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Economic Models
• Economics trains you to. . . .
• Think in terms of alternatives.
• Evaluate the cost of individual and social choices.
• Understand how certain events and issues are related.
• Economists use models to simplify reality in order to
improve our understanding of the world
• Our first economic model….
• The Production Possibilities Frontier
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The Production Possibilities Frontier
• The production possibilities frontier (PPF) is a graph
that shows the combinations of output that the
economy can possibly produce given the available
factors of production and the available production
technology.
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The Production Possibilities Frontier
Quantity of
Computers
Produced
3,000
D
C
2,200
2,000
A
Production
possibilities
frontier
B
1,000
0
300
600 700
1,000
Quantity of
Cars Produced
Copyright©2003 Southwestern/Thomson Learning
Our Second Model: The Production
Possibilities Frontier
• Concepts Illustrated by the Production
Possibilities Frontier
•
•
•
•
•
Scarcity
Efficiency
Tradeoffs
Opportunity Cost
Economic Growth
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Wheat or Oranges?
An Aging America and the PPF
• The average age of Americans will rise significantly
as the elderly make up a larger and larger share of the
total population:
• Suppose the US economy can produce two goods, medical
care and food.
• Draw a PPF and a possible production point representing
the original situation before the average age of the US
population has begun to increase.
• Now draw another possible point representing the change
that may occur as the population ages.
Copyright © 2004 South-Western/Thomson Learning
An Aging America and the PPF
Copyright © 2004 South-Western/Thomson Learning
Microeconomics and Macroeconomics
• Microeconomics focuses on the individual parts of
the economy.
• How households and firms make decisions and how they
interact in specific market settings.
• Macroeconomics looks at the economy as a whole.
• Economy-wide phenomena, including inflation,
unemployment, and economic growth.
See Practice Worksheet
Copyright © 2004 South-Western/Thomson Learning
The Power of Economics
• Economists try to explain the world (scientists).
• Positive economic analysis describes what is, descriptive
analysis, scientific method, objective.
• Economists try to change the world (policy).
• Normative economic analysis describes what should be,
prescriptive analysis, policy recommendation, subjective.
See Practice Worksheet
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POSITIVE VERSUS NORMATIVE
ANALYSIS
• Positive or Normative?
• U.S. spending on healthcare is rising faster than Gross
Domestic Product (GDP).
?
?
• The U.S. should spend less on healthcare.
Copyright © 2004 South-Western/Thomson Learning
POSITIVE VERSUS NORMATIVE
ANALYSIS
• Positive or Normative?
• Enacting price controls on prescription drugs will result
in fewer new/innovative drugs being developed.
?
?
• The U.S should not enact price regulations to control the
cost of prescription drugs.
Copyright © 2004 South-Western/Thomson Learning
ECONOMISTS DISAGREE
• They may disagree about the validity of alternative
positive theories on how the world works.
• They may have different normative views about
what policies to pursue and what policies should
try to accomplish.
• But all economists agree on two things…..
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ECONOMISTS AGREE
• Good normative policy prescriptions must be
based on sound positive economic analysis.
• And……
Copyright © 2004 South-Western/Thomson Learning