Econ 1100: Lecture 1
What is Economics?
Dr. Karl Skogstad
Lakehead University
Dr. Karl Skogstad (Lakehead)
Lecture 1
1 / 50
Outline
Why Study Economics?
What is Economics?
Budget Lines
Production Possibility Boundary
Decision Makers
Dr. Karl Skogstad (Lakehead)
Lecture 1
2 / 50
Why Study Economics?
Dr. Karl Skogstad (Lakehead)
Lecture 1
3 / 50
Why should you study Economics?
It is very employable!
People with economics training are in very high demand.
Check out
https://www.canadianbusiness.com/lists-and-rankings/
best-jobs/canadas-best-jobs-2019-the-top-100-jobs/
It pays very well.
Especially if you add on a one year MA degree.
Median salaries in the $80,000 range.
It is fun.
Gives you insight into the world in which you live.
Dr. Karl Skogstad (Lakehead)
Lecture 1
4 / 50
What is Economics?
Dr. Karl Skogstad (Lakehead)
Lecture 1
5 / 50
Economics is the...
“...study of people in the ordinary business of life.” - Alfred Marshall
(1890)
“...science which studies human behavior as a relationship between
given ends and scarce means which have alternative uses.” - Lionel
Robbins (1932)
“...study of how societies use scarce resources to produce valuable
commodities and distribute them among different people.” - Paul
Samuelson (1948)
Dr. Karl Skogstad (Lakehead)
Lecture 1
6 / 50
The Economic Problem
The stock of resources is limited.
Resources include land, labour, machines, buildings, raw materials,
technology, and time.
Wants by people in the world are limitless.
This leads to scarcity - we cannot do or have everything we want.
Dr. Karl Skogstad (Lakehead)
Lecture 1
7 / 50
The Economic Problem
So economists study how to satisfy these limitless wants with limited
resources.
We seek to answer the following questions:
1
2
3
4
5
What will be produced?
How it will it be produced?
What prices are factors paid in their use?
How much will final products cost?
Who determines the answers to these questions?
Dr. Karl Skogstad (Lakehead)
Lecture 1
8 / 50
Microeconomics vs Macroeconomics
There are many sub-fields in economics, but they mostly fall into one
of two categories.
Microeconomics focuses on how decisions are made by individuals
and firms, and the consequences of those decisions.
Macroeconomics examines the aggregate behaviour of the economy
(that is, how the actions of all the individuals and firms in the
economy interact to produce a particular level of economic
performance as a whole).
These next four months will focus on microeconomics while the four
months after that will focus on macroeconomics.
Dr. Karl Skogstad (Lakehead)
Lecture 1
9 / 50
Questions
Microeconomic Questions
• Should I go to university or get a job?
Macroeconomic Questions
• How many people are employed in the
economy?
• What determines the salary of a nurse?
• Why are wages in one country higher than
in another?
• What determines the price of a beer at the
Outpost?
• Why do prices seem to go up every year?
• What should a student do to ensure they
get a job?
• What policies should be enacted to lower
the unemployment rate?
• What determines whether a firm should
open a factory in Canada?
• What determines how many goods and services Canada trades with the world?
Dr. Karl Skogstad (Lakehead)
Lecture 1
10 / 50
Budget Lines
Dr. Karl Skogstad (Lakehead)
Lecture 1
11 / 50
Models
In economics we use mathematical models and graphs to help us
understand the economy.
An economy is a complicated thing with billions of people interacting
with one another.
We need to find ways to simplify it, in order to understand it.
A model is a simplified version of reality.
A map is an example of a non-economics model.
Dr. Karl Skogstad (Lakehead)
Lecture 1
12 / 50
Budget Line
Budget Line
Suppose you are at a restaurant, and that you have $20 to cover the
cost of your meal.
You can purchase a slice of pizza for $4 or you can purchase a glass
of pop for $2.
How do you decide how many slices of pizza to purchase and how
much pop to drink?
Economists like to use graphs to help us examine scenarios like this,
so let’s build one together.
Dr. Karl Skogstad (Lakehead)
Lecture 1
13 / 50
Budget Line
Dr. Karl Skogstad (Lakehead)
Lecture 1
14 / 50
Budget Line
Dr. Karl Skogstad (Lakehead)
Lecture 1
15 / 50
Budget Line
Dr. Karl Skogstad (Lakehead)
Lecture 1
16 / 50
Budget Line
Dr. Karl Skogstad (Lakehead)
Lecture 1
17 / 50
Budget Line
We call the line a budget constraint or a budget line.
Combinations on or below the line are attainable, while points above
it are unattainable (they are too expensive).
To move from one point on the budget constraint to another,
something must be given up.
We call this the opportunity cost.
Dr. Karl Skogstad (Lakehead)
Lecture 1
18 / 50
Opportunity Cost
Opportunity cost is the cost of using resources for a certain purpose,
measured by the benefit given up by not using them in their best
alternative use.
So the opportunity cost of having one more slice of pizza is two fewer
glasses of pop.
The opportunity cost of you attending Lakehead University in your
program is probably one of the following:
Attending Lakehead but taking a different degree.
Attending a different post-secondary institution.
Entering the workforce.
Sitting at home and watching Netflix.
Dr. Karl Skogstad (Lakehead)
Lecture 1
19 / 50
Budget Line
So, how much pizza and pop will a person ultimately choose to
consume?
It will be determined by their preferences.
They may not like pop!
It is in their best interest to choose a point on the budget constraint,
but the exact point will differ from person to person.
We will examine this process in a future lecture.
Dr. Karl Skogstad (Lakehead)
Lecture 1
20 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
21 / 50
Production Possibility Boundary
We’ve seen how an individual might make a decision about what to
consume, but how does a firm, or a country decide what should be
produced?
Let’s examine a country such as Canada.
Canada has many productive resources:
A relatively highly educated workforce.
A lot of capital (buildings, roads, machines, etc...).
Abundant natural resources.
Intellectual property (patents, trade secrets).
Others...
The Canadian economy can produce many different goods.
Dr. Karl Skogstad (Lakehead)
Lecture 1
22 / 50
Production Possibility Boundary
Canada’s economy is complicated, so let’s simplify things.
Assume that there is only one productive resource (labour).
Assume that there are only two goods that can be produced in the
economy: Guns and Butter.
How should Canada decide how many guns to produce and how much
butter to produce?
To answer this, we will draw a graph.
Dr. Karl Skogstad (Lakehead)
Lecture 1
23 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
24 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
25 / 50
Production Possibility Boundary
Canada faces a trade off between producing guns and producing
butters.
This line shows all the combinations of guns and butter that Canada
can produce that make use of all its labour.
We call this line the Production Possibilities Boundary (PPB).
Dr. Karl Skogstad (Lakehead)
Lecture 1
26 / 50
Production Possibility Boundary
Why is it curved?
Not all resources are equally as effective at producing all goods.
A farmer might be able to produce more butter than guns.
An engineer might be able to produce more guns than butter.
This theory applies to any productive resource, not just labour.
The following graph demonstrates this idea.
Dr. Karl Skogstad (Lakehead)
Lecture 1
27 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
28 / 50
Production Possibility Boundary
Suppose Canada initially decides to produce a lot of butter and few
guns (point A).
It is decided that more guns are needed, so labour is moved out of the
production of butter and into the production of guns.
At first the labourers who are most efficient at producing guns are
sent.
The result is that many more guns are able to be produced with only
a small reduction in the output of butter (point B).
If even more guns are needed though, the production of butter begins
to fall very quickly, as seen from the move to point C.
Dr. Karl Skogstad (Lakehead)
Lecture 1
29 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
30 / 50
Production Possibility Boundary
Points beyond the PPB cannot be produced as there is not enough
labour in the economy to produce that amount.
It would be inefficient to choose a point below the PPB as not all
productive resources (labour) would be in use.
As the next graph shows, if the economy is producing at point D,
then there is a large number of options available that allows the
economy to produce more guns and more butter.
Dr. Karl Skogstad (Lakehead)
Lecture 1
31 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
32 / 50
Production Possibility Boundary
This simple graph easily helps us to see the trade-offs we face when
deciding what to produce.
What else can this simple tool show us?
It can show economic growth.
Suppose the number of workers in the economy increases through
immigration, an increased birth rate, or a decreased death rate.
The entire PPB would shift out. There would be more combinations
of guns and butter that could now be produced.
Dr. Karl Skogstad (Lakehead)
Lecture 1
33 / 50
Production Possibility Boundary
Dr. Karl Skogstad (Lakehead)
Lecture 1
34 / 50
Production Possibility Boundary
Ultimately, how many guns and how much butter should the
Canadian economy produce?
It depends on the needs and desires of the people living in Canada
and the people all around the world.
If there is no war, or crime, then the need to produce guns may be
low.
If another country is able to produce butter much more efficiently
than us, then perhaps we could produce guns and trade them for
butter.
Dr. Karl Skogstad (Lakehead)
Lecture 1
35 / 50
COVID-19 PPF
Dr. Karl Skogstad (Lakehead)
Lecture 1
36 / 50
COVID-19 PPF
You can use this tool to help understand the impact of COVID-19 on
the economy.
Prior to COVID-19, Canada was perhaps producing a lot of cars and
not many ventilators (Point A).
Suddenly, we needed fewer cars and a lot of ventilators, so we shifted
production to Point B.
We had to give up cars so that the productive resources (labour and
capital) could be used to produce ventilators. This means, there will
be fewer cars available for Canadians to purchase.
Dr. Karl Skogstad (Lakehead)
Lecture 1
37 / 50
COVID-19 PPF
Dr. Karl Skogstad (Lakehead)
Lecture 1
38 / 50
COVID-19 PPF
Of course, the PPF might actually shift in as workers die, get sick, or
unable to work for other reasons.
The economy might end up at Point C, which has fewer cars and
fewer ventilators than Point B.
Dr. Karl Skogstad (Lakehead)
Lecture 1
39 / 50
Decision Makers
Dr. Karl Skogstad (Lakehead)
Lecture 1
40 / 50
Decision Makers
Who makes the decisions in our economy about what is produced and
by whom?
Is it the government? No!
It is all of us! By each pursuing what is best for us, the economy
tends to work out well.
The grocery store is full of food not because the government
mandates it, but because farmers find it profitable to produce food
and sell it to the grocery stores so that we can buy it.
Stores are selling masks, not because they have been told to do so,
but because they think they can earn a profit.
The local brewery is making hand sanitizer, not because the
government told them to, but because they can earn profit.
We say that the economy is self-organizing.
Dr. Karl Skogstad (Lakehead)
Lecture 1
41 / 50
Adam Smith
Adam Smith talked about the idea of the Invisible Hand.
“It is not from the benevolence of the butcher, the brewer, or the
baker, that we expect our dinner, but from their regard to their own
interest. We address ourselves, not to their humanity but to their
self-love, and never talk to them of our own necessities but of their
advantages.”
Basically, when everyone is pursuing their own self-interest, it appears
as if there is an unseen organizing force behind it all. The result of
this self-interest is a relatively efficient economy.
As we will see later in this course, the way that this is all held
together is through the pricing mechanism, which conveys all this
information in a simple form.
Dr. Karl Skogstad (Lakehead)
Lecture 1
42 / 50
Price as a Signal
High demand for ventilators has caused their price to rise,
encouraging many factories to start producing them.
High demand for masks has caused their price to rise, causing many
firms and individuals to begin to make them.
Low demand for travel have caused the price of flights and hotels to
fall. Many hotels have closed and many airlines have shutdown.
Dr. Karl Skogstad (Lakehead)
Lecture 1
43 / 50
Decision Makers
We tend to think of there being three types of decision makers
interacting in the economy:
Consumers
Producers
The Government
Dr. Karl Skogstad (Lakehead)
Lecture 1
44 / 50
The Circular Flow of Income and Expenditure
Dr. Karl Skogstad (Lakehead)
Lecture 1
45 / 50
Decision Makers
But where is the government?
The government has two roles.
First it purchases some goods and services much like a normal
consumer.
Second it acts as a regulator by correcting market failures and
offsetting externalities?
An externality is an effect on parties not directly involved in a
market transaction.
Dr. Karl Skogstad (Lakehead)
Lecture 1
46 / 50
Other Systems
But Professor Skogstad, isn’t capitalism evil?
It leads to inequality.
There is environmental degradation.
I want more government in my life! I want communism!
Some countries tried that, it did not work out very well.
There is simply too much planning involved. Incentives are corrupted.
Is our system perfect? No.
Dr. Karl Skogstad (Lakehead)
Lecture 1
47 / 50
Other Systems
Dr. Karl Skogstad (Lakehead)
Lecture 1
48 / 50
Other Systems
Were shortages during COVID-19 a failure of capitalism?
Shortages of:
PPE
respirators
certain foods
toilet paper
I don’t think so, but we can discuss it.
Dr. Karl Skogstad (Lakehead)
Lecture 1
49 / 50
Summary
We began by an examination of what the basic problems the study of
economics seeks to answer.
We used budget lines to identify how an individual can identify which
bundles of goods he/she can afford.
We used PPBs to identify the trade off firms/countries face when
deciding what to produce.
We identified how different agents in the economy interact with one
another.
Dr. Karl Skogstad (Lakehead)
Lecture 1
50 / 50
Additional Resources
If you like podcasts, check out Planet Money from NPR.
Episode 962 “Advanced Fairness at the Marathon” is a great discussion
of how to allocate scarce resources.
The Youtube channel Wendover Productions has a neat episode
about allocating the scarce resources of human organs. Check out
“The Broken Economics of Organ Transplants.”
(https://www.youtube.com/watch?v=7C1fPocIFgU)
Dr. Karl Skogstad (Lakehead)
Lecture 1
51 / 50