Ten Principles of Economics Chapter 1 Ten Principles of Economics © 2002 by Nelson, a division of Thomson Canada Limited 1 1 1 1 1 1 1 1

Overview Scarcity and Economics How People Make Decisions How People Interact How the Economy as a Whole Works 2 15 2 15 2 2 2 2

comes from a Greek word for “One who manages a household.” The word Economy . . . comes from a Greek word for “One who manages a household.” 3 2 3 2 3 3 3 3

A household and an economy face many... Decisions? 4 3 4 3 4 4 4 4

? ? Decisions Who will work? What to produce? What resources to use? Who will we sell it to? 5 4 5 4 5 5 5 5

Scarcity... … means that society has less to offer than people wish to have. Managing society’s resources is important because resources are scarce. 6 5 6 5 6 6 6 6

Economics is the study of how society manages its scarce resources Economists study. . . …how people make decisions. ...how people interact with each other. …the forces and trends that affect the economy as a whole. 7 6 7 6 7 7 7 7

Overview Scarcity and Economics How People Make Decisions How People Interact How the Economy as a Whole Works 2 15 8 15 8 8 8 8

Ten Principles of Economics: How People Make Decisions People face tradeoffs. The cost of something is what you give up to get it. Rational people think at the margin. People respond to incentives. 8 7 9 7 9 9 9 9

How People Make Decisions 1. People face tradeoffs To get one thing, we usually have to give up another thing. Guns vs. Butter Food vs. Clothing Leisure Time vs. Work Efficiency vs. Equity 9 8 10 8 10 10 10 10

How People Make Decisions 1. People face tradeoffs Efficiency means . . . …getting the most you can from scarce resources. Equity means . . . …benefits of resources are distributed fairly among society. 10 9 11 9 11 11 11 11

How People Make Decisions 2 How People Make Decisions 2. The Cost of Something Is What You Give Up to Get It Decisions require comparing costs and benefits of alternatives Going to university vs. going to work Opportunity Cost is what you give up from one alternative (choice) to get what you want (from another choice) 11 10 12 10 12 12 12 12

How People Make Decisions 3. Rational People Think at the Margin Marginal changes are small, incremental adjustments to an existing plan of action. Comparing extra benefits and costs of a critical choice Marginal Benefits => MB Marginal Costs => MC 12 11 13 11 13 13 13 13

How People Make Decisions 4. People Respond to Incentives Marginal changes in costs or benefits from decisions motivate people to respond. Decision to choose one good over another occurs when MB > MC. 13 12 14 12 14 14 14 14

Quick Quiz! How People Make Decisions Identify and briefly explain the four principles of individual decision-making. 14 13 15 13 15 15 15 15

Overview Scarcity and Economics How People Make Decisions How People Interact How the Economy as a Whole Works 2 15 16 15 16 16 16 16

Ten Principles of Economics: How People Interact Trade can make everyone better off. Markets are usually a good way to organize economic activity. Government can sometimes improve market outcomes. 15 14 17 14 17 17 17 17

How People Interact 5. Trade Can Make Everyone Better Off Individuals gain from their ability to trade with others. Competition results in gains from trading. Trade allows one to specialize in what they do best. 16 15 18 15 18 18 18 18

How People Interact 6. Markets Are Usually a Good Way to Organize Economic Activity In a Market Economy, households and business firms determine what to buy, who to work for, who to hire and what to produce. Interaction between household and business is as if by an “invisible hand.” 17 16 19 16 19 19 19 19

How People Interact 7. Governments Can Sometimes Improve Market Outcomes Market failure results in inefficiency - failure of the “invisible hand.” When the market fails (breaks down) the government intervenes to promote Efficiency promote Equity 18 17 20 17 20 20 20 20

How People Interact 7. Governments Can Sometimes Improve Market Outcomes Market failure may be the result of of an externality, which is the impact of one person’s actions on the well-being of a bystander. (example: pollution) Market power is the ability of a single person or small group to unduly influence market prices. 19 18 21 18 21 21 21 21

Quick Quiz! How People Interact Identify and briefly explain the three principles of economic interactions. 20 19 22 19 22 22 22 22

Overview Scarcity and Economics How People Make Decisions How People Interact How the Economy as a Whole Works 2 15 23 15 23 23 23 23

Ten Principles of Economics: How the Economy as a Whole Works A country’s standard of living depends on its ability to produce goods and services. Prices rise when the government prints too much money. Society faces a short-run tradeoff between inflation and unemployment. 21 20 24 20 24 24 24 24

How the Economy as a Whole Works 8 How the Economy as a Whole Works 8. Standard of living depends on a country’s production. Standard of Living may be measured in different ways (e.g. personal income or total market value of a nation’s production.) Differences in standard of living between countries or even provinces is attributable to the productivity of the country or province. 22 21 25 21 25 25 25 25

Productivity => Standard of Living How the Economy as a Whole Works 8. Standard of living depends on a country’s production. Productivity is the amount of goods and services produced from each hour of a worker’s time. Productivity => Standard of Living 23 22 26 22 26 26 26 26

How the Economy as a Whole Works 9 How the Economy as a Whole Works 9. Prices Rise When The Government Prints Too Much Money Inflation is an increase in the overall level of prices in the economy. One cause of inflation is the growth in the quantity of money. 24 23 27 23 27 27 27 27

Inflation Unemployment How the Economy as a Whole Works 10. Society Faces a Short-Run Tradeoff Between Inflation and Unemployment Inflation Unemployment A Short-Run Tradeoff. You Choose. This tradeoff is called the Phillips Curve. 25 24 28 24 28 28 28 28

Quick Quiz! How The Economy as a Whole Works Identify and briefly explain the three principles that describe how the economy as a whole works. 26 25 29 25 29 29 29 29

Overview Scarcity and Economics How People Make Decisions How People Interact How the Economy as a Whole Works 2 15 30 15 30 30 30 30