Notes on Introductory Micro Economics forEcon 115aYale UniversityProf. Steven BerrySeptember 3, 20031 BackgroundThis is a short set of notes intended to complement the introductory materialin the Pyndyck and Rubenfeld textbook. That book is intended for use atthe (easy) intermediate level. However, the authors teach at MIT, where thebook is used as an introductory text. The MIT students are bright, so theycan handle it, but then again you are also bright and so you can handle it.When we used an actual “introductory” text, students complained that itwas so far beneath the le vel of their abilities and the level of the course, thatit was basically useless. Thus, we have switched to an easy intermediate-leveltext.One problem is that, in writing an intermediate text, Pyndyck and Ruben-feld do not attempt much of an introduction to the field – supposedly thereader knows that already. These informal notes are an attempt to compen-sate for that missing introduction.2 What is (Micro-) Economics?Economics is the study of “the allocation of scarce resources.” There is an oldline that economics is the “dismal science” and what could be more dismallybland than a phrase like “the allocation of scarce resources”? Let me try toconvince you that the problems studied by economics are of great importanceto society. First, let’s see what we mean by scarce.12.1 ScarcityEconomics is restricted to the study of things that are scarce, by which wemean things that would have a value in some alternate use. The food youeat is scarce in the sense that some other person in the world would like tohave been served that same food.What other things are scarce? Obviously, many phys ical objects arescarce. There are more folks who want a BMW than there are BMW’s to behad and so economists study the production and consumption of automobiles.In some parts of the world clean air and clean water are scarce (there isnot enough to go around) and so economists also study pollution and theallocation of natural resources.“Services”, like hair-cuts and life insurance, are not physical goods butthey are also typically scarce. When economists talk about scarce “goods”they mean both physical objects and also services.Services like hair cuts are scarce because, most fundamentally, our timeis scarce. Everyday, you face the problem of how to divide the fixed 24 hoursof your day into various activities – sleep, play, work, study. The problemof how to balance these activities against each other is an important topic ofeconomics.It seems almost harder to think of things that are not scarce, where myconsumption takes nothing away from anyone else. Economists famously saythat “there is no such thing as a free lunch”, which is not just a sign of beingcrabby, but a shorthand for the fact that the resources used by one personwould also have been valued by someone else (and that even one’s own timein eating lunch has alternative uses – a homeles s man eating at the church“free lunch” could have spent the time pan-handling instead.)Things are not scarce are truly “free” to society and are not the subjectof economics. For example, perhaps “thought” can be “free” of any scarcityproblem in the sense that my thinking does not take away from your thinking.Many conflicts and much suffering around the world are due, at root, tothe problem of scarce resources. Among other causes, wars are often foughtto control how resources are allocated within a nation or region. Even apartfrom war, much suffering and deprivation could be avoided if we could figureout better ways to allocate scarce resources. Our own, relatively comfortable,lives could s till be made better if more resources were available. Economistslook for ways to alleviate scarcity by finding better ways to use and producevaluable goods, so that everyone can enjoy a better life.2Maybe it sounds boring to some, but to me it sounds pretty important.2.2 Opportunity CostIf a good is scarce, then it has an “opportunity cost”. The opportunity costof a good is the value of a good in its next-best use. Opportunity cost iscrucial to the understanding of resource allocation.A few of you have a (nearly) all-expense paid ride to Yale: no tuitionpayments and Yale even covers room and board. Is your education free?No: there is still an opportunity cost to being here. You could have finishedhigh-school and then taken a paying job. You are giving up that salary tobe here. Further, you could have gone to some other school: Colorado wouldalso haven given you a full scholarship and you could ski most weekends –or else you could have gone to San Diego and surfed after every class. Yougave that up to be here: that is part of your opportunity cost. There is NoFree Lunch.To allocate resources (like time) correctly, we will have to keep closetrack of opportunity cost. When you spend an hour sleeping then you arenot studying and when you are studying you are not sleeping – it can’t beavoided. In all cases, the correct economic notion of cost is opportunity cost:what we (as individuals or as a society) give up to undertake an action orconsume a resource.2.3 Preferences and Trade-offsSome folks give up millions of dollars to come to college – think of futureNBA stars (or more likely at Yale, successful young actresses.) Is this worthit? To figure out the answer, we will have to develop some means of thinkingabout benefits as well as costs. Something may cost a lot and still be worthdoing – the prese nce of a large opportunity cost does not necessary implythat something is not worth doing.In much of our analysis, we will examine the trade-offs between allocationsof scarce resources. We will balance opportunity cost against benefit. Thereis an old slur: “an economist knows the price of everything and the value ofnothing.” Not so, as you will see. We will treat consumers, and socie ties, hashaving preferences for different activities and we will give these preferencesequal weight with costs. If your roommate chooses to study on a Fridaynight, then he has decided that the benefit of study exceeds the opportunity3cost of the lost party – and that is OK, no matter how dull it seems to you.Your roommate just has a different s et of preferences.We will study how different preferences (of individuals or societies) willaffect our resource-allocation decis ions. In most cases, we will take thosepreferences as given. We will trace the consequences of