The Economics of Smaller Units - dummies

By Lynne Pepall, Peter Antonioni, Manzur Rashid

Microeconomics is fundamentally about what happens when individuals and companies make decisions. The idea is to understand how those decisions are made and explore their consequences.

What happens, for example, when prices of houses go up? Well, on the one hand, people are likely to buy fewer or smaller houses. On the other hand, developers may want to build more houses so that they can get more revenue. The result could be a lot of unsold houses! Then there will be pressure to get rid of those stocks of unsold houses, and that leads to lower prices.

When does that process stop? At the limit, the only logical place to stop cutting the price is when exactly as much is sold as is available to sell. This point is called an equilibrium in the housing market — a place where supply and demand are equal.

When people talk about market forces, they’re talking about the outcome of all these decisions taken together. No vast impersonal power called “market forces” exists, just a lot of smaller entities — consumers and companies — making a lot of simple decisions based on signals that come from prices. That’s really all market forces means.

The way markets work seems so impersonal because every one of the smallest units — small companies and individuals — makes up just a tiny fraction of all the decisions taken. Even the biggest corporations or most powerful governments have limitations on their ability to influence the world. Microeconomics also looks at the exception to the rule when a decision-maker — a buyer or seller — is not so small and can influence market forces.

All these small decision-makers do the best they can, given that ultimately they’re acting with imperfect knowledge of a complicated world. People and companies can’t know exactly how much they’ll be earning next year or exactly how much they’ll sell. They just look for ways of making decisions that give them the best chance of doing the best they can — which is about all anyone can ask for in an uncertain world.