How to Explain the Economy to Your Kids

How to Explain the Economy to Your Kids

If your kids are naturally inquisitive, they may be curious about the economy. They’ve likely heard the word “economy” at school, on the news, or from a conversation between adults. Their questions might be broad, asking about the economy as a concept. Or, their questions might be specific, asking about the price of a particular item and why it increased.

Coming up with an easy way to explain the economy to children can seem like a big challenge. After all, it’s a complex subject, even for those who have dedicated their lives to the field of economics. How can you simplify something with so many moving parts? Segment your explanation into a series of explanations, and start with the basics.

Define the Economy

When talking about the economy with your children, begin with a definition of the word. One simple way to define the economy: It’s the way people spend money and the way people make money.

An economy can be big or small. The word can refer to a local economy, such as the way people spend and make money in a small town or larger city. It can also refer to the economy of a country or to the way money is made and spent around the world.

Next, you can get into the factors that influence the economy. People might spend more or less money during particular times or when certain events are taking place. The amount of money that’s available can also fluctuate depending on local, national, or global events. Many factors are at play.

  • Availability of resources: The amount of resources in an area has an important role in influencing its overall economy. For example, if a country has an abundance of resources, such as plants, minerals, livestock, and water, it’s likely to be able to provide more opportunities for the creation of products, services, and jobs than an area that has few or no resources. This can lead to more money coming into and being exchanged in the area.
  • Availability of people: People are another resource that influences the economy of an area. People can play a role in the health of an economy in a couple of ways. First, it helps to have enough people to fill the jobs required to keep the economy moving. Second, people need to have the skills and knowledge required to perform those jobs.
  • Political and social climate: Social changes and political events also affect the economy. You can use examples to illustrate this concept to your kids. One example is the COVID-19 pandemic, which caused businesses to shut down and unemployment to increase. Another example of how social or political changes affect the economy can be seen when a new president is elected. People typically shop more or less, depending on how they feel about the president’s future impact on the economy.
  • Changes in technology: Technological changes and advancements also affect the economy. Inventions, such as the moving assembly line, made it possible to produce more of an item in a shorter period. Modern technological advances, like robots, accelerate production and broaden the range of jobs that are available to workers.

What Is a Good Economy?

You have a straightforward way of explaining a good economy to your kids. During a good economy, people tend to have enough money to afford the things they need, such as food, clothing, and a place to live. They may also have enough money to buy extra items or set aside savings.

Saving Money in a Good Economy

When the economy is good, we have the freedom to buy what we want and need. We also have more money to save. The “personal saving rate” is the money people save compared to their disposable income, and it’s fluctuated over the years.

How much people save is often a reflection of how the economy is doing. In June 2020, the personal saving rate was 19%. For all of 2019, the personal saving rate was 7.5%. In the time between 2019 and 2020, numerous changes took place in the economy. Personal income levels dropped each month from March through June 2020. In previous years, personal income levels did not drop.

When talking to your children about saving rates and the economy, it can be worthwhile to point out that while saving rates tend to dip when things are going well, it’s still a good idea to set money aside.

  • Interest rates are high: Point out to your children that when the economy is good, interest rates are usually high. High interest rates are good news for people who open savings accounts. The higher the rate, the more growth you’ll enjoy from the money in your account.
  • Savings can boost lending: The more money people put into their savings accounts, the more money banks and credit unions have to lend to people who might want to buy a home or take out personal loans. Having money available to lend encourages people to make purchases, which also boosts the economy.
  • Savings can protect against future uncertainties: Whether the economy is good or bad, saving is always a smart idea. Talk to your kids about how having savings provides financial protection in case of job loss or unexpected expenses.

Job Opportunities in a Good Economy

When talking to your kids about the economy, it’s also worthwhile to explain to them how the overall economy affects the number of jobs available. The unemployment rate in the U.S. shows the percentage of people in the country who are currently without a job.

In good times, the unemployment rate is low. You can point out to your children the reasons why a low unemployment rate is good for the overall economy.

  • People have income: When people have a source of income, they can usually afford the cost of the things they need, such as food and shelter.
  • People are likely to spend more: The more jobs and the more employed people there are, the more likely people are to spend their disposable income.
  • Jobs often create jobs: Low rates of unemployment can often help to create more jobs. You can illustrate this concept to your kids with an example. When many people have income, including disposable income, they are likely to buy more things. That can lead to the creation of new businesses, such as the opening of new stores or restaurants. Those new businesses would then need to hire people, helping to bring the unemployment rate down further.

What Is a Bad Economy?

In a good economy, people have more money than they need to live comfortably. The opposite is usually true in a bad economy. When the economy is in trouble, people often see a drop in income, as well as job loss.

How to Explain a Recession and Depression

Talk to your kids about two terms commonly used to describe a bad economy: recession and depression. Although some people use the terms interchangeably, it’s worth pointing out that they’re different.

The quickest way to explain a recession is through its negative effects.

  • Income levels: People tend to see their income decrease during a recession. If a person doesn’t lose their job, their employer might cut their salary or the number of hours they can work, and their paychecks shrink.
  • Retail purchases: When people have less money, they tend to make fewer purchases. Retail sales are usually down in a recession.
  • Employment: This part can be a bit tricky, as the unemployment rate tends to go up in a recession. While that rate is going up, make sure you tell your kids that it’s not a good thing. The higher the unemployment rate, the fewer people have jobs.
  • Manufacturing volume: Since people are buying less, there isn’t as much of a need to produce. Manufacturers often scale back in a recession. Talk to your kids about the domino effect this can have. When factories close, more people find themselves out of work, and these same people reduce their spending.
  • Gross domestic product (GDP): GDP is the overall measure of economic activity in a country. Explained simply, it’s the value of everything produced by a country, from arts and entertainment to retail sales and attorney services. GDP falls during a recession.

How can you explain the difference between a recession and a depression to your kids? A few features set the two apart.

  • Duration: Recessions don’t last as long as depressions. A recession might last for less than a year, while a depression can last for many years. The Great Depression, for example, lasted for a decade.
  • Severity: A depression tends to be far worse in terms of its effects when compared to a recession. In the Great Depression, output fell by 30% in the U.S, and the unemployment rate jumped to 25%. In contrast, during a recession from 1973 to 1975 (considered the worst since the Great Depression), output fell by 3.4%, and unemployment climbed to 9%.

Saving Money in a Bad Economy

Interest rates drop when the economy is bad. Financial institutions want people to borrow money and boost the economy, so they make loans cheaper. Lower interest rates mean that the money in a savings account won’t earn as much, but it’s still important to save money, nonetheless.

You can point out to your kids that saving money becomes even more important when times are financially challenging. Having money in savings means you have a cushion in case your income drops more or you lose your job.

Job Opportunities in a Bad Economy

Explaining to your child how the economy impacts employment and job opportunities can give them a better idea of what’s going on in the world. It also helps contextualize economic downturn and what it might mean for your family.

Emphasize that there are multiple reasons why someone might lose their job during a recession. A company might have to close for good, while other employers might lay off their workers to save money. As these people lose their jobs, they’re likely going to look for work. However, the number of available positions might not be high enough to account for the jump in unemployment.

If you’re worried that talking to your kids about job loss and unemployment will cause stress, be sure to point out that bad economic conditions usually turn around. The unemployment rate tends to rebound as the economy improves, meaning that many people find work again.

How to Explain Inflation

Depending on your age and your parents’ age, your kids might already have a basic understanding of inflation. If anyone in the family has ever said something along the lines of, “When I was a kid, a soda cost 10 cents,” then your kids know a little about inflation.

The simplest way to explain inflation is that it’s an increase in prices. A soda that cost 10 cents in 1950 might cost around $2 in the 21st century. Even though a person is getting the same type and amount of soda as before, they need to pay more for it now than they did seven decades ago.

Once you tell them that inflation makes the price of things go up, your kids are going to want to know why. In some cases, it’s about supply and demand. When there’s a lot of demand for something, but not enough of the product to go around, prices typically go up.

A recent example of inflation can be seen in the price of food consumed at home in 2020. Prices of food consumed at home were up 5.6% in June 2020,  compared to June 2019. As more people focused on preparing meals at home rather than going out to eat, the demand for groceries rose, leading to an uptick in prices.

Supply-and-demand isn’t the only factor that contributes to inflation. In some cases, prices can rise as a result of an increase in the cost of producing certain goods. If the company that supplies a critical part to a manufacturer raises its prices, for instance, the manufacturer might try to balance out that price increase by raising the price of its goods.

Your kids can see the impact of inflation in their everyday lives. For example, say there’s something they want to buy, like a new bike. When they start saving up to buy the bike, it costs $50, with tax.

If you give your child an allowance of $5 per week, they should have enough money to afford the bike after 10 weeks, but inflation can change the price of the bike. Perhaps there is a greater demand for bicycles, so the price jumps to $75. Your child will now have to save for 15 weeks to afford the same bike.

Talk to Your Kids About Their Spending and the Economy

Even though they might rely on you for their allowance and spending money, your kids are already part of the larger economy. When they buy something, they are contributing to consumer spending.

As consumers, your kids have a lot of power. In fact, consumer spending is so powerful that it’s often the primary thing a government focuses on when they want to pull their economy out of a recession. The more people spend during times of economic difficulty, the more business activity there is and the greater potential for new jobs.

Here are some of the things you can highlight when talking to your kids about their spending power.

  • It pays to search for the best price: Remind your kids that the ball’s in their court when it comes to getting the best price on a product. Encourage them to comparison shop, looking for a store that offers the lowest price on the item they want to buy.
  • It helps to ask what they will get from the product: Encourage your kids to think carefully about anything they intend to buy. Ask them if something they already have can serve the same purpose or if there are better ways to spend or save their money.
  • Encourage them to focus on the real cost of the item: In some cases, the sticker price of the item isn’t the full price. A motorized toy might need new batteries from time to time, and some types of clothing may have complicated or expensive cleaning requirements.
  • Encourage them to focus on the ethics of the item: If you’re interested in raising kids who are conscious consumers, encourage them to think about the effect of their purchase. You might ask them to research the company that makes the product to learn more about its reputation. Prompt them to consider what will happen when the product no longer works or needs replacement. Will they be able to recycle or sell it, or will it have to go to a landfill?
  • Get them to see the big picture: When your kids want to buy something, whether it’s a pack of gum or a big-ticket item, such as a bike or video game console, encourage them to think long term. Will they use the item for years to come or will they quickly outgrow it? Will making a purchase today interfere with their other planned spending or savings goals?
  • Set an example: Kids often model their spending habits after those of their parents. Set a good example by thinking about your purchases and by carefully weighing the pros and cons of what you buy. You can even involve your kids in the decision process when it’s time to make a major family purchase, such as a new car.

Teaching Your Kids About the Economy

Whether you’re talking to your kids about the larger economy or about more personal money matters, you don’t have to fly solo. For kid-centric money activities and tips on raising a financially literate child, visit our WalletWorks page.

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