Introduction to Microeconomics and the Basic Economic Problem Economics as a Social Science • • • • Economics studies the choices people take under the conditions of scarcity and uncertainty Because Economics is a social science we can never be sure of the way in which people and businesses will respond to the changing circumstances around them Traditional economic theory has assumed that consumers seek to maximise their own satisfaction and that businesses aim to maximise profit But new theories including Behavioural Economics suggest alternatives and focus on the social aspect of our behaviour in day to day life Consumer Behaviour Business behaviour Introduction to Microeconomics • Microeconomics is the study of economics at the level of the individual firm, industry or consumer/household. • We study how prices and wages are determined in markets; how consumers decide what to buy; how businesses determine what is produced and how it is supplied. • Microeconomics also involves analysing the effects of government regulations, subsidies, taxes and maximum and minimum prices on the prices and quantities of goods and services. Consumer Behaviour Business behaviour Real World: The Economics of Food Banks in Britain Number of people receiving three days' worth of emergency food by Trussell Trust food banks in UK 1000000 913 138 900000 800000 700000 Number of people Food bank use in Britain has grown rapidly. Several factors may explain this: 1. Higher global food prices have made food less affordable for lowincome households 2. High levels of long term unemployment since the recession have hit family budgets 3. Declining real incomes for many people on lower wages 4. Welfare reforms including a maximum welfare cap and tighter rules for claiming benefits 5. More food banks have been set up in the UK – perhaps this is a question of supply responding to rising demand? 600000 In the UK, food banks are run by a range of volunteer-based organisations, redistributing food donated by consumers, retailers and the food industry 500000 400000 346 992 300000 200000 128 697 100000 25 899 40 898 61 468 0 2008/09 2009/10 2010/11 2011/12 2012/13 2013/14 Positive and Normative Statements • Positive statements: – Positive statements are objective statements that can be tested, amended or rejected by referring to available evidence. – Positive economics deals with objective explanation and the testing and rejection of theories. – A false statement is also a positive one! – For example: Generally speaking, the tax rate in the U.S. is higher than China. • Normative statements: – Normative statements are subjective statements – i.e. they carry value judgments about what ought to be – For example: The tax burden is way heavy in China Most economic decisions and policy are influenced by value judgements, which vary from person to person, resulting in fierce debate between political parties Assumptions about the Objectives of Agents • For most of the AS microeconomics course we assume that 1. Rational consumers wish to maximize their satisfaction or utility from consumption by correctly choosing how to spend their limited income. 2. Producers/firms wish to maximize profits, by producing at lowest cost the goods and services that are desired by consumers. Profit = total revenue – total costs. 3. Government wishes to improve the economic and social welfare of citizens. Behavioural economics theories challenge the assumption of rationality in our decisions Do we always engage in rational behaviour? Are all businesses looking to maximise their profits? Opportunity Cost • Opportunity cost measures the cost of a choice made in terms of the next best alternative foregone or sacrificed. 1. Work-leisure choices: The opportunity cost of deciding not to work an extra ten hours a week is the lost wages given up. 2. Government spending priorities: The opportunity cost of the government spending an extra £10 billion on investment in National Health Service might be that £10 billion less is available for spending on education or defence equipment. 3. Investing today for consumption tomorrow: The opportunity cost of an economy investing resources in new capital goods is the production of consumer goods given up for today. 4. Use of scarce farming land: The opportunity cost of using farmland to grow wheat for bio-fuel means that there is less wheat available for food production, causing food prices to rise. Factors of Production (Factor Inputs) Factors of production are the inputs available to supply goods and services in an economy. Natural resources available for production Entrepreneurs organise factors of production and take risks Land Enterprise Labour Capital The human input into the production process Goods used in the supply of other products e.g. tech Factor Inputs and Factor Rewards Factor rewards describe the incomes that flow to each of the main factors of production when there are brought into productive use. Land Labour Wages and salaries from employment Rental income to owners of land Enterprise Profits Capital Interest from savings + dividends from shares Circular Flow of Income Different Ways of Rationing Scarce Resources By Market Price By Consumer Income By Assessment of Need By Household Postcode By Education Level By Age By Gender By Nationality Rationing is a way of allocating scarce goods and services when market demand out-weighs the available supply. Capital and Consumer Goods • Capital goods – Goods that are used to make consumer goods and services – Capital inputs include fixed plant and machinery, hardware, software, new factories and other buildings • Consumer goods and services – Goods and services which satisfy our needs and wants directly – There is a sub-division between: – i) Consumer durables: Products that provide a steady flow of satisfaction / utility over their working life (e.g. a washing machine or using a smartphone). – ii) Consumer non-durables: Products that are used up in the act of consumption e.g. drinking a coffee or turning on the heating) – iii) Consumer services: E.g. a hair cut or ticket to a show Non-Renewable Resources • Non-renewable resources: – Non-renewable resources are finite in supply – With plastics, crude oil, coal, natural gas and other fossil fuels, no mechanisms exist at present to replenish them. – The rate of extraction of finite resources depends in part on the current market price – for example, businesses with rights to extract will have a greater incentive to do so when prices are high because of the profit motive Deforestation is an example of the Tragedy of the Commons Have we reached peak oil? If so, why are global oil prices falling? Renewable Resources and Free Goods • Renewable resources: – Renewable resources (in theory) are replaceable over time providing that the rate of extraction of the resource is less than the natural rate at which the resource renews itself – Examples of renewable resources are solar energy, oxygen, biomass, fish stocks and forestry • Free Goods – Free goods do not use up any factor inputs when supplied – Free goods have a zero opportunity cost i.e. the marginal cost of supplying an extra unit of a free good is zero Renewable resources Free goods Free Market, Mixed and Command Economies • Mix of state and private ownership • Government intervention in markets • Mix will vary from country to country Command economy • Markets allocate resources • Driven by the profit motive • Limited role for state • Private sector dominates Mixed economy Free market An economic system is a network of organisations used to resolve the problem of what, how much, how and for whom to produce • Most resources are state owned • Planning allocates resources • Little role for market prices Advantages of Free Market Competition Free markets operate without government intervention • Competitive markets help to bring about 1. An efficient allocation of scarce resources – resources tend to go where the market return is highest 2. Competitive prices for consumers and suppliers look to increase and protect their market share 3. Competition drives innovation and invention in markets which can bring higher profits for businesses and better products for consumers 4. The profit motive stimulates capital investment which encourages economies of scale and lower prices in the long run 5. Competition in the form of international trade in goods and services helps to reduce domestic monopoly power and increases choice The Role of the State in a Mixed Economy A mixed economy has a mix of private and public (Govt) sectors State-Owned Industries • Businesses wholly or part stateowned – for example: Royal Bank of Scotland, Network Rail Welfare State • Broad range of welfare benefits • Universal e.g. state pension • Means-tested(收入调查的）e.g. housing benefit Government spending on public services • Spending on education & health • Capital spending on infrastructure Introduction to Microeconomics and the Basic Economic Problem EdExcel Economics 1.1.1
