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ECONOMICS CHAPTER 1 What is Economics? WHAT IS ECONOMICS? Economics-the study of how people seek to satisfy their needs and wants by making choices. Need- Want- Goods services SCARCITY AND SHORTAGES? Scarcity- FACTORS OF PRODUCTION Land- Labor- Capital Physical human OPPORTUNITY COST AND TRADE-OFFS Tradeoffs Opportunity cost THE DECISION-MAKING GRID Karen’s Decision-making Grid Alternatives Sleep late Wake up early to study Benefits • Enjoy more sleep • Have more energy during the day • Better grade on test • Teacher and parental approval • Personal satisfaction Decision • Sleep late • Wake up early to study for test Opportunity cost • Extra study time • Extra sleep time Benefits forgone • Better grade on test • Teacher and parental approval • Personal satisfaction • Enjoy more sleep • Have more energy during the day THINKING AT THE MARGIN Options Benefit Opportunity Cost 1st hour of extra study time Grade of C on test 1 hour of sleep 2nd hour of extra study time Grade of B on test 2 hours of sleep 3rd hour of extra study time Grade of B+ on test 3 hours of sleep PRODUCTION POSSIBILITIES A production possibilities graph shows alternative ways that an economy can use its resources. Production Possibilities Graph Watermelons (millions of tons) 25 Shoes (millions of pairs) 20 0 15 8 14 14 12 18 9 20 5 21 0 Shoes (millions of pairs) 15 a (0,15) b (8,14) 10 c (14,12) 5 d (18,9) A production possibilities frontier 0 5 10 15 e (20,5) f (21,0) 20 Watermelons (millions of tons) 25 EFFICIENCY Production Possibilities Graph Efficiency means using resources in such a way as to maximize the production of goods and services. An economy producing output levels on the production possibilities frontier is operating efficiently. 25 20 Shoes (millions of pairs) S 15 a (0,15) b (8,14) 10 c (14,12) g (5,8) d (18,9) 5 A point of underutilization e (20,5) f (21,0) 0 5 10 15 20 Watermelons (millions of tons) 25 GROWTH Production Possibilities Graph Growth If more resources become available, or if technology improves, an economy can increase its level of output and grow. When this happens, the entire production possibilities curve “shifts to the right.” 25 Future production Possibilities frontier T Shoes (millions of pairs) 20 S 15 a (0,15) b (8,14) c (14,12) 10 d (18,9) 5 e (20,5) f (21,0) 0 5 10 15 20 Watermelons (millions of tons) 25 COST Cost: Switching production from one product to another involves a loss of production for one item. Production Possibilities Graph Watermelons (millions of tons) 0 Shoes (millions of pairs) 15 8 14 14 12 18 9 20 5 21 0 25 Shoes (millions of pairs) 20 15 c (14,12) 10 d (18,9) 5 0 5 10 15 20 25 Watermelons (millions of tons) CHAPTER 2 Answering the three economic questions THE THREE ECONOMIC QUESTIONS Every society must answer three questions: 1. What goods and services should be produced? 2. How should these goods and services be produced? 3. Who consumes these goods and services? ECONOMIC GOALS Economic Efficiency – Economic Freedom – Economic security – Economic Equity – Econ Growth – An economic system is the method used by a society to produce and distribute goods and services. Traditional economies Market economy Centrally planned economy Mixed economies WHY DO MARKETS EXIST? A market Specialization THE FREE MARKET ECONOMY In a free market economy, households and business firms use markets to exchange money and products. Households own the factors of production and consume goods and services. Invisible hand interest competition Circular Flow Diagram of a Market Economy Households pay firms for goods and services. Product market monetary flow physical flow Firms supply households with goods and services. Households Households supply firms with land, labor, and capital. Firms Firms pay households for land, labor, and capital. Self physical flow monetary flow Factor market THE INVISIBLE HAND OF THE FREE MARKET Comes from the great philosopher Adam Smith (18th century) Made up of two components Self Interest Competition ADVANTAGES OF THE FREE MARKET Efficiency Growth Freedom Variety CENTRALLY PLANNED ECONOMIES Socialism = Communism= THE FORMER SOVIET UNION Soviet Agriculture Soviet Industry Large farms called collectives Focus on military goods and heavy industry Soviet Consumers Few available products but very cheap prices PROBLEMS OF A CENTRALLY PLANNED ECONOMY Centrally planned economies face problems of poor-quality goods, shortages, and diminishing production. GOVERNMENT’S ROLE IN A MIXED ECONOMY Circular Flow Diagram of a Mixed Economy In a mixed economy, The government purchases land, labor, and capital from households in the factor market, and Purchases goods and services in the product Product market monetary flow physical flow Households expenditures Government market. physical flow monetary flow Factor market expenditures Firms COMPARING MIXED ECONOMIES An economic system that permits the conduct of business with minimal government intervention is called free enterprise. The degree of government involvement in the economy varies among nations. Continuum of Mixed Economies Centrally planned Free market Iran North Korea Cuba South Africa China Russia France Botswana Greece United Kingdom Canada Peru Source: 1999 Index of Economic Freedom, Bryan T. Johnson, Kim R. Holmes, and Melanie Kirkpatrick Hong Kong Singapore United States CHAPTER 2 OPEN NOTE QUIZ 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. List and describe the goals achieved/advantages of free markets. Describe centrally planned economies. What are the three questions that each society must answer? How does socialism differ from communism? What type of economy does the U.S. have? Why? What two factors help to keep free markets regulated? What is the invisible hand? What is laissez faire? Why are most countries mixed economies? What is the primary role of government in the United States economy? CHAPTER 2 REVIEW 3 economic questions Centrally planned economies Free market economies Traditional economies Advantages of mixed economies Advantages of free market economies What happened to the major centrally planned economies (China, Soviet Union Continuum of Mixed economies (especially Canada, U.S. China) Economic Goals Efficiency Growth Freedom Additional goals (varies) Invisible hand Self interest Competition Why are most countries mixed Adam Smith CHAPTER 3 American Free Enterprise FREE ENTERPRISE Free Enterprise - BASIC PRINCIPLES OF FREE ENTERPRISE Profit motive- Open opportunity- ECONOMIC RIGHTS Legal Equality- Private property- Free contracts- Voluntary exchange- Competition- WHAT SHOULD GOVERNMENT DO? Protect Consumers Public Disclosure lawsProtecting Health and Safety- PROVIDING A SAFETY NET The Poverty ProblemPoverty threshold- level of income below what is needed to support families or households. In 2000 a single parent under 65 was $11,869 and a four person family was $17,463. Government Role- Yet as a society that prefers limited government activity in the economy, poverty poses tough questions: A. What can government do to combat poverty? B. What should government do?