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Brief Introduction to Economics
YD Ahn, PhD
http://blog.daum.net/yongdahn
[email protected]
1. Basic Concepts
Economy, to economize (경제, 경제행위)
Resources and efficient allocation (자원과 그 배분)
Cost and benefit analysis (비용∙편익 분석)
Benefit: What you obtain, enjoy…
Cost: What you pay, sacrifice, forgo….
Cost as foregone opportunities (explicit and implicit)
→ Opportunity cost (기회비용)
Product (상품)
Goods and services (재화와 서비스)
Intermediate vs. finished product (중간재 대비 최종재)
Production factor: price and productivity (생산요소의 가격과 생산성)
Land (incl. natural resources): rent (토지에 대한 지대)
Labor: wage (salary)
(노동에 대한 임금)
Capital: interest rate (cost of capital) (자본에 대한 이자)
Productivity: land, labor, capital productivity (노동 생산성 등)
Total factor productivity (총요소 생산성)
Three major players in a national economy (국가경제의 3 주체)
Household (가계)
Firm (기업)
Government (정부)
Value creation (가치 창출)
Production (value-adding activity) and product (value encapsulated)
Voluntary exchange at the market
Value as measured at the market price
* Market price as proxy variable (대리변수) of value
← What gets measured gets managed.
Value created only by firms
Economics (경제학)
Why to learn economics
Humanities vs. sciences (인문학 대비 과학)
Social vs. Natural sciences (사회과학 대비 자연과학)
Theory vs. policy (이론 대비 정책)
Positive vs. normative statement (실증적 대비 규범적)
Knowledge vs. wisdom (지식 대비 지혜)
Economics vs. Business Administration as disciplines
(경제학 대비 경영학)
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2. Ten Principles in Economics
 Gregory Mankiw. Chapter 1 of Principles of Economics, 2009 (1998)
Mankiw says, “Teaching economics is a double blessing.”
 Ten principles: Underpinning ideas in economics
1. People face trade-offs. (선택의 기로)
2. The cost of something is what you give up to get it. (모든 희생이 비용)
3. Rational people think at the margin. (합리적 인간은 한계점에서 생각)
4. People respond to incentives. (유인/誘因이 있어야 반응)
5. Trade can make everyone better off. (교환거래는 쌍방 이익)
6. Markets are usually a good way to organize economic activity. (시장의 효율성)
7. Government can sometimes improve market outcomes. (시장실패의 경우는 정부)
8. A country’s standard of living depends on its ability to produce goods and services.
(GDP 가 행복지수)
9. Prices rise when the government prints too much money. (화폐수량설)
10. Society faces a short-run trade-off between inflation and unemployment.
(필립스 곡선)
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For your reference only
Euclidean Five Axioms (유클릿 기하학의 5 대 공리)
Euclidean geometry is an axiomatic system, in which all theorems ("true
statements") are derived from a small number of axioms. Near the beginning of
the first book of the Elements, Euclid gives five postulates (axioms) for plane
geometry, stated in terms of constructions:
1. Let the following be postulated: to draw a straight line from any point to
any point.
2. To produce [extend] a finite straight line continuously in a straight line.
3. To describe a circle with any center and distance [radius].
4. That all right angles are equal to one another.
5. The parallel postulate: That, if a straight line falling on two straight
lines make the interior angles on the same side less than two right
angles, the two straight lines, if produced indefinitely, meet on that side
on which are the angles less than the two right angles.
Source: Wikipedia
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3. Optimum Condition (최적조건)
Hiroshi at the dinner table <Figure>
-
How many sushi in a prepared dish to eat → When to stop eating
** Prepared dish: All making cost are sunk.
. Keep eating as long as MB (Marginal Benefit ≥ MC (Marginal Cost)
. Stop eating at the moment when MB < MC
-
Evaluation of the result: Maximization of the Net Benefit
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Optimization condition (최적화)
MB = MC (한계편익 = 한계비용)
→
ΔTB/ΔQ
MB : Benefit from additional incremental one unit
MC: Cost for additional incremental one unit
=
=
=
ΔTB/ΔQ
Δ TC/ΔQ
Objective and process
- Objective function (목표함수): What to optimize/ maximize
Net Benefit = Total benefit – Total cost
- Maximization of NB (as represented by the shaded area)
When and only when MB = MC
Nature of the benefit and cost
i)
The law of diminishing marginal benefit
e.g.) The law of diminishing returns (수확체감의 법칙)
ii)
The law of increasing marginal cost
iii)
A curse or a blessing ?
-
Presence of an equilibrium (균형점의 존재)
-
Stability of the equilibrium (균형점의 안정성)
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ΔTC/ΔQ
For your reference only
Mathematical Approach
1) What to maximize : Objective function (목적함수)
NB = TB -
TC
2) How to maximize
→ To make the first order derivative zero (제 1 차 도함수의 값이 영)
ΔNB /ΔQ = ΔTB/ΔQ - ΔTC/ΔQ = 0
→ End result: Marginal benefit = marginal cost
ΔTB/ΔQ = ΔTC/ΔQ (한계편익) = (한계비용)
<Table> Calculation of Marginal Cost
Q
(Total quantity)
TC (Total cost)
MC at 10oth unit
100
3,000
(100 → 100+ΔQ) See bottom
100.5
3,004
(100 → 10o.5)
101
3,010
(100 → 101)
102
3,025
(100 → 102)
103
3,045
(100 → 103)
105
3.100
(100 → 105)
100 + ΔQ
3,000 + ΔTC
ΔTC/ΔQ = Slope
TC
Q
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4. Demand and Supply
Demand curve (수요곡선)
Diminishing marginal utility from a product (한계 효용 체감의 법칙)
Law of supply (공급곡선)
Increasing marginal production cost, aka law of diminishing returns
(한계 비용 체증의 법칙 → 수확 체감의 법칙)
Law of supply and demand (수요와 공급의 법칙)
Principle of market clearance: ex post supply = ex post demand
(시장 청산의 법칙: 사후적으로 공급 = 수요)
Optimum resource allocation through perfect competition (완전경쟁)
Maximum surplus → Maximum net benefit for the whole society
(생산자 잉여 및 소비자 잉여가 극대화)
S ← MC
P
P0
D← MU
Q0
<The Product Market>
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Q
The price is right, period. (가격은 언제나 옳다.)
It is sacred. (가격에 대해 시비하면 시장경제주의자가 못됨.)
Do not complain. If not satisfied with it, just walk away!
Arbitrage (무위험 차익거래)
- To make extra profit through taking advantage of a price difference without
additional risk
- Across place, over time, or between substitutes
- Arbitrage profit = price differential – (transaction cost + carrying cost)
Law of one price (일물일가의 법칙)
Price difference → Arbitrage possible
→ Prices to be adjusted until the arbitrage opportunity disappears
FYR: Efficient Market Hypothesis (효율적 시장의 가설)
-
All relevant information known to market participants
No transactions cost
Homogeneous product
Enough liquidity
→ Law of one price through arbitrage
The labor market (wage vs. supply of and demand for Labor)
w
SL ← MC (M. Pain)
DL ← MPL (M. Product of Labor)
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5. National Income
Value added at a firm: (기업의 부가가치)
Definition: (sales revenue) – (purchases from other firms)
Sources: value-chain activities (가치사슬 속의 기업기능)
Uses: compensation to production factors, that is, factor incomes
(부가가치는 모두 생산요소의 보수로 지출됨.)
VAT (부가가치세)
Value of a finished good: Sum of value added in the supply-chain (<Figure>)
(최종재의 가치 = 시장가격 = 공급사슬 속의 부가가치 합계)
National Income: National sum total of value added in a year
(국민소득 = 국내 창출 부가가치의 총화)
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Gross Domestic Product
Definition: GDP is the market value of all final goods and services produced
within a country in a given period of time.
GDP (국내총생산) vs. GNI (국민총소득)
(x) GNP (국민총생산)
Components of GDP
① Production (supply): Y (yield) = Total sum of value added
② Expenditure (demand): Household consumption (C)
Firm investment (I)
Government expenditure (G)
③ National income: Compensation to production factors
Market clearance: Y = C + I + G (Supply = Demand)
Principle of triple equivalence (국민소득 삼면 등가의 원칙)
GD Product = Gross National Income = Gross Domestic Expenditure
Open economy (개방경제)
Y+M = C+I+G+X
Sources
Uses
Y = C + I + G + (X-M)
Trade balance or net exports: (X - M) = Y – (C + I +G)
(무역수지 혹은 순수출)
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6. Money and Banking
Money (통화)
Functions of money (통화의 기능)
①
②
③
Types of money
① Currency in circulation (민간화폐 보유액: 현금통화)
② Bank deposits (은행예금)
③ Quasi-money (준통화)
Settlement process (결제절차)
(My Bank)
Money as book entry
Monetary aggregates <Figure>
M2: merely 2% in type of cash
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Key understandings
① Money rarely leaves the banking system.
② Money stays in its jurisdiction.
Banking
Taking deposits and making loans
Money creation (통화창출기능)
Monetary multiplier (통화승수)
Central bank
Lender of last resort (최종대부자)
Monetary policy(통화정책)
<Figure> Monetary Indices in Korea
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The capital market (interest rate vs. capital trade)
Sources of capital: Saving
Uses of capital: Investment
The loanable-fund market (대부자금시장)
SC ← Marginal pain of
r
postponing consumption
DC ← MPC
M
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7. BOP and the FX Market
Balance of Payments (BOP, 국제수지)
Current Account (경상계정)
Capital Account (자본계정)
Commercial capital trade
Changes in Official Reserve (준비자산의 증감)
BOP Book-keeping
(Examples)
Account Balances: Surplus or deficit
(계정의 수지: 흑자 혹은 적자)
Current account balance = Capital Account balance + Net Change in RFX
FYR: Double entry book-keeping
- Each trade: Two entries: One in debit (차변) and the other in credit (대변)
- Σ (debit entries) = Σ (credit entries)
- Entry guide line
Debit
Uses of capital (asset)
Credit
Sources of capital (liability)
Current trade
- Expense or import
- Revenue or export
Financial/
Capital trade
- Increase in asset
- Decrease in liability
- Decrease in asset
- Increase in liability
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Determinants of Current Account Balance
(X-M) = Y – (C+I+G)
Microscopic approach
Macroscopic approach
Official Reserves (대외준비자산): RFX (외환보유고)
Definition
Meaning
Changes in RFX and Their Effects
The FX Market (외환시장)
Foreign Currency (외화) and Foreign Exchange (외환)
Exchange Rates (환율): The market price of a currency (Foreign Currency)
in terms of another (Domestic Currency)
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FX rate Determination
←Supply and demand of the Foreign Exchanger
Capital Account: 수출 및 수입의 환율영향 (goods and services)
 Interest Rate Parity Condition (이자율 평형의 조건)
Current Account: 투자유인의 환율 영향
 Purchasing Power Parity Condition (구매력 평형의 조건)
Central Bank’s Intervention and the FX Rate (외환시장 개입)
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8. Economic Stabilization vs. Development
Determinants of National Income
Which determines GDP, demand condition or the production capacity?
Demand side for the short-term (수요중시 경제학, 불황경제학)
(Depression Economics, Cycle Economics)
Y = C + I + G + (X-M)
Supply side for the long-term (공급중시 경제학)
(Supply-side Economics, Development)
Y=α×f(L, K, H, N)
α denotes Total Factor Productivity (TFP)
L is Labor
K is physical Kapital
H is Human capital
N is Natural resources, stands for the quantity and quality of land
Aggregate supply (총수요) and aggregate demand (총공급)
Price
AS
Level
AD
Y (GDP)
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Short-term Economic Stabilization
(Prevention of recession/ unemployment)
Increase in C, I, or G
Export-promotion
Import-substitution
Long-term economic development
(To enhance the growth potential)
Increasing the inputs (economic growth) (투입요소의 증대)
L:
K:
H:
N:
birth rate, immigration, rural-urban mobility
business prospects, interest rate, accessibility to finance, investment credit
education and training of labor, keeping health
natural resources exploration, land development (reclamation)
Enhancing TFP (economic development) (총요소 생산성의 향상)
Institutions: free market, rule of law, transparency
Socioeconomic Policies: stability, predictability
Physical Infrastructure
Management Savvy: leadership, strategies, innovations, other management expertise
Industrial Technologies
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8. Market and the Government
Modus operandi of the market
Self-interest ⇒
Everyone’s desire for wealth ⇒
Competition for scarce resources ⇒
Innovation to win in competition ⇒
Growth and development of the national economy
It is not from the benevolence of the butcher, the brewer, or the baker, that we
expect our dinner, but from their regard to their own interest. We address ourselves,
not to their humanity but to their self-love, and never talk to them of our own
necessities but of their advantages. (A. Smith. The Wealth of Nations, 1776; Ch. 2)
Elements in a free-market economy (시장경제의 기본요소)
1) Freedom to choose (aka voluntary exchange)
2) Fair trade
3) Property right
4) Rule of law
Participants in the market economy
1) Context builder
- Institutions (rules of the game) (제도)
- Infrastructure (the playing ground) (하부구조)
- Stability of the environment (정치∙사회∙경제적 안정)
2) Players
- Firms
- Individuals
- (Government)
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3) Manager: resource allocator
-?
* The ball in a ball game
4) Umpire
Market failures (시장의 실패)
1) Public goods (공공재)
2) Externality (외부성)
3) Imperfect competition (Monopoly)
* Increasing returns
4) Information asymmetry (정보의 비대칭성)
Roles of the government in a free-market economy
1) Context builder
2) Umpire (⇒ rule of law)
3) Players to supply public goods
Although many remember Smith today mainly for his brilliant insight into how
market forces could support a self-organizing division of labor—the invisible
hand—he was anything be a laissez-faire ideologue. Smith spends much of Book V
of The Wealth of Nations explaining in detail why the state has powerful
responsibilities regarding defense, justice, infrastructure, and education, areas in
which collective action is required to complement, or substitute for, private-market
forces. (J. Sachs. The End of Poverty, 2005, p. 348)
Mainly what is required for rapid economic growth is (as Smith himself put it as a
young man) “peace, low taxes and a tolerable administration of justice. D. Warsh.
Knowledge and Wealth of Nations, 2006, p. 45)
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Economic policies
1) Macroscopic: as context builder (거시경제 정책)
- Three objectives: stability in employment, price and the foreign exchange rate
- Three means: monetary, fiscal and FX intervention
Perhaps the invisible hand guides the economy in normal times, but the invisible
hand is susceptible to paralysis. (G. Mankiw as quoted in D Warsh, p. 271)
2) Microscopic: as manager (or players sometimes) (미시경제 정책)
- Industrial policy
- Trade policy
- Urban development policy
- Financial policy
- Industrial subsidies
What institutions?
-
Favorable to long-term growth
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