Principles play a critical role in the development of any theory. Including economic theory.
“A fundamental truth or proposition that serves as the foundation for a system of belief or behavior or a chain of reasoning.” from Oxford Dictionary
Reasoning begins with principles. We tend to ignore principles because, frequently, they seem so obvious. When we want to throw a ball over a fence, we don’t think about gravity, air pressure, friction, and other principles. But, they all affect the process of getting the ball over the fence. But, we want to get it over the fence.
To calculate exactly where the ball will land, we must define these principles explicitly and precisely.
The same use of principles applies to economic reasoning.
An infinite number of principles influence economic behavior. Even for sound economic reasoning, many principles can remain implicit. The existence of gravity, weather, the curvature of the earth, etc., can remain implicit unless they play an essential role in our analysis.
To think more clearly and precisely, however, we need to make some principles more explicit.
Many economic principles need explicit statements just to acknowledge their influence. Such statements avoid misunderstanding resulting from mistaken assumptions about the principles in play.
All economic goods come from two fundamental elements: land and labor.
All agricultural and “capital” goods originate with land. Agricultural goods require land on which to grow. “Capital” goods originate from elements either grown on land or excavated from land. Goods that come from water also fall within the category of land.
All goods also require labor for their production. Even the most basic goods found in nature require processing by labor. Hunters and gatherers must expend some labor to make their goods usable.
Value lies at the core of many economic theories. Despite the disagreement about the source and measure of value, all economists agree that value does exist. Because it plays a critical role in developing economic theories, I will discuss the theory of value in more detail in other sections of this blog.
Ludwig von Mises usually gets credit for introducing the “action axiom” to economic thinking. He recognized that all economic activity begins with the actions of individuals.
Mises developed this axiom using pure reason. He realized that to attempt to prove non-action, a person must act—which verifies the validity of the axiom. The axiom requires no empirical testing. Its truth results from reasoning alone.
The principle of exchange might seem obvious. It gets ignored, however, in many discussions of “buying,” “selling,” “international trade,” and other market activities. These terms all represent internal references. (Left and right are internal references; north and south are external references.)
Accurate discussions of market transactions require using an external reference: “exchange.” A consciousness of the principle of exchange reminds people that all market transactions, as observed by third parties, involve two parties.
When discussing internal references, such as buying and selling, we must always ask about the influence and impact on the other party.
The combinations and interrelationships of exchanges created the related principle of “markets.” Most economic theories involve markets.
I include money as a principle because its existence and use remains beyond a doubt. That existence provides the basis for chains of reasoning. Much reasoning regarding money remains flawed because of misunderstanding the definition of money and the source and measure of its value.
I will devote most of “Money Matters” to clearing up much of the flawed reasoning regarding money.
I will discover (or reveal) more principles as I examine various topics on this blog.
Without principles, we cannot make theories. Without the explicit statement of essential principles, precise reasoning becomes difficult.