The Undercover Economist

Top 20 Insights:

1. Macroeconomics is the study of the large scale features of the economy such as the growth in Gross Domestic Product (GDP), unemployment, inflation and so forth. Contrast this to microeconomics which is about how much you pay for your cup of tea (and other things).

2. One of Harford’s pleas in the book is to accept the humanity of economists. They aren’t just interested in numbers, they are interested in making numbers work for people. In particular, unemployment is recognised as a great ill which should be minimised and the argument is over how this should be achieved rather than whether it should be achieved.

3. Harford highlights that money fulfils three different functions. It’s a medium of exchange, to save us from bartering. It’s a store of value, we can keep money under the bed for the future – something we couldn’t do with our valuable goods if they were valuable. And it is a “unit of account”, a way of summing up your net worth over a range of assets.

4. The heart of the book plunges into whether, and how, governments should respond to recessions. Anyone who reads it will get a passing understanding of when, say, a Keynesian approach is warranted, and when it is not.

5. Money is a store value. It enables people to transact, but it is not actually worth what it claims.

6. Moderate inflation is desirable for forward motion. Hyperinflation is clearly not. As the analogy goes, an occasional drink can kick-start an evening, but drinking constantly or excessively is not a good idea. Deflation is bad all round.

7. Management quality in companies varies a lot: a typical Tanzanian worker produces in a month what an American produces in a day. The countries with the worst managers are India, China, Brazil and Greece.

8. An economy’s output is constrained by the demand for goods and services

9. An economy’s output is sometimes constrained by their potential supply

10. A hundred or so years ago a man called Bill Phillips invented an extraordinary machine called the MONIAC (Monetary national Income Analogue Computer). This was a hydraulic machine that used liquid to represent the value of different parts of the economy – tax income, expenditure etc. Reduce or increase one element, and the liquid moves elsewhere to demonstrate the effect on the economy. It proved remarkably accurate.

11. Macroeconomics is all about what is not seen – all the knock-on effects that occur when factors such as taxation, pay, employment and so on, are adjusted. It’s all interrelated, so much of the time the true effects of policies are not really understood.

12. Tim Harford makes it clear from the start that macro matters to all of us! We need credible strategies to control inflation, to improve the outlook for those looking for work and to build and sustain competitive advantage in a global economy whose centre of gravity is changing before our eyes.

13. Day-to-day, the challenge of handling monetary, fiscal and supply-side policies in modern economies is hard; we live in a world of frequent shocks and deep uncertainty about whether we can return to an era of relative stability.

14. Macroeconomics is hard. You've got ten billion products varieties, seven billion people, countless unobservable transactions. The economy is shaped by psychology, history, culture, unforeseeable new technologies, geological and climatic events, computer trades too quick for humans to perceive, and much else. It is a dizzying, imponderable problem. No wonder we struggle.

15. An efficient market reveals the truth about customers. A customer is not forced to buy a product in a market and this makes the market efficient. Both the parties are better off in a trade and makes a choice to to do business.

16. Efficient markets witness a domino effect and a slight change in the price of one product may cause ripples in some other market. But overall the market remains efficient.

17. Negative externalities – what the term means, and how can these problems be reduced for example congestion and pollution can simply be reduce by ensuring that people pay for the costs of their actions – such as clogging up the road with your car, or warming the earth with CO2.

18. Asymmetric information arises when either side of the party in an economic transaction or trade possesses greater material knowledge than the other one. The impact of this situation are far reaching and observed in our daily lives.

19.  Economists study rational behavior, but the more rational the behavior of stock market investors, the more erratic the behavior of the stock market becomes. We learn how a market full of unexploited opportunities offers big rewards to any investor willing to research them and how a ‘rational’ investment in Grolsch beer keeps the market nearly-random.

20. According to Harford he is not convinced by different explanations for the poverty prevailing in the third world. He depicts a picture where he believes corrupt governments are sole reason and general cause for the condition of poverty. Poor countries should have higher return on investment as they have high scope of impact for the same amount of investment in rich countries by theory of “diminishing returns”.

Key Takeaways

The economy has a huge influence on every small decision you make every day.

Sipping a morning cappuccino, have you ever wondered how that cappuccino is made? Probably not. However, you should ask that question, because it can reveal about your economy, and your life as well.

Simple things, even a cappuccino, are the result of economics' ability to bring together many different branches.

Imagine making your own cappuccino. Where will you start? First you need to grow the coffee, then harvest the beans, dry and then dry them. You also have to raise a cow, get milk, and then design and shape a glass. Finally, you will need to have a coffee machine.

Can you do all that on your own? It seems that is not possible. You need to rely on an economic system, especially the division of labor in the world, to produce the drink you drink every morning.

Instead, you make the decision to buy your morning coffee. The price of that cup of coffee is closely related to the entire economic system.

In general, the more scarce resources are, the higher the price will be. But this is not always true. For example, you might think that all coffee shops use the same resources, so the price of coffees is the same. But that's not the case.

In the UK, a station cafe chain with the name ATM has far higher prices for its products than its competitors. Is it because they sell a very rare coffee? Absolutely not. The reason ATMs are able to offer such rates is because the locations they own – in train stations – are extremely rare.

A lot of people drop by here every morning they go to work, and that increases the demand for ATM space. With no competitor able to own a location as special as that of an ATM, the rising prices for ATM services are evident.

It is also the intersection between customer satisfaction needs and venue rental fees that make ATM coffee prices soar.

This is just a small example to help you see life through the eyes of an economist, so you can better understand the world around you.

Companies use a variety of strategies to get us to pay the highest possible price for their products.

All the goal of companies, no matter how nice they are, is to reach you, the customers, so that you are willing to pay the highest possible price for their product, and they use a lot of money. There are many different strategies to do that.

Obviously, they can't ask you directly how much you want to pay, because they simply won't be able to get an answer. Therefore, companies have to use a lot of "tricks".

One way is to offer a range of products that are slightly different, have similar production costs, but have different selling prices.

Companies like Starbucks have adopted this approach. Instead of just offering one type of coffee, they offer a wide variety of coffee products at different price points. For example, you can have a large latte with a lot of cream for just $1 more than a small cup of coffee with nothing. By offering options, they ensure that each customer can pay the maximum for their product.

However, not everyone can afford to pay the same maximum price. Companies compensate for this diversity by dividing strategies into different customer groups. Examples include “super deals” or “student options” or events at the theater or public transport.

The idea is to ensure that groups of customers who can't afford to pay high prices can still use the company's products and services, while at the same time ensuring that "ordinary" customers, who earn a higher income high income, still paying the highest price.

Even if companies offer more than one version of the product, they will try to keep you from buying the lower priced version.

For example, IBM sells two printers: the low-end “LaserWriter E” and the high-end “LaserWriter”. The first is cheap and the second is expensive, but that's not the only difference. IBM intentionally installed a chip in the cheaper category to slow it down and encourage wealthy customers to buy more expensive products.

Companies are always trying to get you to pay more than you need to pay. Being alert to these things can help you avoid them.

Companies can be very clever at "taking" money out of your pocket. There are many ways you can save money, and it depends on you, on your ability to practice smart spending habits.

First, be aware of where you buy from. Look closely, for example, that companies often use a price-target strategy, where they sell the same goods or provide the same service but at different prices, depending on the market and location.

In London, there are two Marks & Spencer Simply Food stores just 500 meters apart. In the store located at the subway station, all products are up to 15% more expensive.

They did this because customers at subway stations often have very little time to shop, they just want to walk in, pick a line and then leave. Therefore, customers here are less concerned about the price of the product.

Second, don't make the mistake of thinking that products in stores that are on sale are cheaper than elsewhere. While these products can generally be said to be cheap, if you're looking for a specific product, there's a good chance they'll have the same products at a premium price point as the higher-end stores.

So the trick here is don't look for cheap stores, but look for specific products.

Finally, supermarkets often set prices at random, so be alert to how prices change to avoid being scammed.

For example, supermarkets often set triple the price for vegetables, just to see how that affects purchases. Customers who are price conscious in the market will choose other vegetables, while those who are not price conscious will pay a higher price than usual for their choice.

After all, it's up to you to make sure companies don't take advantage of your thirst for gratification, or your laziness.

Now that we understand a little bit about the functions of economics, in the next pages we'll see what can happen when those functions don't work properly.

An information leak can skew the entire market.

In the media and lecture halls in the economics departments of universities, there are many people repeatedly praising the intelligence and fairness of the free market system, which they believe is the most effective method in ensuring that people can get what they need, at the best and most reasonable prices.

However, this market has a huge problem: It is very fragile when people are faced with the problem of limited (or hidden) information. It is also known as the “information gap”.

A very common example of this problem can be found in the used car market. When you buy a used car, you can end up selling with a “peach” (a used car) or a “lemon” (a car that is truly a “junk”) .

As a potential customer at a used car dealership, you have no way of knowing which is a "peach" or a "lemon". Only the seller can know for sure.

If the customer's budget is quite small, about $1,500, he is assured that the seller only offers him "lemons". However, if there is more, about $4,000, your chance of getting a "peach" is still only 50/50, because only the seller knows that.

Faced with these problems and the lack of vital information, a wise customer will not offer a price up front, without having a chance to get the "peach". And if this happens, the market will be ruined.

This is only true when the information comes from one side or is asymmetrical. However, if neither the seller nor the buyer can tell if the car is a "peach" or a "lemon," the buyer has a good chance of getting the car for as low as 50/50.

For markets to function smoothly and fairly, there must be an exchange of information. Without them, there would not be a good business.

We need to make sure that the downside of a product is included in the price we pay.

Does the market really provide customers with the best products they expect? That depends on your needs. If you value fresh air or clear traffic, then you probably won't be satisfied when stuck in heavy, smoky traffic on your morning commute. So how can we calculate this?

The free market theory states that if each individual's needs are satisfied, the whole society will benefit. However, this theory fails when it comes to the possible consequences of our behavior.

In other words, if you want to buy a car, the market is supposed to give you what you want at a price that's fair and beneficial to both the seller. But there are hidden social costs behind the calculation that are not included in the retail price.

All cities in the world suffer from air pollution as a result of the dense volume of exhaust gases from vehicles. Not only is it harmful to health, but it also makes people less likely to use environmentally friendly means, such as cycling.

To prevent these social costs, the government should intervene in the market to tax the external costs. In general, taxes are added to ensure that activities that address social issues are paid for.

In London, for example, there is a congestion fee that people have to pay when driving into a certain area. Its effect was astounding: traffic was significantly and quickly reduced.

When riding without incurring any additional charges, people will ride even if the distance is very short. Since the introduction of the above fee, people will choose to walk or cycle instead.

However, you cannot put taxes on everything. For example, if someone's behavior is very unpleasant, but not really harmful, then it makes no sense to force him to pay taxes for that attitude.

Misconduct and corruption limit economic development.

One of the most discussed economic issues is why so many countries are poor while others are rich and very developed. Is it because of resources? Or by the type of market they choose? Really, the biggest reason for poverty is simply the wrongdoing of government.

The lack of democracy in governance and elections harms the prosperity of the economy. Often, the core purpose of a local leader is to enrich himself personally, even to exploit the people. In these cases, the national treasury cannot invest in infrastructure or develop people's lives, and cause economic harm.

For example, Cameroon is one of the poorest countries in the world, whose government is run by Biya, whose sole concern is maintaining his own power and wealth.

In addition, dictators need dependent rich people to stay in power. So they turn a blind eye to corruption, and in the long run the economy slows down.

For example, because Cameroon is difficult to govern, Biya must compromise with corruption to maintain his power, through the police and military. The soldiers obeyed him, because they would benefit more from following Biya than joining the democrats. It can be said that his power comes from corruption rather than democratic leadership.

The consequences of corruption are economic downturns: to start a company, you need to bribe the government system. Infrastructure and education system are also severely degraded by lack of support and attention from the government.

The solution seems simple. You just need to remove the cover of the corrupt government to let the money flow. The free market will take care of the rest.

A responsible government is also really needed, however, to make this transition, the lack of individuals responsible in government is the initial difficulty.

Poor countries can become prosperous if they open up and promote foreign trade.

There are many examples of countries that were once poor and now rich. Two of them are Taiwan and Korea. History has proven that the key to their success is to open up international trade.

The economy grows because international trade brings more benefits than being self-sufficient.

Protectionist attitudes towards bartering, in which imports are banned in order to promote domestic trade, would eventually cripple the country's export industry, and other countries would stop exporting as well. goods to that country.

Doing the opposite and promoting foreign trade will help the country get many benefits from the large and diverse international market.

For example, it took decades for Korea to become a prosperous country after opening up to the world. Meanwhile, North Korea, the "sibling" of South Korea, has tensely closed its border in hopes of self-sufficiency. As a result, the country suffered a famine.

However, trading with the international market is still not enough. Once you're here, you have to focus on what you're best at. By focusing on the skills you are most proficient at, you can achieve even more success.

Imagine, for example, that Britain is the best at making TVs and produces one within an hour. China can also make a TV in half an hour, but they are good at making DVD players. While you might think it would be best for the UK to stop trading with China to protect its TV production, the opposite is actually true! If Britain continues to produce what it is best at and then sells it to China, China will focus on selling DVD players to Britain. In this way, both countries get their own profits.

Summary

The main message of this book is:

You can learn a lot about the world if you look at it through the eyes of an economist, and doing so will help you make more informed decisions in life. At the same time, it will also help you better understand why civilizations around the world have their own identities.

Helpful advice:

Buy cheap, don't buy cheap.

Don't make the mistake of thinking that buying from places that are on sale will save you money. In fact, when comparing specific products, stores that are on sale often offer items at the same prices as high-end stores. So instead, you should think carefully about the product you intend to buy, not where you buy it.

Don't shop blindly.

Remember that salespeople may sell you bad products just to make a profit from you. If there is no thorough communication between the buyer and the seller, or if you do not have any information about the product, it is best to stay away from them.