Contents of courseContents of course Module 1.Fundamental concepts in

Microeconomics Module 2. Individual and society economic

problem Module 3.Demand and Supply Module 4.Market Equilibrium. Module 5.Elasticity of Demand and Supply Module 6.Consumer behavior.

Chapter1: fundamental Chapter1: fundamental concepts in concepts in

microeconomicsmicroeconomics

Lecture 1Lecture 1

INTRODUCTION Some examples that makes the study of

economics very important: The decision of individuals to buy products The decision of firms The International Monetary Fund(IMF) Tax policies or subsidies The World Trade Organization Cooperation Council for the Arab Gulf States Organization of Petroleum Exporting

Countries(OPEC(

Three questions to answer

There are three types of decisions that need to be made in economy: Which goods and services to produce, How to produce them, for whom should get them.

Definition of economics Economics is the study of how

individuals and societies use limited resources to satisfy unlimited wants.

Economic Theory Theory: an organized system of

accepted knowledge that applies in a variety of circumstances to explain a specific set of phenomena.

Economic theory: attempts to abstract from human behavior (producer and consumer)

Economic Analysis Economic analysis is both based on

deduction and induction.o Deduction: is a method of reasoning in

which one deduces a theory based on a set of almost self-evident principles.

o Induction: is a method of reasoning in which one develops general principles by looking from patterns in the data.

Economic Model scientific method that consists of

the following steps:o observe a phenomenon,o make simplifying assumptions and

formulate a hypothesis,o generate predictions, ando test the hypothesis.

Simplifying assumptions ceteris paribus – holding

everything else constant abstraction in economics used to

simplify reality

Economic Model

The extraction of a model can be in the form of words, abstractions, assumptions (ceteris paribus), diagrams or mathematical equations.

Microeconomics and Macroeconomics

microeconomics - the study of economic behavior of individual human beings and firms.

macroeconomics - the study affecting the entire economy, including unemployment, inflation, economic growth, and monetary and fiscal policy.

Microeconomics Agents Firms:

• Produce and sell goods and services• Buy inputs (labor, capital and raw

materials) Consumers:

• Buy goods and services• Sell inputs (labor services, loanable

funds)

Positive and normative economic

positive economico attempt to describe how the economy

functionso relies on testable hypotheses

normative economico relies on value judgments to evaluate

or recommend alternative policies.

Individual economic problem

Example: The consumer A have a limited

budget:120 dollars Individuals have unlimited wants, 2goods:

• book (10$) • DVD (20$)

Figure 1: The graph of the consumer budget

DVD ($20)

Book ($10)

Total cost

6 0 120 = 120 + 0

5 2 120 = 100 + 20

4 4 120 = 80 + 40

3 6 120 = 60 + 60

2 8 120 = 40 + 80

1 10 120 = 20 + 100

0 12 120 = 0 + 120

0

2

4

6

8

0 2 4 6 8 10 12 14

BooksD

VD

s

Rational self-interest

Individuals select the choices that makes them happiest, given the information available at the time of a decision.

Society economic problem Society economic problem resources scarcity resources scarcity

land all natural resources

• land• minerals• water• wildlife

labor: Consists of the physical and intellectual services

provided by human beings.

Society economic problem Society economic problem scare resourcesscare resources

capital physical capital

goods used to make other goods Factories Machines Infrastructure

Financial capitalstocks, bonds, bank loans

entrepreneurial ability Refers to the ability to organize production and risks

ResourceResource paymentspayments

Economic Resource Resource payment

land rent

labor wages

capital interest

entrepreneurial ability profit

ScarcityScarcity the basic economic problem is

scarcity:

wants are unlimited, but resourcesare limited.

so with scarcity, we must make choices.

Model of possibilities Model of possibilities production production Frontier(PPF) Frontier(PPF)

Assumptions: model of scarcity, choice, &

opportunity cost choice between 2 goods PPF shows maximum possible

output with combination of 2 goods, given current resources

PProduction roduction PPossibilities ossibilities CCurveurve

Pizzas (00,000s) 0 1 2 3 4

Robots (000s) 10 9 7 4 0

024681012

0 1 2 3 4 5

Ro

bo

ts (

tho

us

and

s)

Pizzas (hundred thousands)

PProduction roduction PPossibilities ossibilities CCurveurve

Pizzas (00,000s) 0 1 2 3 4

Robots (000s) 10 9 7 4 0

0

2

4

6

8

10

12

0 1 2 3 4 5Ro

bo

ts (

tho

us

and

s)

Pizzas (hundred thousands)

Production possibilities curveProduction possibilities curveProduction possibilities curveProduction possibilities curve

PProduction roduction PPossibilities ossibilities CCurveurve

0

2

4

6

8

10

12

0 1 2 3 4 5Ro

bo

ts (t

ho

us

an

ds

)

Pizzas (hundred thousands)

production possibilities curve

attainableattainable

unattainableunattainableWW

Attainable Attainable

Using the PPFUsing the PPF

points on or inside the PPF arepossiblepoints INSIDE the PPF

are inefficient(do not use all resources)points ON the PPF

are efficient(use all resources)points outside the PPF are not possible at

this time

scarcity & tradeoffsscarcity & tradeoffs the PPF shows limits to production so must choose between Robot & Pizza

combinations-- give up Robots to get more Pizzas-- give up Pizzas to get more Robots

-- TRADEOFF

Opportunity CostOpportunity Cost Opportunity cost is the process

of choosing one good or service over another.

Opportunity CostOpportunity Cost on PPF there are tradeoffs

-- how much is given up?= opportunity cost

opportunity cost of 1 opportunity cost of 1 Pizza:Pizza:

A to B

= 1 Robot B to C

= 2 robots C to D

= 3 robots

A 10 0

B 9 1

C 7 2

D 4 3

E 0 4

opportunity costs are increasingopportunity costs are increasing

cost (in robots) increases

as pizza production increases PPF is concave (bowed out) why?

-- harder to switch resources between robots and pizza

• At first when making more pizza switch the best resources from robot

production

• But as we make more pizza resources switched are less and less

suitable for robot production

opportunity costs are opportunity costs are increasingincreasing

Shifts in the PPFShifts in the PPF

if we get more resources if technology improves then the PPF will shift out

produce more CDs and more water economic growth!

Shifts in the PPFShifts in the PPF

robots

pizza

With economic growth,

the unattainable becomesattainable