ec102 - april 13
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INTRODUCTIONINTRODUCTIONTEN PRINCIPLES OF ECONOMICSTEN PRINCIPLES OF ECONOMICSNORMATIVE VS POSITIVENORMATIVE VS POSITIVECIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAMPRODUCTION POSSIBILITIES FRONTIER`PRODUCTION POSSIBILITIES FRONTIER`
April 13, 2011Ec102 D
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OverviewOverview
Economics Defined Ten Principles of Economics Process in Economics Theories and Models Circular Flow Diagram Production Possibilities Frontier (PPF)
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Group Quiz #1Group Quiz #1
1. Economists use _______ to simplify the complex world and make it easier to understand.
2. Economists assume that all human beings are ________.
3. The “automatic adjustments” was called _________ by Adam Smith.
4. It means “all else equal”.5. Accdg to Keynes, “In the long run, we are all
____.”6. BONUS: Room number
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ECONOMICSECONOMICS
A social science of allocation of scarce resources among alternative uses to attain desired ends. How people make choices Add it all up -- how society makes choices
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1. PEOPLE FACE TRADE-1. PEOPLE FACE TRADE-OFFSOFFS No free lunch To get one thing, you have to
give up another Example:
Choice of attending class or sleeping
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2. COST OF SOMETHING IS 2. COST OF SOMETHING IS WHAT YOU GIVE UP TO GET ITWHAT YOU GIVE UP TO GET IT
Opportunity cost – the next best alternative foregone If you did not choose do “this”, then
the opportunity cost is what you would have done instead
Example: Opportunity cost of going to class –
SLEEP Study or be a rock star?
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3. RATIONAL PEOPLE THINK AT 3. RATIONAL PEOPLE THINK AT THE MARGINTHE MARGIN Rationality Principle Decisions are not always between
extremes More often, in smaller increments
Marginal Changes – Incremental changes Around the edges Additional
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4. PEOPLE RESPOND TO 4. PEOPLE RESPOND TO INCENTIVESINCENTIVES
What induces you to act Maybe be a punishment or
reward What do I get for it?
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5. TRADE CAN MAKE 5. TRADE CAN MAKE EVERYONE BETTER OFFEVERYONE BETTER OFF
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6. MARKETS ARE A GOOD WAY 6. MARKETS ARE A GOOD WAY TO ORGANIZE THE ECONOMYTO ORGANIZE THE ECONOMY
Market – a group of buyers and sellers
Economy – group of people dealing with one another as they go about their lives
Market Economy vs Centrally Planned Economy
Invisible Hand
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7. Governments can 7. Governments can sometimes improve market sometimes improve market outcomesoutcomes Maintain rules and institutions Step in when there are market
failures Choice between efficiency or
equality
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8. A country’s standard of living 8. A country’s standard of living depends on its ability to produce depends on its ability to produce goods and servicesgoods and services Differences in productivity
differences in average income
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9. Prices rise when 9. Prices rise when governments print too much governments print too much moneymoney Long Run Inflation Example
Produce 1000 units, M = P10, 000Price = P10,000/1000 = P10
Produce 1000 units, M = P15, 000Price = P15,000/P1000 = P15
Demand Pull Inflation
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10. Society faces a short-run 10. Society faces a short-run trade-off between inflation and trade-off between inflation and unemploymentunemploymentShort run Increase M increased income increased demand higher prices (INFLATION) hire more workers lessen unemployment
Phillips Curve
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METHODOLOGY OF METHODOLOGY OF ECONOMICSECONOMICS
Positive Economics - attempts to understand behavior and operation of economic systems without making judgmentsDescribes what exists and how it worksFacts, cause and effectsDescriptive -- WHAT ISExample: Minimum wage laws cause unemployment.
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METHODOLOGY OF METHODOLOGY OF ECONOMICSECONOMICS
Normative Economics - Looks at outcomes of economic behavior and asks whether they are good or badMay prescribe courses of actionPolicy economicsPrescriptive -- WHAT OUGHT TO BEExample: The government should raise the minimum wage.
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METHODOLOGY OF METHODOLOGY OF ECONOMICSECONOMICSEconomists cannot simply do experiments
Role of Assumptions Example: Trade between two countries producing only two goods
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POSITIVE ECONOMICSPOSITIVE ECONOMICS
Descriptive economics - compilation of data that describe phenomena and facts
NSO Publications
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POSITIVE ECONOMICSPOSITIVE ECONOMICS
Economic Theory - statement or set of related statements about cause and effect, action and reaction
Model - formal statement of a theory, usually a mathematical statement of a presumed relationship between two variables
Variables - measure that can change from time to time
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POSITIVE ECONOMICSPOSITIVE ECONOMICS
Example:Theory: Law of DemandModel: Graph (equation)Variables: Price and Quantity
Models are abstractions.
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CETERIS PARIBUSCETERIS PARIBUS
“All else equal” Assume that all other factors do
not change Isolate effects Focus on the relationship
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
Visual model of how money flows through markets among households and firms
How economy is organized and how participants interact
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
Firms – produce goods and services using inputs (labor, land, capital, entrepreneurial activity) Factors of production
Households – own factors of production and consume goods and services (g/s)
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
Two kinds of markets Market for g/s:
Firms – sellers HH – buyers
Market for factors of prod’n Firms – buyers HH – sellers
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
Two loops: Inside – movement of inputs and
output HH sell use of factors of prod’n to firms in mkt for factors of prod’n. Firms use this to produce g/s in the mkt for g/s.
Outer – movement of money HH spend money to buy g/s from firms in
mkt for g/s. Firms use revenue to pay for factors of prod’n
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
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CIRCULAR FLOW DIAGRAMCIRCULAR FLOW DIAGRAM
Wallet (HH) Buy food at the caf (firm) Firm use resource to buy inputs
(example: wages) Wages wallets (HH)