Chapter 1: Overview

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Chapter 1 Overview

• Economics is defined as the study of choice under
  conditions of scarcity.

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What is Scarcity?

• Scarcity is the problem of infinite human needs
  and wants, in a world of finite resources.
• Society has insufficient productive resources to
  fulfill those wants and needs.
• Individuals face scarcity.

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Resource Categories (Factors of Production)

• Land or Natural Resources includes anything
  naturally occurring which can be used in
  production.
•  
• Labor or Human Resources including anything that
  man brings to the production process.
• Capital or physical capital anything man-made
  that can be used again in production (durable
  lasts over one year)

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Not every input is a Resource!

• ex
• ex
• ex

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Decision-Making

• Economics then studies how economic agents use
  the resources with which they are endowed to
  their best ability in order to acquire the goods
  and services they most desire.
•  

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Assumptions about Decision-Making

• every choice implies a trade-off (must give up
  something)
• every choice therefore has a cost
• people are rational
• people are self-interested
• altruism
• people makes choices at the margin we examine
  the incremental benefits (marginal benefit) and
  incremental costs (marginal cost)

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Economic Model of Decision-Making

• The model assumes people weigh the relative costs
  and benefits of a decision at the margin. The
  optimal level of activity will occur where
  marginal benefit marginal cost

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Two Important Components of the Model

• Marginal Benefit (MB) is the change in benefits
  (additional benefit or reduction in benefit) from
  changing the level of an activity by one unit
  (increasing or decreasing an activity by 1 unit).
• Ex
• Marginal Cost (MC) is the change in costs
  (additional cost or reduction in cost) from
  changing the level of an activity by one unit
  (increasing or decreasing an activity by 1 unit).
  
• Ex

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The Intuition

• As long as the Marginal Benefit (MB) of an
  activity is higher than the Marginal Cost (MC)
  more of the activity should be undertaken.
• As you increase an activity the marginal benefits
  will diminish and the marginal costs will
  increase.
• Eventually, the Marginal Benefit (MB) of an
  activity will be equal to the Marginal Cost (MC).
  This is the optimal level of an activity.
• If you continue the activity past this point the
  Marginal Benefit (MB) of an activity will become
  lower than the Marginal Cost (MC) and less of the
  activity should be undertaken.

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Applications of the Model

• Individual should you take an extra course a
  semester to graduate early?
• Firm demand for Dell computers has increased by
  10,000 units. Should Dell increase production to
  maximize profit? By how many units?
• Government should the Federal Drug
  Administration have stricter regulations on
  genetically modified organisms (GMOs) in food
  products to increase food safety?

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Evaluating Costs and Benefits

• Cass Sunstein (Office of Information and
  Regulatory Affairs)top regulator in Obama
  Administration.
• Strong proponent of cost-benefit analysis.
• Difficulties measuring costs and benefits in
  dollars
• Ex
• EPAacceptable mercury levels in products.
  Measure the cost of incremental exposure to
  mercury in terms of the reduction in IQ points of
  kids.
• What is the cost? EPA valued 1 lost IQ point due
  to mercury poisoning at ___________.
• Ex

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Macro Vs. Micro

• Macroeconomics focuses on the overall economy.
• Microeconomics focuses on smaller economic units
  such as individuals, households, firms, and
  industries.

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Macro vs. Micro Topics

• MACRO

• MICRO

• Inflation
• Unemployment
• Gross Domestic Product (GDP)
• Trade Balance

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The Role of Markets

• Microeconomics studies the behavior of smaller
  economic units such as individuals, households,
  firms, and government and their interactions in
  markets.

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Defining a Market

• A market is an organized place where buyers and
  sellers voluntarily exchange goods and services.
• Examples
• Markets are defined in terms of

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Evaluating Outcomes

• The study of economics involves describing
  events, analyzing events, making predictions, and
  prescribing policy recommendations.

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Positive vs. Normative Economics

• Positive analysis or economics is an objective
  description and/or evaluation of an event.
• Ex efficiency considerationsis a project
  produced at lowest cost?
• Normative analysis or economics provides a
  subjective description or evaluation of an event.
• Ex equity considerationsrelating to fairness

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Examples

1. A 0.50 tax on cigarettes will reduce smoking by
   teenagers by 12.
2. The federal government should reform health care.
3. Rising paper prices will increase textbook
   prices.
4. The price of coffee at Dividends is too high.
5. The government will balance the budget this year.
6. Tuition costs for higher education have increased
   15 annually for the past 5 years. The state
   should increase subsidies on education to reduce
   the burden on families.