0 the basics of economics (chapter 1). 1 “billions of people could benefit from better economic...

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The Basics of Economics (Chapter 1)

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“Billions of people could benefit from better economic policies. Millions are dying because of bad ones. Sometimes the logic of economics is so compelling that it’s impossible for economists not to take a stand.”• Tim Hartford (author of The Undercover

Economist)

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EconomicsThe study of how society

manages its scarce resources by making decisions.

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Are these scarce?

CHAPTER 1 TEN PRINCIPLES OF ECONOMICS

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Yes! All goods and services are scarce!!!


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Good Service

Something that you can use or consume

Something that is done for you

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So back to what economics is…


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Lets pretend you have found a new tropical island that is inhabited by strange individuals...These people need so much

help that they gave you the power to make all of their societal decisions.

Currently, the society relies on themselves and their surroundings.

Based on all of this info, what are your first areas of concern as the leader of this

society?

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MICROECONOMICS is based on the same concept but the

decisions that are made are on a much smaller scale…


© 2007 Thomson South-Western

1. Key Economic QuestionsSociety faces many decisions:

What goods and services will be produced?

Who will produce the goods and services? Who will consume the goods and

services?


2. The Factors of Production

LAND LABOR CAPITAL

The resources that are used to produce goods and services


3. Physical vs. Human Capital• Physical Capital are the man made assets that

are used in production.• Ex. shovel, nail, plastic, etc.

• Human Capital is the knowledge that is needed in production.• Ex. a doctor administering an X-Ray, Mr. Vesper

teaching the most awe-inspiring lessons in the history of education.


4. Market•A group of buyers (consumers) and sellers (producers) of a particular good or service


5. The People Who Make Up A Market• Households

• Consumer of goods and services.

• They ARE the factors of production.

• Firms• Producers of goods and services.

• They USE the factors of production.


Household or Firm?


6. Society and Scarce Resources• The management of society’s resources is

important because resources are scarce.

• Scarcity. . . means that society has limited resources and therefore cannot produce all the goods and services people wish to have.


Basic Principles of Economics


Principle #1: People Face Trade-offs

• What you give up because of a decision

• Efficiency v. Equity• Efficiency means society gets the most that it can

from its scarce resources.• Equity means the benefits of those resources are

distributed fairly among the members of society.

Basket of Knowedge!

If society decides to be more equitable, what will happen to

efficiency?


Result…

Equity Efficiency


Principle #2: The Cost of Something Is What You Give Up to Get It.

• Basketball star LeBron James decided to give up college and play pro basketball. So, what was his cost? Do you think that was the correct decision?


Opportunity Cost

The MOST desirable alternative that is given up because of a decision


Which is the opportunity cost of this decision?

You decide to

buy a $50,000

car.


High Opportunity Cost Low Opportunity Cost

Should I rob a bank?

Should I steal one strawberry from the produce section at

Jewel?


• Marginal changes are small, incremental adjustments to a decision.

People make decisions by comparing costs and benefits at the margin.

Principle #3: Rational People Think at the Margin.

Example: Should I hire one more additional worker?


Principle #4: When making decisions, people use the Cost Benefit Analysis

• When thinking at the margin, you only add one more unit if the benefit is still larger than the cost.

• Benefits can also be called incentives.


What if….

Marginal Cost = $2,000Marginal Benefit = You play the game for a month and quickly lose interest


Principle #5: Trade Can Make Everyone Better Off.

• Trade allows people to specialize in what they do best.


Principle #6: Markets Are Usually a Good Way to Organize Economic Activity.

• A market economy is an economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and services.

I will let the citizens decide how to answer

the key economic questions

Hey Congress, that’s smart because I am

only going to produce what keeps my business running. So, most of society will get what

they want.


Principle #6: Markets Are Usually a Good Way to Organize Economic Activity.

• Adam Smith made the “invisible hand” theory. • Because households and firms look at prices

when deciding what to buy and sell, they unknowingly regulate the market.


Principle #7: Governments Can Sometimes Improve Market Outcomes.

• Markets work only if property rights are enforced.• Property rights are the ability of an individual to

own and exercise control over a scarce resource

• Market failure occurs when the market fails to allocate resources efficiently.

• When the market fails (breaks down) government can intervene to promote efficiency and equity.


Principle #7: Governments Can Sometimes Improve Market Outcomes.

• Market failure may be caused by:• an externality, which is the impact of one person or

firm’s actions on the well-being others.• market power, which is the ability of a single person

or firm to unduly influence market prices.


Principle #8: A Country’s Standard of Living Depends on Its Ability to Produce Goods and Services.

• Almost all living standards are linked to the countries’ productivity.

• Productivity is the amount of goods and services produced from each hour of a worker’s time.

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