The economic way of thinking Chapter 1

Scarcity: the basic economic problem Section 1

What is scarcity? Wants – are desires that can be satisfied by consuming a good or a service Needs – are things that are necessary for survival Scarcity – exists when there are not enough resources to satisfy human wants. Scarcity is not a temporary shortage of some desired thing. Economics is the study of how individuals and societies satisfy their unlimited wants with limited resources

The 2 principles People have wants Scarcity affects everyone

Scarcity leads to 3 economic questions What will be produced? How will it be produced? For whom will it be produced?

What will be produced? Society must decide the mix of goods and services it will produce. Food, televisions, automobiles, computers? What Natural resources do we have? What do consumers want? Do we care what they want? How much do we produce?

How will it be produced? What is the most efficient way? Natural resources influence Including how we use people labor intensive farming or machinery

For whom will it be produced? How much should people get? Equal shares? Pay? How should their share be delivered to them? Trucks, cars, boats, highways, trains, airplanes, mule, magic?

Factors of production Land – refers to all natural resources used to produce goods and services Labor – is all of the human effort used to produce goods and services. It is not just physical work. (Doctors, Lawyers, ETC) Capital is all of the resources made and used by people to produce goods and services Entrepreneurship – involves the vision, skills, and risk-taking needed to create and run business.

Human Capital Workers invest in human capital (The knowledge and skills gained though experience) College degree Job training skills When workers possess more human capital, they are more productive

Economic choice today: opportunity cost Section 2

Key concepts Incentive are methods used to encourage people to take certain actions. Utility is the benefit or satisfaction received from using a good or service Economize means to make decisions according to the best combination of costs and benefits.

Making choices Factor 1: Motivations for choice Choice powers economy What powers choice? Incentives Expected utility Desire to economize Guided by self-interest Not that you behave selfishly! Maximize utility Factor 2: No free lunch “there is no such thing as a free lunch.” Every choice involves costs. Money Time Or something else

Trade-offs and opportunity cost Example 1 – making trade offs Trade-off is the alternative people give up when they make a choice Pizza or wings Movie or studying Job or hanging out with friends Example 2 – counting the opportunity cost Opportunity cost is the value of something that is given up to get something else that is wanted. It is the value of the next best alternative Jobs or hanging out with friends Money or fun

Cost-benefit analysis Is an approach that weighs the benefits of an action against its costs

Choice Benefit Opportunity Cost One hour of study D in Economics Class One hour with friends Two hours of study C in Economics Class Two hours with friends Three hours of study B in Economic Class Three hours with friends Four hours of study B+ in Economic Class Four hours with friends Five Hours of study A- in Economic Class Five hours with friends Six hours of study A in Government Class Six hours with friends Seven hours of study Seven hours with Friends

Marginal costs and benefits Marginal cost is the additional cost of using one more unit of a product Marginal benefit is the additional satisfaction from using one more unit of a product

Analyzing Production possibilities Section 3

Key concepts Economic model is a simplified representation of economic forces Production possibilities curve is a graph used by economists to show the impact of scarcity on an economy.

Production possibilities curve (PPC) Assumptions Resources are fixed All resources are fully employed Only two things can be produced Technology is fixed

PPC Bread muffins 12 10 35 7 63 4 84 100

A = Here you are using all the ingredients to make only bread B= combination C= Here you are using all the ingredients to make muffins a bread b c muffins

What we learn from PPCs Efficiency involves producing the maximum amount of goods and services possible Underutilization means producing fewer goods and services than possible

a c guns b butter A = Any point on the curve represents efficiency B= inside the curve is underutilization C= outside the curve is a production impossibility. a c guns b butter

Some examples Opportunity cost Shift in the PPC Guns vs butter Increase in opportunity cost – each additional unit costs more than the last. Shift in the PPC

More resources or increased productivity shifts the PPC outward, or to the right, from PPC 1 to PPC2. guns PPC1 PPC2 butter

The economist’s toolbox Section 4

Working with data Key concepts Using economic models Statistics are information in numerical form Using economic models Based on assumptions and are simplified because thy focus on a limited number of variables. In some cases, models can help economists to predict future economic activity. The PPC is an example. Using charts and tables Using graphs

Microeconomics Microeconomics is the study of individuals, families, and businesses in an economy. Small Units of study Consumer markets, business markets, labor markets Topics of interest Markets, prices, costs, profits, competition, government regulation Consumer behavior Business behavior

Macroeconomics Macroeconomics is the study of the economy as a whole and is concerned with large-scale economic activity. Big Units of study Economic growth, Economic stability, International trade Topics of interest Money, banking, finance Government taxing and spending policies Employment and unemployment inflation

Positive and normative economics Positive economics studies economic behavior as it is Normative economics involves judgments of what economic behavior ought to be It goes beyond the facts to ask if actions are good. Lottery proceeds for schools (Tickets are purchased by lower incomes)

Adam smith: Founder of modern economics Wealth of nations 1776 Argued for free trade (Not mercantilism) People behave in ways to satisfy economic self-interests “Invisible hand” Guides the market produce too much? cut production Produce too little? Make more Want it in green? Make green The invisible hand guides the market into balance