CHAPTER 1 What is Economics? Michael Parkin ECONOMICS 5e CHAPTER 1 What is Economics? 1

Learning Objectives Define Economics Explain the five big questions that economists seek to answer Explain eight ideas that define the economic way of thinking Describe how economists go about their work 2

Learning Objectives Define Economics Explain the five big questions that economists seek to answer Explain eight ideas that define the economic way of thinking Describe how economists go about their work 2

A Definition of Economics Define Economics Society’s wants exceed the resources available to satisfy them. Rich and poor alike are faced with scarcity. 3

A Definition of Economics Economics is the science of choice — the science that explains the choices that we make and how those choices change as we cope with scarcity. 4

Learning Objectives Define economics Explain the five big questions that economists seek to answer Explain eight ideas that define the economic way of thinking Describe how economists go about their work 2

Five Big Economic Questions What? How? When? Where? Who? 5

What? What goods and services are produced and in what quantities? Do we produce houses or camping vehicles? 6

How? How are goods and services produced? Do we use humans or machines to produce the goods we want?

When? When are goods and services produced? Do we increase or decrease production?

Where? Where are goods and services produced? Do we produce the goods in the United States or in Canada?

Who? Who consumes the goods and services that are produced? Do we sell our goods to the wealthy, or the non-wealthy?

Learning Objectives Define economics Explain the five big questions that economists seek to answer Explain eight ideas that define the economic way of thinking Describe how economists go about their work 2

Big Ideas of Economics The questions give you a sense of what economics is about. The Big Ideas of Economics describe how economists think about these questions and seek answers to them.

Big Ideas of Economics IDEA 1 A choice is a tradeoff — we give up something to get something else — and the highest valued alternative we give up is the opportunity cost of the activity chosen.

Big Ideas of Economics IDEA 2 We make choices in small steps, or at the margin, and choices are influenced by incentives. Marginal Benefit vs. Marginal Cost Incentives are inducements to take particular actions

Big Ideas of Economics IDEA 3 Voluntary exchange makes both buyers and sellers better off, and markets are an efficient way to organize exchange. Buyers receive goods or services. Sellers receive money.

Big Ideas of Economics IDEA 3 (cont.) Markets are efficient because they ensure that resources will be used where they are valued most highly. Alternative to Market Economy Command Economy

Big Ideas of Economics IDEA 4 The market does not always work efficiently and sometimes, government action is necessary to overcome market failure and to lead to a more efficient use of resources. Market failure is a state in which the market does not use resources efficiently.

Big Ideas of Economics IDEA 5 For the economy as a whole, expenditure equals income equals the value of production.

Big Ideas of Economics IDEA 6 Living standards improve when production per person increases. This increase in output per person will enable more people to own goods and services.

Big Ideas of Economics IDEA 7 Inflation occurs when the quantity of money increases faster than production. Inflation results from “too much money chasing too few goods.”

Big Ideas of Economics IDEA 8 Unemployment can result from market failure but some unemployment is productive. Unemployment rates vary. Some unemployment results from employees searching for a suitable job and employers searching for suitable workers. This unemployment improves productivity.

Learning Objectives Define economics Explain the five big questions that economists seek to answer Explain eight ideas that define the economic way of thinking Describe how economists go about their work 2

What Economists Do Microeconomics vs. Macroeconomics The economy can be looked at with either a micro or a macro view. Microeconomics vs. Macroeconomics

What Economists Do Microeconomics and Macroeconomics Microeconomics is the study of individual people and businesses and the interaction of those decisions in markets. Studies: Prices and Quantities Effects of government regulation and taxes

What Economists Do Microeconomics and Macroeconomics Macroeconomics is the study of the national economy and the global economy as a whole. Studies: Average prices and total employment, income, and production Effects of taxes, government spending, a budget deficits on total jobs and incomes Effects of money and interest rates

Economic Science Economists attempt to discover an explanation for how economic systems work. Economists distinguish between Positive Statements and Normative Statements.

Economic Science Positive statements are about what is. Can be proven right or wrong. Can be tested by comparing it to facts. Normative statements are about what ought to be. Depend upon personal values and cannot be tested.

Economic Science Objective Discover and catalog positive statements that are consistent with what we observe in the world and that enable us to understand how the economic world works.

Economic Science Steps Observation and Measurement Model Building Testing

Obstacles and Pitfalls in Economics Unscrambling Cause and Effect Ceteris Paribus Fallacy of Composition The statement that what is true of the parts is true of the whole or what is true of the whole is true of the parts.

Obstacles and Pitfalls in Economics Post Hoc Fallacy The error or reasoning that a first event causes a second event because the first occurred before the second.

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