Introduction to Economics

What is this course about??

What is “Economics?”

• People make choices as they try to attain their goals. Choices are necessary because we live in a world of scarcity.

• Scarcity: A situation in which unlimited wants exceed the limited resources available to fulfill those wants

• Economics is the study of these choices.

• Economists study these choices using economic models, simplified versions of reality used to analyze real-world economic situations.

Typical “Economics” Questions

• We will learn how to answer questions like these:

• How are the prices of goods and services determined?• How does pollution affect the economy and how should

governmental policy deal with these effects?• Why does government control the prices of some goods and

services and what are the effects of those controls?• Why does the movie theater charge adults an admission price that

is higher than children?• Why does it always seem like there are two gas stations right next

to each other at traffic intersections?

Three Key Economic Ideas

1. Agents are rationala. Rational: using all available information to achieve your goals (we are

mini-calculators)b. Example: Microsoft does not randomly choose the price of its

Windows software; it chooses the price that it thinks will be most profitable

2. Agents respond to economic incentivesa. As incentives change, so do the choices people/firms make (e.g. will businesses hire

more if it becomes more expensive?)

3. Optimal decisions are made at the margina. Most decisions are not “all or nothing” (e.g. “should I eat 5 slices of pizza or none?”)b. We will compare the marginal benefit of a decision to the marginal cost of the

decision

Economies must answer these questions:

1. What goods and services will be produced?a. Increased production of one good requires the

reduction of the production of another good (trade-off from scarcity)

2. How will the goods be produced?a. Example of music producer (hire a great singer

vs. mediocre singer with Auto-Tune)

3. Who will receive the goods and services?

Types of Economies

Centrally planned economies result when governments decide what to produce, how to produce it, and who received the goods and services.

Market economies result when the decisions of households and firms determine what is produced, how it is produced, and who receives the goods and services.

Market: A group of buyers and sellers of a good or service and the institution or arrangement by which they come together to trade

Mixed economies have features of both of the above. Most economic decisions result from the interaction of buyers and sellers, but governments play a significant role in the allocation of resources.

Efficiency of Economies

Market economies tend to be more efficient than centrally-planned economies.

Market economies promote:Productive efficiency, where goods or services are produced at the lowest possible cost; andAllocative efficiency, where production is consistent with consumer preferences: the marginal benefit of production is equal to its marginal cost

These efficiencies come about because all transactions result from voluntary exchange: transactions that make both the buyer and seller better off.

Caveats about market economies

Markets may not result in fully efficient outcomes. For example:• People might not immediately do things in the most efficient way• Governments might interfere with market outcomes• Market outcomes might ignore the desires of people who are not

involved in transactions – ex: pollution

Economically efficient outcomes may not be the most desirable. Markets result in high inequality; some people prefer more equity, i.e. fairer distribution of economic benefits.

Micro vs. Macro

Microeconomics is the study of• how households and firms make choices,• how they interact in markets, and • how the government attempts to influence their choices

Macroeconomics is the study of the economy as a whole, including topics such as inflation, unemployment, and economic growth.

Positive vs. Normative

Positive analysis: concerned with what isNormative analysis: concerned with what should be• Economics focuses on positive analysis

Example: Increasing the minimum wage will reduce (at least a little) employment opportunities, it will increase costs for businesses, and it will increase the incomes of those working minimum wage jobs• Whether this is “good” or “bad” is based on your beliefs

and values