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GB540Economics for Global Decision Makers

Lecture 1Economic thinking

COMMONWEALTH OF AUSTRALIACopyright Regulations 1969

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(the Act).

The material in this communication may be subject to copyright under the Act. Any further reproduction or communication of this material by you may be the

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Do not remove this notice.

Topic Calendar

1. • Economic Thinking

2. • Economic Market Behaviour

3. • Utility and Market Models

4. • Measuring Economic Activity

5. • The Banking System

6. • Emerging Economies

7. • Critical Reflection

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EconomicsCourse Learning Outcomes

1.• Employ micro-economic tools for analysis, evaluation, and decision-making.

2.• Integrate concepts of regional, national, and global economic behaviour with macro-

economic theory.

3.• Evaluate ethical issues in economics.

4.• Demonstrate knowledge of global variations in economic market forms and

functioning.

5.• Apply economic theory and concepts to maximise the quality of economic decision-

making.

6.• Critically reflect on your skills and knowledge in global economics throughout this

subject.

Course AssessmentPlease see course outline for additional details

Graded activity Weighting Week due (AEST/AEDT)

Assessment 1: In class participation in case study analysis and discussion

questions

10% Over 6 weeks of workshops (In class)

Assessment 2: Short Answer Questions and case study

30% Friday of Week 4 by 11pm (AEST) on the portal

Assessment 3: In Class Presentation and Report

40% Presentation in Week 6 Workshop. Report due on Sunday of Week 6 by 9am (AEST)

on the portal

Assessment 4: Critical Reflection 30%Monday of Week 7 by 9am

AEST on the portal

Total 100%

Textbooks and Calculators

1. You need to purchase the below textbook:

Title: Economics: Principles, problems and policies, 19th

ed, McGraw-Hill/Irwin, New York, 2012

Author: McConnell, C., Brue, S. & Flynn, S.

ISBN: 978-0-07-351144-3

• Additional readings will be uploaded to the portal

2. You need a calculator for some questions

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Learning Materials

• Every week you will be provided with on the portal:

1. Interactive lecture slides with key concepts and class activities.

• Lectures will be interactive and you will need to prepare rough answers to activities before class. Answers are not on the slides and you will need to come to class to get final answers from your instructor.

2. Workshops for every week• These workshops will be available on the portal for each week and will include:

1. Review Questions: Attempt these before the class and the lecturer may go through some key questions in class

2. Case Study Questions: You need to prepare answers to these before the class every week and actively participate in class discussions to get marks for Assessment 1

3. Discussion Questions: You need to prepare answers to these before the class every week and actively participate in class discussions to get marks for Assessment 1

Lecture Activity KeyIcon Meaning Activity

Theory Question Attempt a theory question. Prepare before class.

Calculation or graphing Question

Attempt a calculation question or draw a graph. Prepare before

class.

Group Discussion Questions

Discuss the question in groups or as a class. Prepare before class.

Real World Case study Research Question

Students need to research the question before class and then

discuss in groups/class

Please remember that you need to attempt all lecture activities BEFORE class as well.

Class expectations

Therefore, before each class students should:

1. Read all relevant chapters of the textbook

2. Review and attempt activities in the lecture for the week

3. Prepare workshop for the week:

• Bring prepared answers for the case study and discussion questions (this counts for marks)

This course covers a lot of content and students will fall behind if they do not study in their own time and keep up with the readings, lectures and workshops.

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Topic 1:Required readings

(textbook)

• Chapter 1: Limits, alternatives and choices

• Chapter 2: The market system and circular flow

• Chapter 3: Demand, supply and market equilibrium

Learning ObjectivesAt the end of this week, students should:

1) Know how to think using economic theory

2) Understand the concept behind opportunity and choice

3) Explain the theory behind production possibilities cure

4) Apply the theory of marginal benefit and marginal cost

5) Comprehend the difference between positive and normative economics

6) Demonstrate competence in the use and analysis of demand, supply, and equilibrium.

11

LO1

Chapter 1: Limits, Alternatives and Choices

Microeconomics:• Study of how individuals and firms make

decisions and how markets function• http://www.theage.com.au/victoria/banana-prices-bend-up-as-

cyclone-shortage-hits-20110307-1bl65.html

• Discussion: What is happening to the price of bananas in the article and why?

• We can explain this event using economic models

Macroeconomics:• Study of the performance of the economies of

nation states• http://www.guardian.co.uk/business/2013/feb/28/spain-falls-

further-recession-gdp-plunges

• Discussion: What is a recession? Why did it happen?

• We will learn about this later in the course

1-12

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LO4

Positive and Normative Statements

When having an economic discussion (as on the previous page) we can make two types of

statements:

1. Positive economic statements are based upon facts without value judgements.

2. Normative economics are based upon subjective beliefs i.e. ‘what ought to be/ what should be’Normative economic statements come into play

at the level of policy economics.

1-13

LO1

Definitions

Economics: A social science concerned with making optimal choices under conditions of scarcity.

• Scarcity and choice

• What is scarcity?

• What is opportunity cost?

• Rational Behavior

• Marginal analysis

Comparing MB and MC. i.e. Should you study for one extra hour

for the exam?

• What is marginal benefit?

• What is marginal cost?1-14

LO1

Definitions

Economics defined:

• Scarcity and choice

• What is scarcity?

• Unlimited wants and limited resources

• What is opportunity cost?

• Next best alternative given up

• Marginal analysis

• What is marginal benefit?

• Extra (additional) benefit from consuming one more unit

• What is marginal cost?

• Extra (additional) cost from consuming one more unit

1-15

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LO4

Society’s Economizing Problem

Society has scarce (limited) resources

1. Land

• Natural resources i.e. water

2. Labor

• Worker contributions to making goods and services

3. Capital

• Manufactured aids used in producing goods and services i.e. roads. Does not include money capital

4. Entrepreneurial Ability

1-16

LO4

Society’s Economizing Problem

Entrepreneurial ability involves:

• Taking initiative

• Making decisions

• Innovating

• Taking risks

Who are these entrepreneurs?

1-17

LO5

Production Possibilities Model

• Illustrates production choices given scarce resources and illustrates the concept of opportunity cost.

• Assumptions:

1. Full employment

2. Fixed resources

3. Fixed technology

4. Two goods are produced in the economy

1-18

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LO5

Production Possibilities Table

Type of Product

Pizzas

Industrial Robots

Production Alternatives

A B C D E

10 9 7 4 0

0 1 2 3 4

1-19

1. Draw this PPC model based on the table above.2. What is the opportunity cost of going from B to C?3. What is the opportunity cost of going from D to E?4. Why is the opportunity cost increasing as we move

along the curve?

LO5

Production Possibilities Curve

Refer the diagram and answer these questions in groups.1. If you want to produce

more Pizzas what is your opportunity cost?

2. If you are using all your available resources and technology what are your production possibilities?

3. If you are underutilizing your resources where do you produce?

4. If you want to produce outside the PPC what do you need to do?

1-20

Pizzas

Ind

ust

ria

l Ro

bo

ts

Attainable

0 1 2 3 4 5 6 7 8 9

14

13

12

11

10

9

8

7

6

5

4

3

2

1

Unattainable

AB

C

D

E

U

Why is the PPC bowed out?

Where on the PPF do we produce?

LO5

a

b

c

d

e

MB = MC

MC

MB

15

10

5

01 2 3

Quantity of Pizza

Ma

rgin

al B

en

efi

t &

Ma

rgin

al C

os

t

1-21

The economy decides how much pizza to produce similarly to a person. It must compare the marginal benefit to the marginal cost of producing pizza. The optimal amount of pizza is where the marginal benefit equals marginal cost of producing another unit of pizza.

MC slopes up due to increasing opportunity costs with each unit.MB slopes down due to the law of diminishing marginal utility with each unit consumed.

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LO6

A Growing Economy

• Economic Growth

• Drop the assumption that quantity of resources and technology is fixed

• How do we increase (grow) our production possibilities?

1. Increase our resources

2. Improve resource quality

3. Improve technology

1-22

LO6

A Growing Economy

Pizzas

Ind

us

tria

l R

ob

ots

Attainable

0 1 2 3 4 5 6 7 8 9

14

13

12

11

10

9

8

7

6

5

4

3

2

1

Unattainable

A

B

C

D

E

EconomicGrowth

Now Attainable

A’

B’

C’

D’

E’

1-23

LO6

Present Choices, Future Possibilities

Goods for the Present

Go

od

s fo

r th

e F

utu

re

Go

od

s fo

r th

e F

utu

re

Goods for the Present

P

F

CurrentCurve

CurrentCurve

FutureCurve

FutureCurve

Presentville Futureville

1-24

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Chapter 1: Review Quiz

1. Economics involves marginal analysis because:A. most decisions involve changes from the present situation.B. marginal benefits always exceed marginal costs.C. marginal costs always exceed marginal benefits.D. much economic behavior is irrational.

2. Which of the following is a positive statement?A. The humidity is too high today.B. It is too hot to jog today.C. The temperature is 92 degrees today.D. Summer evenings are nice when it cools off.

3. Refer to the above diagram. Other things equal, this economy will achieve the most rapid rate of growth if:A. the ratio of capital to consumer goods is minimized.B. it chooses point C.C. it chooses point B.D. it chooses point A.

Chapter 2: Economic Systems

•An economic system is a set of institutional arrangements or coordinating mechanism (market or state)

•Differences in systems exist by:

1. Who owns the factors of production (land, labour, capital)

• Who owns factors in a command economy? In a market economy?

2. What method is used to motivate, coordinate, and direct economic activity and distribute goods/services

• What methods is used in a command economy? In a market (capitalist) economy?

LO1 2-26

What type of economic system is the Australian economy?

Demise of Command Systems

Soviet Union, Eastern Europe, North Korea and China

System Failures

1. The coordination problem•Set output targets for all goods

2. The incentive problem•Production was not motivated by demand but by centrally

set targets

•No adjustments for surplus or shortage

LO4 2-27

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Characteristics of the Market System

•Private property

•Freedom of enterprise and choice

•Self-Interest

•Competition

•Markets and prices

LO2 2-28

Can you explain any of these features?

Economic Questions (Market System)

1. What goods and services will be produced?• Dollar votes determine profitable industries

2. How will the goods and services be produced?• Minimize the cost per unit by using the most efficient techniques

3. Who will get the goods and services?• Distribution based on ability and willingness to pay

4. How will the system accommodate change?• The market responds to changes in preferences, resources and

technology.

5. How will the system promote progress• Technological advancement and capital accumulation increases

output per person and standard of living

• Question: Does this progress take into account resource depletion and climate change?

LO1 2-29

3. Who will get goods and services?

• In a market economy this is whoever has the income to purchase the goods and services at the market price

• People acquire income by owning the factors of production (land, labour, capital, human capital, entrepreneurship) and earning rent, wages, profit etc.

LO1 2-30

Big Question: Do you think factors of production and therefore income is distributed equally/ fairly?

• “The rich (who often own the factors of production) are getting richer and the poor are getting poorer”

• Discussion: Should government intervene?

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Inequality in AustraliaSource: Source: Source: Source: http://www.treasury.gov.au/PublicationsAndMedia/Publications/2013/Economic-Roundup-Issue-2/Economic-Roundup/Income-inequality-in-Australia

GiniCoefficient: Measures the extent of income inequality between 0-1.Closer to 0 means more equality. When it is1 this means one household receives all income

1995

2010

Discussion:1) What has happened to income inequality in Australia in the 15 years

between 1995 and 2010 according to the Gini coefficient?

The Circular Flow System

RESOURCE

MARKET

•Households sell

•Businesses buy

PRODUCT

MARKET

•Businesses sell

•Households buy

BUSINESSES

• buy resources

• sell products

HOUSEHOLDS

• sell resources

• buy products

LO5 2-32

Chapter 2: Review Quiz1. Which of the following is a distinguishing feature of a market system?

A. public ownership of all capital.B. central planning.C. wide-spread private ownership of capital.D. a circular flow of goods, resources, and money.

2. A fundamental difference between the command system and the market system is that, in command systems:

A. the division of output is decided by central planning rather than by individuals operating freely through markets.B. all economic decisions are made by the government, whereas there is no government in a market system.C. scarcity does not exist, whereas it does in a market system.D. money is not used, whereas it is in a market system.

3. The simple circular flow model shows that:A. households are on the buying side of both product and resource markets.B. businesses are on the selling side of both product and resource markets.C. households are on the selling side of the resource market and on the buying side of the product market.D. businesses are on the buying side of the product market and on the selling side of the resource market.

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Chapter 3: Markets

•A market is any arrangement that enables buyers and sellers to get information and do business with each other.

•A competitive market is a market that has many buyers and many sellers, so no single buyer or seller can influence the price.

•The price is determined by the interaction of consumer demand and producer supply

LO1 3-34

Law of Demand

•Other things equal, as price falls, the quantity demanded rises, and as price rises, the quantity demanded falls.

•Reasons:•Common sense

•Law of diminishing marginal utility

•Income effect and substitution effects

LO1 3-35

Demand Curve

•The Demand Schedule or Curve is•Amount consumers are willing and able to purchase at a given price

•Other things equal

•Individual v Market Demand Curves•Individual demand schedule is for one consumer

•Market demand schedule is an aggregate of demand schedules for all buyers in the market

LO1 3-36

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6

5

4

3

2

1

0 10 20 30 40 50 60 70 80 Quantity Demanded (bushels per week)

Pri

ce (

per

bu

sh

el)

P Qd

$5

4

3

2

1

10

20

35

55

80

P

Q

D

The Demand Curve

LO1

Indivudual Demand Curve

3-37

Market Demand Curve

LO1

Market Demand for Corn, Three Buyers

Priceper bushel

Quantity Demanded Total Qd

per weekJoe +Jen +Jay

$5 10 12 8 30

4 20 23 17 60

3 35 39 26 100

2 55 60 39 154

1 80 87 54 221

3-38

0

50

100

150

200

250

$0 $1 $2 $3 $4 $5 $6

pri

ce

Market Qd per week

Market for Corn (Bushels/Week)

Changes in Demand v Changes in Quantity Demanded

LO1

6

5

4

3

2

1

0

Quantity Demanded (bushels per week)

Pri

ce (

per

bu

sh

el)

P

Q

D1

2 4 6 8 10 12 14 16 18

D2

D3

Change in Demand

Change in Quantity

Demanded

3-39

Changes in Quantity Demanded (Movement ALONG the curve) are caused by changes in price as per the law of demand

Changes in Demand (Movement OF the curve) are caused by non-price determinants

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Non-Price Determinants of Demand

LO1

Table 3.1 Determinants of Demand: Factors That Shift the Demand Curve

Determinant Examples

Change in buyers’ tastes Physical fitness rises in popularity, increasing the demand for jogging shoes and bicycles; cell phone popularity rises, reducing the demand for land-line phones.

Change in the number of buyers A decline in the birthrate reduces the demand for children’s toys.

Change in income A rise in incomes increases the demand for normal goods such as restaurant meals, sports tickets, and necklaces while reducing the demand for inferior goods such as cabbage, turnips, and inexpensive wine.

Change in the prices of related goods

A reduction in airfares reduces the demand for bus transportation (substitute goods); a decline in the price of DVD players increases the demand for DVD movies (complementary goods).

Change in consumer expectations Inclement weather in South America creates an expectation of higher future coffee bean prices, thereby increasing today’s demand for coffee beans.

3-40

Law of Supply

•Other things equal, as the price rises, the quantity supplied rises and as the price falls, the quantity supplied falls.

•Reason:

•Price acts as an incentive to producers

•At some point, costs will rise

LO2 3-41

Supply Curve

•The Supply Schedule or Curve is•Amount producers are willing and able to supply at a given price

•Other things equal

•Individual v Market Supply Curves•Individual supply schedule is for one producer•Market supply schedule is an aggregate of supply schedules for all producers in the market

LO2 3-42

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Changes in Supply

LO2

$6

5

4

3

2

1

0

Pri

ce (

per

bu

sh

el)

S1

Quantity supplied (thousands of bushels per week)

2 4 6 8 10 12 14 16

P

Q

S2

S3

Change in Quantity

Supplied

Change in Supply

3-43

Changes in Quantity Supplied (Movement ALONG the curve) are caused by changes in price as per the law of supply

Changes in Supply (Movement OF the curve) are caused by non-price determinants

Non-Price Determinants of Supply

LO2

Table 3.2 Determinants of Supply: Factors That Shift the Supply Curve

Determinant Examples

Change in resource prices A decrease in the price of microchips increases the supply of computers; an increase in the price of crude oil reduces the supply of gasoline.

Change in technology The development of more effective wireless technology increases the supply of cell phones.

Change in taxes and subsidies An increase in the excise tax on cigarettes reduces the supply of cigarettes; a decline in subsidies to state universities reduces the supply of higher education.

Change in prices of other goods An increase in the price of cucumbers decreases the supply of watermelons.

Change in producer expectations An expectation of a substantial rise in future log prices decreases the supply of logs today.

Change in the number of suppliers An increase in the number of tattoo parlors increases the supply of tattoos; the formation of women’s professional basketball leagues increases the supply of women’s professional basketball games.

3-44

Market Equilibrium

•Equilibrium occurs where the demand curve and supply curve intersect

• At equilibrium there is no surplus and shortage due to the rationing function of prices

•At equilibrium there is:•Productive efficiency

•Allocative efficiency

LO3 3-45

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Getting to Equilibrium

LO3

6

5

4

3

2

1

02 4 6 8 10 12 14 16 18

Bushels of Corn (thousands per week)

Pri

ce (

per

bu

sh

el)P Qd

$5

4

3

2

1

2,000

4,000

7,000

11,000

16,000

P Qs

$5

4

3

2

1

12,000

10,000

7,000

4,000

1,000

7

3

D

S6,000 Bushel

Surplus

7,000 Bushel

Shortage

3-46

1. What is the equilibrium price?2. What is the surplus at a price of $4? How does the market get back to equilibrium?3. What is the shortage at a price of $2? How does the market get back to equilibrium?

Getting to Equilibrium

LO3

6

5

4

3

2

1

02 4 6 8 10 12 14 16 18

Bushels of Corn (thousands per week)

Pri

ce (

per

bu

sh

el)P Qd

$5

4

3

2

1

2,000

4,000

7,000

11,000

16,000

P Qs

$5

4

3

2

1

12,000

10,000

7,000

4,000

1,000

7

3

D

S6,000 Bushel

Surplus

7,000 Bushel

Shortage

3-47

1. Where Qd=Qs at a price of $3 2. 6000 Bushels. Producers compete by decreasing price and Qd↑ Qs↓ until Qs=Qd 3. 7000 Bushels. Consumers compete and increase price and Qd ↓ Qs ↑ until Qs=Qd

Efficient Allocation

•Productive efficiency

•Producing goods in the least costly way

•Using the best technology

•Using the right mix of resources

•Allocative Efficiency

•Producing the right mix of goods for society

•The combination of goods most highly valued by society•Where MB=MC

LO3 3-48

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`̀̀̀Changes in Demand and Equilibrium

LO4

0

P

D4

D3

`̀̀̀Changes in Demand and Equilibrium

LO4

0

P

D1

D2

S

Increase in demand

D increase:P↑↑↑↑, Q↑↑↑↑

D decrease:P↓↓↓↓, Q↓↓↓↓

Decrease in demand

S

3-49

Exchange Rates

LO6

D1

S1

Q1

$1.25

Quantity of euros

Do

lla

r p

ric

e o

f 1

eu

ro

D2

0

$1.50

Q2

3-50

Exchange rates – the price of one country’s currency in terms of another country’s currency

Currency appreciationCurrency depreciation

`̀̀̀Changes in Demand and Equilibrium

LO4

0

P

D

S4

`̀̀̀Changes in Supply and Equilibrium

LO4

S3

0

P

D

S2S1

Increase in supply

S increase:P↓↓↓↓, Q↑↑↑↑

S decrease:P↑↑↑↑, Q↓↓↓↓

Decrease in supply

3-51

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Concurrent Shifts

LO4

TABLE 3.3 Effects of Changes in Both Supply and Demand

Change in Supply Change in Demand

Effect on Equilibrium

Price

Effect on Equilibrium

Quantity

1. Increase Decrease Decrease Indeterminate

2. Decrease Increase Increase Indeterminate

3. Increase Increase Indeterminate Increase

4. Decrease Decrease Indeterminate Decrease

3-52

The lecturer will allocate a case to you and you need to draw the shifts.You have 3 minutes.

Government Set Prices

•Price Ceilings

•Set below equilibrium price

•Rationing problem

•Black markets

•Example: Rent control

LO5 3-53

Rent Control

LO5

SP

Q

D

P0

PC

Q0

Shortage

QdQs

ceiling$3.50

3.00

3-54

1. What is a price ceiling? What is the price ceiling enforced here?2. Why does this price ceiling create a shortage?

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Government Set Prices

•Price Floors

•Prices are set above the market price

•Chronic surpluses

•Example: Minimum wage laws

LO5 3-55

Minimum Wage

LO5

S

P

Q

D

P0

Pf

Q0

Surplus

QsQd

floor

2.00

$3.00

3-56

1. What is a price floor? What is the price floor enforced here?2. Why does this price ceiling create a shortage?

Chapter 3: Review Quiz

1. In the past few years, the demand for donuts has greatly increased. This increase in demand might best be explained by:A. an increase in the cost of making donuts.B. an increase in the price of coffee.C. consumers expecting donut prices to fall.D. a change in buyer tastes.

2. An improvement in production technology will:A. increase equilibrium price.B. shift the supply curve to the left.C. shift the supply curve to the right.D. shift the demand curve to the left.

3. Surpluses drive market prices up; shortages drive them down.True or False?

4. If demand increases and supply simultaneously decreases, equilibrium price will rise.True or False?

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Topic 1 Summary

• Economics examines how individuals and groups make choices about using limited resources with the goal of maximising their wellbeing.

• Economics assumes that individuals are rational and make decisions based on comparisons of marginal benefits and marginal costs.

• Positive economics is based on objective facts and evidence. Normative economics is concerned with subjective opinions and judgments.

• Economic decisions about the allocation of resources require comparisons between marginal benefits and marginal costs. The optimal amount of activity occurs when the marginal cost and marginal benefit are equal.

• ‘Needs’ and ‘wants’ are not the same. Human ‘needs’ are the things we must have to survive and these are limited.

• Whilst ‘wants’ are unlimited, demand curves show how much of an item will be purchased at different prices.

• Supply curves show how much of an item will be provided by producers at different prices.

• The equilibrium point is where demand and supply curves intersect and the market clears (i.e. the quantity purchased/demanded equals the quantity supplied).

– Buyers are receiving just enough value to make the sacrifice of money worthwhile. Sellers are receiving just enough money to make the sacrifice of their goods and services worthwhile.

60

The END

Materials are adapted from the textbook:

Economics by McConnell et al. (2012).