lecture1-what is economics

8/7/2019 Lecture1-What is Economics

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2003 Prentice Hall Business Publishing Economics: Principles and Tools, 3/e OSullivan/Sheffrin

Prepared by:

Fernando Quijano and Yvonn Quijano

CH

APTER 1

Introduction:Introduction:

What Is Economics?What Is Economics?


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What Is Economics?

EconomicsEconomics is the study of the choicesis the study of the choicesmade by people who are faced withmade by people who are faced with

scarcity.scarcity.

ScarcityScarcity is a situation in whichis a situation in whichresources are limited but can be used inresources are limited but can be used in

different ways; so one good or servicedifferent ways; so one good or servicemust be sacrificed for another.must be sacrificed for another.


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Societys Choices

The decisions of producers, consumersThe decisions of producers, consumersand government determine how anand government determine how an

economic system answers threeeconomic system answers threefundamental questions:fundamental questions:

1.1. What products do we produce?What products do we produce?

2.2. How do we produce these products?How do we produce these products?

3.3. Who consumes the products?Who consumes the products?


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Factors of Production

1.1. Natural resources:Natural resources:

The things created by acts of natureThe things created by acts of nature

such as land, water, mineral, oil andsuch as land, water, mineral, oil andgas deposits, renewable andgas deposits, renewable andnonrenewable resources.nonrenewable resources.

Factors of productionFactors of production are the resourcesare the resourcesthat are used to produce goods andthat are used to produce goods and

services:services:


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2.2. Labor:Labor:

The human effort, physical and mental,The human effort, physical and mental,

used by workers in the production ofused by workers in the production ofgoods and services.goods and services.


services:services:


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3.3. Physical capital.Physical capital.

All the machines, buildings, equipment,All the machines, buildings, equipment,

roads and other objects made byroads and other objects made byhuman beings to produce goods andhuman beings to produce goods andservices.services.


services:services:


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4.4. Human capital:Human capital:

The knowledge and skills acquired by aThe knowledge and skills acquired by a

worker through education andworker through education andexperience.experience.


services:services:


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5.5. Entrepreneurship:Entrepreneurship:

The effort to coordinate the productionThe effort to coordinate the productionand sale of goods and services.and sale of goods and services.Entrepreneurs take risk and commitEntrepreneurs take risk and committime and money to a business withouttime and money to a business withoutany guarantee of profit.any guarantee of profit.


services:services:


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The Production Possibilities Frontier(PPF) Curve

The PPF curve showsThe PPF curve showsthe possiblethe possiblecombinations of goodscombinations of goods

and services availableand services availableto an economy, givento an economy, giventhat all productivethat all productiveresources are fully andresources are fully andefficiently employed.efficiently employed.


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When the economyWhen the economyis at pointis at point ii,,resources are notresources are notfully employedfully employedand/or they are notand/or they are notused efficiently.used efficiently.


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PointPoint ggis desirableis desirablebecause it yieldsbecause it yieldsmore of both goods,more of both goods,but not attainablebut not attainablegiven the amount ofgiven the amount ofresources available.resources available.


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PointPoint ddis one of theis one of thepossiblepossiblecombinations ofcombinations ofgoods producedgoods producedwhen resources arewhen resources arefully and efficientlyfully and efficiently

employed.employed.


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Scarcity and the ProductionPossibilities Curve

To increase theTo increase theamount of farmamount of farmgoods by 10 tons,goods by 10 tons,we must sacrificewe must sacrifice100 tons of factory100 tons of factorygoods.goods.


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The PPF curve isThe PPF curve isbowed out becausebowed out becauseresources are notresources are not

perfectly adaptable toperfectly adaptable tothe production of thethe production of thetwo goods.two goods.

As we increase theAs we increase the

production of oneproduction of onegood, we sacrificegood, we sacrificeprogressively moreprogressively moreof the other.of the other.


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Shifting the Production PossibilitiesFrontier Curve

To increase theTo increase theproduction of oneproduction of onegood withoutgood withoutdecreasing thedecreasing theproduction of theproduction of theother, the PPF curveother, the PPF curve

must shift outward.must shift outward.


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The PPF curve shiftsThe PPF curve shiftsoutward as a result of:outward as a result of:

1. An increase in the

economys resources,or

2. A technologicalinnovation that

increases the outputobtained from a givenamount of resources..


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From pointFrom point dd, an, anadditional 200 tonsadditional 200 tonsof factory goods orof factory goods or20 tons of farm20 tons of farmgoods are nowgoods are nowpossible (or anypossible (or anycombination incombination inbetween).between).


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Markets and the Invisible Hand

AA marketmarket is an arrangement that allowsis an arrangement that allowsbuyers and sellers to exchange things:buyers and sellers to exchange things:A buyer exchanges money for a product;A buyer exchanges money for a product;a seller exchanges a product for money.a seller exchanges a product for money.

Adam Smith used the metaphor of theAdam Smith used the metaphor of theinvisible hand to explain how peopleinvisible hand to explain how peopleacting in their own selfacting in their own self--interest mayinterest mayactually promote the interest of societyactually promote the interest of societyas a whole.as a whole.


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The Economic Way of Thinking

Positive economicsPositive economics concerns the forcesconcerns the forcesthat affect economic activity, and predictsthat affect economic activity, and predictsthe consequences of alternative actions.the consequences of alternative actions.It is the focus of most modern economicIt is the focus of most modern economicreasoning.reasoning.

Normative economicsNormative economics answers theanswers thequestion, What ought to be? Mostquestion, What ought to be? Mosteconomists shy away from normativeeconomists shy away from normativequestions.questions.


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Economists useEconomists use simplifyingsimplifyingassumptionsassumptions to eliminateto eliminateirrelevant details and focus onirrelevant details and focus onwhat really matters.what really matters.Assumptions are an aid to theAssumptions are an aid to theanalytical process.analytical process.


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Simplifying assumptions do not have toSimplifying assumptions do not have tobe realistic.be realistic.

We use maps, for example, to get usWe use maps, for example, to get usfrom point A to point B knowing that thefrom point A to point B knowing that themap is not an accurate description of themap is not an accurate description of theroad ahead, but only an abstraction ofroad ahead, but only an abstraction of

reality.reality.


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Most of the economic analysis in thisMost of the economic analysis in thisbook is based on two assumptions:book is based on two assumptions:

Well assume that people act in their ownWell assume that people act in their ownselfself--interest, without considering theirinterest, without considering theiractions on other people.actions on other people.

Well assume that people make informedWell assume that people make informed

decisions.decisions.


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Explore the Relationship BetweenTwo Variables

Ceteris paribus is Latin for all else beingCeteris paribus is Latin for all else beingequal. To study the relationship between twoequal. To study the relationship between twovariables, we assume that other variables dovariables, we assume that other variables donot change.not change.

TheThe ceteris paribusceteris paribus assumption isassumption isused to explore the relationship betweenused to explore the relationship betweentwo variables.two variables.

AA variablevariable is a measure of something thatis a measure of something thatcan take on different values.can take on different values.


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Microeconomics

MicroeconomicsMicroeconomics is the studyis the study

of the choices made byof the choices made byconsumers, firms, andconsumers, firms, andgovernment, and how theirgovernment, and how theirchoices affect the market for achoices affect the market for a

particular good or service.particular good or service.


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Microeconomics

Microeconomic analysis can be used to:Microeconomic analysis can be used to:1.1. Understand how markets work and predictUnderstand how markets work and predict

changes.changes.

2.2. Make personal and managerial decisions.Make personal and managerial decisions.

3.3. Evaluate the merits of public policies.Evaluate the merits of public policies.

Microeconomics focuses on the analysisMicroeconomics focuses on the analysisof individual economic units.of individual economic units.


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Macroeconomics

Macroeconomic analysis can be used to:Macroeconomic analysis can be used to: Understand how a national economyUnderstand how a national economy

works.works.

Understand the grand debates overUnderstand the grand debates overeconomic policy.economic policy.

Make informed business decisions.Make informed business decisions.

MacroeconomicsMacroeconomics is the study of theis the study of thenations economy as a whole.nations economy as a whole.


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Appendix: Using Graphs andFormulas

AA graphgraph is a visual representation of theis a visual representation of therelationship between two variables.relationship between two variables.

AA positive relationshippositive relationship exists when variablesexists when variableschange in the same direction. An increasechange in the same direction. An increase(decrease) in the value of one variable(decrease) in the value of one variableincreases (decreases) the value of the other.increases (decreases) the value of the other.

AA negative relationshipnegative relationship exists whenexists whenvariables change in opposite directions. Anvariables change in opposite directions. Anincrease (decrease in the value of oneincrease (decrease in the value of onevariable decreases (increases) the value ofvariable decreases (increases) the value ofthe other.the other.


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Appendix: Relationship BetweenHours of Work and Income

Suppose that a student receives a weeklySuppose that a student receives a weeklyincome which consists of a $20 weeklyincome which consists of a $20 weeklyallowance from her parents, and $4 per hourallowance from her parents, and $4 per hour

of work from her job.of work from her job.

The relationship between hours worked andThe relationship between hours worked andthe students weekly income can be describedthe students weekly income can be described

by the formula:by the formula:W = $20 + ($4 x hours worked)W = $20 + ($4 x hours worked)


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The expression W = $20 + ($4 x hours worked)The expression W = $20 + ($4 x hours worked)can be illustrated as follows:can be illustrated as follows:

HoursHoursworked perworked perweekweek

Income perIncome perweekweek

0 $ 20

10 60

22 10830 140


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Computing the Slope:Computing the Slope:

slope =vertical difference between points

horizontal difference between points

slope =

vertical difference

horizontal diffeence =

48

12 = 4

The slope betweenThe slope betweenpointspoints bb andand ccisiscomputed as follows:computed as follows:

W = $20 + ($4 x hours worked)W = $20 + ($4 x hours worked)


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Appendix: Moving Along the CurveVersus Shifting the Curve

A change in one ofA change in one ofthe variables shownthe variables shownon the graph causeson the graph causes

a movement alonga movement alongthe curve.the curve.

A change in workA change in worktime causes atime causes amovement from pointmovement from pointto point along theto point along thecurve.curve.



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Appendix: Moving Along the CurveVersus Shifting the Curve

A change in one ofA change in one ofthe variables that isthe variables that isnot shown on thenot shown on the

graph (assumedgraph (assumedfixed) shifts the entirefixed) shifts the entirecurve.curve.

An increase in theAn increase in theallowance causesallowance causesthe entire curve tothe entire curve toshift upward.shift upward.



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Appendix: Negative Relationship

Consider a consumer with a monthly budget of $150Consider a consumer with a monthly budget of $150who buys CDs and cassette tapes.who buys CDs and cassette tapes.

For every five CDs purchased,For every five CDs purchased,the amount of tapesthe amount of tapespurchased decreases by ten.purchased decreases by ten.

CDsCDspurchasedpurchased

TapesTapespurchasedpurchased

0 30

5 20

10 10

15 0

slopevertical di erence

horizontal di eence

-10

5- 2


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Appendix: Nonlinear Relationships

There is a positive,There is a positive,nonlinear relationshipnonlinear relationshipbetween study timebetween study time

and a grade on anand a grade on anexam.exam.

The curve exhibitsThe curve exhibitsdiminishing returns indiminishing returns in

study time. As studystudy time. As studytime increases, thetime increases, theexam grade increasesexam grade increasesat a decreasing rate.at a decreasing rate.


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Appendix: Using Formulas to ComputeValues

Computing percentage changes:

Using formulas to compute missing values::

We can rearrange the three parts of this formula to put themissing variable on the left side. For example, to compute thedifference in income, knowing the other two parts, we canrearrange the formula as follows:

percentage change =absolute change

initial value

slope =di erence in income

di erence in ork time

di erence in income = slope x di erence in ork time

lecture1-what is economics

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