ECO 155 Dr. Mitchell Unit 1

Resources

Goods and Services

Scarcity

Insufficient resources to produce goods and services

Economic Goods

Things people want

Economic Bads

Things people don't want

Positive Economics

Looks at what is (testable)

Normative Economics

Looks at what should be (value judgment)

Normative

Example: Federal budget deficit should be smaller.

Positive

Example: Federal budget deficit is $300 billion.

Normative

Example: Minimum wage should be increased.

Positive

Example: An increase in minimum wage will increase the unemployment rate among Black males.

Factors of Production

Land, Labor, Capital, and Entrepreneurship

Rent

Factor payment of land

Wages

Factor payment of labor

Interest

Factor payment of capital

Profit

Factor payment of entrepreneurship

Opportunity Cost

Cost of the next best alternative use of money, time, or resources when one choice is made rather than another

Economizing

People know resources are scarce and will attempt to economize; equal cost → greater benefit; equal benefit → lesser cost

Incentives

Alter people's behavior

Margin

People examine benefits vs. costs

Do It

Marginal benefit > marginal cost

Don't Do It

Marginal cost > marginal benefit

Information

Is important but costly to obtain; collect information until marginal benefits = marginal cost

Economic Actions

Generate long-run effects that are different from short-run effects

Values

Are subjective

Ceteris Paribus

Everything is equal

Things to Avoid

1. Ceteris paribus; 2. Introducing bias, normative economics; 3. Not defining terms; 4. Fallacy of competition—what's true for an individual is true for a group; 5. Post hoc fallacy—correlation = causation

Positive Relationship

When the independent variable increases, the dependent variable increases

Negative/Inverse Relationship

When the independent variable increases, the dependent variable decreases

Complex Relationship

Positive and inverse components (parabola)

Production Possibilities Curve (PPC)

A curve showing the different combinations of two goods or services that can be produced in a full-employment, full-production economy where the available supplies of resources and technology are fixed

PPC Assumptions

1. Economy operating efficiently—full employment + full production + resources not sitting idle; 2. Resources fixed in quantity (factors of production); 3. Factors of production fixed in quality; 4. Technology (knowledge of how to turn resources into goods and services) is fixed

Law of Increasing Opportunity Cost

As you make more units of a good, the opportunity cost of making more increases

Increase in Production

Increase in quantity, quality, and technology

Division of Labor

Method to break down tasks into parts; allows society to make more goods and services, allows workers to take advantage of skills, workers who specialize can become skilled, and allows mass production

Comparative Advantage

When an economic agent can produce a good at a lower opportunity cost than another agent

Absolute Advantage

Economic agent makes more of a good than another economic agent

Economic Questions

1. What is produced? 2. How much? 3. How is the output to be produced? 4. How is it to be distributed? 5. Can the system adapt to change?

Economic Answers

1. Traditional economy—tradition sets rules; 2. Planned economy—bureaucrats make rules; 3. Market economy—answers through supply and demand; willingness to pay

Market

Institution/mechanism that brings together buyers and sellers of goods and services or resources

Demand

Schedule that shows various amounts of a product that consumers are willing to purchase at a specific price in a series of possible prices during some specified time frame

Law of Demand

Ceteris paribus—as prices increase, quantity demanded decreases; as prices decrease, quantity demanded increases

Income Effect

When price decreases, it's like you have more money; when price increases, it's like you have less money

Substitute Effect

When consumers react to an increase in a good's price by consuming less of that good and more of other goods

Determinants of Demand

1. Taste and preference; 2. Number of consumers; 3. Price of related goods; 4. Expectations of future; 5. Income

Normal Good

As income increases, demand increases; as income decreases, demand decreases

Inferior Good

As income increases, demand decreases

Substitute

Good X can substitute for good Y

Complement

Goods consumed together (car and car insurance)

Change in Quantity

Change in price

Change in Demand

Change in demand determinants

Change in Quantity Demanded

Barber increases price of haircuts and experiences a decline in sales

Change in Demand Example 1

Consumer incomes increase; as a result, the number of jewelry pieces purchased increases

Change in Demand Example 2

Price of Toyotas increases and, as a result, sales of Fords increase 2

Supply

Schedule which shows various amounts of a product that producers are willing and able to bring to market at each specific price in a series of possible prices during a specific time frame

Why Does Supply Slope Up?

Costs more to make more; height of supply curve tells how much it costs = marginal cost

Consumer Surplus

The difference between the highest price a consumer is willing to pay for a good or service and the actual price the consumer pays

Height of Demand Curve

Marginal utility or price willing to pay

Height of Supply Curve

Marginal cost

Producer Surplus

Difference between the price producers are willing to supply a unit of a good and the price they actually get

Consumer

To the consumer, price is an obstacle

Producer

To the producer, price is revenue per unit

Increase in Demand or Surplus

Shift right

Decrease in Demand or Surplus

Shift left

Determinants of Supply

1. Resource prices; 2. Technology; 3. Taxes and subsidies; 4. Prices of other goods; 5. Producer expectations; 6. Number of sellers in the market

Resource Prices

If resource prices increase, supply will decrease

Technology

If technology increases, supply increases

Number of Sellers

If the number of sellers increases, supply increases

Taxes and Subsidies

If taxes increase, supply decreases; if subsidy increases, supply increases

Producer Expectations

If the producer expects the future price to increase, supply decreases to sell later; if future price decreases, supply increases to sell now

Change in Price of Related Goods

If the cost of wheat increases, supply of corn decreases; if the cost of wheat decreases, supply of corn increases

Change in Supply

Change in determinants and new curve

Change in Quantity Supplied

Change in price and along curve

C in QS S

Due to a decline in price, fewer oranges are offered for sale S

C in S 1

Labor prices increase, resulting in Toyota producing fewer cars 1

C in SUP

Federal government increases subsidy for ethanol

Equilibrium

1. QD = QS; 2. No surplus or shortage; 3. Price = marginal cost; 4. Sum of consumer surplus and producer surplus is maximized