Econ 100.1 AY2024-25 Sem 1 DC 1 PDF

ECON 100.1 Intro to Macro Theory & Policy Discussion Class 1 John Faust Turla University of the Philippines School of Economics August 30, 2024 For today 1 Housekeeping 2 Preliminaries 3 Economics as a Field JF Turl...

ECON 100.1 Intro to Macro Theory & Policy Discussion Class 1 John Faust Turla University of the Philippines School of Economics August 30, 2024 For today 1 Housekeeping 2 Preliminaries 3 Economics as a Field JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 1 / 41 Housekeeping Introduction JF Turla, a PhD student currently doing dissertation Teaching fellow for sections: a FJ 3 (1:00-2:00 PM) b FK 3 (2:30-3:30 PM) c FL 3 (4:00-5:00 PM) Prof. JC’s lectures: Wednesdays & Fridays, 11:00 AM to 12:00 NN We are here to assist the faculty-in-charge in handling the entire class. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 2 / 41 Some Reminders Always refer to the instructor’s course syllabus. Professor JC has laid out the class rules there. You can reach me via email at [email protected] for queries. ▶ Email subject line1 : [ECON 100.1 F 3] Insert Email Subject Consultation hours by appointment. Attend lectures and discussions diligently. Discussion sessions aren’t substitutes but complements to lectures. Read in advance. Take notes. Ask your questions. Consult if needed. 1 Please follow this subject line format when sending an email to me. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 3 / 41 Preliminaries What is Economics? Textbook definition: the study of how societies choose to use scarce productive resources that have alternative uses, to produce commodities of various kinds, and to distribute them among different groups. Three fundamental questions of economic organization: WHAT goods will be produced; HOW goods will be produced; and FOR WHOM goods are produced Put simply, economics is the study of how societies can manage its limited resources despite unlimited human wants and needs2. 2 Read: choice JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 4 / 41 Branches of Economics Economics is also studied on various levels. We can study: ▶ the decisions of individual households and firms ▶ the interaction of households and firms in markets for specific goods and services. ▶ the operation of the economy as a whole, which is the sum of the activities of all these decision makers in all these markets. Major branches of economics: ▶ Microeconomics focuses on how human behavior affects the conduct of affairs within narrowly defined units, such as individual households or business firms ▶ Macroeconomics examines the economic behavior of aggregates—income, employment, output, and so on—on a national scale JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 5 / 41 Branches of Economics Microeconomics looks at the individual unit—the household, the firm, the industry. It sees and examines the “trees.” Macroeconomics looks at the whole, the aggregate. It sees and analyzes the “forest.” Microeconomics is concerned with household income; macroeconomics deals with national income. Whereas microeconomics focuses on individual product prices and relative prices, macroeconomics looks at the overall price level and how quickly (or slowly) it is rising (or falling). Microeconomics questions how many people will be hired (or fired) this year in a particular industry or in a certain geographic area and focuses on the factors that determine how much labor a firm or an industry will hire. Macroeconomics deals with aggregate employment and unemployment. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 6 / 41 JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 7 / 41 Economics as a Field The Role of Economists 1 Scientists: try to explain the world 2 Policy advisors: try to improve it JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 8 / 41 The Economist as Scientist Economists approach their research using the scientific method—the interplay between theory and observation. Economists also use natural experiments—situations arising in real life that resemble randomised experiments. These natural experiments may be due to natural random variations, institutional rules or policy changes. Economists employ models to learn about the complex world. Their models mostly consist of diagrams and equations. But take note that economic models omit many details to allow us to see what is truly important. ▶ It is for this reason that economists also make assumptions in studying the world. Assumptions can simplify the complex world and make it easier to understand. ▶ The art of scientific thinking is deciding which assumptions to make. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 9 / 41 JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 10 / 41 Economics and the Scientific Method The central objective of science is to explain the phenomena that we observe. In other words, we try and understand the causal links of a problem. Understanding a problem is finding its cause Practical aspect: How do we do this in a complex world? ▶ Several different explanations are possible ▶ They can also interact You need a systematic method to evaluate all the possible explanations and eliminate those that are not valid. In particular, you need to be able to impose “ceteris paribus” condition (all other things being equal). Therefore, you need to be able to create a simplified representation of reality to be able to isolate these effects. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 11 / 41 JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 12 / 41 Economic Model 1: Theory of Inflation For example, rapidly increasing prices might be observed in a country, which leads the economist to develop a theory of inflation. The theory might assert that printing too much money causes high inflation. M =⇒ P To test this theory, the economist could collect and analyze data on prices and money from many different countries. If growth in the quantity of money were completely unrelated to inflation, he or she would start to doubt the validity of his or her theory. If money growth and inflation were found to be correlated in the data, the economist would become more confident in the theory. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 13 / 41 Economic Model 2: Returns to Education Consider the following assumption about the return to education: each additional year of education causes your future wages to rise by 10 percent. Increasing a wage by 10 percent is the same as multiplying the wage by (1 + 0.1) = 1.10. Someone with an extra year of education earns 1.10 times as much as she would have earned without the extra year of education. Another assumption: the return-to-education assumption implies that 2 additional years of education will increase earnings by 10 percent twice over—once for each extra year of education—producing a 21 percent total increase: 1.10 × 1.10 = 1.21. Four additional years will increase earnings by 10 percent four times over, i.e., (1.10)4 = 1.46. In principle, we can apply this analysis to any number of years of education. We therefore have a general model that relates people’s educational attainment to their income, i.e, return-to-education model. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 14 / 41 Economic Model 3: Circular Flow of Economic Activity JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 15 / 41 Economic Model 3: Circular Flow of Economic Activity Circular-flow diagram ▶ This is a visual model of the economy ▶ The circular-flow diagram shows how pesos flow through markets among households and firms. There are mainly two decision makers: 1 Firms (Producers) 2 Households (Consumers) There is an interaction of two markets: ▶ Market for goods and services or outputs ▶ Market for factors of production or inputs JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 16 / 41 Economic Model 4: Markets (Demand and Supply) A market is a group of buyers and sellers of a particular good or service. The buyers as a group determine the demand for the product, and the sellers as a group determine the supply of the product. Certain assumption about the market: perfectly competitive3 ▶ The goods offered for sale are all exactly the same. ▶ The buyers and sellers are so numerous that no single buyer or seller has any influence over the market price. =⇒ Because buyers and sellers in perfectly competitive markets must accept the price the market determines, they are said to be price takers. At the market price, buyers can buy all they want, and sellers can sell all they want. 3 Not all are perfectly competitive. Some are monopolies that set the price. Others fall between these two extremes. Despite different market types, assuming perfect competition is a useful simplification. Competitive markets are the easiest to analyze because everyone participating in them takes the price as given by market conditions. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 17 / 41 Demand Let’s talk about one market of a particular good, say, ice cream. Price Quantity The quantity demanded of any good Demanded is the amount of the good that buyers $0 12 cones are willing and able to purchase. The 1 10 demand schedule is a table that shows 2 8 the quantity demanded at each price. 3 6 If the price of ice cream rose to $20 per 4 4 scoop, you would buy less ice cream. 5 2 You might buy frozen yogurt instead. If 6 0 the price of ice cream fell to $0.50 per scoop, you would buy more. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 18 / 41 Demand Curve JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 19 / 41 Demand vs. Quantity Demanded A change in the price of the good does not shift the curve but causes a movement along the demand curve to a different quantity demanded. If something happens to alter the quantity demanded at any given price, the demand curve shifts. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 20 / 41 Demand vs. Quantity Demanded Any change that raises the quantity that buyers wish to purchase at any given price shifts the demand curve to the right. Any change that lowers the quantity that buyers wish to purchase at any given price shifts the demand curve to the left. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 21 / 41 Demand vs. Quantity Demanded Changes in other factors shift the demand curve Other factors Changes in demand Higher income shift right Bigger market shift right Higher price of substitute4 shift right Higher price of complement5 shift left Stronger preferences shift right 4 When a fall in the price of one good reduces the demand for another good, the two goods are called substitutes. Substitutes are often pairs of goods that are used in place of each other, such as hot dogs and hamburgers, sweaters and sweatshirts, and movie tickets and film streaming services. 5 When a fall in the price of one good raises the demand for another good, the two goods are called complements. Complements are often pairs of goods that are used together, such as gasoline and automobiles, computers and software, and peanut butter and jelly. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 22 / 41 Demand vs. Quantity Demanded The demand curve shows what happens to the quantity demanded of a good as its price varies, holding constant all the other variables that influence buyers. When one of these other variables changes, the quantity demanded at each price changes, and the demand curve shifts. A curve shifts when there is a change in a relevant variable that is not measured on either axis. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 23 / 41 Market Demand The demand curve in the previous slides shows an individual’s demand for a product. To analyze how markets work, we need to determine the market demand, the sum of all the individual demands for a particular good or service. The table below shows the demand schedules for ice cream of the two individuals in this market—Catherine and Nicholas. Price Catherine Nicholas Market $0 12 + 7 = 19 cones 1 10 6 16 2 8 5 13 3 6 4 10 4 4 3 7 5 2 2 4 6 0 1 1 JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 24 / 41 Market Demand The graph below shows the demand curves that correspond to these demand schedules. Notice that we sum the individual demand curves horizontally to obtain the market demand curve. To find the total quantity demanded at any price, we add the individual quantities demanded, which are found on the horizontal axis of the individual demand curves. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 25 / 41 Supply The quantity supplied of any good or service is the amount that sellers are willing and able to sell. Price Quantity When the price of ice cream is high, Supplied selling ice cream is quite profitable, and $0 0 cones so the quantity supplied is large. Sellers 1 0 work long hours, buy many ice-cream 2 1 machines, and hire many workers. 3 2 By contrast, when the price of ice cream 4 3 is low, the business is less profitable, so 5 4 sellers produce less ice cream. At a low 6 5 price, some sellers may even shut down, reducing their quantity supplied to zero. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 26 / 41 Supply Curve JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 27 / 41 Supply vs. Quantity Supplied Changes along the supply curve are caused by a change in the price of the good. A shift in the supply curve is caused by a factor other than the price of the good and results in a different quantity supplied at each price. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 28 / 41 Supply vs. Quantity Supplied Any change that raises the quantity that sellers wish to produce at any given price shifts the supply curve to the right. Any change that lowers the quantity that sellers wish to produce at any given price shifts the supply curve to the left. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 29 / 41 Supply vs. Quantity Supplied Changes in other factors shift the supply curve Other factors Changes in supply Better technology shift right Higher input prices shift left Higher price of related goods shift left Good weather shift right Environment standards shift left Taxes on inputs shift left For example, suppose the price of sugar falls. Sugar is an input in the production of ice cream, so the lower price of sugar makes selling ice cream more profitable. This raises the supply of ice cream: At any given price, sellers are now willing to produce a larger quantity. As a result, the supply curve for ice cream shifts to the right. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 30 / 41 Supply vs. Quantity Supplied Once again, to remember whether you need to shift or move along the supply curve, keep in mind that a curve shifts only when there is a change in a relevant variable that is not named on either axis. The price is on the vertical axis, so a change in price represents a movement along the supply curve. By contrast, because indicated variables on the table in the previous slide are not measured on either axis, a change in one of these variables shifts the supply curve. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 31 / 41 Market Supply Just as market demand is the sum of the demands of all buyers, market supply is the sum of the supplies of all sellers. The table below shows the supply schedules for the two ice-cream producers in the market—Ben and Jerry. Price Ben Jerry Market $0 0 + 0 = 0 cones 1 0 0 0 2 1 0 1 3 2 2 4 4 3 4 7 5 4 6 10 6 5 8 13 JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 32 / 41 Market Supply As with demand curves, we sum the individual supply curves horizontally to obtain the market supply curve. To find the total quantity supplied at any price, we add the individual quantities, which are found on the horizontal axis of the individual supply curves. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 33 / 41 Laws of Demand and Supply Law of downward-sloping demand curve A demand schedule shows the relationship between quantity demanded and the price of a commodity, holding other things constant. This demand schedule is depicted graphically by a demand curve. The law of demand states that quantity demanded falls as a good’s price rises, holding other things constant. Law of upward-sloping supply curve A supply schedule shows the quantities producers are willing to supply at various prices. The supply schedule can be depicted graphically by a supply curve. The law of supply states that quantity supplied of a good rises when the price of good rises, holding other things constant. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 34 / 41 Intersection of Supply and Demand The point at which supply and demand intersect is called the market’s equilibrium. The price at this intersection is the equilibrium price; the quantity is called the equilibrium quantity. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 35 / 41 Market Equilibrium At equilibrium, quantity demanded is equal to quantity supplied. The equilibrium price is sometimes called the market-clearing price because, at this price, everyone in the market has been satisfied: Buyers have bought all they want to buy, and sellers have sold all they want to sell. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 36 / 41 Surplus When price is greater than equilibrium price, then quantity supplied is greater than quantity demanded. In this case, we say that there is an excess supply or surplus. Suppliers will lower the price to increase sales, thereby moving toward equilibrium. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 37 / 41 Surplus Falling prices, in turn, increase the quantity demanded and decrease the quantity supplied. These changes represent movements along the supply and demand curves, not shifts in the curves. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 38 / 41 Shortage When price is less than the equilibrium price, then quantity demanded exceeds quantity supplied. In this case, we say there is excess demand or shortage. Suppliers will have to raise the price since many buyers are purchasing too few goods, thereby moving toward equilibrium. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 39 / 41 Shortage These price increases cause the quantity demanded to fall and the quantity supplied to rise. Once again, these changes represent movements along the supply and demand curves, and they move the market toward the equilibrium. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 40 / 41 Towards the Equilibrium Regardless of whether the price starts off too high or too low, the activities of the many buyers and sellers automatically push the market price toward the equilibrium price. Once the market reaches its equilibrium, all buyers and sellers are satisfied, and there is no upward or downward pressure on the price. How quickly equilibrium is reached varies from market to market depending on how quickly prices adjust. In most free markets, surpluses and shortages are only temporary because prices eventually move toward their equilibrium levels. JF Turla (UPSE) ECON 100.1 Discussion Class 1 August 30, 2024 41 / 41 END