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Macroeconomics Notes 1 Chapter 1 The Nature of Economics The Power of Economics Analysis Incentives rewards for engaging in a particular activity The starting point for economic analysis Economic Way of Thinking framework to analyze solutions to economic problems Gives you the power to reach informed conclusions about what is happening in the world Make better decisions Increases your understanding when reading news or on the internet Defining Economics Economics study of how people allocate their limited resources to satisfy their unlimited wants Microeconomics The study of decision making undertaken by individuals or households and by firms Study of how people make their choices Resources Things used to produce other things to satisfy people s wants Wants What people would buy if their incomes were unlimited With limited income resources people must make choices to satisfy their wants We never have enough of everything including time to satisfy our every desire Individuals businesses and nations face alternatives and choices must be made Economics studies how these choices are made The effects of changes in gasoline prices Like looking though a microscope to focus on the smaller parts of the economy A family s choice of having a baby An individual firm s decision to advertise Macroeconomics The study of the behavior of the economy as a whole Deals with economy wide phenomena The national unemployment rate The rate of inflation The yearly output of goods and services in a nation Macroeconomics deals with aggregates or totals such as total output in an economy Modern economic theory blends micro and macro concepts The institutional mechanism through which resources are utilized to satisfy human wants The 3 Basic Economic Questions and 2 Opposing Answers Economic System Three Economic Questions 1 What and how much will be produced 2 How will items be produced 3 For whom will items be produced Two opposing answers in the form of economic systems Centralized command and control central planning Authority that makes all economic decisions Price system market system Decentralized decision making process in which prices are terms signals under which people agree to make exchanges The Economic Approach Systematic Decisions Economists assume that individuals act as if motivated by self interest and respond predictably to Rationality Assumption The assumption that people do not intentionally make decisions that would opportunities for gain leave themselves worse off Responding to incentives Rationality and the use of incentives Positive incentives gold stars Negative incentives punishments Making choices Balancing cost and benefits Defining self interest The pursuit of one s goals does not always mean increasing one s wealth Prestige Friendship Love Economics as a Science biology Economics is a social science that employs the same kinds of methods used in other sciences such as Economics uses models to explain economic phenomena in the real world Models or Theories Simplified representations of the real world used as the basis for predictions or explanations Should capture only the essential relationships that are sufficient to analyze a problem Cannot be faulted as unrealistic simply because they do not capture all details of the real world A map is the quintessential model Assumptions The set of circumstances in which a model is applicable Every model or theory must be based on a set of assumptions Ceteris Paribus Assumption KAY ter us PEAR uh bus Nothing changes except the factor or factors being studied Other things constant Other things equal Economics is an empirical science Real world data is used to evaluate the usefulness of a model Models are useful if they predict economic phenomena Economic models predict how people react not how they think Behavioral Economics Approach to the study of consumer behavior Emphasizes psychological limitations and complications which may interfere with rational decision making Advocates believe that it is unrealistic to assume Unbounded selfishness Unbounded willpower Unbounded rationality Bounded Rationality Hypothesis that people are nearly not fully rational They cannot examine every choice available to them They appear to use rules of thumb to sort alternatives Positive vs Normative Economics Positive Economics A statement of what is Normative Economics Purely descriptive statements or scientific predictions such as If A then B Analysis involving value judgments relates to whether things are good or bad A statement of what ought to be Chapter 2 Scarcity and the World of Trade Offs Scarcity Occurs when the ingredients for producing things that people desire are insufficient to satisfy all wants Means we never have enough of everything including time to satisfy our every desire NOT a shortage or poverty Production consumption Resources or Factors of Production Any activity that results in the conversion of resources into products that can be used in Inputs that are used to produce things that people want Things that go into the funnel outputs are what come out Land Natural resources or the gifts of nature Labor The human resource Capital stuff used to make other stuff o Physical Capital All manufactured resources o Human Capital Accumulated training and education of workers Entrepreneurship Person who organizes manages and assembles the other resources o Risk taker o Maker of basic business policy decisions Goods versus Economic Goods Goods are all things from which individuals derive satisfaction or happiness Economic goods are scarce goods for which the quantity demanded exceeds the quantity supplied at a price of zero Services Tasks that are performed for someone else Can be referred to as intangible goods Wants and Needs Needs To economists the term need is not definable Wants Goods and services on which we place a positive value People have unlimited wants Scarcity Choice and Opportunity Cost Opportunity Cost The highest valued next best alternative that must be sacrificed to obtain something or to satisfy a want The next highest ranked alternative not all alternatives In economics cost is always a forgone opportunity Whenever you engage in any activity using any resource you are trading off the use of that resource The value of the trade off is represented by the opportunity cost that which you give up to obtain The World of Trade Offs for one or more alternative uses something else Graphical analysis of opportunity cost The production

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OSU ECON 2002.01 - Chapter 1: The Nature of Economics

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