Economics, Principles in Action – Unit 1: Introduction to Economics
Prentice Hall publishers
Unit 1: Chapters 1-3
Fundamental Economics, Introduction to Stock Market Simulation
Chapter 1: What is Economics?
I. 5 Basic economic roles all members of society fulfill:
1. Consumer
2. Producer
3. Saver
4. Investor
5. Voter
Economics: the study of how people seek to satisfy their needs and wants given their
limited resources, we must make choices; the science of decision-making
2 branches of economics
1. microeconomics – focus is on individual decision making, the economy’s
individual parts
2. macroeconomics – focus is on group decision making, the economy as a
whole
Is there a difference between a need and a want?
II. Scarcity: the condition that occurs because human wants and needs are unlimited,
while resources needed to meet these wants and needs are limited.
E.1.2 Explain how consumers and producers confront the condition of scarcity, by making
choices which involve opportunity costs and tradeoffs.
CIA World Factbook
China: $4,400 GDP per capita; USA GDP per capita $35,000 (2004est.)
China: $7,800 GDP per capita; USA GDP per capita $43,800 (2006est)
China GDP: $10.21 trillion (2006est) official exchange rate: 2.527 trillion
USA GDP: $13.06 trillion (2006est) official exchange rate: 13.16 trillion
World: $10,200 GDP per capita; World GDP $65.96 trillion (2006est); official
exchange rate: $46.77 trillion
China and the US account for 1/3 of all global production of goods and services.
Goods: physical objects used to meet wants and needs
Services: Actions or activities that one performs for another
Making choices means you make trade-offs, an alternative that we sacrifice when we
make a decision. These are called Opportunity costs and Opportunity benefits:
Opportunity Costs: (o/c) the next best alternative. The most desirable alternative given
up as a result of a decision
Opportunity Benefit: (o/b) the value of what you gain by making your choice.
Thinking at the margin: deciding whether to do or use one additional unit of a resource
Gary Becker’s book: The Economics of Life
Comparing O/C and O/B at the margin, once costs outweigh benefits no more units
should be added.
Production Possibilities Curves: a graph that shows the alternative ways to use an
economy’s resources, e.g. private goods or public goods; WW2
Goal: to maximize production of output desired by society, in both the desired public and
private amounts, efficiently and without underutilization of resources. US economic
policy to shift the PPF to the right at a rate of 3% per year.
E.1.9 Use a production possibilities curve to explain the concepts of choice, scarcity,
opportunity cost, tradeoffs, unemployment, productivity, and growth.
Law of increasing costs: as we shift factors of production from making one good or
service to another, the cost of producing the second item increases; this is why PPF
curves drastically downward to the right.
Chapter 2: Economic Systems
All societies deal with scarcity by implementing an economic system which distributes
the scarce resources by answering the following BASIC ECONOMIC QUESTIONS:
1.
2.
3.
What goods and services should be produced?
How should these goods and services be produced?
For whom are these goods and services produced?
E.1.1 Define each of the productive resources (natural, human, capital) and explain why they
are necessary for the production of goods and services. (Geography)
Factors of Production: Land, Labor, Capital, Entrepreneurship (L,L,C,E)
Land: natural resources, anything of the Earth
Labor: the effort that people devote to a task for which they are paid
Capital: any human-made resource that is used to create other goods and
services; physical, financial, human
Entreprenuership: risk taking to combine resources for potential profit
Factor payments: the income people receive for supplying the factors of production
Land – Rent
Labor – Wages
Capital – Interest
Entrepenuership – Profit
E.1.7 Compare and contrast how the various economic systems (traditional, market,
command, mixed) answer the questions: What to produce? How to produce it? For
whom to produce?
4 types of economic systems:
1. Traditional
2. Market (Private)
3. Command (Public)
4. Mixed
Defining characteristics: essential traits that must be present in order to know what a
system is
1. A Market system: an arrangement that allows buyers and sellers to exchange; a place
where buyers and sellers freely interact with nearly perfect information; based on
voluntary exchange. Market economies are also called free markets or capitalism.
Individuals choose; private goods and services.
2. A Command system: is characterized by the presence of strong, central authority.
Government makes all decisions regarding the distribution of resources. This produces
public goods and services.
3. A Traditional system: is characterized by habit, custom, and ritual to decide the
questions of production and consumption. Tradditional economies are usually small,
close communities. This generally means there is a large agricultural segment of this
society.
4. A Mixed system: a society that has some combination of the above 3 systems.
All economies today are mixed.
How the three basic questions are answered in command (social) economies:
What to Produce: a committee of experts pool their knowledge and work out a central
plan based on the needs of society. Goods and services produced do not have to pass the
“test” of the market. Consumer choice involves purchasing or not. Producers meet
quotas established by committee. Profits are not an incentive.
How to produce: determined by central committee. Managers have some choice
involved in the process, but no control of resources provided to produce the goods.
For whom to produce: Equity for all is the goal. An even distribution of goods and
services among society members.
History of social decision-making:
Karl Marx, born 1818 in Germany - Professor of philosophy
Wrote Das Kapital in 1848 and Communist Manifesto in 1867
“All history is the history of class struggle”. Capitalism creates a struggle between the
working class and business owners. His writings have become the basis of most
communist and socialist societies.
Most famous quotes:
“From everyone according to their abilities; To everyone according to their needs”.
“Workers of the world unite”!
In a market economy, social decision-making occurs. The study of social decisionmaking in our system is called Public Choice Theory.
The United States economy today is roughly:
60% - private sector: that part decided by individuals
40% - public sector: that part decided by the group
5 basic Economic Goals of the US economy:
1. Economic Freedom: freedom of consumers to decide how to spend or save
their incomes; freedom of producers to make decisions; freedom of workers
to choose their jobs
2. Economic Efficiency: achieving maximum benefit from a given amount and
combination of resources; it is improved only if the additional benefits
exceed the additional costs
3. Economic Equity: fairness to all members of society
4. Economic Security and Predictability: protection against economic risks
such as work injuries, unemployment, inflation, business failures, and
poverty
5. Economic Growth and Innovation: increasing the production of goods and
services over time. Target growth rate of GDP is 3% per year
public goods: goods and services available to all members of society; one member can
consume it and it is still available for other members
e.g. schools, parks, roads, army, police…
private goods: individuals own
Effective Social-decision making:
Use basic economic decision-making model
1. Define the problem
2. List alternatives
3. List criteria
4. Evaluate the alternatives
5. Make a decision that minimizes social cost and maximizes social benefit
Convergence theory:
“The fear of capitalism has compelled socialism to widen freedom. The fear of socialism
has compelled capitalism to increase equality. East is West and West is East; and soon
the twain will meet”.
By Will and Ariel Durant
Chapter 2 vocabulary terms to know:
Specialization: the concentration of the productive efforts of individuals and firms on a
limited number of activities
Factor market: market in which firms purchase the factors of production from
households
Profit: a financial gain made in a transaction
Product market: the market in which households purchase the goods and services firms
produce
Self-interest: one’s own personal gain
Incentive: an expectation that encourages people to behave in certain a way
Competition: the struggle among producers for the dollars of consumers
Invisible hand: term economists use to describe the self-regulating nature of the
marketplace
Consumer sovereignty: the power of the consumers to decide what gets produced
Socialism: a social and political philosophy based on the belief that democratic means
should be used to evenly distribute wealth throughout society
Communism: a political system characterized by a centrally planned economy with all
economic and political power resting in the hands of the central government
Authoritarian: requiring strict obedience to an authority such as a dictator
Collective: large farm leased from the state to groups of peasant farmers
Laissez faire: the doctrine that states that government generally should not intervene in
the marketplace
Private property: property owned by individuals or companies not by the government or
the people as a whole
Free enterprise: an economic system characterized by private or corporate ownership of
capital goods; investments that are determined by private decisions rather than by state
control; and determined in a free market
Continuum: a range with no clear divisions
Transition: period of change in which an economy moves away from a centrally planned
economy toward a market based system
Privatize: to sell state run firms to individuals
Comparative Economic Systems; Country proof assignment:
After completing the comparative economic systems worksheet over the USA, North
Korea and Chad, you may now select any country, except the United States and write a
paper over the following:
1.
Examine the information in the CIA Worldfactbook site. You and a partner select
a Country. You and your partner will be writing a proof of the type of economic system
this Country has and what the advantages and disadvantages are for people in this
Country. You need only turn in one paper.
2.
Determine what type of mixed economy the Country has and prove it. Begin with
a thesis statement that says: (e.g.) “The United States has a mixed economy, it is
primarily a market economy with a significant command sector.”
To prove this thesis statement you must use information from the encyclopedia
that is evidence of its’ defining characteristic. What encyclopedia material would be
evidence of the presence of markets in the United States? What encyclopedia material
would be evidence of strong Government influence in the economy?
Hint the section entitled “Economic Activity” is a very good place to start. The
statistics at the end of the report are also very helpful.
3. Read over the handout Comparing Economic Systems. Given the type of economic
systems you believe are in use in your Country, please determine and list evidence of
these advantages and disadvantages this type of economic system has for people who live
in that Country.
Write your proof; make sure you have a thesis paragraph, supporting arguments
paragraphs, and a conclusion. This does not need to be long, it needs to be concise, clear,
and use economic terms.
We may do a modified version of this assignment and work on Comparing Economic
systems worksheet only, depends on time.
Chapter 3:American Free Enterprise
A Tradition of Free enterprise
Constitutional protections
Private Property rights: the concept that people have the right and privilege to control
their possessions as they wish
E.1.8 Describe how clearly defined and enforced property rights are essential to a market
economy. (Civics and Government)
Taxation: The Constitutions provides the Government with the right to tax in Article 1,
sections 2 & 9; the 16th Amendment provides the federal government the right to tax
income.
Profit motive: the force that encourages people and organizations to improve their
material well-being
Open opportunity: the concept that everyone can compete in the marketplace
Legal equality: the concept of giving everyone the same legal rights
Free contract: the concept that people may decide what agreements they want to enter
into
Voluntary exchange: the concept that people may decide what and when they want to buy
and sell
E.1.6 Recognize that voluntary exchange occurs when all participating parties expect to gain.
Competition: the rivalry among sellers to attract customers while lowering costs
Private sector; market economy, capitalism, Adam Smith, Milton Friedman, Gary
Becker, F.A. Hayek, and University of Chicago
Consumers signal to producers what to produce by their “votes” in the economy; and they
signal how much they want produced (for whom to produce). Consumers can also join
Interest groups: private organization that tries to persuade public officials to act or vote
according to their interests.
Public sector; command economy, centrally planned, socialism, Karl Marx, John Kenneth
Galbraith, John Maynard Keynes, and Harvard University
The Limited Role of Government:
E.1.3 Identify and explain broad economic and social goals, such as freedom, efficiency,
equity, security, growth, price stability, and full employment. (Civics and Government)
The 5th amendment in the Bill of Rights provides the constitutional authority to protect
property from the federal government. The 14th amendment protects property from State
governments. Federal and State statutes protect property from private individuals.
There are possible negative effects of regulation. Costly rules are passed onto the
consumer. Page 55 of your text charts many of the major regulatory agencies working
today in the economy. Many of these have worked out well, others have not. It is much
a matter of opinion as to whether regulations are net beneficial. Time has a way of
answering that question. This is in essence the debate between Galbraith and Friedman.
We will study this in greater detail next unit.
E.4.8 Describe how costs of government policies may exceed benefits, because social or
political goals other than economic efficiency are being pursued. (Civics and
Government)
Promoting Growth and Stability
In order to promote growth, you have to first track it.
Microeconomics: the study of economic behavior and decision making in small units,
such as individuals, families and businesses.
Macroeconomics: the study of the behavior and decision making of entire economies.
Governments deal with entire economies so is studied in Macro.
Business cycles: a period of macroeconomic expansion followed by a period of
contraction. (growth, peak, recession, trough)
GDP: gross domestic product, the total dollar value of all final goods and services
produced in a nation’s economy in a given period of time (usually one year).
We have had 9 cycles since 1942, we may be about to complete a 10th.
Full employment: 5% of the workforce (anyone who wants to work) is actively seeking
another job.
The US economy policy goal is to grow at 3% a year, and keep prices stable. CPI:
consumer price index tracks changing prices of consumer goods and services.
Manipulating interest rates helps to stabilize prices. Increasing worker productivity and
technological advances helps shift the PPF outward to the right at 3% a year.
Providing Public Goods
Public good: a shared good or service, which is available to all members of society, and
you, cannot exclude non-payers
Public goods rationale: some goods can be provided for a society more efficiently if
produced by Government due to Economies of Scale: some economic activities are more
efficient when done on a large scale
1.
the benefit to each individual is less than the cost that each individual would have
to pay if it were provided privately
2.
the total benefits to society are greater than the cost
Free Rider problem: a person who benefits from the public goods and services without
sharing equally in its costs
We expect Government to deal with market failures
E.4.2 Explain how government responds to market failures by providing public goods and
services. (Civics and Government)
Providing a Safety Net
(Redistributing the wealth)
Poverty threshold: an income level below that which is needed to support families or
households (2002: family of 4 below $17,463)
Welfare system: government aid to the poor
Cash transfers are direct payments to the poor
Temporary Assistance for Needy Families (former AFDC)
Social Security (Medicare) FICA pays for this
Unemployment Insurance
Workman’s Compensation
Also:
In-Kind benefits: food stamps, subsidized housing, legal aid
Medicaid
Public Education
All government spending redistributes wealth, most think the goal should be from the
poor to the rich. Welfare payments make up 13% of federal budget.
Economic dilemma:
Good politics – bad economics
Bad politics – good economics
Rationally ignorant voter
Special interest groups
Rationally shortsighted politicians
E.4.1 Explain the basic functions of government in a market economy. (Civics and
Government)