What is Economics?

Chapter 1

Scarcity and the Factors of Production

Section 1

Questions to ponder…

How would you define the study Economics?

What factors influence the choices you make?

What does it mean when something is scarce?

Scarcity

How does scarcity force people to make economic choices?

Scarcity forces all of us to make choices by making us decide which options are most important to us.The principle of scarcity states that there are limited goods and services for unlimited wants. Thus, people need to make choices in order to satisfy the wants that are most important to them.

Scarcity and ChoicePeople satisfy their needs and wants with goods and services.

People’s needs and wants are unlimited, yet goods and services are limited.

Economics begins with the idea that people cannot have everything they need and want.

The fact that limited amounts of goods and services are available to meet unlimited wants is called scarcity.

Scarcity forces people to make choices but it is not the same as a shortage.Shortages are temporary while scarcity always exists.

What are the Factors of Production?

An entrepreneur’s first task is to assemble the factors of production: land, labor, and capital.

LandLand refers to all natural resources used to produce goods and services.

These resources include:Fertile land for farmingOilCoalIronWaterForests

Labor

Labor is the effort people devote to tasks for which they are paid.

Labor includes:The medical care provided by a doctorThe classroom instruction provided by a teacherThe tightening of a bolt by an assembly-line workerThe creation of a painting by an artistThe repair of a television by a technician

CapitalCapital refers to any human-made resource that is used to produce other goods and services.An economy requires both physical and human capital to produce goods and services.

Physical capital includes:BuildingsEquipmentTools

Human capital includes:A college educationTrainingJob experience

Opportunity CostSection 2

Factors Affecting Decision-making

How does opportunity cost affect decision making?

Every time we choose to do something, like sleep in late, we are given up the opportunity to do something less, like study an extra hour for a big test.When we make decisions about how to spend our scarce resources, like money or time, we are giving up the chance to spend that money or time on something else.

Trade-OffsAll individuals, businesses, and large groups of people make decisions that involve trade-offs.

Trade-offs involve things that can be easily measured such as money, property, and time or things that cannot be easily measured, like enjoyment or job satisfaction.

Opportunity Costs

In most trade-offs, one of the rejected alternatives is more desirable than the rest.

The most desirable alternative somebody gives up as a result of a decision is the opportunity cost.

Decision-making Grid

Using a decision-making grid can help you decide if you are willing to accept the opportunity cost of a choice you are about to make.

Thinking on the Margin

When you decide how much more or less to do, you are thinking on the margin.

Deciding by thinking on the margin involves comparing the opportunity costs and benefits.This decision-making process is called a cost/benefit analysis.

Marginal Costs and Benefits

To make good decisions on the margin, you must weigh marginal costs against marginal benefits.

The marginal cost is the extra cost of adding one unit such as sleeping an extra hour or building one extra house.The marginal benefit is the extra benefit of adding the same unit.

Once the marginal costs outweigh the marginal benefit, no more units can be added.

Cost/Benefit AnalysisThe cost/benefit analysis below shows the opportunity costs and benefits of extra hours of sleep against extra house of study time.

What is the opportunity cost of one extra hour of sleep? What is the benefit?

Decision-making on the Margin

Like opportunity cost, thinking at the margin applies not just to individuals, but to businesses and governments as well.

Employers think at the margin when they decide how many workers to hire.

Legislators think at the margin when they decide how much to increase government spending on a particular project.

Production Possibilities CurvesSection 3

Production Questions…

How does a nation decide what and how to produce?

To decide what and how to produce, economists use a tool known as a production possibilities curve.

This curve helps a nation’s economists determine the alternative ways of using that nation’s resources.

Production Possibilities

Economists often use graphs to analyze the choices and trade-offs that people make.A production possibilities curve is a graph that shows alternative ways to use an economy’s productive resources.

To draw a production possibilities curve, an economist begins by deciding which goods or services to examine.

Productions Possibility Curve

Production Possibilities Frontier

The line on a production possibilities curve that shows the maximum possible output an economy can produce is called the production possibilities frontier.

Each point on the production possibilities frontier reflects a trade-off. These trade-offs are necessary because factors of production are scarce.Using land, labor, and capital to make one product means that fewer resources are left to make something else.

Efficiency

A production possibilities frontier represents an economy working at its most efficient level.

Sometimes an economy works inefficiently and it uses fewer resources than it is capable of using. This is known as underutilization.

Growth

A production possibilities curve can also show growth.

When an economy grows, the curve shifts to the right.However, when an economy’s production capacity decreases, the economy slows and the curve shifts to the left.

Cost

Production possibilities curves can be used to determine the opportunity costs involved in make an economic decision.

Cost increases as production shifts from making one item to another.The law of increasing costs helps explain the production possibilities curve.

As we move along the curve, we trade off more and more for less and less output.

Law of Increasing Costs

Technology and Education

Technology can increase a nation’s efficiency.Many governments spend money investing in new technology, education, and training for the workforce.