Dr. Duffy Microeconomics

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Dr. Duffy Microeconomics

• Notes from
• CHAPTER 1

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What is economics?

• Economics is a social science.
• Social sciences deal with people and the
  institutions they create.
• Economics deals with how people make decisions to
  allocate resources to achieve their goals.

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Economics
Economics has been called the science of
scarcity, because many economic problems deal
with constraints. There are so many hours in the
day, which must be allocated to competing ends
(work, study, sleep, recreation). There are so
many dollars in a wallet, which must be allocated
to competing products (chips, burgers, toothpaste,
lettuce, books, music, etc.) So goods are
limited, but people are assumed to have
"unlimited wants." (More is preferred to less
for most things.)
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Economics and Values

• Economics is not a substitute for ethics.
• We assume in economics that people are frequently
  motivated by self-interest.
• Many people are concerned about others, even
  strangers.
• The degree of self-interest/altruism varies from
  person to person, based on disposition,
  up-bringing, and experience.
• We use our models because they work in general.
  Some degree of self-interest does motivate most
  people.

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Why Study Economics?

• Understand government policy.
• Understand global markets.
• Concern about people in poverty.
• Be more competitive on the job market.
• Invest wisely.
• Make better decisions.

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Microeconomics
. . . is the branch of economics that deals with
the behavior of individual entities, such as
consumers, firms, households, or markets.
A major focus of microeconomics is
price determination. This course deals primarily
with Microeconomics.
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The Other Branch of Economics
. . . is macroeconomics, which is concerned with
overall performance of the economy, e.g.
inflation, unemployment, growth.
Macroeconomics is the more recent of the two
branches. It began around 1935, when John
Maynard Keynes published General Theory of
Employment, Interest, and Money.
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Economics . . .
. . . is the study of how societies use scarce
resources to produce valuable commodities and
distribute them among different people.
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Scarcity and Efficiency

• Scarcity. Resources are (usually) finite.
• All economic goods are limited in supply, which
  economists call scarce.
• In a market economy, scarce or limited items
  have prices associated with them.
• The notion of unlimited wants is not true for
  everyone, but even at our current level of
  prosperity, we do not produce enough for everyone
  to think they have enough.

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Economic Efficiency
The economy is producing efficiently when it
cannot increase the economic welfare of
anyone without making at least one person worse
off.
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Equity
Equity involves the fair distribution of
wealth within a society.
Equity and Efficiency are often competing goals.
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Economics is Logical
Studying economics will improve a student's
ability to think logically. We will review
some common logical fallacies. A logical
fallacy is an incorrect way of analyzing
information.
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Common Logical Fallacies

• Post hoc fallacy Because one event follows
  another, the first event is believed to have
  caused the second.
• The Fallacy of Composition People assume that
  what holds true for part of a system also holds
  true for the whole.

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Common Logical Fallacies

• False Dilemma A limited number of options
  (usually two) is given, while in reality there
  are more options.
• Slippery Slope To show that a proposition is
  unacceptable, a sequence of increasingly
  unacceptable events is shown to follow.

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Common Logical Fallacies

• Joint Effect One thing is believed to cause
  another when in fact they are both joint results
  of an underlying cause.
• Wrong Direction The relationship between cause
  and effect is reversed.

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Examples

• Post Hoc Fallacy "When Auburn switched to
  semesters, we had record fall enrollment
  therefore, the change attracted more students."
  (In reality, enrollment was on an upward path
  before the switch.)
• Fallacy of Composition If a professor grades on
  a curve and one student increases her grade, that
  student is better off, but if all students
  increase their grades, there is no change for
  anyone. (This is why I dont grade on a curve!)

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Examples

• False Dilemma "Either we cut education spending
  or live with a huge deficit." (False because
  other choices -- raising taxes, cutting other
  spending -- are not given.)
• Slippery Slope "If we pass laws against
  fully-automatic weapons, then it won't be long
  before we pass laws on all weapons, and then we
  will begin to restrict other rights, and finally
  we will end up living in a communist state. Thus,
  we should not ban fully-automatic weapons."

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Examples

• Joint Effect "In the 1982, we experienced high
  unemployment which was caused by low consumer
  demand." (In fact, both may have been caused by
  high real interest rates.)
• Wrong Direction The price of apples fell because
  people are buying more of them. (In reality, the
  price decrease caused more people to buy apples.)

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SECTION B Assorted Terms and Concepts
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Positive and Normative Economics

• Positive Economics deals with questions that can
  be analyzed objectively, e.g. What is the impact
  of raising taxes?
• Normative Economics involves ethical precepts and
  norms of fairness, e.g. Should the poor be
  required to work to receive government
  assistance?

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Types of Economies

• Command Economy government makes all important
  decisions about production and distribution.
• Market Economy individuals and private firms
  make the major decisions. Extreme case (no
  government intervention) is called
  laissez-faire economy.
• Mixed Economy has elements of both. All modern
  economies are mixed.

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A Pure Market Economy. . .
. . .has never existed. The closest to it was
probably England in the 19th century.
There has never been a pure command economy
either, although some of the older communist
regimes (Stalin, Pol Pot) may have been close.
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Dont Confuse
Market structure with political structure.
Democracies have various degrees of government
control on the market.
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Societys Technological Possibilities
Each economy has a limited stock of
resources Land, or more generally natural
resources Labor, or human time Capital, or
durable goods, such as machines, buildings,
and roads.
THESE INPUTS ARE USED TO FORM OUTPUTS.
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The Production Possibilities Frontier
Guns and butter example.
Possibilities Butter (mil lb)
Guns (1000s)


A 0
15 B
1
14 C
2 12 D
3
9 E
4
5 F 5
0

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Guns and Butter PPF
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Substitutions along the PPF
10000 Guns given up to get 1 million pounds more
butter.
mil lb. 1000
Guns given Possibilities Butter
Guns up for butter
----- 1,000


A 0 15 B
1 14 C 2
12 D 3
9 E 4 5 F
5 0
2,000
3,000 4,000 5,000

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Substituting butter for guns
A
B
C
D
E
F
To move from point A to point B, 1,000 guns must
be given up (15,000 - 14,000) to get 1 million
pounds of butter.
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How does a nation
turn guns into butter???
The transformation takes place through a shift in
resource -- land, labor, capital -- away from
production of guns and toward the production of
butter.
The Production Possibility Frontier shows all
possible combinations of two or more outputs
that can be produced with a given set of
resources, and its technology.
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Other Examples
Look at examples in textbook. Frontier vs. urban
society Effects of investment on PPF
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Opportunity Cost
The value of items not produced because
resources were used for another purpose.
In the guns and butter example, the
opportunity cost for producing more butter
involves the guns given up. Along a PPF, cost
of one good is measured in terms of the amount of
the other good given up.
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Opportunity Cost
Opportunity cost is the revenue foregone
from making one decision instead of another.
What is the opportunity cost of going to college?
Its the income you could have earned by
working instead of going to class and studying.
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Efficiency
An economy is producing efficiently if it is
producing on the PPF, rather than inside it.
Productive efficiency occurs when an
economy cant produce more of one good without
producing less of another.
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Unemployed Resources
If an economy has unemployed resources, it wont
be on the PPF. The Great Depression is an
example of a period in which there were
unemployed resources. Business cycle
depressions, strikes, political changes, or
revolutions can cause periods of inefficiency.