Chapter 2 Resource Utilization 2-1 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter Objectives Definition of economics Central fact of economics The four economic resources Opportunity cost Full employment Full production Productive and allocative efficiency Enabling the economy to grow The law of increasing cost 2-2 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Economics Defined Economics is the efficient allocation of the scarce means of production toward the satisfaction of human wants –The means of production are limited –Human wants are unlimited 2-3 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

The Central Fact of Economics Is SCARCITY Scarcity –Resources are the things society uses to produce goods and services These resources are scarce (limited) The economic problem –There are never enough resources to produce all of the goods and services that people want 2-4 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Four Economic Resources Land Labor Capital Entrepreneurial ability 2-5 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Land –Includes natural resources such as timber, oil, coal, iron ore, soil, water, as well as the ground in which these resources are found –Is used for the extraction of minerals and farming –Provides the site for factories, office buildings, shopping centers, homes, etc. –Produces “rent” 2-6 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Labor –The work and time for which one is paid is what economists call “labor” –Money received for one’s labor is called wages and/or salaries –About two-thirds of the total resource cost is the cost of labor 2-7 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Capital –Man-made goods used to produce other goods or services is what economists call “capital” Examples are office buildings, stores, and factories –The money owners of “capital” receive is called “interest” –Capital is the MOST important of the four economic resources 2-8 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Entrepreneurial Ability The entrepreneur –Sets up a business –Assembles the needed resources –Risks his/her own (or borrowed) money –Makes a “profit” or incurs a “loss” Is central to the American economy –23 million businesses are virtually all entrepreneurs The vast majority work for themselves or have one or two employees 2-9 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Our Economic Problem Revisited Limited resources versus unlimited wants There are NOT enough resources to produce everything that everyone wants Therefore, CHOICES must BE MADE! Every CHOICE has an OPPORTUNITY COST associated with it! 2-10 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Opportunity Cost: An Important, Fundamental Concept in Economics Because we cannot have everything we want, we must make choices The thing we give up (our second-best choice) is called the opportunity cost of our choice –This is the foregone value of the next best alternative In the economic world, “both” is not an admissible answer to a choice of “which one” 2-11 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Highest Valued Alternative Options –Watch TV –Talk on the telephone –Go on a date –Study economics The opportunity cost here is the highest valued alternative that could have been chosen (i.e., study economics) Choice made Highest valued alternative 2-12 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Inherit $40,000 Bought the car –(Paid $40,000) Can’t go to college College graduate (lifetime earnings) $1,300,000 High School graduate (lifetime earnings) 800,000 Two choices – buy a car or go to college Opportunity Cost $ 500, Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

California Prisons –Added 21 additional prisons Colleges –Added 1 additional college The Opportunity Cost of building more prisons is building fewer colleges 2-14 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

California Prison guards + 10,000 College employees - 10,000 Obviously, the opportunity cost of one additional prison is guard is one college employee 2-15 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Full Employment A five percent unemployment rate 1 From 1971 – 1996 the unemployment rate was above 5%. In recent years, this has hovered above 4 %. If it stays this low, the next edition of the textbook may adjust this to 4 % Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Full Production An eighty-five to ninety percent utilization rate 2-17 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Underemployment of Resources An unemployment rate greater than 5% A capacity utilization rate less than 85% Blue laws Federal and state laws Night and weekend work Discrimination –A phenomenon that has diminished but has not been eliminated entirely –Probably keeps our output % below what it could be If there was truly an efficient allocation of resources 2-18 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Production Possibilities Frontier Represents our economy at –Full employment –Full production 2-19 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

The Production Possibilities Frontier (PPF) measures the quantity of two goods that an economy or business is capable of producing with its current available resources and technology 2-20 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve

2-21 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve To gain 1 unit of Guns Had to give up 1 unit of butter When you are on the line (PPF), to get more of one thing you have to give up some of the other thing In this particular instance, the opportunity cost of gaining one unit of guns was one unit of butter

2-22 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve To gain 1 unit of Guns Had to give up 2 units of butter When you are on the line (PPF), to get more of one thing you have to give up some of the other thing In this particular instance, the opportunity cost of gaining one unit of guns was two units of butter

2-23 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve To gain 1 unit of Guns Had to give up 3 units of butter When you are on the line (PPF), to get more of one thing you have to give up some of the other thing In this particular instance, the opportunity cost of gaining one unit of guns was three units of butter

2-24 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve To gain 1 unit of Guns Had to give up 4 units of butter When you are on the line (PPF), to get more of one thing you have to give up some of the other thing In this particular instance, the opportunity cost of gaining one unit of guns was four units of butter

2-25 Point Units of Butter Units of Guns A 15 0 B 14 1 C 12 2 D 9 3 E 5 4 F 0 5 Hypothetical Production Schedule Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Production Possibilities Curve To gain 1 unit of Guns Had to give up 5 units of butter When you are on the line (PPF), to get more of one thing you have to give up some of the other thing In this particular instance, the opportunity cost of gaining one unit of guns was five units of butter

When you are on the line (PPF), to get more of one thing you have to give up some of the other thing. When you are at a point that is inside the line (PPF) it is possible to get more of both. If you were at point G, it would be possible to move to point D or any other point on the line (PPF) and get more butter and more guns Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. G

Points Inside and Outside the Production Possibilities Curve Frontier Every point on the curve represents output at Full Employment Every point inside the curve represents output at less than Full employment 2-27 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved. Where we usually are A Recession A Depression Point W represents output at more than full employment and is currently unattainable

Productive Efficiency Is attained when the maximum possible output of one good is produced, given the output of other goods –Productive efficiency occurs only when we are operating on the production possibilities curve –Productivity efficiency means that the output of one good cannot be attained with out reducing the output of some other good 2-28 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Allocative Efficiency When an efficient allocation of resources is attained, it is not possible to make any person better off without making someone else worse off –No resources are wasted when allocative efficiency is attained –No society has ever come close to allocative efficiency 2-29 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Economic Growth Best available technology Expansion of labor –More or better trained labor Expansion of capital –More or improved plant and equipment 2-30 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Economic Growth Consumption –Americans are consuming too much and producing too little In the last 200 years to 1970 the U.S. economy averaged over 3% growth annually Since 1970 the U.S. Economy has averaged slightly over 2% growth annually 2-31 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Economic Growth Saving –Americans are not saving enough In the 1960s the savings rate was 6% In 1986 the savings rate was 2% In 2000 the savings rate was negative –Business firms are not investing enough in new plant and equipment Private individuals and the federal government are running up debt 2-32 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Production Possibilities Curves A move from PPC to PPC to PPC represents economic growth Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

Production Possibilities Curves Over Time Country A Country B Country A represents slower economic growth than Country B Country A capital goods is 3.8 units Country B represents much faster economic growth than Country A Country B capital goods is 7.0 units 2-34 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

2-35 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.

2-36 Copyright  2002 by The McGraw-Hill Companies, Inc. All rights reserved.