Principles of Macroeconomics
SAYRE // MORRIS // GHAYAD
Eleventh Edition
CHAPTER 1
The Economic
Problem
Prepared by Ifeanyi Uzoka, Sheridan College
CHAPTER 1
The Economic
Problem
Learning Objectives:
1. Describe why economics is a very relevant discipline by
demonstrating that many of the controversies in our
society have a distinct economic flavour.
2. Define economics and make a distinction between
macroeconomics and microeconomics.
3.
Demonstrate that scarce resources, choice, and
opportunity cost are at the heart of economics, and that
efficiency—both productive and allocative—plays a major
role
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1-2
CHAPTER 1
The Economic
Problem
Learning Objectives:
4. Explain why trade results in more productive
economies
5. Explain the three fundamental questions that all
societies must address
6. Explain the four different ways that economic
societies can be organized
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CHAPTER 1
The Economic
Problem
Learning Objectives:
7. Use the production possibilities model to illustrate
choice, opportunity cost, efficiency, and
unemployment
8. List the economic goals of society and explain why
they are often difficult to achieve.
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LO1: The Relevance of
Economics
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The Relevance of Economics
• Current Controversies:
1. Economic growth
2. Income redistribution
3. Road-usage pricing in congested cities
4. Globalization
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LO2:What is Economics?
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What is Economics?
Economics is a social science that studies the ways
humans and societies organize themselves to
make choices about the use of scarce resources,
which are used to produce the goods and
services necessary to satisfy human wants and
needs.
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What is Economics?
Economics uses the scientific method in order to
construct theories which explain the world
around us
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What is Economics?
• Positive Statement
– Facts that can be verified with empirical data
• Normative Statement
– Based on a person’s beliefs or value system
– Cannot be verified with data
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Test Your Understanding
Identify each of the following statements as either
positive (P) or normative (N)
a. The federal government’s budget this year is the largest
in history.
b. The national debt is at a manageable level and therefore
is nothing to worry about.
c. The price of gasoline is higher than it needs to be.
d. Rising Canadian exports are creating many new jobs in
the country.
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Test Your Understanding
Identify each of the following statements as either
positive (P) or normative (N)
a. The federal government’s budget this year is the largest
in history. POSITIVE
b. The national debt is at a manageable level and therefore
is nothing to worry about. NORMATIVE
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Test Your Understanding
Identify each of the following statements as either
positive (P) or normative (N)
c. The price of gasoline is higher than it needs to be.
NORMATIVE
d. Rising Canadian exports are creating many new
jobs in the country.
POSITIVE
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What is Economics?
• Economic Theory
– Looks at how positive statements are related
– Uses the scientific method:
• Set up a hypothesis
• Define terms, state assumptions
• Gather data to test hypothesis
• Accept, reject, or modify theory
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What is Economics?
Macroeconomics
– How the major components of an economy interact
– Unemployment, inflation, government economic
policies, interest rates
Microeconomics
– Outcomes of decisions by people and firms
– Supply and demand, costs of production, market
structures
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Macro vs. Micro
MACRO
MICRO
Prices
Average of all products
Of particular products
Production
Of the whole economy
Of a particular firm or
industry
Incomes
Total national income
Of a profession or factor
income
Employment
Overall national employment
By firm, industry or
occupation
Taxes
For the government revenue
On an individual or firm
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Test Your Understanding
Identify which of the following topics would likely
appear in a Microeconomics course and which in
Macroeconomics course.
A
The price of iPods
B
Unemployment rates
C
The presence of monopolies
D
The rate of economic growth
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Test Your Understanding
Identify which of the following topics would likely
appear in a Microeconomics course and which in
Macroeconomics course.
MICRO
A
The price of iPods
B
Unemployment rates
C
The presence of monopolies
D
The rate of economic growth
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Test Your Understanding
Identify which of the following topics would likely
appear in a Microeconomics course and which in
Macroeconomics course.
A
The price of iPods
MICRO
B
Unemployment rates
MACRO
C
The presence of monopolies
MICRO
D
The rate of economic growth
MACRO
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LO3:Efficiency and
Allocation
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Economic Resources
• Resources are Scarce:
– Resources (or “factors of production”, or “inputs”)
are anything used to produce goods and services
– Scarcity means we do not have enough resources to
produce everything everybody wants
– Must have some way to ration scarce resources
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Economic Resources
Labour:
Human mental and physical effort
Land:
Any natural resource used to produce
goods or services
Capital:
Tools, equipment, factories, and
buildings used in production process
Enterprise:
The human resource that innovates
and takes risks
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Economic Resources
and Payments
FACTOR RESOURCE
FACTOR PAYMENTS
Labour
Wages
Land
Rent
Capital
Interest
Enterprise
Profit
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Test Your Understanding
Indicate whether the resource in question is:
labour (L), capital (K), land (N), or enterprise (E):
A A bar-code scanner in a supermarket
B Fresh drinking water
C Copper deposits in a mine
D The work of a systems analyst
E The first application of e- technology to an
economics textbook
F An office building
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1-24
Test Your Understanding
Indicate whether the resource in question is:
labour (L), capital (K), land (N), or enterprise (E):
A A bar-code scanner in a supermarket
K
B Fresh drinking water
C Copper deposits in a mine
D The work of a systems analyst
E The first application of e- technology to an
economics textbook
F An office building
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1-25
Test Your Understanding
Indicate whether the resource in question is:
labour (L), capital (K), land (N), or enterprise (E):
A A bar-code scanner in a supermarket
K
B Fresh drinking water
N
C Copper deposits in a mine
N
D The work of a systems analyst
L
E The first application of e- technology to an
economics textbook
E
F An office building
K
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Technology and Opportunity
Cost
• Technology
– Method of production; the way in which resources
are combined to produce goods and services
• Opportunity Cost
– The value of the next-best alternative that is given up
as a result of making a particular choice
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Technology and Opportunity
Cost
• Scarcity forces choice (for society, government, and
the individual), and choice involves an opportunity
cost which is the sacrificed benefit of the next best
alternative.
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Consumer and Capital Goods
• Consumer goods and services
– Products used by consumers to satisfy wants and needs
• Capital goods
– Factories, tools and equipment used to make other goods
for sale
– Making more capital goods increases growth, but there is
an opportunity cost in terms of consumer goods foregone
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Consumer and Capital Goods
• Consumer goods and services
– Only consumers buy consumer goods
– Example – pizza
• Capital goods
– Only firms or governments buy capital goods
– Example - machinery
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Test Your Understanding
• Decide whether each of the following is a:
consumer good (C), capital good (K), or both (B):
A
A jackhammer
B
A carton of cigarettes
C
An office building
D
A tooth-brush
E
A hammer
F
A farm tractor
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Test Your Understanding
• Decide whether each of the following is a:
consumer good (C), capital good (K), or both (B):
K
A
A jackhammer
B
A carton of cigarettes
C
An office building
D
A tooth-brush
E
A hammer
F
A farm tractor
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Test Your Understanding
• Decide whether each of the following is a:
consumer good (C), capital good (K), or both (B):
A
A jackhammer
K
B
A carton of cigarettes
C
C
An office building
K
D
A tooth-brush
C
E
A hammer
B
F
A farm tractor
K
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Importance of Efficiency
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Efficiency
• Productive Efficiency
– Production of an output at the lowest possible
average cost
• Allocative Efficiency
– Production of that combination of outputs that
best satisfies consumers’ demands
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Five Allocative Methods
• There are five different allocative methods:
– first come, first served;
– lottery;
– sellers’ preference;
– government decree; and
– the market.
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LO4: The Power of Trade
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Trade
• Voluntary trade benefits both parties
• The more trade, the greater the benefits
• Applies to individuals as well as to nations
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Benefits of Trade
Haida
Bear River
Maximum Potential Output:
Salmon
20
OR
10
OR
Nets
10
20
With NO trade, the nations produce half of each item:
Salmon
Nets
Haida
10
AND
5
Bear River
5
AND
10
Total Output
15
AND
15
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Benefits of Trade
Haida
Bear River
Maximum Potential Output:
Salmon
Nets
20
10
10
20
OR
OR
WITH trade, each country produces what it is best at:
Salmon
Nets
Haida
Bear River
Total Output
20
0
20
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AND
AND
AND
0
20
20
1-40
Gains From Trade
• Through specialization and trade, the two
countries can make a gain of
• 5 salmon and 5 nets
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LO5: Three Fundamental
Questions
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Three Fundamental Questions
• All economic societies must answer these questions:
1. What to produce (luxuries vs necessities; capital vs
consumer goods)
2. How to produce (technology)
3. For whom (how should the goods – or income- be
distributed. Who gets what.)
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LO6: Four Types of
Economies: The Four Cs
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Four Types of Economies
1. Co-operative Economies (foraging societies)
2. Command Economies (totalitarian states)
3. Customary Economies (traditional, religious societies)
4. Competitive Economies (market economies)
Modern countries are usually a combination of all of
the above, i.e., MIXED ECONOMIES
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LO7: Production
Possibilities
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Production Possibilities Model
• Production Possibilities Curve:
– A graphical representation of the various combinations
of maximum output that can be produced from the
available resources and technology
– Assumptions:
• Full employment
• Use of the best technology available
• Productive efficiency
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Production Possibilities Model
Table 1.1 Production of Cars and Tonnes of Wheat (Millions of Units)
CARS
WHEAT
Possible Output
Combination
% of Resources
Used
Output
% of Resources
Used
Output
A
0
0
100
100
B
20
50
80
95
C
40
90
60
85
D
60
120
40
65
E
80
140
20
40
F
100
150
0
0
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Production Possibilities Model
Table 1.2
Production Possibilities for Cars and Wheat (output in millions of units)
A
B
C
D
E
F
Cars
0
50
90
120
140
150
Wheat
100
95
85
65
40
0
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Production Possibilities for Cars and Wheat
A
B
C
D
E
F
Cars
0
50
90
120
140
150
Wheat
100
95
85
65
40
0
Wheat
100
95
a
Unattainable
b
x
Points on the curve
represent maximum
output possible with
available resources
c
85
Attainable
d
65
e
40
f
50
90
120 140 150 Cars
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Production Possibilities Model
• Scarcity
– Represented by points outside the curve
• Choice
– Represented by points on the curve (efficient) and points
within the curve (inefficient)
• Opportunity Cost
– Represented by the downward slope of the curve
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The Law of Increasing Costs
• The Law of increasing costs: as an economy’s
total production level of any particular item
increases, the per unit cost of producing additional
units of that item will rise.
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The Law of Increasing Costs
• Implications of the law of increasing costs:
– Factors of production are not equally suitable for
the production of different products.
– As output increases, the per unit costs of
additional units increases.
– Gives the production possibilities curve its bowed
out shape.
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Law of Increasing Opportunity Costs
As more cars are
produced, an increasing
amount of wheat must
be given up
Wheat
100
95
a
+40
b
85
-10
+30
c
-20
+20
d
65
40
-25
e
f
50
90
120 140 150 Cars
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Test Your Understanding
b)
c)
If society produces 1000
units of butter,
how many guns can it
produce?
If society is at “b” on the
PPC,
what is the cost of 1000
more
units of butter?
Is opportunity cost
greater for move from “c”
to “d” compared to a
move from “b” to “c”?
b
Quantity of guns per period
a)
400
c
300
d
150
1000
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2000
Quantity of butter per period
3000
1-55
Test Your Understanding
a
b) If society is at “b” on
the PPC, what is the
cost of 1000 more
units of butter?
b
Quantity of guns per period
a) If society produces
1000 units of butter,
how many guns can
it produce?
400 units of guns
400
c
300
d
150
100 units of guns
1000
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2000
Quantity of butter per period
3000
1-56
Test Your Understanding
c) Is opportunity cost
greater for move from
“c” to “d” compared to
a move from “b” to
“c”?
b to c – 100 guns per
1000 units of butter
c to d – 150 guns per
1000 units of butter,
therefore greater
Quantity of guns per period
c)
b
400
c
300
d
150
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1000
2000
3000
Quantity of butter per period 1-57
PPC and Economic Growth
120
Growth means the
economy is able to
produce more of
everything.
Illustrated by SHIFT
of PPC
Quantity of wheat per period
100
80
60
40
PP1
PP2
20
0
0
30
60
90
120
150
180
Quantity of cars per period
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PPC and Technological Change
120
Improvement in
technology in car
production shifts the
curve to PP2.
Economy can now
produce more of either
good, or more of both.
Illustrated by a PIVOT
of the PPC
Quantity of wheta per period
Quantity of wheat per period
100
80
d
c
60
b
a
40
20
PP1
PP2
0
0
30
60
90
120
Quantity
per
period
Quantityof
of cars
cars per
period
150
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1-59
Test Your Understanding
Grain
Tools
Quantity per Year
A
B
C
D
0
25
40
50
12
8
4
0
a) Draw a PPC1 with tools on the horizontal axis.
Now, assume new technology that can be used only in the tool
industry is developed, which increases tool output by 50%.
b) Draw a new PPC2 that reflects this new technology.
c) If Finhorn produced 12 units of tools per year, how many units of
grain could be produced after the introduction of the new
technology?
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Solution
Grain
50
New technology
allows a 50%
increase in tool
production
d
c
40
c2
b
25
b2
PPC2
PPC1
a
4
8
New
technology
allows 25 units
of grain to be
produced with
12 units of
tools
12
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d2
16
18
Tools
1-61
LO8: Macroeconomic
Goals
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Macroeconomic Goals
1. Improved standard of living
2. Economic growth
3. Full employment
4. Stable prices
5. Viable balance of international trade
6. Equitable distribution of income
7. Manageable government debt & deficit
8. Protection of the Environment
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Goal 1:
Improved Standard of Living
Figure 1.6 The Rise in Canada’s Average Real Income, Decade by Decade
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Goal 1:
Improved Standard of Living
Table 1.4 Average Incomes for G7 and Selected Countries in 2021
Average (Mean)
Income (in US$)
World Rank
Luxemburg
133 590
1
Ireland
100 172
2
U.S.
70 249
9
1
Canada
51 988
20
2
Germany
51 204
22
3
U.K.
46 510
25
4
France
43 659
28
5
Japan
39 313
30
6
Italy
35 657
33
7
China
12 556
69
Russia
12 195
72
Burundi
221
197
Average of 197 countries
18 152
© 2024 McGraw Hill
G7 Rank
1-65
Goal 2:
Economic Growth
Figure 1.7 The Growth of Canada’s Average Real Income
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Goal 2:
Economic Growth
Table 1.5 Average Growth Rates for G7 and Selected Countries in 2017–2021
Growth Rate (%)
World Rank
Guyana
15.4
1
U.S.
2.1
88
1
Canada
1.4
113
2
France
1.0
130
3
Germany
0.7
139
4
U.K.
0.4
143
5
Italy
0.2
155
6
Japan
−0.2
164
7
China
6.0
11
Russia
1.8
Source: World Bank, World Development Indicators,
2022
Lebanon
−7.3
G7 Rank
100
198
(198 countries)
Note that developed nations seldom have annual growth rates above 4%
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Goal 3:
Full Employment
Figure 1.8 Unemployment and Inflation Rates in Canada 1930-2022
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Goal 3:
Full Employment
Table 1.6 Unemployment Rates for G7 and Selected Countries in 2022
Unemployment (%)
World Rank
Qatar
0.1
1
Japan
2.6
24
1
Germany
3.0
33
2
U.K.
3.6
43
3
U.S.
3.6
46
4
Canada
5.2
83
5
France
7.4
121
6
Italy
8.1
126
7
China
4,9
77
South Africa
29.8
183
Average of 183 countries
7.5
© 2024 McGraw Hill
G7 Rank
1-69
Goal 4:
Stable Prices
Table 1.7 Inflation Rates for G7 and Selected Countries in 2022
Inflation Rate
World Rank
Chad
−0.77
1
Japan
2.5
8
1
France
5.2
47
2
Canada
6.8
67
3
Germany
6.9
68
4
U.K.
7.9
84
5
U.S.
8.0
85
6
Italy
8.2
87
7
China
2.0
11
Russia
6.7
65
Sudan
382.8
163
Average of 163 countries
13.8
© 2024 McGraw Hill
G7 Rank
1-70
Goal 5: Viable Balance of
International Trade
Figure 1.9 Canada’s Exports and Imports 1971–2022
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Goal 5: Viable Balance of
International Trade
Table 1.8 Exports for G7 and Selected Countries 2021
Exports ($billions)
World Rank
G7 Rank
China
3554
1
U.S.
2540
2
1
Germany
2003
3
2
Japan
910
4
3
U.K.
875
5
4
France
871
6
5
Italy
689
11
6
Canada
611
14
7
Russia
549
17
Netherlands
840
7
Average of 171 countries
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Goal 6: An Equitable Distribution
of Income
FIGURE 1.10 Income (Share of Disposable Income by Quintiles) in 2021
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Goal 6: An Equitable Distribution
of Income
Table 1.9 Income Distribution for G7 and Selected Countries in 2021
Income
Distribution (top
20% vs. bottom
20%)
World
Rank
Slovenia
3.4
1
France
5.1
34
1
coming in forty-fourth.
Germany
5.1
35
2
However, since the world
Japan
5.4
36
3
Canada
5.7
44
4
U.K.
6.2
56
5
income distribution is more
Italy
6.8
69
6
equitable than in many
U.S.
8.9
86
7
Russia
5.9
49
China
6.8
68
Columbia
20.8
101
Average of 101 countries
6.7
Canada’s performance is quite
good at 5.7 but is distinctly
average in world rankings,
average is 6.7, Canada’s
countries.
© 2024 McGraw Hill
G7
Rank
1-74
Goal 7: A Manageable
Government Debt and Deficit
Table 1.10 Government Surpluses/Deficits (% of GDP) for G7 and
Selected Countries 2021
Canada has
Surplus/Deficit (% of
GDP)
G7 Rank
Norway
+9.9
outperformed
Germany
+1.6
1
most countries
Canada
−5.0
2
France
−6.5
3
Italy
−7.2
4
U.K.
−8.2
5
Japan
−9.0
6
U.S.
−12.0
7
in managing its
deficits.
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Goal 8: Protection of the
Environment
Table 1.11 Concentration Levels of PM in the Atmosphere in 2021 from Best to Worst
PM2.5 concentration
World Rank
G7 Rank
New Caledonia
3.8
1
Australia
5.7
9
Canada
8.5
23
1
U.K.
8.8
24
2
Japan
9.1
26
3
U.S.
10.3
28
4
Germany
10.8
29
5
France
11.4
34
6
Italy
15.2
51
7
Bangladesh
76.9
117
Canada fares well compared with most nations and is the least polluted of all the G7 countries.
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Macroeconomic Tools
• Fiscal policy
– Taxing and government spending
• Monetary policy
– Interest rates and the money supply
• Direct controls
– E.g., tariffs, minimum wages, regulations
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CHAPTER 1 SUMMARY
Key Concepts to
Remember
1. Economics is a relevant discipline in our society
2. Scientific method is used in economics, which is
divided into microeconomics and macroeconomics
3. Scarcity, choice and opportunity cost are at the heart
of economics
4. Greater trade results in economies being more
productive
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CHAPTER 1 SUMMARY
Key Concepts to
Remember
5. What to produce, how to produce it, and for whom
are fundamental economic questions
6. Economic societies may be organized through cooperation, command, custom and competition
7. The production possibilities model illustrates choice,
opportunity cost, efficiency, and unemployment
8. Society has many economic goals which are often
difficult to achieve
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1-79