Intro to Economic
Concepts

Definition of Scarcity
A situation in which human wants are greater than the capacity of available resources to provide those wants.
3 Parts:
1. People want it
2. There is a limited amount of it
3. It has more than one productive use

Scarcity
Scarcity vs.
Abundance – people see many signs of abundance (e.g. cell phones, iPods) and also see resources wasted daily (e.g. water and food).
However, as long as resources are limited and people’s wants are unlimited, scarcity (in the economic sense) will exist.

Scarcity
In economic reasoning, scarcity is a relative concept, not an absolute one.
Scarcity does not mean “not plentiful.”
In economics, something is scarce when it has more than one valuable use.

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Opportunity Cost
Opportunity cost is

what you give up to obtain something else, the second-best alternative. However, what you must give up is not money – it is whatever good or service you would have spent the money on as your next favorite choice. Goods v. Services
Good –

something that is tangible; it can be seen and felt. It requires scarce resources to produce and it satisfies human wants Goods v. Services

Service – something that is

intangible; yet it too requires scarce resources to produce and satisfies human wants

Is it a good or service? Productive Resources
L – land (and stuff from land)
L – labor (physical and mental)
C – capital (human-made things)

E – entrepreneurship

Productive Resources
Land – land and

everything that comes from it which can be used to produce goods and services (both renewable and nonrenewable); also referred to as natural resources Productive Resources
Labor – the

physical and mental effort of humans to produce goods and services; also referred to as human resources Productive Resources
Capital – all human creations used to produce goods and services
(factories, trucks, tools, roads, robots, intellectual capital)

Productive Resources
Entrepreneurship – a

hybrid human resource/capital resource; entrepreneurship is the “know-how” that sees a profit opportunity and assembles all the productive resources in such a way as to produce a good or service Economics
• Economics – the study of how people use their scarce resources to satisfy their unlimited wants
• From Greek word oikonomos –
“one who manages a household”

Purposeful Behavior
Economists
assume “rational self-interest,” the desire to maximize utility

Purposeful Behavior
Utility – the pleasure, happiness, or satisfaction obtained from consuming a good or service; usefulness I Can’t
Get No
Utility!

Marginal Analysis
• Marginal – incremental, additional, extra, or one more; refers to a change in an economic variable, a change in the status quo
• Marginal Analysis – a rational decisionmaking process whereby an incremental action will be undertaken if the expected marginal benefit exceeds the expected marginal cost

Marginal Analysis
Law of Diminishing
Marginal Returns:
When capital resources are fixed, the productivity of labor will eventually fall as additional
(marginal) workers are used in the production process

Too many cooks in the kitchen spoil the broth!

Marginal Analysis
Law of Diminishing Marginal Utility:
Marginal value, or satisfaction, will decrease as additional units of a good or service are consumed

Incentives
An incentive is a cost or benefit that motivates a decision or action by consumers, workers, firms or other participants in the economy. Prices, wages, profits and interest rates are all examples of incentives.

Incentives
Three types of incentives:
• Economic (money)
• Social (getting people to like me)
• Moral (doing the right thing)

Economics as Science
Like physical and life sciences, economists rely on the scientific method. Well tested and widely accepted theories become economic principles (predictive statements about economic behavior)
Important things about economic principles: 1. Purposeful Simplifications
2. Generalizations
3. Other-Things-Equal Assumption

Back off man…I’m a scientist. Macroeconomics &
Microeconomics
Macroeconomics examines the

economy as a whole or its basic large subdivisions or aggregates, such as the government, household, and business sectors.

Microeconomics is concerned with

individual units such as a person, a household, a firm, or an industry.

Positive vs. Normative
Positive economics focuses on facts and cause-and-effect relationships
(what is…)

Normative economics incorporates

value judgments about what the economy should be like or what policy actions should be recommended to achieve a desired goal (what ought to be…) Three Economic
Questions:
1. What goods and services will be produced?
2. How will they be produced?

3. Who will consume them?

The “invisible hand”
In his 1776 book,

The Wealth of
Nations, economist

Adam Smith first noted that the operation of a market system creates a curious unity between private interests and social interests.

The “invisible hand”
Smith declared that “selfinterest” (which is easy to mistake for greed), awakened and guided by a market system, almost magically gives society what it wants.

The “invisible hand”
Me and Adam
Smith hanging out in
Edinburgh…

Types of Economic Systems
Command Economy

(AKA Centrally
Planned Economy) – all resources are government-owned and production is coordinated by the central plans of government. Also known as socialism or communism.
Karl Marx

Types of Economic Systems
Characteristics of Command
Economies:
• Public ownership
• Centralized Decision Making
• Economic Planning
• Allocation by command

Types of Economic Systems
Market Economy –

private firms account for all production; government has no involvement and coordination of economic activity is based on prices generated in free competitive markets.
Also known as capitalism. Types of Economic
Systems
Mixed Economy – economies which mix

central planning with competitive markets (AKA a transitional economy when a shift from a centrally planned to a market economy is underway)

Traditional Economy – an economic

system shaped largely by custom or religion Types of Economic
Systems
In the last generation, the command economies of the former Soviet Union, eastern Europe and China (prior to its market reforms) failed largely for 2 reasons: 1. The Coordination Problem

2. The Incentive Problem

Types of Economic Systems
Characteristics of Market
Economies:
• Private property

• Freedom of Enterprise and Choice
• Self-interest

Types of Economic Systems
Characteristics of Market
Economies con’t:
• Competition

• Markets and Prices
• Active, but Limited Government

Production Possibilities
Curve

Production Possibilities
Curve

Production Possibilities
Curve
The budget line illustrate several ideas:
1. Attainable and Unattainable
Combinations

2. Tradeoffs and Opportunity Costs
3. Choice
4. Income Changes

Production Possibilities
Curve
The alternatives and choices society faces can be understood through the macroeconomic model of production possibilities. To keep things simple, let’s assume: 1. Full employment
2. Fixed resources

3. Fixed Technology
4. Two goods (pizza and robots, representing consumer goods and capital goods)

Production Possibilities
Curve

Production Possibilities
Curve

Law of Increasing
Opportunity Costs
Law of Increasing Opportunity Costs: as the production of a good increases, the opportunity cost of producing an additional (marginal) unit rises.

In our example, the opportunity cost of each additional unit of pizzas is greater than the opportunity cost of the preceding one.

Production Possibilities
Curve & the Future
• Unemployment will shift the PPC to the left. Why?
• A growing economy will shift the PPC to the right through one of the following
Increase in Resource Supplies
Advances in Technology
• An economy’s current choice of positions on the PPC helps determine the future location of the curve; a higher production of capital goods will result in greater growth of the economy.

Circular Flow Model

Public Sector: Government’s Role
The government has 4 major roles in the economy:
1. Providing the Legal Structure
2. Maintaining Competition
3. Redistributing Income:
 Transfer Payments
 Market Intervention
 Taxation

Public Sector: Government’s Role
The government has 4 major roles in the economy:
4. Reallocating Resources
Externalities

Public Goods/Services