Choices – how people buy, sell, produce, and consume
People always want STUFF but that stuff has to come from somewhere Resources are needed to make STUFF All societies throughout the world suffer from scarcity, or the idea of finite resources Scarcity – Thus, stereos, hot dogs, education, lawn mowers, TV repair services, and bubble gum are scarce b/c many individuals desire these things that their availability is limited Scarce goods command a price in the marketplace (the price indicates how scarce a good is relative to other goods) example: gas prices Scarce: not freely available to individuals in unlimited quantities (things not scarce: sand, salt water, air) Candy example-offer a few pieces of candy to class – if individual want more of an item than is freely available then it is scarce & will command a price
ECONOMIC DECISIONS MUST BE MADE IN ORDER FOR SOCIETY TO HAVE EFFICIENT PRODUCTION AND DISTRIBUTION OF GOODS/SERVICES Society must choose based on its needs. (make sure there is a demand) Society must choose based on its resources. (especially technology access) Society must choose based on its population and other available markets. (ability to pay to distribute or everyone equally?) How might the economic decisions of a mountainous island society differ from those of a mountainous landlocked society? Produce more military equipment or housing? More equipment used or workers? Who gets products (professionals, gov’t employees)
Essentially economics studies how society uses limited resources – HERE ARE THESE RESOURCES Every society is endowed with resources which are used to produce the goods and services that enable it to survive and prosper Production Equation: land + labor + capital = goods & services (inputs = outputs) combined by entrepreneurs REMEMBER THESE RESOURCES ARE LIMITED! “ gifts of nature” such as air, soil, minerals, water, forests, plants, animals birds, fish Land resources are NOT created by human effort! 2. Labor – planting crops and building houses or programming videogames 3. Not financial capital (money) it’s physical capital/capital goods (if you buy a car to drive to school or social events then it is a consumer good, but if used to deliver pizzas then it is a capital good
Why It Matters Today When you start working, you will become a factor of production: labor. (And hopefully later in life, once you've built up some bank, you can become capital, too.) fourth factor of production: technology . Technology refers not just to robots and computers but to the entire body of knowledge or science that informs or improves a production economists also include entrepreneurship as a factor of production. Like labor, entrepreneurship is a human input factor but it refers to more than just work; it refers to the creativity and initiative needed to start a business, develop new goods and services, or improve on development or distribution Production is creating goods and services—the result of land, capital, labor, and entrepreneurs.
Success in maximizing the allocation of our resources is also measured by productivity . For economists, this is a crucial measurement of how efficiently we are utilizing our resources. Productivity measures how much we produce for every unit of labor or capital that we invest—or as economists say, the value of our output for every unit of input. Suppose, for example, that in your one-man furniture shop you produce one chair every hour. With hopes of increasing productivity, you hire three assistants. Now you can produce four chairs per hour. But while your production may have increased, your productivity has not—you are still only producing one chair for every hour of labor invested. So you decide to buy some new machinery and soon discover that you and your three assistants can now produce eight chairs per hour. You have doubled productivity. Yeah technology! Efficient use of productive resources is productivity (Productivity always goes up when same output can be produced with less inputs or more output is created with same inputs) Productivity – output/input Specialization (productive inputs do whatever talk they are able to do best - example carpenter specializes in building a house, not electrician or plumber)and division of labor (takes place when workers perform fewer tasks more frequently - assembly line technique) may improve productivity because they lead to more proficiency (and greater economic interdependence). Investing in human capital (sum of skills) improves productivity because when people’s skills, abilities, health, and motivation advance, productivity increases.
Economic products include goods and services since both are produced
Good - Book, car, iPod Durable good - automobile nondurable good - food, most clothing, writing paper Services - haircuts, homerepairs, doctors, lawyers, teachers Consumer goods are ones intended for final use by individuals who buy them while capital goods are used to produce other goods and services (machines!)
According to economists, people seek to make themselves well off as possible by maximizing the utility of their decisions, whether we are talking about businesses or consumers Utility- must be useful to someone (varies! From person to person) Ex. Home computer may provide a lot of utility to some but little to another , rock concert
Valuable antique, coin, baseball card because the item is extremely scarce but being scarce doesn’t necessarily mean it has high value = water (diamond - water paradox essentials are less valued compared to other items), b/c of scarcity of diamonds 1. Must be scarce & have utility 2. Diamonds are scarce & have utility therefore they have high monetary value while water has utility but is not scarce enough in most areas to warrant high value Why It Matters Today Is LeBron James &quot;worth&quot; $20 million a year? Many people's gut reaction will be to say no, that nobody who plays a game for a living should be worth that much money. Why should a guy who plays a kids' game make as much as a hundred or more brilliant scientists working to cure cancer? And if you define &quot;worth&quot; as a moral question, maybe that's a good point. But if you define &quot;worth&quot; as an economic question, it becomes a simple question of scarcity. How many people out there have LeBron James's talents? By our count... exactly one. If you're an upwardly mobile owner of an NBA team, with hundreds of millions of dollars in the bank and a burning desire to win a championship, LeBron James may well be worth $20 million. Truly unique talent is extremely scarce, and thus extremely valuable. The moral of the story: cultivate a unique talent, kids. (Of course, it also helps to be 6'8&quot; tall, fast as a sprinter, strong as an ox, and incredibly coordinated. But there are other kinds of talents, too, just in case you don't match that description.)
Everyone cannot have everything they want! Therefore, who decides who gets what? Our choices, based upon utility help to decide! Competition results in people competing for scarce resources How to survive: MAKE GOOD ECONOMIC DECISIONS! Rationing Device - need some way to decide who gets what, price determines it
Task – List your tradeoffs, then rank them Trade off : you can get more of one good, but only by getting less of another good Trade-Offs More of one thing means less of something else (OC) Trade-offs are the alternative choices people face in making an economic decision. A decision-making grid lists the advantages and disadvantages of each choice. Opportunity cost is the cost of the next best alternative among a person’s choices. The opportunity cost is the money, time, or resources a person gives up, or sacrifices, to make his final choice. Those decisions are economics. If there were no scarcity, you could have everything you want right now. You wouldn't have to make hard decisions or trade-offs. But in the real world, there is scarcity, and because there is scarcity, we have economics, the study of how individuals, firms, and entire nations deal with the limitations imposed by scarcity to prioritize and allocated limited income, time, and resources.
Ex. Business person who uses a building to operate an insurance business cannot use the same building to produce pizzas Ex. Consumer who uses scarce income to purchase a new carpet will have to forgo saving the money to purchase something else Because limited resources, businesses could buy something else or consumer could have used time to do something else BECAUSE THERE ARE ALWAYS ALTERNATIVE USES FOR LIMITED RESOURCES, EVERY ECONOMIC DECISION HAS AN OPPORTUNITY COST As consumers, must realize the “cost” of buying an item is not really the price, rather it is the most valued item that cannot be bought As producers, the opportunity cost is the next most valuable good or service that is not produced as a result of the decision to produce something else Why It Matters Today Sometimes opportunity costs can vastly exceed the sticker price of an item. Imagine you scored a ticket to the Super Bowl. You paid $200 for your ticket, a stretch for your budget but worth it for a once-in-a-lifetime opportunity. You sit down in your seat next to some schmuck who admits he paid $5000 to a scalper for his ticket. Five grand! That's madness. But hold on. Your ticket just cost you five grand, too, even though only $200 in cash ever left your wallet. How's that work? Well, if the schmuck next to you was willing to buy a seat for $5000, then you could have sold yours at that price, too. The opportunity cost of you using your ticket is the five grand you didn't make by scalping it. Hope it was a good game!
Popular model used by economists to illustrate opportunity cost, the curve itself represents the best that this economy can do with its current factors of production Each national economy has a production possibility or a combination of goods and services that can be produced with the given amount of productive resources in that nation – classic example is the choice between military goods and consumer goods “guns & butter”. Since it is unlikely that a nation would produce either all consumer or military, choices must be made! Can’t have a point F outside the curve because sometimes we don’t have enough resources to produce it (scarcity to us we can’t have everything & the PPF illustrates that) How does a person or a company or an entire nation make smart decisions about tradeoffs and opportunity costs? Of course, in most countries, the production possibilities are far more numerous and complicated. But the essential fact remains the same: scarce amounts of money, time, land, capital, labor, technology, and entrepreneurship must be parceled out to produce some combination of goods and services
The classic example of the production possibility curve, which demonstrates the idea of opportunity cost. In a theoretical economy with only two goods, a choice must be made between how much of each good to produce. As an economy produces more guns (military spending) it must reduce its production of butter (food), and vice versa. If the society maximizes its security by producing guns, sacrifices the living standards by not producing enough butter (a consumer good)
As you move along the curve you are giving up larger amounts of a good/service in order to produce an additional unit of the other good/service mainly because not all of the resources can be used in the exact same way Example – maybe we have land that used to house a computer factory and now cannot grow crops
Why It Matters Today What happens if a company gets its production possibilities equations just a bit wrong? Recent launches of new Apple products -- the iPad, new models of the iPhone -- have frequently ended with production shortages, waiting lists... and lost sales. The textbook answer would say that Apple made a mistake, that the company should have shifted some resources from another less popular product line to make sure that its production of new iPads or iPhones could meet extremely high demand. By failing to meet demand (or to raise prices because of it) Apple left money on the table. But the company may see certain advantages in production shortages. News stories reporting on long lines and even campouts outside Apple stores build up hype for the products, confirming the impression that Apple produces true &quot;must-have&quot; products. And there may also be a calculation that it's better to endure short-term shortages at the time a new product launches rather than risking a glut of overproduction later, once the initial buying frenzy dies down.
Rarely do countries utilize just one of these categories, usually it is a mix of 2!
Markets can be local, regional, national, or global ( all have distinct circular flow) This is a basic market economy
Households (assumed to own factors of production) sell resources to businesses & businesses pay for resources they buy from households (a business pays a worker a day’s wage) Businesses sell goods & services to households & households pay for goods and services they buy from businesses (a consumer buys a sofa from a furniture company) Factor markets (firms make factor payments)- Entrepreneurs hire labor for wages & salaries, land is provided for rent, & money is loaned by the people or invested Product markets - When individuals receive income they spend it on goods & services offered for sale Product markets - Businesses receive money from selling goods & services to individuals Factor Markets-This money pays for land, labor, & capital bought in these markets, then use this to produce more goods/services
Wrote an Inquiry into the nature and cause in the wealth of nations - When people act in own self-interest, an invisible hand guides resources to their most productive use therefore can lead to greater well being for society as a whole = why? – COMPETITION -countries gain wealth only when gov’t release control of economy and people pursue own interests = ECONOMIC FREEDOM -competition = increase in productivity = produce more for society = lower prices
Smith’s ideas about limited gov’t role in econ and ultimate freedom for businesses were put into practice during IR Entrepreneurs started amassing Capital such as machinery, factories, railroads during Industrial Revolution and started massive industrial production Pros - more people work and they get better goods & services Cons – workers suffered under bad working conditions such as low wages, long hours, no disability, overtime, lived in slums etc. Workers blamed capitalists for their continued poverty = rise of socialism/communism/command economy
Both the gov’t and individuals play important roles with regard to production and consumption (who decides what varies from country to country)
Consumers & producers - Governments are both providers and consumers. The U.S. government provides education and welfare and is the second largest consuming group in the economy after consumers. Protector – 40 hour work week, sensible working conditions, health benefits, agencies like FDA regulates medicine & food to protect consumer Regulator – Sherman Anti-Trust Act of 1890 prevents monopolies (wants to preserve competition), regulates SS/welfare/unemployment (these protect people too!)
Our economy needs a balance of freedom for individuals but also protection! 1. “Let them do” –people and businesses make their own economic choices. relatively free of government intervention, allows us to act within our best interest within the law (can’t sell alcohol to underagers or hire child labor, free to own most productive resources and start new businesses 2. Free to compete with one another, but all involves risk, among sellers helps lower prices. Same legal rights to seek profit and consumption in a marketplace Government laws & agencies regulate but not operate most of businesses Incentive to keep rewards so produce better products or produce more, encourages entrepreneurship and is largely responsible for the growth of a free enterprise economy. Right to buy, sell, & control use of our property (including intellectual) - You can do what you want with it, unless gov’t takes away for public use but must be fairly compensated – patents & copyrights (motivate people to be creative & succeed!)
Unit #1 student
Unit #1 Basic Economic Principles
What is Economics? <ul><li>The social science that studies the choices people make as they try to satisfy their wants in a world of scarcity. </li></ul>
The Fundamental Economic Problem <ul><li>SCARCITY = tension between unlimited wants and the limited productive resources available for satisfying these wants </li></ul><ul><ul><li>Needs are required for survival </li></ul></ul><ul><ul><li>Wants are desired for satisfaction </li></ul></ul>
How to make best use of limited productive resources to satisfy human wants <ul><li>Every Society must answer 3 questions </li></ul><ul><ul><li>1. What goods and services will be produced? </li></ul></ul><ul><ul><li>2. How are goods and services to be produced? </li></ul></ul><ul><ul><li>3. For whom are goods and services to be produced? </li></ul></ul>
Factors of Production (Productive Resources) <ul><ul><li>1. LAND / Natural Resources – “gifts of nature”, these are NOT created by human effort </li></ul></ul><ul><ul><li>2. LABOR / Human Resources – human work effort both mental & physical </li></ul></ul><ul><ul><li>3. CAPITAL – man-made goods used to produce other products </li></ul></ul>
The Other Guy: Final Factor of Production <ul><li>4. Entrepreneur – risk takers who combine land, labor, and capital and turn them into new products </li></ul>
Role of the Entrepreneur <ul><li>What do they do? </li></ul><ul><ul><li>Combine factors of production to create product </li></ul></ul><ul><ul><li>Successful entrepreneurs attract other firms to the industry (this helps everyone!) </li></ul></ul><ul><ul><li>Search for profits = new products = competition = more production = lower prices for consumers (What’s this called?) </li></ul></ul>
<ul><li>Entrepreneurs and countries’ leaders strive for greater productivity! Why? </li></ul><ul><li>Productivity – the value of our output for every unit of input (in other words: how efficiently resources are being used!) </li></ul><ul><li>To be more productive we must: </li></ul><ul><ul><li>Create more output with same inputs </li></ul></ul><ul><ul><li>Create same output with less inputs </li></ul></ul><ul><li>How to increase productivity = </li></ul><ul><ul><li>1. Division of Labor </li></ul></ul><ul><ul><li>2. Specialization </li></ul></ul><ul><ul><li>3. Investing in Human Capital </li></ul></ul><ul><li>* </li></ul>
Other Basic Economic Language <ul><li>Review Production Equation </li></ul><ul><ul><li>LAND + LABOR + CAPITAL = PRODUCT </li></ul></ul>
Goods <ul><li>Tangible </li></ul><ul><ul><li>able to be touched </li></ul></ul><ul><li>Goods </li></ul><ul><ul><li>anything that satisfies a person’s wants & is TANGIBLE </li></ul></ul><ul><ul><li>Durable - Used 3 + years and lasts </li></ul></ul><ul><ul><li>Nondurable - Used 3 + years and does not last </li></ul></ul><ul><li>Intangible </li></ul><ul><ul><li>can’t be touched / felt </li></ul></ul><ul><li>Services </li></ul><ul><ul><li>tasks that you pay other people to perform for you </li></ul></ul><ul><ul><li>services are INTANGIBLE </li></ul></ul>What’s the difference between consumer and capital goods???
Why would you buy that? <ul><li>Utility - is a good’s or service’s capacity to provide satisfaction or usefulness, which varies with the needs and wants of each person </li></ul><ul><li>Disutility- is a good’s or service’s capacity to provide dissatisfaction (unhappiness) </li></ul>
How do we assign value to products? <ul><li>Value is worth expressed in dollars and cents. For something to have value, it must be scarce and provide utility! </li></ul><ul><li>Why is water worth so much less than diamonds? (Diamond-Water Paradox) </li></ul>
How do we decide who gets which products? <ul><li>We use a rationing device, a way of allocating our products </li></ul><ul><ul><li>Our rationing device is price !!! </li></ul></ul><ul><li>Besides the price of items, what else influences who gets what? </li></ul>
Making Good Choices <ul><li>Without enough resources to satisfy our wants, we have to CHOOSE which wants we will satisfy </li></ul><ul><li>Example: </li></ul><ul><ul><li>Maria earns $1000 a month. She wants a new outfit, 10 new books, a trip to Hawaii, a new car, and many other things. </li></ul></ul><ul><ul><li>Maria can pay the price of all of these things but can’t have them all. She has a decision to make! </li></ul></ul>
Economic Decision Making <ul><li>Trade-Off </li></ul><ul><ul><li>Trade-offs are the alternative choices people face in making an economic decision. </li></ul></ul><ul><ul><li>To decide among our tradeoffs, we use cost/benefit analysis! </li></ul></ul><ul><ul><li>Discussion – What are your tradeoffs of going to the next school dance? </li></ul></ul><ul><li>Opportunity Cost </li></ul><ul><ul><li>Opportunity cost is the cost of the next best alternative among a person’s choices. The opportunity cost is the money, time, or resources a person gives up, or sacrifices, to make his final choice. </li></ul></ul>Discussion – What is your opportunity cost of going to the school dance? The OC
Review: Economic Decision Making <ul><li>Everyone incurs tradeoffs and opportunity costs when making decisions </li></ul><ul><ul><li>Ex. Entrepreneur who uses a building to sell car insurance </li></ul></ul><ul><ul><li>Ex. Homeowner purchases new carpet </li></ul></ul><ul><ul><li>Ex. Government provides universal healthcare to its citizens </li></ul></ul><ul><li>Economists say, “There’s No Such Thing as a Free Lunch!” </li></ul>
Production Possibilities Frontiers (PPF) <ul><li>An economic model that shows how an economy might use its resources to produce two goods </li></ul><ul><ul><li>Show all combinations of production when all productive resources are employed </li></ul></ul><ul><ul><li>We use a PPF to evaluate opportunity cost – “when we produced more of 1 thing, we must give up producing something else </li></ul></ul>
The Classic Guns and Butter example: B A C D E F <ul><ul><li>Society’s choices are limited to points on or inside the PPF – WHY??? </li></ul></ul>Guns Butter 10,000 20,000 30,000 40,000 50,000 100,000 95,000 85,000 70,000 50,000 40,000 At point A, all resources are used for butter Moving from point A to point B requires shifting resources out of butter and into guns. At point F. all resources are used for Guns.
Understanding the PPF <ul><li>The curve represents optimal production for an economy </li></ul><ul><li>An economy can produce at any point ON or BELOW the PPF curve </li></ul><ul><li>An economy cannot produce at any point above the PPF curve </li></ul>
INCREASING OPPORTUNITY COST (curved PPF) As you move along the curve, you give up increasing amounts of a good/service in order to produce an additional unit of the other good/service mainly because not all of the resources can be used in the exact same way!
Constant Opportunity Cost <ul><li>Straight-line PPF (slope stays the same) </li></ul><ul><ul><li>Each time you produce additional units of one good, you give up the same amount of the other good to do so </li></ul></ul>
Efficiency and Inefficiency <ul><li>Productive efficiency: achieving as much output as possible from a given amount of resources – occurs at any point on the PPC . </li></ul><ul><li>Any point within the PPC represents inefficiency. </li></ul><ul><li>Any point outside the PPC is unattainable, given present resources and technology. </li></ul>
Efficiency and Inefficiency Butter 10 8 6 4 2 0 2 4 6 8 10 Guns C D A B Efficient points Inefficient point Unattainable point, given available technology, resources and labor force
Economic Systems <ul><ul><li>An economic system is the way a society coordinates the production and consumption of goods & services. </li></ul></ul><ul><ul><li>How a society answers the three basic economic questions determines which type of economic system they are! </li></ul></ul><ul><ul><li>Three Types of Economic Systems: </li></ul></ul><ul><ul><ul><li>Command </li></ul></ul></ul><ul><ul><ul><li>Traditional </li></ul></ul></ul><ul><ul><ul><li>Market </li></ul></ul></ul>
Circular Flow Model <ul><li>Model details the flow of money and goods in a market economy </li></ul><ul><li>The factor market is where individuals sell their resources to businesses to gain income </li></ul><ul><li>The product market is where individuals use their income to buy the goods & services businesses sell. </li></ul>
The Circular Flow of Economic Activity – Market Economy Consumer Spending Profit / Revenue Income = Flow of inputs and outputs = Flow of dollars PRODUCT MARKET Goods and services bought Goods and services sold Sell Factors Of Production Buy Factors of production Factor Payments Businesses <ul><li>Produce and sell </li></ul>goods and services <ul><li>Buy and use factors </li></ul>of production <ul><li>Buy and consume </li></ul>goods and services <ul><li>Own and sell factors </li></ul>of production Individuals <ul><li>Individuals sell </li></ul><ul><li>Businesses buy </li></ul>FACTOR MARKET <ul><li>Businesses sell </li></ul><ul><li>Individuals buy </li></ul>
The American Economic System <ul><li>We said we are a ____________ economy… </li></ul><ul><ul><li>MIXED?? </li></ul></ul><ul><ul><li>CAPITALIST?? </li></ul></ul><ul><ul><li>FREE ENTERPRISE?? </li></ul></ul><ul><ul><li>FREE MARKET?? </li></ul></ul><ul><li>What’s the difference? </li></ul>
Adam Smith <ul><li>Scottish Economist who wrote The Wealth of Nations </li></ul><ul><ul><li>Devised the “Invisible Hand” Theory </li></ul></ul><ul><ul><li>Smith wanted Little Government Interference ! </li></ul></ul><ul><ul><li>Credited with creating capitalism, free enterprise, etc. </li></ul></ul>
Capitalism Roots… <ul><li>Smith’s ideas were used in the 1700s-1800s: </li></ul><ul><ul><li>Individual investors, known as capitalists , grew wealthy by accumulating capital & devoted them to industrial production </li></ul></ul><ul><li>Results: </li></ul><ul><ul><li>More goods & services became available </li></ul></ul><ul><ul><li>Better quality of life for some while others suffer </li></ul></ul>
We know we are a Mixed Economy <ul><li>We have both private individuals owning factors of production with freedom of business , but we also have government regulation/ownership ! </li></ul>
Role of the Government <ul><li>Acts as a Protector </li></ul><ul><ul><li>Passes laws / regulations to prevent abuse of consumers & workers </li></ul></ul><ul><ul><li>Protects both producers & consumers </li></ul></ul><ul><li>Acts as a Regulator </li></ul><ul><ul><li>Preserves competition </li></ul></ul><ul><ul><li>Tries to address national goals – economic equity & security </li></ul></ul>
Our American Economy TODAY has these… <ul><li>Characteristics – Read pages 50-53 NB </li></ul><ul><li>Economic freedom (“laissez-faire”) </li></ul><ul><li>Competition </li></ul><ul><li>Equal opportunity </li></ul><ul><li>Limited government </li></ul><ul><li>Profit motive </li></ul><ul><li>Property Rights </li></ul>