Econ1101 Chapter 2 Fall 2024 - Spring 2025

Principles of Microeconomics

Thinking Like an Economist

• Course code: ECON1101

• Offered: Fall 2024 - Spring 2025

The Economist as a Scientist

Overview

• Scientific Method:

  • Involves Observation, Theory, and Further Observations.

  • Economists act as scientists by devising theories, collecting data, analyzing data, and verifying/refuting their theories.

Key Concepts

• Economics as a Science:

  • Economists study human behavior and societal trends rather than physical phenomena.

  • They use the scientific method tailored to social sciences.

The Role of Assumptions

• Assumptions simplify complex realities, facilitating understanding.

• The art of scientific thinking involves making the right assumptions for specific questions.

• Different assumptions can yield different analytic paths to short-run or long-run effects.

Economic Models

• Elements of Economic Models:

  • Circular-Flow Diagram

  • Production Possibilities Frontier (PPF)

  • Distinction between Microeconomics and Macroeconomics.

The Circular Flow Model

• Diagram illustrates economic organization:

  • Households and firms make decisions and interact within markets.

  • Households act as buyers in goods/services markets and sellers in factors of production markets.

• Flow Dynamics:

  • Outer arrows represent dollar flow; inner arrows represent input/output flow.

Production Possibilities Frontier (PPF)

Definition and Purpose

• A graph showing potential production combinations of two goods (e.g., cars and computers).

• Indicates the maximum output possibilities given production factors and technology.

Key Points

• Points on or inside the frontier indicate achievable production levels.

• Points outside are infeasible under current resources.

• Slope represents opportunity cost, reflecting trade-offs in production decisions.

Efficient and Inefficient Production

Efficient Production

• Achieved when resources are fully utilized (represented by points on the frontier).

• Trade-offs: Increasing production of one good necessitates decreasing another.

  • Example: Moving from point A to B results in giving up 200 computers for 100 cars.

Inefficient Production

• Represented by points inside the PPF.

• Opportunity cost involves sacrificing quantities of one good to produce another.

Bowed Outward PPF

• Indicates that opportunity cost varies based on production levels:

  • Higher opportunity cost of cars when producing more cars relative to computers and vice versa.

• Related to resource specialization.

Technological Advances and Economic Growth

• Advances can shift the PPF outward, enabling increased production of both goods.

• Example: Improvement in computer production leading to more overall output without sacrificing cars.

Positive vs. Normative Analysis

Definitions

• Positive Statements:

  • Descriptive, empirical claims about the world (e.g., “Minimum-wage laws cause unemployment”).

• Normative Statements:

  • Prescriptive claims about what ought to be (e.g., “The government should raise the minimum wage”).

Important Concepts

• Fallacy of Composition:

  • Assuming what is true for an individual is also true for a group.

• Association vs. Causation:

  • Correlation does not imply causation in economic contexts.

Economists as Policy Advisors

Role of Economists in Government

• Economists serve in various capacities:

  • Council of Economic Advisers (advising the president)

  • Departments (Treasury, Labor, etc.)

  • Congressional Budget Office

  • Federal Reserve

Economic Agreement Propositions

• Reflect consensus among economists:

  • Specific issues such as rent ceilings, tariffs, flexible exchange rates, and fiscal policies, detailing compliance percentages from economists.

Conclusions

• The study of microeconomics emphasizes the blend of scientific methods with real-world applications through frameworks and models.

• Understanding these concepts is crucial for analyzing economic behavior and policymaking.