fundamentals of economics


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fundamentals of economics

  1. 1. Topic 1 Fundamentals of EconomicsIntroduction and Goals of the Firm • Key Concepts • Summary • Practice Quiz • Online Exercises 1
  2. 2. What will you learn in this chapter?You will be acquainted with the foundation of the economic way of thinking * Return to previous slide while in slide show mode 2
  3. 3. What are the 3 buildingblocks in the economic way of thinking? • scarcity & choice • model building • pitfalls of economic reasoning 3
  4. 4. What is theeconomic problem? Providing for people’s wants and needs in a world of scarcity 4
  5. 5. What is meant by scarcity?The condition in which wants are forever greater than the available supply of time, goods, and resources 5
  6. 6. What does scarcity force us to do? It forces us to make choices 6
  7. 7. What are resources? The basic categories of inputs used to produce goods and services 7
  8. 8. What are the three categories of resources? Land Labor Capital 8
  9. 9. What is a land resource?A shorthand expression for any natural resource provided by nature 9
  10. 10. What is labor?The mental and physical capacity of workers to produce goods and services 10
  11. 11. What is capital?The physical plants, machinery, and equipment used to produce other goods 11
  12. 12. What isfinancial capital?The money used to purchase capital 12
  13. 13. What is entrepreneurship?The creative ability of individuals to seek profits by combining resources to produce innovative products. 13
  14. 14. Labor Labor Land Land Capital Capital EntrepreneurshiporganizesEntrepreneurship organizes resourcesto produce goodsresources to produce goods andservicesand services 14
  15. 15. What is economics?The study of how society chooses to allocate its scarce resources to the production of goods and services in order to satisfy unlimited wants15
  16. 16. What is macroeconomics?The branch of economics that studies decision- making for the economy as a whole 16
  17. 17. What is microeconomics?The branch of economics that studies decision- making by a single individual, household, firm, industry, or level of government 17
  18. 18. What is the purpose ofan economic model? To forecast or predict the results of various changes in variables 18
  19. 19. What is thescientific method?• Problem identification• Model development• Testing a theory 19
  20. 20. Identify the problem Identify the problem Develop a model based Develop a model basedon simplified assumptionson simplified assumptions Collect data and Collect data and test the model test the model 20
  21. 21. What are the two common pitfalls in understanding how the economy works?• failing to understand the ceteris paribus assumption• confusing association with causation 21
  22. 22. What assumption isalways made when testing a model? ceteris paribus 22
  23. 23. What is ceteris paribus?A Latin phrase that means that while certain variables can change, “all other things remain unchanged” 23
  24. 24. What is the differencebetween association and causation?We cannot always assume that when one event follows another, the first caused the second 24
  25. 25. Why do someeconomists disagree? The answer lies in understanding the difference between positive and normative economics 25
  26. 26. What ispositive economics? An analysis limited to statements that are verifiable 26
  27. 27. What isnormative economics? An analysis based on value judgement 27
  28. 28. Key Concepts 28
  29. 29. • What are the three building blocks in the econom• What is the economic problem?• What is meant by scarcity?• What are resources?• What are the three categories of resources?• What is entrepreneurship?• What is economics?• What is macroeconomics?• What is microeconomics? 29
  30. 30. • What is the scientific method?• What are the two common pitfalls in understand• Why do some economists disagree?• What assumption is always made when testing a model?• What is ceteris paribus?• What is the purpose of model building?• What is positive economics?• What is normative economics? 30
  31. 31. Summary 31
  32. 32. Scarcity is the fundamentaleconomic problem that humanwants exceed the availability to time,goods, and resources. Individualsand society therefore can neverhave everything they desire. 32
  33. 33. Resources are factors ofproduction classified as land,labor, and capital.Entrepreneurship is a specialtype of labor. An entrepreneurcombines resources to produceinnovative products. 33
  34. 34. Economics is the study of howindividuals and society choose toallocate scarce resources in orderto satisfy unlimited wants. Facedwith unlimited wants and scarceresources, we must make choicesamong alternatives. 34
  35. 35. Society Chooses Resources ScarcityUnlimited wants 35
  36. 36. Macroeconomics applies aneconomy wide perspective thatfocuses on such issues as inflation,unemployment, and the growth rateof the economy. 36
  37. 37. Microeconomics examinesindividual decision-making unitswithin an economy.Microeconomics studies suchtopics as a consumer’s responseto changes in the price of coffeeand the reasons for changes in themarket price of personalcomputers. 37
  38. 38. Models are simplified descriptionsof reality used to understand andpredict economic events. Aneconomic model can be statedverbally or in a table, graph, orequation. If the evidence is notconsistent with the model, themodel is rejected. 38
  39. 39. Collect data and test the model Develop a model based on assumptionsIdentify theproblem 39
  40. 40. Ceteris paribus holds “all otherfactors unchanged” that mightaffect a particular relationship. Ifthis assumption is violated, amodel cannot be tested. Anotherreasoning pitfall is to thinkassociation means causation. 40
  41. 41. Positive economics uses testablestatements. Often a positiveargument is expressed as an “if-the”statement.Normative economics is based onvalue judgments or opinions anduses words such as good, bad,ought to, and ought not to. 41
  42. 42. Practice Quiz 42
  43. 43. 1. Scarcity exists a. when people consume beyond their needs. b. only in rich nations. c. in all countries in the world. d. only in poor nations.C. No matter what economic system a country has, it is always faced with the problem of scarcity. 43
  44. 44. 2. Which of the following would eliminate scarcity as an economic problem? a. Moderation of people’s competitive instincts. b. Discovery of large new energy reserves. c. Resumption of steady productivity growth. d. None of the above. e. All of the above. D. Because it is impossible to provide everyone with everything they want, we will always have scarcity. 44
  45. 45. 3. Which of the following is not a resource? a. Land. b. Labor. c. Money. d. Capital.C. Money is not a resource because it has no intrinsic value. Money that is used to make an investment is called financial capital. 45
  46. 46. 4. Economics is the study of a. how to make money. b. how to operate a business. c. people making choices because of the problem of scarcity. d. none of the above.C. Economics is the study of how people must decide among alternatives to meet their wants and needs in this world of scarcity. 46
  47. 47. 5. Microeconomics approaches the study of economics from the viewpoint of a. individuals or specific markets. b. the operation of the Federal Reserve. c. economy wide effects d. the national economy.A. Microeconomics is the study of the decision- making process for individuals, business owners, and government. 47
  48. 48. 6. A review of the performance of the U.S. economy during the 1990’s is primarily the concern of a. macroeconomics. b. microeconomics. c. both macroeconomics and microeconomics. d. neither macroeconomics nor microeconomics.A. Macroeconomics is the study of the economy as a whole. 48
  49. 49. 7. An economic theory claims that a rise I gasoline prices will cause gasoline purchases to fall, ceteris paribus. The phrase “ceteris paribus” means that a. other relevant factors like consumer incomes must be held constant. b. the gasoline prices must first be adjusted for inflation. c. the theory is widely accepted, but cannot be accurately tested. d. consumers need for gasoline remains the same regardless of A. price. Anytime price changes we always make the assumption that nothing else changes. 49
  50. 50. 8. An economist notices that sunspot activity is high just prior to recessions and concludes that sunspots cause recessions. The economist has a. confused association with and causation. b. misunderstood the ceteris paribus assumption. c. Used normative economics to answer a positive question. d. built an untestable model.A. Just because one action follows another, does not mean that the first caused the second. 50
  51. 51. 9. Which of the following is a statement of positive economics? a. The income tax system collects a lower percentage of the incomes of the poor. b. A reduction in the tax rates of the rich makes the tax system more fair. c. Taxes ought to be raised to finance health care. d. All of the above are primarily statements of positive economics.A. Positive economic statements are testable by facts and explain the world as it is without making value judgements.51
  52. 52. 10. Which of the following is a statement of positive economics? a. An unemployment rate of greater than 8 percent is good because prices will fall. b. An unemployment rate of 7% is a serious problem. c. If the overall unemployment rate is 7%, black unemployment rates will average 15%. d. Unemployment is a more severe problem than inflation. C. Other answers are based on a value judgement between black and white 52 unemployment rates.
  53. 53. 11. Which of the following is a statement of normative economics? a. A minimum wage is good because it raises wages for the working poor. b. The minimum wage is supported by unions. c. The minimum wage reduces jobs for unskilled workers. d. The minimum wage encourages firms to substitute capital for laborA. Even though the minimum wage reduces jobs for some working poor, it is a value judgement that the minimum wage is beneficial overall. 53
  54. 54. 12. Select the normative statement that completes the following sentence: If the minimum wage is raised rapidly, then a. inflation increases. b. workers will gain their rightful share of total income. c. profits will fall. d. unemployment will rise. B. To say that workers have right to a certain part of total income entails a value judgement. 54
  55. 55. Online Exercises 55
  56. 56. Exercise 1Does the Internet raise or lower the cost ofmaking friends?As you consider this question, visit a virtualmeeting place: the American InterculturalStudent Exchange ( Oryou may wish to participate in a live chat withother people on the Internet—if so, visitYahoo! ( Explain howscarcity relates to the Internet. 56
  57. 57. Exercise 2Visit World Factbook( and follow these steps:1. Select the United States.2. Note the land area and population in the UnitedStates.3. Compute the land area per person by dividingthe land area of the United States by its populationsize.4. Select Japan. Repeat steps 2 and 3 for Japan.5. How does the scarcity of land influence land-usechoices? Would you find as many golf coursesinJapan as in the United States? Explain. 57
  58. 58. Exercise 3If water is inexpensive and readily available,why does the demand for bottled water, whichcan cost more than $2 for a 12-ounce bottle,remain strong? Why are consumers willing topay such a steep price for bottled water? Forreferences, visit the Evian water Web site at 58
  59. 59. Exercise 4Visit the White House home page—http://www.whitehouse .gov/. Look underCurrent News. Choose a topic you thinkpertains to economics. Does the subjectmatter pertain to macroeconomics ormicroeconomics? Is the analysis primarilynormative or positive? 59
  60. 60. END 60