Introduction to Economics

Introduction to Economics

• Economics is being defined as a social science, and explores the application of opportunity cost, decision making based on resource constraints, and economic systems.
• Also covers the differentiation between macroeconomics and microeconomics and identifies economic resources and problems.

Scarcity

• Scarcity arises when there are insufficient resources to meet the needs and wants of a population.
• This is due to people's unlimited desires coupled with limited resources.
• Scarcity may be relative or absolute.

Types of Scarcity

• Absolute scarcity happens with insufficient quantities of a resource to meet the needs and wants of humans.
• Relative scarcity happnes when resources are available, but supply or distribution problems exist.

Economics

• Economics helps understand the many decisions individuals, families, businesses, or societies make, since there are never enough resources to address all needs and desires.
• Economics, as a study is the social science that involves the use of scarce resources to satisfy unlimited wants.
• People’s ability to buy goods and services is limited by his income and purchasing power.
• It’s in this context that man has to practice economics.

Alfred Marshall Definition of Economics

• Economist, Alfred Marshall, defined economics as the study of mankind in the ordinary business of life.
• It looks at parts of individual and social actions most closely tied to achieving and using material requirements for being well.

Choice and Decision-Making

• Economics studies how people meet unlimited wants with limited resources and form strategies to make decisions.
• Studying and understanding economics is vital to understanding how the world operates.

Economic Decisions

• Economic decisions occur when people need to choose in conditions of scarcity.
• Scarcity appears when people have unlimited wants but only limited resources, and so must choose between various options.

Economic Decisions (Examples)

• An individual decides what clothes to buy, whether to attend university, or whether to buy a new phone.
• A family decides how many clothes their kids need, how often to take vacations, and what car to buy.
• Countries decide the level of taxation to impose, how much to spend on the military vs. domestic programs, and what economic activities to subsidize.

Opportunity Cost

• Opportunity Cost refers to the cost of the next best alternative use of money, time, or resources when one choice is made rather than another.

Economic Resources

• Economic Resources, also known as Factors of production, are the resources people use to produce goods and services.
• Economists divide the factors of production into four categories: land, labour, capital, and entrepreneurship.

Four Categories of Economic Resources

• Land: natural resources employed to produce goods and services, and income earned is called rent.
  • Includes water, oil, copper, natural gas, coal, and forests.
• Labor: the effort people contribute to producing goods and services, the income earned is called wages
• Capital: Tools, machinery, and buildings to produce goods and services.
  • Includes hammers, forklifts, conveyer belts, computers, and delivery vans
• Entrepreneurship: Entrepreneurs combine land, labor, and capital to earn a profit, through finding new ways to produce goods and services, and the income earned is profit.
  • Henry Ford and Bill Gates provide entrepreneurship examples

Economics as a Social Science

• Economics builds theories using scientific methods to explain behaviors of individuals, groups, and organizations.
• It studies how choices are made dealing with allocating scarce resources in order to satisfy unlimited wants.

Macroeconomics and Microeconomics

• Economics includes people with jobs and without, of all income levels.
• Acknowledges production of useful goods and services can create environmental pollution issues.

Macroeconomics

• The economy as a whole is looked at.
• Broad issues include the growth of production, unemployment, inflation, government deficits, and levels of exports and imports.
• Microeconomics and macroeconomics are complementary perspectives on the broader subject of the economy.

Microeconomics

• Microeconomics focuses on the actions of individual agents within the economy.
• Individual agents include households, workers, and businesses.

Two Types of Macroeconomics

• Monetary Policy involves interest rate levels, credit availability, and the extent of borrowing.
• Fiscal Policy describes the economic policies that involve government spending and taxes.

Basic Economic Problems of Society

• The central economic problem is scarcity, present across all countries.
• Scarcity arises since resources are limited and can be used in different ways.

Four Basic Problems of an Economy

• What to Produce?: A society decides what goods/services to produce and how much of each to make.
• How to Produce?: A society chooses between different production methods, such as handlooms, power looms, or automatic looms.
• For whom to Produce?: A society decides how to distribute the total output of goods and services amongst it's members.
• What Provision Should Be Made for Economic Growth?: A society decides whether to use all its resources for current consumption vs. investing for future growth.

Economic Systems

• An economic system organizes the allocation of resources and distribution of goods and services within a country or region
• Also a type of social system and defines how entities in an economy interact.
• Ancient systems were basic, relying on barter.

Three Main Types of Economic Systems

• Market Economy: Prices are determined by supply and demand rather than a central or local government.
  • Market forces drive decisions about production, distribution, and prices, Capitalism is an outdated word for describing this econmic type.
• Planned Economy: all decisions made by a central authority, like the government.
  • Examples include North Korea and Cuba.
  • A key difference between market and planned is the existence of private property.
• Mixed Economy: Market economies that sometimes comes into trouble and involves government intervention.

Why Economics is Important

• The economy refers to a region or country's resources and wealth, especially as it pertains to producing and consuming goods and services.
• Economics allows people to see how factors work to control resource use, and how inflation, supply, demand etc, affect good and service prices.

Scientific Approach in the Empirical Testing of an Economic Theory

• Economics attempts to expain how economies operate and how people attempt to maximize wants with limited means.
• Logic, mathematics and statistics can be used when testing an economic theory in the scientific manner.

Positive Economics vs. Normative Economics

• Economic decisions and policy influenced by value judgements bring about competition.
• Two standard branches include positve and normative economics.
  • Positive economics is objective and fact, normative is subjective and value based.
  • Positive statements should be tested, and normative statements are opinion based so cannot be proved.

Measuring the Economy

• Economic policy is impossible if it's not understood what the economy looks like and how is performing with key variables like output, employment and inflation.
• Gross Domestic Product (GDP) is most cited commonly accepted economic measurement and the best for economic performance as it provides a barometer.

What is GDP?

• GDP measures a country's total income and can be assessed by summing everyone's income or the value of all goods and services produced.
• GDP, as measured by expenditure, calculates the total spending on consumption, investment, and exports, offset by imports.

Strengths and Weaknesses of GDP

• GDP is a good measure of production and spending, but not a measure of the standard of living (although it is often used as such).
• Standards of living also depend upon leisure time and wage rates.
• GDP shows nothing about income distribution.

GNP/GDP Expenditure and Income Approach

• The income approach estimates GDP by the accounting reality expenditures an economy should equal total income generated by production, assuming there are four major factors.
• Adding all sources of income provides an estimate of economic activity, but taxes, depreciation, and foreign factor payments must be accounted.
• The expenditure method calculates GDP by combining consumption, investment, government spending, and net exports.

GNP/GDP: Expenditure and Income Approach (Formula)

• Expenditure GDP Formula: GDP = C + I + G + (X-M)
• C = Consumer spending on goods and services
• I = Investor spending on business capital goods
• G = Government spending on public goods and services
• X = Exports
• M = Imports

Main Components Under Expenditure Method

• Consumer spending is the largest component by most as the majority of a country's GDP is accounted.
  • Consumption is divided into durable goods, nondurable goods, and services.
• Government spending includes expenditures by state, local, and federal authoritie, on defense and nondefense goods and services.
• Business investment involves capital expenditures by firms on assets with useful lives of more than one year.
• GNP is calculate by including all income earned by residents in foreign countries, but less the income earned by foreign residents within the country.

Main Component Under Expenditure Method (Official Calculation of GNP)

• Y = C + I + G + X + Z
  • C – Consumption Expenditure
  • I - Investment
  • G - Government Expenditure
  • X - Net Export (Value of imports minus value of exports)
  • Z - Net Income (Net income inflow from abroad minus net income outflow to foreign countries)
• GNP = GDP + Net Income Inflow from Oversees - Net Income Outflow to Foreign Countries
• GDP = Consumption + Investment + Government Expenditure + Exports – Imports

Importance of GNP

• Policy makers use GNP as an economic indicator to derive information on manufacturing, investments, employment, and production outputs.
• Is applied determining residential income in making policies about savings as well economic rely on the GNP data to solve national problems such as inflation and poverty.

Gross National Product vs. Gross Domestic Product.

• GNP and GDP both measure the market product value and services produced in an economy.
• GDP measures domestic levels of production, with GNP measurments for a country's residents regardless of location.
• If domestic companies’ foreign income exceeds foreign companies’ domestic income, GNP is higher than GDP.

Limitation of GDP Measure

• Nobel Prize winner Joseph Stieglitz suggests GDP not be treated as the sole indicator of well-being due to lacking nonmonetary considerations.