Economics is a behavioral science that uses a small number of guiding principles to provide a systematic framework for explaining and predicting human behavior. It recognizes that resources are inherently limited, so scarcity and opportunity costs are central concepts. Economic agents, like individuals, firms, and governments, are assumed to act rationally in their self-interest by weighing costs and benefits at the margin. This implies that markets will reach equilibrium prices where supply and demand balance based on producers' and consumers' responses to changing prices.

1. • Common misperceptions:
• Economics is the study of markets for goods and
services
• Economics is the study of firm behavior, i.e. how
businesses make decisions
• Economics is the study of stuff you see in the
Business section, e.g. interest rates, stock prices,
national productivity (GDP), unemployment
• These are certainly some of issues that
economists study, but don’t cover the breadth
of what economics is really about
So what is it Really?
• Economics is a behavioral science
• Drawing on a small number of guiding
principles, economics provides a systematic
framework for explaining and predicting
behavior (of individuals, firms, govts)
• Unique aspects:
– recognition that most decisions are made in the
context of scarcity

2. – public policy and institutional arrangements affect
behavior by changing the relative benefits/costs
associated with alternative choices
– Resources (whether financial, human or natural) are
inherently limited
– There are never enough resources to meet all the
desires of all the people; some form of resource
rationing is unavoidable
• Opportunity cost
– Resources have alternative uses
– The cost of using a given resource to achieve
objective A must be measured in terms of the
foregone alternatives
Marginal analysis
– Choices are seldom “all or nothing”
– Decision-makers generally have to weigh the

3. tradeoffs between a little more of one thing and a
little less of another
– In general, the benefit (or utility) we receive from
each add’l unit of a good declines as we consume
more
• Rational self-interest
– Decision-makers driven to make themselves as
well off as possible (i.e. want to maximize benefits
attainable from the resources they control)
– This does not preclude altruism (making others
better off at cost to ourselves is not inherently
irrational)
Behaviour of Economic Agents
• These principles imply that decision-makers
(economic agents) engage in a kind of cost-
benefit analysis with respect to every decision
they make
• Example1: Should I buy a more expensive car?
– Only if the marginal benefit I receive over a less

4. expensive car exceeds the value I place on having
the extra dollars to spend on other stuff (the
opportunity cost)
Example2: Should I buy comprehensive
health care coverage?
– Only if the marginal value over less
comprehensive coverage exceeds the value I
place on having the extra dollars to spend on
other stuff (the opportunity cost)
• Example3: Should I (as CEO) invest in
another factory?
– Only if I expect the profits generated from the
additional production to exceed what I could
earn from some alternative investment (the
opportunity cost)
Relation to Markets

5. • It’s a small step from these examples to
understanding the laws of supply and
demand:
– As price of a good increases, the opportunity
cost of consuming the good increases =>
consumers shift some of their spending to other
goods, demand falls
– As price of a good increases, more firms see an
opportunity to profit from producing the good
=> supply increases

6. Quantity of Good
• In a free market, prices adjust to an equilibrium
(P*) at which point producers have no interest in
producing more and consumers no interest in
purchasing more