Macroeconomics Study Guide and Class ReviewCH1 THE ECONOMIC APPROACH A. Incentives matter. The likelihood of people choosing an option increases as personal benefits rise and personal costs decline a) most important called the *postulate of all economics b) rather walk down well lit sidewalk than dark alley c) thats why people put those security signs in the yard “protected by ADT” II. 8 guide posts of economic thinking very important A. First Point 1. The use of scarce resources are costly, so decision makers must make trade off a) no free lunch principle, even though u may be eating a free lunch in you trading off maybe spending time with your kids or even napping etc. 2. Individuals choose purposefully they try to get the most from their limited resources a) called economizing behavior result of purposeful ration decision making for b) utility- the benefit or satisfaction that an individual expects from a choice of a specific alternative 3. Scarcity and poverty NOT THE SAME THING, absence of poverty implies that some basic level of need has been met. an absence of scarcity implies that our desire for goods are fully satisfied. We might someday(prob not) eliminate poverty, but never eliminate scarcity 4. Economic reasoning focuses on the impact of marginal changes because it is the marginal benefits and marginal costs that influence choices a) all decisions at the margin know diff. b/w margin and average b) best example is fast food the decision whether to get a $1.50 soda and $1.00 burger or the $3.00 combo that comes with fries, soda, and burger. The decision whether to get the combo or them separate is the margin. for the extra 50 cents is it worth paying the extra for the fry. you might be hungry enough to eat both, but if the frys arent worth that 50 cents you wont purchase the combo that is the margin how much the ADDITIONAL unit costs not the average price of all units!5. Because information is scarce, uncertainty is a fact of life a) for example when buying new pair of shoes you might compare prices b.w the internet and maybe foot locker and then decide hardly no research, BUT when buying a new car will go to a bunch of dealers and read consumer reports etc. because information is costly to acquire (you could be doing other things like making money) there will always be some degree of uncertainty you did not go to every dealership in the US and europe just doesnt make sense at a certain point 6. In addition to their direct impact, economic changes often generate secondaryeffects a) secondary effects! best example for the ladies is when you with your gfs and drink a whole bottle of wine probably have an awesome conversation and beall happy, but the next morning wake up with a massive headache, same applies to guys and beer the initial effects of feeling warm and buzzed and secondary effects of waking up next morning feeling like death 7. The value of a good or service is subjective and varies with individual preferences and circumstances a) example justin beiber tickets you could not pay me to go to his show, but99% of girls in our class would pay 50+$$$ 8. The test of economic theory is its ability to predict and explain events in the real world a) if the events in the real world are consistent with a theory we say that the theory has predictive value and is therefore valid! B. Positive versus Normative Economic Thinking: Positive statements: Can be PROVED either true or false. Example: if you make more money your income will increase; whereas normative statements reflect values that are SUBJECTIVEexample: the inflation rate should be higher C. THINGS TO AVOID IN ECONOMIC THINKING 1)Violation of Ceteris Paribus: Latin term meaning other things constant. When describing the effect of achange, the outcome may be influenced by changes in other things. 2)Good intentions do not guarantee good outcomes: An unsound proposal will lead to undesirable outcome even if it is supported by proponents with good intentions. 3)Fallacy of composition: the erroneous view that what is true for the individual (or the part) is also true for the group (or the whole). One must beware of the fallacy of composition when shifting from micro to macro units. 4)Association Is not causation: statistical association alone cannot establish causation. D. PRACTICE WITH THE ECONOMIC PITFALLSE. #1“As your next President, I plan to reduce drug use among college students by spending more money to apprehend drug-pushers.” Good intentions do not guarantee good outcomes. #2“Whenever there has been unusual sunspot activity, the economy has beenin a recession. Therefore, sunspot activity causes recessions.” Association is not causation. #3“As your realtor, I can’t tell you how much it’s worth to add a swimming pool to your home to increase its market value, unless we know what other factorsincrease the market value of homes.” Ceteris Paribus. #4“It’s great that wages are rising in our community. Our elected officials should push for national wage increases.” Fallacy of composition.REVIEW what drives human behavior? SCARCITY CH 2 SOME TOOLS OR THE ECONOMIST *SEE ATTACHED PAGE #2summarych2 F. Opportunity Cost : the highest valued sacrificed in order to to choose anoption 1. example lebron james out of highschool was offered $13 million dollar contract out of highschool. he choose to take the 13 million dollars over a 4 yearcollege education. G. Trade Creates Value 1. mutual gain is the foundation of trade (everyone is happy); when two parties exchange they are BOTH made better off; because it channels goods to those who value them most! a) example: I textbook on organic chemistry would do us no good for this exam, but if I traded the organic book to an organic student in exchange for a micro book we are both happy! instead of both us having books we dnt care bout or need! H. Law of comparative advantage: the proposition that the joint output of trading partners will be greatest when each good is produced by the low opportunity cost producer. *** if one person has comparative adv in wheat other MUST HAVE comparative adv, in opp. thing corn. Russia Russia US US Corn Wheat Corn Wheat 9 0 12 0 6 1 9 3 3 2 6 6 0 3 3 9 0 12 Russia’s opportunity cost of producing 1 wheat= 3 corn Russia’s opportunity cost of producing 1 corn= 1/3 wheat U.S.’s opportunity cost of producing 1 wheat= 1 corn U.S.’s opportunity cost of producing 1 corn= 1 wheat The US should produce wheat and Russia should
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