Introduction to the Introductory Unit of IBDP Economics on the necessary approaches to learn Economics in a local , national and global scale.

1. IBDP1 ECONOMICS
UNIT 1
Introduction to Economics

2. 1.1 What is economics? Depth
Diagrams &
calculations
Economics as a social science
• The social nature of economics
• The basis of the study of economics: microeconomics and macroeconomics
• Introduction to the nine central concepts: scarcity, choice, efficiency, equity, economic
well-being, sustainability, change, interdependence, intervention
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The problem of choice
• Factors of production—land, labour, capital and entrepreneurship
• Scarcity
• Unlimited human needs and wants to be met by limited resources
• Scarcity and sustainability
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Learning objectives

3. 1.1 What is economics? Depth
Diagrams &
calculations
• Opportunity cost
• The cost of choice
• Free goods
• The basic economic questions
• What/how much to produce, how to produce and for whom to produce?
• Means of answering the economic questions
• Market versus government intervention
• Economic systems: free market economy, planned economy and mixed
economy
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Learning objectives

4. 1.1 What is economics? Depth Diagrams & calculations
The production possibilities curve model (PPC)
• Assumptions of the model
• Increasing versus constant opportunity cost
• Features of the model: opportunity cost, scarcity, choice,
unemployment of resources, efficiency, actual growth and
growth in production possibilities
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Diagram: PPC illustrating choice and
opportunity cost, unemployment of
resources, actual growth and growth in
production possibilities
Diagram: PPC showing increasing versus
constant opportunity cost
Learning objectives

5. 1.1 What is economics? Depth Diagrams & calculations
Modelling the economy
• The circular flow of income model
• Interdependence between economic decision-makers
interacting and making choices in an economy: households,
firms, the government, the banks and financial sector, and
the foreign sector (foreign firms and households)
• Leakages and injections
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Diagram: circular flow of income model,
with leakages and injections
Learning objectives

6. Social Sciences
• Social Science as an Academic Discipline studies how human beings are
organized in a society, through some general principles.
• It studies the individual(human being) and Group(Society) behavior Eg.
Anthropology, Economics, Politics, Sociology, History, Psychology

7. Economics as a Social Science
• Economics study the human behavior in a society, as to how people organize
their activities and behave in the society in a certain way to satisfy their
needs and wants.
It approaches with a Social Scientific Method which involves;
• Observation to derive real-world problems to be resolved.
• Identify the key variables to be studied to solve the problems
• Make a hypothesis on the relationship between the variables
• Test the hypothesis under necessary/sufficient conditions.
• Compare the projections/predictions of the hypothesis with real world
problems.

8. • Economics is the social science that studies the interactions of humans
in the commercial realm. Economists examine the way societies allocate
their scarce resources towards competing wants and needs and seek to
develop systems that achieve certain objectives, including:
• Growth in humans’ standard of living over time
• Sustainable development
• Employment and stability
Economics as a Social Science

9. Definitions
Economics is
• a social science.
• the study of people in society
• the study of rationing systems: how scarce resources meet the infinite wants of individuals.
Textbook Definition
Economics is the study of how societies use their scarce resources, which are needed to produce
goods and services, to fulfill the unlimited needs and wants of the population, and distribute these
goods and services among different groups.
Economics is the Social Science which examines the way that people behave and
interact with each other to overcome the problems due to the Basic Economic Problem of scarcity.

10. BiG Question
HOW DO YOU THINK THE WORLD IS MEETING THE EVER
INCREASING NEEDS OF THE INCREASING POPULATION, WITH
FEWER INCREASE IN THE RESOURCES?

11. Needs and wants
• Needs for necessity (can’t be without) and wants for possibility (can be without)
• The globe has only finite/limited amount of resources.
• But human needs and wants are unlimited.
• Scarcity – The gap/conflict between the limited resources and unlimited needs &
wants
• For the problem of scarcity, solution is choice.
• When a choice is made by an Economic Agent* concerning the use of Economic
resources, something is given up, leading to an Opportunity Cost
*A participant of Economic Activities like consumers, Producers &Government

12. Identify 3 needs and 6 wants.
Prioritize the needs.
Choice Vs Needs
Choice Vs Wants
Opportnity Cost on Needs
Vs
Opportunity Cost on Wants

13. • You may not know it yet, but you are beginning a science class. Yes, Economics is a
science, and just like other sciences, it deals with a fundamental problem of nature.
• Think of Aerospace Engineering. This is a science that struggles to overcome a basic
problem of nature, that of GRAVITY. Aerospace Engineers are scientists whose
research and life’s work is aimed at overcoming the problem of gravity and putting
man in space.
• Economists are also scientists whose work attempts to
overcome a basic problem of nature.
• Your Riddle:
• What is the basic problem of nature that the science
of Economic attempts to overcome?
• Hint: It arises because of the limited nature of earth’s natural resources!
A Riddle to start off

14. Scarce (limited and desired) Not Scarce (not limited OR not desired)
Air
Diamonds
Dirt
Water
HIV
Computers
Doctors
Murderers
Football players
Sewing machines
Nitrogen
Oxygen
Love
Teachers
Happiness
Clouds
British Pounds
Swiss francs
Mosquitos
factory workers
Apartments in Zurich
Creativity
Worms
Scarcity – the Basic Economic Problem
The problem that Economics, a social science, attempts to overcome is that of Scarcity.
Scarcity arises when something is both limited in quantity yet desired
Some facts about scarcity
• Not all goods are scarce, but most are
• Some goods that humans consume are infinite, such as air
• Organize the following words under the correct category: Scarce or Not Scarce
Scarcity

15. What makes something scarce?
Here’s another riddle for you…
• Nobody needs diamonds, yet they are considered extremely valuable
• Everybody needs water, yet they are considered extremely cheap
Why Are Diamonds So Expensive? Why Is Water So Cheap?
Read more: The Diamond
Water Paradox
This is known as the “diamond / water paradox”. The answer lies in the fact that economic
value is derived from scarcity
• The more scarce an item, the more valueable it is
• The less scarce, the less value it has in society!
Scarcity

16. SCARCITY vs CHOICE
• Due to scarcity, we are unable to have everything we desire. Therefore, we must
make Choices about what resources we consume and what we give up. (Trade-Off)
• Economics is the study of choices by individuals, firms, and governments.
• The choices to meet the problem of scarcity leads to the 3 fundamental questions;
• What to produce? (which product/s in what quantities)
• How to Produce? (what mix of resources and methods for production)
• For Whom to Produce? (for whom and how (fairly?) the income,
resources and output can be distributed)

17. Opportunity Cost
• The cost of the next best alternative forgone, when an economic decision/choice is made.
• Most of the things produced/consumed has an opportunity cost.
• Eg. If the money and time available are limited, as $2 and 3 hours respectively, the choice
of watching a movie, has the opportunity cost of missing out a few hours in the park.
• Give an Example for the Opportunity Cost incurred by
(i) Government (ii) Consumers (iiI) Producers

18. Perhaps the most fundamental concept to Economics, opportunity cost is what must be
given up in order to undertake any activity or economic exchange.
• Opportunity costs are not necessarily monetary, rather when you buy something, the
opportunity cost is what you could have done with the money you spent on that thing.
• Even non-monetary exchanges involve opportunity costs, as you may have done
something different with the time you chose to spend undertaking any activity in your life.
Opportunity Cost

19. Examples of opportunity costs
• The opportunity cost of watching TV on a weeknight is the benefit you could have gotten from studying.
• The opportunity cost of going to college is the income you could have earned by getting a job out of high
school
• The opportunity cost of starting your own business in the wages you give up by working for another
company
• The opportunity cost of using forest resources to build houses is the enjoyment people get from having
pristine forests.
Opportunity Cost

20. Land
Any Natural Resource used to produce goods or services. Anything that comes
naturally from the Earth

21. Labour
A person who devotes effort to a task and who is usually paid.

22. Capital
Physical Capital - Any Human-made resource used to create other goods or services.
Human Capital - Skills or knowledge gained through education or experience
Natural Capital – Is the expanded meaning of the production factor, Land
Financial Capital – Is the investments in financial instruments (stocks, bonds etc.)

23. Entrepreneurship
• Leaders who have to enterprise to bring together other factors of
production to create goods and services.

24. The Factors of Production
The production of all of the good we desire requires scarce resources. It is the allocation of
these resources between humans’ competing wants that Economics focuses on.
The productive Resources
Land Labor Capital Entrepreneurship
Land resources are those
things that are "gifts of
nature". The soil in which
we grow food, wood,
minerals such as copper
and tin and resources
such as oil, goal, gas and
uranium are scarce
Labor refers to the
human resources used in
the production of goods
and services. Labor is the
human work, both
physical and intellectual,
that contributes to the
production of goods and
services
Capital refers to the tools
and technologies that are
used to produce the
goods and services we
desire. Since more and
better tools enhance the
production of all types of
goods and services, from
cars to computers to
education to haircuts, yet
the amount of capital in
the world is limited,
capital is a scarce
resource.
This refers to the
innovation and creativity
applied in the production
of goods and services.
The physical scarcity of
land, labor and capital
does not apply to human
ingenuity, which itself is a
resource that goes into
the production of out
economic output.

25. • Physical Capital – Man made inputs that provide a stream of future benefits, as in the
production of more goods and services
• Human Capital – Skills, abilities and knowledge acquired by people, plus better health and
productivity of the people. It provides a stream of future benefits, as increased quantity and
quality of output.
• Natural Capital – Expanded meaning of the factor – Land. Includes all resources from land plus
the basic natural resources like air, water, soil quality, bio-diversity, ozone layer and the global
climate. Provides a stream of future benefits for the sustainability of mankind.
• Financial Capital – Investments in/ funds to purchase the financial instruments (stocks, bonds
etc.). It provides a stream of future benefits, as income for households, firms & Governments
Capital

26. Product and Resource Markets
In the market system, there exists an interdependence between all individuals.
• Households (that’s us) depend on the goods and services produced by business firms, and
the incomes they provide us, for our survival
• Business firms depend on households for the workers, the capital, the land resources they
need to produce the goods they hope to sell us and make profits on.
Product Markets Resource Markets
Where households buy the goods and services
we desire from firms. Examples:
• The market for private schools
• The market for dental services
• The market for airline travel
• The market for football merchandise
Where business firms buy the productive
resources they need to make their products:
• The market for teachers
• The market for dentists
• The market for pilots
• The market for football players
These exchanges all take place in one of two categories of market
present in all market economies

27. In Product Markets:
• Consumers buy goods and services from firms
• Households use their money incomes earned in the resource market to buy goods and services
• Expenditures by households become revenues for firms
• Firms seek to maximize their profits
• Households seek to maximize their utility (happiness)
In Resource Markets:
• Households supply productive resources (land, labor, capital)
• Firms buy productive resources from households. In exchange for their productive resource, firms pay
households:
 Wages: payment for labor
 Rent: payment for land
 Interest: payment for capital
 Profit: payment for entrepreneurship
• Firms seek to minimize their costs in the resource market
• Firms employ productive resources to make products, which they sell back to households in the
product market
Notice the circular flow of money payments from one market to the other

28. For Land: Rent
Firms pay households RENT. Landowners have the option to use their land for their own use or
to rent it to firms for their use. If the landowner uses his land for his own use, the opportunity
cost of doing so is the rent she could have earned by providing it to a firm.
For Labor: Wages
Firms pay households WAGES. To employ workers, firms must pay workers money wages. If a
worker is self employed, the opportunity cost of self-employment is the wages he could have
earned working for another firm.
For Capital:
Interest
Firms pay households INTEREST. Most firms will take out loans to acquire capital equipment.
The money they borrow comes mostly from households' savings. Households put their money in
banks because they earn interest on it. Banks pay interest on loans, which becomes the payment
to households. If a household chooses to spend its extra income rather than save it, the
opportunity cost of doing so is the interest it could earn in a bank.
Entrepreneurship
: Profits
Households earn PROFIT for their entrepreneurial skills. An entrepreneur who takes a risk by
putting his creative skills to the test in the market expects to earn a normal profit for his efforts.
Resource Payments (Incomes for households)
In exchange for their land, labor, capital and entrepreneurship, households receive
payments. The payments for the four productive resources (which are costs for firms) ar…

29. Key concepts in Economics
scarcity
choice
efficiency
equity
economic well-being
sustainability
change
interdependence
intervention

30. Some key topics from your Economics Course
Scarcity
Resources
Trade-offs
Opportunity cost
Marginal analysis
Factors of Production
Exchange Rates
Cost/Benefit Analysis
Utility maximization
Price Theory
Taxes
Market failure
Public goods
Financial markets
Environment
Perfect competition
Game Theory
Price discrimination
Income distribution
Recession
Supply and Demand
Trade
Markets
Prices
Consumer behavior
Firm behavior
Free Trade

31. Marginal Decision making in Economics
• When analyzing choices, economists will "Thinking on the Margin" (Marginal
Analysis) which simply put, means making decisions based on increments.
Examples are;
• 1 additional hour of study time
• 30 more minutes of TV Time
• 1 additional slice of pizza to eat

32. Economics is divided into two main fields of study
Microeconomics: Studies the behaviors of INDIVIDUALS within an economy: Consumers and producers
in particular markets. Examples of microeconomic topics:
• The Automobile market in Switzerland,
• the market for movie tickets in Zurich,
• the market for airline tickets between the US and Europe,
• the market for vacations to Spain,
• the market for international school teachers.
Macroeconomics: Studies the total effect on a nation's people of all the economic activity within that
nation. The four main concerns of macroeconomics are:
1. total output of a nation,
2. the average price level of a nation,
3. the level of employment (or unemployment) in the nation and
4. distribution of income in the nation
Examples of macroeconomic topics:
• Unemployment in Canada, inflation in Zimbabwe, economic growth in China, the gap between the
rich and the poor in America

33. Microeconomics examines Macroeconomics examines
• Individual markets
• the behavior of firms (companies) and consumers
• the allocation of land, labor and capital resources
• Supply and demand
• The efficiency of markets
• Product markets
• Supply and Demand
• Profit maximization
• Utility maximization
• Competition
• Resource markets
• Market failure
• National markets
• Total output and income of nations
• Total supply and demand of the nation
• Taxes and government spending
• Interest rates and central banks
• Unemployment and inflation
• Income distribution
• Economics growth and development
• International trade
Microeconomics vs. Macroeconomics
The two main units in your economics course can be broken down into many smaller topics.
Some of them are identified below.
What is Economics?

34. Which of these goods are Free Goods and which are Economic Goods?
Haircuts Cars Toothbrushes T.V.S Movies Happiness
Shoes Vacations Friendship Hamburgers Love Jewelry
Education Air Fresh Water Public Transportation Sunshine Etc.
Free Goods and Economics Goods
Goods in Economics are those things we like to consume. They are called “goods” because
consuming them makes us feel good!
Free goods are those things that we desire but that are not limited.
These are abundantly and freely available for every one. Eg. Air/water (but fresh air & water are
depleting, causing a threat to sustainability)
Economic goods are those that we desire but that ARE limited
Production and Consumption of these goods are subject to the basic Economic Problem

35. Do you think like an Economist?
Source: Adapted from NCEE's "AP Microeconomics" by John Morton
What do you already know about economics?
Take this true/false quiz to see what you already know about Economics!
1. -
2. -
3. -
4. -
5. -
6. -
7. -
8. -
9. -
10. -
T
T
T
T
T
T
T
T
T
T
F
F
F
F
F
F
F
F
F
F
1. Because it is desirable, sunshine is scarce.
2. Because it is limited, HIV is scarce.
3. Because water covers three-fourths of the earth's surface it cannot be
considered scarce.
4. The main cost of going to college is tuition, room and board.
5. If public transportation fares are raised, everyone will take the trains
anyway.
6. You always get what you pay for.
7. If someone makes an economic gain, someone else loses.
8. If one nation produces everything better than another nation, there is no
economic reason for these two nations to trade.
9. A non-regulated monopoly tends to charge the highest possible price.
10. A business owner's decision to show more care for consumers is a
decision to accept lower levels of profits.

36. Three Basic Questions
• How to produce? – Methods of production – Productive efficiency
• What to produce? – Resource Allocation – Allocative efficiency
• For whom to produce? – Distribution of output and income - Equity
• Reallocation of Resources
• Income re-distribution

37. Every choice made is associated with a cost, which is known as an opportunity cost.
Opportunity cost refers to the value of the next best alternative forgone when a choice is
made.
Opportunity cost – the cost of choice
Examples:
• A worker decided to go on vacation for a week instead of going to work.
The opportunity cost is the lost wages.
• The US government spent over $1 trillion on social security in 2020. The
opportunity cost is $1 trillion that could have been used to improve
education, healthcare, or other areas of the economy.

38. Article: Would costly border wall outweigh other projects?
1.Define opportunity cost.
2.How much money did President Trump want Congress to
budget for his proposed wall on the US–Mexico border?
3.What is the potential opportunity cost of this project?
Real world example – case study

39. Opportunity cost – free goods
Free goods are naturally abundant with unlimited supply and therefore do not incur any
opportunity costs. Examples include air, sunlight, sea water, and desert sand.

40. ECONOMIC SYSTEMS
https://youtu.be/sHkviUk_47k

41. Activity - Round 1
Each of you get a sheet of paper.
You will have one minute only to draw a shoe.
I will then walk around, see and provide payment to
the best pair of shoes
I would like to purchase
with my budget of $20.

42. Activity- Round 2
Flip over to the other side of your paper. You will now draw
another shoe however, this time, everyone in the class will
receive $1 regardless of how great / terrible your shoe is.

43. Reflection
With a partner or a group, discuss some of the key
differences and takeaways from the two rounds.

45. Rationing systems
• rationing system: an system by which an economy decides how to
allocate (ration) the goods and services that are produced by them.
• free-market economy: an economy where prices are used to ration
goods and services; called capitalism OR free market economy.
• planned economy: an economy where decisions as to what to
produce, how to produce, and for whom to produce are made by a
central body, the government; called a command economy

46. Free-market economy
• the free-market system is self-correcting system!
• example of skateboards and roller skates
• main idea of Adam Smith…when consumers and producers
work to their own best interest, the market functions to produce
the “best” outcome for both— The Invisible Hand

47. Planned economy
• government decides! – the government is the main decision maker to
allocate resources
• government bodies arrange all production, set wages, and set prices
through central planning
• decisions are made by the government on behalf of the people and, in
theory, in their best interests
• in reality, this has proven very difficult—simply by the shear number of
decisions that must be made

48. Centrally Planned
• All economic decisions made by the government
• The government owns all Factors of Production.
• The government decides what to produce.
• The government decides how resources are
used (including labor) and how to distribute
goods within society.
•All economic decisions are made by consumers and
producers in the free market.
•Individuals and private firms own all Factors of Production.
•Entrepreneurs and profit decide what is produced.
•Firms employ individuals and seek the most efficient use
of resources for higher profit.
•Price determines who is able to pay for and purchase
goods.
•Theoretically, no government intervention.
Free Market Economy

49. Mixed Economy
In reality, all countries do not follow the extreme view of no government
intervention (Free-Market) or full government intervention (Centrally Planned).
Most economies in the world today are mixed economies. They
incorporate some government intervention and some free-market
principles.

50. Economic systems
Free market
economy
Mixed
economy
Planned
economy
Allocation of resources is
determined by market
forces i.e., consumers
and producers.
Allocation of resources is
determined by the
government.
Allocation of resources is
determined by
consumers, producers,
and the government.

51. Real world example - economic systems
Rank the following 12 countries from the freest economy to the least free economy.
Germany China Mexico
Venezuala Singapore North Korea
United States India United Kingdom
South Africa Canada Australia

52. Real world example – research task
Visit Index of Economic Freedom to check your answers.

53. Homework / Inquiry
1. What are the main characteristics of a communal/planned economy?
2. Explain the argument that the private sector is more efficient than the public
sector in providing goods and services in an economy.

56. Reading Discussion Questions
1. How is the struggle against scarcity a struggle for survival of man?
2. Is man by nature a social creature? How does man's nature pose a challenge to his survival?
Discuss...
3. Discuss the benefits and dangers of the two ways societies organized economic activities
throughout most of human history
a. Tradition
b. command
4. Why was there no need for "economists" throughout most of human history?
5. "It was not at all obvious that with each man out only for his own gain, society could in fact
endure. It was by no means clear that all jobs of society - the dirty ones as well as the plush
ones - would be done if custom and command no longer ran the world. When society no longer
obeyed one man's dictates, who was to say where it would end?“ Evaluate the author's claim
that the economic revolution was "fundamentally more disturbing by far than the French, the

57. Understanding World by the use of Models
• A model is a simplified representation of
something in the real world
• It represents only the important aspects of
the real world being investigated, avoiding
unnecessary details, to focus on variables
and their relationships to understand and
examine the real-world issues

58. PATTERNS
STRUCTURES
MENTAL MODELS
VISION
ICE-BERG MODEL
EVENTS

59. Who invented???

60. Model Building in Economics
A popular tool in the Economist’s kit is the economic model. Just like scientists in other fields,
economists use models to represent something from the real world.
A model of the solar system: Allows
astronomers to illustrate in a simplified model
the relationships between solar bodies.
A model of the Atomic Structure : Allows
astronomers to illustrate in a simplified model
the relationships between solar bodies.

61. Why Models in Economics ?
• Simplification of complexity of economic relationships
• Projection of reality to a simple context, by ignoring other factors
• Different view/representations of same reality
• Choice of variables, their relationships and related assumptions
• Assumptions to predict the behavior of economic agents (ceteris Paribas)
• Study the impact of economic reality w.r.t different context.
• Various analytical approaches to Real-world Problems
– Theoretical, Tabular, Diagramatic, Quantitative, Conceptual

62. Production Possibilities Curve (PPC) Model
An Economic Model to illustrate;
• Scarcity of resources
• Choice of the combination of output
• Opportunity Cost of one output traded
off for the other
• Efficiency of the economy

63. The production possibilities curve is a model which illustrates the different
combinations of two goods or services that an economy or firm can produce.
Good B
Good
A
PPC
Assumptions of the model:
• There is a fixed amount of resources
• Only two goods are being produced
• Technology and production techniques
are fixed
• All resources are used efficiently
The production possibilities curve model (PPC)

64. • A point on the PPC (A, D, E) means all
resources are employed and are used
efficiently.
• A point within the PPC (B) means some
resources are unemployed or used
inefficiently.
• A point outside the PPC (C) is not possible
with the current level of resources.
The production possibilities curve model (PPC)
Good B
Good
A
PPC
A
D
E
B
C

65. PPC and opportunity costs
Suppose a farmer decides to change from point A to point B. What is the opportunity cost?
• The opportunity cost of
producing R2-R1 additional
kilograms of raspberries is S1-S2
kilograms of strawberries. This is
the opportunity cost of the
choice made due to scarce
resources such as land and
labour.
Raspberries
(kg)
Strawberries
(kg)
A
S1
R1
S2
R2
B
The production possibilities curve model (PPC)

66. Increasing opportunity cost
A concave PPC occurs due to specialization
of resources, as resources are not equally
suitable to produce different products.
Constant opportunity cost
A linear PPC occurs due to the marginal
rate of transformation being constant
throughout the curve.
Good B
Good A
PPC
Good B
Good A
PPC
The production possibilities curve model (PPC)

67. Consider the hypothetical PPC for the
country of Italy
This model shows that Italy can produce:
• Either 7.5 million pizzas,
• OR 750 robots
• Note, however, that Italy can NOT produce 7.5 million
pizzas AND 750 robots
Italy faces a tradeoff in how to use its scarce resources of
land, labor and capital. As the country moves along its PPC
from point A to point D:
• It gives up more and more pizza to have more robots
• It gives up current consumption of food for production
of robots, which themselves are capital goods, and
therefore will assure that Italy’s economy will grow into
the future.
Production Possibilities Curve (PPC)

68. • Points ON the PPC are attainable, and desirable, since a country
producing on the line is achieving full employment and
efficiency
• Points inside the PPC (such as E) are attainable but undesirable,
because a nation producing here has unemployment and is
inefficient
• Points outside the PPC (such as F) are unattainable because they
are beyond what is presently possibble given the country’s
scarce resources. But such points are desirable because they
mean more output and consumption of both goods.
Observations about points on or within the PPC

69. Actual growth (e.g., Point A to Point B)
An economy moves closer to the PPC
when unemployment decreases, and
efficiency increases.
PPC1
Good B
Good A
A
B
The production possibilities curve model (PPC)

70. Growth in production possibilities (e.g., PPC1 to PPC2)
An economy’s PPC can shift outwards if there is:
• an increase in the quantity of resources
• an improvement in the quality of resources
• an improvement in technology
PPC1
PPC2
Good B
Good A
An outward shift of the PPC indicates that the
productive capacity of the economy has increased.
The production possibilities curve model (PPC)

71. Straight –line versus curved PPCs
A PPC can be either straight (A) or bowed outwards from the
origin (B).
A straight line PPC
• Indicates that the two goods require similar resources to produce
(like pizzas and calzones)
• The opportunity cost of one pizza is one calzone, so Italy always gives
up the same quantity of one good no mater where it is on its PPC
A bowed out PPC
• Indicates that the two goods require very different resources to
produce (like pizzas and robots)
• As Italy increases its output of one good, the oportunity cost (in
terms of the quantity of the other good that must be given up)
increases.
(A)
(B)
The Law of Increasing Opportunity Cost:
As the output of one good increases, the opportunity
cost in terms of other goods tends to increase

72. Economic Terms associated with the PPC
In addition to opportunity costs and tradeoffs, the PPC can be used to illustrate several other
key Economic concepts, including…
• Scarcity: Because of scarcity, society can only have
a certain amount of output
• Actual output: A country’s actual output is shown
by where it is currently producing on or within its
PPC
• Potential output: A point on the PPC shows the
potential output of a nation at a particular time
• Economic growth: An increase in the quantity or
the quality of a nation’s resources will shift its PPC
out, indicating the economy has grown
• Economic development: The composition of a
nation’s output will help determine whether the
standards of living of its people are improving over
time

73. Economic Growth vs. Economic Development
Two of the key areas of study in economics are those of growth and development. Sometimes
these concepts are thought of as the same, but they are not.
Economic Growth: This refers to the increase in the total output of goods
and services by a nation over time.
• It is also sometimes defined as an increase in household income over
time.
• It is purely a monetary measure of the increases in the material well
being of a nation.
• On a PPC growth can be shown as an outward shift of the curve.
Economic Development: This refers to the improvement in peoples’
standard of living over time.
• Measured by improvements in health, education, equality, life
expectancy and so on
• Incorporate income as well, but is a much broader measure than growth
• On a PPC development can be shown by a movement towards the
production of goods that improve peoples’ lives

74. The Macroeconomic Circular Flow
In the introduction to economics unit of the
course, you learned about the circular flow of
income in a market economy. In
macroeconomics we have added several
features to this model, including:
• A government sector: The government collects
taxes from households and firms (these are a
leakage from the circular flow) and contributes
government expenditures on public goods (these
are injections into the flow).
• A foreign sector: A nation spends money on
foreign goods (imports, this is a leakage) and
earns money by selling goods to foreigners
(exports, an injection).
• The finance sector: Households and firms save
money in the banking sector (a leakage) and
banks provide households and firms with funds
for investment (an injection)
The Circular Flow of income Model

75. Leakage and Injections in the Circular Flow of the Macroeconomy
In the circular flow model on the previous slide there were red arrows and green arrows,
indicating leakages from and injections to the circular flow.
Leakages: Taxes paid to the government, spending on imports from abroad, and money saved in banks are
all considered leakages from the circular flow of income. Any income earned but NOT spent on goods and
services does not contribute to the nation’s total output, and is therefore leaked from the nation’s economy.
However, these three leakages allow for the three following injections.
Injections: Government spending, export revenues and investments are all enabled by the three leakages
above.
• Because households and firms pay taxes, government has money to provide the nation with valuable infrastructure,
education, defense, support for health care and so on, all public or quasi-public goods that would be under-provided by
the free market. These contribute to national output and are thus injections into the circular flow.
• Because domestic households buy imports, foreigners have access to the money the need to buy the nation’s exports.
The spending by foreigners on domestically produced goods contributes to national output and is therefore an injection.
• Because households save some percentage of their income, capital is available for others to borrow and spend.
Spending on capital goods by firms or on homes by households (both considered investments) contributes to the
nation’s output and is thus an injection into the circular flow.
The total output of a nation’s economy will either increase or decrease based on the relative size
of leakages and injections!
The Circular Flow of income Model

76. • If leakages are
• Equal to injections – Economy remains the same
• Higher than injections – Economy will be falling (negative growth rate)
• Lower than injections – Economy will be rising (positive growth rate)
• Shows the interdependence between all 5 sectors/agents in the Economy