An introduction to economics - Lesson 4: Earning a Living

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Earning a Living

The main factor affecting working people’s ability to pay for housing is the economic environment in which they are obliged to earn their living. Again this varies enormously throughout the country so that in some areas the extent and forms of business opportunity and employment may be extensive and numerous whilst in other locations the scope is substantially less.

Various factors will affect the level of earned income that is available to a first time house buyer. In particular cases this will be affected by the earning capabilities of individuals arising from the supply and demand for their skills and abilities. However, the demand for individual skills and abilities is a derived demand - derived from the general level of economic activity available to firms operating throughout the economy. Like the variations in the price of a house, this varies throughout the country so that economic activity in some areas is evidently far greater than in other areas. We need then to consider the implications of this whilst considering the firm as a unit of economic activity.

The Firm as a Productive Unit

In economic terms a firm consists of a single individual or of many individuals working together in the production or delivery of goods and or services. In conventional economic analysis, the extent of a firm is taken to correspond with its definition as a ‘legal entity’. It may thus consist of many production and distribution units scattered throughout the country or indeed the globe. A major disadvantage of using this definition for the purposes of economic analysis is that it does not enable the analysis to take into account a factor of fundamental economic importance – where the production takes place i.e. the location of the production unit or firm. We shall avoid this shortcoming in our analysis by considering every firm to be located at a particular place and time. Our definition thus becomes: A firm consists of one or more individuals working as a unit in the production or delivery of goods and or services at a particular place and time. The production of a firm is thus measured by the value added by the firm’s activities at that place during a particular period.

In a modern trading economy firms produce goods and/or services for sale through a process that involves them in adding value to, and through the use of, various goods and/or services provided by others. Firms purchase or rent the goods and/service that they use from other firms through the market mechanism. However, the market does not operate in the field of goods and services that are provided by the community. You can’t do a deal with the supplier of law and order, national defence, flood alleviation, public roads, the public health or education services etc. You must pay for these indirectly, through taxation.

Hence the barber, shopkeeper, tailor, consultant, manufacturer etc. will use an appropriate array of tools and equipment, materials and wholesale goods and public services and the like in preparing their own goods or services for sale. They will also use suitable business premises that are more or less conveniently located for themselves, their customers and/or their suppliers. The firm’s production or added value can thus be identified as the value that the firm receives from the sale of the goods and services that it produces less the value that the firm has received from the use of the various goods and services that have been provided by other firms and the community in general. The challenge then is to determine the value of service that firms receive from the community in general and equate this with what they pay to the community in taxes.

We may note here that view of production described above is quite different from an accountant’s or businessperson’s view of the firm’s production or ‘profit’. Their perspective on production and profit derive from a primary concern for the interests of the owners of the firm rather than with activities and fortunes of the firm itself. The concern of the economist however should be with that from which the firm’s earnings must derive and this is what the firm actually produces as measured by the value it adds to the economy.

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