Welcome to ECS 1125!

 Module leader - Jose M. Ortiz

 Module tutor – Jyoti Navare
 Office hour: Mondays 3-5 p.m. Williams building,
Room W217
 Assessment: two pieces of coursework due in
weeks 10 and 17 (30% of the final grade) and one
exam (70% of the final grade).
 Seminars start next week.
 Core and Recommended Text

 Sloman, John. and Garratt, Dean. Essentials of

Economics 6th or 7th edition, Pearson

 Begg, D. Foundations of Economics, 4th or 5th

Ed, McGraw-Hill

 Mandel, M. Economics: The Basics. McGraw-

Hill, 2009
 What is Economics?

The social science that study how human needs are

satisfied through the efficient allocation of scarce
resources (which has alternative uses).
Economic Issues
 The Economic Problem

 Economic problems
 production and consumption

 Scarcity: the central economic problem

 defining scarcity

 use of resources (factors of production)

 labour
 land and raw materials
 capital

 demand and supply

 importance of reconciling demand and supply
 actual and potential demand and supply
 Dividing up the Subject

 Macroeconomic issues (branch of economics that studies

the behavior and performance of an economy as a whole)

 unemployment

 inflation

 balance of payments problems

 cyclical fluctuations

Government spending, taxes and control of money are the

tools of macroeconomic policy.
 Dividing up the subject

Microeconomics
 The branch of economics that analyzes the market
behavior of individual consumers and firms to
understand the decision-making process of firms
and households.
 It is concerned with the interaction between
individual buyers and sellers and the factors that
influence the choices made by buyers and sellers.
 It focuses on patterns of supply and demand and
the determination of price and output in individual
markets (e.g. coffee industry).
 Economics of Individual Choice

 Resources are scarce.

 Choice problems:
 What is going to be produced? Quantity?

 How are things to be produced?

 For whom are things to be produced?

 Dividing up the Subject

 Microeconomic issues

 Choice making
 the concept of opportunity cost (the loss of other alternatives
when one alternative is chosen)
 rational decision making
 weighing up marginal costs (the cost added by producing one
extra item of a product) and marginal benefits(the additional
satisfaction or utility that a person receives from consuming an
additional unit of a good or service)
 the social implications of choice ( e.g pollution)
 Modelling Economic Relationships

 Modelling economic relationships

 the importance of assumptions (guides arguments and
research. e.g we assume that university students live on
fast food)
 simplification: ceteris paribus (all things being equal)
assumption (e.g. Assumes that if the price of beer
increases—ceteris paribus—the quantity of beer
demanded by buyers will decrease)
 The production possibility (PP) curve
 PPC

 Production possibilities is an analysis of the alternative

combinations of two goods that an economy can produce
with existing resources and technology in a given time
period.
 This analysis is often represented by a convex curve.
 A standard production possibilities curve for a hypothetical
economy is presented here. This particular production
possibilities curve illustrates the alternative combinations of
two goods—food and clothing -that can be produced by the
economy
 PPC

 According to the assumptions of production possibilities

analysis, the economy is using all resources with given
technology to efficiently produce the two goods.
 This curve presents the alternative combinations of food
and clothing that the economy can produce.
 Production is technically efficient, using all existing
resources, given existing technology.
 The vertical axis measures the production of food and
the horizontal axis measures the production of clothing
 PPC-Key economic concepts
 As a introductory model of the economy, the production
possibilities curve is commonly used to illustrate basic economic
concepts, including full employment, unemployment, opportunity
cost, economic growth, and investment.
 Opportunity Cost: This is indicated by the negative slope of the
production possibilities curve (or frontier). As more clothing is
produced, fewer food units are produced. This reduction in the
production of food is the opportunity cost of clothing production.
 Full Employment: This is indicated by producing on the
production possibilities curve. The curve indicates the maximum
production of food and clothing obtained with existing
technology, given that all available resources are engaged in
production.
 PPC-Key economic concepts
 Unemployment: This is indicated by producing inside the
production possibilities curve. If some available resources are
not engaged in production, then the economy is not achieving
maximum production.
 Economic Growth: This is indicated by an outward shift of the
production possibilities curve, which is achieved by relaxing the
assumptions of fixed resources and technology or by increasing
the quantity or quality of resources. With economic growth more
of both goods, crab puffs and storage sheds, can be produced.
 Investment: This is indicated by a tradeoff between the
production of consumption goods (food) with another or could
be with capital goods (e.g ships). Investment results if society
moves along the production possibilities curve, producing more
capital goods and fewer consumption goods
 PPC

 The production possibilities curve should be compared with

the production possibilities schedule
 A schedule presents a limited, discrete number of
production alternatives in the form of a table.
 The production possibilities curve, in contrast, presents an
infinite number of production alternatives that reside on the
boundary of the frontier.
 The production possibilities schedule is commonly used as
a starting point in the derivation of the production
possibilities curve
 A production possibility curve
8

6
Units of food (millions)

5 Units of food Units of clothing

(millions) (millions)

4 8m 0.0
7m 2.2m
3 6m 4.0m
5m 5.0m
4m 5.6m
2 3m 6.0m
2m 6.4m
1m 6.7m
1
0 7.0m

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 A production possibility curve
8
a
7

6
Units of food (millions)

5 Units of food Units of clothing

(millions) (millions)

4 a 8m 0.0
7m 2.2m
3 6m 4.0m
5m 5.0m
4m 5.6m
2 3m 6.0m
2m 6.4m
1m 6.7m
1
0 7.0m

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 A production possibility curve
8

b
7

6
Units of food (millions)

5 Units of food Units of clothing

(millions) (millions)

4 8m 0.0
b 7m 2.2m
3 6m 4.0m
5m 5.0m
4m 5.6m
2 3m 6.0m
2m 6.4m
1m 6.7m
1
0 7.0m

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 A production possibility curve
8

c
6
Units of food (millions)

5 Units of food Units of clothing

(millions) (millions)

4 8m 0.0
7m 2.2m
3 c 6m 4.0m
5m 5.0m
4m 5.6m
2 3m 6.0m
2m 6.4m
1m 6.7m
1
0 7.0m

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 A production possibility curve
8

6
Units of food (millions)

5 Units of food Units of clothing

(millions) (millions)

4 8m 0.0
7m 2.2m
3 6m 4.0m
5m 5.0m
4m 5.6m
2 3m 6.0m
2m 6.4m
1m 6.7m
1
0 7.0m

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 A production possibility curve
8

7 w
x
6
Units of food (millions)

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 Modelling Economic Relationships

 The production possibility (PP) curve

 what the curve shows

 microeconomics and the PP curve:

 trade off and efficiency
 increasing opportunity cost
 The Slope

 The slope of a line is measured by calculating the change

in the value measured on the vertical axis divided by the
change in the value measured on the horizontal axis.
 Another way of saying this is to divide the rise by the run.
 For the production possibilities curve to the right, this is the
change in the quantity of food (rise) divided by the change
in the quantity of clothing(run).
 Formula for calculating the slope of the production
possibilities curve
 Slope = rise = Change in food production
run Change in clothing production
 Opportunity cost

 This tradeoff indicates opportunity cost.

 Opportunity cost is the highest valued alternative foregone
in the pursuit of an activity.
 The opportunity cost of producing units of clothing is the
foregone production of food
 For example, the opportunity cost of producing the first m
unit of clothing is 7.5 m units of food. As the production of
clothing increases from 1 to 2 and the production of food
decreases from 7.5m to 7 m. In order to produce the first
clothing unit, the economy must switch resources from food
production to clothing production. As such, they have to
forego a certain amount of food production to produce
clothng
 Increasing opportunity costs
8

7
x
6
Units of food (millions)

1 y
5
1

4 2

3
z
1
2

0
0 1 2 3 4 5 6 7 8
Units of clothing (millions)
 Making a fuller use of resources

x
Production inside
Food

the production y
possibility curve

O
Clothing
 Modelling Economic Relationships

 Macroeconomics and the PP curve:

 production within the curve
 shifts in the curve-growth or an expansion of the economy’s
production possibilities
 2 sources of economic growth: increase in factors of
production and technology
 Growth in full-capacity output
Food

Now

O
Clothing
 Growth in full-capacity output

5 years’ time
Food

Now

O
Clothing
 Growth in full-capacity and actual output

Growth in full-capacity output shown

by outward shift in in PP curve.
Food

O
Clothing
 Growth in full-capacity and actual output

Growth in actual output shown by

y movement from x to y

x
Food

O
Clothing
 Modelling Economic Relationships

 The circular flow of income

 firms and households

 goods markets
 real
flows: goods and services
 money flows: consumer expenditure

 factor markets
 real
flows: services of labour and other factors
 money flow
 wages and other incomes
The circular flow of goods and incomes
Goods and services

£
Consumer
expenditure

Wages, rent
dividends, etc.
£

Services of factors of production (labour, etc)

 Modelling Economic Relationships

 The circular flow of income (cont.)

 macroeconomic issues
 the size of total flows

 microeconomic issues
 individual markets

 choices within goods and factor markets

 Economic Systems

 Classifying economic systems

 classification by degree of government control

 command economies (government rather than FME decides on
what to produce)
 free-market economies (allocation of resources determined by
their supply and the demand for them)
 mixed economies (characteristics of both capitalism and socialism)
 other classifications
 the informal economy (refers to activities and income that are
partially or fully outside government regulation, taxation, and
observation)
 the not-for-profit sector (e.g charity)
By their degree of market orientation:
 Economic Systems

 The command economy

 features of a command economy
 planning
 consumption and investment
 matching of inputs and outputs
 distribution of output
 Advantages of a command economy
 high investment, high and stable growth
 social goals pursued
 low unemployment
 Economic Systems

 Problems of a command economy

 problems of gathering information

 expensive to administer

 inefficient allocation of resources

 inappropriate incentives

 no system of prices
 shortages and surpluses

 lack of response to consumer demand

 Economic Systems

 The free-market economy

 based on free decision making by individuals and firms
 demand and supply decisions
 the price mechanism
 shortages and surpluses
 shortage  price rises
 surplus  price falls
 equilibrium price
 where demand equals supply
 response to change in demand and supply
 Economic Systems

 Interdependence of markets
 effect of a rise in demand
 effect in market for that good
 effect in factor markets
 effect in other goods markets
 effect in other factor markets
 Competitive markets
 perfectly competitive markets
 everyone is a price taker
 why study perfect markets?
 Mixed market Economy

 Economic reasons for government intervention

 Allocative role (determines on what government revenue will be spent on)

 Distributive role (through its tax and expenditure policy government

undertakes distribution of personal income of households in a manner which
is just and fair. As such it taxes the rich and spends for the schemes which
benefit more the poor.)

 Macro-economic Stabilising role (Economy of a country is affected by

economic fluctuations such as conditions of boom and depression. Such
changes benefit some and harm others. In such a situation appropriate policy
measures are required by the government to affect the levels of aggregate
demand. Such measures are called stabilization measures. These measures
aim at avoiding the situations of inflation and unemployment.)

 regulatory role ( creating laws for trading etc)

 Positive and Normative Economics

 Positive economics deals with objective explanation

 e.g. if a tax is imposed on a good, its price will tend
to rise.

 Normative economics offers prescriptions based on

value judgements
 e.g. a tax should be imposed on tobacco to
discourage smoking.
 Economists Agree

 Agreement on positive questions

 Raising interest rates slows down inflation

 A tax cut will lower the price of a good and increase

amount sold
 Lot of agreement on normative questions
 Markets are a good thing

 Free trade is a good thing

 Why disagreement?

 Reasons for the policy disagreement may be due

to:
 Political Agenda
 Lack of Data
 Winners and Losers
 Different scientific interpretations about the assumptions
underpinning economic models and their functioning
 Different opinions about the best model to apply to a certain
situation
 Different values and objectives
Different Schools of Economics