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Understanding Economics 3 rd edition by Mark Lovewell, Khoa Nguyen and Brennan Thompson Chapter 1 The Economic Problem Copyright © 2005 by McGraw-Hill.

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Presentation on theme: "Understanding Economics 3 rd edition by Mark Lovewell, Khoa Nguyen and Brennan Thompson Chapter 1 The Economic Problem Copyright © 2005 by McGraw-Hill."— Presentation transcript:

1 Understanding Economics 3 rd edition by Mark Lovewell, Khoa Nguyen and Brennan Thompson Chapter 1 The Economic Problem Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved.

2 Learning Objectives  In this chapter, you will: 1. consider the economic problem that underlies the definition of economics 2. learn about the way economists specify economic choice 3. examine the production choices an entire economy faces, as demonstrated by the production possibilities model 4. analyze the three basic economic questions and how various economic systems answer them

3 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Economics Defined  Economics is the study of how to distribute scarce resources among competing ends. Microeconomics focuses on individual consumers and businesses. Macroeconomics takes a broad view of the economy.

4 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Economic Problem  Economists deal with the economic problem. Economic agents must continually make choices. Their wants are unlimited. They face a limited supply of economic resources (human, natural, capital)

5 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Economic Models  Economic models: simplify economic reality show how dependent variables are affected by independent variables include inverse and/or direct relationships incorporate a variety of assumptions such as ceteris paribus are classified as part of either positive economics or normative economics

6 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Economic Choice  Economists assume that economic decision-makers maximize their own utility. Decision-makers must keep in mind the opportunity cost of each alternative. Opportunity cost is defined as the utility of the best forgone alternative.

7 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Production Possibilities Model  The production possibilities model is based on three assumptions: an economy makes only two products resources and technology are fixed all resources are employed to their fullest capacity

8 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Production Possibilities Curve (a)  The production possibilities curve shows a range of possible output combinations for an economy. It highlights the scarcity of resources. It has a concave shape, which reflects the law of increasing opportunity costs.

9 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Production Possibilities Curve (b) Figure 1.1, page 8 Production Possibilities Schedule Hamburgers Computers point on graph Production Possibilities Curve 0 1 2 3 1000 600 b c 10000a 9001b 6002c 03d03d Computers Hamburgers e f inefficient unattainable d 900 a

10 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Law of Increasing Costs Figure 1.2, page 10 Production Possibilities Schedule Hamburgers Opportunity Computers point Cost of on graph Computers Production Possibilities Curve 0 1 2 3 1000 600 1000 0 a 100 900 1 b 300 600 2 c 600 0 3 d Computers Hamburgers As the quantity of computers rises, so does their opportunity cost. a b 900 c d

11 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Shifts in Production Possibilities Figure 1.2, page 10 Production Possibilities Curve 0 3 1000 Computers Hamburgers With more computers, the curve shifts out in the next period.

12 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Basic Economic Questions  There are three basic questions any society must answer: what to produce how to produce for whom to produce

13 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Economic Systems  There are three systems to choose from: Traditional economies focus on non-economic concerns and have tight social constraints. Market economies are consumer-centered and innovative but create inequality and instability. Command economies equalize incomes but often have a lack of freedom.

14 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Range of Economic Systems (a)  Most countries have mixed economies. Modern mixed economies include both private and public sectors. Traditional mixed economies combine traditional sectors with private and/or public sectors.

15 Circular Flow Diagram Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved.

16 The Range of Economic Systems (b) Figure 1.4, page 16

17 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Economic Goals  There are seven major economic goals: economic efficiency income equity price stability full employment viable balance of payments economic growth environmental sustainability

18 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. Complementary and Conflicting Economic Goals  Economic goals may be complementary. An example is the relationship between full employment and economic growth.  Economic goals may be conflicting. An example is the relationship between price stability and full employment.

19 Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved. The Founder of Modern Economics  Adam Smith: explained how the division of labour increases production argued that self interest is transformed by the invisible hand of competition so that it creates significant economic benefits stressed the principle of laissez faire, which means that governments should not intervene in economic activity

20 Understanding Economics 3 rd edition by Mark Lovewell, Khoa Nguyen and Brennan Thompson Chapter 1 The End Copyright © 2005 by McGraw-Hill Ryerson Limited. All rights reserved.


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