Lecture 2Outline of Last Lecture I. Defining economicsII. Chapter one: The Ten Big IdeasOutline of Current Lecture I. The Ten Big Ideas continued. Current LectureII. The Ten Big Ideas Cont. Big idea #4: Rational people think at the margin.Rational people:- Systematically and purposefully do the best they can to achieve their objectives.- Make decisions by evaluating the costs and benefits of marginal changes and include incremental adjustments to an existing plan.- In general: a rational decision-maker takes an action if and only if the marginal benefit of the action exceeds the marginal cost.Ex: a) sleep more or wake up earlier to avoid 405 traffic b) diamond-water paradox c) the near-zero marginal cost of an airline taking an extra passenger; it is better to get something rather than nothing.Big idea #5: The power of trade.- Countries as well as families benefit from the ability to trade from one another.- Refer to pencil example on YouTube.1. Rather than being self-sufficient, people can specialize in producing one good or service and exchange it for goods.2. Countries get a better price abroad for goods they produce. They also buy other goods more cheaply from abroad that could be produced at home. Central idea: Trade can make everyone better off.Big idea #6: The importance of wealth and economic growth. Central idea: A country’s standard of living depends on its ability to produce goods and services.- There is a huge variation in living standards across countries and over time.o Ex. 1: U.S. and Germany are rich countries and have average income.Indonesia and India are poor countries with average income. When these two scenarios are compared, the average income is about 10 times the average income of the poor.o Ex. 2: U.S. standard (what $1 would buy you) of living today is about 8 times larger than 100 years ago. Def.: Productivity: the quantity of goods and services produced from each unit of labor input. ECON 1 1st Edition Central idea: the most important determinant of living standards is productivity. Productivity depends on the equipment, skills, technology and the available workers.Big idea #7: Institutions matter.Q: Why are some countries rich and others poor?A: Incentives are sometimes lacking. There are strong institutions that support these incentives and lead them to faster economic growth. Central idea: The important role for government is to enforce property rights. People are less inclined to work, produce, invest, or purchase if there is large risk of their property being stolen.*Look at Fortune Magazine, June 12, 2000, Mankiu “Ukraine: How Not to Run an Economy”Def.: Market failure: occurs when the market fails to allocate society’s resources efficiently. Causes for market failure:1. Externalities: When production or consumption of a good affects bystandersa. Ex. Pollution is a negative externality.2. Market power: When a single buyer or seller has substantial influence on market price.a. Ex.