Introduction to Economics

Introduction to Economics

• Economics is the social science that studies how individuals satisfy their unlimited needs and desires with scarce resources.
• This involves trade-offs; obtaining more of one good often means sacrificing something else.
• Two perspectives exist:

  • Microeconomics: Focuses on decision-making processes at the individual level, including how individuals interact in markets, and considers factors like costs, benefits, and public interventions.

  • Macroeconomics: Focuses on the aggregate economy, including factors like GDP, price levels, income distribution and its evolution over time, growth, etc.

Analyzing Economics

• Economics uses scientific methods:

  • Observing reality
  • Understanding it
  • Testing theories and refining them

• Theory (economic models) and data (econometrics) are used to understand problems, predict outcomes, and guide policy decisions.

The Cost-Benefit Principle

• An action should be taken if and only if the extra benefits from taking the action are at least as great as the extra costs.
• Additional benefits (MB) versus additional costs (MC) are important to consider.

The Principle of Not All Costs and Benefits

• Not all costs and benefits are equally important when making decisions. Opportunity costs, marginal costs, and marginal benefits matter.
• Sunk costs, average costs, and average benefits are not relevant in decision-making processes.

Failure to Understand the Average-Marginal Distinction

• The decision-making process should focus on marginal benefits and marginal costs, not average benefit and average cost.
• Short-run vs long-run costs and benefits should be considered when making decisions.

International Economics

• International economics explores how nations interact, mainly through trade of goods and services, and flows of money and investment.
• It also examines international issues like migration, resource management, and global conflicts.

GDP Comparison

• Purchasing Power Parity (PPP) adjustments are needed to make fair international comparisons of GDP.
• Countries' relative wealth and price levels affect how much adjustment is needed.

Perfectly Competitive Markets

• Four characteristics of perfectly competitive markets:
  • Standardized products. (Consumers are indifferent between products from one firm or another)
  • Many buyers and sellers. (No one firm controls market price)
  • Resources are mobile (free entry/exit). (Firms can freely enter and exit the market)
  • Well-informed buyers and sellers. (Buyers are aware of available opportunities and prices.)
• The Wheat market is a (nearly) perfect example of this type of market, while operating systems markets aren't.

Supply and Demand (Model)

• The model involves:
  • Demand Curve
  • Supply Curve
  • Factors shifting the curves
  • Market Equilibrium
  • Changes in equilibrium

Basic Concepts of International Trade

• Imports: purchase of goods/services from another country.
• Exports: sale of goods/services to another country.
• Trade balance: the difference between the total value of exports and the total value of imports.
  • Trade surplus: exports > imports
  • Trade deficit: imports > exports

Relevance of International Trade

• International trade has become more important; the fraction of the US economy engaged in international trade has tripled.
• International trade links societies and people and is important for economic growth, world peace, and development of countries.

The Gains from Trade

• Voluntary trade benefits both parties.
• Producers and consumers benefit when countries specialize in producing what suits their resources and skills best.

Protectionism vs. Free Trade

• Trade can benefit countries (international competition, broader income distribution), but trade can also have some negative effects on certain groups of people or industries within a country, such as decline of lower-skill worker salaries.

World Trade Overview

• Key concepts for the structure and dynamics of trade between countries:
  • Gravity model
  • Globalization trends
  • Changing composition of trade.

Other Important Information

• The largest trading partners of the US in 2015 were Canada, China, Mexico, Japan, and Germany. The top 20 trading partners accounted for 80% of the value of US trade.

• Trade within Europe is the largest part of world trade, about 21%. This is due to the nature of the EU (many countries near each other, have eliminated internal trade barriers)

• Trade with Asia is also large in volume. China is the world's leading exporter.

• The main types of goods traded are manufactured goods (53%), followed by services (20%), fuels / mining and agricultural products (combined 27%)

• A 1% increase in the distance between countries is associated with a 0.7% to 1% decrease in the value of trade between the two countries, all else equal.