Chapter 1
Lecture 1
McGraw-Hill/Irwin
Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Economics defined
Role of economic
theory
Microeconomics vs.
macroeconomics
Resource scarcity and
the economizing
problem
Production
possibilities model
1-2
Economic wants
exceed productive
capacity
Social science
concerned with
making optimal
choices under
conditions of scarcity
1-3
Thinking like an
economist
Key features:
Scarcity and
choice
Purposeful
behavior
Marginal analysis
1-4
Resources are
scarce
Choices must be
made
There is no free
lunch
Opportunity cost
1-5
Individuals seeks to
maximize their utility – the
pleasure or satisfaction
from consuming a good or
services.
Economic decisions are
“rational” or “purposeful”
because the costs and
benefits of the decision
are weighed.
Decisions are made with
some desired outcome in
mind
Firms and profit
1-6
Individuals compare the
marginal benefits and
marginal costs in making
economic decision.
Marginal means “extra” or
“additional”.
So long as marginal benefits
are greater than marginal
costs, we consume (or
produce) more.
When marginal costs
exceed marginal benefits,
we consume (or produce)
less.
1-7
Economics uses the same
scientific method:
Observing real-world behavior
and outcomes
Formulating a hypothesis or
possible explanation of cause
and effect,
Testing the hypothesis,
Accepting, rejecting, or
modifying the hypothesis, and
Continued testing of the
hypothesis against the facts,
evolving into a theory as
favorable results accumulate.
1-8
A very well tested and widely
accepted theory is called an
economic principle -- a statement
about economic behavior or the
economy that enables prediction
of the probable effects of certain
actions.
Economists develop theories of
the behavior of individuals
(consumers, workers) and
institutions (businesses,
governments) engaged in the
production, exchange and
consumption of goods and
services.
Economic principles and
models are
generalizations relating to
economic behavior or to
the economy itself,
incorporate the otherthings-equal-assumption
or ceteris paribus, and
are expressed graphically
Macroeconomics
Aggregate
Microeconomics
Individual Units
1-11
Both microeconomics and
macroeconomics contain
elements of positive
economics and normative
economics.
Positive economics focuses
on facts and cause-andeffect relationships – what
is
Normative economics
incorporate value
judgments about what the
economy should be like –
what ought to be
Limited income
Unlimited wants
A budget line
Tradeoffs &
opportunity costs
Make best choice
possible
Change in income
1-13
 Budget Lines (constraints) depict the various
combinations of two products a consumer can purchase
with a specific money income.
$120 Budget
DVDs Books
$20
$10
6
5
4
3
2
1
0
0
2
4
6
8
10
12
1-14
All combinations on
or inside the
budget line are
attainable.
All combinations
beyond the budget
line are
unattainable.
A budget line
illustrates the idea of
tradeoffs arising from
limited income.
The budget line
illustrates those
choices that are
attainable.
The location of the
budget line varies
with money income.
 Four general input categories: Scarce
resources
Land – includes natural resources
Labor – the physical and mental talents
of humans
Capital – manufactured aids such as tools
and factories
Entrepreneurial Ability – a specific
human resource distinct from labor
Factors of production
1-17
Illustrates the
resource constraints
we have at a societal
level.
Assumptions:
Full employment
Fixed resources
Fixed technology
Two goods
1-18
Production Possibilities Table
Lists the different combinations of two products
that can be produced with a specific set of
resources, assuming full employment.
1-19
Industrial Robots
A’
14
13
12
11
10
9
8
7
6
5
4
3
2
1
B’
Unattainable
A
Economic
Growth
C’
B
C
D’
D
Now Attainable
Attainable
E’
E
0
1
2
3
4
5
6
7
8 9
Pizzas
1-20
Industrial Robots
A’
14
13
12
11
10
9
8
7
6
5
4
3
2
1
B’
Unattainable
A
Law of Increasing
Opportunity Cost
C’
B
C
D’
Shape of
the Curve
D
Attainable
E’
E
0
1
2
3
4
5
6
7
8 9
Pizzas
1-21
Marginal Benefit & Marginal Cost
15
a
c
MC
MB = MC
e
10
5
b
d
MB
0
1
2
3
Quantity of Pizza
1-22
Scarce resources prohibit an
economy from having more
of both goods.
Attainable combinations lie
on or inside the production
possibilities curve.
When an economy is
operating on the curve,
moving from one point to
another represents an
opportunity cost – the
economy must sacrifices
some of one good to obtain
more of another.
The shape results in not only
incurring opportunity costs
as we move along the curve,
but also increasing
opportunity costs.
Because economic
resources are not
completely adaptable to
alternative uses, producing
an additional unit of one
good means giving up
successively larger amounts
of the other good.
For example,
point U
represents a
situation of
unemployment.
Industrial Robots
The economy is
producing at an
attainable, but
inefficient level.
A’
14
13
12
11
10
9
8
7
6
5
4
3
2
1
B’
Unattainable
C’
U
D’
Under or
Unemployment
E’
0
1
2
3
4
5
6
7
8 9
Pizzas
1-25
A Growing Economy
More resources
Better quality
resources
Technological
advances
1-26
Current
Curve
P
Goods for the Present
Presentville
Goods for the Future
Goods for the Future
Future
Curve
Future
Curve
F
Current
Curve
Goods for the Present
Futureville
1-27
International trade – can be a
qualifier to the production
possibilities curve constraints.
In later chapters we learn that
an economy can obtain more
goods and services than its
production possibilities curve
indicates through international
trade and specialization.
Expansion of domestic
production possibilities and
international trade are two
distinct ways for obtaining
greater output.
1-28
Biases and
preconceptions not
supported by facts,
loaded terminology
that may be
emotionally biased,
Fallacy of Composition
- a statement that is
true for an individual
or part is not
necessarily true for the
larger group or whole
1-29
Post Hoc Fallacy in which
the statement “because
event A precedes event B, A
is the cause of B” uses faulty
reasoning.
Correlation
but
not
causation - Correlation
between two events or two
sets of data indicates only
that they are associated in
some way, but correlation
does not mean that there is
causation.
 economics
 economic perspective
 opportunity cost
 utility
 marginal analysis
 scientific method
 economic principle
 other-things-equal
assumption
 macroeconomics
 aggregate
 microeconomics
 positive economics
 normative economics
 economizing problem
 budget line
 economic resources
 land
 labor
 capital
 investment
 entrepreneurial ability
 factors of production
 consumer goods
 capital goods
 production possibilities curve
 law of increasing opportunity
costs
 economic growth
1-31
The Market
System and the
Circular Flow
1-32