Download The Economic Problem: Scarcity and Choice

The Economic Problem:
Scarcity and Choice
Chapter 2
1
Copyright 2002, Pearson Education Canada
Resources (Inputs) Used in Production
Capital
Things that have already been produced that are
used to produce other goods and services e.g.
buildings, machinery, roads.
Human Resources
Labour, Skills and Knowledge
Natural Resources
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Three Basic Economic Questions
What will be produced?
How will it be produced?
Who will get what is produced?
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Opportunity Cost
The opportunity cost is that which we give up or
forgo, when we make a decision or choice.
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The Theory of Comparative Advantage
Ricardo’s theory that specialization and free
trade will benefit all trading parties, even those
that may be absolutely more efficient producers.
A person or country is said to have a
comparative advantage in producing a good if it
is relatively more efficient than a trading partner
at doing so. In other words they have a lower
opportunity cost.
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Comparative Advantage Example
Production per
day
Shelter ( logs )
Food ( baskets )
Colleen
10
10
Ivan
5
8
Production values assume that each person is only
producing that good, so for instance Colleen can
produce 10 logs or 10 baskets of food.
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Calculate Opportunity Cost
10 logs cost Colleen 10 baskets of food
5 logs cost Ivan 8 baskets of food
For Shelter:
1 log costs Colleen 1 basket of food
1 log cost Ivan 1.6 baskets of food
For Food:
1 basket costs Colleen 1 log
1 basket costs Ivan .625 logs
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How should each specialize?
Colleen can produce logs cheaper than Ivan and
therefore should produce shelter.
Ivan can produce food/baskets cheaper than
Colleen and therefore should produce shelter.
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Consumer Goods, Capital Goods and
Investment
A capital good can be considered as anything
that is produced that will be used to produce
other valuable goods or services over time.
Investment is the process of using up resources
for the production of capital or simply
purchasing capital.
Consumer goods are those produced for present
consumption
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Production Possibility Frontier (PPF)
The PPF is a graph that shows all the
combinations of goods and services that can be
produced if all of society’s resources are used
efficiently.
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Production Possibility Frontier
Capital goods
 The curve has a negative
slope.
 The curve is concave to
the origin.
Consumer goods
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PPF and Opportunity Cost
(Figure 2.3)
 Producing tomatoes at D
instead of E, means
producing beef at D
instead of E. 250 million
more tomatoes at a cost
of 100 million kg of beef.
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Law of Increasing Opportunity Cost
The opportunity cost of producing a good
increases as more resources are shifted into its
production.
This is clearly shown in the Production Possibility
Schedule for tomato and beef production.
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PPF and Production Possibilities Schedule
for Beef and Tomatoes (Figure 2.3 and Table 2.1)
Point on
PPF
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Total Tomato
Total Beef
Production(millions Production(millions of
of kg)
kg)
A
1500
0
B
1400
400
C
1100
800
D
800
1100
E
550
1300
F
0
1400
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Economic Growth
Economic growth is an increase in the total
output of an economy.
It occurs when a society acquires new resources
or when it learns to produce more using existing
resources.
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Economic Growth and Shifts in the
PPF (Figure 2.4)
 New resources or
technology can
shift the PPF
outward.
 The shift may or
may not be parallel
depending on
where the
productivity
increases are
concentrated; in
this case, tomatoes
more than beef.
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The Economic Problem
Given scarce resources how exactly, do large,
complex societies go about answering the three
basic economic questions?
What will be produced?
How will it be produced?
Who will get what is produced?
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Economic Systems
Command Economy
Laissez-Faire Economies: Free Market
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Command Economy
An economy in which a central authority or
agency draws up a plan that establishes what
will be produced and when, sets production
goals, and makes rules for distribution.
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Laissez-faire Economy
Literally from the French: “allow (them) to do”
An economy in which individuals and firms
pursue their self-interests without any central
direction or regulation.
The central institution in these economies is
called the market.
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Markets
The institutions through which buyers and
sellers interact and engage in exchange.
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Important aspects of Market
Economies:
Consumer sovereignty
The idea that consumers ultimately dictate what will
be produced (or not produced) by choosing what to
purchase (and what not to purchase).
Individual Production Decisions
Distribution of output decentralized
Price theory
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A Role for Government:
Mixed Market Economies
Minimize market inefficiencies
Provision of public goods
Redistribution of income
Stabilize the macroeconomy
Promote low levels of unemployment
Promote low levels of inflation
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Review Terms and Concepts
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capital
command economy
comparative advantage
consumer goods
consumer sovereignty
economic growth
economic problem
investment
laissez-faire economy
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market
opportunity cost
outputs
price
producers
production
PPF
resources or inputs
three basic questions
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