MICROECONOMICS 101

MARILYN P. ALLANIGUE, MMC, MPAAugust 17, 2014

WHAT IS ECONOMICS?Economics covers all kinds of topics. But at the core it is devoted to understanding how society allocates its scarce resources.

Economist from pre-war to modern world define economics as the following:

ECONOMICS ASKS WHAT GOODS ARE PRODUCES, HOW THESE GOODS ARE PRODUCED AND FOR WHOM

THEY ARE PRODUCED

ECONOMICS ANALYZES MOVEMENT IN THE OVERALL ECONOMY – TRENDS IN PRICES, OUTPUT,

UNEMPLOYMENT, AND FOREIGN TRADE. ONCE SUCH TRENDS ARE UNDERSTOOD, ECONOMIST HELPS

DEVELOP THE POLICIES BY WHICH GOVERNMENTS CAN IMPROVE THE PERFORMANCE OF THE ECONOMY.

ECONOMICS IS THE STUDY OF COMMERCE AMONG NATIONS. IT HELPS EXPLAINS WHY NATIONS

EXPORTS SOME GOODS AND IMPORT OTHERS, AND ANALYZES THE EFFECT OF PUTTING ECONOMIC

BARRIERS AT NATIONAL FRONTIERS

ECONOMICS IS THE SCIENCE OF CHOICE. IT STUDIES HOW PEOPLE CHOOSE TO USE SCARCE OR LIMITED

PRODUCTIVE RESOURCES (LABOR, EQUIPMENT, TECHNICAL KNOWLEDGE), TO PRODUCE VARIOUS

COMMODITIES (SUCH AS WHEAT, OVERCOATS, CONCERTS AND MISSILES) AND TO CONTRIBUTE

THESE GOODS FOR CONSUMPTION.

ECONOMICS IS THE STUDY OF MONEY, BANKING, CAPITAL AND WEALTH.

AMONG THESE DEFINITION, THE MOST COMMON THEME IS –

ECONOMICS IS THE STUDY HOW SOCIETIES USE SCARCE

RESOURCES TO PRODUCE VALUABLE COMMODITIES AND

DISTRIBUTE THEM AMONG DIFFERENT PEOPLE.

TWO BRANCHES OF ECONOMICS

MACROECONOMICS – functions of economy as a whole

MICROECONOMICS – analyzes the behavior of individual components like industries, firms and households such as the producer and consumer/households make decisions to allocate limited resources

THREE PROBLEMS OF ECONOMIC

ORGANIZATIONEvery gun that is made, every warship

launched, every rocket fired signifies, in the final sense, a theft those who

hunger and are not fed. – President Dwight D. Eisenshower

1.What commodities are to be produced and in what quantities? How much of each of the many possible goods and services should the economy make? And when they will be produced?

2. How shall goods be produced? By whom and with what resources and in what technological manner are they to be produced?

3.For whom shall goods to be produced? Who gets to eat the fruit of the economy’s efforts? How is the national product to be divided among different households? Are we to have a society in which a few are rich and many poor? Shall high incomes go to managers or workers or landlords? Shall the selfish inherent the earth? Shall the lazy eat well?

INPUTS AND OUTPUTSIN ECONOMIC LANGUAGE, THE THREE CENTRAL ECONOMIC

TASKS OF EVERY SOCIETY ARE REALLY ABOUT CHOICES AMONG AN ECONOMY’S INPUTS AND OUTPUTS

• INPUTS are commodities or services used by firms in their production processes.

•OUTPUTS are the various useful goods or services that are either consumed or employed in further production.

THREE CATEGORIES OF INPUTS

•LAND – generally the natural resources, the gift of the nature for our productive processes•LABOR – consists of the human time spent in production•CAPITAL – resources form the durable goods of an economy, produced in order to produce other goods

MARKET, COMMAND AND MIXED ECONOMICS

COMMAND ECONOMY – is directed by centralized control of government.

In a command economy, the government answers the major economic questions through its ownership of resources and its power to enforce decisions.

MARKET ECONOMY – is guided by an informal system of prices and profits in which most decisions are taken by private individuals and firms.

Consumption is determined by individual’s decisions about how to spend the wages and property incomes generated by their labor and property ownership.

IN A MARKET ECONOMY, THESE QUESTIONS ARE HANDLED BY THE

MARKET• WHAT & HOW MUCH TO PRODUCE:determined by demand & supply conditions, individual choices, & pursuit of profit.• HOW TO PRODUCE:determined by technology & resource costs.• DISTRIBUTION:based on ability & willingness to pay the price.• WHAT IF CONSUMER WANTS OR TECHNOLOGY CHANGE?Those changes alter demand & supply, which changes prices, profits, & consequently output levels & distribution.

THE CIRCULAR FLOW

Households & Resource Owners

Firms

Product Markets

Resource or Factor Markets

money to pay for goods & services

goods & services

labor & other resources

resource payments such as wages, rents, & interest

THE MARKET IS NOT THE ONLY WAY THAT THE BASIC QUESTIONS OF ECONOMICS CAN BE ANSWERED

• In some less developed nations, a traditional economic system is used•Custom & tradition determine the answers•Social arrangements & culture dictate the solutions•Change occurs only very gradually

ALL SOCIETIES HAVE DIFFERENT

COMBINATIONS OF COMMAND AND MARKET;

ALL SOCIETIES ARE MIXED ECONOMICS.

TRADE, MONEY AND CAPITALADVANCE ECONOMIES HAVE THREE

FEATURES:• Trade Specialization – trade between individuals and countries depends on specialization – Division of Labour

• Money – it measures the economic value of things and is used for financing trade

• Capital – it leverages labour power into a much more efficient factor of production and increases production

TRADE SPECIALIZATION AND DIVISION OF LABOUR

• In today’s world, countries depends on specialization of individuals and firms• Connected by an extensive network of trade• Specialization occurs when people concentrated on a particular set of tasks. CAPITAL AND LAND ARE HIGHLY SPECIALIZED. SPECIALIZATION GIVES GREATER PRODUCTIVITY. INDIVIDUALS AND COUNTRIES VOLUNTARILY TRADE GOODS IN WHICH THEY SPECIALIZE FOR OTHERS’ PRODUCTS – vastly increasing the range and quantity of consumption. Have potential to raise living standards.

MONEY• It is the means of payment•Due to the acceptance of money as payment for goods and debts trade is facilitated•Government control the money supply through their central banks• Like other factors, money can spoil the economy or can overheat the economic engine

CAPITAL•Capital has to be produced before it is used•More capital formation consumption cut and more saving increase future productivity and future consumption• In market economy, capital is privately owned – income from the capital goes to individuals capitalism

MARKETS AND GOVERNMENT IN A MODERN ECONOMY

THREE ECONOMIC ROLE OF THE GOVERNMENT

1. Increase efficiency by promoting competition, curbing externalities like pollution and providing public good

2. Promote equity by using tax and expenditure programs to redistribute income towards particular group

3. Foster macroeconomic stability and growth – reducing unemployment and inflation

EFFICIENCYEvery individual endeavors to employ his

capital so that its produce may be of greatest value. He generally neither intends to

promote the public interest, nor knows how much he is promoting it. He intends only his own security, only his own gain. And he is in this led by an invisible hand to promote an end which was no part of his intention. By

pursuing his own interest he frequently promotes that of society more effectually than when he really intends to promote it. (Adam

Smith, The Wealth of the Nation, 1776)

ACCORDING TO SMITH: PERFECTLY COMPETITIVE

MARKETS WILL PRODUCE AN EFFICIENTLY ALLOCATION OF RESOURCES – ECONOMY IS

ALWAYS ON PPF (PRODUCTION POSSIBILITY FRONTIER).

WHY DOES AN ECONOMY FALL SHORT OF EFFICIENT

PERFECT COMPETITION?

•Imperfect competition•Externalities •Public Goods

EXTERNALITIES– involve involuntary imposition of costs or benefits

•Governments are more concerned about the negative externalities rather than positive ones

•Government regulations are designed to control externalities like air and water pollution, damage from strip mining, hazardous wastes, etc

IMPERFECT COMPETITION• It happens when a buyer or a seller affects the price level

•Consequences of imperfect competition1.When it happens society moves inside the

PPF2. Too high price and too low input is the

hallmark of the inefficiencies associated with imperfect competition

EQUITY – MARKET DO NOT PRODUCE A FAIR DISTRIBUTION OF INCOME WHICH IS NOT ACCEPTABLE FROM THE SOCIAL POINT OF VIEW. IF INCOME INEQUALITY EXISTS, GOVERNMENT CAN TAKE THE FOLLOWING STEPS:

•CAN ENGAGE PROGRESSIVE TAXATION1.Taxing large income at a higher rate than small

incomes2.Impose heavy taxes on wealth

•CAN MAKE TRANSFER PAYMENTS LIKE AID FOR ELDERLY, BLIND AND DISABLED PEOPLE1.Can subsidize the consumption of low-income

group

MACROECONOMIC GROWTH AND STABILITY

•Economic growth denotes the growth in nation’s output

•Macroeconomic policies for stabilization and economic growth include fiscal policies along with monetary policies

•Fiscal policies – change in taxes and change in government spending

•Monetary policies – change in money supply and money demand affect interest rates and credit conditions

IN MOST OF THE INDUSTRIALIZED COUNTRIES, WE FIND SOME VARIANT OF A

MIXED ECONOMY.

•The market determines output and prices in most individual sectors

•Government steers the overall economy with programs of taxation, spending and monetary regulations.

GOVERNMENT CAN REMEDY SHORTCOMINGS OF THE MARKET

FAILURE OF INVINSIBLE HAND GOVERNMENT INTERVENTION

CURRENT EXAMPLES OF GOVERNMENT

POLICYInefficiency Monopoly Externalities Public Goods

 Intervenes in marketsIntervenes in marketsSubsidize worthwhile activities

 Antitrust lawAntipollution laws, anti-smoking ordinancesNational defense

InequalityUnacceptable inequalities of income and wealth

Redistribute income Progressive taxation of income and wealthIncome-support program (ex. Food stamps)

Macroeconomic Problems Business cycles (high inflation and

unemployment)

Stabilize through macroeconomic policies

Monetary policies (ex. Changes in money supply and interest rates)Fiscal policies (ex. Taxes and spending programs)

Slow economic growth Stimulate growth Invest in educationReduce budget deficit and raise national savings rate

LAW OF SUPPLY AND DEMANDS

(VIDEO AND GRAPHS)

WHAT IS THE LAW OF DEMAND?

•The lower the price of a good, the larger the quantity consumers will buy.

•So the demand curve slopes downward from left to right.

WHAT IS THE DIFFERENCE BETWEEN

DEMAND & QUANTITY DEMANDED?

•DEMAND is the entire curve that shows the relation between price & quantity purchased.

•QUANTITY DEMANDED is one particular quantity on the demand curve.

WHAT IS THE LAW OF SUPPLY?

• The higher the price of a good, the larger the quantity firms will be willing to produce and sell.

•So the supply curve slopes upward from left to right.

WHAT IS THE DIFFERENCE BETWEEN

SUPPLY AND QUANTITY SUPPLIED?

•SUPPLY is the entire curve that shows the relation between price & quantity provided.

•QUANTITY SUPPLIED is one particular quantity on the supply curve.

THE ECONOMICS OF DEVELOPING

COUNTRIESTHE FOUR ELEMENTS IN DEVELOPMENT

1. Human Resources2. Natural Resources3. Capital Formation4. Technology

ISSUES IN ECONOMIC DEVELOPMENT

1. Industrialization vs. Agriculture2. Inward vs. Outward Orientation3. The danger of

Overspecialization4. State vs. Market

SOME OF THE ELEMENTS OF A MARKET-ORIENTED POLICY ARE

THE FOLLOWING:a.Low tariff and few quantitative

restrictionsb.Easy entry and exitc.Promotion of small business and the

fostering of competitiond.Stable macroeconomic environment –

taxes are predictable, prices are stable and the government budget is balanced.

Geography has made us neighborsHistory has made us friends

Economics has made us partnersAnd necessity has made us allies

Those whom God has so joined togetherLet no man put asunder

President John F. Kennedy

Thank You!Marlyn P. Allanigue, MMC, MPA

August 17, 2014