Transcript Economic reasoning principles

What comes to your mind
when you hear the word,
“Economics”?
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It’s not so tough to understand. After all,
you live economics every day of your life
Sometimes it
feels like
economics…
…and sometimes it feels
like you are just going about
your life
Our goal is to help you
integrate economics into
your life. Like the
climbing wall, this is an
effort to give you a
toehold on economic
understanding. We
hope it will provide
enough to get you
started, and a desire to
learn more.
There are 6 basic Economic
Principles woven into your
everyday life.
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We all make choices (People economize)
All choices have costs
Economic systems influence choices
Incentives produce “predictable” responses
Do what you do best, trade for the rest
(voluntary trade creates wealth)
 Consequences of our choices lie in the future.
When you understand the
key Economic Reasoning
Principles, you will
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Understand How
Understand Why
Make Better Choices
Become Empowered
How Do We Define
Economics?
 The study of the allocation of scarce
resources
 Resources : human, natural, capital, and
entrepreneurial. These productive resources are
used to create the goods and services people
want.
 Scarce : wants exceed resources
 Allocation: deciding who gets it?
 In other words, who does what, how do they
do it, and for whom do they do it?
#1 We All Make Choices
(People economize)
 Scarcity forces us to choose
 Unlimited wants, limited
resources
 Not making a choice is itself
a choice
 Active, not passive
 Children need a framework
for making choices that is
best begun early
 Factors driving choices can
be material, behavioral,
moral, or some combination
of all three.
#1 We ALL Make Choices
Most of us
want to
maximize
our
benefits
While
minimizing
our
costs.
BENEFITS
COSTS
#2 TANSTAAFL™
#2 TANSTAAFL™
 Everything has a cost!
 Don’t confuse “cost” with “price”
 Opportunity Cost – the 2nd best
choice
(It is “The Road Not Taken”)
 Costs are measured in many ways
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Material
Monetary
Labor v. foregone leisure
Time
Morality
Security
WHY ARE YOU IN THIS
CLASS RIGHT NOW?
 Application of Opportunity Costs
 Cost / Benefit Analysis
 It’s the best of your alternatives
Would your decision change if you didn’t
have to take this class to graduate?
Would your decision be different if you won
the powerball lottery?
Would you pick these up if
you approached this?
What would be the opportunity cost of this decision?
Would you pick this up if
you approached this?
What is the incentive to pick up this as opposed to the pennies?
#3 Economic Systems
Influence Choices
An “economic system” is the way societies
organize themselves to answer the three
basic questions of economics:
• What to Produce?
• How to Produce It?
• For Whom to Produce It?
#3 – Economic Systems Influence Choices
A model of the Circular Flow
# 3 - Economic Systems Influence Choices
There are three basic systems. Most
economies have some elements of all three.
Traditional Economies –
 Based on agriculture,
fishing,
hunting/gathering, or
some combination of
each.
 It is guided by traditions
 It may use barter instead
of money.
#3 - Economic Systems Influence
Choices
 Command
Economies –
 The answers to the
economic
questions above
are made by a
central authority,
usually “the state.”
# 3 - Economic Systems Influence Choices
 Market
Economies –
 Decision-making
carried out by
buyers and sellers
at mutually
agreeable terms.
Such economies
are characterized
by the
decentralization of
decision-making.
#3 – Economic Systems Influence Choices
The main difference between economic
systems:
 Who owns the resources?
 Who incurs the costs of resources?
 Who receives the benefits from
resource utilization?
#4 Incentives produce
“Predictable” Responses
 Monetary and non-monetary.
 That which is subsidized or rewarded will increase,
and that which is taxed or penalized will decrease.
 To change behavior, change the incentive.
 Sometimes it is only with hindsight that
“predictability” becomes obvious!
Completing Extended Application
=
&
#5 Do What You Do Best,
Trade for the Rest.
(As long as the trade is voluntary,
both parties are better off).
#5 Do What You Do Best, Trade for the Rest
•Trying to produce everything
yourself limits both production
and consumption
• What do you “do best”?
•Sell what you produce at
low opportunity cost.
•Buy what you would
produce at a high
opportunity cost.
#5 Do What You Do Best, Trade for the Rest
 Trade works best
when there is
 Honesty
 Transparency
 Expected Gain for both
parties
 The gain for both
parties does not need
to be equal in order to
be valuable.
#5 Do What You Do Best, Trade for the Rest
•Trading goods and services with
others adds value to seemingly
disparate parties. This provides
the incentive to ease social and
political tension among people
and nations.
Parity between trading partners
is desirable.
Power and information
disparities can make trade
involuntary.
#6 Choices Have
Consequences
 Consequences lie in
the future
 Predictability
improves decisionmaking
 Observe patterns to
make predictions
 Unpredictability
leads to inconsistent
decision-making
#6 Choices Have Consequences
 Theory of unintended
consequences
 Our character is the
consequence of
thousands of choices
made throughout our
lives.
 Understanding the
past can help us start
in the present to make
choices that can
change the future!
Applying Costs, Choices, and Consequences
to make sound decisions
1. Identify the problem
2. Analyze alternative solutions and select the
two best
3. Make a list of the foreseeable positive and
the negative consequences of each choice
Be sure to differentiate between the shortrun and long run when evaluating
consequences
4. Select the best choice
Defining the Problem: _______________
_________________________________
Choice #1
Pros
Cons
Choice #2
Pros
Cons
My Decision: ____________________
_______________________________
#2b Economic Thinking is
Marginal Thinking
In thinking economically, economists coined the term
“marginal” to describe the cost or benefit of attaining one
more unit of something.
Key Question
Do the marginal benefits exceed marginal costs?
#2b Economic Thinking Is Marginal Thinking
Sunk Costs
Generally, we tend to “hang on” to questionable decisions made in the
past because we want to get value out of time, effort, or dollars dedicated
to some prior activity. We say, “I can’t sell my house, sell a stock, quit
working toward a degree in art history, stop studying for a test, fire Smith,
or change occupations because of all my time, dollars, or energy that I’ve
already put in.” Your time, dollars, and energy are sunk costs and are
gone.
Doing one more thing is not always a good
economic choice, and can be counterproductive.
#4b Quantity and Quality of
Resources Impact Living Standards.
The four factors of production
o
Natural Resources (Land)
o
Human Resources (Labor)
o
Capital Resources (Equipment)
o
Entrepreneurial Resources (risk, profit motive)
•There are two ways for any given sector of an economy to grow
– by taking growth from another sector and adding it to one’s
own, or by growing the economy as a whole with all sectors
participating in that growth (although not necessarily equally).
•Over time, living standards rise by increasing the output of one
or more of the four factors, even if the other three remain stable.
#4b Availability and quality of resources influence living standards.
Here are some ways we can
grow our resources:
 To increase capital resources– technological changes
 To increase human resources – better education, better skills,
higher birth rate, removal of age, race, gender and other
barriers to employment
 To increase natural resources – environmental controls, land
management
 To increase entrepreneurial resources – establishment of
private property, patent and copyright laws, access to financial
markets, friendly tax and regulatory policy
#4b Availability and quality of resources influence living standards.
Everyone is better off if
we can grow our
economy from this
TO THIS!
Natural
Resources
Human
Resources
Capital
Resources
Entrepreneurial
Resources
# 6b Prices are determined by
the market forces of supply
and demand.
•
•
Supply and demand are the two words that economists use most often
because they are the forces that make market economies work.
These concepts work most efficiently in COMPETITIVE markets.
The LAW OF DEMAND states that, other
things being equal, the quantity demanded of a
good falls when the price of the good rises,
and rises when the price falls.
# 6b Prices are determined by the market forces of supply and
demand.
Price
$8.00
Supply
$6.00
Equilibrium Price
$4.00
Demand
$2.00
Equilibrium Quantity
1
2
3
4
Quantity
# 6b Prices are determined by the market forces of supply and
demand.
Price is not the only determinant of demand. The
demand curve can change (shift) because of such
things as:
 Tastes
 Costs of Substitute Goods/Services (hot dogs and
hamburgers
 Costs of Complementary Goods/Services (hot
dogs and mustard)
 Changes in income
 Number of Buyers in the market
 Expectations
# 6b Prices are determined by the market forces of supply and demand.
The LAW OF SUPPLY states that, other things
being equal, the quantity of a good supplied
rises when the price of the good rises, and falls
when the price falls.
·Shifts in supply are the result of changes in:
Resource Costs
Costs of Producing Other Goods with the Same Resources
Taxes and/or Subsidies
Technological Change
Expectations
Number of Sellers
# 6b Prices are determined by the interaction
of supply and demand.
A specific scenario
might help make the
relationship clearer.
How do we answer
the question, “Why
does a gallon of gas
cost $3.00 this week,
$3.50 next week and
then $3.25 the
following week?”
#6b Prices are determined by
the intersection of supply and
demand
Market for Gasoline
Price
(per gallon)
Supply
Supply II
$3.50
$3.25
$3.00
Demand II
Demand
$0
9M
Barrels
12M
Barrels
13M
Barrels
Quantity
Any Questions?
ERP’s were adopted from Powell’s Center for Economic Literacy &
other sources