Unit 2 - Scarcity and Opportunity Costs

Why are choices necessary?

Because resources are scarce

Resources

Anything that can be used to produce something

Scarce

In limited supply; a resource is scarce when there is not enough of the resource available to satisfy all the various ways a society wants to use it

Economics

The study of how people make choices in the face of scarcity

Scarcity

Human wants for goods, services, and resources exceed what is available

Opportunity Cost

Indicates what you must give up in order to get something.

-The true cost of something

-The value of the “next best alternative forgone”

People should specialize in…

something in which they have a low opportunity cost

Ex: You are here because you chose to attend ARE 201!

-Alternatives: go to gym, sleep, work, play games, watch netflix, etc.

-Ranks: work, sleep, go to gym

What is the opportunity cost?

The opportunity cost is the benefits lost from not working - money, experience, etc

Ex: If and individual owns 100 acres of farmland, he/she has the decision of either farming the land or renting it to a neighbor. The cash rental rate is $200 per acre. What is the opportunity cost if the farmer decides to farm the land rather than renting it to his neighbor?

The opportunity cost (income foregone) is the benefits that come from renting the land - $20,000

Adam Smith

Introduced the idea of dividing labor into discrete tasks (the wealth of nation, 1776)

Division of Labor

The way in which different workers divide required tasks to produce a good or service

What does dividing and subdividing the tasks involved with producing a good or service produce?

It produces a greater quantity of output

Specialization

When workers or firms focus on particular tasks for which they are well-suited within overall production.

What does specialization allow businesses to do?

To take advantage of economics of scale

Economics of Scale

For many goods, as the level of production increases, the average cost of producing each individual unit declines

What does specialization have to do with workers?

Workers learn to be more efficient

Ex: Rachel could grow oranges or apples. She could grow 75 oranges or 100 apples using the same resources. The price of an oranges are $2.00/each and the price of apples are $1.00/each. What should she specialize in?

She should specialize in oranges because she can make more money

-75 oranges x $2.00 = $150

-100 apples x $1.00 = $100

What does specialization require?

Trade. Workers should be able to use the pay they receive for doing their jobs to purchase the other goods and services that they need.

What are the gains from trade?

Trade allows us to all consume more than we otherwise could.

Macroeconomics

The study of economy-wide activities such as economic growth, business fluctuations, inflation, unemployment, recession, depression, and booms.

Microeconomics

The study of individual decision-making units such as individuals, households, and firms.

Monetary Policy

Policy that involved altering the level of interest rates, the availability of credit in the economy, and the extent of borrowing.

Who determines monetary policy?

A nations central bank.

Fiscal Policy

Economic policies that involve government spending and taxes

Who determines fiscal policy?

A nation’s legislative body

Theory

A simplified representation of how two or more variables interact with eachother

What is a good theory?

Simple enough to understand, while complex enough to capture the key features of the object or situation you are studying

Models

Economists use models to test theories, but for this course we will use the terms model and theory interchangeably.

Positive Economics

(Facts; “What is”) Based on factual statements. Such statements contain no value judgements.

Normative Economics

(Opinions; “What should be”) Based on statements that contain opinions and/or value statements

Positive or Normative Economics? The market price of wheat is $3.82 per bushel.

Positive

Positive or Normative Economics? The marker price of cotton should be higher.

Normative

Positive or Normative Economics? The marker price of spinach should be higher.

Normative

Positive or Normative Economics? Environmentalists have an increasing voice in agricultural policy.

Normative

The Circular Flow Diagrams

Shows how households and firms interact in the goods and services market, and in the labor market.

-The direction of the arrows shows that in the goods and services market, households receive goods and services and pay firms for them

-In the labor market, households provide labor and receive payment from firms through wages, salaries, and benefits

Market Economy

(Capitalism; free markets) An economy where economic decisions are decentralized, private individuals own resources, and businesses supply goods and services based on demand.

Market

Interaction between potential buyers and sellers; a combination of demand and supply

Private Enterprise

System where private individuals or groups of private individuals own and operate the means of production (resources and businesses)

What do markets move to?

Equilibrium

Equilibrium

An economic situation in which no individual would be better off doing something different.

Economy is efficient if…

It takes all opportunities to make some people better off without making other people worse off.

What do markets usually lead to?

Efficiency

What happens when markets don’t achieve efficiency i.e. the market fails

Government intervention can improve society’s welfare

Command Economy

(Communism; dictatorship) An economy where economic decisions are passed down from government authority and where the government owns the resources

Mixed Economy

A combination of a market and a command economy

Most economies in the real world are…

Mixed - They combine elements of command, traditional, and market systems.

What type of economy is the US positioned towards?

The market-oriented end of the spectrum

What type of economy are many countries in Europe and Latin America positioned towards?

Primarily market-oriented, but have a greater degree of government involvement in economic decisions than the US economy.

What type of economy are China and Russia positioned towards?

They have moved more in the direction of having a market oriented system, but remain closer to the command economy end of the spectrum.