PART 1
ECONOMIC CONCEPTS AND SYSTEMS
Chapter 1
Economic concepts
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Lecture Plan
• What is Economics?
• Scarcity
• Basic economic problems
• Production possibility analysis
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What is Economics?
• Economics is the study of how people and society
choose to employ scarce productive resources to
produce goods and services and distribute them
among various groups of society
ECONOMICS
Macroeconomics
Microeconomics
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Microeconomics vs. Macroeconomics
• Microeconomics = the study of individual
consumers, firms and industries
–
(‘Micro’ = the ancient Greek word for ‘small’)
• It focuses on:
–
–
–
The pricing and production decisions of industrial firms
Consumer behaviour and
The output and state of single industries
• Macroeconomics is concerned with how the
economy functions as a whole (e.g. total income)
–
(‘Macro’ is the Greek word for ‘large’)
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Scarcity
• Every economy is endowed with what we call
resources, which are inputs used in the production
of goods and services for consumption to satisfy
our needs and wants
• The basic economic problem of any society is the
relative scarcity of resources in relation to the
unlimited needs and wants of consumers
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Resources
• Resources = All inputs that can be combined in
many different ways to produce goods and services
of various types to help satisfy people’s unlimited
needs and wants
• Often referred to as the factors of production
• Resources include land, capital, labour and
enterprise
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Land
• All natural resources and
endowments
• Examples: soils, crops, minerals,
forests, oceans
• Critical resource for Australia (e.g.
exports)
• The least flexible resource
• Factor income: rent
• Abundant resource for Australia but
an increasingly scarce resource for
East Asian countries (e.g. Singapore)
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Capital
• Any good or service used to
produce others (i.e.
intermediate goods)
–
e.g. factories, tools, machinery
and equipment
• Most abundant factor for
industrial countries (e.g.
United States, Japan)
• Factor income: interest
• Note: Expenditure on capital
is Investment
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Labour
• Labour = Physical and
•
•
•
•
mental work of people,
whether, skilled or unskilled
Examples: mechanics,
doctors, farmers, computer
programmers
Most flexible resource
Most abundant resource in
developing countries
Factor income: wages
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Enterprise
• Management (e.g. ownership,
control and/or coordination) of
the other three factors of
production (entrepreneurship)
• Covers the various
organisational skills of
‘entrepreneurs’
• Example: business managers
• Factor income: profit
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Characteristics of Resources
• Scarce
–
–
Have alternative uses
Limited, finite
• Quantity of resources
–
–
–
–
Physical amount of resources available
Affected by resource endowment and population
Australia’s cropland is 463 000 sq. km, while Indonesia’s
cropland is 324 000 sq. km
Australia’s labour force is around 9–10 million people,
while Indonesia’s workforce is over 90 million people
(cont.)
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Characteristics of Resources (cont.)
• Quality of resources
–
–
–
–
Productivity of resources
Affected by technology, education and training of
workforce
Land productivity (yield/ha)
Labour productivity (production per person)
• We achieve economic growth by increasing the
quantity and/or quality of resources
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Consumer Needs and Wants
• Needs: those things necessary to human survival
e.g. food, shelter
• Wants: goods/services desired by the consumer
e.g. hi-fi, travel, luxury cars
• Characteristics:
–
–
–
–
unlimited
recurrent
complementary
changeable
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Satisfying Needs and Wants
Production
Distribution
Consumption
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Basic Economic Questions
Scarcity
Choices must be made
1. What To Produce?
2. How To Produce?
3. For Whom To Produce?
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Opportunity Cost
• The Basic Economic Problem of Relative Scarcity
is illustrated by two concepts:
–
–
Opportunity Cost, and
The Production Possibility Frontier (PPF)
• Opportunity cost = The sacrifice (or alternative
forgone) in choosing to satisfy one need or want
rather than another
• Note: Situations where there is NO opportunity
cost = free goods
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Production Possibility Frontier (PPF)
Theory
• A simplified economic model which portrays
scarcity, choice and opportunity cost
The Static Production Possibility Frontier
• Analyses the economy at a fixed point in time
• Is based on the following assumptions:
–
–
–
–
–
There is a fixed quantity of resources
The economy only produces two products
Resources can be used interchangeably
All resources within the economy are used
Resources are used at maximum efficiency
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An Example of the Static PPF Model
Production Possibility Schedule
A
B
C
D
E
Tractors
0
100 200 300 400
VCRs
800 600 400 200 0
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The PPF Graph
E
PPF
400-
D
300-
Tractors
C
200-
B
100-
A
0
200
400
600
800
Video recorders
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Maximum Output Levels
• The PPF shows the maximum output of the
economy
• If the economy devotes all of its resources to the
production of VCRs it is able to produce 800 (+ zero
tractors)—Production Possibility A
• Alternatively, if the economy chooses Production
Possibility C it is able to produce 200 tractors and
400 VCRs
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Opportunity Costs
• The PPF shows that to produce more of one
product means producing less of another
• Opportunity costs of production can be measured
e.g. if the economy moves from point C to D (along
the PPF) it will produce an extra 100 tractors BUT
200 VCRs must be sacrificed
• Hence the opportunity cost is 200 VCRs
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Points Outside the Static PPF
• Points outside the PPF (e.g. X) are not possible
using existing technology and resources
A
.X
PPF
B
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Points Inside the Static PPF
• At point Y, the economy is
PPF
A
satisfying fewer needs and
wants than is possible
• This is due to:
–
–
Resources not being fully
employed and/or
Resources not being used in the
most efficient way
.Y
B
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The Dynamic PPF Model
• This model differs from the static PPF in that it
incorporates changes over time
• It demonstrates the effect of changes in the
quantity and quality of productive resources e.g.
new resource discoveries, improvements in
technology
• Changes in the quantity and/or quality of resources
will SHIFT the PPF
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Dynamic PPF
• When the
A
quality/quantity of
resources increases
(decreases), the
economy can
produce more (less)
of both products and
the entire curve will
SHIFT outwards
(inwards)
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Note
• If the change in resources affects ONLY one
product, the PPF will ONLY shift on one axis e.g.:
A
A
OR
B
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B
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The Significance of PPF Shifts
•
Increased maximum output levels enable:
1.
2.
•
higher levels of consumption
greater satisfaction of consumer needs and wants
Improvements in the quality of resources results in
the more efficient use of scarce resources
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