Chapter 1 - Principles of Macroeconomics

economics

The study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided.

Why Study Economics?

To Learn a Way of Thinking

What are the three fundamental concepts of economics?

opportunity cost

marginalism

efficient markets

opportunity cost

The best alternative that we forgo, or give up, when we make a choice or decision

scarce

Limited

marginalism

The process of analyzing the additional or incremental costs or benefits arising from a choice or decision.

efficient market

A market in which profit opportunities are eliminated almost instantaneously.

Industrial Revolution

The period in England during the late eighteenth and early nineteenth centuries in which new manufacturing technologies and improved transportation gave rise to the modern factory system and a massive movement of the population from the countryside to the cities.

microeconomics

The branch of economics that examines the functioning of individual industries and the behavior of individual decision-making units—that is, firms and households.

macroeconomics

The branch of economics that examines the economic behavior of aggregates—income, employment, output, and so on—on a national scale.

What does behavioral economics study?

How people’s behavior and decision-making affect economic outcomes. Example: whether automatically enrolling people in savings programs increases household savings.

What does comparative economic systems study?

How resource allocation differs between different economic systems, such as market systems versus command-and-control systems.

What does econometrics study?

How to use economic data and statistical methods to make inferences about economic relationships. Example: making inferences from conditional moment inequalities.

What does economic development study?

How economic changes affect development and quality of life, especially in developing nations. Example: whether increasing employment opportunities for girls increases their educational achievement.

What does economic history study?

How economic events and changes in the past affected the economy. Example: how railroads and improved transportation changed the U.S. banking system in the 19th century.

What does environmental economics study?

How economic policies affect the environment. Example: whether a carbon tax reduces emissions and whether taxes are better or worse than regulations.

What does finance study?

How financial markets and activities affect the economy. Example: whether high-frequency trading is socially beneficial.

What does health economics study?

How economic factors affect healthcare decisions and outcomes. Example: whether patient co-pays change how insured patients choose and use medicines.

What does the history of economic thought study?

How economic ideas and theories developed over time. Example: how Aristotle thought about just prices.

What does industrial organization study?

How firms and industries behave and compete. Example: explaining price wars in the airline industry.

What does international economics study?

The benefits and costs of international trade, including how environmental concerns affect views on free trade.

What does labor economics study?

How economic policies and conditions affect workers and employment. Example: whether increasing the minimum wage decreases employment opportunities.

What does law and economics study?

How laws affect economic behavior and outcomes. Example: whether current U.S. patent law increases or decreases innovation.

What does public economics study?

How government policies and institutions affect the economy. Example: why corruption is more widespread in some countries than others.

What does urban and regional economics study?

How economic activity and policies affect different cities and regions. Example: whether enterprise zones improve employment opportunities in central cities.

positive economics

An approach to economics that seeks to understand behavior and the operation of systems without making judgments. It describes what exists and how it works.

normative economics

An approach to economics that analyzes outcomes of economic behavior, evaluates them as good or bad, and may prescribe courses of action. Also called policy economics.

model

A formal statement of a theory, usually a mathematical statement of a presumed relationship between two or more variables.

variable

A measure that can change from time to time or from observation to observation.

Ockham’s razor

The principle that irrelevant detail should be cut away.

ceteris paribus or all else equal

A device used to analyze the relationship between two variables while the values of other variables are held unchanged

post hoc, ergo propter hoc

Literally, “after this (in time), therefore because of this.” A common error made in thinking about causation: If Event A happens before Event B, it is not necessarily true that A caused B.

empirical economics

The collection and use of data to test economic theories.

Four criteria are important in judging economic outcomes:

1.Efficiency

2.Equity

3.Growth

4.Stability

Efficienct economy

one that produces what people want at the least possible cost.

equity

Fairness

economic growth

An increase in the total output of an economy.

stability

A condition in which national output is growing steadily, with low inflation and full employment of resources.

X-axis

The horizontal line against which a variable is plotted.

Y-axis

The vertical line against which a variable is plotted.

origin

The point at which the horizontal and vertical axes intersect

Y-intercept

The point at which a graph intersects the Y-axis.

X-intercept

The point at which a graph intersects the X-axis.

positive relationship

A relationship between two variables, X and Y, in which a decrease in X is associated with a decrease in Y and an increase in X is associated with an increase in Y.

negative relationship

A relationship between two variables, X and Y, in which a decrease in X is associated with an increase in Y and an increase in X is associated with a decrease in Y.

slope

A measurement that indicates whether the relationship between variables is positive or negative and how much of a response there is in Y (the variable on the vertical axis) when X (the variable on the horizontal axis) changes.

positive slope

indicates that increases in X are associated with increases in Y and that decreases in X are associated with decreases in Y.

negative slope

indicates the opposite—when X increases, Y decreases; and when X decreases, Y increases.

time-series graph

a type of graph used to display how a variable changes over time.