Chapter 1 The Economic Way of Thinking

Section 1

Scarcity: The Basic Economic Problem

What is Scarcity?

As humans we always want more no matter how much they already have.

Wants- desires that can be satisfied by consuming a good or service

Wants also are not considered necessities (cell phone, car, special kind of food, certain type of clothes, etc.)

Needs-The basic necessities of life for survival (food, water, clothing, shelter)

What is Scarcity?

Wants are unlimited but on the other hand resources are limited and this is what scarcity is because there are not enough resources to match human wants

Economics is a social science designed to understand and explain scarcity and how people choose to use scarce resources to satisfy their wants and needs.

Economics involves the following 3 principles: 1. examining how people choose to use scarce resources

2. organizing, analyzing, and interpreting data about those behaviors

3. developing theories and economic that explain how the economy works and to predict what might happen in the future.

Wants

People have wants and have many choices to deal with these wants

These wants are based off needs as well as desires

Food is a need but wanting certain types of foods can be a want

Type of clothes a person wears is classified as a want

Scarcity

Wants are unlimited but resources are scarce so choices have to be made on how best to use these resources so they will last

Goods are a physical object you may purchase or Services are work done for a person by another person.

Scarcity affects the choices of the Consumer or the person buying the good or service as well as the Producer or the person making the goods or providing the services.

Scarcity Leads to Three Economic Questions

Anytime you have to decide whether an object is worth the money to purchase something you are experiencing scarcity

The 1st fundamental question of economics:

What will be produced?

A lot of times this is determined by the natural resources that are available to that particular area.

Some countries allow the producers and consumers to decide what is to be produced while in other countries the people have little say in this process the Government decides for them

This question not only asks what to produce but also is very key in stating how much of something to produce

Scarcity Leads to Three Economic Questions

The 2nd fundamental question is:

How will it be produced?

In order to answer this question a society must use scarce resources in the most efficient way to satisfy a societies wants.

This is dependent on the resources available to that region and varies based off of their resources

Scarcity Leads to Three Economic Questions

The 3rd fundamental question is:

For whom will it be produced?

How much should people get and how should their share be delivered to them?

Should everyone’s share be equal?

Should a person’s share be determined based on how much he or she is willing to pay or work for it?

After a society determines the answers to the above questions they then need to figure out a way to distribute the goods to the people.

The Factors of Production

In order to understand the first 2 basic questions (what to produce and how to produce it) you must first identify the factors of production the economic resources needed to produce goods and services

The factors of production are divided into 4 broad categories:

Land – Natural resources on or under the ground that are used to produce goods and services.

Labor – All the human time, effort, and talent that go into the making of products

Capital – All the resources made and used by people to produce and distribute goods and services. ALL of the producers physical resources are considered capital.

Entrepreneurship – The combination of vision, skill, ingenuity, and willingness to take risks that is needed to create and run new businesses.

Section 2

Economic Choice Today:Opportunity Cost

Making Choices

Choices are key in Economics and incentives (or benefits from the choices) encourage people to act in certain ways.

(Grades, money, praise, etc.)

Utility (benefit or satisfaction gained from the use of a good or service) is also key in choices people make

These factors cause us to economize or make decisions based on what you believe is the best combination of costs and benefits.

Making Choices

Motivation for choices is very important because the power of choice is what powers an economy to become successful

In other words you weigh the costs against the benefits and decided which is the better option

A key term in economics is the phrase “There is No Such Thing as a Free Lunch” everything in life costs something be it time, money, or anything else that you may value.

If you choose to go to dinner instead of studying you will fill the need of hunger but you will cost yourself the ability to make a better grade on your test.

Trade-Offs and Opportunity Cost

Trade – Offs is where you trade off 1 object to have better gains in another object.

1 example would be if you chose to workout early in the morning you will trade off the ability to sleep in for the opportunity to better yourself through exercise in the morning.

Opportunity Cost is another option where the value of the next best alternative over another option.

The cost of this is for example, if you have a job making good money but choose to quit that job to go back to school the opportunity cost would be the income you lose in order to go back to school.

Or basically what you gave up to get what you wanted.

Analyzing Choices

When you have these options your choices are considered a cost-benefit analysis where you examine each choice and weigh your options to ensure you make the proper decision.

This is the most important tool for businesses and individuals as it molds whether you make wise or poor decisions economically

The easiest way to deal with this is to setup a chart to weigh out the pro’s and con’s of your choices and then decide on the best option based on those answers.

Analyzing Choices

When you deal with this you also have to look at marginal cost (the cost of using 1 more unit of good or service) or marginal benefit ( the benefit or satisfaction of using 1 more good or service)

The analysis of marginal cost and marginal benefit is central to the study of economics as it explains the decisions of producers and consumers.

Section 3

Analyzing Production Possibilities

Graphing the Possibilities

In order to better understand the possibilities of economic choices Economists have created economic models (simplified representations of complex economic activities.)

A Production Possibilities Curve (PPC) is a graph used to illustrate the impact of scarcity on an economy

A PPC has the following assumptions:

1. Resources are fixed – you got what you got no way to create more of natural resources

2. All resources are fully employed – Do not waste resources

3. Only 2 things can be produced – this makes the graph easier and more accurate and you can see the full realm of variables on it.

4. Technology is fixed – there are no technological breakthroughs on production everything is based off of same scale.

What We Learn from PPC’s

Efficiency and underutilization are 2 key concepts that can be learned from a PPC.

Efficiency (or getting the most production out of something) is very important and allows businesses to be the most productive and most profitable

Underutilization or overutilization would be in-efficient and would make the business look for ways to adjust their production to meet the needs of the consumer better.

PPC Graph

What We Learn from PPC’s

The Shape of the graph also teaches us the law of increasing opportunity costs when you shift from one product to another more resources are needed to increase the production the 2nd product thus creating more opportunity cost to rise.

Changing Production Possibilities

The PPC illustrates a countries production possibilities but as time passes countries generally generate new possibilities of production and you show this by creating another curve outward of the original curve

The ability to produce more shows a curve to the right a decrease in possibility of production is shown by a curve to the left

Section 4

The Economist’s Toolbox

Working With Data

Economics is everything we already know expressed in a language we don’t understand is a saying some like to say about economics

Economists use statistics to predict information since there is no way to poll every person on every topic

They take this date and create models and charts in order to better predict information about varying economic topics.

Charts and tables display information in rows and columns

Graphs (visual representation of numerical representations) the most common are line graphs, bar graphs, and pie graphs.

Microeconomics and Macroeconomics

Micro (small) economics means it focuses on small portions of economics which include price, costs, profit, competition, and the behavior of consumers and producers

Micro study of the individual consumer

Macro (large) economics means the “big picture” of economics. Macro would be more of the study of a nation as a whole or the world as a whole.

Macro study of the whole consumer sector

Positive Economics and Normative Economics

Positive economics is another way to study economics it is basically the study of economics how it is not how it should be

Positive uses the Scientific Method to observe data, hypothesize, test, refine, and continue testing.

Normative economics is a study of how economic behavior should be not how it actually is

Normative is more based on value judgments and is based more on the economists personal feelings of how an item will effect society.

Adam Smith

In 1776 Adam Smith wrote An Inquiry into the Nature and Causes of the Wealth of Nations

He argued that a nation could become wealthier through free trade as opposed to mercantilism (where the government controlled trade with it’s colonies)

He said that people would naturally look for ways to better themselves through this practice

This in turn makes an “invisible hand” guide the economy as people work to better what they currently have and both the buyer and seller better themselves

Because of this he became the father of Modern Economics