Economic Issues 101Instructional MethodDefinition of EconomicsScarcity and the Fundamental Questions of EconomicsEconomics as a ScienceEconomic ThinkingHow Do People Make Decisions?How Do People Interact?How Does the Economy work overall?Economics Models and Issues: Putting Economic Tools to WorkFigure 1 The Circular FlowIssue: An Economy in Transition (always)Slide 14Issue: Economic Growth and Human WelfareCauses of Economic GrowthProduction possibilities curveLaw of increasing opportunity costEconomic growth & the PPCConsumption trade-offs & growthEconomic GrowthEconomic Issues 101D.W. HedrickInstructional Method•Primarily Lecture format with discussion, simulations, and video presentations•Constructive discussion is welcomed•Grading is based on six Mini-exams – NO MAKEUPS GIVEN•Suggestions for the study of economicsDefinition of Economics•Traditional Definition–How society chooses to allocate its scarce resources among competing demands to best satisfy human wants •Alternative definitions–How society manages its scarce resources.–Economics is the study of choice.–Economics is what economist do.Scarcity and the Fundamental Questions of Economics•Unlimited wants versus limited resources•WHFM–What is to be produced?–How is to be produced?–For whom will it be produced?Economics as a Science•Macroeconomic vs. Microeconomics•The scientific method•Economic models•Normative vs. positive approaches•A brief history of economic thinking•The language of economicsEconomic Thinking•How do people make decisions?•How do people interact?•How does the economy work overall?How Do People Make Decisions?•People face tradeoffs•The cost of something is what you have to give up to get it–Opportunity Costs•Rational people think at the margin–Marginal Benefits vs. Marginal Cost and Maximum Net Benefits•People respond to incentivesHow Do People Interact?•Trade can make everybody better off–Voluntary Exchange = Mutually Beneficial Exchange•Markets are usually a good way of organizing economic activity–Markets are institutions that have evolved as human society has developed•Governments can sometimes improve market outcomes–Governments can wisely, or unwisely, coerce the individual to act in the common interest.How Does the Economy work overall?•A country’s standard of living depends upon its ability to produce goods and services–Adam Smith (1776) and the “Wealth of Nations” •The general level of prices rises when the government prints and distributes too much money–Inflation versus hyperinflation•Society faces a short-run tradeoff between inflation and unemployment–Recessions and expansions and the business cycle.Economics Models and Issues:Putting Economic Tools to Work•The art of making models = making them simple and effective•Example: circular flow – what, how and for whom questions.–overall economy, role of economic agents, output and income, product and resource markets–Resources: labor, capital, natural resources, entrepreneurship–Circular flow model indicates that consumers ultimately answer the WHAT question – consumer sovereignty, and markets determine the how and for whom.Figure 1 The Circular FlowCopyright © 2004 South-WesternSpendingGoods andservicesboughtRevenueGoodsand servicessoldLabor, land,and capitalIncome = Flow of inputs and outputs = Flow of dollarsFactors ofproductionWages, rent,and profit FIRMS•Produce and sellgoods and services•Hire and use factorsof production •Buy and consumegoods and services•Own and sell factorsof productionHOUSEHOLDS •Households sell•Firms buyMARKETSFORFACTORS OF PRODUCTION •Firms sell•Households buyMARKETSFORGOODS AND SERVICESIssue: An Economy in Transition (always)•1700s – WWII: agrarian to a manufacturing economy•WWII – present: manufacturing to a service economy •Change in consumer demands as income increase combined with technological change increased productivity in the agricultural sector spurred on by competition•Resources shifted from agricultural uses to manufacturing sector.•Changes in consumer demands and technological change in the informational sector, have led competitive markets to move from manufacturing goods to producing services. In 2002, total consumption consisted of Durable Goods (12%), Non-Durable Goods (28%), and Services (52%).•Resources are shifting from manufacturing industries to service sectors.•Market or laissez-faire versus command or planned economy•Capitalism and socialism and the mixed economyIssue: Economic Growth and Human Welfare•Example: production possibilities frontier (PPF) -scarcity: inputs labor, capital, natural resources, entrepreneurship- technology, tradeoffs, efficiency and unemployment, opportunity costs, law of increasing costs, and economic growth.Causes of Economic Growth•Increased number of resources: L, K, NR, E–Investment–Growth in Labor Force•Increased productivity of resources:–Work Ethic–Technology–Education–Risk-taking and innovation•Social system that allows the efficient use of resources and promotes productivity–Market system and self-interest–Laws, property rights, and public order–Political and economic freedomProduction possibilities curvePossible combinations of computers and VCRsComputers (mill.)Opportunity CostABCDProduction possibilities curve (PPC)Points along PPC imply no unemployed resources and efficient productionAttainable and unattainable production combinationsComputers (mill.)ABCDProduction possibilities curve (PPC)inefficientunattainableFEForegone output012345670 1 2 3 4 5 6 7VCRs (millions)012345670 1 2 3 4 5 6 7VCRs (millions)Law of increasing opportunity costOpportunity CostComputers (mill.)ABCDA bowed outward PPC illustrates increasing opportunity costs012345670 1 2 3 4 5 6 7VCRs (millions)Changes in the PPCEconomic growth & the PPCComputers (mill.)GFCEEconomic growth is illustrated by an outward shift in a nation’s PPCPPC1PPC00123456780 1 2 3 4 5 6 7 8 9VCRs (millions)Consumption trade-offs & growthUnited StatesConsumer goods (hamburgers)Economic GrowthANext year's production possibilitiesThis year'sproduction possibilitiesPPC1PPC0The US choice to produce more consumer goods (point A) limits future production growthJapanConsumer goods (hamburgers)ANext year's production possibilitiesThis year'sproduction possibilitiesPPC1PPC0Japan's choice to favor capital goods (point A) will shift its future