Lecture 1Current Lecture OutlineI. What Economics is All AboutII. How People Make Decisions (10 Principles of EconomicsWhat Economics is All About- Scarcity: the limited nature of society’s resources- Economics: The study of how society manages its scarce resources e.g.o How people decide what to buy, how much to work, save, and spendo How firms decide how much to produce and how many workers to hireo How society decides how to divide its scarce resources between national defense, protecting the environment, and other needsHow People Make Decisions- Principle #1: people face tradeoffs (all decisions involve tradeoffs)o Society faces an important tradeoff: efficiency vs. equality Efficiency: when society gets the most from its scarce resources Equality: when prosperity is distributed uniformly between members of societyo To achieve greater equality, we must give up efficiency- Principle #2: The cost of something is what you give up to get ito Making decisions requires comparing the costs and benefits of alternative choiceso Opportunity Cost:whatever must be given up to obtain something The relevant cost for decision makingo Opportunity cost is the highest value of the opportunity you give up- Principle #3: Rational people think at the margino Rational people: Systematically and purposefully do the best they can to achievetheir objectives Make decisions by evaluating costs and benefits of marginal changes (incremental adjustments to a given plan)- Principle #4: People respond to incentiveso Incentives: something that induces a person to act. The prospect of reward or punishmento Rational people respond to incentives- Principle #5: Trade can make everyone better offo Rather than being self-sufficient, people can specialize in production in one good or service and exchange it for other goods We may be able to get cheaper goods from abroad then we would be able to here EC 111 1st EditionGradeBuddy We may be able to sell our goods for more money abroad than we would by selling them here- Principle #6: Markets are usually a good way to organize economic activityo Market: a group of buyers and sellers (need not be in a single location)o Organize economic activity means: What goods? How to produce? How much of each to produce? Who gets them?o Prices guide self-interested households and firms to maximize economic well-beingo Market Economy: allocates resources through the decisions of many households and firms as they interact in the marketo The invisible hand works through the price system Interaction of buyers and sellers determines the price of goods through buyers’ willingness to pay and sellers’ willingness to sell- Principle #7: Government can sometimes improve market outcomeso Important role for government: Enforce property rights- People are less inclined to work, produce, invest, or purchase if there is a large risk of their property being stoleno Market Failure: when the market fails to allocate resources efficiently Externalities: when the production or consumption of a good affects bystanders Market Power (Monopolies): a single buyer or seller has substantial influence on the market price In the above cases, public policies may promote efficiencyo Government may alter market outcome to promote equityo If the market’s distribution of economic well-being is not desirable, tax of welfare may be implemented- Principle #8: A country’s standard of living depends on its ability to produce goods and serviceso The most important determinant of living standards is productivity (the amount of goods and services produced per unit of labor)o Productivity depends on the equipment, skills, and technology available to workerso Other factors (labor unions, competition abroad ect.) have less of an impact on living standards- Principle #9: Prices rise when the government prints too much moneyo Inflation: increases in the general level of priceso In the long-run, inflation is almost always caused by the growth of money, which also causes the value of money to fallGradeBuddyo Long-run: when no factors are fixed The faster government prints money the greater the inflation rate- Principle #10: Society faces a short-run tradeoff between inflation and unemploymento In the short run (one-two years) many economic policies push inflation and unemployment in different directionso Other factors can make this tradeoff more or less