basic economic concepts of scarcity, production frontier, fixed and variable costs, margin benefit and cost, cost-benefit analysis

1. Basic terms and conceptsBasic terms and concepts

2.  What goes into a good choice?What goes into a good choice?
 Needs v. wantsNeeds v. wants
 EconomicsEconomics: 1] study of what and how: 1] study of what and how
decisionsdecisions are reached in the face of limitedare reached in the face of limited
resources; 2] howresources; 2] how resourcesresources are allocatedare allocated
and used; 3] how/whatand used; 3] how/what commoditiescommodities areare
bought, sold and consumed and by whombought, sold and consumed and by whom
◦ MicroMicro – the above in the realm of individuals and/or– the above in the realm of individuals and/or
individual businessesindividual businesses
◦ MacroMacro – focus is on entire industries, society sized– focus is on entire industries, society sized
markets and national economiesmarkets and national economies

3.  Resources are scarce, i.e. there is a limited
supply.
 Are all resources limited?
 If so, then what must we do?
 Think about it …
◦ If I’ve got only enough ingredients to make 10 pies
OR 15 cakes…
◦ What if I choose to make the cakes?
◦ Or the pies?
 Simply put, we just don’t have the resources
to do everything we want. We have to
choose.
 An illustration from my retail past…

4.  Touring boats:
◦ Long
◦ Sharp entry/exit points
◦ Straight keel line
◦ = fast, straight line paddling
 White water boats:
◦ Short
◦ Blunt entry/exit lines
◦ Rockered keel
◦ = highly maneuverablee
 ∴∴CUSTOMER HASCUSTOMER HAS
TO DECIDE ON ONETO DECIDE ON ONE

5.  What are some choices you’ve had to make or
will be making soon based on limited resources?
 Remember – time is a resource
 Think about 3-4 choices you’ve been forced to
make and jot them down
 What did you have to give up/trade off?
 What made it worth giving up the other option?
What were the pluses that made it worth more to
you?
 Share your choices with someone else and
discuss differences and commonalities.

6.  Opportunity costOpportunity cost --
picking one thing overpicking one thing over
another [since you can’tanother [since you can’t
do both]do both]
What trade-offs have youWhat trade-offs have you
had to make?had to make?
Opportunity cost is notOpportunity cost is not
measured inmeasured in $$$$ - but in- but in
what is given up in orderwhat is given up in order
to do it. E.g. if I haveto do it. E.g. if I have
resources to make 5 piesresources to make 5 pies
OR 8 cakes, theOR 8 cakes, the
opportunity cost of makingopportunity cost of making
5 pies = 8 cakes.5 pies = 8 cakes.

7.  3 basic decisions:3 basic decisions:
◦ What to produce?What to produce?
◦ How to produce it?How to produce it?
◦ For whom to produce it?For whom to produce it?
 Answers will define theAnswers will define the
economic systemeconomic system
◦ Controlled economy – by and forControlled economy – by and for
the statethe state
◦ Capitalist economy – by and forCapitalist economy – by and for
consumers [market and price]consumers [market and price]
 Charting scarcity and choiceCharting scarcity and choice
◦ Production Possibilities FrontierProduction Possibilities Frontier
◦ So much of THIS means less of THATSo much of THIS means less of THAT
Can’t go out here

8. Soviet GDP
U.S. GDP

9.  What are the fixed, variableWhat are the fixed, variable
and total costs for a movieand total costs for a movie
theater?theater?
 Margin cost [just one more]Margin cost [just one more]
 Total and margin revenueTotal and margin revenue
 Marginal benefit, cross-Marginal benefit, cross-
country training, and onecountry training, and one
more Gatorademore Gatorade
 Putting it all together – Cost-Putting it all together – Cost-
Benefit analysisBenefit analysis
◦ Is it worth making more?Is it worth making more?

10.  Some study will need to beSome study will need to be
done to find out if making thisdone to find out if making this
thing, and how many to makething, and how many to make
is worthwhile – i.e. will itis worthwhile – i.e. will it
make enough money to bemake enough money to be
worth itworth it
 Key study is a Cost-BenefitKey study is a Cost-Benefit
AnalysisAnalysis
The study looks at money goingThe study looks at money going
out [cost] v. money coming inout [cost] v. money coming in
[revenue] to answer the[revenue] to answer the
questionquestion
Both costs and revenues comeBoth costs and revenues come
in several types andin several types and must bemust be
understood if I want tounderstood if I want to
avoid losing moneyavoid losing money

11.  Types of costs [ Money/resources
spent to produce]
◦ Fixed –
 Stay the same regardless of # of units
produced
 what examples can you think of?
◦ Variable –
 Costs vary with # of units produced
 examples?
◦ Total cost – add the first two
◦ Marginal cost –
 The cost for producing one additional unit
 Very helpful in determining whether or not to
make more

12.  RevenueRevenue = money coming in. Two= money coming in. Two
categories:categories:
◦ Total revenueTotal revenue = # units sold X avg.= # units sold X avg.
price per unitprice per unit
◦ Marginal revenueMarginal revenue – how will total– how will total
revenue change by sale of onerevenue change by sale of one
more unit? The amount oftenmore unit? The amount often
changes as # of items producedchanges as # of items produced
increasesincreases
 BenefitBenefit – action taken anticipating– action taken anticipating
satisfactionsatisfaction
◦ Marginal benefitMarginal benefit – additional profit,– additional profit,
etc. from one more producedetc. from one more produced
◦ Decreasing marginal benefitDecreasing marginal benefit [law[law
of diminishing returns]of diminishing returns]
◦ Decreasing marginal utilityDecreasing marginal utility [cross-[cross-
country training and Gatorade]country training and Gatorade]

13.  CB analysis – comparing marginal cost with marginal
benefit
◦ If marginal cost > marginal benefit, then don’t do it [unless youIf marginal cost > marginal benefit, then don’t do it [unless you
actually enjoy losing money]actually enjoy losing money]
◦ Often the benefits will decrease as more is produced – this isOften the benefits will decrease as more is produced – this is
called diminishing marginal benefit, or law of diminishing returnscalled diminishing marginal benefit, or law of diminishing returns