Chapter 1The Art and Science of Economic            Analysis
The Economic ProblemWhen is a resource scarce?  When it is not freely available, i.e. when its price is greater   than z...
What is Economics?Economics examines how people use their scarce    resources to satisfy their unlimited wants.
Resources   Inputs or factors of production         Used to produce goods and services   Goods and services are scarce ...
Resources   Labor – human effort           Physical effort           Mental effort       Time       Payment: Wage   ...
Resources   Natural resources – Gifts of nature           Renewable           Exhaustible           Payment: Rent   E...
Goods and Services   Good: see, feel, touch   Service: intangible   Scarce good/service       The amount people desire...
Goods and Services   Bads       We want none of them; not even at a zero price   Free goods and services   “There is n...
ScarcityScarcity is the condition in which human wants are  forever greater than the available supply of time, goods,  an...
Who makes the Economic              Decisions?   Households       Consumers           Demand goods and services       ...
Markets   Bring together buyers and sellers   Determine price and quantity   Product markets       Goods and services...
A Simple Circular-Flow Model     Flow of:         Resources         Products         Income         Revenue          ...
The Simple Circular-Flow Model      for Households and Firms            Households               - Supply resources toExhi...
Rational Self-Interest Individuals are rational    Make the best choice    Given the available information    Maximize...
Choice Requires Time and            Information Time and information – scarce; valuable Rational decision makers    Wil...
Economic Analysis is MarginalAnalysis Expected marginal benefit Expected marginal cost Marginal    Incremental, additi...
Decisions are made at the margin• Make choices where the benefits are greater than the costs.  – MB (marginal benefit) > M...
Micro vs. Macro Microeconomics    Individual economic choices    Markets coordinate the choices of economic     decisio...
The Science of Economic            Analysis Economic theory / model   Simplification of economic reality   Important el...
The Scientific Method1. Identify the question and define relevant   variables2. Specify assumptions    Other things held ...
Normative Versus Positive Positive economic statement   Assertion about economic reality   Supported or rejected by evi...
Predicting Average Behavior Individual behavior   Difficult to predict   Random actions of individuals      Offset one...
Some Pitfalls on Economic           Fallacy The fallacy that association is causation   Event A caused event B – associa...
Discussion of Appendix
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  • Chapter 1 The Art and Science of Economic Analysis
  • Chapter 1 The Art and Science of Economic Analysis
  • Chapter 1

    1. 1. Chapter 1The Art and Science of Economic Analysis
    2. 2. The Economic ProblemWhen is a resource scarce? When it is not freely available, i.e. when its price is greater than zero. Because resources are scarce, you must choose from among many wants and whenever you choose, you must forgo satisfying some other wants.
    3. 3. What is Economics?Economics examines how people use their scarce resources to satisfy their unlimited wants.
    4. 4. Resources Inputs or factors of production  Used to produce goods and services Goods and services are scarce because resources are scarce 1. Labor 2. Capital 3. Natural Resources 4. Entrepreneurial ability
    5. 5. Resources Labor – human effort  Physical effort  Mental effort  Time  Payment: Wage Capital – human creations  Physical capital  Human capital  Payment: Interest
    6. 6. Resources Natural resources – Gifts of nature  Renewable  Exhaustible  Payment: Rent Entrepreneurial ability  Talent, idea  Risk of operation  Payment: Profit
    7. 7. Goods and Services Good: see, feel, touch Service: intangible Scarce good/service  The amount people desire exceeds the amount available at zero price Choice  Give up some goods and services
    8. 8. Goods and Services Bads  We want none of them; not even at a zero price Free goods and services “There is no such thing as a free lunch.” Milton Friedman  Involves a cost to someone
    9. 9. ScarcityScarcity is the condition in which human wants are forever greater than the available supply of time, goods, and resources. It means we must pass up some goods and services- choices!!! Do you think that we all face the problem of scarcity? What about Bill Gates???
    10. 10. Who makes the Economic Decisions? Households  Consumers  Demand goods and services  Resource owners  Supply resources Firms, Governments, Rest of the World  Demand resources  Produce goods and services
    11. 11. Markets Bring together buyers and sellers Determine price and quantity Product markets  Goods and services Resource markets  Resources
    12. 12. A Simple Circular-Flow Model  Flow of:  Resources  Products  Income  Revenue  Among economic decision makers  Interaction  Households  Firms
    13. 13. The Simple Circular-Flow Model for Households and Firms Households - Supply resources toExhibit 1 resource market; earn income - Demand goods and services from product market; spend income Firms - Demand resources to produce goods and services; payment for resources - Supply goods and services to product market; earn revenue
    14. 14. Rational Self-Interest Individuals are rational  Make the best choice  Given the available information  Maximize expected benefit  With a given cost  Minimize expected cost  For a given benefit The lower the personal cost of helping others, the more help we offer
    15. 15. Choice Requires Time and Information Time and information – scarce; valuable Rational decision makers  Willing to pay for information  Improve choices  Acquire information  Additional benefit expected exceeds the additional cost
    16. 16. Economic Analysis is MarginalAnalysis Expected marginal benefit Expected marginal cost Marginal  Incremental, additional, extra Rational decision maker:  Change the status quo if expected marginal benefit exceeds expected marginal cost
    17. 17. Decisions are made at the margin• Make choices where the benefits are greater than the costs. – MB (marginal benefit) > MC (marginal cost)• Choices are made at the margin. – They involve additions to, or subtractions from, current conditions – Decisions are made by evaluating “marginal” effects of change
    18. 18. Micro vs. Macro Microeconomics  Individual economic choices  Markets coordinate the choices of economic decision makers  Individual pieces of the puzzle Macroeconomics  Performance of the economy as a whole  Big picture
    19. 19. The Science of Economic Analysis Economic theory / model  Simplification of economic reality  Important elements of the problem  Make predictions about the real word Good theory  Guide  Sort, save, understand information
    20. 20. The Scientific Method1. Identify the question and define relevant variables2. Specify assumptions  Other things held constant  Behavioral assumptions1. Formulate the hypothesis  Key variables relate to each other1. Test the hypothesis - evidence
    21. 21. Normative Versus Positive Positive economic statement  Assertion about economic reality  Supported or rejected by evidence  True or false  ‘What is’  Example: The inflation rate rises when the money supply is increased. Normative economic statement  Opinion  ‘What should be’  Example: The inflation rate should be lowered.
    22. 22. Predicting Average Behavior Individual behavior  Difficult to predict  Random actions of individuals  Offset one another Average behavior of groups  Predicted more accurately
    23. 23. Some Pitfalls on Economic Fallacy The fallacy that association is causation  Event A caused event B – associated in time The fallacy of composition  What is true for the individual is true for the group The mistake of ignoring the secondary effects  Unintended consequences
    24. 24. Discussion of Appendix

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