Post on 22-Nov-2014
description
What is economics?
The word economy comes from the Greek word for “one who manages a household”
A HH faces many decisions
Who cooks dinner
Who does laundry
Who gets extra dessert at dinner
What is economics?
A society faces many decisions too, what jobs will be done and who will do them
Some people should grow food Some make clothing Others computer software
Management of society’s resources is important because resources are scarce.
• Scarcity means that society has less to offer than people wish to have.
• Economics is the study of how society manages its scarce resources.
A choice is a tradeoff -- to get something we have to give up something else
Think of a student allocating her must valuable resource – time
• She can spend all her time studying economics• She can spend all her time studying mathematics• Or divide her time between the two.• For every hour she studies econ., she gives up an
hour she could have used studying math.• For every hour she spends studying, she gives up an
hour she could have spent sleeping, bike riding, watching TV.
Society’s tradeoff
• National defense versus increased production
• Clean environment versus cheaper goods
Another tradeoffEfficiency versus equity
• Efficiency: getting the most from your resources
• Equity: distributing economic prosperity fairly among members
Opportunity Cost
• Opportunity cost is that which we give up or forgo, when we make a decision or a choice.
Opportunity Cost
The cost of something is what you give up to get it: Consider the decision to go to university.
Intellectual enrichment and better job opportunities.
What is the cost:• Tuition• Books• Room and board
Opportunity Cost
• But even if you quit school you still need a place to stay.
• • Wages given up should be considered as
part of the cost of going to university.• • the highest valued alternative we give up is
the opportunity cost of the activity chosen
We make choices in small steps, or at
the margin • suppose your cousin asks you whether he should
go to school one more year.• What is the benefit he gets if goes to school for
one more year? Marginal benefit MB• What is the cost associated with going to school
for one more year? Marginal cost MC• If MB>MC he should go to school for another
year• If MB<MC he should not go to school for another
year.
Microeconomics vs. Macroeconomics
Microeconomics is:• the study of the choices of individuals• the study of decisions made by enterprises, such
as businesses firms• and the interaction of those choices and decisions
in social frameworks, such as markets. Macroeconomics is the study of the national
economy and the global economy as a whole.
Examples of microeconomic and macroeconomic concernsProduction Prices Income Employment
Microeconomics Production/Output in Individual Industries and Businesses How much steelHow many officesHow many cars
Price of Individual Goods and Services Price of medical carePrice of gasolineFood pricesApartment rents
Distribution of Income and Wealth Wages in the auto industryMinimum wagesExecutive salariesPoverty
Employment by Individual Businesses & IndustriesJobs in the steel industryNumber of employees in a firm
Macroeconomics National Production/Output Total Industrial OutputGross Domestic ProductGrowth of Output
Aggregate Price Level Consumer pricesProducer PricesRate of Inflation
National IncomeTotal wages and salaries
Total corporate profits
Employment and Unemployment in the Economy Total number of jobsUnemployment rate
Positive vs normative statements
• Positive statements: claims that attempt to describe the world as it is
• Normative statements: claims that attempt to prescribe how the world should be
Positive vs normative statements
• Ahmet- minimum wage laws cause unemployment• Mustafa- the govt should raise the minimum wage.
Difference between positive and normative statement• Positive: can test their validity• Normative: value judgment
Economic Models
Economists use economic models to understand the world
A model is a formal statement of a theory. Models are descriptions of the relationship between two or more variables
First model: circular flow diagram
Millions of people buying, selling, working, hiring
Economy has two types of decisionmakers
• Firms: produce G&S using FoP (factors of production)
• HHs: own FoP and consume
Factors of Production
• The basic resources that are available to a society are factors of production:– Land– Labor– Capital
• Production is the process that transforms scarce resources into useful goods and services.
• Resources or factors of production are the inputs into the process of production; goods and services of value to households are the outputs of the process of production.
Market for Goods andServices
Revenue
Market for Factors ofProduction
Firms Households
Wage, rent,and profit
Income
SpendingGoods andservices sold
Goods andservices bought
Labor, landand capital
Inputs forproduction
The Circular-Flow Diagram
Production Possibilities Frontier
• The production possibilities frontier (ppf) is a graph that shows all of the combinations of goods and services that can be produced if all of society’s resources are used efficiently
The Production Possibilities Frontier
3,000
Quantity ofCars Produced
0 1,000
Quantity ofComputers
Produced
Y
If we look at productionof both computers and cars,the straight line joining Xand Y shows the combinationsassuming that there is only a single factor of production =>constant trade off between goods
X
The Production Possibilities Frontier
3,000
2,0002,100
A
Quantity ofCars Produced
700 7500 1,000
Quantity ofComputers
Produced4,000
If we look at productionof both computers and cars,the concave line joining Xand Y shows the combinationsassuming that there is more than one factor of production=> changing trade-off.
The Production Possibilities Frontier
3,000
1,000
2,000
2,200
Productionpossibilitiesfrontier
A
B
C
Quantity ofCars Produced
7006003000 1,000
Quantity ofComputers
Produced
D
Note: changing slope => changing trade-off.
The Production Possibilities Frontier: Growth
3,000
2,0002,100
A
Quantity ofCars Produced
700 7500 1,000
Quantity ofComputers
Produced4,000
Change means that more computers can be producedrelative to cars
Scarcity and Choicein an Economy of Two or More
• A producer has an absolute advantage over another in the production of a good or service if it can produce that product using fewer resources.
Scarcity and Choicein an Economy of Two or More
• A producer has a comparative advantage in the production of a good or service over another if it can produce that product at a lower opportunity cost.
Comparative Advantageand the Gains From Trade
• Mary has an absolute advantage in the production of both wood and food because she can produce more of both goods using fewer resources than Bill.
Daily ProductionWood(logs)
Food(bushels)
Mary 10 10
Bill 4 8
Comparative Advantageand the Gains From Trade
• In terms of wood:
– For Bill, the opportunity cost of 8 bushels of food is 4 logs.
– For Mary, the opportunity cost of 8 bushels of food is 8 logs.
• In terms of food:
– For Mary, the opportunity cost of 10 logs is 10 bushels of food.
– For Bill, the opportunity cost of 10 logs is 20 bushels of food.
Daily ProductionWood(logs)
Food(bushels)
Mary 10 10
Bill 4 8
Comparative Advantageand the Gains From Trade
• Suppose that Mary and Bill each wanted equal numbers of logs and bushels of food. In a 30-day month they (each separately) could produce:
Daily Production
Wood(logs)
Food(bushels)
Mary 10 10
Bill 4 8
Monthly Production with
No Trade
Wood(logs)
Food(bushels)
Mary 150 150
Bill 80 80
Total 230 230
A.B.
Comparative Advantageand the Gains From Trade
• By specializing on the basis of comparative advantage, Mary and Bill can produce more of both goods.
Monthly Production after Specialization
Wood(logs)
Food(bushels)
Mary 270 30
Bill 0 240
Total 270 270C.
Monthly Production with
No Trade
Wood(logs)
Food(bushels)
Mary 150 150
Bill 80 80
Total 230 230B.
Comparative Advantageand the Gains From Trade
• To end up with equal amounts of wood and food after trade, Mary could trade 100 logs for 140 bushels of food. Then:
Monthly Production after Specialization
Wood(logs)
Food(bushels)
Mary 270 30
Bill 0 240
Total 270 270D.
Monthly Use After Trade
Wood(logs)
Food(bushels)
Mary 170 170
Bill 100 100
Total 270 270C.
Specialization, Exchangeand Comparative Advantage
• According to the theory of competitive advantage, specialization and free trade will benefit all trading parties, even those that may be absolutely more efficient producers.