Intro lecture

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Intro lecture

  1. 1. What is economics? The word economy comes from the Greek word for “one who manages a household” A HH faces many decisions • Who cooks dinner • Who does laundry • Who gets extra dessert at dinner
  2. 2. What is economics? A society faces many decisions too, what jobs will be done and who will do them • Some people should grow food • Some make clothing • Others computer software Management of society’s resources is important because resources are scarce.
  3. 3. • Scarcity means that society has less to offer than people wish to have. • Economics is the study of how society manages its scarce resources.
  4. 4. A choice is a tradeoff -- to get something we have to give up something else Think of a student allocating her must valuable resource – time • She can spend all her time studying economics • She can spend all her time studying mathematics • Or divide her time between the two. • For every hour she studies econ., she gives up an hour she could have used studying math. • For every hour she spends studying, she gives up an hour she could have spent sleeping, bike riding, watching TV.
  5. 5. Society’s tradeoff • National defense versus increased production • Clean environment versus cheaper goods
  6. 6. Another tradeoff Efficiency versus equity • Efficiency: getting the most from your resources • Equity: distributing economic prosperity fairly among members
  7. 7. Opportunity Cost • Opportunity cost is that which we give up or forgo, when we make a decision or a choice.
  8. 8. Opportunity Cost The cost of something is what you give up to get it: Consider the decision to go to university. Intellectual enrichment and better job opportunities. What is the cost: • Tuition • Books • Room and board
  9. 9. Opportunity Cost • But even if you quit school you still need a place to stay. • • Wages given up should be considered as part of the cost of going to university. • • the highest valued alternative we give up is the opportunity cost of the activity chosen
  10. 10. We make choices in small steps, or at the margin • suppose your cousin asks you whether he should go to school one more year. • What is the benefit he gets if goes to school for one more year? Marginal benefit MB • What is the cost associated with going to school for one more year? Marginal cost MC • If MB>MC he should go to school for another year • If MB<MC he should not go to school for another year.
  11. 11. Microeconomics vs. Macroeconomics Microeconomics is: • the study of the choices of individuals • the study of decisions made by enterprises, such as businesses firms • and the interaction of those choices and decisions in social frameworks, such as markets. Macroeconomics is the study of the national economy and the global economy as a whole.
  12. 12. Examples of microeconomic and macroeconomic concerns Production Macroeconomics Income Employment Production/Output in Individual Industries and Businesses Price of Individual Goods and Services Distribution of Income and Wealth How much steel How many offices How many cars Microeconomics Prices Price of medical care Price of gasoline Food prices Apartment rents Wages in the auto industry Minimum wages Executive salaries Poverty Employment by Individual Businesses & Industries Jobs in the steel industry Number of employees in a firm National Production/Output Aggregate Price Level National Income Total wages and salaries Employment and Unemployment in the Economy Total Industrial Output Gross Domestic Product Growth of Output Consumer prices Producer Prices Rate of Inflation Total corporate profits Total number of jobs Unemployment rate
  13. 13. Positive vs normative statements • Positive statements: claims that attempt to describe the world as it is • Normative statements: claims that attempt to prescribe how the world should be
  14. 14. Positive vs normative statements • Ahmet- minimum wage laws cause unemployment • Mustafa- the govt should raise the minimum wage. Difference between positive and normative statement • Positive: can test their validity • Normative: value judgment
  15. 15. Economic Models Economists use economic models to understand the world A model is a formal statement of a theory. Models are descriptions of the relationship between two or more variables
  16. 16. First model: circular flow diagram Millions of people buying, selling, working, hiring Economy has two types of decisionmakers • Firms: produce G&S using FoP (factors of production) • HHs: own FoP and consume
  17. 17. Factors of Production • The basic resources that are available to a society are factors of production: – Land – Labor – Capital
  18. 18. • Production is the process that transforms scarce resources into useful goods and services. • Resources or factors of production are the inputs into the process of production; goods and services of value to households are the outputs of the process of production.
  19. 19. The Circular-Flow Diagram Market for Goods and Services Goods and services sold Revenue Goods and services bought Firms Wage, rent, and profit Spending Households Inputs for production Labor, land and capital Market for Factors of Production Income
  20. 20. Production Possibilities Frontier • The production possibilities frontier (ppf) is a graph that shows all of the combinations of goods and services that can be produced if all of society’s resources are used efficiently
  21. 21. The Production Possibilities Frontier Quantity of Computers Produced 3,000 X If we look at production of both computers and cars, the straight line joining X and Y shows the combinations assuming that there is only a single factor of production => constant trade off between goods Y 0 1,000 Quantity of Cars Produced
  22. 22. The Production Possibilities Frontier Quantity of Computers Produced 4,000 If we look at production of both computers and cars, the concave line joining X and Y shows the combinations assuming that there is more than one factor of production => changing trade-off. 3,000 2,100 2,000 A 0 700 750 1,000 Quantity of Cars Produced
  23. 23. The Production Possibilities Frontier Note: changing slope => changing trade-off. Quantity of Computers Produced 3,000 D C 2,200 A 2,000 1,000 0 Production possibilities frontier B 300 600 700 1,000 Quantity of Cars Produced
  24. 24. The Production Possibilities Frontier: Growth Quantity of Computers Produced 4,000 Change means that more computers can be produced relative to cars 3,000 2,100 2,000 A 0 700 750 1,000 Quantity of Cars Produced
  25. 25. Scarcity and Choice in an Economy of Two or More • A producer has an absolute advantage over another in the production of a good or service if it can produce that product using fewer resources.
  26. 26. Scarcity and Choice in an Economy of Two or More • A producer has a comparative advantage in the production of a good or service over another if it can produce that product at a lower opportunity cost.
  27. 27. Comparative Advantage and the Gains From Trade Daily Production Wood (logs) Mary Bill Food (bushels) 10 4 10 8 • Mary has an absolute advantage in the production of both wood and food because she can produce more of both goods using fewer resources than Bill.
  28. 28. Comparative Advantage and the Gains From Trade Daily Production Wood (logs) Mary Bill • Food (bushels) 10 4 10 8 In terms of wood: – For Bill, the opportunity cost of 8 bushels of food is 4 logs. – For Mary, the opportunity cost of 8 bushels of food is 8 logs. • In terms of food: – For Mary, the opportunity cost of 10 logs is 10 bushels of food. – For Bill, the opportunity cost of 10 logs is 20 bushels of food.
  29. 29. Comparative Advantage and the Gains From Trade • Suppose that Mary and Bill each wanted equal numbers of logs and bushels of food. In a 30day month they (each separately) could produce: Monthly Production with No Trade Daily Production Wood Food (logs) (bushels) Mary Bill 10 10 4 A. 8 Wood Food (logs) (bushels) Mary 150 150 Bill 80 B. 230 80 Total 230
  30. 30. Comparative Advantage and the Gains From Trade • By specializing on the basis of comparative advantage, Mary and Bill can produce more of both goods. Monthly Production with No Trade Monthly Production after Specialization Wood Food (logs) (bushels) Wood Food (logs) (bushels) Mary 150 150 Mary Bill 80 B. 230 80 Bill 230 Total Total 270 0C. 270 30 240 270
  31. 31. Comparative Advantage and the Gains From Trade • To end up with equal amounts of wood and food after trade, Mary could trade 100 logs for 140 bushels of food. Then: Monthly Use After Trade Monthly Production after Specialization Wood Food (logs) (bushels) Wood Food (logs) (bushels) Mary 170 170 Mary 270 30 Bill 100 100 Bill 0 C. 270 240 Total 270 D. 270 Total 270
  32. 32. Specialization, Exchange and Comparative Advantage • According to the theory of competitive advantage, specialization and free trade will benefit all trading parties, even those that may be absolutely more efficient producers.

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