Scope & Method of Economics

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  • Opportunity cost does not have to be measured in dollar terms. The value of an alternative activity is usually measured in both monetary and nonmonetary costs. Opportunity cost is referred to as implicit cost. Accountants count only explicit costs. Economic cost is higher than accounting costs because it includes implicit, or opportunity, cost.
  • Scope & Method of Economics

    1. 1. RET PA HC 1 The Scope and Method of Economics Prepared by: Fernando Quijano and Yvonn Quijano© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    2. 2. The Study of Economics • Economics is the study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    3. 3. Why Study Economics? • Probably the most important reason for studying economics is to learn a way of thinking. • Three fundamental concepts: • Opportunity cost • Marginalism, and • Efficient markets© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    4. 4. Opportunity Cost • Opportunity cost is the best alternative that we forgo, or give up, when we make a choice or a decision. • Opportunity costs arise because time and resources are scarce. Nearly all decisions involve trade- offs.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    5. 5. Marginalism • In weighing the costs and benefits of a decision, it is important to weigh only the costs and benefits that arise from the decision. • For example, when deciding whether to produce additional output, a firm considers only the additional (or marginal cost), not the sunk cost. • Sunk costs are costs that cannot be avoided, regardless of what is done in the future, because they have already been incurred.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    6. 6. Efficient Markets • An efficient market is one in which profit opportunities are eliminated almost instantaneously. • There is no free lunch! Profit opportunities are rare because, at any one time, there are many people searching for them.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    7. 7. More Reasons to Study Economics • Economics involves the study of societal and global affairs concerning resource allocation. • Economics is helpful to us as voters. Voting decisions require a basic understanding of economics. • Money and financial systems are an important component of the economic system, but are not the most fundamental issue in economics.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    8. 8. The Scope of Economics • Microeconomics is the branch of economics that examines the functioning of individual industries and the behavior of individual decision-making units—that is, business firms and households. • Macroeconomics is the branch of economics that examines the economic behavior of aggregates— income, output, employment, and so on—on a national scale.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    9. 9. The Diverse Fields of Economics Examples of microeconomic and macroeconomic concerns Production Prices Income Employment Microeconomics Production/Output Price of Individual Distribution of Employment by in Individual Goods and Services Income and Individual Industries and Wealth Businesses & Businesses Price of medical Industries care Wages in the auto Jobs in the steel How much steel Price of gasoline industry industry How many offices Food prices Minimum wages Number of How many cars Apartment rents Executive salaries employees in a Poverty firm Macroeconomics National Aggregate Price National Income Employment and Production/Output Level Total wages and Unemployment in salaries the Economy Total Industrial Consumer prices Output Producer Prices Total corporate Total number of Gross Domestic Rate of Inflation profits jobs Product Unemployment Growth of Output rate© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    10. 10. The Method of Economics • Normative economics, also called policy economics, analyzes outcomes of economic behavior, evaluates them as good or bad, and may prescribe courses of action. • Positive economics studies economic behavior without making judgments. It describes what exists and how it works.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    11. 11. The Method of Economics • Positive economics includes: • Descriptive economics, which involves the compilation of data that describe phenomena and facts. • Economic theory that involves building models of behavior. A theory is a statement or set of related statements about cause and effect, action and reaction. • Empirical economics refers to the collection and use of data to test economic theories.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    12. 12. Theories and Models • A theory is a general statement of cause and effect, action and reaction. Theories involve models, and models involve variables. • A model is a formal statement of a theory. Models are descriptions of the relationship between two or more variables. • Ockham’s razor is the principle that irrelevant detail should be cut away. Models are simplifications, not complications, of reality.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    13. 13. Theories and Models • A variable is a measure that can change from observation to observation. • Using the ceteris paribus, or all else equal, assumption, economists study the relationship between two variables while the values of other variables are held unchanged. • The ceteris paribus device is part of the process of abstraction used to focus only on key relationships.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    14. 14. Theories and Models • In formulating theories and models we must avoid two pitfalls: • The Post Hoc Fallacy: It is erroneous to believe that if event A happened before event B, then A caused B. • The Fallacy of Composition: It is erroneous to believe that what is true for a part is also true for the whole. Theories that seem to work well when applied to individuals often break down when they are applied to the whole.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    15. 15. Economic Policy Criteria for judging economic outcomes: • Efficiency, or allocative efficiency. An efficient economy is one that produces what people want at the least possible cost. • Equity, or fairness of economic outcomes. • Growth, or an increase in the total output of an economy. • Stability, or the condition in which output is steady or growing, with low inflation and full employment of resources.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    16. 16. How to Read and Understand Graphs • Each point on the Cartesian plane is a combination of (X,Y) values. • The relationship between X and Y is causal. For a given value of X, there is a corresponding value of Y, or X causes Y.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    17. 17. Reading Between the Lines • A line is a continuous string of points, or sets of (X,Y) values on the Cartesian plane. • The relationship between X and Y on this graph is negative. An increase in the value of X leads to a decrease in the value of Y, and vice versa.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    18. 18. Positive and Negative Relationships An upward-sloping line describes a positive relationship between X and Y. A downward-sloping line describes a negative relationship between X and Y.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    19. 19. The Components of a Line • The algebraic expression of this line is as follows: Y = a + bX where: Y = dependent variable X = independent variable a = Y-intercept, or value of Y when X = 0. + = positive relationship ∆Y Y1 − Y0 between X and Y b = = b = slope of the line, or the ∆X X 1− X 0 rate of change in Y given a change in X.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    20. 20. Different Slope Values 5 7 b = = 0 .5 b = − = − 0 .7 10 10 0 10 b = = 0 b = = ∞ 10 0© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    21. 21. Strength of the Relationship Between X and Y • This line is relatively flat. Changes in the value of X have only a small influence on the value of Y. • This line is relatively steep. Changes in the value of X have a greater influence on the value of Y.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    22. 22. The Difference Between a Line and a Curve Equal increments in Equal increments in X lead to constant X lead to diminished increases in Y. increases in Y.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
    23. 23. Interpreting the Slope of a Curve • Graph A has • Graph B has a positive and a negative decreasing slope, then a slope. positive slope. • Graph C shows • Graph D a negative and shows a increasing negative and relationship decreasing between X and slope. Y.© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair

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