Lecture 1: Thinking Like an Economist - Scarcity, Methodology, and Economic Analysis

The Problem of Scarcity and the Economic Problem

  • Scarcity is defined as the central "economic problem."
  • Scarcity forces all entities in a society to make choices because it is impossible to have the total amount of goods and services desired.
  • Examples of Desires vs. Scarcity:
    • Individuals: Desire items like a bigger flat-screen TV.
    • Governments: Desire improvements to schools, highways, and high-speed internet networks such as the National Broadband Network (NBN).
  • The fundamental issue is that individuals and countries never have as much of all the goods and services they would like because there are insufficient resources to produce those goods and services.

The Factors of Production: Resources and Payments

  • Definition of Resources: Resources are the basic inputs used to produce goods and services. They are also known as the factors of production.
  • The Three Main Categories of Resources:
    • Land: Refers to any natural resource provided by nature used in production. Examples include forests, minerals, wildlife, oil, rivers, lakes, and oceans. These resources may be renewable or non-renewable.
    • Labour: Measured by the number of people available for work and the total number of workers. It encompasses the mental and physical capacity of workers to produce goods and services.
    • Capital: Relates to human-made goods that are used to produce other goods and services (e.g., machinery, tools, factories).
  • Entrepreneurship: This is a special type of labour and creative ability of individuals to organise and manage the combination of land, labour, and capital to produce goods and services.
  • Money and Capital: It is explicitly stated that money is not capital; money is a measure of value used to acquire resources, but is not a factor of production itself.
  • Functional Distribution of Income: Each resource corresponds to a specific type of payment in the economy:
    • Labour receives Wages.
    • Land receives Rent.
    • Capital receives Interest.
    • Enterprise (Entrepreneurship) receives Profits.
    • The sum of these equals the Total Product.

Defining Economics and the Scientific Method

  • Official Definition of Economics: Economics is the study of how society chooses to allocate its scarce resources to the production of goods and services in order to satisfy unlimited wants.
  • The Methodology of Economics: Economists utilize the scientific method, which is a step-by-step procedure for solving problems consisting of three stages:
    1. Identify the problem.
    2. Develop a model.
    3. Test the model.
  • Nature of Economic Models:
    • A model is a simplified view of reality.
    • It establishes relationships between variables, specifically causes and effects.
    • Models can be expressed verbally, graphically, or mathematically.
    • Logic of validation: A model is only valid when it enables economists to forecast or predict the results of various changes in variables.
    • Axiom: Albert Einstein stated, "Models should be as simple as possible, but not any simpler."

Case Study: Land Scarcity and the Zoning Effect

  • Sydney Real Estate Analysis (2016 Data):
    • Average Sydney house price: $1.16M\$1.16\text{M}.
    • Building cost: $395k\$395\text{k}.
    • Land cost: $765k\$765\text{k}.
    • Physical (marginal) land value: Only $277k\$277\text{k}.
    • The "Zoning Effect": The remaining $489k\$489\text{k} of the price reflects regulatory restrictions.
  • Impact on Housing Prices: Planning constraints and zoning restrictions raise house prices by the following percentages across Australian cities:
    • Sydney: +73%+73\%
    • Melbourne: +69%+69\%
    • Perth: +54%+54\%
    • Brisbane: +42%+42\%
  • Why Local Councils Zone Land: Councils aim to achieve five broad objectives:
    1. Separate Incompatible Land Uses: Keeping heavy industry away from homes to reduce noise, pollution, and traffic conflicts, and protect health. (Noted as the strongest and least controversial justification).
    2. Manage Infrastructure Capacity: Aligning development with the capacity for roads, schools, hospitals, water, and sewers to prevent congestion.
    3. Preserve Neighbourhood Character and Amenity: Controlling building height, density, and setbacks to maintain privacy and streetscapes. This is where zoning often becomes highly restrictive.
    4. Environmental and Heritage Protection: Protecting coastal areas, floodplains, bushfire-prone land, and heritage buildings.
    5. Local Political Accountability: Councils respond to existing voters/homeowners who oppose nearby densification ("Protecting character" is a political economy driver).

External Factors Increasing Construction Scarcity

  • Labour Shortages: The Australian construction industry faces acute shortages due to population growth, an ageing workforce, and reduced migration during COVID-19. Shortages are most severe for bricklayers, carpenters, electricians, and plumbers. In 20222022, 40–50%40\text{--}50\% of builders reported insufficient tradespeople.
  • Capital and Material Costs: Between 20202020 and 20232023, costs for timber, steel, and concrete surged, adding 10–20%+10\text{--}20\%\text{+} to total construction costs.
  • Geography and Regulation: Land scarcity is amplified in Sydney and Melbourne by urban boundaries and environmental protections, creating "regulatory scarcity rents."
  • Migration Policy: Migration is used to replenish skills, but COVID-19 border closures exacerbated labour scarcity. While post-pandemic migration has helped, regional shortages persist.
  • Supply Chain Constraints: Global disruptions (shipping delays, tariff uncertainty, factory closures) have reduced the availability of key inputs.

The Branches and Hazards of Economic Thinking

  • Microeconomics: Studies decision-making by single individuals, households, firms, industries, or levels of government.
  • Macroeconomics: Studies decision-making for the economy as a whole.
  • Hazard 1: Ceteris Paribus: A Latin term meaning "other things remaining unchanged." This assumption allows economists to isolate the effect of a single variable. Without it, if all variables change simultaneously, the cause of a specific outcome cannot be identified.
  • Hazard 2: Association vs. Causation:
    • Association (Correlation): Occurs when two variables move together systematically. This can be positive or negative, but does not claim one caused the other.
    • Examples of Spurious Association:
    • Increase in Facebook users (5.5m5.5\text{m} to 750m750\text{m} between 20052005 and 20112011) vs. the yield on 10-year Greek government bonds.
    • The popularity of the name "Ava" (281281 babies in 19911991 to 15,82615,826 in 20092009) vs. the U.S. Housing Price Index.
    • New York State murder rates vs. the shape of certain mountain ranges.
    • Causation: A change in one variable (X) directly produces a change in another (Y). There must be a clear mechanism or pathway. Example: Higher interest rates cause borrowing costs to rise.

Positive Versus Normative Economics

  • Positive Economics: Analysis limited to statements that are verifiable and testable. They can be proven true or false based on facts.
    • Examples: "Airbags save lives"; "Smoking is harmful to your health."
  • Normative Economics: Analysis based on value judgements or opinions. These statements cannot be proven true or false by facts.
    • Examples: "Every teenager who wants a job should have one"; "The government should allocate more money to education."