Ch 1 The Economic Approach What is Economics Economics is the study of how we make choices under scarcity o Choice The act of selecting among alternatives o Scarcity The concept that there is less of a good freely available from nature than people would like i e time money cars etc air is not scarce but clean air is scarce Scarcity A Scarcity is not the same thing as poverty o Scarcity objective o Poverty subjective B Scarcity necessitates rationing o Rationing allocating scarce goods to those who want them more i e 1st come 1st serve In a market economy price is used to ration goods C Scarcity leads to competitive behavior good Allows for productivity better goods and a o Similar to Darwin s Natural Selection those who make good products services will range of prices profit What do we do in the face of scarcity When will the world run out of oil NEVER First get the apples from the floor cheapest then when those run out grab them from the first branches more expensive then when those run out go to the next level of branches even more expensive etc As oil becomes more scarce the prices will rise to a point where people will no longer want to spend that much and will begin to search for alternatives 8 Guideposts to Economic Thinking 1 Resources are scarce so decision makers must make trade offs No such thing as a free lunch o Opportunity cost the highest valued alternative that must be sacrificed when choosing an option 2nd best option i e an hour of your time how you spend your next 15 With every choice you rick the life you would have had with every decision you lose it Richard Bach Failure to understand this is one of the biggest mistakes made in economic reasoning 2 Individuals are rational they try to get the most from their limited resources o Greatest benefit at least possible cost o i e beer vs liquor same price will choose one based on preference If indifferent and prices vary will go with cheaper option o What is rational for one person may not be rational for everyone 3 Incentives matter choice is influenced in a predictable way by changing incentives o i e money game killer seatbelts prices 4 Individuals make choices at the margin o Marginal describes the effect of a change in the current situation o I e Ponderosa Buffet Supersizing your extra value meal o Drive or fly Drive Fly MB MC Fly If time 60 fly if time 60 drive 8 hours 3 hours 5 Hours 100 400 300 MB MC fly MB MC drive o Cost Benefit Analysis one will undergo an action when the marginal benefits outweigh the marginal costs MB MC go MB MC no 5 Information helps us make better choices but it is costly 2 o We can never know all the information It will never be perfect information But the more we know the better we know what the MB and MC are o i e New car large decision more research vs New pencil smaller decision rational to stop researching early 6 Beware of secondary effects economic actions generate both direct and indirect effects o Secondary effect the indirect impact of an event or policy that may not be easily and immediately observable Things we do no expect may cancel out primary effect i e Yacht tax meant to hurt the rich class but instead severely hurt the middle lower class workers who lost their jobs because the rich were no longer purchasing yachts i e Trade restrictions putting a tax on Japanese cars to boost auto production in US meant to boost US production but because a tariff has been put on incoming cars Japan has put a tariff on American corn Now boosting an industry that was not doing well American auto and hurting an industry that was doing well American corn Government is not creating jobs just shifting workers from one industry to another 7 The value of a good or service is subjective o i e FSU football tickets o i e How much would you pay for a bottle of water right now What if you were days lost o Moving goods and services to those who value them most is a primary source of economic progress Voluntary exchange makes both parties better off 8 The test of a theory is it s ability to predict o If real world events are consistent with a theory through testing then that theory is in the desert valid o I e Red cars do not get more tickets do not cause more accidents bulls are not attracted to red tested theories have disproved these myths o Should always look at multiple or broad set studies Positive vs Normative Economics Positive economics the scientific study of what is testable o Facts Has nothing to do with true or false right or wrong o i e It is 100 degrees outside Normative economics judgments about what ought to be not testable o Opinion o i e It is too hot outside 4 Pitfalls to avoid in Economic Thinking 1 Violation of ceteris paribus principle 3 o Ceteris paribus other things constant isolate control variables o i e buying roses If the price of roses increases then people buy less roses ceteris paribus on all non Valentines days On Valentines Day people buy more roses even if the prices are higher than normal 2 The belief that good intentions guarantee desirable outcomes o Economists care about outcomes not intentions o i e Endangered species act If a woodpecker was living in a tree on your property you could not touch the area 50 feet surrounding it by law people started cutting off all of the trees on their property now woodpeckers have nowhere to go made woodpeckers worse off o i e Anti depressant medication had a label that read Warning may increase suicidal thoughts on the labels depressed and already prone to suicidal thoughts people avoided because thought it would increase suicidal thoughts higher suicide rates because depressed people were not taking their prescribed anti depressant medication o The Nirvana Fallacy the logical error of comparing the actual situation with its idealized counterpart rather than the actual alternative i e Child labor in sweatshops in reality the kids if not working would be worse off because the alternatives are even worse Options 1 a day in a field 2 a day in a Nike Factory protest would eliminate this option making the people worse off Starve to death To the locals these sweatshops are the best opportunities they have Usually the workers voluntarily decide to work there Big companies would not want to increase wages standards in the sweatshop because then the price of the product would be more expensive because it was more expensive to make Sweatshops provide a higher standard of living than not working in sweatshops i e Chemotherapy nasty
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