What is Economics?
Lesson 3: The Ideas
Economics in One Lesson
Chocolate, Vanilla, or Strawberry
When a woman working for a consumer polling firm
asked three shoppers about their favorite ice cream
flavors, two said they prefer chocolate to vanilla and two
said they prefer vanilla to strawberry. After answering
the woman's questions, the shoppers were treated to a
free serving of ice cream, but they could choose between
only two flavors: chocolate and strawberry. To the
woman's surprise, two of the shoppers picked
strawberry. Had they lied to the woman about their
preferences?
Economics in One Lesson
Neapolitan!
Not necessarily. The shoppers could have ranked the flavors this
way:
One prefers chocolate to vanilla and vanilla to strawberry.
One prefers vanilla to strawberry and strawberry to chocolate.
One prefers strawberry to chocolate and chocolate to vanilla.
While two of the shoppers prefer chocolate to vanilla and two
prefer vanilla to strawberry, it's also true that two prefer
strawberry to chocolate.
Economics in One Lesson
Readings and Assignments
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Economic Reasoning Intro to 1
Junior Achievement Chapter 1
“Barstool Economics”
“Heidi’s Bar”
“Death by Bureaucrats”
“Something for Nothing”
“The Individual in Society”
Lessons for the Young Economist, 1
Economics in One Lesson
The Economics of Real
People
Economics deals with the real actions of real
men. Its [laws] refer neither to ideal nor to
perfect men, neither to the phantom of a
fabulous economic man (homo oeconomicus) nor
to the statistical notion of an average man. . . .
Man with all his weaknesses and limitations,
every man as he lives and acts, is the subject
matter of [economics]. —Ludwig von Mises, Human Action
Economics in One Lesson
What is Economics?
Economics in One Lesson
Praxeology
Study of human action.
Etymologically defined as
"the science of human
action"
Economics in One Lesson
Fundamentals of Human
Action
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Purposeful Human (Individual) actions
Teleological (Intentional), and end in view
Exchanges, economizing
More satisfactory state of affairs
Scales of value, opportunity costs
ORDINAL
Time, production takes time*
– Before
– During
– After
Economics in One Lesson
Means
• General conditions
• Time
– Production
• Working time
• Maturing time
• Entrepreneurship
• Goods
– Consumers’ goods (1st order)
– Producers’ goods (higher order)
• Land
• Labor
• Capital
Economics in One Lesson
Economics
• The study of the conscious, purposive actions
of individuals, seeking to relieve some "felt
uneasiness" and thus to accomplish the most
urgent goal on his or her personal scale of
subjective values.
• Individuals are able to act to attain various
goals because of the nature of our "ordered
universe."
Economics in One Lesson
Principles that underlie the
interaction of individual choices
• There are gains from trade.
• Markets move (tend) toward equilibrium.
• Resources should be used as efficiently as
possible to achieve society’s goals.
• Free markets lead to more efficiency.
• When markets don’t achieve efficiency,
government intervention is seen by many to
improve society’s welfare, which leads to
more regulations, ad infinitum.
Economics in One Lesson
Economics in One Lesson
Making Choices: The Rules
• When making choices, people ALWAYS chose the
option that will make them better off.
– This is called Self Interest.
– This is subjective
• People will make a choice if, and only if, the
expected benefits of the choice are greater than
the expected costs.
– This is called Rational Decision Making.
– These are perceived benefits versus Costs.
– Don’t judge!!
Economics in One Lesson
Choice
• Because the world is characterized by scarcity, we
are forced to make choices.
– We must allocate scarce resources among
competing uses.
• Wood that is used for tables cannot be used for
crutches.
• Land that is kept undeveloped cannot be used
to build housing for the poor.
Economics in One Lesson
What is the Study of
Economics really about?
• Economics can be
defined as the
study of exchanges
• Robinson Crusoe?
Economics in One Lesson
• Scarcity
• The Economic
Problem
• Tradeoffs
• Economizing
Scarcity, Goods and Bads
• An item that costs something is called scarce.
– Anything with a price on it is called an
economic good—these include goods and
services.
– A free good is a good for which there is no
scarcity.
• An economic bad is anything you want to get
rid of (pollution, disease, garbage)
Economics in One Lesson
Clarifying Concepts
• Scarcity means that not enough is
available for free.
• A shortage occurs when not enough is
available at the current price. A shortage
is a problem of price.
• Poverty occurs when the goods are
scarce, and those who need them do not
have the income to obtain them. Poverty
is a problem of income.
Economics in One Lesson
Lets Play a Game
• Round 1
– You give me $0.05 and I will give you $0.50
• Round 2
– You give me $0.05 and I will give you $0.25
• Round 3
– You give me $0.05 and I will give you $0.10
• Round 4
– You give me $0.05 and I will give you $0.05
• Round 5
– You give me $0.05 and I will give you $0.01
Economics in One Lesson
Let’s Play a Game
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Do 20 Push-ups and I will pay you $0.25.
Do another 20.
Do another 20.
Do another 20.
Do another 20.
Do another 20.
Do another 20.
Do another 20.
Do another 20.
Economics in One Lesson
A Little More or a Little Less
• Most choices focus on choosing a little more or a
little less of something.
– Consider your choices when you ate breakfast.
• More fruit – Less fruit?
• One juice or two?
• When we make choices based on a little more or a
little less, we call it Marginal Decision Making
Economics in One Lesson
Choices are Made at the
MARGIN……More Pop?
Source: The Onion
__________ Costs?
Economics in One Lesson
Making the Choice
• People will choose to do an activity so long as
the Marginal Benefit is equal to or greater
than the Marginal Cost:
– The Rules
•IF MB ≥ MC then DO IT
•IF MB < MC then DO LESS
Economics in One Lesson
But be careful
• Not all alternatives
• We all prioritize
• “Put in order”
Economics in One Lesson
Characteristics of Cost
• Costs are the results of ACTIONS
• Costs are to people; things have no cost
–People choose – so people bear costs.
–“Governments,” “societies,” countries, nations
don’t choose
–People do.
–Don’t confuse cost and price
Economics in One Lesson
Characteristics of Cost
• Costs are the results of ACTIONS
• Costs are TO people; things have no cost
• All costs lie in the FUTURE
–The future is uncertain. When we choose, we
anticipate costs, but we don’t know for sure until
the act of deciding is complete.
–Cost ≠ Consequence (Getting a speeding ticket!!)
Economics in One Lesson
Rational Self-Interest
• Economists believe that people choose options that
give them the greatest satisfaction.
• This means that people:
– use all available time and information,
– weigh the costs and benefits of all available alternatives,
– and choose the alternative that they believe will bring them the most
benefit at the lowest cost. This is the alternative that they believe will
bring them the most satisfaction.
• This does not mean that people are innately selfish.
Self-interest is not greed.
Economics in One Lesson
TANSTAAFL
• Since the world is characterized by
scarcity we are forced to make
choices.
• Since we are forced to make choices
we face costs.
Economics in One Lesson
It’s a Lamp
Economics in One Lesson
Sunk Cost Fallacy
• Don’t think about costs already
spent.
• Remember all costs are future.
• Sitting through a boring movie?
• Nickel and diming for a junker?
Economics in One Lesson
Opportunity Cost Analysis
What was the 1st decision
you made this morning?
Economics in One Lesson
Opportunity Cost Analysis
Decision Maker: YOU
Alternatives:
Perceived
Benefits
Choice
Opp. Cost
Benefits
Refused
Economics in One Lesson
Get Up Now
Don’t Get Up
Now
Opportunity Cost Analysis
Decision Maker: YOU
Alternatives:
Perceived Benefits
Choice
Opp. Cost
Benefits Refused
Economics in One Lesson
Get Up Now
Shower Bkfst
Don’t rush
On time coffee
Don’t Get Up Now
More sleep
Opportunity Cost Analysis
Decision Maker: YOU
Alternatives:
Perceived Benefits
Choice
Opp. Cost
Benefits Refused
Economics in One Lesson
Get Up Now
Shower Bkfst
Don’t rush
On time Coffee
Don’t Get Up Now
More sleep
X
X
Opportunity Cost Analysis
Decision Maker: YOU
Alternatives:
Perceived Benefits
Choice
Get Up Now
Shower Bkfst
Coffee
Don’t rush
On time
X
Opp. Cost
Benefits Refused
Economics in One Lesson
Don’t Get Up Now
X
More sleep
Tanstaafl
Marginal costs
gas, other car expenses
$5.00
paper & ink used
0.25
opportunity costs (watching Judge
Judy)
0.10
total marginal costs
$5.35
Marginal benefits
higher lifetime income due to better economics grade
earned because you learned about opportunity costs
in class today
$0.17
were able to socialize with other students
0.10
were able to be in the same room with me for 50 minutes
7.25
total marginal benefits
$7.52
Totals???
Economics in One Lesson
Marginal benefits
$7.52
Marginal Costs
$5.35
MB>MC
$2.17
More Examples
• Ask me about…….
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Driving to NY to see the Yankees
Free Neil Young concert
Cuban cigars
Burundi Coffee
Being here
Economics in One Lesson
Goods to Produce Goods
• Resources are the elements needed to
produce goods. Resources are also called
– factors of production
– inputs
• They are:
– Land (includes natural resources)
– Labor (physical and intellectual services of people)
– Capital (plant, machinery, equipment used in
production)
– Entrepreneurs
Economics in One Lesson
Resources in Production
land
rent
labor
Resource
Suppliers
wages
capital
Producers
of Goods
interest
entrepreneur
Wages/profit (loss)/Pure interest
Economics in One Lesson
What is the stuff?
Economics in One Lesson
How?
Economics in One Lesson
The Circular Flow of Resources,
Goods, Services and Money Payments
Economics in One Lesson
Marginal Opportunity Cost
• The Production Possibilities Curve (PPF)
illustrates the concept of opportunity cost.
Each point on the PPF means that every
other point is a forgone opportunity.
• The PPF bows outward because there are
ever-increasing marginal opportunity costs
to the production of any good.
Economics in One Lesson
A Production Possibilities
Table
% of resources
% of resources
devoted to
devoted to
production
production
Pounds
Number
of guns
of butter
of butter
of guns
0
20
40
60
80
100
Economics in One Lesson
0
4
7
9
11
12
100
80
60
40
20
0
15
14
12
9
5
0
Row
A
B
C
D
E
F
A Production Possibility
Frontier for a Society
10
9
8
7
6
5
4
3
2
1
0
If the slope of the production
curve is -2 at A, the
A
opportunity cost
of 1X is 2Y.
2Y
.
1X
1
2
Economics in One Lesson
3
4
5
6
7
8
9
X
A Production Possibilities
Frontier (PPF)
Butter
1 pound 15 A
of butter
14
2 pounds
of butter 12
B
C
D
9
5
E
5 pounds
of butter
0
4
4 guns
Economics in One Lesson
7
3 guns
9
F
11 12 Guns
1 gun
Specialization
• Economic agents (individuals, firms,
nations) will be better off if they choose to
produce those things for which they have
the lowest opportunity costs, and trade for
those with higher costs.
• Agents do this because such choices involve
giving up the least amount of other things.
Economics in One Lesson
A Production Possibility Curve
for a Society
• Comparative advantage explains why
opportunity costs increase as the
consumption of a good increases.
– Some resources are better suited for the
production of some goods than to the
production of other goods.
Economics in One Lesson
Specialization & Trade
• Comparative Advantage: the ability to
produce a good or service at a lower
opportunity cost than someone else.
• Law of Association:
– proposition that the joint output of trading
partners will be greatest when each good is
produced by the low opportunity cost producer.
Economics in One Lesson
Determining Comparative
Advantage (Output Method)
1. Which nation has an absolute advantage in producing CDs?
2. Which nation has an absolute advantage in producing beef?
3. Which nation has a comparative advantage in producing CDs?
4. Which nation has a comparative advantage in producing beef?
5. Should Japan specialize in CDs or beef?
6. Should Canada specialize in CDs or beef?
Economics in One Lesson
This increase in output is due to
specialization: Each person specializes in
the task that he or she is good at
performing.
Leads to greater efficiency!
Follow your bliss!
Economics in One Lesson
Efficiency
In production, we’d like to have
productive efficiency – achieving
as much output as possible from a
given amount of inputs or
resources.
Economics in One Lesson
Efficiency
• Any point within the production possibility
curve represents inefficiency.
• Inefficiency – getting less output from inputs
which, if devoted to some other activity,
would produce more output.
Economics in One Lesson
Efficiency
Any point outside the production
possibility curve represents something
unattainable, given present resources
and technology.
Economics in One Lesson
Efficiency and Inefficiency
Unattainable point,
given available technology,
resources and labor force
10
Guns
8
6
C
Efficient
points
B
4
2
0
Economics in One Lesson
Inefficient
point
2
4
D
Butter
A
6
8
10
Growth
• The PPF moves outward (growth occurs)
as the result of:
– Increased resources
• Larger labor force
• Change in labor force participation
• Chance in labor-leisure decision
– Improved technology (innovation)
– Expansion of capital stock
– An improvement in the rules (laws,
institutions, and policies) of the economy
Economics in One Lesson
Shifts in the Production
Possibility Curve
• Society can produce more output if:
–Technology is improved.
–More resources are discovered.
–Economic institutions get better at
fulfilling our wants.
Economics in One Lesson
A Shift of the PPF
225 A
2
Defense Goods
200 A1
B2
175
B1
C2
Defense
Non-defense
A2
225
0
B2
200
75
C2
175
120
D2
130
150
E2
70
160
F2
0
165
150
C1
125
D2
100
75
D1
0
E1
25 50 75 100 125 150
Economics in One Lesson
E2
F2
Nondefense Goods
Shifts in the Production
Possibility Curve
Neutral Technological Change
Butter
C
A
0
Economics in One Lesson
B
D
Guns
Shifts in the Production
Possibility Curve
Biased Technological Change
Butter
C
B
0
Economics in One Lesson
A Guns
Quote From Thomas Sowell
Once, after giving a talk, I was confronted by a lady in the audience
who asked what some people regard as the ultimate question:
"What is YOUR solution?“
"There are no solutions," I said. "There are only trade-offs.“
"The people DEMAND solutions!" she shot back angrily.
The people can demand square circles if they want. But that doesn't
mean that they will get them.
What they are more likely to get is the illusion of a solution by
someone seeking their vote.
Economics in One Lesson
Opportunity Cost!
Micro vs. Macro
• Microeconomics
– Studies the economy at the level of individual consumers,
workers, firms, goods, and markets
• Macroeconomics
– Studies the economy at the aggregate level, at the level of
the economy as a whole.
– Examines total consumer behavior, total employment,
total production, total sales, etc.
Economics in One Lesson
Ideas to Take Away from Lesson 3
• Scarcity forces us to choose and every choice has an opportunity
cost.
• Not all of our desires can be satisfied.
• People make these choices based on their perceptions of the
expected costs and benefits of the alternatives.
• Because costs lie in the future, the relevant costs and benefits
occur at the margin.
• Voluntary trade creates wealth.
• Open markets are a key institution for fostering economic growth
and improving standards of living.
Economics in One Lesson
Opportunity Cost:
the foregone alternative
Think: “next-best”
Economics in One Lesson
Use the concept of opportunity cost
to discuss the following questions:
• Who might choose to get bumped
from a flight?
• Should Tiger Woods mow his own
lawn?
• What is the cost of attending college?
–for LeBron James?
–for you?
Economics in One Lesson
Economics in One Lesson
Examples of Shifts in the
Production Possibility Curve
• Test your understanding:
–A meteor hits the world and
destroys half the earth’s natural
resources.
–Nanotechnology is perfected that
lowers the cost of manufactured
goods.
Economics in One Lesson
Examples of Shifts in the
Production Possibility Curve
• Test your understanding:
–A new technology is discovered that
doubles the speed at which all goods
can be produced.
–Global warming increases the cost of
producing agricultural goods.
Economics in One Lesson
Some Questions
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Can economics make you rich?
Is economics a science? Why or why not?
Does scarcity affect everyone?
Do the laws of economics still work inside a
maximum security prison?
• *Isn’t it just as important for the average
person to understand particle physics, since
much of the funding for this research comes
from government grants?
Economics in One Lesson