2016

INTRODUCTION TO ECONOMICS
FOR MANAGERS
LESSON 01
LANIS L. HICKS, PHD AND WIN PHILLIPS, PHD
HEALTH MANAGEMENT AND INFORMATICS

INTRODUCTION TO ECONOMICS FOR MANAGERS

Table of Contents
LESSON 01: OVERVIEW OF ECONOMICS ................................................................................................... 1-1
Purpose .................................................................................................................................................. 1-1
Objectives .............................................................................................................................................. 1-1
Commentary .......................................................................................................................................... 1-1
Introduction ....................................................................................................................................... 1-1
Definition of Economics ..................................................................................................................... 1-3
Economic Theories and Models ......................................................................................................... 1-6
Rationing ............................................................................................................................................ 1-7
Methods of Rationing ........................................................................................................................ 1-9
Fundamental Economic Questions .................................................................................................. 1-10
Economic Resources ........................................................................................................................ 1-11
Role of Economics ............................................................................................................................ 1-11
Branches of Economics .................................................................................................................... 1-13
Allocative Process ............................................................................................................................ 1-15
Role of Government ......................................................................................................................... 1-17
Focus of Economics .......................................................................................................................... 1-20
Summary .......................................................................................................................................... 1-21
Exercises ............................................................................................................................................... 1-21
References ........................................................................................................................................... 1-22

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LESSON 01: OVERVIEW OF ECONOMICS

PURPOSE
The materials in this first lesson are designed to introduce you to the discipline, or field, of
economics. Its purpose is to acquaint you with the economic way of thinking, and to introduce
you to some of the basic concepts, theories, and tools of economics. The concepts, theories,
and tools introduced are designed to enable you to analyze and understand better the complexity
of the exchange of goods and services in todays markets.

OBJECTIVES
After completing this lesson, you should be able to:

1. Define economics, and explain its importance

2. Define rationing, and described the conditions under which rationing is necessary
3. Define microeconomics and macroeconomics, and explain the difference between
normative and positive economic
4. Describe necessity of making allocative decisions created by resource scarcity
(individual or societal)
5. Begin to understand the role of economics in decision making

COMMENTARY
The materials in the commentary of this first lesson are designed to provide a concise,
clear explanation of some of the basic concepts, theories, and models of microeconomics
and macroeconomics. Examples are provided to illustrate the application of the tools of
economics to decision-making.

INTRODUCTION
Economics, and economists, have been referred to as many different things (some
humorous and some not). Regardless of the various opinions expressed about
economics, the discipline of economics provides a very useful framework for analyzing
issues and for addressing problems, especially in the allocation of scarce resources in
todays complex environment. A basic understanding of economics will provide insight
into how the economy functions, and enable you to have a better perspective on many of
the currently debated governmental policies. An understanding of economics provides

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valuable knowledge about the behavior of individuals and organizations, and the social
environment in which decisions occur. Economic conditions
Economics provides valuable
are intertwined in the social, political, and cultural conditions of knowledge about the behavior of
a society, and economic conditions influence these conditions individuals and organizations
while, in turn, are influenced by them.
One of the difficulties in trying to discuss economics, and what it can do for individuals,
organizations, and society, is that everyone is an economist, or, at least, everyone uses
economics to some extent in their daily decision-making process. Economics is all about
scarcity and the decisions that are made regarding the use of those scarce resources.
Every day, individuals have to make decisions regarding what food to purchase, how to
spend their time, etc. These all involve making choices on how to use limited resources.
Producers also have to make decisions about what products to offer in the market and
how to produce those goods or services. Economics wont answer the questions about
how to use scarce resources, but it can be used to inform decisions regarding the
consequences of each of the options.
In addition to individual choices, almost everyone also has an opinion about what should
be done about inflation, defense spending, interest rates, wage rates, taxes, and access
to health care services and various social welfare programs. A major
Economics is about making
difficulty in considering these issues from an economic perspective,
choices
however, is that these issues encompass political, legal, social,
ethical, and value judgments, in addition to the economic ones. It is very difficult,
therefore, to isolate the economic issues from all the other issues involved in any given
situation. Given the existence of multiple, and related, issues, it is very understandable
why economists never seem to agree on anything. President Harry Truman once said:
Give me a one-handed economist! All my economists say, On the one hand and on
the other.1
The following introductory materials regarding the discipline of economics attempt to
convey the point that economics provides a unique approach to analyzing any problem
or situation: economics provides a particular method and a specific set of tools for looking
at any issue. To this extent, economics has been said to be a way of thinking. Indeed,
the purpose of this text is to encourage the development of a special way of thinking, and
to offer convincing evidence that all situations under consideration will appear a little bit
different, once they are examined with the economic way of thinking.
Economic thinking employs the concept that all decisions involve costs and benefits, and,
often, these decisions involve unintended consequences.2 Since economics attempts to
include all the costs and benefits, including the unintended consequences and opportunity

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costs in the decisions made, economics results in more thoroughness in thinking than the
other social sciences. In general, the economic way of thinking involves thinking at the
margin. Thinking at the margin focuses on additional or incremental changes what is
the consequence of using one more scarce resource in the
Economic thinking involves the
production or consumption of an additional unit of output. It
concept that all decisions involve
also involves letting go of the consequences of past
costs and benefits or consequences.
decisions, since you cant change the past, and thinking
forward (weighing future options) regarding the consequences of the next decision made.
Economists consider the consequences of past decisions to be sunk costs, because the
past cannot be changed.
This introductory material is also designed to provide a basic set of tools for performing
economic analysis to assist in the decision-making process. This is not meant to imply
that economics is intended to provide all the answers needed for decision making; but,
economics does, however, provide a set of tools for arriving at more rational answers in
a systematic way to the issues being considered.
DEFINITION OF ECONOMICS
What is economics? There are many different perspectives and opinions regarding the
discipline of economics; but, in general, economics is defined as the systematic study of
choosing which goods and services will be produced by
suppliers and consumed by demanders to satisfy wants Economics is defined as the
study of choosing which
and/or needs.
Economics describes the factors that systematic
goods and services will be produced
determine the production, distribution, and consumption of by suppliers and consumed by
goods and services in an economy. The tools of economics demanders to satisfy wants and/or
needs
assist decision makers in making the most efficient choice
among the various goods and services to be produced and consumed, and to assist in
ensuring that their exchange in a market is efficient.
Economics, then, is the study of how individuals decide, in a rational way, to use their
resources to purchase various goods and services, thereby allocating societal resources.
More specifically, economics is the study of the
Economics is the study of the behavior
behavior of people in producing, exchanging, and
of people in producing, exchanging,
consuming goods and services.
Economics is
and consuming goods and services
considered to be a social science, because it involves
studying and analyzing behaviors and interactions among members of society, and the
choices they make among alternatives. Economics uses a scientific approach, to the
extent possible, to investigate the choices being made by individuals and organizations
in an economy.

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Economics, as a discipline, involves a certain way of thinking about situations and
problems. Economists derive economic principles, which are useful in formulating
policies to solve complex economic problems. Since, as individuals and as a society, we
do not have enough goods and services (generally known as economic resources,
which include the time and talent of people available, land, buildings, equipment, raw
materials, natural resources, labor force, technology, the knowledge of how to combine
them to create goods and services, etc.) to do or have everything we want or desire, we
have to make choices: which wants do we satisfy and which ones do we leave unsatisfied
in order to maximize satisfaction.
In economics, the terms scarcity and shortage have very explicit meanings, and these
meanings are different from the conventional use of the terms. In economics, scarcity of
economic resources is not the same thing as a shortage of a good or service. In
economics, scarcity exists because total resources are limited, and a shortage occurs
when demand for and supply of a particular product is not in equilibrium (balanced),
concepts that will be developed later in the course. The use of these terms are somewhat
different from the conventional use, when scarcity and shortage are often used
interchangeably. Economics did not invent the terms scarcity and shortage, but rather,
has defined them in a specific way in the development of theories and models.
In reality, by making these choices, society is rationing its limited (scarce) resources,
since, typically, society always want more than it has resources to procure members of
society cant have everything desired, and so society has to choose among the goods
and services available to it. The underlying essence, then, of Economics is understanding how
economics is understanding how individuals, organizations, individuals, organizations, and
and societies behave in response to the constraint of limited societies behave in response to
the constraint of limited resources
resources; an underlying assumption is that individuals and
society make rational decisions in their efforts to fulfill their wants and desires given their
limited resources.
In economics, because of the limited availability of resources (scarcity) and the insatiable
wants and desires of society, rationing has to occur, either through pricing or some other
mechanism. The economic definition of rationing is somewhat different from the
conventional use of the word. Often, rationing has a negative connotation in conventional
use, because it is viewed as an arbitrary limitation imposed by an outside entity rather
than choices imposed by a limited resource constraint.
In economics, rationing involves three basic concepts: scarcity, choice, and opportunity
costs. These three basic concepts are fundamental to understanding how an economy
functions and how decisions are made under various forms of constrained optimization.

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Since we cannot do, or have, everything we want because of the scarcity of resources
(time, money, skills), we must ration (allocate) our resources.3 Scarcity simply means
limited; that is, we do not have an unlimited amount of money, time, or skills to use in
acquiring goods and services we want. Scarcity, then, can be
Rationing involves scarcity,
defined as a deficiency in the quantity or quality of available
choice, and opportunity costs
goods and services compared with the amounts that people
desirethere are not enough goods and services to go around to satisfy everyones
wants and needs because economic resources available to produce the output are
limited. Economics is the science that deals with the consequences of resource scarcity,
and how people make decisions to consume and firms make decisions to produce under
the constraint of limited resources.
Making choices simply means we are selecting one alternative, or option, over another
oneIm going to sleep in instead of getting up and going to work or class, Im going to
eat steak today instead of a hamburger, which means I will have to eat Raman Noodles
the rest of the week. As individuals, we have to make choices
about what types and amounts of goods and services we will Making choices simply means
selecting one alternative, or option,
purchase and consume, and about how we will allocate our over another one
time among activities, since time is another limited resource.
As a society, we have to make choices about who will receive what types and amounts
of goods and services available in the economy, and how those goods and services will
be produced and exchanged, or for whom the goods and services will be produced.
Economics, then, is the study of why individuals make these decisions, and how
resources are allocated (distributed) most efficiently to maximize satisfaction. Economics
is about efficiency or about achieving the maximum benefits at the least cost of the
resources available.
Opportunity cost reflects the value of the best alternative that was forgone (passed up)
when the choice was made to use resources for a specific alternative; it reflects the loss
of potential gain, value, or benefits from other alternatives when one alternative is
selected; it does not reflect the price of the alternative forgone. For example, when
additional resources are used the produce improved access to health care, then the
opportunity cost is the benefits that are passed up from using those resources to produce
additional educational services. Every choice has an opportunity cost, and the
opportunity costs affect the choices individuals and firms make in the allocation of their
scarce resources. The opportunity cost reflects a benefit or value of something that must
be passed up in order to acquire or achieve something else. Since every resource can
be put to alternative uses, every action, choice, or decision has an associated opportunity
cost.

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If resources were not scarce, or limited, then everything could be done and there would
not need to be choices made among alternatives, and opportunity costs would not exist
there would be no forgone benefits due to the allocative decisions made. However,
opportunity costs should not be confused with the purchase
Opportunity cost reflects the loss
price paid for the alternative selected or the alternative that was
of potential gain, value, or
benefits from other alternatives
forgone. Opportunity costs are broader than the purchase
when one alternative is selected
price, since they include other items of value; they reflect the
benefits or satisfaction you could have received by selecting an alternative good or
service.
ECONOMIC THEORIES AND MODELS
Economic modeling is fundamental to economic theories. Economics involves: 1) the
systematic evaluation of facts regarding a specific problem or aspect of the economy; 2)
the conversion of those facts into generalizations about economic behavior; and 3) the
development of economic policies designed to influence that behavior or its
consequences. Because the facts associated with a specific
problem involve human behavior and cannot be obtained under Economic models provide a
description of a relationship
controlled experimental conditions, the conclusions are usually between two or more things
inexact or imprecise. The economic models developed provide a
description of a relationship between two or more things. Basically, the models are
developed by making a number of simplifying assumptions regarding the main tendencies
in decisions made. Please see Appendix A for more details on graphing and slope.
The stylized facts incorporated into the model provide signals, suggesting that the
complexity of the economy is driven by order. Consequently, economic theories are
abstractions they do not incorporate all aspects of reality. Because of its very broad
scope, economics does not provide a body of rigid doctrines about scarce resources.
Rather, economics offers an overall viewpoint intended to help in understanding the many
problems related to various types of scarcity. The simplification process allows the main
factors impacting how consumers and producers make decisions to be captured. The
model needs to be able to explain reality in order to be useful, without being so complex
that it cannot be easily understood and applied.
In developing the models and theories, an attempt is made to sort out and simplify the
complicated chain of cause and effect in the decision-making processes. In developing
the theory or model, the goal is to identify and quantify the
Economic theories are meant to be
implications of the different variables that have a major
general expressions of the
aggregate actions of individuals and
impact on the outcomes being observed. The basic theories
organizations in the economy
that are developed are meant to be general expressions of
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the aggregate actions of individuals and organizations in the economy, and not to explain
the actions of any one specific individual. In economics, therefore, exceptions to the basic
theories occur. These exceptions do not negate the value of the theories, but the
exceptions do need to be incorporated into the analysis and interpretation of the situation.
The fact that economic theories are abstractions does not make economic theories
impractical, unrealistic, or irrelevant. Economic theories provide a mechanism for
converting the complexities of reality into usable forms. An economic theory is simply a
model (a simplified map or theoretical construct) of some aspect of the economy, and is
a simplified framework designed to illustrate complex processes.
Economic theories provide a
mechanism for converting the
An economic model is a simplified description of reality; it is
complexities of reality into usable
designed to yield hypotheses about behavior that can be tested.
forms
An economic model attempts to include sufficient information to
provide useful clues about how rational agents behave or how an economy works; it is an
attempt to simplify reality. Its use enables decision-makers to gain a better understanding
of the consequences of alternative activities.
These economic theories are based on stylized facts, and therefore, are considered to be
realistic given the facts included. Economic theories, or laws, are not as universal, or
ironclad, as are the laws of physical science. Economic theories can evolve as
circumstances change and facts are modified due to increased understanding of the
situation. While no economic model can be a perfect
economic model is a simplified
description of reality, the process involved in developing, An
description of reality
testing, and revising models increases understanding of how
an economy works. The debates triggered by the results of the models enhance
understanding of the factors driving economic behavior and how policies or incentives
can be introduced to modify outcomes. Despite the need to limit the assumptions made
in the development of the models, they do an incredibly powerful job of predicting how
consumers and producers will behave.
RATIONING
The discipline of economics is concerned with societys allocative (rationing) decisions.
It is concerned with how these rationing decisions are related to the efficient utilization of
available resources among alternative, competing uses for those limited resources. That
is, economics is concerned with three basic elements the desires of the members of
society and the resources available to members of society to satisfy those desires and
the choices (allocative decisions or rationing) that must be made when an individual or
society is confronted with the harsh reality that desires are unlimited, while resources are
limited.4

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Rationing simply means that we have to make choices about who gets how much of the
limited resources available; how is the output of the economy distributed among members
of society. Rationing is about making choices among competing alternative uses of the
limited resources; the issue is how those choices are made and by whom.5 For example,
rationing must occur in health care when we only have one
Rationing simply means that we have
heart donor but have two individuals who are waiting to
to make choices
receive a new heart. The choice must be made in terms
of which individual will receive a heart transplant and which one will not. The scarcity of
resources (only one heart available when two are wanted or needed) requires a choice
be made as to who receives the heart heart transplants must be rationed, since only
one heart is available. This rationing of the heart to one individual should not be
interpreted that the second individual is not worthy of receiving a heart, but rather that
only one heart is available and a decision must be reached as to which one receives the
available heartdonated hearts are limited and so their rationing is required. Economics
will not answer the question as to which individual should receive the heart, but can
provide information regarding the consequences of each of the alternatives in the
decision.
The material desires, or wants, of members of society are virtually unlimited, or insatiable.
Wants, or desires, reflect the attempts of society to use various goods and services to
gain pleasure or satisfaction (otherwise known as utility). For society, the desire for
goods and services are incapable of being completely satisfied; consequently, society
has innumerable unfilled wants, requiring choices to be made regarding which want will
be satisfied to maximize utility.
The same is true of individuals in the society. Very few (if any) individuals have sufficient
income or wealth to enable them to purchase all the goods and services they might desire.
Therefore, the individuals are forced to make decisions to acquire some things and not
be able to purchase others, constrained by their available Individuals attempt to maximize
budget. In making the decisions regarding which goods and their utility/satisfaction subject
services to purchase, individuals form subjective scales of to their limited resources (a
budget constraint)
preference for various goods and services, and they make
purchasing decisions accordingly, with the limited resources (income and/or wealth)
available to them. Individuals attempt to maximize their utility subject to a budget
constraint.
It is assumed that individuals are rational, and that given their individual preferences at
the moment of decision making, the decisions made reflect a rational decision-making
process. This assumptions does not mean that the decisions made by one individual
needs to be viewed as rational by another individual. The differences in what is viewed

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as rational occurs because of different preferences, information available, resources,
social contexts or determinants, psychological influences, and cultural backgrounds.
Individuals use all these different aspects in processing information to reach their rational
decision at the moment of decision making. An individuals determination of what is
rational can and does vary over time.
METHODS OF RATIONING
While there are a variety of tools available for rationing resources, there are two basic
methods of rationing goods and services explicit or implicit. With explicit rationing,
the criteria that are used in making decisions to allocate resources are clearly, openly,
and directly specified. Under explicit rationing, the basis or criteria for deciding which
individuals or goods and services will be included or excluded are
The two types of rationing are
well defined and well known e.g., only people with income below
explicit and implicit
the poverty level will be covered for a good or service. Explicit
rationing has a number of implications for the allocation of resources. Since the criteria
used are more direct and open, the results are more transparent and visible, making it
easier to identify winners and losers. This transparency makes it easier to identify specific
individuals who have been negatively impacted by the rationing decision, possibly
creating political fallout. Also, the explicit criteria developed may be influenced by special
interest groups, since it is easier to gain support from a concentrated interest group
specifically impacted by the decision.6
Under implicit rationing, the criteria to be used to ration resources are implied, indirect,
or not clearly expressed. The criteria used for inclusion or exclusion are often obtuse.
Implicit rationing is more likely to focus on criteria for including individuals or goods and
services, but not directly stipulate who will be excluded. For example, setting low payment
rates to providers for certain goods or services means that fewer goods and services will
be available, limiting the number of people that will have access to those goods and
services. There are a number of implications for the allocation of resources using implicit
rationing. Since the decisions made, and the outcomes achieved by those decisions, are
less visible, implicit rationing is usually much easier to develop and apply. Implicit
rationing creates a lower perception or impression that goods and services are being
withheld or denied, since direct denial is not done the eligibility criteria are simply not
being met. Because outcomes are less directly associated with an implicit rationing
decision, it becomes easier for the political process to exert influence with less visible
accountability.7

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FUNDAMENTAL ECONOMIC QUESTIONS
There are four fundamental economic questions, then, that any economy, or society,
needs to answer. In our economy, these fundamental
questions are answered through the role of one key Four economic questions:
1. What should be produced?
variable, price. These fundamental questions are:
2. How should it be produced?
3. For whom should it be produced?
4. How much will be invested for
future growth?

1. What goods and services should be produced? In

economics, products are generic for either goods or
services. Producers either provide services or produce goods. Goods are,
basically, any tangible (physical) substance. Consumer goods are used by
individuals to satisfy a personal desire, while capital goods are used to produce other
products. Services are intangible (non-physical) substance. Services are available
to satisfy the desires or needs of individuals.

2. How should the goods and services be produced? The answer to this question
depends upon the opportunity costs of labor and capital, and the productivity of land.
Land is a general term in economics that includes all natural resources, such as oil,
gas, forests, water, as well as ground. These natural resources can be renewable
(e.g., forests) or non-renewable (e.g., oil). Labor is the mental and physical efforts
of individuals. Capital can be divided into real capital (things like machines and
buildings), human capital (training and education an individual has that contributes
to production), intellectual capital (copyrights or trademarks used in the production
process), and financial capital (any economic resource measured in terms of money
used by entrepreneurs and businesses to buy what they need to provide products,
and reflects money raised from debt and equity issues). Entrepreneurial capacity
is the ability to take risks or be innovative in the combination of land, labor, and
capital to produce new or more output.
3. For whom should the goods and services be produced? This question focuses on
deciding how society is organized to meet the needs, desires, or wants of members
of the society. Basically, there are three approaches. One is a central control where
government or another entity in power decides the distribution of the goods and
services produced. A second way is a competitive market where the demand for
and supply of goods is determined by the ability and willingness to pay for the goods
and services produced. And, the third way is a combination of the first two ways
where the market determines some and the government determines others.
4. How much will be invested for future growth? Investing in the future means forgoing
current consumption of goods and services, with the expectation that the investment
will increase the production of goods and services in the future. The question that
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an economy (or an individual) must answer is how much of the resources available
will be consumed currently, and how much will be invested for future production or
consumption.
ECONOMIC RESOURCES
Resources are the means available (inputs) to accomplish valued goals or desires, or
produce utility. Economic resources commonly refer to natural, man-made, and human
resources used to produce material goods and services; economic resources are, also,
often called factors of production. Energy, raw materials,
land, natural resources, labor, entrepreneurship, and In economics, goods and services
are anything that has the ability or
technology are all important resources that are necessary to power to generate utility
produce the goods and services society needs and desires.
Time is also an important resource, as are the basic health and education levels of the
population. Money is not an economic resource, but, rather, it is the common
denominator facilitating the exchange of resources in a market. We use money to
facilitate exchanges in the market rather than using direct bartering for goods and
services. When these economic resources are scarce, individuals and societies must
make decisions about how to use (ration) those resources that are available. Decisions
must be made regarding how many and what types of goods and services to produce,
and who should receive the output that is produced. Goods and services, therefore, are
anything that has the ability or power to satisfy a desire of a member of societygenerate
utility.
In general, factors of production (economic resources) can be divided into two general
categories: property resources and human resources. Property resources include all
natural resources (free gifts of nature) and man-made aids to production (tools,
machinery, equipment, buildings, transportation, and distribution facilities). Human
resources include labor (physical and mental talents) and entrepreneurial ability
(catalyst, innovator, risk bearer). The commonality among all factors of production is the
collective scarcity, or limited availability. These factors of production represent the means
by which goods and services are produced in an effort to satisfy societys desires. To
satisfy the desires of organizations and individuals, the goods and services must be
consumed. Thus, consumption, in order to fulfill desires, is the foundation of economic
activity.
ROLE OF ECONOMICS
Consumption is the ultimate goal of economic activity, since it involves the utilization of
goods and services to satisfy a want or desire. Wants, however, are not sufficient to
generate economic activity. The consumer must also possess sufficient resources to
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convert these desires or wants to actions, and the willingness to do so. It is only this
ability and willingness to consume a good or service that will stimulate the supplier to
produce the good or service and offer them for exchange in the market.
As a result of resource scarcity, choices must be made concerning which desires to
satisfy and which desires to leave unsatisfied. When goods and services are scarce,
decisions must be made regarding to which use they will be allocated, and which uses
will be forgone. A good or service is considered scarce if it has alternative uses, and
pursuing one alternative prevents the pursuit of alternative usesthe alternative uses are
mutually exclusive. Mutually exclusive simply means that both alternative uses cannot
be achieved; the selection of one use eliminates the ability to select the other use.
Every time a choice is made, the alternatives not selected represents an opportunity cost.
An opportunity cost reflects the benefits not received from the forgone alternative, when
the resources are used to attain the selected objective. For
example, when additional resources are allocated to medical Every time a choice is made, the
alternative not selected represents
services, then additional spending on education must be an opportunity cost
forgone. The forgone benefits of education are the opportunity
costs of producing more medical services. The scarcer the resource is, the higher its
economic (exchange) value or price will be, and the more its use will be limited.
The role of economics, therefore, is to assist individuals, and society, in making efficient
allocative choices. The objective is to assist society in using its limited stock of resources
so as to derive the greatest possible benefits (utility) from these resources. If resources
were plentiful, and there was no scarcity of resources, there would be no need to make
choices, or ration, and, therefore, no need for economics or economists.
Taking the desires of society as a given (no value judgment made regarding the
appropriateness or worthiness of the scales of preference assigned to those desires), the
discipline of economics is concerned with determining
The role of economics is to assist
how to use the least amount of limited resources in
individuals, and society, make efficient
accomplishing those desires; or conversely, how to
allocative choices
satisfy the maximum number of desires given the limited
amount of resources available. Economics is not concerned with judging the
appropriateness of the desires (choices) expressed by society a value judgment; but
rather, economics is concerned with attempting to minimize the resources required to
satisfy as many of those desires as.8
The discipline of economics focuses on deriving solutions to the problems created by
scarcity. Economics provides a way of systematically evaluating the alternatives that

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confront individuals and society. The role of economics is to help analyze the
consequences of undertaking the alternatives, so that individuals making the allocative
decisions can incorporate those consequences into the decision-making process.
Economic analysis, therefore, deals with the cause-and-effect relationships of economic
events.
Economics is concerned with the cause-and-effect relationships among the factors that
produce economic conditions and problems.9 This results in a significant amount of if ...
then analyses in economics: if we spend (allocate) more of our limited resources on
health care, then the effect will be that we will have Economics helps analyze the consequences of
fewer resources available to spend on education (or undertaking alternatives; it is concerned with
some other good or service). The if portion of a the cause-and-effect relationships among the
factors that produce economic problems
statement is called a condition or assumption, and
the then portion is called a conclusion, implication, or prediction. The then portion can
be regarded as the consequences that would result if the if assumptions or conditions
were to hold. For example, if the price of potatoes increases 10 percent, then we can
expect the quantity of potatoes purchased to decrease by 15 percent.
As consumers and producers, the better we understand these cause-and-effect
relationships, the greater our ability will be to develop effective solutions to our economic
problems. Economics provides a way of systematically evaluating the alternatives
confronting individuals in society and indicating the consequences associated with each
alternative.
BRANCHES OF ECONOMICS
The discipline of economics is divided into two basic branches: microeconomics and
macroeconomics. Microeconomics is that branch of economics that deals with the
behavior and choices made by individuals, households, business firms, or other small
economic units figuratively speaking, it examines the trees
Microeconomics is that branch of
in the forest. Microeconomics involves such economic
economics that deals with the
behavior and choices made by
phenomena as individual firms deciding what to produce,
individuals, households, business
how to produce it, and how much to produce.
firms, or other small economic units
Microeconomics focuses on determining why individuals
purchase one product instead of another; it focuses on how individuals make economic
decisions to maximize their utility or satisfaction and how individual firms make economic
decisions to maximize their profits. Microeconomics involves the interaction between
individual buyers and sellers in the market, and the factors that influence the choices they
each make.

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Macroeconomics is that branch of economics that deals with the choices made at the
aggregate level, and reflects the combined effects of choices made at the micro level it
examines the forest rather than the trees. Macroeconomics focuses on the performance,
structure, behavior, and decision making of the national
Macroeconomics is that branch of
economy as a whole, and involves such large-scale economics that deals with the choices
economic phenomena as inflation, unemployment levels, made at the aggregate level, and reflects
economic growth, gross national product (GNP), and gross the combined effects of choices made at
the micro level
domestic product (GDP).10 Macroeconomics focuses on
determining the aggregate effects of decisions made in the system and addresses the
collective behavior of businesses, industries, governments, and countries.
Macroeconomics involves the development of models that explain the relationship
between such factors as national income, aggregate output, aggregate consumption,
unemployment, inflation, investment, government spending, international trade, and
global markets. Important factors in macroeconomics is the gross domestic product (the
monetary value of all the finished goods and services produced within a countrys borders
in a specific time period regardless of the nationality of the individuals producing the
output; it is a broad measurement of a nations overall economic activity) and gross
national product (the monetary value of all the finished goods and services produced by
the citizens of a country, regardless of whether or not the goods were produced within the
boundaries of the country; it is a broad measure of the economic performance of the
citizens of a country). The term finished products reflects the final value of the goods
and services in the economy as to avoid multiple counting of the intermediate outputs that
are used as goods move from one stage to another during the production process.
One way of remembering the distinction between these two terms is that micro means
small and macro means large. In economics, these terms apply to the two branches of
the discipline. Microeconomics involves individual population cohorts, firms, and
industries, and the problems encountered at the entity or individual level. Even at the
microeconomics level, however, economics does not determine
Micro means small and macro
how a specific individual will act, but rather how an average
means large
individual will probably behave under a specific set of conditions.
Microeconomics is used to try to explain such things as why consumers select one
product over another, or what wages will be needed to enable an industry to attract a
given number of individuals to work in their firms.11
Macroeconomics involves focusing on the behavior and decision making of an economy
as a whole. It attempts to explain the relationship between such factors as national
income, total output, aggregate consumption, unemployment, inflation, savings,
investment, government spending, and international trade. It is the study of the total

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amount of goods and services produced. Macroeconomics involves the economy as a
whole, and is often referred to as involving general equilibrium analysis. It involves such
issues as total employment in the economy, total output, and general price level.
Macroeconomics is used to try to explain such things as how inflation will affect economic
growth and how different governmental policies (subsidies, taxes, fiscal policies) can be
used to stabilize the level of business activity in the economy.12
Both microeconomics and macroeconomics involve identifying meaningful facts,
systematically arranging those facts, interpreting the facts, and drawing generalizations,
or conclusions, from those facts. For example, based upon observations of how people
in the market for potatoes behave, as the price of potatoes decreases relative to other
goods and services, on average, the people will purchase more potatoes. That does not
mean that every individual will behave in that way, just that, as a cohort, more potatoes
will be purchased as the price of potatoes declines relative to the price of other goods
and services.
The major focus of this basic introductory economics course is on microeconomics and
on how individual people and firms behave, how they interact in the marketplace, and
how those interactions determine price and allocate scarce resources.
The
macroeconomic concepts of gross national product (GNP), gross domestic product
(GDP), inflation, consumer price index (CPI), and full employment are also discussed, as
these, typically, are the focus of economic policies and these things influence individual
behavior.
ALLOCATIVE PROCESS
Economics provides society with a variety of analytic tools for assisting individuals, and
society, in making the difficult allocative decisions created by resource scarcity. These
tools are dependent upon the basic concept of rational economic behavior. 13 Rational
economic behavior assumes individuals will attempt to maximize their satisfaction
(personal utility or benefits). Rational decision making does not mean everyone agrees
with the decisions made; it just means that it is considered to be a rational choice for the
individual making the decision, given the information, resources, personal beliefs, culture,
etc., the individual has at that time. Different priorities and values are placed on the
satisfaction of specific wants by members of society and on the ability of resources to
satisfy those wants.
Rational economic behavior represents actions by individuals in society that are
consistent with the incentives (rewards and penalties) provided by the economic system.
Any economic system will behave the way it is structured and rewarded for behaving.
The assumption is that when incentives are built into a system, then people will make
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decisions in response to those incentives. If the incentives
encourage the efficient and effective use of resources, then
the economic system will result in maximum output. If such
incentives do not exist, then inefficiencies will occur in the
decision-making process, and society output will be less
than optimal.

Rational economic behavior assumes

individuals will attempt to maximize
their satisfaction (personal utility or
benefits)

Rational economic behavior does not mean that the decisions reached by individuals will
always involve maximizing the monetary or material benefits. The satisfaction (utility)
received by the individual could reflect an emotional benefit rather than a monetary
benefit. Donating resources to help individuals who are less fortunate provides
satisfaction to many individuals. Also, donating resources to improve the environment or
protect certain animals can also provide individuals with a feeling of satisfaction.
An economy is simply the system of institutions and practices under which the key
economic problems of what will be produced, how it will be produced, how it will be
distributed, and how much will be invested for future activities are decided.14 The system
can either stress individual ownership of resources, or centralized ownership of
resources, or a combination of these two opposing types of resource ownership. The
goal of any economic system, regardless of the structure, is to promote the welfare of its
members.
Capitalism, the dominant economic system in the United States, stresses:
1. Individual, or private, ownership of property;
2. The right of individuals or private business organizations to decide what types of
goods and services to produce and how;
3. The freedom that individuals and organizations have to enter into agreements or
contracts with other individuals and organizations to achieve personal desires.15
This form of an economic system creates an ability to achieve economic efficiency, since
individuals and organizations strive to maximize profits and utility (satisfaction).
Capitalism relies heavily on the profit motive and personal maximization of utility to
promote the welfare of its members. While a capitalistic market results in efficiency, it
does not address the issue of equity. If more equity in an economic system is desired,
they interventions will be necessary to reallocate resources within the system.
The profit motive provides a major incentive for individuals
and organizations to undertake an activity. In general, the
greater the opportunity available to make a profit (acquire

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The concept of profit in economics

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additional resources for use), the more attractive the activity is. The concept of profit in
economics is different than in accounting. Earning a normal economic profit is
considered part of the costs of doing business, and includes implicit or opportunity costs.
Excess economic profits results from an imbalance of power in the market, enabling a
firm to operate at a level where total revenue exceeds explicit and implicit costs. In
accounting, profit is the excess of revenue over expenses, and is calculated by
subtracting explicit costs from total revenue, and is not considered a cost of doing
business. An accounting profit is necessary, however, if a firm is going to be able to grow
and prosper.
The ability to earn a normal profit on an investment of resources is essential, if an
economy is to be able to grow. If the use of resources in an activity cannot generate a
normal profit, or rate of return, then those resources might be better used in an alternative
activity, where they generate replacement and investment value. Concerns about profits
arise when there is an imbalance of power in the market exchange, enabling an individual
or organization to take unfair advantage of others. Under these conditions, the view tends
to be that government should intervene to restore the balance of power in the market.16
ROLE OF GOVERNMENT
The role of governmental intervention in our economy is controversial. There is
widespread disagreement about how extensive government involvement in the allocative
decisions of the economy should be. These disagreements often focus on how an
intervention should be done, rather than if it should be done. Usually, government
intervention is considered appropriate in the following areas:17
1. Protection of individual and property rights for all members of society by restricting
activities and freedom of some members of the society;
2. Prevention of abuses and inequities that could occur through imbalances of power
in the economy;
3. Promotion of competition by restricting monopolistic and collusive activities;
4. Promotion of the general welfare through common effort rather than individual
effort; and
5. Stabilization of business conditions to promote full employment and low inflation.
Controversies often occur because of the interrelatedness of the reasons for interventions
and the differences of opinions (values) held by individuals regarding the relative
importance of these reasons. The role of economics is to be able to describe,
systematically, the effects of each of the alternative interventions being considered. What
are the consequences of government interventions in the economy; what are the
consequences if government does not intervene? The role of economics is not to decide
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whether or not government interventions should be undertaken, but rather to provide
information on the consequences of implementing or not implementing the government
interventions.
Generally, the point of view held in economic analysis is that of society, not that of a
specific individual. Economics tends to examine how an action will impact the whole
system, or how specific sectors, industries, firms, or cohorts will be impacted, and not
how a specific individual within the system will be impacted.
Generally, the point of view held
Most economic analyses involve average or marginal
in economic analysis is that of
society, not that of a specific
(incremental) effects, not the effect of the action on a specific
individual
individual.
With a scarcity of resources comes the need to determine how those resources are to be
used in the production and consumption of goods and services, and the responsibility to
ensure that the resources are used efficiently and effectively. This involves doing things
right and doing the right thing.
Economic efficiency refers to the amount of resources used to achieve the desired
result. Basically, there are three types of efficiency: productive efficiency, allocative
efficiency, and economic efficiency.
Productive efficiency requires the least amount of resources possible (least cost) must be
used in producing a specific output level; the least costly combination of the resources
capable of producing the output must be used. When an economy is producing efficiently,
it is not possible to make some individuals better off with a
reallocation of resources or goods without making some Economic efficiency refers to the
other individuals worse off with the reallocation. It signifies amount of resources used to achieve
the desired result; doing the thing right
that there is a balance between benefit and cost in the
economy. Could the same results have been achieved with fewer resources (e.g., could
the same house have been built at a lower cost? could the same health status have been
achieved with less expenditures or fewer resources?) or, could better results have been
achieved from the same amount of resources (e.g., could a larger house has been built
for the same cost? could an improved health status have been achieved without
increasing expenditures?).
Allocative efficiency involves producing what the consumers want at a point where the
output is provided at a price equal to its marginal (incremental) cost of production.
Allocative efficiency represents consumer preferences and reflects the point where the
last unit provides a marginal benefit to consumers that is equal to the marginal cost of
producing that unit of output. It reflects the point where the price that consumers are

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willing to pay is equivalent to the marginal utility/satisfaction they receive from that unit of
output. Therefore, the optimal distribution (allocative efficiency) is achieved when the
marginal utility of a good or service is equal to the marginal cost of that good or service.
Economic efficiency results when both productive efficiency and allocative efficiency
exist. It is the sum of productive efficiency and allocative efficiency.
Effectiveness is concerned with results asking if the outcome achieved was what was
really desired. It is a measure of whether the goods or
services provided have the intended or desired outcomes.18 Effectiveness is concerned with
Effectiveness is determined without reference to costs; it results, asking if the outcome
achieved was what was really
basically means doing the right thing to achieve the desired desiredwas the right thing done
objective. For example, in providing health services, will
society be served better by providing basic health care services to a large number of
people, or by providing the latest sophisticated technology to only a few. As pressures
mount for a more rational approach to the management of the various sectors in the
economy, decision-makers are increasingly looking to economics for ways to ensure that
production and consumption decisions are more efficient, effective, accountable, and
available. As a major recipient of public resources and trust, the health care industry is
increasingly being held accountable for its utilization of resources.
Accountability refers to the undertaking of practices to enable the tracking and
explanation of the use of resources. Accountability reflects the obligation of an individual
or organization to account for activities performed, accept responsibility for them, and to
be transparent in the disclosure of the results achieved with
Accountability refers to the under
resources used. For example, because the health care
taking of practices to enable the
industry is using such a large proportion of limited resources,
tracking and explanation of the
health care providers and managers are now being asked to
use of resources
demonstrate that their use of resources has proportionate
19
benefits to society.
More and more health professionals and managers are examining the services they
provide to determine whether the outcomes (benefits) are worth the costs. Economic
pressures demand this type of self-scrutiny as part of an overall effort to improve the level
of efficiency in health care delivery. Thus, as health professionals collaborate to make
decisions about how best to use (ration) health resources, they will increasingly rely on
economic concepts to guide them.

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FOCUS OF ECONOMICS
In resolving disagreements arising among economists, a distinction must be made
between the two fields of positive economics and normative economics. Positive
economics involves what is, what was, or what will be, and is restricted to making
statements about facts and the relationships among them; disputes over positive
statements can usually be addressed by re-examining the facts considered in the
conclusions.
Positive economics can be used to evaluate, systematically, the
consequences of alternative actions and policies in terms of efficiency and effectiveness.
Positive economics focuses on facts and cause-and-effect behavioral relationships, and
includes the development and testing of theories of economics.
Positive economics can answer questions on cost, efficiency, and effectiveness of
alternatives, and the resource implications involved in the implementation of different
decisions, thereby allowing more rational decisions to be made Positive economics involves what is,
in the allocation of scarce resources. Positive economics is what was, or what will be, and is
used to analyze what is, what has occurred, and what will occur restricted to making statements about
facts and the relationships among
when one activity is performed instead of another activity. them
Positive economics tends to be more objective and fact based.
Normative economics, on the other hand, is concerned about determining what should
be in terms of economic fairness or what the outcome of the economy or goals of public
policy should be. Normative economics involves
value judgments or ethical positions regarding what
Normative economics, is concerned about
determining what should be in terms of economic
is good or bad; it incorporates subjectivity and
fairness or what the outcome of the economy or
opinions into its analyses. Thus, disputes over
goals of public policy should be
normative judgments cannot usually be resolved
using facts, since it involves value judgments and theoretical scenarios. Normative
economics depends on values, beliefs, preferences, self-interests, and/or the pursuit of
goals; it seeks to recommend the way the economy should operate.
Normative economics can be used to address issues of equity, equality, and fairness,
since these latter concepts involve value judgments about what ought to be. Normative
economics attempts to show that one activity is better than another activity; it tends to be
more subjective and value based. A normative economic statement cannot be refuted by
looking at the real world, or by testing a hypothesis.
An example of a normative economic statement is The price of wheat should be $5 a
bushel to give farmers a higher living standard and to save the family farm. 20 Included
in this statement are the assumptions/value judgments that farmers need a higher
standard of living than currently available, and that family farms need to be saved. Not
everyone may agree with these value judgments. Some individuals may believe that
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farmers currently have an appropriate standard of living and so higher prices for wheat
are not necessary. Also, individuals who purchase the products made from wheat, such
as bread, and other products who rely on wheat, such as beef, may not want to pay the
higher prices that would result from the higher price of the input into those products
(wheat). As this example illustrates, facts cannot be re-examined to bring the two points
of view into agreement, since the differences are based on different values and opinions,
not on facts in the situation.
SUMMARY
The foundation of economics involves the concepts of scarcity, choice, and opportunity
costs. The role of economics, then, is to help producers and consumers analyze the
consequences of the various alternatives being considered to address a problem or issue,
and to assist individuals and organizations in society in making the difficult decisions
created by resource scarcity.
Economics provides a set of tools that can be used to assist decision makers consider
the consequences (both positive and negative) of alternative uses of the limited
resources. These tools will be discussed in greater detail throughout the remainder of
the course. Both positive and normative economics are appropriate mechanisms for
analyzing the situation; it is just imperative that the point of view being taken is made
explicit in the analysis and discussion.

EXERCISES
The exercises that follow are designed to help you learn, understand, and apply the
materials covered in this lesson. Completing these exercises will help you study for the
progress evaluation and for the examinations required for the completion of the course.
After you have completed your answers to the following exercises, you can check your
responses against the answer key provided.
1. What is the formal definition of economics? Give two reasons for studying economics.
2. Describe the two basic branches of economics (not fields) and explain the differences
in the two branches.
3. What is the value of considering the opportunity cost of an activity?
4. Define normative and positive economics. Explain how they are interrelated.

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5. What is rationing? Under what conditions is rationing necessary?
6. What is meant by the economic way of thinking?
7. Issues involving what should be rather than what is are referred to as involving
________ economics.
8. The dilemma of _______ wants and _______ resources is referred to as the economic
problem.
9. When the pursuit of one objective forces society to sacrifice or compromise some
other objective, a(n) __________ exists.
10. Why is economic efficiency an important performance objective for an economy?

REFERENCES
The One-Handed Economist.
The Economist, November 13, 2003.
http://www.economist.com/node/2208841 on 01-10-2016.

Retrieved from:

Retrieved

Wyant J.
Basic Economics for Students
www.economicsonlinetutor.com on 01-09-2016.
3

and

Non-Students

Alike.

from:

Dolan, Edwin G. Economics (4th edition). Chicago IL: The Dryden Press, 1986.

Ruchlin, Hirsch S. and Rogers, Daniel C. Economics and Health Care. Springfield, Illinois: Charles C.
Thomas, Publisher, 1973.
Hicks, Lanis L. (2011). Making Hard Choices: Rationing Health Care Services. The Journal of Legal
Medicine, 32: 27-50.
5

Ibid.

Hicks, 2011.

Ruchlin and Rogers, 1973.

Waud, Roger N. Economics. New York: Harper & Row Publishers, 1980.

10

Dolan, 1986.

11

Dolan, 1986.

12

Dolan, 1986.

13

Waud, 1980.

14

Shapiro, Edward. Macroeconomic Analysis (5th edition). New York: Harcourt Brace Jovanovich, Inc.,
1982.
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INTRODUCTION TO ECONOMICS FOR MANAGERS

15

Ruffin, Roy J. and Gregory, Paul R. Principles of Economics (2d edition). Glenview, IL: Scott, Roresman,
and Company, 1986.
16

Hyman, David N. The Economics of Government Activity. New York: Holt, Rinehart, and Winston, Inc.,
1973.
17

Ibid.

18

Feldstein, Paul J. Health Care Economics (7th edition). Clifton Park, New York: Delmar Cengage
Learning, 2012.
19

Rosko, M.D. and Broyles, Robert W. The Economics of Health Care. New York: Greenwood Press,
1988.
Normative Economics, AmosWEB Encyclonomic WEB*pedia, 2000-2015.
http://www.AmosWEB.com on 01-05-2016.
20

Lesson 01: Overview of Economics Revised 2016

Retrieved from:

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