Chapter 1 & 2 Principles of Economics - 2024 Fall PDF

Chapter 1 Ten Principles of Economics Principles of Economics 2024 Fall Professor Soo Kyung Woo [email protected]  Resources are Scarce Scarcity: the limited nature of society’s resources Society has limited resources – Cannot produce all the goods and services people w...

Chapter 1 Ten Principles of Economics Principles of Economics 2024 Fall Professor Soo Kyung Woo [email protected]  Resources are Scarce Scarcity: the limited nature of society’s resources Society has limited resources – Cannot produce all the goods and services people wish to have Economics – The study of how we make choices about allocating limited resources to satisfy our needs and wants 2  Economists Study… 1. How people make decisions 2. How people interact 3. How the economy as a whole works 3  1. How people make decisions Making decisions requires trading off one goal against another – 1hr of study vs 1hr of TV – Efficiency vs Equality Opportunity cost – What you give up to obtain something Example What is the opportunity cost of going to college for a year? Tuition, books, and fees? (O) Room and board? (X) Foregone earnings? (O) 4  Efficiency & Equality Efficiency Equality The size of the economic pie How the pie is divided Getting the maximum benefits Distributing economic prosperity from its scarce resources uniformly among people One of the trade-offs that a society faces E.g. Public policies aimed at greater equality but lower efficiency: – Unemployment insurance – Individual income tax 5  2. How people interact Markets are usually a good way to organize economic activity – Adam Smith’s “Invisible Hand” But sometimes the market fails – Governments sometimes can improve market outcomes 6  3. How the economy as a whole works Fields of Economics Microeconomics Macroeconomics The study of how households and The study of aggregate phenomena, firms make decisions including inflation, unemployment, & how they interact in markets and economic growth 7 Chapter 2 Thinking Like an Economist Principles of Economics 2024 Fall Professor Soo Kyung Woo [email protected] How do economists approach the world? Economists as a scientist Economists as a policy adviser 9  The Economist as a Scientist Devise Collect data Analyze theories these data Verify or refute theories Use models Laboratory experiments is often impractical Mostly use historical data (natural experiments) 10  Economic Models Simplification of the reality to develop a theory Diagrams and equations Built with assumptions – Different assumptions to answer different questions 11  Model 1: Circular-Flow Diagram A diagram that shows the flow of resources Two economic agents (decision makers) – Firms – Households Two markets (where interaction happens) – Goods and services – Factors of production 12  The Circular Flow ▪ Own the factors of production, sell/rent them to firms for income ▪ Buy/consume goods and services Firms Households ▪ Produce goods and services ▪ Buy/hire factors of production ▪ Sell goods and services 13  The Circular Flow Revenue Spending Markets for G&S Goods & G&S sold Services bought Firms Households Factors of Labor, land, production Markets for capital Factors of Wages, rent, Production Income profit 14 The Circular Flow ▪ Goods and services are Markets for bought and sold. Goods & ▪ Sellers: firms Services ▪ Buyers: households Markets for ▪ Inputs are bought and sold. Factors of ▪ Sellers: households Production ▪ Buyers: firms 15  Model 2: Production Possibilities Frontier A graph that shows combinations of output that the economy can produce Given: – Factors of production – Production technology 16  EXAMPLE A country produces only two goods – Airplanes, Soybeans It has a fixed amount of resources (labor) And it has a fixed level of technology The available resources and technology can produce: – Only soybeans (5,000 tons) – Only airplanes (100 airplanes) – Or a combination of soybeans and airplanes 17  EXAMPLE A few of the possible production combinations: Soybeans Airplanes (tons) A 0 5,000 B 20 4,000 C 50 2,500 D 80 1,000 E 100 0 To increase the production of airplanes from 0 to 20, how many tons of soybeans do we have to give up? 18  EXAMPLE Airplanes 100 E Soybeans D F Airplanes (tons) 80 A 0 5,000 C B 20 4,000 50 G B C 50 2,500 20 D 80 1,000 A E 100 0 0 1,000 2,500 4,000 5,000 Soybeans Would it be possible to produce the following? – 80 airplanes and 4,000 soybeans – 30 airplanes and 2,500 soybeans 19  Points on PPF Good Y 0 Good X Efficient levels of production: points on the PPF Inefficient levels of production: points inside the PPF Not feasible levels of production: points outside the PPF 20  Movement along the PPF Moving along a PPF – Shift resources from the production of one good to the other Tradeoff: Getting more of good X requires sacrificing good Y Opportunity cost: The slope of the PPF 21  EXAMPLE Airplanes 100 E D 80 C 50 B 20 A 0 1,000 2,500 4,000 5,000 Soybeans Opportunity cost of 1 airplane: 50 ton of soybeans Opportunity cost of 1 ton of soybeans: 0.02 airplanes 22  Shifts of PPF Good Y 0 Good X Requires economic growth – Additional resources – Improvement in technology 23  The Shape of the PPF Straight line: constant opportunity cost – Previous example: the opportunity cost of 1 airplane is always 50 tons of soybeans Bowed outward: increasing opportunity cost – As more units of a good are produced, we need to give up increasing amounts of the other good produced 24  PPF might be bowed outward At point A: Beer A opportunity cost of most workers are mountain bikes is low producing beer, even those who are better suited to building bikes. B At point B: most workers are opportunity cost of producing bikes mountain bikes is high As the economy shifts resources from beer to mountain bikes, Mountain the opportunity cost of Bikes mountain bikes increases. 25 The Economist as a Policy Adviser Describes a relationship Positive statements Can confirm/refute with evidence Descriptive “Minimum-wage laws cause unemployment” Value judgetment Normative statements Cannot be confirmed/refuted Prescriptive “The government should raise the minimum wage” 26  Positive or Normative? A. Prices rise when the government increases the quantity of money. Positive B. The government should print less money. Normative C. A tax cut is needed to stimulate the economy. Normative D. An increase in the price of burritos will cause an increase in consumer demand for movie streaming. Positive Note: A statement need not be true to be positive. 27  Why Economists Disagree Economists often give conflicting policy advice: – Can disagree about the validity of positive theories – Can have different normative views about what policy should try to accomplish Yet, there are many propositions about which most economists agree 28