Introduction
to the study of
Economics
The universal problem of limited resources and
unlimited wants creates the problem of scarcity.
The study of how societies deal with scarcity is in fact
the study of economics. Thus…
Economics: The study of how
societies attempt to satisfy
unlimited needs and wants with
limited resources.
Terminology
The Foundation of Economics
A Problem of Scarcity
Scarce: a term used to describe items that are
finite in quantity
Factors of Production: (aka “economic resources”, or
the “means of production”) scarce items used in the
production of other goods and services. They fall into
four broad categories:
Land, sea, and air
as well as all resources that come from it.
1. land
2. labour
Human effort,
be it physical, mental, or creative.
3. capital
Tools used in the production process,
i.e. mechanical, technological, facilities
4. entrepreneurship
Human resource engaged in management of
the first three economic resources
More on Opportunity Cost
Economic Choice: Describes any decision that one is
forced to make when they find that they do not have
enough resources to satisfy all of their needs or wants.
The goal then becomes the maximization of utility (i.e.
welfare, pleasure, satisfaction).
“Out-of-Pocket” Cost: The cost associated with an
economic decision that requires one to forfeit current
economic resources.
Opportunity Cost: The cost associated with an
economic decision that requires one to forgo gaining an
economic resource they might have otherwise earned. In
economics, it is generally viewed as one’s “next best”
opportunity.
Opportunity cost can be a bit confusing. In fact, it can
remind us of the old philosophical question, “If a tree
falls in a forest, and there is nobody there to hear it,
does it make a sound?”
Opportunity cost does
not describe any price.
es
n giv
a perso
Until ’s not an
it
it up, nity cost!
u
opport
Rather, the cost must be
related to something that
a person gives up in order to have something else.
$50.00 for a pair of running shoes is the “cost” of the
shoes, but the shoes themselves will only become an
“opportunity cost” if a person must give them up in
order to have something else (like a dinner out).
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Taking the example even further…
$50.00 for a pair of running shoes can indeed be thought
of as an opportunity cost, but only if we think of the
money as something we might like to have, for
example, as savings.
Production Possibility Curve
A graphical depiction of the various production combinations
attainable assuming all resources are used efficiently.
If a person is debating between saving their $50.00 for a
rainy day, or spending their $50.00 on a pair of shoes,
then the $50.00 might become an opportunity cost if the
person decides to spend that money on the shoes.
The person wanted the money,
and they wanted the shoes,
but they gave up the money
to have the shoes!
Until a person give
s
it up, it’s not an
opportunity cost!
Question: How does the PPC illustrate … scarcity?
…economic choice?
…opportunity cost?
Production Possibility Curve
A graphical depiction of the various production combinations
attainable assuming all resources are used efficiently.
Why not?
Question: Why isn’t the production possibility curve straight?
Answer à Law of Increasing Costs. The more of a given product we
produce, the greater its opportunity cost. Why? Not all resources are the
same; some are better suited to different sectors. When the automobile
sector gives up resources for the chair sector, it will give up the resources
that are the least suited to automobile production, and vice versa.
Not to be confused with “Allocative Efficiency”
Allocative efficiency is a state of the economy in which
production represents consumer preferences; in particular,
every good or service is produced up to the point where the
last unit provides a marginal benefit to consumers equal to the
marginal cost of producing.
Allocative
efficiency is
most popularly
illustrated by
market
equilibrium:
where supply
(marginal cost)
equals demand
(marginal
benefit).
A Note on Efficiency
The PPC model can illustrate productive efficiency by
showing a dot that is right on the PPC.
Why not?
Productive efficiency is a situation in which the economy could not
produce any more of one good without sacrificing production of another
good. The concept is illustrated on a production possibility frontier
(PPF), where all points on the curve are points of productive efficiency.
An improvement in technology or an innovation in
manufacturing methods associated with ONE
particular product (in this example, chairs) will also
create a new production possibility curve.
The new curve illustrates an increased efficiency associated with
chairs - but not automobiles.
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Naturally, an increase in population will create
a new production possibility curve with more
attainable combinations.
Exploring
Economic
Systems
The new curve illustrates an increased efficiency associated with
both products.
Command
Command Economy: (aka Communism or Centrally
Planned) An economy in which economic decisions are
made by a central authority, without input from the
citizenry.
Key Philosophy à “From each according to his abilities,
to each according to his needs.” (Karl Marx)
Market
Market Economy: (aka Free Enterprise or Capitalism) An
economy in which economic decisions are made by
private citizens. The forces of supply and demand play a
critical role in influencing these decisions.
Key Philosophy à “It is not from the benevolence of the butcher, the
brewer, or the baker that we expect our dinner, but from their regard
to their own interest.” (Adam Smith)
Answers to the three economic questions:
Answers to the three economic questions:
1. What
Whatever the central authority feels is
necessary.
1. What
Whatever will generate the greatest profit for
producers. Thus, whatever consumers want the most.
2. How
The central authority controls all economic
resources and directs workers to various areas.
2. How
Through the most efficient means possible. Citizens
are free to start businesses and seek employment.
3. For Whom
For everybody. Everyone receives an
equal share of the society’s output.
3. For Whom
For whoever has the money required to
purchase the output.
Mixed
Mixed Economy: (aka Modified Free Enterprise) An economy in
which economic decisions are made by both private citizens and a
central authority. The forces of supply and demand play a critical role
in influencing these decisions, as does the social conscience of the
government. Government decisions may also be influenced by public
will.
Answers to the three economic questions:
1. What
Whatever will generate the greatest profit for
producers. Whatever citizens demand
through government.
2. How
Through the most efficient means possible.
Citizens are free to start businesses and seek
employment with private or public firms.
3. For Whom
For whoever has the money required to
purchase the output, or the need for social
assistance from government.
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