Chapter 1 Modern Economics

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Chapter 1Modern Economics
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Technology and Economic Laws

• Technology has transformed many things.
• How we shop, pay bills, communicate, and collect
  information
• How firms produce computerized assembly lines,
  robots, online job recruiting
• Information technology (IT) has grown
  dramatically, but the old economy is still alive
  and kicking.
• IT makes up less than 10 of economy.
• Technology changes, but economic laws do not.

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Economics from Todays Headlines

• Bill to Curb Music Piracy
• Battle between music companies and consumers
• It does not cost music companies more if
  consumers share files so why should consumers pay
  company for file?
• Without the ability to earn profits music
  companies have less of an incentive to seek out,
  record, and promote new music.
• Property rights and the right to charge for the
  use of property will play an important role as
  new information technologies make trading such
  property easier.

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Internet Drug Trade Proves Bitter Pill for Canada

• Consumers in the United States can more easily
  buy less expensive drugs in Canada due to the
  Internet.
• Leads to shortages in Canada

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Intel Cancels Two Chip Projects

• With 2 billion sunk in plant costs, Intel pulls
  the plug on a new line of computer chips.
• Firms are always concerned about costs but
  economics shows which costs are important for
  making which decisions.

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Oracle Bids for PeopleSoft to be Tested in Court

• U.S. Justice Department sues to block takeover
• Why does government try to ensure competition?
• What are the advantages of competition?
• What tools does the government use to promote
  competition?

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FASB Proposes Expensing Stock Options

• Many tech companies reward employees with stock
  options.
• An opportunity to buy shares of stock at a set
  price
• If company does well the price rises and
  employees gain
• Employees have an incentive to work hard and help
  company succeed
• FASB argues that options must be expensed, that
  is, deducted from revenues.
• This reduces profit.

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What Is Economics?

• Economics studies how individuals, firms, the
  government, and other organizations make choices
  and how those choices determine society's use of
  its resources.
• There are five core concepts
• trade-offs
• incentives
• exchange
• information
• distribution

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Trade-offs

• All choices involve trade-offs
• What should you spend your weekly budget
  onpizza, CDs, movies, books, and so on?
• More of one of these means you can spend less on
  another.
• There is no such thing as a free lunch.
• Trade-offs stem from scarcity.
• You have limited money and time.
• Society has limited resources.

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Incentives

• Incentives are the rewards and costs that stem
  from making choices.
• Prices reflect incentives rewards and costs.
• All decision makers, consumers, businesses, and
  governments respond to incentives.

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Exchange

• Exchange is the trade of goods and services.
• Voluntary exchange in markets is how modern
  economies like the United States determine which
  goods and services to produce to satisfy the vast
  number of consumers.
• Voluntary exchange means both parties get
  something they want a worker wants income and a
  firm wants a certain job done, for example.
• A market is any situation in which an exchange
  takes place.
• A market need not be a physical location.
• With competition, consumers have a choice of
  alternatives.
• The United States is a mixed economy where most
  exchanges take place in a market but the
  government plays a critical role in other aspects
  of the economy.

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Information

• Making informed choices requires information.
• Information is like any other good or service.
• There are firms and institutions that specialize
  in the purchase and sale of information.
• The seller of a car lets you test drive it, but a
  seller of information cannot let you see the
  information.
• In some markets information is so crucial it
  shapes the whole market
• Market for used cars
• Stock market and other security markets
• Insurance

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Distribution

• Markets determine who gets which goods according
  to the demand and supply of goods, labor, and
  capital.
• Some view the uneven distribution of wealth with
  unease.
• Government programs attempt to even out the
  distribution.
• However, efforts to soften the distributional
  impact of markets often blunt economic
  incentives.
• That is, there is a trade-off between equity and
  efficiency.

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The Three Major Markets

• The product market where final goods and
  services are exchanged
• The labor market where workers sell labor and
  firms hire workers
• The capital market where households, firms, and
  government save and raise funds

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The Three Major Markets
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The Two Branches of Economics

• Microeconomics, the study of the small
• Specific goods and services, industries,
  individuals, and firms
• Macroeconomics, the study of the large
• How the overall U.S. economy behaves

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The Science of Economics

• Economics is a social science.
• Economic theory is composed of
• Assumptions or hypotheses and the conclusions
  derived from them.
• Theories are logical exercises that lead from
  assumptions to conclusions.

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Economic Modeling

• Economists use models to test theories.
• Models are abstractions.
• They are oversimplified to stress the essentials
  of a complex social reality.
• Engineers do not put the "Fasten Seat Belts" sign
  on a model of an airliner to test it in a wind
  tunnel for aerodynamics.
• Economists use the theory of perfect competition
  even where it only holds approximately.

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Discovering and Interpreting Relationships

• Economists seek to understand the relationships
  among economic variables that can be measured and
  may change.

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Causation and Correlation

• Correlation when one variable changes another
  tends to change.
• Causation when changing one variable causes
  another variable to change then changing the
  first necessarily changes the second.
• In the 1970s imports of cars from Japan rose
  while U.S. auto production fell
• These variables are correlated, but was there
  causation?
• No both events were related to a third event
• Higher oil prices pushed U.S. consumers away from
  gas-guzzling U.S. cars toward more fuel
  efficient Japanese cars.

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Why Economists Disagree

• Economists often disagree about public policy.
• Their differences usually fall into one of two
  categories.
• Positive Economics differences about how the
  economy operates
• These differences stem from differences over
  which model to use.
• Normative Economics differences about how to
  evaluate the consequences of policies
• These differences stem from different assessments
  of the quantitative magnitudes of the analysis.
• Economists have different values which may lead
  them to disagree about policies.