Transcript Chapter 1

Chapter 1
SCARCITY, CHOICE, AND
OPPORTUNITY
1. Definition
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Economics studies how we use our scarce
resources to specialize in production and to
exchange and consume goods and services
according to prevailing economic system.
We—households, businesses, and
governments—are the main actors on the
economic stage.
The economic system comprises the legal,
political, and social institutions that organize
exchange.
2. Concepts and Themes
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So much information is packed into our
definition of economics that these key
concepts need to be explained:
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Economic Agents;
Scarce Resources;
Choice;
Specialization;
Exchange; and
Economic Systems
2.1 Economic Agents
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Economic agents are those individuals and
organizations that engage in production, exchange,
specialization, and consumption.
They can be individuals in households, businesses,
nonprofit organizations or governments.
How many economic agents are there in the
American economy? Roughly-
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100 million single- and multiple-person households;
15 million businesses; and
80,000 governmental units.
2.2 Scarce Resources
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Scarce resources are land and natural resources, labor, and
capital resources the demands for which exceed the supply if
they were given it away free.
Resources are the land and natural resources, labor, and
capital (plants, equipment, and inventories) that can be
combined to produce goods and services. They are also called
the factors of production.
They present economic wealth because they ultimately
determine how much output we can produce.
Land (farmland to garbage dump); Capital (hydroelectric dam to
a plow); Labor (skilled surgeon to ditch-digger)
2.2 Scarce Resources
– cont.
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Scarcity exists when the amount of the good
or resource offered is less than what users
would want if it were given away free.
Scarcity has little to do with wealth or
poverty; it exists in both rich and poor
communities.
Free or nonscarce goods such as natural
resources: oxygen and sun’s rays are
available in abundance.
2.3 Choice
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Scarcity forces economic agents to
make choices.
The factors of production are limited;
we cannot produce infinite quantities of
goods and services.
Households, businesses, and
governments must make economic
choices among scarce resources.
2.4 Specialization and
Exchange
Specialization is the use of resources to their best
advantage.
 People specialize in law/medicine, farmland used for
corn/wheat, United States builds commercial
aircrafts, etc.
 They increase they material well-being by doing what
they do relatively better then others can.
 Adam Smith’s “The Wealth of Nations” (1776)—
specialization and exchange are the sources of
economic prosperity.
(Specialization and Toyota’s Just-in-time Manufacturing
example)
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2.4 Specialization and
Exchange – cont.
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Specialization dictates exchange.
Exchange is the trading of goods and
services produced through specialization.
Without exchange, specialization would be of
no benefit because economic agents would
be left only with their own goods.
Specialization and exchange raise material
well-being.
2.5 Economic Systems
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To function effectively society must make
choices in an orderly fashion.
Different societies use different institutions to
make their economic choices.
The set of organizational arrangements and
institutions that are established to deal with
scarcity are called an economic system.
2.5 Economic Systems
– cont.
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Different economic systems:
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Under capitalism, resources are privately owned
and people make their own economic decisions;
Under socialism, the state owns the resources
and makes the decisions.
Most economies are mixed ownership
systems in which the government owns some
of the resources and the rest are owned
privately.
3. Limited Resources
versus Unlimited Wants
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The imbalance between limited resources and
unlimited wants is the source of the economic
problem.
Resources are scarce, we must choose what
products to produce, how these products are to be
produced, and for whom.
Wants are the goods and services we would wish to
have if there were no costs (if the prize were zero).
The law of scarcity states that wants will always
exceed our ability to meet them. There will never be
enough resources – need to make choices.
3.1 What?
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The first choice is what?
What goods should society produce
with its limited resources?
By deciding what, society decides which
wants will be satisfied.
3.2 How?
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Once an economy decides what to
produce, it must determine how to
produce it.
How refers to how to combine
resources to produce output.
Which combination of land, labor, and
capital resources will be used to
produce ….
3.3 For Whom?
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For whom refers to how output is divided
among the members of society.
Will everyone get an equal share? Will a few
get most of the output? Will differences in
wealth be allowed to persist over
generations?
The law of scarcity teaches a hard lesson: All
wants cannot be satisfied, and therefore
there will be both winners and losers in the
struggle for goods.
4. Solving the Economic
Problem
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There is no formula for allocating scarce resources;
scarcity requires that choices be made.
The imbalance between wants and the ability to meet
them has forced all societies at all times to use their
economic systems to allocate scarce resources.
Allocation is the appointment of resources for a
specific purpose or to particular persons or groups.
Since the collapse of communism, markets are the
major means of allocating scarce resources in the
world’s economy.
5. Opportunity Costs
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Choice means that when one action is
taken, another must be sacrificed.
Costs are measured by these sacrificed
alternatives.
The opportunity cost of an action is
the loss of the next-best alternative.
5. Opportunity Costs
– cont.
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Opportunity costs identify scarce goods: if a
good is available in sufficient supply so that
there is more than enough to go around, its
opportunity cost is zero.
Goods that have zero opportunity costs are
free goods. Users can have more without
others having to give up some of the goods.
Scarce goods have a positive opportunity
cost. In order to have more of a scarce
good, an alternative must be sacrificed.
6. Production Possibilities
and Opportunity Costs
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The production possibilities frontier (PBF)
shows the economic choices available when the
factors of production are utilized to their full
potential.
PBF is used to illustrate scarcity, opportunity cost,
and efficiency.
The PBF shows the combination of goods and
services available when the factors of production are
utilized to their full potential; it shows both attainable
and unattainable output combinations.
The economy is efficient when no resources are
unemployed and when no resources are misallocated.
7. The Law of Increasing
Costs
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The PBF is curved like a bow instead of
being a straight line.
The opportunity cost of increasing the
production of one good is the amount
of the good that must be sacrificed.
The law of increasing costs states
that opportunity cost per unit will
increase as production increases.
8. Macro and Micro
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Economics provides powerful tools to analyze
the real world.
Macroeconomics studies total output and
its growth, total employment and
unemployment, and the general movement in
prices.
Microeconomics studies the economic
decisions of the individual participants in the
economy.
9. Economic Theories
Instead of fact gathering, we use economic theories
to make sense of the complicated world: to show
which facts are relevant and how and why these facts
are related.
 An economic theory is a coherent and plausible
explanation of how economic facts are related.
 Economic theory isolates the factors that are most
important in explaining an economic phenomenon
and yields hypotheses (or predictions).
 Theories are valuable only if they are supported by
facts.
(Testing a Theory example)
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10. Positive versus
Normative Economics
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Economics deals with both what is and what
should be.
Positive economics studies what is in the
economy.
Positive economics seeks to formulate and
test theories that explain relationships among
economic factors.
Normative economics deals with the way
the economic world should be.