Introduction Principles of Microeconomics 2013

Boris Nikolaev

Why bother studying economics?"The ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back."

-- Maynard Keynes

• It matters.

Diversity of Ideas (How vs What)Classical Liberalism

• Anarcho Capitalist• Public Choice• Chicago School• Natural Rights• Austrian Economics

InstitutionalismKeynesian EconomicsEvolutionary EconomicsNeoclassicalBehavioral…and the list goes on.

Interdisciplinary Approach

• Evolved out of the field of moral philosophy.• Economics as the study of human action.

Economics…

• Gives you a unique perspective about the world.

• Challenges you to think about variety of ideas.• It matters.• And, ultimately, is related to the other social

sciences.• And, yes, it is FUN.

Short history of economics

• Tradition – 99% of human history• Authority – around 5000BC • Free-markets. Meritocracy.

Life in Early 1900’s

New York in 1900’s

A Typical Street in the 1900’s

Economics theorieso Classical economics - up until the 1930’s.

o Limited government, economy is self-regulating.o Keynesian Economics. 1930’s GD.

o Need for government intervention. Animal spirits.

o Monetarism. 1970’s stagflation.o Crisis are caused by monetary policy. Supply-side

is also important.o The Great Recession

o Economics has failed to predict the crisis. Revision of economic assumptions and ideologies.

• Other schools: Institutional, Marxist, Evolutionary, Austrian.

Some questions that economists try to answer?

o Which economic system is better -- capitalism or communism? o Why do we have a government? What is the proper role of

government in the economy?o What is the effect of war on the economy?o Should we legalize drugs? …or prostitution?o Is the minimum wage law effective? What about rent control?o We live in the richest society ever. But are we happier?o Can economist determine prices?o Should we have anti-trust laws? – i.e. Is big business better for

the economy than small business?

Unintended Consequenceso Actions have unintended consequences.o Could be good or bad, desired and undesired.o Example 1 – cotton subsidies.o Do you support government price support?

GOOD INTENTIONS GOOD RESULTS

o Example 2: Endangered Species Act

Example: The Prisoner’s Dilemma GameThe dark side of rationality

Evolutionary Economics/ Psychology

Conclusions:

The Prisoner’s Dilemma Game

Let’s see how the prisoner’s dilemma game plays itself out in the real world.

What is Economics?“Economics is the study of man in the ordinary

business of life” Alfred Marshall

“Study of choices humans make to attain their goals under scarcity.”

Textbook

CHOICE + SCARCITY = ECONOMIC PROBLEM

Methodological Issues1. Positive vs Normative Economics

Problems with the view that economics should be merely a descriptive science.

Methodological Issues2. Is economics a science?

3. What kind of a science economics is?

4. How much abstraction is legitimate?

Economic Foundations

Five basic economic ideas / assumptions:1. People are rational & self-interested2. Value is subjective.3. Incentives matter.4. People make decisions at the margin.5. Information is costly.

People are rational & self-interested

Assumption: People are rational & self-interested agents that act to maximize their utility (happiness, satisfaction).

• Friedman on Greed [watch here]• Self-Interest vs Egoism

The Virtue of Selfishness• Ayn Rand: “The Virtue of Selfishness”• Moral theory called Objectivism.• “Atlas Shrugged” also by Rand.• Ayn Rand on Objetivism and Altruism [watch here]

Value is subjective.

People respond to incentives

What do you think?

The surprising truth about …

…what motivates us [watch here]

Thinking … at the margin.

Hedonistic Calculus

The right action is the one that maximizes the NET happiness.

• This is based on Bentham’s Utilitarian moral theory (aka calculus of hedonism).

• Max (Benefits – Costs)• John Stuart Mill

Information is costly

• Why is it rational to stay ignorant?

Basic Economic Lessons

• Opportunity cost (what is unseen).• Mutual gains from trade.• Division of labor creates wealth.• Property rights & prosperity• Comparative advantage.• Spontaneous Order• Markets fail. Externalities.

Microeconomics Stimulus ProjectMicroeconomics 2013, Spring 2012

[watch here]

“Economics is haunted by more fallacies than any other study known to man”  H.Hazlitt

Opportunity Cost (what is unseen)

• The value of your next best alternative.

[watch here]

The Cost of College Education

The Opportunity Cost of the War in Iraq

Q&A

• Would it be a good economic decision for Oprah to pick up a $10 banknote that she found on the street? (hint: last year Oprah made $300 million).

Opportunity CostEconomics (and life) is about trade-offs.

REMEMBER: When you decide what to do with your

resources (time, money, etc…), you are also choosing what NOT to do with them.

“There ain’t no such thing as a free lunch.”[watch here]

Mutual gains from trade.

Trade is NOT a zero sum game (all parties benefit).

Let’s demonstrate this.

Comparative Advantage

Division of Labor & Prosperity• Specialization and trade produces wealth.• How much of what you consume you actually

produced?• DL depends on the extent of the market.• Do you think DL is good?

[watch here]

The Economic Way of Thinking

9 month project at Oxford

Property Rights & Prosperity

• The Tragedy of the Commons.

Spontaneous Order

• Adam Smith’s invisible hand.

Markets fail.

Externalities: unintended side effects from otherwise useful transactions. Could be positive or negative.

Public goods: Useful services that tend to be underprovided by the market system.

Asymmetric Information: market transactions fail because one of the parties has better information than the other. Moral hazard, adverse selection.

Governments fail too

Economic Fallacies

• Money is wealth.

Miscellaneous• Micro vs Macro

• Inductive vs Deductive Reasoning

• The Scientific Method

• Generalizations

• Ceteris Paribus (other things equal, all else constant)

Economics as a career

http://www.storyofstuff.com/

http://www.youtube.com/watch?v=jqxENMKaeCU (Home) “We are living in exceptional times. Scientists tell us that we have 10

years to change the way we live, avert the depletion of natural resources and the catastrophic evolution of the Earth's climate.

The stakes are high for us and our children. Everyone should take part in the effort, and HOME has been conceived to take a message of mobilization out to every human being.”