Why it's Important to Understand Economics

The case for economic literacy is a strong one. George Stigler, a Nobel Laureate in economics, probably stated it best almost three decades ago when he wrote: "The public has chosen to speak and vote on economic problems, so the only open question is how intelligently it speaks and votes." In Stigler's view, economic literacy is special because it contributes to two classes of knowledge. First, it serves as a "means of communication among people, incorporating a basic vocabulary or logic that is so frequently encountered that the knowledge should be possessed by everyone." Second, it is a "type of knowledge frequently needed and yet not susceptible to economical purchase from experts."

Economic literacy certainly contributes to the first class of knowledge. People like to think and talk about the economic issues that affect them as consumers, workers, producers, investors, citizens and in other roles they assume over a lifetime. Economic literacy also gives people the tools for understanding their economic world and how to interpret events that will either directly or indirectly affect them. Nations benefit from having an economically literate population because it improves the public's ability to comprehend and evaluate critical issues. This understanding is especially important in democracies that rely on the active support and involvement of its citizens.

Economic literacy contributes to a second class of knowledge. For some economic decisions, such as buying a home or investing in the stock market, it is possible to hire professional or technical help when making a choice, but in most cases it is neither economical nor practical for an individual to hire a skilled professional every time an economic decision needs to be made. Even when such advice is given, the final choice must be made by the individual, not the adviser. What this means is that each person must ultimately serve as his or her own economist in making many economic choices, whether those choices involve buying a product, getting a loan, voting on candidates and economic issues, or something else. Economic literacy improves the competence of each individual for making personal and social decisions about the multitude of economic issues that will be encountered over a lifetime.

Economic Education

Whether there is a case for economic literacy, however, is not the most important question that needs to be answered. George Stigler and many other distinguished economists and individuals have already made that case. The more essential question to be asked is: How can we improve economic literacy in our society? Answering that question naturally turns the focus to economic education.

The development of economic literacy must begin in the schools. Even young children are capable of learning basic economic concepts that help them understand their economic world. In the secondary years, that initial foundation can be expanded to include instruction in a broader set of economic ideas and concepts. This additional education gives students greater capacity to understand more complex personal or national economic issues.

Some may think that economics is too difficult a subject to be taught to children and youth, and that such instruction should wait until college. Nothing could be more incorrect. No one would even think of making such an argument for math or science education. Waiting until students are in college to teach economics is simply a matter of "too little and too late." The majority of students end their formal education with secondary school, and even those students who continue their learning at a college or university may not take an economics course. The fact is that the best opportunity for economic education occurs before graduation from high school.

There are three essential ingredients for effective economic education in the schools. First, teachers must be knowledgeable about the subject and be able to help students learn how to use basic economic concepts to analyze personal and social issues. Second, good curriculum guides and instructional materials are needed that present economic content at an appropriate level for the student to understand. Third, economics must have a central place in the school curriculum—similar to math, science, history and language arts—so that substantial classroom time is devoted to economics instruction.

Over the past 40 years there has been a significant improvement in each area.

Teachers now have more economic knowledge because they are taking more economics courses. Instruction in economics in the classroom is more analytical and less descriptive because of the development of curriculum guides and national standards. There are now many high quality textbooks and supplementary materials for instruction. More high school graduates are completing an economics course and more instructional time is devoted to economics throughout the school curriculum.

The Evidence

Although there has been progress, much more needs to be accomplished in the coming decades if we are to produce an economically literate population. A major problem in this nation is that too few students are receiving an economic education before they graduate from high school. A study of high school transcripts shows that only about 44 percent of high school students take a separate course in economics. This course is usually offered in the 12th grade as an elective and lasts for only a semester. Although more states have made economics a required course for students, only 16 states require high school graduates to take some sort of economics course before graduation.

Given this situation—that fewer than half of high school graduates take a course in economics—it should not be surprising that study after study show that there is widespread economic illiteracy among youth and the American public. In one such study, I administered the Test of Economic Literacy, an achievement measure covering basic economic concepts, to 11th and 12th grade students nationwide and found that students supplied correct answers to less than half the questions. In another study I conducted with The Gallup Organization, I found that less than four in 10 high school seniors or adults could answer basic questions about economic terms and concepts that are essential for understanding economic events and issues reported in the news media. No matter what the economic content of questions or the test format, the study results remain the same—youth and adults show a great deal of ignorance when it comes to basic economics.

Youth are aware of their deficiencies because they give themselves low self-assessments of economic understanding in survey studies. Some 87 percent of high school seniors rated their knowledge and understanding of economic and economic issues as only fair or poor. (Among the general public, 83 percent gave the same responses.) One reason for these low self-ratings is that high school students are well aware that they are not receiving an adequate education in economics. When asked whether they were taught a lot, a little or nothing at all about how the economy works, 76 percent said that they were taught little or nothing. (Compare that percentage with the 7 percent who said they were taught little or nothing about mathematics.) In addition, both high school students and the general public had a recommendation for what should be done: Over 96 percent said the nation's schools should teach more about how our economy works.

The Consequences

The question that can be asked at this point in the discussion is "So what?" Why does it matter whether a student has taken an economics course or knows something about basic economic concepts? The answer is that economic knowledge has a direct and substantive effect on people's opinions about economic issues. This relationship can be illustrated with two examples from national survey studies.

The microeconomic example goes to the heart of support for a market economy. One knowledge question asked youth to respond to the following statement: To the best of your knowledge, the prices of most products in a competitive market, like the United States, are determined by: (a) supply and demand for products; (b) the consumer price index; (c) local, state, or the Federal government; (d) the monetary policy of the Federal Reserve. Just five in 10 youth knew that the prices of most products in a competitive market were determined by supply and demand. Two in 10 thought that prices were determined by the consumer price index. Another two in 10 believed that prices were determined by government. The remainder either thought prices were set by the monetary policy of the Federal Reserve or did not know.

Knowing what determines prices in a market economy and accepting the outcomes are two different things. If demand or supply conditions change, prices in a competitive market will rise and fall. Having a basic understanding of how markets work does not always mean that people will like price changes, especially if prices rise, but it should increase the probability of accepting the market outcome.

An opinion question was also asked to probe the degree of support among youth for the operation of competitive markets: A bicycle manufacturer raises the price of bikes because the demand increased even though the cost of producing bikes has not increased. Do you think the manufacturer should be allowed to raise prices? Two-thirds of youth said they were opposed to allowing the bike manufacturer to raise prices, which is certainly not a ringing endorsement of competitive markets. In fact, there are many examples of businesses raising prices based on increased demand. The prices for seasonal clothing are higher at the beginning of the season than at the end. Airfare rises in peak travel periods. Auto dealers raise prices (or give fewer discounts) when particular models become popular.

When you cross-tabulate the responses to the economic knowledge and opinion questions, a distinct pattern emerges. Among youth who knew that supply and demand determined the prices in a competitive market, 60 percent would allow the bike manufacturer to raise prices. Among youth who gave an incorrect response to the knowledge question, only 41 percent thought the bike manufacturer should be allowed to increase prices. The differences in the percentages show that what many youth know about how markets work directly affects their acceptance of the market result.

For a macroeconomic example, the basic economic question was: What is an example of monetary policy? Would it be a change in: (a) the discount rate; (b) a change in Federal government spending; or (c) a change in corporate profits. Only 17 percent of high school students knew that a change in the discount rate was an example of a change in monetary policy. About four in 10 thought it was a change in government spending (fiscal policy), about two in 10 thought it was a change in corporate profits, and another two in 10 did not know.

Although most high school students were ignorant of what monetary policy was, they were quite willing to give their opinion on this monetary policy question: Who should set monetary policy? Should it be: (a) the President; (b) the Congress; (c) the Federal Reserve; or (d) the United States Treasury? This issue is important because it determines whether there will be an independent central bank, isolated from direct political pressure, that can effectively control the money supply and maintain price stability. Only 16 percent of youth thought the Federal Reserve should be responsible for setting monetary policy.

When responses from the monetary policy knowledge and opinion questions were cross-tabulated, they show that there were significant differences in the support for the Federal Reserve having control over monetary policy in the United States based on the respondent's correct or incorrect responses to the knowledge question. Among high school students who could give a correct example of a change in monetary policy, 32 percent thought it should be set by the Federal Reserve, but among high school students who gave incorrect examples only 15 percent thought that monetary policy should be set by the Federal Reserve.

Similar cross-tabulations of opinion and knowledge questions on such topics as unemployment, the federal budget, economic growth, profits or trade protectionism could be performed with survey data to demonstrate the same point. Survey data have also been collected from the general public on these topics and the cross-tabulations show the same patterns as those for youth. The survey findings clearly indicate that what youth and adults know about basic economics affects what they think about an economic issue. What is especially disturbing is that people who have no basic knowledge about an economic issue are quite willing to state an opinion on that issue. This knowledge deficiency affects people's ability to evaluate economic matters and produces uninformed opinions. Among the informed, of course, there will still be differences about what should be done on an issue, but it provides a solid basis for a reasonable discussion of economic alternatives.

The development of basic economic literacy is an important goal for a democratic society that relies heavily on informed citizenry and personal economic decision-making. To achieve that goal will require that significant gaps in the economic education of youth be closed by giving economics a more central place in the school curriculum. More economics coursework at the precollege level sets a foundation for economic literacy, but it is only the beginning. As George Stigler reminded us long ago: "We shall have to combine vast efforts and creative experimentations if we are to produce the first economically literate society in history."

References

Stigler, George J. (1970). "The Case, if Any, for Economic Literacy," Journal of Economic Education, 1:2, 77-84.

Walstad, William B. (ed.). (1994). An International Perspective on Economic Education. Boston: Kluwer Academic Publishers.

Walstad, William B. (1996). "Economic Knowledge and the Formation of Economic Opinions and Attitudes." In P. Lunt and A. Furnham (eds.), Economic Socialization: The Economic Beliefs and Behaviours of Young People (pp. 162-182). Cheltenham, UK: Edward Elgar.

Walstad, William B. (1996). Youth and Entrepreneurship. Kansas City, MO: Kauffman Center for Entrepreneurial Leadership, Inc.

Walstad, William B. (1997). "The Effects of Economic Knowledge on Public Opinion of Economic Issues," Journal of Economic Education, 28:3, 195-205.

Walstad, William B. and Larsen, M. (1992). A National Survey of American Economic Literacy. Lincoln, NE: The Gallup Organization.

Walstad is director of the National Center for Research in Economic Education and Edwin Faulkner Professor of Economics at the University of Nebraska-Lincoln. Since 1992 he has been associate editor of the Journal of Economic Education and is a past president of the National Association of Economic Educators. Walstad, who is the author of several hundred scholarly works in economic education, is also well known for his national assessments of economic understanding and prepared a report on American economic literacy with The Gallup Organization in 1992.

Walstad received his doctorate in economics from the University of Minnesota and served on the economics faculty at the University of Missouri-St. Louis prior to coming to Nebraska.

Five Economic Challenges in 2022

As we begin the new year, we wanted to highlight five topics, beyond the impact of COVID-19 and related uncertainties, that we believe business leaders and policymakers will be grappling with in 2022. Throughout the year, we will focus our efforts to provide solutions-focused analysis on these topics as well as a host of others.

Will labor shortages abate?

Despite strong demand for workers and rising wages, the U.S. labor force is still 3.5 million people smaller than it was prior to the COVID-19 pandemic. Meanwhile, there are 11 million job openings – 3.5 million higher than record set in late 2018. While the number of people quitting jobs has increased (as Chart 1 below illustrates), that trend doesn’t account for all the job openings. How much of this job shortfall reflects caretaking needs and COVID-19 concerns which, as they hopefully lessen, will bring people back into the workforce? Or is there a permanent shift in people’s work choices?

What are the risks of a wage-price spiral?

Inflation hit its highest level in almost 40 years, with overall prices up 6.8% from a year ago. To date, the majority of pickup is the result of an increase in goods prices (red line in Chart 2), which are being bolstered by COVID-driven demand and supply shortages. The risk is that service inflation starts to accelerate as service prices depend more on labor costs. Will businesses be able to offset higher wages with stronger worker productivity, or are we at risk of a vicious wage-price spiral where workers and businesses start to expect larger price increases or fatter wages? Keep an eye out for shifts in unit labor costs (Chart 3) – the difference between compensation and productivity – and inflation expectations (Chart 4).

How much is the cost of capital likely to rise?

With the Fed now expected to raise short-term interest rates in 2022, the cost of borrowing money from banks and capital markets is likely to increase. The median Federal Open Market Committee member has currently penciled in three rate hikes in 2022. Whether that comes to fruition and impacts longer-term interest rates and capital market prices depends on the answer to the two previous questions. How far are we from full employment? Will workers come off the sidelines, lessening wage increases and supply shortages? Is the inflation we are seeing temporary or permanent? Watch two-year treasuries (Chart 5) to see how expectations for the Fed are changing.

What is your crypto strategy?

Crypto is now an institutional asset with a growing number of funds investing in crypto and related infrastructure, such as miners and trading platforms, as well as futures trading on the CME. At of the end of the third quarter in 2021, crypto assets under management reached $60 billion worldwide. That number is likely substantially higher today as the SEC only allowed major-market trading of a crypto ETF last October. But the purpose of crypto is as a medium of exchange – a store of value which can be used to pay for haircuts or car insurance. Will businesses start to accept crypto in a widespread manner? Will crypto ownership become diffuse enough to make it a unit of account, where businesses set prices in crypto? Will mainstream payment systems support those crypto transactions? Will central banks issue government-backed crypto currencies, lessening the value of private-backed crypto?

Is Stakeholder Capitalism the solution?

Stakeholder capitalism is the idea that businesses would improve societal outcomes by focusing on a mandate broader than that which benefits shareholders alone. While this seems like a great idea in principle, it is challenging to implement in practice, especially when the interests of different stakeholders come into conflict and negate win-win solutions. During 2022, Kenan Institute will explore the varied facets of stakeholder capitalism through a series of Kenan Insights, webinars, events and other activities as scholars and business leaders come together to discuss the opportunities and tradeoffs of this complex topic.

Stay tuned for more on these and many other business and policy related topics.

The economic impact of coronavirus: five lessons and challenges

The coronavirus pandemic and the ensuing economic crisis are evolving rapidly in scope and severity. To guide economic policy-makers in the months and years ahead, we need a better understanding of what is happening and what is specific about this crisis. Only twelve weeks into the outbreak, and five weeks since the publication of ODI’s vulnerability analysis , we identified the following economic lessons and challenges to take forward.

What we can learn from the pandemic

1. The economic costs will be considerable

It is clear the cost of the crisis will exceed earlier predictions by the G20/IMF or ODI’s analysis (projecting a 0.1% and 0.5% decline in yearly GDP respectively) and will probably reach at least 1.5% or $1 trillion worldwide.

This would technically mean a global recession (world growth less than 2.5%) with all major regions affected. Analysis suggests Africa’s GDP would be hit by at least $25 billion.

2. The crisis combines demand and supply shocks

Restrictions on people, workers and firms have led to a parallel decline in demand in sectors like travel and entertainment, but also in manufacturing.

Global supply chains are seeing disruption in the supply of components, such as machinery or fabrics from Italy or China, where exports dropped by a fifth in January and February (subscription required). It matters how countries are integrated into such value chains and how diversified these are – those integrated most will be hit hardest.

3. The crisis has spread to the financial sector

Stock markets have declined rapidly, wiping away gains made over the last year in days. Bad loan portfolios will increase and it will become more difficult to issue and roll over corporate and sovereign bonds.

This period of volatility has already seen $42 billion (subscription required) withdrawn from emerging markets as investors seek safety in established markets and currencies. In Nigeria, the fall in oil and stock prices has widened bond spreads and put pressure on the Naira. Global foreign direct investment may also be a sixth lower this year.

4. We are all in it together

This crisis is a leveller that affects the health and wealth of the middle classes, the poorest, and politicians alike.

Low-income countries will be affected through different mechanisms, like downturns in tourism and air transport (African airlines stand to lose $400m), reductions in oil and commodity prices (the halving of oil prices since the start of 2020 will reduce net exports from sub-Saharan Africa by $30 billion), or supply chain disruption (lower fabric imports from China threaten over 100,000 jobs in Cambodia).

But different countries and sectors have distinct economic vulnerabilities, including varied levels of exposure and resilience, which are not deterministic. Those dependent on commodities will always remain more volatile until they have a more diverse production spread.

5. Policy responses matter but differ markedly

There is much debate regarding how countries’ responses differ in terms of health resources, speed and strictness, in addition to fiscal measures. Some like Germany or India have enacted export bans and Cambodia has reduced taxes on garment firms.

Challenges shaping the prospects of low-income countries

1. The global economic recovery in the short- to medium-term

The economic consequences of coronavirus will no longer follow a V-shaped growth pattern, a sharp downturn followed by a sharp upturn. Growth is now likely to be U-shaped, a longer downturn, as news of the Chinese slowdown is compounded by similar news in Japan, Italy, and probably the US and elsewhere in the future.

There is now a real possibility of L-shaped growth, slower growth for some time in 2020 and 2021, if deglobalisation accelerates and the real crisis in supply and demand spills over to financial markets.

2. Coordination of the G20’s actions

The G20 successfully restored confidence in the wake of the 2008-2009 global financial crisis, and a similar rainbow stimulus is required now. Measures should include integrated fiscal and monetary policies, as well as targeted employment measures that take into account the poorest people and countries. Delays might mean a sharper and deeper ‘V’ or deeper and longer ‘U’.

3. How countries emerge from the crisis long-term

Different countries and economic activities will be affected in different ways. How diversified a country’s value chains and production systems are as the global economy comes out of this crisis, alongside their adoption of digital technologies, will be important.

4. The speed and quality of support measures will make a difference

Bridge finance will help airlines, hotels and people overcome a sharp but short recession, but targeted structural change can move a country into a new niche sector and make use of opportunities in services trade. Countries that can engineer this transformation fast will have an advantage.

5. Financing the health sector and the provision of vaccines

In the future, we will need to consider more closely how we finance global public goods such as heath sector response systems, vaccine development or other global challenges like climate change. This needs additional aid as well as non-aid, like developed country research and development budgets, to target finance at the weakest links.