Download Chapter 1: Overview

Chapter 1: Overview
 Economics is defined as the study of choice under
conditions of scarcity.
What is Scarcity?
 Scarcity: is the problem of infinite human needs and
wants, in a world of finite resources.
 Society has insufficient productive resources to fulfill
those wants and needs.
 Individuals face scarcity.

Resource Categories (Factors of Production)
 Land or Natural Resources: includes anything
naturally occurring which can be used in production.

 Labor or Human Resources: including anything that
man brings to the production process.


 Capital or physical capital: anything man-made that
can be used again in production (durable: lasts over one
year)

Not every input is a Resource!
o
o
ex:
o
ex:
o
ex:
o
o
Decision-Making
ECONOMICS THEN STUDIES HOW
ECONOMIC AGENTS USE THE
RESOURCES WITH WHICH THEY ARE
ENDOWED TO THEIR BEST ABILITY
IN ORDER TO ACQUIRE THE GOODS
AND SERVICES THEY MOST DESIRE.
Assumptions about Decision-Making
 every choice implies a trade-off (must give up something)
 every choice therefore has a cost

 people are rational:
 people are self-interested:

altruism
 people makes choices at the “margin”: we examine the incremental
benefits (marginal benefit) and incremental costs (marginal cost)
Economic Model of DecisionMaking
THE MODEL ASSUMES PEOPLE WEIGH THE
RELATIVE COSTS AND BENEFITS OF A
DECISION AT THE MARGIN. THE OPTIMAL
LEVEL OF ACTIVITY WILL OCCUR WHERE
MARGINAL BENEFIT = MARGINAL COST
Two Important Components of the Model
 Marginal Benefit (MB): is the change in benefits
(additional benefit or reduction in benefit) from
changing the level of an activity by one unit (increasing
or decreasing an activity by 1 unit).

Ex
 Marginal Cost (MC): is the change in costs (additional
cost or reduction in cost) from changing the level of an
activity by one unit (increasing or decreasing an activity
by 1 unit).

Ex:
The Intuition
 As long as the Marginal Benefit (MB) of an activity is higher than the
Marginal Cost (MC) more of the activity should be undertaken.


As you increase an activity the marginal benefits will diminish and
the marginal costs will increase.
 Eventually, the Marginal Benefit (MB) of an activity will be equal to the
Marginal Cost (MC). This is the optimal level of an activity.

 If you continue the activity past this point the Marginal Benefit (MB) of
an activity will become lower than the Marginal Cost (MC) and less of
the activity should be undertaken.

Applications of the Model
 Individual: should you take an extra course a
semester to graduate early?
 Firm: demand for Dell computers has increased by
10,000 units. Should Dell increase production to
maximize profit? By how many units?
 Government: should the Federal Drug
Administration have stricter regulations on
genetically modified organisms (GMOs) in food
products to increase food safety?
Evaluating Costs and Benefits
 Cass Sunstein (Office of Information and Regulatory
Affairs)—top regulator in Obama Administration.
 Strong proponent of cost-benefit analysis.
 Difficulties: measuring costs and benefits in dollars

Ex:
EPA—acceptable mercury levels in products. Measure the cost of
incremental exposure to mercury in terms of the reduction in IQ
points of kids.
 What is the cost? EPA valued 1 lost IQ point due to mercury
poisoning at ___________.


Ex:
Macro Vs. Micro
MACROECONOMICS FOCUSES ON THE
OVERALL ECONOMY.
MICROECONOMICS FOCUSES ON SMALLER
ECONOMIC UNITS SUCH AS INDIVIDUALS,
HOUSEHOLDS, FIRMS, AND INDUSTRIES.
Macro vs. Micro Topics
MACRO
MICRO
 Inflation

 Unemployment


 Gross Domestic
Product (GDP)
 Trade Balance

The Role of Markets
MICROECONOMICS STUDIES THE BEHAVIOR
OF SMALLER ECONOMIC UNITS SUCH AS
INDIVIDUALS, HOUSEHOLDS, FIRMS, AND
GOVERNMENT AND THEIR INTERACTIONS IN
MARKETS.
Defining a Market
 A market is an organized “place” where buyers and
sellers voluntarily exchange goods and services.

Examples:
 Markets are defined in terms of:
1.
2.
3.
Evaluating Outcomes
THE STUDY OF ECONOMICS INVOLVES
DESCRIBING EVENTS, ANALYZING EVENTS,
MAKING PREDICTIONS, AND PRESCRIBING
POLICY RECOMMENDATIONS.
Positive vs. Normative Economics
 Positive analysis or economics: is an objective
description and/or evaluation of an event.


Ex: efficiency considerations—is a project produced at lowest cost?
 Normative analysis or economics: provides a
subjective description or evaluation of an event.


Ex: equity considerations—relating to fairness
Examples
1.
2.
3.
4.
5.
6.
A $0.50 tax on cigarettes will reduce smoking by
teenagers by 12%.
The federal government should reform health care.
Rising paper prices will increase textbook prices.
The price of coffee at Dividends is too high.
The government will balance the budget this year.
Tuition costs for higher education have increased
15% annually for the past 5 years. The state should
increase subsidies on education to reduce the
burden on families.