The Economizing Problem

part 1

Please listen to the audio as you work

through the slides.
Creative Commons Attribution 4.0 License,
Charles Hackner Houston Community
College unless otherwise noted CC BY NC
 An Exercise in Connecting the Dots

Today, over 1 billion people in the world go

hungry while over 1 billion people are
overweight.

How do you explain this?

 Connecting more dots
• How do you explain the relationship
between the previous problem and the 3
features of the economic way of thinking:

• Scarcity and Choice

• Rational behavior
• Marginal analysis
 The
Economizing
Problem
part 1

Learning Objectives:
Students will thoroughly and completely explain:

The 4 basic input factors of production,

The individual’s economizing problem,
Society’s economizing problem.
The basic types of economic systems,
The circular flow model.
 The Foundations of Economics

SOCIETY HAS VIRTUALLY

UNLIMITED WANTS...

The economic wants of

citizens,
firms, and governments
 The Foundations of Economics

SOCIETY HAS VIRTUALLY

UNLIMITED WANTS...

BUT LIMITED OR SCARCE

PRODUCTIVE RESOURCES!

The means of producing

goods and services
 Goods & Services Provide...

UTILITY
A measure of satisfaction or pleasure.
 Goods & Services Provide…

UTILITY
Individuals want luxuries – goods and services
 Goods & Services Provide...

UTILITY

As well as necessities

The objective of all economic activity

Is to fulfill wants.
 Scarce Resources
Types of Economic Resources
•PROPERTY RESOURCES
LAND - including ecosystem services
 Scarce Resources
Economic Resources
Property Resources
- LAND

- CAPITAL
Real Capital:
Equipment, tools,
machinery, buildings -
Used to produce final
goods!
Financial Capital: Funds
available for acquiring
real capital!
 Scarce Resources
Economic Resources
Property Resources
LAND

CAPITAL

HUMAN RESOURCES
 SCARCE RESOURCES
ECONOMIC RESOURCES
PROPERTY RESOURCES
LAND

CAPITAL
HUMAN RESOURCES
- LABOR – physical &
Mental talents of individuals,
Available and useable in the
production of goods and services
 Entrepreneurial Ability
• The Entrepreneur:
– Takes the Initiative in combining resources
– Makes Strategic Business Decisions that set the course of
the business
– Is an Innovator
– The Risk Bearer – success is not guaranteed
 SCARCE RESOURCES
ECONOMIC RESOURCES
PROPERTY RESOURCES
LAND Also known
CAPITAL
as the
Input
Factors of
HUMAN RESOURCES
LABOR Production
ENTREPRENEURIAL ABILITY
Resource Payments
PROPERTY RESOURCES
RENTAL
LAND
INCOME
INTEREST
CAPITAL
INCOME
HUMAN RESOURCES

LABOR WAGES
PROFIT &
ENTREPRENEUR
LOSS
 The Individual’s Economizing Problem

Characteristics:
• Limited income
• Unlimited wants
• A budget line – aka budget constraint
• Tradeoffs & opportunity costs
• Make best choice possible
• What happens when there is a change in income?
Budget Line (constraint) for the Individual

$120 Budget 12
DVDs Books
$20 $10
10
6 0 Income = $120
=6

Quantity of DVDs
5 2 8 Pdvd = $20

4 4 6
Unattainable

3 6
Income = $120
2 8 4
Pb = $10
= 12

1 10 2 Attainable
0 12
0
2 4 6 8 10 12 14
Quantity of Paperback Books
1-18
 Society’s Economizing Problem
Introducing the Production Possibility Model.

• A Production Possibilities Model illustrates the

tradeoffs and output that are possible given a
limited amount of input.

• It is important to understand because it can help

display which options might allow a country to use
their resources in the most efficient way possible.
 Key Point:
Make sure you understand this:

To realize the best use of scarce resources,

A society must achieve both

full employment and full production!

What does this mean?

 Key Concepts of the model

• Full Employment – the use of all available

resources. Be Careful here!
• Full production – all employed resources are used
so they provide the maximum satisfaction of our
economic wants.
• This implies two kinds of efficiency.
• Productive Efficiency – Production of any
particular mix of goods and services in the least
cost way.
• Allocative Efficiency – least cost production of the
1 set of outputs that society wants most.
 The Production Possibilities model
Assumptions
1. Full Employment and Full Production
2. Fixed resources – in both quantity and quality
3. Fixed technology
4. Two Goods – a consumer good and a capital good
Production Possibilities
A Consumer Good
Assumes...
Full Employment
and Productive
PEfficiency
IZ
FixedZResources
A
Fixed Technology
Two Goods
for example...
Production Possibilities
A Capital Good
Assumes...
Full Employment
and Productive
Efficiency
Rob o
Fixed Resources
Fixed Technology t s
Two Goods
for example...
 Production Possibilities
What if we could only produce ...

10,000 Robots
or
400,000 Pizzas
Using all of our resources, to
get some more pizza, we must give
up some more robots!
for example...
 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)
 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)

graphical form Robots

(thousands)

Pizzas (hundred thousands)

 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)

graphical form (thousands)

Robots

Pizzas (hundred thousands)

 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)

graphical form (thousands)

Robots

Pizzas (hundred thousands)

 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)

graphical form (thousands)

Robots

Pizzas (hundred thousands)

 Production Possibilities
in table form
PIZZA 0 1 2 3 4
(in hundred thousands)
ROBOTS 109 7 4 0
(in thousands)

graphical form (thousands)

Robots

Pizzas (hundred thousands)

 Production Possibilities
Limited Resources means
a limited output...
At any point in time, a full-employment, full-
production economy must sacrifice some of
product X to obtain more of product Y.
 Production Possibilities

Q 14
13
12 Unattainable
11
Robots (thousands)

A B
10
9 C W
8
7
6
D Attainable
5
4
Attainable & Efficient
Note: Every point on the curve
3 but represents productive
2 Inefficient efficiency
1 E

1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 Law of Increasing Opportunity Costs

The amount of other products that must be

forgone or sacrificed to obtain 1 unit of a
specific product is called the opportunity
cost of that good.

The Law of Increasing Opportunity Costs

says: that in order to produce more of one
good, more of some other good must be
sacrificed.
 Production Possibilities
*

Q 14 Explain the Law of Increasing

13
12 Opportunity Costs using the
11 PPC.
Robots (thousands)

A B
10
9 C
8
7 D
6
5
4
Attainable
3 but
2 Inefficient
1 E

1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 To find the point of allocative efficiency,
you can use Marginal analysis, which involves:
Comparing marginal benefits and marginal costs

Here’s how to think about marginal analysis:

1. Any economic activity should be expanded as long as
Marginal benefits exceed Marginal costs.

2. The optimal amount of activity occurs at MB=MC

3. No resources beyond the MB=MC point should be

allocated to the production of that good. In fact, you
should reduce the use of resources until you get back to
MB=MC.
 Production Possibilities
Note: every point on the PPC consists of pizza – robot pairs! *

Q 14 Where on the curve will the

13
12 Point of Allocative Efficiency be
11 found?
Robots (thousands)

A B
10
9 C Here’s How to Figure it out!
8
7 D
6 Two Step Process:
5 1. Find the allocatively efficient
4
Attainable quantity of Pizzas.
3 but
2 2. Then find the quantity of Robots
Inefficient that correspond to that quantity of
1 E Pizzas.
1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 Production Possibilities
Allocative Efficiency: MB=MC
P
MC Two Step Process
Step One!
Marginal Benefit & Cost

$15 1.Find the allocatively

MB=MC efficient quantity of Pizzas.

You are looking at the MB and

10 MC associated with the
production of different
quantities of pizzas.

5 The quantity of pizzas where

MB=MC is the allocatively
efficient quantity of pizzas.
MB 200,000!

1 2 3 Q
Quantity of Pizzas
 Production Possibilities
Point of Allocative Efficiency
Q 14 Step Two!
13 2. Then find the quantity of Robots that
12 correspond to that quantity of Pizzas
11
Robots (thousands)

A B
(200,000).
10
9 C At 200,000, go up to the PPC, then go left,
horizontally to the Robot axis. The point
8
on the PPC where the vertical and
7 D horizontal lines intersect identifies the one
6 point of allocative efficiency.
5
4 Allocative efficiency means – 200,000
3 pizzas and 9000 robots will maximize the
satisfaction of the society. But we must be
2
able to product that combo at least cost!
1 E

1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 Production Possibilities

Q 14
13 Unemployment &
12
11 Underemployment
Robots (thousands)

10
9 Shown by Point U
8
Sort of like today!
7
6
5 U More of either or
4
3
both is possible
2
1

1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 Economic Growth
This is a BIG Deal!
The ability to produce a larger total output -
a rightward shift of the Production Possibilities
curve caused by...

1 – Increase in resource supplies

2 – Better resource quality

3 – Technological advances
 Production Possibilities

Q 14 A’
13
12
B’ Economic
Growth
11
Robots (thousands)

10
C’
9
8
7
6 D’
5
4
3
2
1 E’

1 2 3 4 5 6 7 8 Q
Pizzas (hundred thousands)
 Production Possibilities
Two Examples of Economic
Growth
Presentville - FAVORS
And the importance of today’s decisions on our future!
PRESENT GOODS
CURRENT
Goods for the Future

CURVE

FUTURE
CURVE
CONSUMPTION

Goods for the Present

Presentville
 Production Possibilities
Two Examples of Economic
Growth
Presentville
And the-importance
FAVORS Futureville-
of today’s decisions FAVORS
on our future!
PRESENT GOODS FUTURE GOODS
CURRENT CONSUMPTION
Goods for the Future

Goods for the Future

CURVE

FUTURE FUTURE
CURVE CURVE
CONSUMPTION CURRENT
CURVE

Goods for the Present Goods for the Present

Presentville Futureville
 Production Possibilities
Applications..
. and Productive inefficiency
Unemployment
•The Great Depression of the 1930’s

•Nations experiencing significant unemployment

and unused / under used production capacity.

•Economies that allow discrimination of any kind

 Production Possibilities
Applications...
Unemployment and Productive Inefficiency
Tradeoffs and Opportunity Costs
•Should land be used for oil production or preserved as
wilderness?

•Farming or waste disposal,

•Should corn be used for fuel or food?

•Should society devote more resources to homeland

security or education?
 Production Possibilities
Applications.
• .. and Productive Inefficiency
Unemployment
• Tradeoffs and Opportunity Costs
• Shifts in the Production Possibilities Curves
•More resources – increase in number of women in the
workforce.

•Better quality resources – women becoming better

educated and professionally trained.

•New technologies.
 Practice constructing answers
• Please thoroughly and completely explain The
Production Possibility Model

• Step 1 – write down the key points to include, in

outline format
• Step 2 – add detail to each of the key points
• Step 3 – construct your response based on this
outline
 You should at least have these items
Description of the model
Assumptions of the model – list and explain!
– full production and full employment
– fixed resources
– fixed technology
– two goods – capital and consumer goods
Key concepts – list and explain!
– productive efficiency, define, relate to the curve
– allocative efficiency - define, how to find and tool to use
– Economic Growth
• What’s it mean, 3 prereqs, the futureville / presentville case,
how to represent graphically.
– Law of increasing opportunity cost
Draw picture of the model