Economics  Economic resources- inputs used in the

production of goods and services

 “oikonomeia” : management of households
 Land- natural resources, not man-made
 study of allocating resources to satisfy human
covering anything found on or under land,
wants and needs
including water, forests, minerals and animals
 study of production, consumption and
 Labor- human effort expended in production
distribution of human activities
regarding basic economic problems
 study on how to deal with scarcity
 Entrepreneur- organises all other factors of
 study of making choices in using scarce
production to be used in the creation of goods
resources to maximize satisfaction
and services
 Study of ordinary human business life
 Theory/Hypothesis- an unproven proposition
 Family income – unlimited wants of each
tentatively
household member and limited resources.
 Variable- a factor that is subject to change or
You need to manage resources to maximize
variation
satisfaction of each family member
 Macroeconomics- the branch of Economics
 Scarcity- the central economic problem
that studies the economy as a whole, also
Adam Smith known as National Income Analysis
 Microeconomics- the branch of Economics
 18th-century Scottish philosopher
that deals with parts of the economy such as
 father of modern economic
the household and the business firm
 Most famous for his 1776 book, “An Inquiry to
the Wealth of Nations” Positive economics
 discovered the concept of division of labor
 Concerned with what is?
 The theory of invisible hands
 Based on facts or theory
Micro and Macroeconomics  Deals with the cause and effect relationship of
economic phenomena, which can be tested
 first used by Ragner Frisch in 1933
using empirical evidence
 ‘micro’ – mikros – small
 Example: Price rises when there is a shortage
 ‘macro’ – makros – large
and price falls when there is a surplus
Micro-economics
Normative economics
 concerned on small/individual/particular
 What ought to be?
economic units like as individual consumer,
 Based on value judgement/opinion which
households, firms, industry etc.
cannot be tested
 main objective: explain the principles,
 Example: Price of rice should be higher to help
 problems and policies related to the optimum
farmers earn more
allocation of resources
 example: we study how price of goods or Economics as Related to other social science
factors of production are determined.
 Psychology, sociology, political science etc are
 process of determination of individual price
related to economics
with interaction of demand and supply
 Economics involves the collection of empirical
 also called as price theory or demand and
observations/data verifying and testing data
supply theory
using statistical techniques

 Economics- a social science concerned with

 Factor market - involves four factors of
man’s problem of issuing scarce resources to
production (land, labor, capital,
satisfy unlimited wants
entrepreneurship)
 Basic needs- man’s needs required for his
 Final goods - involves the semi-finished
survival
goods/ finished product
 Luxury goods- goods that man can do without
Principles of HOW PEOPLE MAKE DECISIONS
PRINCIPLE #1 : All decisions involve tradeoffs.
Examples:
• Going to a party the night before your midterm
leaves less time for studying.
• Having more money to buy stuff requires working
longer hours, which leaves less time for leisure.
• Protecting the environment requires resources that
could otherwise be used to produce consumer good.
PRINCIPLE #1 : People face trade offs. Society faces an
important tradeoff: Efficiency vs. Equality
 Efficiency: when society gets the most from
its scarce resources
 Equality : when prosperity is distributed
uniformly among society’s members
 Tradeoff: To achieve greater equality, could
redistribute income from wealthy to poor. But
this reduces incentive to work and produce,
shrinks the size of the economic “pie”.
PRINCIPLE #2 : The cost of something is what you give
up to get it
 Making decision requires comparing the costs
and benefits of alternative choices
 The opportunity cost of any item is whatever
must be given up to obtain it
 It is the relevant cost for decision making
Examples:
• Going to college for a year is not just the tuition,
books and fees but also the foregone wages.
• Seeing a movie is not just the price of the ticket, but
the value of the time you spend in the theater.
PRINCIPLE #3 : Rational people think at the margin
Rational people:
 Systematically and purposefully do the best
they can to achieve their objectives.
 Make decisions by evaluating costs and
benefits of marginal changes-incremental
adjustments to an existing plan .
PRINCIPLE #3 :
Examples:
• When a student consider whether to go to college
for an additional year, he compares the fees &
foregone wages to the extra income he could earn
with the extra year of education.
• When a manager considers whether to increase
output, she compares the cost of the needed labor
and materials to the extra revenue.
PRINCIPLE #4 : People respond to incentives.
 INCENTIVE- something that induces a person
to act, i.e the prospect of a reward or
punishment.
Examples: When gas prices rise, consumers
buy more hybrid cars and fewer gas guzzling
SUVs.
PRINCIPLE #5 : Trade can make everyone better off.
 Rather than being self-sufficient, people can
specialize in producing one good or service
and exchange it for other goods.
 Countries also benefit from trade &
specialization.
 Get a better price abroad for goods they
produce.
PRINCIPLE #6 : Markets are usually a good way to
organize economic activity
 MARKET: a group of buyers and seller (need
not be in a single location).
 “Organize economic activity” means
determining:
 What goods to produce
 How to produce them
 How much of each to produce
 Who gets them
 A market economy allocated resources
through the decentralized decisions of many
households and firms as they interact in
markets.
 Famous insight by ADAM SMITH in the Wealth
of Nations {1776):
 Each of these households and firms acts as if
“led by an invisible hand” to promote general
economic well-being.
 The invisible hand work through the price
system:
 The interaction of buyers and seller
determines prices.
 Each price reflects the good’s value to buyers
and the cost of producing the good.
 Prices guide self-interested households and
firms to make decisions that, in many cases,
maximize society’s economic..
PRINCIPLE #7 : Government can sometimes improve PRINCIPLE #10 : Society faces a short-run tradeoff
market outcomes. between inflation and unemployment.

 Important role for government: enforce
property rights (with police, courts).
 People are less inclined to work, produce,
invest or purchase if large risk of their
property being stolen.
 MARKET FAILURE when the market fails to
allocate society’s resources efficiently.
The principles of decision making are:
 CAUSES:
 Externalities, when the production or
consumption of a good affects bystanders
(e.g. pollution)
 Market power, a single buyer or seller has
substantial influence on market price (e.g.
monopoly)
 In such cases, public policy may promote
The principles of interactions among people are:
efficiency.
 Govt may alter market outcome to promote
equality.
 If the market’s distribution of economic well-
being is not desirable, tax or welfare policies
can change how the economic “pie” is
divided.
 In the short-run (1-2 years) many economic
policies push inflation and unemployment in
opposite directions.
 Other factors can make this tradeoff more or
less favorable, but the tradeoff is always
present.
 People face tradeoffs.
 The cost of any actions is measured in terms
of foregone opportunities.
 Rational people make decisions by comparing
marginal costs and marginal benefits.
 People respond to incentive.
 Trade can be mutually beneficial.
 Markets are usually a good way of
coordinating trade.
 Government can potentially improve market
outcomes if there is a market failure or if the
market outcome is inequitable.

PRINCIPLE #8 : A country’s standard of living depends CHAPTER SUMMARY

on its ability to produce goods and services.
The principles of the economy as a whole:
 Huge variation in living standards across
 Productivity is the ultimate source of living
countries and over time.
standards.
 Average income in rich countries is more than
o Money growth is the ultimate source
ten times average income in poor countries.
of inflation.
 The U.S standard of living today is about eight
 Society faces a short run trade off between
times larger than 100 years ago.
inflation and unemployment.
 The most important determinant of living
standards: PRODUCTIVITY, the amount of
good and services produced per unit of labor.
 Productivity depends on the equipment, skills
and technology available to workers
 Other factors (e.g labor unions, competition
from abroad) have far less

PRINCIPLE #9 : Prices rise when the government prints

too much money.

 Inflation: increase in the general level of

prices.
 In the long run, inflations is almost always
caused by excessive growth in the quantity of
money, which causes the value of money to
fall.
 The faster the government creates money,
the greater the inflation rate.
 Market – group of buyer and sellers of a 6. When quantity demanded does not respond
particular product. at all to price, the demand is said to be ___ -
 Competitive market – one with many buyers Perfectly Inelastic
and sellers 7. Suppose tangerines were inferior good. This
 Perfectly competitive – all goods exactly the means that when your income decreases, you
same will buy (more/fewer) tangerines.
 Price taker – numerous buyers and sellers 8. Justify if true or falls. When the seller
that no one can affect market price increases the price charged for a purchase
 Demand – comes from the behavior of the with an inelastic demand, the seller’s revenue
buyers will go up. – True bcos as the price increase,
 Quantity demanded – amount of the goods the revenue increase. Konting demand lng
that buyers are willing and able to purchase kasi ineslatic demand sya.
 Law of demand – increase in price, decrease
in quantity demanded
 Demand schedule – table that shows the
relation of price of goods and quantity
demanded
 Demand curve – shows how the price affects
quantity demanded
 DEMAND CRUVE SHIFTERS @ notebook
 Supply – comes from the behavior of sellers
 Quantity supplied – amount of goods that
sellers are willing and able to sell
 Law of supply – price increase, supply
increases
 Supply schedule – table that shows the
relation of price and quantity supplied
 SUPPLY CRUVE SHIFTERS @ notebook
 Equilibrium – where the demand and supply
intersect and meet
 Surplus – QS > QD
 Shortage – QS < QD

1. You sell apples for 1$ each. If you raise your

price by even 1 penny, you will lose all your
customers, then demand curve for your apple
falls. – Perfectly elastic ()
2. Justify if true or falls. Elasticity is the same as
the slope of the demand curve. – False. bcos
the slope is the ratio of change in .. elasticity is
the ratio of percentage change (nasa module:
linear demand curve)
3. The responsiveness of demand to income is
known as the _____ of elasticity. - Income
elasticity of demand
4. The income elasticity of demand is ____
(negative) for inferior goods and ____
(positive) for normal goods.
5. When demand is ___ revenue to the seller is
unaffected by a price change. – unitary elastic
  Elasticity – a measure of how much buyers
and sellers respond to changes in market
condition
 Elasticity of demand – the potential for a shift
in demand
 Price elasticity of demand – measures how
willing consumers are to buy less of the good
as its price rises
 Goods w/ substitutes – elastic demand bcos of
easy chance to switch
 Necessities – tend to have inelastic demand
 Luxuries – have elastic demand
 (Short) time horizon – have more elastic
demand over longer time horizons
 Midpoint method – standard procedure for
computing a percentage change is to divide
the change by the initial level
 Demand curve - define the relationship
between product price and consumer
quantity
 Total revenue – amount paid by buyers and
received by sellers of a good
 Income elasticity of demand – measure how
the quantity demanded changes as a
consumer’s income change
 Cross-price elasticity of demand – measures
how quantity demanded at one good
responds to a change in the price of another
good
 Elasticity of Supply – degree of responsiveness
of the quantity supplied of a good or service
to a change in its price

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