown out completely. One example that Kuhn cites is the shift from Ptolemaic to Copernican astronomy, from an earth- to a sun-centered vision of the universe.

If this is true for the hard sciences, then you can imagine how much more frequently it has happened in the soft, social sciences. I would also like to add that this should not surprise us. Theories are human ideas. Humans and their times change. We should expect their theories to change with them. Moreover, social scientists study human social behavior. Fortunately, that behavior changes over time; we can even say change is essential to it. And if the basic patterns change, then so should the theories we develop about them. It should not be the shame, but rather the pride of those who study social evolution that their subject is not amenable to invariant universal laws --as hard scientist claim about their subject.

I would also like for you to note that "values" are inherent in the very choice of subjects to be examined in social sciences such as economics or political economy. They are also present in the selection of methods and even in the choice of "facts," of what questions to ask and what to ignore.

Some Critiques of the Two Definitions

One of the earliest and best-known examples was Adam Smith's analysis of the division of labor. The case he studied, and from which he drew many important conclusions, was a pin factory. Here he observed the way technical tasks were divided up and organized --and concluded that a key issue in the productiveness of labor was the advantage to be gained from specialized activity. From this observation he and others, such as David Ricardo, went on to draw many insights about economics at all levels: the shop floor, the national economy and international trade.

Later on, Karl Marx (1818-1883), revolutionary critic of Smith and Ricardo, pushed even deeper into the analysis of production. He continued to use a labor theory of value as a tool for analyzing the capitalist organization of life around labor but drew radically different conclusions. He developed a theory of how business exploits people through their labor and called for the abolition of capitalism and for the subordination of work to need.

The second definition of economics, with its preoccupation with decision making (choice) and the conditions of decision making (scarcity) relegates the sphere of production to one area of interest among others --it ignores its central position in capitalist society.

When you examine contemporary microeconomics, which makes the theory of choice its central paradigm, you will discover that its treatment of work is very cursory. Work, or labor, appears as merely one factor of production, one input in the production process. We are only given what are called "production functions" of the sort Q = f (K, L), where output (Q) is a mathematical function of inputs capital (K) and labor (L). Microeconomics' primary interest in production is with the choices business makes in choosing what combination of capital and labor to employ in the production process. BUT, there is no actual discussion or examination of such processes. Instead, contemporary microeconomics leaves the analysis of the process of production to other fields. It would leave the analysis of technology to engineers and scientists and the study of the social and political relationships on the shop floor to industrial sociologists and psychologists. In so doing, it abandons the study of a whole range of activities, which used to be considered part of economics and, as far as I am concerned, still should be.

The abandonment by contemporary economics of the "labor theory of value" was consistent with the demotion of the sphere of production from its central place in economic analysis. If production was no longer considered to be the central sphere of economic activity, then why retain a theory that took labor in production as its measuring rod of value? As the definition of economics and the objects of economic study shifted away from production toward choice, the major concern became markets and the determination of price.

Indeed, microeconomics used to be called "price theory" because it was totally preoccupied with the determination of prices through the interaction of demand and supply. The theory of demand is based on theories of consumer choice and of how firms choose inputs. The theory of supply has become a theory of cost (inputs times their price) rather than a theory of production. And together supply and demand determine prices in various markets.

For a long time price theory dominated economics. It was not until the work of John Maynard Keynes (1883-1946) and his followers rejuvenated the old classical concern with production and output that the term macroeconomics was coined and the study of production was reinstated to a position of importance in economics. Even then, however, the Keynesians, as they came to be called, were only interested in aggregate production, the total output of society. They were not concerned with the examination of particular production processes. Even when the Keynesian interest in aggregate output, or aggregate supply, led to theories of growth (as we will see in chapter 2) those theories were formulated primarily in terms of mathematical models and they too eschewed dealing with any detailed analysis of labor.

A second problem with the way contemporary theory takes "scarcity" as a given, eternal, is that by so doing it ignores the historical construction of scarcity. Above you may have notice my reference to so-called "primitive societies" where people did, and in some cases still do, little work. The anthopologist Marshall Sahlins has studied such societies and calls them "the original afluent societies." He calls them this not because they had an abundance of all the thing we do, but because what they desired and needed --limited though they may be-- was abundant and therefore took little work. Beyond the trivial definition of scarcity as "finite," the only kind of definition that makes sense is in terms of the relation between desires and the means to satisfy them. If ones desires are limited in terms of material things, e.g., food, lodging, books, say the way they are for monks or some desert tribes, then satisfying those desire is easy and takes little work. But if ones desires grow and grow and grow beyond what is easily available then more and more work must be forthcoming to produce what is necessary to satisfy them. As we will see in the next chapter on "growth" one of the principal objections to unrestrained growth is that it is a byproduct of artificially augmented desire, i.e., the channeling of desire into the things business dreams up to sell via advertising, as opposed to the free development of desire which might otherwise move in directions requiring neither things nor production for satisfaction, e.g., better personal relationship, better self-understanding, better harmony with nature, etc.

Now it must be said that although economics based on choice theory ignores most important aspects of production, it does, as I have already pointed out, deal with the sphere of consumption --something which was largely excluded under the first definition. Not only did the classical economists largely ignore this sphere but even their critic, Karl Marx, failed to study consumption seriously.

It may be that the reasons why contemporary economics has shifted its attention to this sphere are primarily historical. In the 18th and 19th Centuries when people were being forced by the politically ascendant capitalist class to work 12 or 14 or more hours a day, seven days a week, at very low wages, there really wasn't much to be said about consumption because there wasn't all that much of it, except among the rich. But in the 20th Century as workers' struggles forced down the amount of work they had to do and forced up their wages and access to social wealth and the sphere of consumption expanded considerably. It is not unreasonable, I think, to suggest that economics shifted to include consumption partly because of these changes.

In the macroeconomics developed by Keynes you will discover that the analysis of consumption, at least at the aggregate level, plays as important a role as that of aggregate production. In microeconomics the theory of consumer behavior is usually the first subject studied and is designed to explain the structure and changes in the structure of consumer demand. I would suggest that consumption occupies an important place in both these areas of economics because the successes of workers in expanding the sphere of consumption has forced economists to deal with it. Business needs to understand consumer demand in order to figure out how to use it (to sell goods) and to manipulate and limit it (advertising).

The recent development of microeconomic analysis of economic choices within the family grew out of similarly concrete historical preoccupations. In the early 1960s economists came to believe that much of the economic growth of the previous decade had been caused by an increase in the quality of human labor. Therefore, they concluded that to foster growth in the future, investments should be made in the reproduction of the labor force. Monies should be spent in support of education, welfare, better health and so on. But to allocate such investment intelligently, they needed to understand how individuals and families made their own decisions about economic matters. So, economists Gary S. Becker (1930 -) and Theodore W. Schultz (1902 -), among others, began developing theories of human capital. They did this by applying the tools of microeconomic choice theory to the home.

So far, I have specified two critiques of our two definitions and the approaches to economics that they embody. First, the contemporary focus on choice tends to disregard many aspects of production that deserve closer attention. Second, the earlier definition that did focus on production tended to disregard the sphere of consumption --a sphere that today deserves much attention.

In both cases we have a problem because "economic" just as “the economy” is given a narrow definition. Yet this is not just a problem of definitions of economics. It is a problem that recurs in each field of knowledge. When we examine sociology, anthropology, psychology, or political science, we find the same difficulty.

This pervasive problem stems from the creation and maintenance of a division of labor among academics. Social scientists have carved out areas and formed professions around those areas just as hard scientists have done. Where hard scientists have created a division of labor in the study of the so-called natural world, social scientists have created the same kind of division of labor in the study of human society. On the face of it, this is a reasonable way to proceed. After all, each individual cannot study everything. On the other hand, the narrowness of these divisions constantly leads to practitioners in one area ignoring things that others have demonstrated to be important.

One response to this has been to redefine the subject matter of the professions, e.g. in economics the sphere of consumption has been added to those of production and distribution.

Another response, and one every student of economics should consider, is to become familiar with the methods and studies of the other social sciences. If you educate yourself in a multi-disciplinary manner, then you will be able to bring to bear on any particular subject that interests you, all the work that has already been done regardless of whether it is in your "field." Such education creates a healthy skepticism of the limits to any discipline, however defined. Indeed, the very term "discipline" can come to provoke a desire to rebel against arbitrary limits on research and knowledge. Once you are clear about what interests you, what you want to study and where you want to act, then it doesn't matter what "field" you choose.

For example, suppose that you agree with the classical economists and Karl Marx that work is the central organizing activity in capitalist society and you are interested in why and how this centrality came to be. You would probably find it useful to study not only what economists have to say about work but also what other social scientists, historians and even physical scientists and engineers have to say about work. In other words your research and action would be directed by your interests as a person in society and not by your adherence to some given profession. The way academia, business and government are organized you may need a professional degree to get a job, but there is no need to allow that to limit your curiosity or your studies.

The implication of these comments is that finding a "proper" or even "the best" definition of economics need not consume any more of our time. We can leave it where we began, with an understanding that economics is what economists do and what they do is to study what they call the economy, however defined, in order to figure out how to manage it.  What we need to do, whatever our field, is to identify those aspects of life that interest us the most, either those that need to be changed or those we would like to develop. Then, on the basis of what we learn, we can decide how to proceed to achieve our ends.

Concepts for Review

Questions For Review

Further Reading

Smith, Adam. The Wealth of Nations (1776).
Ricardo, David. The Principles of Political Economy and Taxation (1817).
Marx, Karl. Capital (1867).
Freedman, Milton. Essays in Positive Economics (1953).
Kuhn, Thomas. The Structure of Scientific Revolutions (1962).
Sahlins, Marshall. Stone-Age Economics (1972)