INTRODUCTION TO

ECONOMICS
 THE ECONOMIC PROBLEM OF
SCARCITY, CHOICE & OPP COST
 When wants exceed the resources available to satisfy them, there is
scarcity.
The condition that arises because the available resources
are insufficient to satisfy wants.
 Faced with scarcity, people must make choices.

 Choosing more of one thing means having less of something

else.

The opportunity cost of any action is the best alternative forgone.

 ● Economics
The social science that studies the choices that we make
as we cope with scarcity and the incentives that influence
and reconcile our choices.
Here are some examples of scarcity and the trade-offs associated with
making choices:
• You have a limited amount of time. If you take a part-time job, each
hour on the job means one less hour for study or play.
• A city has a limited amount of land. If the city uses an acre of land
for a park, it has one less acre for housing, retailers, or industry.
• You have limited income this year. If you spend R70 on a music CD,
that’s R70 less you have to spend on other products or to save.
MICRO VS MACRO
Microeconomics
Microeconomics: The study of the choices that
individuals and businesses make, the way these
choices interact, and the influence that
governments exert on these choices.
Macroeconomics
Macroeconomics: The study of the aggregate (or
total) effects on the national economy and the global
economy of the choices that individuals, businesses,
and governments make.
 The Three Key Economic Questions: What, How,
and Who?
The choices made by individuals, firms, and
governments answer three questions:
1 What products do we produce?
2 How do we produce the products?
3 Who consumes the products?
 PLANNED, MARKET &
MIXED ECONOMIES
Planned economy – the government decides how
resources are allocated to the production of particular
goods.

Market economy - the government plays no role

in allocating resources.

Mixed economies – the government and the

private sector jointly solve economic problems
 WHY ECONOMICS IS
WORTH STUDYING
Understanding
Economic ideas are all around you. You cannot ignore
them. As you progress with you study of economics,
you’ll gain a deeper understanding of what is going on
around you.
Expanded Career Opportunities
Knowledge of economics is vital in many fields such
as banking, finance, business, management, insurance,
real estate, law, government, journalism, health care and
the arts.
PRODUCTION POSSIBILITIES
The PPF is a valuable tool for illustrating the
effects of scarcity and its consequences.
Production Possibilities Frontier
 The boundary between the combinations of
goods and services that can be produced and the
combinations that cannot be produced, given
the available factors of production and the state
of technology.
 PRODUCTION POSSIBILITIES

Figure 1 shows the

PPF for bottled water
and CDs.

Each point on the graph

represents a column of
the table.

The line through the

points is the PPF.
PRODUCTION POSSIBILITIES
 The PPF puts three features of production
possibilities in sharp focus:
 Attainable and unattainable combinations
 Full employment and unemployment
 PPF are faced with opportunity costs
 Opportunity cost is the cost of the next best
alternative sacrificed when a choice is made
OPPORTUNITY COST
 A sustained expansion of production possibilities is
called economic growth.
 The key factors that influence economic growth are:
 Technological change
 Expansion of human capital

 Capital accumulation

 Technological change is the development of new goods and

services and better methods of production.
 Expansion of human capital comes from education and on-the-
job training.
 Capital accumulation is the increase in capital resources.
► FIGURE 2.2
Shifting the Production
Possibilities Curve
An increase in the quantity of
resources or technological
innovation in an economy
shifts the production
possibilities curve outward.
Starting from point f, a nation
could produce more steel
(point g), more wheat (point h),
or more of both goods (points
between g and h).
SUPPLY and DEMAND
 DEMAND

The relationship between the quantity

demanded and the price of a good when all
other influences on buying plans remain the
same.
 LAW OF DEMAND
The Law of Demand
Other things remaining the same,
 If the price of a good rises, the quantity demanded of
that good decreases.
 If the price of a good falls, the quantity demanded of
those good increases.
Demand curve versus demand schedule
DEMAND
DEMAND
Changes in Demand
 Change in the quantity demanded
 A change in the quantity of a good that people
plan to buy that results from a change in the
price of the good.
 Change in demand
 A change in the quantity that people plan to buy
when any influence other than the price of the
good changes.
 DEMAND
The main influences on buying plans that change demand are:

 Prices of complementary/substitute goods

 Consumer Income (normal goods e.g. laptop & inferior goods e.g.
tuyo, tinapa)
 Price Expectations
 Number of buyers –the greater the no. of buyers in a market, the
larger the demand for any good
 Tastes & Preferences – when preferences change, the demand for
items increases & demand for another item decreases.
 SUPPLY
Quantity supplied
The amount of a good, service, or resource that people are
willing and able to sell during a specified period at a specified
price.
The Law of Supply
Other things remaining the same,
 If the price of a good rises, the quantity supplied of
that good increases.
 If the price of a good falls, the quantity supplied of that
good decreases.
SUPPLY
SUPPLY
Changes in Supply
 Change in quantity supplied
 A change in the quantity of a good that suppliers
plan to sell that results from a change in the price
of the good.
 Change in supply
 A change in the quantity that suppliers plan to
sell when any influence on selling plans other
than the price of the good changes.
 SUPPLY

1. When supply decreases,

the supply curve shifts
leftward from S0 to S1.

2. When supply increases,

the supply curve shifts
rightward from S0 to S2.
 SUPPLY
The main influences on selling plans that change supply are:
 Prices of related goods
 Prices of resources and other Inputs
 Expectations
 Number of sellers
 Productivity
THE PRICE ELASTICITY OF DEMAND

● Price elasticity of demand (Ed)

A measure of the responsiveness of the quantity
demanded to changes in price; equal to the absolute
value of the percentage change in quantity demanded
divided by the percentage change in price.

● Elasticity
Elastic > 1
Inelastic < 1
Unitary = 1
 THE PRICE ELASTICITY OF DEMAND

Price Elasticity and the Demand Curve

● perfectly inelastic demand
The price elasticity of demand is zero.
 THE PRICE ELASTICITY OF DEMAND

Price Elasticity and the Demand Curve

● perfectly elastic demand
The price elasticity of demand is infinite.
 THE PRICE ELASTICITY OF DEMAND

Computing Percentage Changes and Elasticities

 THE PRICE ELASTICITY OF DEMAND

Other Determinants of the Price Elasticity of Demand

SHORT RUN VS LONG TERM
 SHORT RUN versus LONG RUN

The Short Run: Fixed Plant

The short run is a time frame in which the quantities
of some resources are fixed.
In the short run, a firm can usually change the
quantity of labor it uses but not the quantity of capital
The Long Run: Variable Plant
The long run is a time frame in which the quantities of
all resources can be changed.
A sunk cost is irrelevant to the firm’s decisions.
SHORT-RUN PRODUCTION
 To increase output with a fixed plant, a firm
must increase the quantity of labor it uses.
 We describe the relationship between output
and the quantity of labor by using three related
concepts:
 Total product (total quantity produced)
 Marginal product
 Average product
SHORT-RUN PRODUCTION
Total Product
 Total product (TP) is the total quantity of a
good produced in a given period.
 Total product is an output rate—the number of
units produced per unit of time.
 Total product increases as the quantity of labor
employed increases.
 SHORT-RUN PRODUCTION
Figure 9.2 shows the total
product and the total
product curve.
Points A through H on the
curve correspond
to the columns of the
table.
The TP curve is like the
PPF: It separates
attainable points and
unattainable points.
 SHORT-RUN PRODUCTION
Marginal Product
 Marginal product is the change in total product
that results from a one-unit increase in the
quantity of labor employed.
 It tells us the contribution to total product of
adding one more worker.
 SHORT-RUN PRODUCTION

The table calculates

marginal product
and the orange bars in
part (b) illustrate it.

Notice that the steeper

the slope of the TP
curve, the greater is
marginal product.
 SHORT-RUN PRODUCTION
The total product and
marginal product curves in
this figure incorporate a
feature of all production
processes:
• Increasing marginal
returns initially
• Decreasing marginal
returns eventually
• Negative marginal
returns
SHORT-RUN PRODUCTION
 Increasing Marginal Returns
 Increasing marginal returns occur when the
marginal product of an additional worker
exceeds the marginal product of the previous
worker.
 Increasing marginal returns occur when a small
number of workers are employed and arise
from increased specialization and division of
labor in the production process.
SHORT-RUN PRODUCTION
 Decreasing Marginal Returns
 Decreasing marginal returns occur when the
marginal product of an additional worker is less
than the marginal product of the previous
worker.
 Decreasing marginal returns arise from the fact
that more and more workers use the same
equipment and work space.
 As more workers are employed, there is less
and less that is productive for the additional
worker to do.
 SHORT-RUN PRODUCTION
 Decreasing marginal returns are so pervasive that
they qualify for the status of a law:
 The law of decreasing returns states that:
As a firm uses more of a variable input,
with a given quantity of fixed inputs, the
marginal product of the variable input
eventually decreases.
SHORT-RUN PRODUCTION
Average Product
Average product is the total product per worker
employed.
It is calculated as:

Average product = Total product Quantity of

labor
Another name for average product is
productivity.
SHORT-RUN PRODUCTION
SHORT-RUN COST
 To produce more output in the short run, a firm
employs more labor, which means it must
increase its costs.
 We describe the relationship between output
and cost using three cost concepts:
 Total cost
 Marginal cost

 Average cost
SHORT-RUN COST
Total Cost
 A firm’s total cost (TC) is the cost of all the
factors of production the firm uses.
 Total cost divides into two parts:
 Total fixed cost (TFC) is the cost of a firm’s
fixed factors of production used by a firm—the
cost of land, capital, and entrepreneurship.
 Total fixed cost doesn’t change as output
changes.
 SHORT-RUN COST
 Total variable cost (TVC) is the cost of the variable
factor of production used by a firm—the cost of labor.
 To change its output in the short run, a firm must
change the quantity of labor it employs, so total
variable cost changes as output changes.
 Total cost is the sum of total fixed cost and total
variable cost. That is,
 TC = TFC + TVC
 On the next page you will see an example of cost computation.
SHORT-RUN COST
 SHORT-RUN COST
Total fixed cost (TFC) is
constant—it graphs as a
horizontal line.
Total variable cost (TVC)
increases as output increases.

Total cost (TC) also increases

as output increases.
 SHORT-RUN COST
The vertical distance between
the total cost curve and the
total variable cost curve is
total fixed cost, as illustrated
by the two arrows.
SHORT-RUN COST
Marginal cost
 A firm’s marginal cost is the change in total
cost that results from a one-unit increase in total
product.

 Marginal cost tells us how total cost changes as

total product changes.
SHORT-RUN COST
Average Cost
 There are three average cost concepts:
 Average fixed cost (AFC) is total fixed cost per
unit of output.
 Average variable cost (AVC) is total variable
cost per unit of output.
 Average total cost (ATC) is total cost per unit of
output.
 SHORT-RUN COST
The average cost concepts are calculated from the
total cost concepts as follows:
TC = TFC + TVC
Divide each total cost term by the quantity produced,
Q, to give
TC = TFC + TVC
Q Q Q
or,
ATC = AFC + AVC
SHORT-RUN COST
 SHORT-RUN COST
The vertical distance between
these two curves is equal to
average fixed cost, as illustrated by
the two arrows.

The marginal cost curve (MC) is

U-shaped and intersects the
average variable cost curve and the
average total cost curve at their
minimum points.
 LONG-RUN COST
Plant Size and Cost
 When a firm changes its plant size, its cost of
producing a given output changes.
 Each of these three outcomes arise because when a
firm changes the size of its plant, it might
experience:
 Economies of scale
 Diseconomies of scale
 Constant returns to scale
 PRODUCTION AND COST IN
THE LONG RUN
Economies of Scale, Diseconomies of scale and constant returns

● Economies of scale
A situation in which the long-run average cost of production decreases as
output increases.

● Diseconomies of scale
A situation in which the long-run average cost of production increases as
output increases.

● Constant returns to scale

Exist when a firm increases plant size and labour employed by the same
percentage, its output increases by the same percentage and average total cost
remains constant
LONG-RUN COST
The Long-Run Average Cost Curve
 The long-run average cost curve shows the
lowest average cost at which it is possible to
produce each output when the firm has had
sufficient time to change both its plant size and
labor employed.
 LONG-RUN COST

The long-run
average cost curve,
LRAC, traces the
lowest attainable
average total cost of
producing each
output.
LONG-RUN COST
 MARKET EQUILIBRIUM
● Market equilibrium
A situation in which the quantity
demanded equals the quantity
supplied at the prevailing market
price.

1. Excess demand cause the

price to rise

2. Excess supply cause

the price to drop
 Demand Summary

MARKET
Supply Summary
 ELASTICITY & CHANGES IN THE EQUILIBRIUM

 Equilibrium price and equilibrium quantity in a

given market are determined by the intersection of
the supply and demand curves.

 Depending on the elasticities of supply and demand,

the equilibrium price and quantity can behave
differently with shifts in supply and demand.
 ELASTICITY & CHANGES IN THE EQUILIBRIUM

 If demand is very elastic, then shifts in the supply curve will

result in large changes in quantity demanded and small
changes in price at the equilibrium point.
 ELASTICITY & CHANGES IN THE EQUILIBRIUM

If demand is very inelastic, however, then shifts in the supply curve

will result in large changes in price and small changes in quantity
at the equilibrium point.
MICRO VS MACRO
Microeconomics
Microeconomics: The study of the choices that
individuals and businesses make, the way these
choices interact, and the influence that
governments exert on these choices.
Macroeconomics
Macroeconomics: The study of the aggregate (or
total) effects on the national economy and the
global economy of the choices that individuals,
businesses, and governments make.
 Macroeconomics questions

 Will tomorrow’s world be more prosperous than

today?
 Will jobs be plentiful?

 Will the cost of living be stable?

 Will the government and the nation remain in

deficit?

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 Macroeconomic Policy Challenges
and Tools
 Five widely agreed policy challenges for
macroeconomics are to:
1. Boost economic growth
2. External stability/balance of payments
3. Lower unemployment / Full employment
4. Price stability
5. Equitable distribution of wealth (income)
 Macroeconomic Policy
Challenges and Tools
 Two broad groups of macroeconomic policy tools
are :
 Fiscal policy—making changes in tax rates and
government spending
 Monetary policy—changing interest rates and changing
the amount of money in the economy
 The Circular Flow
This model captures the essential essence of
macroeconomic activity
The circular flow model illustrates the
mechanism by which income is generated from
goods and services and how this income is spent.
This provides the basis for the way economists
think about the interactions between different
parts of the economy and the measurement of
economic activity
The Circular Flow of income n spending
MACROECONOMIC
VARIABLES
 Gross Domestic Product (GDP)
 Inflation

 Unemployment

 Balance of payments
 Gross Domestic Product
GDP Defined
 GDP or gross domestic product, is the market
value of all final goods and services produced in a
country in a given time period.
 This definition has four parts:
 Market value
 Final goods and services

 Produced within a country

 In a given time period

Gross Domestic Product
 Market Value
 GDP is market value goods and services are
valued at their market prices.
 To add apples and oranges, computers and ice
cream, we add the market values so we have a
total value of output in rands.

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Gross Domestic Product
 Final Goods and Services
 GDP is the value of the final goods and
services produced.
 A final good (or service) is an item bought by its
final user during a specified time period.
 A final good contrasts with an intermediate good,
which is an item that is produced by one firm,
bought by another firm and used as a component of
a final good or service.
Gross Domestic Product
 Excluding intermediate goods and services avoids a
problem called double counting.
 Produced Within a Country
 GDP measures production within a country domestic
production.
 In a Given Time Period
 GDP measures production during a specific time period
Excluding intermediate goods and services avoids
double counting normally a year or a quarter of a
year. ©
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 GDP, INCOME, AND
EXPENDITURE

.
Nominal vs Real GDP
 Real GDP is the value of final goods and
services produced in a given year when valued
at constant prices.
 The first step in calculating real GDP is to
calculate nominal GDP.
Nominal GDP
 Nominal GDP is the value of goods and
services produced during a given year valued at
the prices that prevailed in that same year.
 Inflation
 Inflation is a continuous and considerable rise in
price level in general.
 The commonly used indicator of general price
level is the CPI
 To calculate inflation rate - is the percentage
change in the price level.

(P1 – P0) 100

P0
 Inflation
Is Inflation a Problem?
 Unpredictable changes in the inflation rate are a problem
because they redistribute income in arbitrary ways between
employers and workers and between borrowers and
lenders.
 A high inflation rate is a problem because it diverts
resources from productive activities to inflation forecasting.
 Eradicating inflation is costly because it brings a period of
greater than average unemployment.

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Unemployment
defined

Unemployment is a state in which a person does not

have a job but is available for work, willing to work,
and has made some effort to find work within the
previous four weeks.
Types of Unemployment
 Frictional unemployment
 Structural unemployment

 Cyclical unemployment

 Seasonal unemployment

 Disguised/ Hidden unemployment

 Unemployment

Frictional unemployment – This is

unemployment caused by people moving in
between jobs, e.g. graduates or people
changing jobs. There will always be some
frictional unemployment.
 Unemployment

Structural unemployment is
unemployment created by changes in
technology and foreign competition that
change the skills and location match
between jobs and workers.
Cyclical unemployment is the fluctuation
in unemployment caused by the business
cycle e.g. in a recession AD & thus output
falls.
 Unemployment

Seasonal unemployment is occurs when

employees only work during a certain time(s) of
the year and therefore during other months they
are regarded as unemployed.
Disguised/Hidden unemployed is said to exist if
people who were previously fully employed,
have had their hours.(& salaries) reduced
because of poor business performance
 Costs of unemployment
Why Unemployment is a Problem
 Unemployment is a serious economic, social, and
personal problem for two main reasons:
 Lost production and incomes
 Lost human capital

 Lost production and income is serious but

temporary.
 Lost human capital is devastating and permanent.
 Balance of payments
A country’s balance of payments accounts
records its international trading, borrowing and
lending. It consists of 4 basic accounts:
1. Current account – reflects the rand value of the goods and
services exported and imported during the period
2. Capital account – records all international borrowing and
lending.
3. Financial account-international transactions involving
financial assets including the borrowing & lending of funds
4. Unrecorded transactions- all errors and omissions that occur
in compiling the individual components of the BOP.
 Economic Growth
Economic growth is the expansion of the economy’s
production possibilities—an outward shifting PPF.
We measure economic growth by the increase in real
GDP.
Real GDP—real gross domestic product—is the
value of the total production of all the nation’s farms,
factories, shops, and offices, measured in the prices of
a single year.
 The Causes of Economic
Growth: A First Look
For economic growth to persist, people must face
incentives that encourage them to pursue three
activities
Saving and investment in new capital Investment in
human capital
Discovery of new technologies An increase in

labour supply
Decrease in human capital

Increase in productivity
The Causes of Economic Growth
Saving and Investment in New Capital
 The accumulation of capital has dramatically increased
output and productivity.
Investment in Human Capital
 Human capital acquired through education, on-the-job
training, and learning-by-doing has also dramatically
increased output and productivity.
Discovery of New Technologies
 Technological advances have contributed immensely to
increasing productivity.
Measuring Economic Growth
When GDP increases, we know that either
We produced more goods and services or
We paid higher prices
Producing more goods and services contributes
to an improvement in our standard of living.
Expansion of production is economic growth.
Economic growth is not a smooth process and
hence is related to a phenomenon called business
cycle.
Business Cycle Patterns
 The business cycle is a pattern of upswing
(expansion) and downswing (contraction) in the
economy.
 These cycles differ according to the role of
outside force and basic system design.
 BUSINESS CYCLE
An
expansion
ends at a
peak and a
recession
ends at a
trough.
 Economic Growth
 Every business cycle has two phases:
 1. A recession - is a period during which real
GDP decreases for at least two successive
quarters.
 2. An expansion - is a period during which real
GDP increases.
 and two turning points:

 1. A peak

 2. A trough
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 Cycle Patterns, Impulses
and Mechanisms

 All theories of the business cycle agree that

investment and the accumulation of capital play
a crucial role.
 Recessions begin when investment slows and
recessions turn into expansions when
investment increases.
 Investment and capital are crucial parts of
cycles, but are not the only important parts.
 Causes of fluctuations in
actual growth

Causes of fluctuations in actual growth

 In the short-run
 Variations in the growth of aggregate demand – total
spending on goods and services made within a country
 In the long-run
 The growth in Aggregate demand. This determines
whether potential output will be realised
 The growth in potential output
 Economic Growth
Benefits and Costs of Economic Growth
 The main benefit of long-term economic growth is
expanded consumption possibilities, including more health
care for the poor and elderly, more research on cancer and
AIDS, better roads, more and better housing and a cleaner
environment.
 The costs of economic growth are forgone consumption in
the present, more rapid depletion of non-renewable natural
resources, and more frequent job changes.
 The Labour Market
The market for a factor of
production - labour
Refers to the demand for
labour – by employers and
the supply of labour
(provided by potential
employees) The demand for labour is dependent on the
demand for the final product that labour
produces.The greater the demand for office
space the higher the demand for construction
workers.
Copyright: Bo de Visser, stock.xchng
The Labour Market
The labour market is an example of a factor market
Supply of labour – those people seeking employment
(employees)
Demand for labour – from employers
A ‘Derived Demand’ – not wanted for its own sake but for what it
can contribute to production
Demand for labour related to productivity of labour and the level
of demand for the product
Elasticity of demand for labour related to
the elasticity of demand for the product
The Labour Market
At higher wage rates
the demand for labour
will be less than at
lower wage rates
Reason linked to
Marginal Productivity
Theory
The demand for labour is highly dependent on the
productivity of the worker – the more the worker
adds to revenue, the higher the demand.
Copyright: iStock.com
 The Labour Market
Wage Rate (£ per hour)
There is an inverse
relationship between the
wage rate and the number
10 of people employed by the
firm.

The MRP curve

7
therefore represents the
demand curve for labour
illustrating the derived
4 demand relationship.

DL
10 15 19 Number Employed
The Labour Market
The market demand for labour will shift or
change due to:
 The number of firms or employers changes
 The number of product changes
 The productivity of labour changes
 There is a new substitute for labour
 The price of substitute changes
 The price of a complementary factor of production
changes
 The demand for
The Labour labour will shift if:
•Productivity of
Market labour increases
Wage Rate (£
per week) •New machinery
is used which
increases
£250 productivity
•If there is an
increase in the
demand for the
good/service
itself
•If the price of
£100 the
good/service
increases
D 1

DL

Q1 Q3 Q2 Q4
Quantity
of labour
employed
The Labour Market
The Supply of Labour
The amount of people offering their labour
at different wage rates.
 Involves an opportunity cost – work v. leisure
 Wage rate must be sufficient
to overcome the opportunity cost
of leisure
The Labour Market
The market supply of labour will shift or
change due to:
 Tastes (for leisure, income and work)
 Income and wealth
 Expectations (for income or consumption)
 Skill levels required
 Size and structure of the population – age, gender, etc.
 Opportunity cost of work – income and substitution
effects
The Labour Market
Income effect of a rise in wages:
As wages rise, people feel better off and therefore may not feel a
need to work as many hours
Substitution effect of a rise in wages:
As wages rise, the opportunity cost of leisure rises (the cost of
every extra hour taken in leisure rises). As wages rise, the
substitution effect may lead to more hours being worked.
The net effect depends on the relative strength of the
income and substitution effects
 The Labour
A rise in the demand
for labour would
force up the wage

Market rate as there would

be excess demand
for labour.
age Rate (£ per hour)
W The market wage
rate for a
particular
occupation
therefore will
occur at the
7.5
0

6.0
0 Exce
i section of the demand and demand and
n supply of labour. supply of labour.
t
The wage rate will alter if there
e
is a shift in either or both the D DL1
r L
Q1 Q2
Number
employed
 The Labour Market
Wage Rate (£ per
SL An increase in the
hour)
supply of labour
would lead to a fall
in the wage rate as
there would be an
excess supply of
labour.
6.00

5.00
Excess Supply

DL
Q1 Q2
Number employed