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Ch01 the scope and method of economics

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Ch01:the scope and method of economics

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Ch01 the scope and method of economics

  1. 1. CHAPTERCHAPTER 1© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairThe Scope andMethod of EconomicsAppendix: How to Read and Understand GraphsPrepared by: Fernando QuijanoPrepared by: Fernando Quijanoand Yvonn Quijanoand Yvonn Quijano
  2. 2. 2 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Study of Economics• Economics is the study of howindividuals and societieschoose to use the scarceresources that nature andprevious generations haveprovided.
  3. 3. 3 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSWhy Study Economics?• An important reason forstudying economics is to learna way of thinking.• Three fundamental concepts:• Opportunity cost• Marginalism, and• Efficient markets
  4. 4. 4 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSOpportunity Cost• Opportunity cost is the bestalternative that we forgo, orgive up, when we make achoice or a decision.• Nearly all decisions involvetrade-offs.
  5. 5. 5 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSMarginalism• In weighing the costs andbenefits of a decision, it isimportant to weigh only thecosts and benefits that arisefrom the decision.
  6. 6. 6 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSMarginalism• For example, when a firm decideswhether to produce additional output,it considers only the additional (ormarginal cost), not the sunk cost.• Sunk costs are costs that cannot beavoided, regardless of what is done inthe future, because they have alreadybeen incurred.
  7. 7. 7 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSEfficient Markets• An efficient market is one in whichprofit opportunities are eliminatedalmost instantaneously.• There is no free lunch! Profitopportunities are rare because, atany one time, there are many peoplesearching for them.
  8. 8. 8 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSMore Reasons to Study Economics• The study of economics is anessential part of the study of society.• Economic decisions often haveenormous consequences.• During the Industrial Revolution, newmanufacturing technologies andimproved transportation gave rise to themodern factory system.
  9. 9. 9 of© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSMore Reasons to Study Economics• An understanding ofeconomics is essential to anunderstanding of global affairs.• Voting decisions also require abasic understanding ofeconomics.
  10. 10. 10© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Scope of Economics• Microeconomics is the branchof economics that examinesthe behavior of individualdecision-making units—that is,business firms andhouseholds.
  11. 11. 11© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Scope of Economics• Macroeconomics is thebranch of economics thatexamines the behavior ofeconomic aggregates—income, output, employment,and so on—on a nationalscale.
  12. 12. 12© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Scope of EconomicsExamples of microeconomic and macroeconomic concernsProduction Prices Income EmploymentMicroeconomics Production/Outputin IndividualIndustries andBusinessesHow much steelHow many officesHow many carsPrice of IndividualGoods andServicesPrice of medicalcarePrice of gasolineFood pricesApartment rentsDistribution ofIncome and WealthWages in the autoindustryMinimum wagesExecutive salariesPovertyEmployment byIndividualBusinesses &IndustriesJobs in the steelindustryNumber ofemployees in afirmMacroeconomics NationalProduction/OutputTotal IndustrialOutputGross DomesticProductGrowth of OutputAggregate PriceLevelConsumer pricesProducer PricesRate of InflationNational IncomeTotal wages andsalariesTotal corporateprofitsEmployment andUnemployment inthe EconomyTotal number ofjobsUnemploymentrate
  13. 13. 13© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Method of Economics• Positive economics studieseconomic behavior withoutmaking judgments. Itdescribes what exists and howit works.
  14. 14. 14© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Method of Economics• Normative economics, alsocalled policy economics,analyzes outcomes ofeconomic behavior, evaluatesthem as good or bad, and mayprescribe courses of action.
  15. 15. 15© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Method of Economics• Positive economics includes:• Descriptive economics, which involvesthe compilation of data that describephenomena and facts.• Economic theory, which involvesbuilding models of behavior.• An economic theory is a general statementof cause and effect, action and reaction.
  16. 16. 16© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSTheories and Models• Theories involve models, andmodels involve variables.• A model is a formal statement of atheory. Models are descriptions ofthe relationship between two or morevariables.
  17. 17. 17© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSTheories and Models• Ockham’s razor is theprinciple that irrelevant detailshould be cut away. Modelsare simplifications, notcomplications, of reality.
  18. 18. 18© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSTheories and Models• A variable is a measure that canchange from observation toobservation.• The ceteris paribus device is part ofthe process of abstraction.• Using the ceteris paribus, or all elseequal, assumption, economists studythe relationship between two variableswhile the values of other variablesremain constant.
  19. 19. 19© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSTheories and Models• Pitfalls to avoid in formulatingeconomic theory:• The post hoc, ergo propter hocfallacy refers to a common error madein thinking about causation: If event Ahappened before event B, it is notnecessarily true that A caused B.• The fallacy of composition is theerroneous belief that what is true for apart is also true for the whole.
  20. 20. 20© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSThe Method of Economics• Empirical economics refers to thecollection and use of data to testeconomic theories.• Many data sets are available tofacilitate economic research. Theyare collected by both governmentagencies and private companies,
  21. 21. 21© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSEconomic PolicyCriteria for judging economic outcomes:• Efficiency, or allocative efficiency.An efficient economy is one thatproduces what people want at theleast possible cost.• Equity, or fairness of economicoutcomes.
  22. 22. 22© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSEconomic PolicyCriteria for judging economic outcomes:• Economic growth, or an increase inthe total output of an economy.• Economic stability, or the conditionin which output is steady or growing,with low inflation and full employmentof resources.
  23. 23. 23© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSReview Terms and Conceptsceteris paribusceteris paribusdescriptive economicsdescriptive economicseconomic growtheconomic growtheconomic theoryeconomic theoryeconomicseconomicsefficiencyefficiencyefficient marketefficient marketempirical economicsempirical economicsequityequityfallacy of compositionfallacy of compositionIndustrial RevolutionIndustrial Revolutionmacroeconomicsmacroeconomicsmicroeconomicsmicroeconomicsmodelmodelnormative economicsnormative economicsockham’sockham’s razorrazoropportunity costopportunity costpositive economicspositive economicspost hoc, ergopost hoc, ergo propterpropter hochocstabilitystabilitysunk costssunk costsvariablevariable
  24. 24. 24© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• A graph is a two-dimensionalrepresentation of aset of numbers ordata.
  25. 25. 25© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• A time seriesgraph showshow a singlevariable changesover time.Total Disposable Personal Income inthe United States: 1975-2002 (inbillions of dollars)1000150020002500300035004000450050005500600065007000750080001975 1980 1985 1990 1995 2000YearTotaldisposablepersonalincome
  26. 26. 26© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• The Cartesian coordinate system is themost common method of showing therelationship between two variables.• The horizontal line isthe X-axis and thevertical line the Y-axis.The point at which thehorizontal and verticalaxes intersect is calledthe origin.
  27. 27. 27© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• The point at which theThe point at which theline intersects the Y-line intersects the Y-axis (pointaxis (point aa) is called) is calledthethe Y-intercept.Y-intercept.• TheThe Y-interceptY-intercept, is the, is thevalue ofvalue of YY whenwhen XX = 0.= 0.
  28. 28. 28© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• TheThe slopeslope of the lineof the lineindicates whether theindicates whether therelationship betweenrelationship betweenthe variables is positivethe variables is positiveor negative.or negative.• The slope of the line isThe slope of the line iscomputed as follows:computed as follows:b =∆∆YXY YX X=−−1 01 0
  29. 29. 29© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs• This line slopesupward, indicating thatthere seems to be apositive relationshipbetween income andspending.• Points A and B, abovethe 45° line, show thatconsumption can begreater than income.
  30. 30. 30© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand GraphsAA downward-slopingdownward-slopingline describes aline describes anegative relationshipnegative relationshipbetween X and Y.between X and Y.AnAn upward-slopingupward-slopingline describes aline describes apositive relationshippositive relationshipbetween X andbetween X and Y.Y.
  31. 31. 31© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphsb = =51 00 5. b = − = −71 00 7.b = =01 00 b = = ∞1 00
  32. 32. 32© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand Graphs
  33. 33. 33© 2004 Prentice Hall Business Publishing© 2004 Prentice Hall Business Publishing Principles of Economics, 7/ePrinciples of Economics, 7/e Karl Case, Ray FairKarl Case, Ray FairCHAPTER1:TheSCHAPTER1:TheSAppendix:How to Read and Understand GraphsCartesian coordinate systemCartesian coordinate systemgraphgraphnegative relationshipnegative relationshiporiginoriginpositive relationshippositive relationshipslopeslopetime series graphtime series graphX-axisX-axisY-axisY-axisY-interceptY-intercept

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