ECON S-10ab
Principles of Economics (Intensive)
Harvard University
Summer, 2012
Professors: David Laibson
Daron Acemoglu
John A. List
Bruce Watson
Course Email Address: econs10ab@dce.harvard.edu
Lectures: Monday – Friday, Noon – 3 PM
Science Center A
Course Web Site: http://isites.harvard.edu/course/sum-30057/2012
Course Email: econs10ab@dce.harvard.edu
Teaching Assistant: TBA
Sections: Fridays, As listed in the course calendar (below), Sci. Ctr. A
Office Hours: TBA
Teaching Assistant: TBA
Sections: TBA
Office Hours: TBA
SYLLABUS
This course provides an introduction to current economic issues and to basic economic
principles and methods. The economist John Maynard Keynes wrote that "the ideas of
economists and political philosophers, both when they are right and when they are wrong,
are more powerful than is commonly understood." Economics is not primarily a set of
answers, but rather a method of reasoning. By the end of the course, you will be able to
use the analysis practiced in the course to form your own judgments about many of the
major economic problems faced by the United States and other countries.
During the first part of the course, we will focus on macroeconomics, the study of the
economy as a whole. We will study long-run economic growth and development, yearto-year fluctuations in economic activity, and the impact of both monetary and fiscal
policy on inflation, unemployment, interest rates, investment, the exchange rate, and
international trade.
In the second part of the course, we will focus on microeconomics, which is the study of
the interaction of people and firms in markets. Theories concerning consumer and firm
behavior will be examined—how consumers decide what to buy, and how companies
decide how much to produce. We will also look at the various kinds of markets in which
firms operate.
Prerequisites: Elementary algebra and geometry
Course Requirements
•
Exams
In a course as intensive as ours, it is imperative to keep up with the material. The best
way to assure this is to provide ample opportunities for you to assess your understanding
of each group of topics. This assessment will be facilitated by five hourly exams given
weekly during the course. In addition, there will be a cumulative final at the end. The
dates of the exams are:
Mon., July 2 (60 minutes—covering material from June 25 through June 28)
Mon., July 9 (60 minutes—covering material from July 3 through July 6)
Mon., July 16 (60 minutes—covering material from July 10 through July 13)
Mon., July 23 (60 minutes—covering material from July 16 through July 19)
Mon., July 30 (60 minutes—covering material from July 24 through July 26)
The final exam is scheduled for Friday, August 10, from 8:30 – 11:30 AM. The room in
which the exam will be held will be announced well before the date. The final will be
cumulative. It will cover all lectures from the beginning of the course.
Please Note:
•
It is your responsibility to plan your travel ahead around exam dates. In particular,
the date of the final exam is determined by the Registrar and cannot be changed
for any reason. If you miss the final, you will need to petition for a make-up,
which is quite an involved process, with make-ups granted only in exceptional
circumstances.
•
The two lowest of each student’s five hourly exam scores will be dropped from
the calculation of their semester grade. So, if you miss one of the hourly exams
for any reason, you will receive a zero, and the score will be one of the two that
gets dropped from the calculation of your semester grade. NO MAKEUP
HOURLY EXAMS WILL BE GIVEN.
Practice Problems
There will be practice problems available on the course web site for each of the main
topics covered in lecture. These are voluntary, but highly recommended. They are your
best preparation for the exams; exam questions will be similar to the practice problems.
The answers to all problems will also be posted in a separate file when the problems are
posted. We recommend that you do your best to complete the problems, and only then
check your answers with the solutions posted.
Grading
Grades will be determined by the final (40%), the average of the highest three of your
five hourly exam scores (60%).
Textbook
The course text will be the draft manuscript of Principles of Economics, by Acemoglu,
Laibson, and List. All chapter listings in the course calendar below refer to this
manuscript.
You will be able to buy photocopied chapters of the manuscript (at the photocopy cost
with no mark-up) during the first week of class.
COURSE CALENDAR
Mon., June 25 Course Overview
Prof. Laibson
The Scope of Economics
Economic Agents and Economic Resources
Definition of Economics
Positive, Prescriptive, and Normative Economics
Microeconomics and Macroeconomics
Three Principles of Economics
The Scientific Method
Models and Data
An Economic Model
Causation and Correlation
Economic Questions
Chapters 1 & 2
Tues., June 26 Supply, Demand and Equilibrium
Prof. Watson
Basics of Demand
The Demand Curve
Basics of Supply
The Supply Curve
Equilibrium
Comparative Statics
Chapter 4
Wed., June 27 Consumers and Incentives
Prof. Watson
The Buyer’s Problem
What You Want: Tastes and Preferences
What It Costs: Prices
Decision-Making Error: Absolutes versus Percentages
What You Can Afford: The Budget Set
Price Changes
Income Changes
Putting It All Together: Marginal Analysis
The Individual Demand Curve
Demand Shifter: Income
Demand Shifter: Prices of Other Goods
Decision-Making Error: Sunk Costs
Demand Elasticities
The Price Elasticity of Demand
Elasticity Measures
Determinants of the Price Elasticity of Demand
The Cross-Price Elasticity of Demand
The Income Elasticity of Demand
From the Individual Demand Curve to the Market Demand Curve
Consumer Surplus
Evidence-Based Economics: Would a Smoker Quit the Habit for $100
a month?
How Would You Decide?: Incentives Can Backfire
Chapter 5
Thurs., June 28 Sellers and Incentives
Prof. Watson
Sellers in a Perfectly Competitive Market
The Seller’s Problem
Making the Goods: Introducing Production Concepts
The Cost of Doing Business: Introducing Cost Curves
Decision-Making Error: Average Cost versus Marginal Cost
The Rewards of Doing Business: Introducing Revenue Curves
Putting It All Together: Maximizing Profits
Decision-Making Error: Maximizing Total Profit, Not Per-Unit
Profit
A Firm’s Supply Curve in the Short Run
From the Sort Run to the Long Run
Supply Shifter: Input Prices
Supply Shifter: Technology
From the Firm to the Market Supply Curve
Long-Run Competitive Equilibrium
Firm Entry
Firm Exit
Zero Profits in the Long Run
Producer Surplus
Evidence-Based Economics: Should an Ethanol Producer Lobby
Congress for Subsidies?
Appendix: When Firms Have Different Cost Structures
Chapter 6
Fri., June 29 Section 1
Teaching Fellows
Mon., July 2 (First hour) Hourly Exam 1
Prof. Watson (Last two hours) International Trade
The Basis for Trade
Comparative Advantage and Specialization
Absolute Advantage
Decision-Making Error: Jack and Jill of All Trades
The Price of the Trade
Trade Between States
Economy-Wide PPF
How Would You Decide?: Comparative Advantage Experiment
Comparative Advantage and Specialization Among States
Trade Between Countries
Determinants of Trade between Countries
Winners and Losers of Exporting Nations
Winners and Losers of Importing Nations
Determinants of a Country’s Comparative Advantage
Arguments Against Free Trade
National Security
Fear of Globalization
Resource Protection
Infant Industry
The Effects of Tariffs to Protect Industry
Evidence-Based Economics: Why Do People, States, and Countries
Become Interdependent?
Chapter 7
Tues., July 3 Markets for Factors of Production
Prof. Watson
The Competitive Labor Market
Demand for Labor
Supply of Labor: Your Labor-Leisure Tradeoff
How Would You Decide?: Does Labor Supply Always Slope Up?
Letting the Data Speak: “Get Your Hotdogs Here”
Labor Market Equilibrium: Supply Meets Demand
Labor Demand Shifters
Labor Supply Shifters
Letting the Data Speak: Do Wages Really Go Down if Labor
Supply Increases?
Wage Inequality
Human Capital: Ability, Education, and Training
Decision-Making Errors: Paying for Worker Training
Compensating Wage Differentials
How Would You Decide?: Compensating Wage Differentials
Discrimination
Changes in Wage Inequality over Time
The Market for Other Factors of Production: Capital and Land
Taxes on Factors of Production
Evidence-Based Economics: Is There Discrimination in the Labor
Market?
Chapter 11
Wed., July 4 No class—Independence Day Holiday
Thurs., July 5 The Economics of Information
Prof. Watson
Asymmetric Information
Hidden Characteristics: Adverse Selection in the Used-Car Market
Decision-Making Error: Seeing Adverse Selection Where There
Isn’t Any
Hidden Characteristics: Adverse Selection in the Health Insurance
Market
Market Solutions to Adverse Selection: Signaling
Choices and Consequences: The Case for Mandatory Health
Insurance
Box: Are You Creating a Signal Right Now?
Box: The Tail of the Peacock
Evidence-Based Economics: Why Do Cars Lose Considerable Value
the Minute They Are Driven Off the Lot?
Hidden Actions: Markets with Moral Hazard
Letting the Data Speak: Moral Hazard on Your Bike
Market Solutions to Moral Hazard and the Labor Market: Efficiency
Wages
How High Should Wages Be Set?
Letting the Data Speak: Efficiency Wages Today
Market Solutions to Moral Hazard in the Insurance Market:
“Getting Your Skin in the Game”
Government Policy in a World of Asymmetric Information
The Equity-Efficiency Tradeoff
How Would You Decide? Designing Incentives for Teachers
Crime and Punishment as a Principal-Agent Problem
Evidence-Based Economics: Why Is Private Health Insurance So
Expensive?
Chapter 17
Fri., July 6 Section 2
Teaching Fellows
Mon., July 9 (First hour) Hourly Exam 2
Prof. Watson (Last two hours) Social Economics
The Economics of Charity and Fairness
Understanding Charity
Why Do People Make Charitable Gifts?
Letting the Data Speak: Why Do People Give to Charity?
The Economics of Fairness
Fairness on Television?
Fairness in the Lab
How Would You Decide? The Dictator Game
Evidence-Based Economics: Do People Care about Fairness?
The Economics of Trust and Revenge
The Economics of Trust
The Economics of Revenge
How Others Influence Our Decisions
Where Do Our Preferences Come From?
The Economics of Peer Effects
Box: Is Economics Bad for You?
Letting the Data Speak: Your Peers Affect Your Waistline
Following the Crowd: Herding
Box: Are You an Internet Explorer?
Chapter 18
Tues., July 10 The Wealth of Nations: Defining and Measuring Macroeconomic
Prof. Watson Aggregates
Definition of Macroeconomics
Macroeconomic Questions
National Accounts: Production = Income = Expenditure
Circular Flow
National Income and Product Accounts: Expenditure
Evidence-Based Economics: GDP and Expenditures
National Income and Product Accounts: Income
National Income and Product Accounts: Production
What Does GDP Leave Out?
Depreciation
Home Production
Black Markets
Negative Externalities
Leisure
Happiness, Life Satisfaction, and Subjective Well-Being
Chapter 19
Wed., July 11 Employment and Unemployment
Prof. Watson
Measuring Employment and Unemployment
The Level and Fluctuations of Unemployment
Labor Force Participation
Equilibrium in the Labor Market
The Demand for Labor
The Supply of Labor
Labor Market Equilibrium
Why Is There Unemployment?
Unemployment and Non-Employment
Job Search and Frictional Unemployment
Minimum Wages and Unemployment
Efficiency Wages and Unemployment
Bargaining and Unemployment
Money Illusion, Downward Nominal Wage Rigidity, and
Unemployment
Determinants of Unemployment
Application: The Luddites
Unemployment Fluctuations
Evidence-Based Economics: What happens to employment and
unemployment in a local labor market if competition from foreign
producers causes some local employers to shut down their operations?
Chapter 23
Thurs., July 12 Aggregate Incomes
Prof. Acemoglu
Inequality Around the World
Inequality in Incomes Per Capita
Application: The Big Mac Index
Population, Workers, and Incomes
Incomes and Living Standards
Application: The Dangers of Just Focusing on Income Per Capita
The Aggregate Production Function
Labor
Land and Natural Resources
Capital
The Aggregate Production Function
Technology
Letting the Data Speak: Moore’s Law
Application: Efficiency of Production at the Company Level
Why Are Americans So Much Richer than Indians?
Evidence-Based Economics: Why is the Average American So Much
Richer than the Average Indian?
How to Increase Incomes
Increasing Capital
Investments in Human Capital
Application: Blind Devotion to Measurable Targets
Improving the Efficiency of Production
Application: What Does Carlos Slim Teach Us about Economics?
Improving Knowledge: Research and Development, Innovation,
and Technology Adoption
Chapter 20
_______________________________________________________
Fri., July 13 Section 3
Teaching Fellows
Mon., July 16 (First hour): Hourly Exam 3
Prof. Acemoglu (Last two hours) Economic Growth
The Power of Economic Growth
Patterns of Growth
Application: Levels Versus Growth
Cumulative Effects of Growth
How Would You Decide?: The Power of Growth
Steady-State Equilibrium in the Long Run
Physical Capital in the Solow Model
Optimization: The Choice Between Savings and Consumption
Steady-State Equilibrium in the Solow Model
Determinants of Aggregate Income
Modeling Economic Growth
Dynamic Equilibrium in the Solow Model
Application: Catch-Up Growth
Sources of Growth in the Solow Model
Application: Is Increasing Savings Always a Good Idea?
Knowledge, Technological Change, and Growth
Evidence-Based Economics: Why Are You So Much More
Prosperous than Your Great-Grandparents?
The History of Growth and Technology
Growth before Modern Times
Malthusian Limits to Growth
The Industrial Revolution
Application: Adoption of Technologies
Growth and Poverty
Letting the Data Speak: Income Inequality in the United States
Inequality, Poverty, and Growth
How Would You Decide?: Inequality Versus Poverty
Does Foreign Aid Work?
Application: Foreign Aid and Corruption
How Can We Reduce Poverty?
Letting the Data Speak: Life Expectancy and Innovations
Chapter 21
Tues., July 17 Why Isn’t the Whole World Developed?
Prof Acemoglu
Proximate versus Fundamental Causes of Prosperity
Geography
Culture
Institutions
A Natural Experiment of History
Institutions and Economic Development
Inclusive and Extractive Institutions
Letting the Data Speak: What Happened after the Fall of
Communism in Eastern Europe?
How Institutions Affect Economic Outcomes
The Logic of Extractive Institutions
Letting the Data Speak: Blocking the Railways
Inclusive Institutions and the Industrial Revolution
Evidence-Based Economics: Are Tropical and Semitropical Areas
Condemned to Poverty by Their Geographies?
Chapter 22
Wed., July 18 Credit and Capital Markets
Teaching Fellows
What Is the Credit Market?
The Credit Demand Curve
The Credit Supply Curve
Equilibrium in the Credit Market
Credit Markets and the Efficient Allocation of Resources
Banks and Financial Intermediation: Putting Supply and Demand
Together
Assets and Liabilities on the Balance Sheet of a Bank
What Banks Do
Maturity Transformation and Fractional-Reserve Banking
Bank Runs
Bank Regulation and Solvency Strategies
Risk Transformation: Who Bears the Risk in the Financial System?
Evidence-Based Economics: How Often Do Banks Fail?
Chapter 24
Money, the Federal Reserve, and the Money Market
Money
The Functions of Money
Types of Money
Banks and the Money Stock
Money, Prices, and Output
The Aggregate Price Level, Real Output, and Nominal Output
Monetary Equilibrium: The Quantity Theory of Money
The Velocity of Money
Inflation
The Costs, Benefits and Causes of Inflation
Evidence-Based Economics: What Caused the German Hyperinflation
0f 1922-1923?
Monetary Policy
The Central Bank and the Objectives of Monetary Policy
The Key Roles of the Central Bank
Monitoring the Financial System: The Central Bank’s Interactions
with Private Banks
Liquidity and the quantity of reserves
Controlling Short-Term Interest Rates: The Federal Funds Rate
and Open Market Operations
Influencing Long-Run Real Interest Rates: Monetary Policy and
Investment
Two models of inflationary expectations
The federal funds rate and the long-run expected real interest rate
Chapter 25
Thurs., July 19 Short-Run Economic Fluctuations
Teaching Fellows
Economic Fluctuations
The Nature of Business Cycles
Patterns of Economic Fluctuations
The Great Depression
Short-Run Macroeconomic Equilibrium and Fluctuations
Labor Demand and Fluctuations
Sources of Fluctuations
Animal Spirits and Multipliers: Keynesian Explanations
Monetary and Financial Factors: Explanations from Milton
Friedman
Explanations Related to the Credit Market
Multipliers Again
Macroeconomic Equilibrium in the Medium Run
Evidence-Based Economics: What Caused the Great Recession of
2007-2009?
Chapter 26
Macroeconomic Policy
Monetary Policy and Economic Fluctuations
Expansionary Monetary Policy
Changing the Supply of Bank Reserves, and the Interest and
Discount Rates
Influencing Expectations about Future Monetary Policy
Changing the Mix of Assets on the Fed’s Balance Sheet – “Credit
Easing”
Changing the Reserve Requirement and Other Bank Regulations
Creating Other Specialized Lending Channels
What Can Go Wrong? Inflationary Expectations
Inflation Targeting
What Can Go Wrong? Zero Lower Bound and Negative Inflation in
Japan
Fiscal Policy and Fluctuations
Fiscal Policy over the Business Cycle: Automatic and Discretionary
Components
Analysis of Expenditure-Based Fiscal Policy
Analysis of Taxation-Based Fiscal Policy
Policy Waste and Policy Lags
Evidence-Based Economics: Does Discretionary Fiscal Policy Work?
Policies that Cross the Line Dividing Fiscal and Monetary Policy
Government Policy and Unemployment
The Political Economy of Macroeconomic Policy
Chapter 27
Fri., July 20 Section 4
Teaching Fellows
Mon., July 23 Hourly Exam 4
Tues., July 24 Macroeconomics in a Global Economy
Teaching Fellows
Trade and Financial Flows Across International Borders
Exports, Imports, and the Trade Balance
The Current Account and the Capital Account
Decision-Making Error: Should the United States Boycott China?
Globalization and the Evolution of U.S. Trade
How Would You Decide?: Tariffs and Votes
Letting the Data Speak: Globalization Cycles
Why Do We Trade?
Specialization and Comparative Advantage
Gains from Specialization and Comparative Advantage in
International Trade
Box: Living in an Interconnected World
International Trade, Technology Transfer, and Economic Growth
Box: From IMB to Lenovo
Evidence-Based Economics: Is Nike Harming the Poor in Vietnam?
Chapter 28
Open Economy Macroeconomics
Exchange Rates
Nominal and Real Exchange Rates
The Foreign Exchange Market
Managed and Fixed Exchange Rates
Defending an Overvalued Exchange Rate
Evidence-Based Economics: How Did George Soros Make $1
Billion?
Fixed Exchange Rates and Corruption
Do Pegged Exchange Rates Guarantee Stability?
Currency Unions
Evidence-Based Economics: How Large Are the Gains from a Single
Currency?
The Real Exchange Rate and Purchasing Power Parity
From the Nominal to the Real Exchange Rate
The Real Exchange Rate and Net Exports
The Purchasing Power Parity Theory of the Real Exchange Rate
Letting the Data Speak: Why Do Chinese Authorities Keep the
Yuan Undervalued?
Macroeconomic Equilibrium in the Open Economy
The Basic of Macroeconomic Equilibrium in the Open Economy
Revisiting Black Wednesday
Chapter 29
Wed., July 25 Tradeoffs Involving Time and Risk
Prof. Laibson
The Time Value of Money
Interest Rates
Borrowing Versus Lending
Optimization Toolbox: Present Value
Tim Preferences
Time Discounting
Preference Reversals
Evidence-Based Economics: Preference Reversals
Optimization Error: Failing to Anticipate Preference Reversals
Probability and Risk
Optimization Error: The Gambler’s Fallacy
Optimization Toolbox: Expected Value
Optimization Application: Gambling
Optimization Error: Buying an Extended Warranty
Risk Preferences
Diminishing Marginal Utility and Risk Aversion
Optimization Toolbox: Life Insurance
Chapter 15
Thurs., July 26 Financial Decision Making
Prof.Laibson
Risk and Return
Risky Returns
Percentiles
Risk Associated with Individual Stocks
Diversification
Investment Accounts
Bank Accounts
Brokerage Accounts
Mutual Funds
Retirement Savings Plans
Decision-Making Error: Overlooking Fees
How Easy Is It to Beat the Market?
Evidence-Based Economics: Return Chasing
Chapter 30
Fri., July 27 Section 5
Teaching Fellows
Mon., July 30 Hourly Exam 5
Tues., July 31 Competitive Markets and the Invisible Hand
Prof. List
Perfect Competition and Efficiency
Social Surplus
Decision-Making Error: Why Not Maximize the Total Number of
Books Traded?
Pareto Efficiency
From the Individual Seller to the Industry: A Fable for a Free Market
Allocation of Resources Across Industries
Prices Guide the Invisible Hand
The Central Planner and the Command Economy
How Would You Decide? Command and Control at Kmart
Equity and Efficiency
Evidence-Based Economics: Can Markets Composed of Only Selfish
People Maximize the Overall Well-Being of Society?
Chapter 8
Market Failure
Externalities
The Broken Invisible Hand: Negative Externalities
The Broken Invisible Hand: Positive Externalities
Pecuniary Externalities
Private Solutions to Externalities
Private Solution: Bargaining
Private Solution: Doing the Right Thing
Government Solutions to Externalities
Government Regulation: Command and Control
Government Control: Market-Based Approaches
Public Goods
How Would You Decide? The Free-Rider’s Dilemma
Government-Provided Public Goods
Private Provision of Public Goods
Common Pool Resources
How Would You Decide? Common Pool Resource
Evidence-Based Economics: How Can President Obama Reduce his
Commute to Dupont Circle?
Chapter 9
Wed., Aug. 1 Monopoly
Prof. List
Introducing a New Market Structure: Monopoly
Sources of Market Power
Legal Market Power
Choice and Consequence: “Cleaning Up” while Cleaning Up
Natural Market Power
Control of Key Resources
Economies of Scale
The Monopolist’s Problem
Choice and Consequence: “Monopolies Are Not Always Bad”
Revenue Curves
How a Monopoly Maximizes Profits
Setting Price
Optimal Decision Rules
How a Monopolist Calculates Profits
Do Monopolies Make Profits No Matter What?
Does a Monopoly Have a Supply Curve?
A “Broken” Invisible Hand: The Welfare Cost of Monopoly
Restoring Social Efficiency
Three Degrees of Price Discrimination
How Would You Decide? Playing the Monopolist
Government Policy Towards Monopoly
How Can the Government Regulate Anti-Competitive Monopolies?
Evidence-Based Economics: Can a Monopoly Ever Be Good for a
Society?
Chapter 12
Thurs., Aug. 2 Game Theory and Strategic Play
Prof. List
The Players, the Strategies, and the Payoffs
A Key to Optimal Play: Best Responses
Dominant Strategies and Dominant Strategy Equilibrium
Advertising for Your Surf Shop
Nash Equilibrium
Box: A Beautiful Mind
Finding a Nash Equilibrium
Choice and Consequence: Work or Shirk in a Partnership?
Applications of Nash Equilibria
The Dating Game
Tragedy of the Commons Revisited
Penalty Kicks and Mixed Strategies
Choice and Consequence: Acting Unpredictably
How Do People Actually Play Such Games?
An Example of the Prisoner’s Dilemma: “Friend or Foe”
Penalty Kicks
Letting the Data Speak: Tennis Players Playing Games
Evidence-Based Economics: Is there value in putting yourself into
someone else’s shoes?
Games Where Players Move One After the Other
Backward Induction
First-Mover Advantage and the Value of Commitment and
Vengeance
How Would You Decide?: The Lemons Game
Evidence-Based Economics: Is There Value in Putting Yourself into
Someone Else’s Shoes?
Chapter 13
Fri., Aug. 3 Section 6
Teaching Fellows
Mon., Aug. 6 Review Session
Teaching Fellows
Fri., Aug. 10 Final Exam (3 hrs., cumulative)
8:30 – 11:30 AM