Econ200 8 30 12 What is Economics 08 30 2012 o Economics is the study of the choices that people businesses governments and entire societies make as they cope with scarcity and the incentives that influence and reconcile these choices How people decide what to buy how much to work How firms decide how much to produce how many save and spend workers to hire How governments and society more generally decide how to divide resources between consumer goods protecting the environment national defense and other needs Economists turn anything into a question of economics o Ex Super Bowl salaries people respond to incentives o Incentives can create unintended consequences Mankiw s 10 Principles of Economics o 1 People face trade offs Trade off Giving up something we like to get something we like Why are trade offs an inevitable feature of decision making Trade offs result from scarcity Efficiency v Equality Efficiency when society gets the most from its scarce resources Equality when prosperity is distributed uniformly among society s members Tradeoff to achieve greater equality could redistribute income from wealthy to poor But this reduces incentive to work and produce shrinks the size of the economic pie o 2 The costs of something is what you give up to get it Making decisions requires comparing the costs and benefits of alternative choices What is the relevant cost The opportunity cost of any item is whatever must be given up to obtain it o 3 Rational people think at the margin Rational systematically taking the best possible course of action to achieve objectives Marginal Change small and incremental adjustment to a plan or course of action Why does thinking at the margin help people identify the best possible course of action Setting a derivative equal to zero to maximize a function Marginal change vs marginal cost Does marginal change create enough new revenue to offset marginal cost OPTIMIZE o 4 People respond to incentives o 5 Trade can make everyone better off o 6 Markets are usually a good way to organize economic activity o 7 Governments can sometimes improve market outcomes o 8 A country s standard of living depends on its ability to produce goods and services o 9 Prices rise when the government prints too much money o 10 Society faces a short run trade off between influences and Macro Macro unemployment Macro Positive vs Normative Economics o As scientists economists make positive statements which attempt to describe the world as it is o As policy advisors economists make normative statements which attempt to prescribe how the world should be o Positive statements can be confirmed or refuted Science o Normative statements cant be confirmed or refuted because they are based on peoples views or beliefe o Government employs many economists to provide both positive scientific analysis and normative policy advice Why Economists Disagree o Economists often give conflicting policy advice o They sometimes disagree about validity of alternative positive theories about the world o They may have different values and therefore different normative views about what policy should try to accomplish o Yet there are many policies about which most economists agree 9 4 12 The Market Forces of Supply and Demand o Three Basic Questions What should we produce How should we produce it Who should consume what we produce o We rely on markets to figure this out Markets have two sets of actors o Buyers call this the demand side of the market o Sellers call this the supply side of the market Markets and Competition o Market group of buyers and sellers of a particular product o Competitive Market one with many buyers and sellers each has a negligible effect on price Each buyer and seller is so small that their decisions don t matter to anyone else o Perfectly Competitive Market all goods are exactly the same Buyers and sellers are so numerous that no one can affect market price each is a price taker Buyers and sellers are told what price the market is going to sell the product at and what all buyers need to buy the product at o We assume markets are perfectly competitive Determinants of Demand o Price of gas o Prices of other goods price v gas price strongly related goods ex Metro Two goods are substitutes if an increase in the price of one causes an increase in demand for the other Changes an entire demand curve shifts it completely to the right out Ex Pizza and hamburgers An increase in the price of pizza increases demand for hamburgers shifting hamburger demand curve to the right Other examples Coke Pepsi Car Metro Two goods are complements if an increase in the price of one causes a fall in demand for the other Ex Computers and software If price of computers rises people buy fewer computers and therefore less software Software demand curve shifts less Other examples college tuition and textbooks bagels and cream cheese peanut butter and jelly o Income A normal good is a good for which other things being equal an increase in income leads to an increase in demand Angus Beef If income increases demand curve shifts to the An inferior good is a good for which other thing being equal an increase in income leads to a decrease in demand SPAM If income increases demand curve shifts to the right left o Tastes preferences Anything that causes a shift in tastes toward a good will increase demand for that good and shift its demand curve to the right Ex Fashion is subject to demand shifts Huge increase in demand for knock off rings that looked like Kate Middleton s sapphire engagement ring after Prince William proposed to her with it o Demographic factors Ex Aging of the population growing Hispanic population each affect demand for certain sets of goods o Expectations Expectations affect consumers buying decisions Examples If people expect their incomes to rise their demand for meals at expensive restaurants may increase now If people think home prices will fall in the future demand for homes now will fall If people think gas prices will go up next week they will increase their purchases of gas this week o When these things aren t held constant they become demand shifters Demand Curve Nonsense NEGATIVE CURVE o Demand Schedule table that shows the relationship between the price of a good and the quantity demanded Writing down what is implicit in someone s head about how much gas they will consume at different prices At each price this person is a price taker They have no control over the price of gas o Demand
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