Solutions Manual for Economics 4th Edition by Krugman IBSN 9781464143847
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Notes for Principles of Macroeconomics (ECON 10020 or ECON 20020) at the University of Notre Dame. Topics include the role of financial institutions and financial markets in capitalist economies, government management of the business cycle, and current monetary policy in the United States. Etc.
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3Final ExaminationBAM 223 Principles of EconomicsM.docxtamicawaysmith
3
Final Examination
BAM 223 Principles of Economics
Multiple Choice Questions (Enter your answers on the enclosed answer sheet)
An economic ________ is a simplified version of some aspect of economic life used to analyze 1.
an economic issue.
variablea.
marketb.
modelc.
trade-off d.
Scenario 1-2
Suppose a hat manufacturer currently sells 2,000 hats per week and makes a profit of
$5,000 per week. The plant owner observes, “Although the last 300 hats we produced and
sold increased our revenue by $1,000 and our costs by $1,100, we are still making an
overall profit of $5,000 per week so I think we’re on the right track. We are producing the
optimal number of hats.”
Refer to Scenario 1-2. Had the firm not produced and sold the last 300 hats, would its profit 2.
be higher or lower, and if so by how much?
Its profit will be $1,100 higher. a.
Its profit will be $1,000 lower. b.
Its profit will be $100 lower.c.
Its profit will be $100 higher. d.
The term market in economics refers to: 3.
a place where money changes hands.a.
a legal institution where exchange can take place.b.
a group of buyers and sellers of a product and the arrangement by which they come c.
together to trade.
an organization which sells goods and services. d.
Scenario 1-3
Suppose a t-shirt manufacturer currently sells 5,000 t-shirts per week and makes a profit of
$10,000 per week. A manager at the plant observes, “Although the last 400 t-shirts we
produced and sold increased our revenue by $4,000 and our costs by $4,800, we are still
making an overall profit of $10,000 per week so I think we’re on the right track. We are
producing the optimal number of t-shirts.”
Refer to Scenario 1-3. Using marginal analysis terminology, what is another economic term 4.
for the incremental cost of producing the last 400 t-shirts?
marginal costa.
explicit costb.
operating costc.
Any of the above terms are correct.d.
4
Final Examination
BAM 223 Principles of Economics
Suppose the U.S. government encouraged new teachers to take jobs in underperforming 5.
schools by paying the new teachers a $20,000 bonus. These teachers would be exemplifying
the economic idea that:
people respond to economic incentivesa.
people are rationalb.
optimal decisions are made at the marginc.
equity is more important than efficiency d.
Dr. Goldfinger decides to invest in companies which he believes can “improve the 6.
productivity and efficiency” of health care services. How can Dr. Goldfinger strive to achieve
this productive efficiency?
by investing in companies that produce goods and services at the lowest possible costa.
by investing in companies that produce up to the point where the marginal benefit of the b.
last unit produced is equal to the marginal cost of producing it.
by investing in companies that fairly distribute their products and servicesc.
by investing in companies that produce goods and services based on consumer d.
preferences ...
Instructions use a RED scantron and bubble in your answers. T.docxdirkrplav
Instructions: use a RED scantron and bubble in your answers. Turn in your
scantron along with your typed answers to the written portion of the exam.
1. When private ownership rights are well-defined and enforced, owners
a. can ignore the wishes of others, without bearing the cost.
b. have little incentive to take care of things.
c. can do anything they want with their property.
d. can be held accountable for damage to others through misuse of their
property.
2. Criteria for rationing goods and resources must be established because of
a. the law of comparative advantage.
b. the use of capitalism as a form of economic organization.
c. the inability of politicians to develop efficient forms of economic organization.
d. scarcity imposed by nature.
3. When we say the cost of production is $50, what is meant according to economic
principles?
a. A firm had to spend $50 in order to purchase the resources required to make the
good or service.
b. A value to society of this good or service was $50, so its cost is said to be $50.
c. A firm could have made something else with the resources that was worth $50 in
the market.
d. $50 represents the maximum willingness to pay from market participants.
4. For markets to be efficient in production, what must be true?
e. All profitable opportunities must be exhausted
f. No firm is doing something where MC>MB
g. All of the above
h. None of the above
Use the production possibilities data below for Honduras and Nicaragua to answer the
following question(s).
Table 2-2
Honduras
Oranges Apples
0 16
1 12
2 8
3 4
4 0
Nicaragua
Oranges Apples
0 8
1 6
2 4
3 2
4 0
5. Refer to Table 2-2. Which of the following is correct?
a. Honduras has the comparative advantage in both goods.
b. Nicaragua has the comparative advantage in oranges.
c. Honduras has the comparative advantage in oranges.
d. It would be impossible for Honduras and Nicaragua to gain from trade.
Figure 2-2
6. Which of the following would most likely cause the production possibilities curve for
breadfruit and fish to shift outward from AA to BB in Figure 2-2?
a. a decrease in the labor force of the country
b. a sudden change in consumer preferences for more fish and less breadfruit
c. a major technological advance
d. a decrease in the capital stock
Figure 2-10
7. Refer to Figure 2-10. A movement from point C to point D could be caused by
a. unemployment.
b. a decrease in society's preference for bananas.
c. fewer resources available for production of bananas.
d. All of the above are correct.
8. Which of the following results in more elastic demand?
a. Fewer substitutes
b. Less time in which to respond to a price spike
c. A higher proportion of income spent on the good
d. Good considered a luxury good rather than a necessity
9. Two points on a demand curve are P=60,Q=10 and P=30,Q=30. What is the elasticit.
AuthorsPublisherR. Glenn Hubbard and Anthony Patrick.docxikirkton
Authors:
Publisher:
R. Glenn Hubbard and Anthony Patrick O’Brien
Pearson/Prentice Hall
925 N. Spurgeon Street, Santa Ana, CA 92701 Phone: 714-547-9625 Fax: 714-547-5777
04/09
BAM223
PRINCIPLES OF ECONOMICS
F
in
a
l E
xa
m
in
a
ti
o
n
Text: Essentials of Economics
2nd Edition, 2009
ISBN-13: 978-0-13-608623-9
ISBN-10: 013-608623-3
Final Examination
1
Principles of Economics
1) Every society faces economic tradeoffs. This means
a. producing more of one good means less of another good can be produced.
b. not everyone can have enough goods and services to survive.
c. some people live better than others do.
d. society’s output cannot be made available to all.
2) Which of the following statements is false?
a. Tradeoffs do not apply when consumers purchase a product for which there is
excess supply, such as a stock clearance sale.
b. Every individual, no matter how rich or poor, is faced with making tradeoffs.
c. Anytime you have to decide which action to take you are facing an economic
tradeoff.
d. Economics is a social science that studies the tradeoffs we are forced to
make because of scarcity.
3) Which of the following is not an example of an economic tradeoff that a firm
has to make?
a. whether it should produce more of its product.
b. whether it is cheaper to produce with more machines or with more workers.
c. whether or not consumers will buy its products .
d. whether to outsource the production of a good or service
4) How are the fundamental economic decisions determined in Cuba?
a. Primarily, the government decides because Cuba is a centrally planned
economy.
b. These decisions are made by the country’s elders who have had much experi-
ence in answering these questions.
c. Individuals, firms, and the government interact in a market to make these
economic decisions.
d. The United Nations decides because Cuba is a developing economy.
5) Which of the following correctly describes the relationship between economic
efficiency and economic equity?
a. They are both automatically achieved in a free market economy.
b. There is no conflict between the two goals.
c. There is often a trade-off between the two.
d. They always call for opposite outcomes.
Multiple Choice Questions (Enter your answers on the enclosed answer sheet)
2
Final Examination
Principles of Economics
6) Which of the following statements best characterizes the disagreements be-
tween Paul Samuelson and Jagdish Bhagwati in their debate about outsourc-
ing?
a. Their disagreements are grounded in normative economic analysis. They dis-
agree over how to interpret the relevant economic statistics.
b. Their disagreements are grounded in positive economic analysis. They dis-
agree about the relevant economic statistics used in the model.
c. Their disagreements are grounded ...
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Managerial Economics: Concept of Economy, Economics, Microeconomics, Macroeconomics. Nature and
Scope of Managerial Economics, Managerial Economics and decision-making. Concept of Firm, Market, Objectives of
Firm: Profit Maximization Model, Economist Theory of the Firm, Cyert and March’s Behavior Theory, Marris’ Growth
Maximisation Model, Baumol’s Static and Dynamic Models, Williamson’s Managerial Discretionary Theory. (6+1)
2. Utility & Demand Analysis: Utility – Meaning, Utility analysis, Measurement of utility, Law of diminishing
marginal utility, Indifference curve, Consumer’s equilibrium - Budget line and Consumer surplus. Demand - Concept of
Demand, Types of Demand, Determinants of Demand, Law of Demand, Elasticity of Demand, Exceptions to Law of
Demand. Uses of the concept of elasticity. Forecasting: Introduction, Meaning and Forecasting, Level of Demand
Forecasting, Criteria for Good Demand Forecasting, Methods of Demand Forecasting, Survey Methods, Statistical
Methods, Qualitative Methods, Demand Forecasting for a New Products. (Demand Forecasting methods - Conceptual
treatment only numericals not expected) (8+1)
3. Supply & Market Equilibrium: Introduction, Meaning of Supply and Law of Supply, Exceptions to the Law of
Supply, Changes or Shifts in Supply. Elasticity of supply, Factors Determining Elasticity of Supply, Practical Importance,
Market Equilibrium and Changes in Market Equilibrium. Production Analysis: Introduction, Meaning of Production and
Production Function, Cost of Production. Cost Analysis: Private costs and Social Costs, Accounting Costs and Economic
costs, Short run and Long Run costs, Economies of scale, Cost-Output Relationship - Cost Function, Cost-Output
Relationships in the Short Run, and Cost-Output Relationships in the Long Run. (8+1)
4. Revenue Analysis and Pricing Policies: Introduction, Revenue: Meaning and Types, Relationship between
Revenues and Price Elasticity of Demand
1
Macroeconomics Tutorial Map (provisional)
Topics Lecture (date)
■ Introduction; Scarcity and choice, market system,
positive and normative, alternative systems
1: F (9/01)
■ Introduction: the PPC, benefits of trade
■ Introduction; Four key macroeconomic variables;
definitions; policy goals;
2: F 9/08
■ The circular flow of income; injections and
withdrawals
■ Measuring National Income 3: F 9/15
■The limits of growth, resource constraints
■ The business cycle 4: F 9/22
■ Introduction to Demand and Supply
■ First In-class TEST Receive 1st take-home
assignment
■Unemployment – measures causes and types 5: F 9/29
■ Unemployment II – measures causes and types
28
Macroeconomics Tutorial Map (provisional)
Topics Lecture (date)
■ Aggregate Demand and Aggregate Supply II –
what drives National Income?
6: F 10/06
■ Aggregate Demand, Supply and Inflation I
■ Aggregate Demand, Supply and Inflation II 7: F 10/13
■ Inflation – more on inflation
■ Fiscal Policy 8: F 10/20
■ Fiscal Policy
■ Second In-Class Test Receive 2nd take-home
assignment
■ The importance of money. Monetary Policy 9: F 10/27
■ The banking system and interest rates
■ More on monetary policy 10: F 11/03
■ NO CLASS F 11/10
■ Supply-side policy I
■ More on supply side, and productivity II
■ Key Supply-side policy choices
11: F 11/17
29
2nd
Assignment
Due
1st As’mt
Due
Macroeconomics Tutorial Map (provisional)
Topics Lecture (date)
■ NO CLASS 11/24
■ Third In-class TEST Receive 3rd take-home
assignment
13: F 12/01
■ International Trade - Reasons for Trade
■ Evaluating Trade and Trade Policy
■ Balance of Payments
■ Exchange rates
■ Exchange rates and macroeconomic policy
■ Examining policy choices
14: F 12/08
■ FINAL EXAM 9:30AM F 12/15
30
■ Tutorial map
l I reserve the right to change this schedule at any time. I will
need to get used to the pace of the class. I may include or
exclude topics depending upon how we are progressing
l IN THE EVENT OF A CONFLICT BETWEEN THE SCHEDULE
HERE AND THE SYLLABUS, THE MOST RECENT SLIDE PACK
TAKES PRECEDENT
3rd Assignment
Due
Macroeconomics
LECTURES 3 & 4
2
Macroeconomics
■ Last time
l The role of government in managing the economy and
alternative economic systems
l Introduction to the 4 key economic variables
l The Economic Cycle and Circular Flow of Income
l Injections and withdrawals
l An overview of the relationship between the four key
Macroeconomic objectives
l Measuring National Income – real vs. nominal
■ Today – National Income Accounts
l Why growth?
l Measuring National Income
l The limits of growth, resource constraints
l The business cycle
165
Macroeconomics
Assignment:
Read McC & B Ch 7 for National Income Accounting
(read all of the chapter now if you like. We will deal
with the shortcomings of GDP as a measure next time)
165
ANY QUESTIONS ON THE
READING OR THE SLIDES FROM
LAST LESSON?
Macroeconomics
■ The first of the four key economic goals: Economic growth
l Usual ...
Ethnobotany and Ethnopharmacology:
Ethnobotany in herbal drug evaluation,
Impact of Ethnobotany in traditional medicine,
New development in herbals,
Bio-prospecting tools for drug discovery,
Role of Ethnopharmacology in drug evaluation,
Reverse Pharmacology.
Unit 8 - Information and Communication Technology (Paper I).pdfThiyagu K
This slides describes the basic concepts of ICT, basics of Email, Emerging Technology and Digital Initiatives in Education. This presentations aligns with the UGC Paper I syllabus.
Operation “Blue Star” is the only event in the history of Independent India where the state went into war with its own people. Even after about 40 years it is not clear if it was culmination of states anger over people of the region, a political game of power or start of dictatorial chapter in the democratic setup.
The people of Punjab felt alienated from main stream due to denial of their just demands during a long democratic struggle since independence. As it happen all over the word, it led to militant struggle with great loss of lives of military, police and civilian personnel. Killing of Indira Gandhi and massacre of innocent Sikhs in Delhi and other India cities was also associated with this movement.
This is a presentation by Dada Robert in a Your Skill Boost masterclass organised by the Excellence Foundation for South Sudan (EFSS) on Saturday, the 25th and Sunday, the 26th of May 2024.
He discussed the concept of quality improvement, emphasizing its applicability to various aspects of life, including personal, project, and program improvements. He defined quality as doing the right thing at the right time in the right way to achieve the best possible results and discussed the concept of the "gap" between what we know and what we do, and how this gap represents the areas we need to improve. He explained the scientific approach to quality improvement, which involves systematic performance analysis, testing and learning, and implementing change ideas. He also highlighted the importance of client focus and a team approach to quality improvement.
The French Revolution, which began in 1789, was a period of radical social and political upheaval in France. It marked the decline of absolute monarchies, the rise of secular and democratic republics, and the eventual rise of Napoleon Bonaparte. This revolutionary period is crucial in understanding the transition from feudalism to modernity in Europe.
For more information, visit-www.vavaclasses.com
The Roman Empire A Historical Colossus.pdfkaushalkr1407
The Roman Empire, a vast and enduring power, stands as one of history's most remarkable civilizations, leaving an indelible imprint on the world. It emerged from the Roman Republic, transitioning into an imperial powerhouse under the leadership of Augustus Caesar in 27 BCE. This transformation marked the beginning of an era defined by unprecedented territorial expansion, architectural marvels, and profound cultural influence.
The empire's roots lie in the city of Rome, founded, according to legend, by Romulus in 753 BCE. Over centuries, Rome evolved from a small settlement to a formidable republic, characterized by a complex political system with elected officials and checks on power. However, internal strife, class conflicts, and military ambitions paved the way for the end of the Republic. Julius Caesar’s dictatorship and subsequent assassination in 44 BCE created a power vacuum, leading to a civil war. Octavian, later Augustus, emerged victorious, heralding the Roman Empire’s birth.
Under Augustus, the empire experienced the Pax Romana, a 200-year period of relative peace and stability. Augustus reformed the military, established efficient administrative systems, and initiated grand construction projects. The empire's borders expanded, encompassing territories from Britain to Egypt and from Spain to the Euphrates. Roman legions, renowned for their discipline and engineering prowess, secured and maintained these vast territories, building roads, fortifications, and cities that facilitated control and integration.
The Roman Empire’s society was hierarchical, with a rigid class system. At the top were the patricians, wealthy elites who held significant political power. Below them were the plebeians, free citizens with limited political influence, and the vast numbers of slaves who formed the backbone of the economy. The family unit was central, governed by the paterfamilias, the male head who held absolute authority.
Culturally, the Romans were eclectic, absorbing and adapting elements from the civilizations they encountered, particularly the Greeks. Roman art, literature, and philosophy reflected this synthesis, creating a rich cultural tapestry. Latin, the Roman language, became the lingua franca of the Western world, influencing numerous modern languages.
Roman architecture and engineering achievements were monumental. They perfected the arch, vault, and dome, constructing enduring structures like the Colosseum, Pantheon, and aqueducts. These engineering marvels not only showcased Roman ingenuity but also served practical purposes, from public entertainment to water supply.
We all have good and bad thoughts from time to time and situation to situation. We are bombarded daily with spiraling thoughts(both negative and positive) creating all-consuming feel , making us difficult to manage with associated suffering. Good thoughts are like our Mob Signal (Positive thought) amidst noise(negative thought) in the atmosphere. Negative thoughts like noise outweigh positive thoughts. These thoughts often create unwanted confusion, trouble, stress and frustration in our mind as well as chaos in our physical world. Negative thoughts are also known as “distorted thinking”.
Palestine last event orientationfvgnh .pptxRaedMohamed3
An EFL lesson about the current events in Palestine. It is intended to be for intermediate students who wish to increase their listening skills through a short lesson in power point.
Students, digital devices and success - Andreas Schleicher - 27 May 2024..pptxEduSkills OECD
Andreas Schleicher presents at the OECD webinar ‘Digital devices in schools: detrimental distraction or secret to success?’ on 27 May 2024. The presentation was based on findings from PISA 2022 results and the webinar helped launch the PISA in Focus ‘Managing screen time: How to protect and equip students against distraction’ https://www.oecd-ilibrary.org/education/managing-screen-time_7c225af4-en and the OECD Education Policy Perspective ‘Students, digital devices and success’ can be found here - https://oe.cd/il/5yV
Solutions manual for economics 4th edition by krugman ibsn 9781464143847
1. SOLUTIONS MANUAL for Economics 4th Edition by Krugman IBSN
9781464143847
Download at:
http://downloadlink.org/p/solutions-manual-for-economics-4th-edition-by-krugman-
ibsn-9781464143847/
TEST BANK for Economics 4th Edition by Krugman IBSN 9781464143847
Download at:
http://downloadlink.org/p/test-bank-for-economics-4th-edition-by-krugman-ibsn-
9781464143847/
chapter 2
Economic Models:
Trade-offs and Trade
Chapter Objectives
• Explain why models play a crucial role in economics.
• Present two simple but important models: the production possibilities frontier and
comparative advantage.
• Present the circular-flow diagram.
• Explain the difference between positive and normative economics.
• Explain why economists do not always agree.
Chapter Outline
Opening Example: The Wright Brothers invented a wind tunnel to test models of air-
planes. Boeing ran 15,000 hours of wind tunnel tests when it was developing its latest
jet, the Dreamliner. Testing models is cheaper and safer than building full-scale versions.
Economists use models in the same way.
I. Models in Economics: Some Important Examples
A. Definition: A model is a simplified representation of a real situation that is
used to better understand real-life situations.
B. Models allow economists to see the effects of only one change at a time.
C. Definition: The other things equal assumption means that all other relevant
factors remain unchanged.
D. Economic models make use of mathematical tools, especially graphs.
II. Trade-offs: The Production Possibility Frontier
A. Definition: The production possibility frontier illustrates the trade-offs
facing an economy that produces only two goods. It shows the maximum
quantity of one good that can be produced with available resources and
technology for any given production of the other.
2. B. The graph of the production possibilities frontier shows the possible combina-
tions of two goods that can be produced given the scarce resources of the
society.
C. A point inside the frontier is a feasible combination of two goods that can be
produced, but does not use all resources fully; and a point outside the fron-
tier is not feasible given the current amount of resources. See text Figure 2-1,
shown next.
11
3. 12 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
12
The Production Possibility Frontier
Quantity of
Dreamliners
30
15
Feasible but
9 not efficient
Feasible and
efficient in
production
A
B
C
D
Not
feasible
Production
possibility
frontier
(PPF)
0 20 28 40
Quantity of small jets
D. The production possibility model illustrates the concepts of:
1. Efficiency: Any point on the frontier represents an efficient use of
resources, and any combination of goods inside the frontier represents a
point of inefficiency.
a. If an economy produces on its production possibilities frontier, it is
efficient in production.
b. An economy is efficient in allocation if it allocates resources so that
consumers are as well off as possible.
2. Opportunity costs: The negative slope of the frontier means that an
increase in the production of one good must require a sacrifice of some
quantity of the other good.
3. The law of increasing costs: If the frontier is bowed out, the opportunity
costs increase as more of one good is produced because resources are not
easily transferable from the production of one good to another.
4. Economic growth: Over time as a society gains more resources, the pro-
duction possibility frontier shifts outward. See text Figure 2-3, shown on
the next page.
a. Economic growth comes from two basic sources: an increase in factors
of production, and technology.
b. Definition: Factors of production are resources used to produce
goods and services.
c. Definition: Technology is the technical means for producing goods
and services.
4. 13 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
13
0 16 20 40 0 6 10 30
Quantity of small jets Quantity of small jets
Economic Growth
Quantity of
Dreamliners
35
30
25
20
15
10
5
E
A
Original
PPF
New
PPF
0 10 20 25 30 40 50
Quantity of small jets
III. Comparative Advantage and Gains from Trade
A. Definition: An individual has a comparative advantage in producing a good if
the opportunity cost of producing the good is lower for that individual than for
other people.
B. Definition: An individual has an absolute advantage in an activity if he or she
can do it better than other people can. Having an absolute advantage is not the
same thing as having a comparative advantage.
C. Comparative advantage, not absolute advantage, is the basis for the gains from
trade.
D. The concepts of absolute advantage and comparative advantage apply to indi-
viduals, firms, and countries.
E. The gains from trade are illustrated in text Figure 2-5 (shown next), with a
straight-line production possibility frontier for each of two countries:
Comparative Advantage and International Trade
(a) U.S. Production and Consumption (b) Brazilian Production and Consumption
Quantity of
large jets
30
20
U.S. production
with trade
U.S. consumption
without trade
U.S. consumption
Quantity of
large jets
Brazilian consumption
18 with trade Brazilian consumption
with trade
10 Brazilian
U.S.
PPF
PPF with trade
5. 14 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
14
F. Individuals or countries will engage in trade only if the price of the good each
is obtaining from trade is less than its own opportunity cost of producing the
good.
G. This example highlights two important lessons:
1. Both countries are able to produce more and consume more in total.
2. Each country has a comparative advantage in the production of some-
thing.
H. Although economists have a very positive view of international trade, politi-
cians and the public sometimes have a negative view of international trade.
IV. Transactions: The Circular-Flow Diagram
A. Definition: Trade takes the form of barter when people directly exchange goods
they have for goods they want.
B. Definition: The circular-flow diagram is a model that represents the transac-
tions in an economy by flows around a circle.
C. Definition: A household is a person or a group of people who share their
income.
D. Definition: A firm is an organization that produces goods for sale.
E. Definition: Firms sell goods and services that they produce to households in
markets for goods and services.
F. Definition: Firms buy the resources they need to produce—factors of
production—in factor markets.
G. Definition: Income distribution is the way in which total income is divided
among the owners of the various factors of production.
H. The circular-flow diagram is a simplified picture of an economy, as demon-
strated in text Figure 2-6, shown here.
Circular-Flow Diagram
Money
Goods
and
services
Households
Money
Factors
Markets for
goods and
services
Factor markets
Goods
and
services Factors
Money
Firms
Money
I. The circular-flow diagram can help us understand how the economy manages
to provide jobs for a growing population.
1. The number of jobs isn’t fixed, because it depends on how much house-
holds spend; the amount households spend depends on how many people
are working.
6. 15 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
15
V. Positive versus Normative Economics
A. Definition: Positive economics is the branch of economic analysis that
describes the way the economy actually works.
B. Definition: Normative economics makes prescriptions about the way the
economy should work.
C. Definition: A forecast is a simple prediction of the future.
D. Models are especially helpful in answering “what if” questions such as, How
will revenues change with a tax cut? The answer is a predictive one, not pre-
scriptive; it does not tell you if the policy is good or bad.
E. Economists do engage in normative economics. Economic analysis can be used
to show that some policies are clearly better than others, especially if one solu-
tion is more efficient than another. For example, most economists would favor
subsidies to renters over rent-control laws as a more efficient solution to help
low-income families obtain housing.
VI. When and Why Economists Disagree
A. Because economists used different models and make differing simplifying
assumptions, they can arrive at different conclusions.
B. Many disagreements are eventually resolved by the accumulation of evidence.
C. Economic analysis is a method, not a set of conclusions.
Teaching Tips
Models in Economics
Creating Student Interest
Ask students why economists (and economics students) use simplified models. (Because
the real world is too complex to consider everything at once. You want to use a more
complicated model only if the benefits of added understanding exceed the costs of added
difficulty and complexity.)
Construct a paper airplane during class. When you are finished, ask the students what
you have made. Give your airplane a test flight. Have the class identify the ways the paper
airplane is like a real airplane (for instance, it has wings, it flew). If they have trouble,
remind them that they knew what it was, so there must have been some things in com-
mon! Have the class identify the ways it is not like a real airplane (size, weight, other
details, it did not fly). The paper airplane can help an aerodynamics student learn the
basic principles of flight (without the complexity of a 747), just as economic models can
help students learn about the basic principles of economics. As understanding increases,
so can the complexity of the models used.
An alternative to the paper airplane example is a simple smiley face drawn on the board
or an emoticon used in text messages, : ) or . Use these representations to have the
same discussion with students. How is the image like a real smiling face and how is it
different? Why is it so useful in text messaging? (It is simplified and we all know what it
means.) How might the level of complexity be increased for the smiley face model? (Add
ears, hair.)
Presenting the Material
In this chapter students will be introduced to two economic models—the production pos-
sibilities frontier and the circular flow diagram—both of which make simplifying assump-
tions. For now, discuss another type of model they are all familiar with—the map. Maps are
simplifications of reality that have more or less detail, depending on what the user wants
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to know. Do you use the same type of map to drive from New York to California as you
do to drive from point to point in a particular city? No, because for city driving you need
to know about all of the roads, whereas for cross-country driving you are mainly interested
in interstate highways.
Trade-offs: The Production Possibilities Frontier
Creating Student Interest
Introduce the production possibilities model by evoking the image of a person (or
people) stranded on an island. This could be Robinson Crusoe, Gilligan, Tom Hanks in
Cast Away, contestants on Survivor—have your students select the image that they can
relate to the most. Present that as an example of the simplest economy you can imagine.
Explain to students that you are going to build a model of the economy on the island.
Have students list the limited resources available on the island (for example, trees, sand,
water, fish, labor, entrepreneurship). Then have the class consider the immediate needs
that must be met using these resources (food, shelter). Explain that the model will rep-
resent production in the island economy.
Presenting the Material
Use students “producing” grades as a simple example of a production possibility fron-
tier. Put economics on the vertical axis of a graph and accounting on the horizontal axis.
Students’ time and energy are fixed for the moment, and putting more time into one subject
involves a lower grade in the other subject. (Assuming that the student is equally efficient
in “producing” both subjects, the production possibilities graph is a straight line.) Points on
the frontier show the possible combinations of grades that the student can achieve.
Use an example of a country that can produce wheat or airplanes. Here are the points on
the production possibility frontier:
Maximum annual output options Wheat Airplanes
A 1,000 0
B 800 150
C 600 250
D 400 325
E 200 375
F 0 400
Ask students: What is the opportunity cost of expanding production from 150 airplanes to
250 airplanes? (200 wheat.) Why is the production possibility graph negatively
sloped? (Given scarcity, producing more of one good means producing less of the other.)
Why is it bowed out from the origin? (Because of increasing opportunity cost.)
Comparative Advantage and Gains from Trade
Creating Student Interest
Ask students if they agree with the idea that, if it is cheaper to buy a product
from another country than it is to make it yourself, you should buy it from the other
country.
Provoke a discussion by asking students if the U.S. economy would be better off without
importing so many clothing items from China. Get them to start thinking about the idea
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that every action has a benefit and a cost. Who benefits from being able to import cloth-
ing from China? (Consumers, because the clothing is cheaper.) Who loses as a result of
importing more clothing from China? (Domestic producers, because factories close and
jobs are lost.)
Presenting the Material
Take some time to review the example in the text to illustrate comparative advantage and
gains from trade. Next, you can work the example below. Explain to students that in this
chapter we are ignoring dollars and will simply trade one good directly for another in
order to keep things simple.
Give a simple example of two economies that can produce the following two goods, in
the same time period, with a fixed amount of resources. Assume a straight line produc-
tion possibility frontier.
Quantity
of pizza
40
Lozano
Quantity
of pizza
Bilma
32
D D
20 8
Quantity of cola Quantity of cola
Lozano has an absolute advantage in producing both goods because he can produce more
of each individual good than Bilma. Carefully review the concept of opportunity cost and
show students how to calculate it. Opportunity cost is what you give up relative to what
you gain—for Lozano it is 40 pizzas relative to 20 colas, or 2 pizzas per cola. Since Bilma
has a higher opportunity cost (4 pizzas per cola) it will produce the pizza.
Show students this can also be done in reverse by finding the opportunity cost of pro-
ducing pizza. To illustrate the gains from trade, assume that Lozano initially produces
and consumes 12 pizzas and 14 colas. Bilma initially produces 16 pizzas and 4 colas.
With constant opportunity cost the two will completely specialize. A beneficial rate of
exchange can be found between the two countries’ opportunity costs, such as 3 pizzas
for 1 cola. Assume they decide to trade 15 pizzas for 5 colas. This leaves Lozano with 15
pizzas (0 produced plus 15 that come from Bilma) and 15 colas (20 produced minus the
5 that go to Bilma). Bilma ends up with 17 pizzas (32 produced minus the 15 that go
to Lozano) and 5 colas (0 produced plus the 5 that come from Lozano). They are both
better off because they are able to consume more of both goods than they could without
specialization and exchange.
Transactions: The Circular-Flow Diagram
Creating Student Interest
Use the example of a dollar in your pocket. Explain where the dollar came from. (It
came from your bank account, it was put there by a direct deposit from your university.)
Consider where the dollar will go. (You will buy lunch and leave it as a tip, it will become
income for a waitress and then she will have money to spend.) Ask students to think
about the last dollar they spent. Where did it come from and where did it go?
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Presenting the Material
Identify and define the two major components of the circular-flow diagram first: house-
holds and firms. Then draw in the upper loop—the spending loop—of the circular-flow
model. Use a concrete example of their spending money on clothes at a local store. Then
add the bottom loop of the model, the factor market. Use a concrete example of their
earning wages from a job.
Use your ample artistic skills to draw a house at the top of the board and a factory on
the bottom. Tell the class these represent households and firms. Create the circular-flow
diagram by asking students the following series of questions. (It will help some students
to see the step-by-step construction of the diagram in addition to the completed diagram
in the text.)
What do households get from the firms? (Goods and services.) Draw an arrow above the
pictures from the firm to the households and label it “goods and services.”
What do the firms get in exchange for the goods and services? (Payment/money.) Draw
a line above the pictures back from the households to the firm and label it “$.”
What do the households provide to the firms? (Worker/labor—add that they provide the
other resources also.) Draw a line below the pictures from the household to the firm and
label it “resources.”
What do the households get from the firm in return for their labor/resources? (Payments—
wages, rent, interest, profit.) Draw a line below the pictures back from the firm to the
households and label it “wages, rent, interest, profit.”
Point out that the top flow is the product market (market for products) and the bot-
tom flow is the factor market (market for factors of production). You may want to link
changes in the size of the flows to the business cycle discussed in Chapter 1. During
expansions, the flow increases; during recessions, it decreases.
Positive versus Normative Economics
Creating Student Interest
Find an estimate of the average annual tuition at your institution. Write the estimate on
the board and tell students you want them to know two things about this number (write
them on the board): First, it is the average annual tuition at your institution. Second,
this amount is too low. Tell them to write down the two statements. This should cause
one or more students to express disagreement with at least one of the statements. If not,
ask them if they agree with them or not (and why). Use the statements to lead into your
presentation of positive versus normative in economics.
Ask students to make a clearly biased statement concerning the economy. Then ask them
to make a perfectly objective statement.
Presenting the Material
After explaining the difference between positive and normative, quiz the class by ask-
ing them to determine if each of the following statements is positive or normative. If a
student identifies the statement as positive, ask how the statement could be tested.
Remind them that a positive statement need not be correct, it only needs to be testable.
Also remind them that even if everyone agrees with a normative statement, it is still
normative.
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The price of gas is too high. (Normative: What is “too high”?)
The Federal Reserve lowered interest rates yesterday. (Positive: You can test this by going
to the Federal Reserve’s website or by looking at interest rates.)
The national debt should be reduced. (Normative: How can you know/test what
“should” be done?)
Foreign imports are bad for the economy. (Normative: How do you define “bad”?)
Inflation is expected to rise. (Positive: You can survey people and see/test whether they
expect inflation to rise.)
Common Student Pitfalls
• Misunderstanding comparative advantage. Students confuse absolute advan-
tage with comparative advantage. Explain that absolute advantage means you can
produce more than someone else can. Comparative advantage means that you can
produce something at a lower opportunity cost than someone else.
Use the example of two students working on a joint project. One student may be
better at every task required to complete the project (have an absolute advantage in
all tasks). However, it wouldn’t be efficient to have the one student do everything
for the project while the other does nothing. There must be a task that the other
student is relatively good at (has a comparative advantage). The pair should iden-
tify that task and have the students specialize accordingly.
Most students understand the basic idea behind comparative advantage, but many
students struggle with the calculation of opportunity cost. They may need to see
and work a few examples before the concept sinks in. Start with the example from
the text, and then move on to other examples.
• The use of the term positive. Students may not understand the different use of
the word positive. Make sure they understand that it is not being used in the same
way they are familiar with (the opposite of negative). There are many places where
economists use generally familiar words to mean something specific to their dis-
cipline. Prepare them to get used to learning the new meanings in these cases. In
this context, “positive economics” explains the way the world works. It is factual
and can therefore be tested.
Case Studies in the Text
Economics in Action
Rich Nation, Poor Nation—Much of our clothing is produced in other countries thar are
poorer than the United States. The case study explains that this is because the countries
have a comparative advantage in producing clothing.
Ask students the following questions:
1. Why are some countries poor? (Their workers are not as productive as workers
in richer economies.)
2. Why do consumers in the United States import so much cheap clothing from
poor countries? (Despite their poverty, poor countries have a comparative
advantage in producing clothing relative to the United States.)
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Economists, Beyond the Ivory Tower—This EIA discusses the various roles that economists
play in the business world, and in the federal government.
Ask students the following questions:
1. Why do companies in the private sector hire economists? (To forecast and pre-
dict what will happen to prices.)
2. Why does the government employ large numbers of economists? (To analyze
the economic effects of government decisions.)
For Inquiring Minds
The Model That Ate the Economy—This FIM discusses a model used by financial traders on
Wall Street, beginning in 2000, to estimate the likelihood of losing money on mortgage-
backed securities (MBS). As subsequent economic events proved, the model seriously
underestimated the risk of buying the MBS.
When Economists Agree—This FIM notes that although economists often disagree, there
are some statements that they generally agree on. One statement of agreement: Trade
restrictions reduce economic welfare.
Global Comparison
Pajama Republics—Poor countries have low productivity in clothing manufacturing, but
even lower productivity in other industries, thus they have a comparative advantage in
clothing manufacturing.
Business Case
Efficiency, Opportunity Cost, and the Logic of Lean Production at Boeing—This business case
explains the idea behind lean production, with reference to the experiences of Boeing
and Toyota.
Activities
Creating a Production Possibilities Curve (15–25 minutes)
For this activity you will need two desks, paper (this can be in half-sheets), and two
staplers—capital. You will also need four or six volunteers to participate in the activity—
labor. Have another student take responsibility for graphing results of the activity on the
board. This activity identifies the alternative combinations of output (called widgets and
whatsits) that can be produced given the available resources (capital/desks, paper and
staplers, and labor/students). That is, the students will generate a production possibili-
ties frontier. Have the nonlabor students draw a production possibilities graph and label
the axes. Then have the student grapher draw the graph.
Explain to students that the capital and labor will be used to produce widgets or whats-
its. A widget is a piece of paper folded twice into a square and stapled. A whatsit is a piece
of paper folded three times. Start by having the students use all their resources to produce
widgets for 30 seconds. Count the number of widgets and whatsits produced (whatsits
will equal 0). Have the students graph the data point. Next have the students use all their
resources to produce whatsits. Count the production and graph the data point. Finally,
have the students divide the resources in half. Have one half produce widgets and the
other produce whatsits. Graph this third data point. Connect the points to show the
production possibilities frontier.
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Comparative Advantage (10–15 minutes)
Pair students and ask them to do two tasks in 30 seconds, such as drawing the same-
sized Xs on a page, and turning the pages of a book. The first person does the task, while
the other person records the quantity produced. Given the data for both goods for both
partners, have the pairs calculate their opportunity cost of producing each good.
U.S. Comparative Advantage (2–3 minutes)
Make a list on the board or overhead with student answers to this question: What com-
parative advantages does the United States have? Then, point out that their answers are
all the top exports of the United States.
Pros and Cons of Trade (3–5 minutes)
Pair students and ask them to brainstorm the pros and cons of the following proposition:
“The United States should limit imported textiles from China” or “The United States
should prohibit the import of products from abroad that are made with child labor.”
Tracing the Circular Flow (5–10 minutes)
Pair students and tell them they will trace the following events through the circular flow:
(a) the introduction of a new technology that boosts productivity; (b) the decision of
consumers to save more money; and (c) an increase in government spending.
Simulating the Circular Flow (15–30 minutes)
In a lecture, add banks, government, and exports and imports to the circular flow. Divide
the class into the following groups: households, firms, workers, sellers of raw materials,
sellers of capital goods, banks, exporters, and importers. Introduce an event into this
hypothetical economy: Consumers decide to spend more money and save less. Give this
event card to the household group. Have this group write down how it will affect them
and pass it on to the next group they feel will be most immediately affected. The next
group writes down its impact on them and passes it on. Make sure the event passes to
each group. Have one group use the circular-flow diagram to illustrate on the board how
the event affected the economy.
Positive or Normative? (3–5 minutes)
Read the following sentences to the class, and ask students to label each one as norma-
tive or positive:
• “More than 60% of women are in the labor market.” (Positive)
• “Rent control laws should be implemented because they help to achieve equity or
fairness in housing.” (Normative)
• “Society should take measures to end gun violence.” (Normative)
• “People who smoke pass on increased medical costs to the whole society.”
(Positive)
• “Single mothers are more than twice as likely as married mothers to be in
poverty.” (Positive)
Change It to Normative (5–10 minutes)
Pair students. Ask one student in each pair to write a positive economic statement of
fact, and the other student to rewrite the statement as a normative one. Ask a few pairs
to report.
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Web Resources
The U.S. Census Bureau and the U.S. International Trade Commission have information
about exports and imports. www.census.gov and www.dataweb.usitc.gov
The National Association of Business Economists has the results of member surveys that
indicate what economists currently agree and disagree on, as well as information on
careers in economics. www.nabe.com
Appendix
Creating Student Interest
Have students discuss the relationship between calories consumed and weight. What is
the independent variable? What is the dependent variable?
Presenting the Material
Give an example of data and how a graph is set up, then explain how to interpret the
graph.
Year Health expenditures as a percent of GDP
1950 4.5%
1960 5.3%
1970 7.1%
1980 8.9%
1990 12.2%
2000 13.4%
(Source: The Economics of Health and Health Care, S. Folland, A. Goodman, and M.
Stano. Prentice Hall, 2001.)
Ask students the following questions:
1. With health expenditures as a percent of GDP on the vertical axis of a
graph and years on the horizontal axis of the graph, plot the data on the
graph.
2. Is the line positively or negatively sloped? (It is positively sloped; as the
years have increased, the percent share of GDP has increased.)
3. Is it a linear function? (No, the line is not a straight line.)
4. What does the graph not tell us? (It does not indicate what is causing the
increase in health expenditures as a percent of GDP.)
Common Student Pitfalls
Students forget the basic setup of a graph: that each point on the graph refers to a specific
quantity on the vertical axis and horizontal axis. Use a demand curve to illustrate: point A
on the demand curve means that at a price of $1.00, consumers will buy 200 of the
good, for example. You may want to point out which axis on the graph is referred to as
the vertical axis and which is the horizontal axis.
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Activity
Causal Relationships (5–10 minutes)
Ask students to think of some causal relationships between health expenditures and
other variables. Identify the variables that may increase or decrease health expenditures.
What is the dependent variable? (Health expenditures.) What independent variables can
influence total health spending as a percent of the GDP? (Some possibilities: percentage
of population over 55, government-mandated health programs, percentage of population
who are smokers, degree of bureaucracy in medical care structure, etc.)
15.
16. chapter 2
Economic Models:
Trade-offs and Trade
Chapter Objectives
• Explain why models play a crucial role in economics.
• Present two simple but important models: the production possibilities frontier and
comparative advantage.
• Present the circular-flow diagram.
• Explain the difference between positive and normative economics.
• Explain why economists do not always agree.
Chapter Outline
Opening Example: The Wright Brothers invented a wind tunnel to test models of air-
planes. Boeing ran 15,000 hours of wind tunnel tests when it was developing its latest
jet, the Dreamliner. Testing models is cheaper and safer than building full-scale versions.
Economists use models in the same way.
I. Models in Economics: Some Important Examples
A. Definition: A model is a simplified representation of a real situation that is
used to better understand real-life situations.
B. Models allow economists to see the effects of only one change at a time.
C. Definition: The other things equal assumption means that all other relevant
factors remain unchanged.
D. Economic models make use of mathematical tools, especially graphs.
II. Trade-offs: The Production Possibility Frontier
A. Definition: The production possibility frontier illustrates the trade-offs
facing an economy that produces only two goods. It shows the maximum
quantity of one good that can be produced with available resources and
technology for any given production of the other.
B. The graph of the production possibilities frontier shows the possible combina-
tions of two goods that can be produced given the scarce resources of the
society.
C. A point inside the frontier is a feasible combination of two goods that can be
produced, but does not use all resources fully; and a point outside the fron-
tier is not feasible given the current amount of resources. See text Figure 2-1,
shown next.
11
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The Production Possibility Frontier
Quantity of
Dreamliners
30
15
Feasible but
9 not efficient
Feasible and
efficient in
production
A
B
C
D
Not
feasible
Production
possibility
frontier
(PPF)
0 20 28 40
Quantity of small jets
D. The production possibility model illustrates the concepts of:
1. Efficiency: Any point on the frontier represents an efficient use of
resources, and any combination of goods inside the frontier represents a
point of inefficiency.
a. If an economy produces on its production possibilities frontier, it is
efficient in production.
b. An economy is efficient in allocation if it allocates resources so that
consumers are as well off as possible.
2. Opportunity costs: The negative slope of the frontier means that an
increase in the production of one good must require a sacrifice of some
quantity of the other good.
3. The law of increasing costs: If the frontier is bowed out, the opportunity
costs increase as more of one good is produced because resources are not
easily transferable from the production of one good to another.
4. Economic growth: Over time as a society gains more resources, the pro-
duction possibility frontier shifts outward. See text Figure 2-3, shown on
the next page.
a. Economic growth comes from two basic sources: an increase in factors
of production, and technology.
b. Definition: Factors of production are resources used to produce
goods and services.
c. Definition: Technology is the technical means for producing goods
and services.
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0 16 20 40 0 6 10 30
Quantity of small jets Quantity of small jets
Economic Growth
Quantity of
Dreamliners
35
30
25
20
15
10
5
E
A
Original
PPF
New
PPF
0 10 20 25 30 40 50
Quantity of small jets
III. Comparative Advantage and Gains from Trade
A. Definition: An individual has a comparative advantage in producing a good if
the opportunity cost of producing the good is lower for that individual than for
other people.
B. Definition: An individual has an absolute advantage in an activity if he or she
can do it better than other people can. Having an absolute advantage is not the
same thing as having a comparative advantage.
C. Comparative advantage, not absolute advantage, is the basis for the gains from
trade.
D. The concepts of absolute advantage and comparative advantage apply to indi-
viduals, firms, and countries.
E. The gains from trade are illustrated in text Figure 2-5 (shown next), with a
straight-line production possibility frontier for each of two countries:
Comparative Advantage and International Trade
(a) U.S. Production and Consumption (b) Brazilian Production and Consumption
Quantity of
large jets
30
20
U.S. production
with trade
U.S. consumption
without trade
U.S. consumption
Quantity of
large jets
Brazilian consumption
18 with trade Brazilian consumption
with trade
10 Brazilian
U.S.
PPF
PPF with trade
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F. Individuals or countries will engage in trade only if the price of the good each
is obtaining from trade is less than its own opportunity cost of producing the
good.
G. This example highlights two important lessons:
1. Both countries are able to produce more and consume more in total.
2. Each country has a comparative advantage in the production of some-
thing.
H. Although economists have a very positive view of international trade, politi-
cians and the public sometimes have a negative view of international trade.
IV. Transactions: The Circular-Flow Diagram
A. Definition: Trade takes the form of barter when people directly exchange goods
they have for goods they want.
B. Definition: The circular-flow diagram is a model that represents the transac-
tions in an economy by flows around a circle.
C. Definition: A household is a person or a group of people who share their
income.
D. Definition: A firm is an organization that produces goods for sale.
E. Definition: Firms sell goods and services that they produce to households in
markets for goods and services.
F. Definition: Firms buy the resources they need to produce—factors of
production—in factor markets.
G. Definition: Income distribution is the way in which total income is divided
among the owners of the various factors of production.
H. The circular-flow diagram is a simplified picture of an economy, as demon-
strated in text Figure 2-6, shown here.
Circular-Flow Diagram
Money
Goods
and
services
Households
Money
Factors
Markets for
goods and
services
Factor markets
Goods
and
services Factors
Money
Firms
Money
I. The circular-flow diagram can help us understand how the economy manages
to provide jobs for a growing population.
1. The number of jobs isn’t fixed, because it depends on how much house-
holds spend; the amount households spend depends on how many people
are working.
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V. Positive versus Normative Economics
A. Definition: Positive economics is the branch of economic analysis that
describes the way the economy actually works.
B. Definition: Normative economics makes prescriptions about the way the
economy should work.
C. Definition: A forecast is a simple prediction of the future.
D. Models are especially helpful in answering “what if” questions such as, How
will revenues change with a tax cut? The answer is a predictive one, not pre-
scriptive; it does not tell you if the policy is good or bad.
E. Economists do engage in normative economics. Economic analysis can be used
to show that some policies are clearly better than others, especially if one solu-
tion is more efficient than another. For example, most economists would favor
subsidies to renters over rent-control laws as a more efficient solution to help
low-income families obtain housing.
VI. When and Why Economists Disagree
A. Because economists used different models and make differing simplifying
assumptions, they can arrive at different conclusions.
B. Many disagreements are eventually resolved by the accumulation of evidence.
C. Economic analysis is a method, not a set of conclusions.
Teaching Tips
Models in Economics
Creating Student Interest
Ask students why economists (and economics students) use simplified models. (Because
the real world is too complex to consider everything at once. You want to use a more
complicated model only if the benefits of added understanding exceed the costs of added
difficulty and complexity.)
Construct a paper airplane during class. When you are finished, ask the students what
you have made. Give your airplane a test flight. Have the class identify the ways the paper
airplane is like a real airplane (for instance, it has wings, it flew). If they have trouble,
remind them that they knew what it was, so there must have been some things in com-
mon! Have the class identify the ways it is not like a real airplane (size, weight, other
details, it did not fly). The paper airplane can help an aerodynamics student learn the
basic principles of flight (without the complexity of a 747), just as economic models can
help students learn about the basic principles of economics. As understanding increases,
so can the complexity of the models used.
An alternative to the paper airplane example is a simple smiley face drawn on the board
or an emoticon used in text messages, : ) or . Use these representations to have the
same discussion with students. How is the image like a real smiling face and how is it
different? Why is it so useful in text messaging? (It is simplified and we all know what it
means.) How might the level of complexity be increased for the smiley face model? (Add
ears, hair.)
Presenting the Material
In this chapter students will be introduced to two economic models—the production pos-
sibilities frontier and the circular flow diagram—both of which make simplifying assump-
tions. For now, discuss another type of model they are all familiar with—the map. Maps are
simplifications of reality that have more or less detail, depending on what the user wants
21. 16 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
16
to know. Do you use the same type of map to drive from New York to California as you
do to drive from point to point in a particular city? No, because for city driving you need
to know about all of the roads, whereas for cross-country driving you are mainly interested
in interstate highways.
Trade-offs: The Production Possibilities Frontier
Creating Student Interest
Introduce the production possibilities model by evoking the image of a person (or
people) stranded on an island. This could be Robinson Crusoe, Gilligan, Tom Hanks in
Cast Away, contestants on Survivor—have your students select the image that they can
relate to the most. Present that as an example of the simplest economy you can imagine.
Explain to students that you are going to build a model of the economy on the island.
Have students list the limited resources available on the island (for example, trees, sand,
water, fish, labor, entrepreneurship). Then have the class consider the immediate needs
that must be met using these resources (food, shelter). Explain that the model will rep-
resent production in the island economy.
Presenting the Material
Use students “producing” grades as a simple example of a production possibility fron-
tier. Put economics on the vertical axis of a graph and accounting on the horizontal axis.
Students’ time and energy are fixed for the moment, and putting more time into one subject
involves a lower grade in the other subject. (Assuming that the student is equally efficient
in “producing” both subjects, the production possibilities graph is a straight line.) Points on
the frontier show the possible combinations of grades that the student can achieve.
Use an example of a country that can produce wheat or airplanes. Here are the points on
the production possibility frontier:
Maximum annual output options Wheat Airplanes
A 1,000 0
B 800 150
C 600 250
D 400 325
E 200 375
F 0 400
Ask students: What is the opportunity cost of expanding production from 150 airplanes to
250 airplanes? (200 wheat.) Why is the production possibility graph negatively
sloped? (Given scarcity, producing more of one good means producing less of the other.)
Why is it bowed out from the origin? (Because of increasing opportunity cost.)
Comparative Advantage and Gains from Trade
Creating Student Interest
Ask students if they agree with the idea that, if it is cheaper to buy a product
from another country than it is to make it yourself, you should buy it from the other
country.
Provoke a discussion by asking students if the U.S. economy would be better off without
importing so many clothing items from China. Get them to start thinking about the idea
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17
that every action has a benefit and a cost. Who benefits from being able to import cloth-
ing from China? (Consumers, because the clothing is cheaper.) Who loses as a result of
importing more clothing from China? (Domestic producers, because factories close and
jobs are lost.)
Presenting the Material
Take some time to review the example in the text to illustrate comparative advantage and
gains from trade. Next, you can work the example below. Explain to students that in this
chapter we are ignoring dollars and will simply trade one good directly for another in
order to keep things simple.
Give a simple example of two economies that can produce the following two goods, in
the same time period, with a fixed amount of resources. Assume a straight line produc-
tion possibility frontier.
Quantity
of pizza
40
Lozano
Quantity
of pizza
Bilma
32
D D
20 8
Quantity of cola Quantity of cola
Lozano has an absolute advantage in producing both goods because he can produce more
of each individual good than Bilma. Carefully review the concept of opportunity cost and
show students how to calculate it. Opportunity cost is what you give up relative to what
you gain—for Lozano it is 40 pizzas relative to 20 colas, or 2 pizzas per cola. Since Bilma
has a higher opportunity cost (4 pizzas per cola) it will produce the pizza.
Show students this can also be done in reverse by finding the opportunity cost of pro-
ducing pizza. To illustrate the gains from trade, assume that Lozano initially produces
and consumes 12 pizzas and 14 colas. Bilma initially produces 16 pizzas and 4 colas.
With constant opportunity cost the two will completely specialize. A beneficial rate of
exchange can be found between the two countries’ opportunity costs, such as 3 pizzas
for 1 cola. Assume they decide to trade 15 pizzas for 5 colas. This leaves Lozano with 15
pizzas (0 produced plus 15 that come from Bilma) and 15 colas (20 produced minus the
5 that go to Bilma). Bilma ends up with 17 pizzas (32 produced minus the 15 that go
to Lozano) and 5 colas (0 produced plus the 5 that come from Lozano). They are both
better off because they are able to consume more of both goods than they could without
specialization and exchange.
Transactions: The Circular-Flow Diagram
Creating Student Interest
Use the example of a dollar in your pocket. Explain where the dollar came from. (It
came from your bank account, it was put there by a direct deposit from your university.)
Consider where the dollar will go. (You will buy lunch and leave it as a tip, it will become
income for a waitress and then she will have money to spend.) Ask students to think
about the last dollar they spent. Where did it come from and where did it go?
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Presenting the Material
Identify and define the two major components of the circular-flow diagram first: house-
holds and firms. Then draw in the upper loop—the spending loop—of the circular-flow
model. Use a concrete example of their spending money on clothes at a local store. Then
add the bottom loop of the model, the factor market. Use a concrete example of their
earning wages from a job.
Use your ample artistic skills to draw a house at the top of the board and a factory on
the bottom. Tell the class these represent households and firms. Create the circular-flow
diagram by asking students the following series of questions. (It will help some students
to see the step-by-step construction of the diagram in addition to the completed diagram
in the text.)
What do households get from the firms? (Goods and services.) Draw an arrow above the
pictures from the firm to the households and label it “goods and services.”
What do the firms get in exchange for the goods and services? (Payment/money.) Draw
a line above the pictures back from the households to the firm and label it “$.”
What do the households provide to the firms? (Worker/labor—add that they provide the
other resources also.) Draw a line below the pictures from the household to the firm and
label it “resources.”
What do the households get from the firm in return for their labor/resources? (Payments—
wages, rent, interest, profit.) Draw a line below the pictures back from the firm to the
households and label it “wages, rent, interest, profit.”
Point out that the top flow is the product market (market for products) and the bot-
tom flow is the factor market (market for factors of production). You may want to link
changes in the size of the flows to the business cycle discussed in Chapter 1. During
expansions, the flow increases; during recessions, it decreases.
Positive versus Normative Economics
Creating Student Interest
Find an estimate of the average annual tuition at your institution. Write the estimate on
the board and tell students you want them to know two things about this number (write
them on the board): First, it is the average annual tuition at your institution. Second,
this amount is too low. Tell them to write down the two statements. This should cause
one or more students to express disagreement with at least one of the statements. If not,
ask them if they agree with them or not (and why). Use the statements to lead into your
presentation of positive versus normative in economics.
Ask students to make a clearly biased statement concerning the economy. Then ask them
to make a perfectly objective statement.
Presenting the Material
After explaining the difference between positive and normative, quiz the class by ask-
ing them to determine if each of the following statements is positive or normative. If a
student identifies the statement as positive, ask how the statement could be tested.
Remind them that a positive statement need not be correct, it only needs to be testable.
Also remind them that even if everyone agrees with a normative statement, it is still
normative.
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The price of gas is too high. (Normative: What is “too high”?)
The Federal Reserve lowered interest rates yesterday. (Positive: You can test this by going
to the Federal Reserve’s website or by looking at interest rates.)
The national debt should be reduced. (Normative: How can you know/test what
“should” be done?)
Foreign imports are bad for the economy. (Normative: How do you define “bad”?)
Inflation is expected to rise. (Positive: You can survey people and see/test whether they
expect inflation to rise.)
Common Student Pitfalls
• Misunderstanding comparative advantage. Students confuse absolute advan-
tage with comparative advantage. Explain that absolute advantage means you can
produce more than someone else can. Comparative advantage means that you can
produce something at a lower opportunity cost than someone else.
Use the example of two students working on a joint project. One student may be
better at every task required to complete the project (have an absolute advantage in
all tasks). However, it wouldn’t be efficient to have the one student do everything
for the project while the other does nothing. There must be a task that the other
student is relatively good at (has a comparative advantage). The pair should iden-
tify that task and have the students specialize accordingly.
Most students understand the basic idea behind comparative advantage, but many
students struggle with the calculation of opportunity cost. They may need to see
and work a few examples before the concept sinks in. Start with the example from
the text, and then move on to other examples.
• The use of the term positive. Students may not understand the different use of
the word positive. Make sure they understand that it is not being used in the same
way they are familiar with (the opposite of negative). There are many places where
economists use generally familiar words to mean something specific to their dis-
cipline. Prepare them to get used to learning the new meanings in these cases. In
this context, “positive economics” explains the way the world works. It is factual
and can therefore be tested.
Case Studies in the Text
Economics in Action
Rich Nation, Poor Nation—Much of our clothing is produced in other countries that are
poorer than the United States. The case study explains that this is because the countries
have a comparative advantage in producing clothing.
Ask students the following questions:
1. Why are some countries poor? (Their workers are not as productive as workers
in richer economies.)
2. Why do consumers in the United States import so much cheap clothing from
poor countries? (Despite their poverty, poor countries have a comparative
advantage in producing clothing relative to the United States.)
25. 20 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
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Economists, Beyond the Ivory Tower—This EIA discusses the various roles that economists
play in the business world, and in the federal government.
Ask students the following questions:
1. Why do companies in the private sector hire economists? (To forecast and pre-
dict what will happen to prices.)
2. Why does the government employ large numbers of economists? (To analyze
the economic effects of government decisions.)
For Inquiring Minds
The Model That Ate the Economy—This FIM discusses a model used by financial traders on
Wall Street, beginning in 2000, to estimate the likelihood of losing money on mortgage-
backed securities (MBS). As subsequent economic events proved, the model seriously
underestimated the risk of buying the MBS.
When Economists Agree—This FIM notes that although economists often disagree, there
are some statements that they generally agree on. One statement of agreement: Trade
restrictions reduce economic welfare.
Global Comparison
Pajama Republics—Poor countries have low productivity in clothing manufacturing, but
even lower productivity in other industries, thus they have a comparative advantage in
clothing manufacturing.
Business Case
Efficiency, Opportunity Cost, and the Logic of Lean Production at Boeing—This business case
explains the idea behind lean production, with reference to the experiences of Boeing
and Toyota.
Activities
Creating a Production Possibilities Curve (15–25 minutes)
For this activity you will need two desks, paper (this can be in half-sheets), and two
staplers—capital. You will also need four or six volunteers to participate in the activity—
labor. Have another student take responsibility for graphing results of the activity on the
board. This activity identifies the alternative combinations of output (called widgets and
whatsits) that can be produced given the available resources (capital/desks, paper and
staplers, and labor/students). That is, the students will generate a production possibili-
ties frontier. Have the nonlabor students draw a production possibilities graph and label
the axes. Then have the student grapher draw the graph.
Explain to students that the capital and labor will be used to produce widgets or whats-
its. A widget is a piece of paper folded twice into a square and stapled. A whatsit is a piece
of paper folded three times. Start by having the students use all their resources to produce
widgets for 30 seconds. Count the number of widgets and whatsits produced (whatsits
will equal 0). Have the students graph the data point. Next have the students use all their
resources to produce whatsits. Count the production and graph the data point. Finally,
have the students divide the resources in half. Have one half produce widgets and the
other produce whatsits. Graph this third data point. Connect the points to show the
production possibilities frontier.
26. 21 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
21
Comparative Advantage (10–15 minutes)
Pair students and ask them to do two tasks in 30 seconds, such as drawing the same-
sized Xs on a page, and turning the pages of a book. The first person does the task, while
the other person records the quantity produced. Given the data for both goods for both
partners, have the pairs calculate their opportunity cost of producing each good.
U.S. Comparative Advantage (2–3 minutes)
Make a list on the board or overhead with student answers to this question: What com-
parative advantages does the United States have? Then, point out that their answers are
all the top exports of the United States.
Pros and Cons of Trade (3–5 minutes)
Pair students and ask them to brainstorm the pros and cons of the following proposition:
“The United States should limit imported textiles from China” or “The United States
should prohibit the import of products from abroad that are made with child labor.”
Tracing the Circular Flow (5–10 minutes)
Pair students and tell them they will trace the following events through the circular flow:
(a) the introduction of a new technology that boosts productivity; (b) the decision of
consumers to save more money; and (c) an increase in government spending.
Simulating the Circular Flow (15–30 minutes)
In a lecture, add banks, government, and exports and imports to the circular flow. Divide
the class into the following groups: households, firms, workers, sellers of raw materials,
sellers of capital goods, banks, exporters, and importers. Introduce an event into this
hypothetical economy: Consumers decide to spend more money and save less. Give this
event card to the household group. Have this group write down how it will affect them
and pass it on to the next group they feel will be most immediately affected. The next
group writes down its impact on them and passes it on. Make sure the event passes to
each group. Have one group use the circular-flow diagram to illustrate on the board how
the event affected the economy.
Positive or Normative? (3–5 minutes)
Read the following sentences to the class, and ask students to label each one as norma-
tive or positive:
• “More than 60% of women are in the labor market.” (Positive)
• “Rent control laws should be implemented because they help to achieve equity or
fairness in housing.” (Normative)
• “Society should take measures to end gun violence.” (Normative)
• “People who smoke pass on increased medical costs to the whole society.”
(Positive)
• “Single mothers are more than twice as likely as married mothers to be in
poverty.” (Positive)
Change It to Normative (5–10 minutes)
Pair students. Ask one student in each pair to write a positive economic statement of
fact, and the other student to rewrite the statement as a normative one. Ask a few pairs
to report.
27. 22 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
22
Web Resources
The U.S. Census Bureau and the U.S. International Trade Commission have information
about exports and imports. www.census.gov and www.dataweb.usitc.gov
The National Association of Business Economists has the results of member surveys that
indicate what economists currently agree and disagree on, as well as information on
careers in economics. www.nabe.com
Appendix
Creating Student Interest
Have students discuss the relationship between calories consumed and weight. What is
the independent variable? What is the dependent variable?
Presenting the Material
Give an example of data and how a graph is set up, then explain how to interpret the
graph.
Year Health expenditures as a percent of GDP
1950 4.5%
1960 5.3
1970 7.1
1980 8.9
1990 12.2
2000 13.4
(Source: The Economics of Health and Health Care, S. Folland, A. Goodman, and M.
Stano. Prentice Hall, 2001.)
Ask students the following questions:
1. With health expenditures as a percent of GDP on the vertical axis of a
graph and years on the horizontal axis of the graph, plot the data on the
graph.
2. Is the line positively or negatively sloped? (It is positively sloped; as the
years have increased, the percent share of GDP has increased.)
3. Is it a linear function? (No, the line is not a straight line.)
4. What does the graph not tell us? (It does not indicate what is causing the
increase in health expenditures as a percent of GDP.)
Common Student Pitfalls
Students forget the basic setup of a graph: that each point on the graph refers to a specific
quantity on the vertical axis and horizontal axis. Use a demand curve to illustrate: point A
on the demand curve means that at a price of $1.00, consumers will buy 200 of the
good, for example. You may want to point out which axis on the graph is referred to as
the vertical axis and which is the horizontal axis.
28. 23 ch ap TE r 2 e co nom i c m o de l s : trade -o ffs a n d t r ad ec h a p TE r 2 e c o n o m i c m o d e l s : t r a d e - o f f s a n d t r a d e
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Activity
Causal Relationships (5–10 minutes)
Ask students to think of some causal relationships between health expenditures and
other variables. Identify the variables that may increase or decrease health expenditures.
What is the dependent variable? (Health expenditures.) What independent variables can
influence total health spending as a percent of the GDP? (Some possibilities: percentage
of population over 55, government-mandated health programs, percentage of population
who are smokers, degree of bureaucracy in medical care structure, etc.)
29.
30. SOLUTIONS MANUAL for Economics 4th Edition by Krugman IBSN 9781464143847
Download at:
http://downloadlink.org/p/solutions-manual-for-economics-4th-edition-by-krugman-ibsn-
9781464143847/
TEST BANK for Economics 4th Edition by Krugman IBSN 9781464143847
Download at:
http://downloadlink.org/p/test-bank-for-economics-4th-edition-by-krugman-ibsn-9781464143847/
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