Economics 101: Feeling our way

Economics is a social science. That means it’s about people and how people produce, distribute, exchange and consume goods and services.

Even though we often think that economics is about money, or the Dow-Jones Averages, or the price of a bushel of wheat six months from now, or the exchange rate of dollars for euros, or Adam Smith’s theories of capitalism, it’s not. In economics the operative word is social. It’s about human beings and their connections with one another. All of those other things are just symbols or indicators or descriptions of those relationships.

The problem is—and we always need to keep this in mind—human beings aren’t perfect. Nor is their behavior entirely predictable. Generally predictable, often; totally and specifically, never. So while economics might be called a science, it's an inexact one based at best on probabilities.

Why is that? Well, while we so-called intelligent creatures claim to depend on logic, most of the time we are actually reacting to emotions. Emotions are much less calculable than logic might be. So these economic relations are very complex, frequently uncertain, and can easily become volatile.

Which, for instance, is how a stock market crash happens.

Between the day before a crash and the day of a crash very little changes—except how we feel. The intrinsic instrumentality of the vast majority of the companies whose stock prices have fallen has not actually changed. Those businesses still hold the same assets, turn out the same products and cater to the same markets.

Rather, we have changed. We, the people who hold the stock in those companies, have come to feel different. Despite the unaltered nature of those companies, we feel that our shares are less valuable. As a result, we’re willing to sell those shares for lower and lower prices. We react to the fear of others and become fearful ourselves. We crash the market.

It’s even come to the point that we’ve computerized and automated this sell-off reaction, sort of a “sky is falling” program—artificial fear to accompany artificial intelligence.

The same thing has happened to the real estate market. One day we’re willing to pay a certain amount for a house, a month later the same house won’t bring half that price. The house hasn’t changed. The market has. We’re the market.

Economics is about human beings. It’s always about human beings.