Chapter 1: The Basics of Economics

Basic Economic Concepts 1. Economics is a social science dealing with how best to allocate scarce resources to satisfy unlimited wants. It can also be described as the science of decision-making in the face of scarcity. 2. There are two divisions of economics: A. Microeconomics deals with individual decision-making units such as a firm or a household. Examples of microeconomic topics include determining the price a business should charge for its product to maximize its total profit, and how many hours a person would want to work at a given wage rate. B. Macroeconomics deals with broad economic aggregates rather than individual units. Examples of macroeconomic topics include measuring the rate of inflation in the economy and understanding how changes in government taxing affect the unemployment rate.

Basic Economic Concepts 3. Economists recognize two approaches to an issue. A. The positive approach is objective and does not contain value judgments. This approach deals with the way things are. A positive statement can be tested to see if it is true. An example of a positive statement is, “Men and women receive equal salaries for equal work.” B. The normative approach is subjective and does contain value judgments. This approach deals with the way a person feels things should be. Such a statement cannot be tested. An example is, “Men and women should receive equal salaries for equal work.”

Basic Economic Concepts 4. The key economic problem is scarcity of resources. There simply are not enough resources available to satisfy everyone’s wants. 5. There are four categories of resources (things used to produce goods and services). A. labor – number and quality of workers B. land - natural resources (dirt, water, oil ,minerals, air) C. capital – tools and factories (not “money”) D. entrepreneurship – the abilities of those willing to take risks to develop new products or production techniques

Basic Economic Concepts 6. Because of scarcity, choices must be made. The opportunity cost of choosing a particular action is the highest valued alternative to that action. When you spend $20 on a meal, the opportunity cost of the meal is your next best use of that $20 (perhaps clothing or books).

What is Economics?? The Economic Problem A. Scarcity- productive resources are scarce but people have unlimited wants 1. Scarcity is the most basic problem of economics 2. Economics is about making choices 3. List a couple examples of economic choices you have made:

What is Economics?? B. Productive Resources- factors of production 1. Human resources or labor a. Physical and mental efforts to produce goods and services b. Entrepreneur- profit provides the incentive that makes entrepreneur willing to take risks c. What is profit? Revenue from sales minus cost of production

What is Economics?? 2. Natural resources- “gifts of nature” a. Renewable resources- list examples: b. Exhaustible or non-renewable resources- list examples: 3. Capital resources or capital goods (goods that are used to produce other goods)- list examples:

What is Economics?? C. Goods and Services 1. Goods: 2. Services: 3. “No such thing as a free lunch”-

What is Economics?? II. Economic Theory A. Models that help explain economic behavior and are used to make predictions B. Rational self-interest C. Normative versus positive statements 1. Normative = an opinion 2. Positive = reality that can be supported by fact

What is Economics?? D. Marginal Analysis 1. Refers to a change in an economic variable 2. Compare the marginal benefit (additional benefit) and marginal costs (additional costs) of eating dessert? 3. Rational choice requires time and information 4. Market economics (Microeconomics) looks at the individual pieces and national economics (Macroeconomics) looks at the big picture and fits all the pieces together. Ex: Use marginal analysis to determine if the benefits of working out 6 days a week, rather than 5, are more than the costs?

What is Economics?? E. Market Participants- 4 participants or decision makers in the economy. 1. Households- play the leading role in the economy- as consumers, households demand goods and services and as resource owners, households supply the resources to produce goods and services. 2. Firms or businesses 3. Governments 4. The Rest of the world (numbers 2-4, demand the resources that households supply then use these to supply what households demand) a. Markets are physical (like a store), but also include stock market, internet, telephone, etc..

What is Economics?? 5. Goods and services are bought and sold in Product Markets and resources are bought and sold in Resource Markets. 6. CIRCULAR FLOW MODEL- the flow of resources, products, income, and revenue among economic decision makers. (See model on p. 16). Resources and products flow in one direction- counterclockwise- and the corresponding payments flow in the other direction

What is Economics?? III. Opportunity Cost and Choice A. Think of opportunity cost as opportunity lost. It is the value of the best alternative you must give up 1. Going out on Tuesday night likely has a different opportunity costs than on a Saturday night 2. Opportunity cost is a personal thing 3. Examples: Movies- College-

What is Economics?? B. Sunk cost- cost one incurred and cannot be recovered- waiting in line 10 minutes and another line opens. What do you do? Economists say sunk costs should be ignored, “there’s no point crying over spilt milk”