The atomic unit of economics is the transaction. All analogy is suspect, but that one is better than most. There are “particle physicists” who study things smaller than atoms, and “chemists” who study the interaction of atoms without much concern for smaller units. Similarly, we have psychologists who study the internal details of people’s interactions with one another, and economists who study the interactions themselves and their ramifications. Particle physicists and chemists each gain some information from the other’s work, but their interactions are minimal. Similarly, psychologists and economists learn from one another, but (e.g.) studying pedophilia doesn’t give much insight into the price of eggs in Estonia, and vice versa.
There are several types of transactions, though many fewer than there are types of atoms. The word “transaction” is cognate with “transformation”, and that makes sense because, like a transformation, a transaction begins with an initial state and, via some action or set of actions, results in a different resulting state.
The most common type of transaction, and the one most fundamental to understanding an economy, is the exchange or trade. It begins with the initial state
A has X, B has Y
and the process results in the final state
A has Y, B has X
Chemical reactions do not occur without something to drive them. Similarly, economic transactions do not occur unless some force promotes them. That force is want, which can be understood in either of its two most common usages: lack and desire. At this level of analysis, the two meanings are identical. A person who lacks food desires some; a person who desires food is in lack of enough to satisfy that desire. Either way, want drives the “exchange” transaction.
That sets up additional conditions for the initial and final states. If we start with the initial conditions above, we can add four possibilities for want:
- A wants X.
- A wants Y.
- B wants X.
- B wants Y.
They can then be combined:
- A wants X, B wants Y.
- A wants X, B wants X.
- A wants Y, B wants Y.
- A wants Y, B wants X.
Beginning with the initial state, there are then four possibilities:
- Each is satisfied, that is, each wants what they have. No transaction occurs.
- A is satisfied, but B is not. B would prefer that the transaction occur, but A resists. No transaction occurs.
- B is satisfied, but A is not. A would prefer that the transaction occur, but B resists. No transaction occurs.
- A and B are both dissatisfied. The transaction occurs, driven by mutual want, ending in the final state.
The transaction thus transforms state 4 to state 1: at the beginning both A and B are dissatisfied because they want what the other has. At the end each is satisfied by having what they want. As is required by the laws of physics, the process includes (an analogy to) entropy, that is, it isn’t reversible if only that limited set of conditions is considered. Reversing it would convert state 4 to state 1, which goes against the wants of both parties and thus requires an external force.
The name of the entropy-analogy is profit. In the transformation of state 1 to state 4 each becomes more satisfied, that is, each profits by the exchange. More subtly, A and B are in the real world embedded in a society, and the fact that each is happier, more satisfied, wealthier than before the exchange translates into greater wealth for that society.
This analysis is not nearly sufficient for understanding all of economics; just so, knowledge of “molecular bonds”, the fundamental unit of chemistry, is not sufficient to understand, say, the synthesis of Teflon® from petroleum feedstocks. However, a wannabee chemist will never understand the subject without knowledge about molecular bonds, and a wannabee economist will never figure out what’s going on without an understanding of transactions, particularly the trade or exchange. Beware of “economists” who claim that state 4 can be transformed to state 1 without external forces; more to the point, be very wary of anyone who claims that states 2 and 3 can be transformed to state 4 without cost. Explosions may result.