Lesson One Introduction, Markets and Demand BUS 111 – Micro Economics Lesson One Introduction, Markets and Demand Peter Rumble Bangor Transfer Abroad Programme

What I want you to be able to do by 20th October Understand Economic news In Context Example – What is going on in Zhengzhou Appartment Market? Example – what is going on in Europe? Brexit? India and China = same population but different in what ways? Human aspect

What you need to do.. Be able to understand economic terms Discuss economic matters One handed economist….so there is no right answer as long as well argued.. Two economist = three opinions

Economics Introductory Thoughts What is Economics? Micro – Economics Macro – Economics

Economy. . . . . . The word economy comes from a Greek word for “one who manages a household.”

Economics Introductory Thoughts Micro Economics This is concerned with the individual parts – the demand and supply of goods and services Focuses on households (consumer expenditure) and firms (organisations) How markets work.

Economics Introductory Thoughts Macro Economics This is concerned with the economic aggregate demand and supply – the grand totals of households /individuals and firms activities. The impact nationally of prices- inflation, employment and savings/ investments Governments & International aspects.

It’s the economy - stupid "It's the economy, stupid" is a slight variation of the phrase "The economy, stupid" which James Carville had coined as a campaign strategist of Bill Clinton's successful 1992 presidential campaign against sitting president George H. W. Bush. Carville's original phrase was meant for the internal audience of Clinton's campaign workers as one of the three messages to focus on, the other two messages being "Change vs. more of the same" and "Don't forget health care.”

Economics? Handling scarce resources Maximising Wealth – Well being Factors of production.. Labour Land Capital Enterpreneurial skill Maximising Wealth – Well being

Maximising Wealth Economic Choices – Production Possibilities Frontiers Wheat or Rice ? Rice or Computers? Computers or Cars? Page 26

The Circular Flow The simple circular flow model of the economy is designed to understand the basic operations of the economy

8 5 1 2 Households Businesses 4 3 7 6 Markets for good and services Markets for factors of production 5 1 2 Households Businesses 4 3 Markets for good and services 7 6

The simple circular flow In the simple circular flow model two players of the economic game: Households and Businesses. Households are: sellers of all inputs, or factors of production, and buyers of all output of good and services. Businesses are: buyers of all inputs and sellers of all output.

Flow 3 – Businesses sell the goods and services made. Flow 1 – Households sell their land , labour and capital in the market as factors of production. Flow 2 – Businesses buy these factors of production and use them to make goods and services. Flow 3 – Businesses sell the goods and services made. Flow 4 - Households buy the goods and services. So, when we start at the households and go counterclockwise from 1 to 4 we will follow the flows of what are called “real” things – the resources and the goods and services made. These are what are really important in the economy because these are the items used to create our standard of living.

So, when we start at the households and go counterclockwise from 1 to 4 we will follow the flows of what are called “real” things – the resources and the goods and services made. These are what are really important in the economy because these are the items used to create our standard of living Consumption

Next we look at flows 5 through 8 and these are financial flows and we see a connection between spending, revenues, and income. Flow 5 – The households payment after selling resources in the factor markets is called income. Flow 6 – When the households buy stuff they pay for it and the term used in the national economy sense to represent this buying is spending or consumption expenditure. The households buy from businesses in the markets for output of good and services. Flow 7 – When the businesses sell goods and services to household the businesses bring home revenue. (So, if we ignore government for now, expenditure = revenue).

Flow 8 – When businesses take in revenue from sales then they use the money to pay for the resources they have purchased in the markets for factors of production. Here we talk about costs of business So the flows 5 through 8 are the financial flows that correspond to our “real” flows. The simple circular flow model is a simple model of the day to day operations of the economy.

Flows 5 through 8 are flows of money. Flows 1 through 4 are flows of inputs (resources) and output (goods and services). Flows 5 through 8 are flows of money. The flow of money is one way we account for the flow of resources and goods and services.

Analogy – A grocery store Denis We look at the revenue of a grocery store to get a feel for the output amount – but we know the output is made up of items like milk, noodles , drinks etc… We look at expenses to get a feel for amount of inputs used – but we know the inputs are hours of labor (wages), electricity used, property taxes / costs

Final thought The economy is large and complex. Each individual business has a pretty decent grip on what resources are being used and can probably make a list of what those resources are on a sheet of paper – you know, labor, cash registers, etc Each individual household knows what goods and services are being bought and can probably make a list of those items on a sheet of paper – you know, noodles, milk, electricity. In large complex economies it would be difficult to get these lists from businesses and households. But we have come up with ways to get at the money flows. Often our focus will be on money flows when we really want to talk about the lists.

The Circular Flow Basic model but in reality it is more complex – Government Trade Advertising, The Invisible Hand, Not complicated…. Just complex Quick break….

Ten Principles of Economics 1 Ten Principles of Economics

TEN PRINCIPLES OF ECONOMICS A household and an economy face many decisions: Who will work? What goods and how many of them should be produced? What resources should be used in production? At what price should the goods be sold?

TEN PRINCIPLES OF ECONOMICS Society and Scarce Resources: The management of society’s resources is important because resources are scarce. Scarcity. . . means that society has limited resources and therefore cannot produce all the goods and services people wish to have.

TEN PRINCIPLES OF ECONOMICS Economics is the study of how society manages its scarce resources.

TEN PRINCIPLES OF ECONOMICS How people make decisions. People face tradeoffs. The cost of something is what you give up to get it. Rational people think at the margin. People respond to incentives.

TEN PRINCIPLES OF ECONOMICS How people interact with each other. Trade can make everyone better off. Markets are usually a good way to organize economic activity. Governments can sometimes improve economic outcomes.

TEN PRINCIPLES OF ECONOMICS The forces and trends that affect how the economy as a whole works. The standard of living depends on a country’s production. Prices rise when the government prints too much money. Society faces a short-run tradeoff between inflation and unemployment.

Principle #1: People Face Tradeoffs. “There is no such thing as a free lunch!”

Principle #1: People Face Tradeoffs. To get one thing, we usually have to give up another thing. Guns v. butter Food v. clothing Leisure time v. work Efficiency v. equity Making decisions requires trading off one goal against another.

Principle #1: People Face Tradeoffs Efficiency v. Equity Efficiency means society gets the most that it can from its scarce resources. Equity means the benefits of those resources are distributed fairly among the members of society. 9

Principle #2: The Cost of Something Is What You Give Up to Get It. Decisions require comparing costs and benefits of alternatives. Whether to go to college or to work? Whether to study or go out on a date? Whether to go to class or sleep in? The opportunity cost of an item is what you give up to obtain that item. 10

Principle #2: The Cost of Something Is What You Give Up to Get It. LA Laker basketball star Kobe Bryant chose to skip college and go straight from high school to the pros where he has earned millions of dollars. 10

Principle #3: Rational People Think at the Margin. Marginal changes are small, incremental adjustments to an existing plan of action. People make decisions by comparing costs and benefits at the margin. 11

Principle #4: People Respond to Incentives. Marginal changes in costs or benefits motivate people to respond. The decision to choose one alternative over another occurs when that alternative’s marginal benefits exceed its marginal costs! Work at weekend? Overtime – payment.. 12

Principle #5: Trade Can Make Everyone Better Off. People gain from their ability to trade with one another. Competition results in gains from trading. Trade allows people to specialize in what they do best. 15

Principle #6: Markets Are Usually a Good Way to Organize Economic Activity. A market economy is an economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and services. Households decide what to buy and who to work for. Firms decide who to hire and what to produce. 16

Principle #6: Markets Are Usually a Good Way to Organize Economic Activity. Adam Smith made the observation that households and firms interacting in markets act as if guided by an “invisible hand.” Because households and firms look at prices when deciding what to buy and sell, they unknowingly take into account the social costs of their actions. As a result, prices guide decision makers to reach outcomes that tend to maximize the welfare of society as a whole. 16

Principle #7: Governments Can Sometimes Improve Market Outcomes. Market failure occurs when the market fails to allocate resources efficiently. When the market fails (breaks down) government can intervene to promote efficiency and equity. Housing 17

Principle #7: Governments Can Sometimes Improve Market Outcomes. Market failure may be caused by an externality, which is the impact of one person or firm’s actions on the well-being of a bystander. market power, which is the ability of a single person or firm to unduly influence market prices. 18

Standard of living may be measured in different ways: Principle #8: The Standard of Living Depends on a Country’s Production. Standard of living may be measured in different ways: By comparing personal incomes. By comparing the total market value of a nation’s production. 21

Principle #8: The Standard of Living Depends on a Country’s Production. Almost all variations in living standards are explained by differences in countries’ productivities. Productivity is the amount of goods and services produced from each hour of a worker’s time. 21

Standard of living may be measured in different ways: Principle #8: The Standard of Living Depends on a Country’s Production. Standard of living may be measured in different ways: By comparing personal incomes. By comparing the total market value of a nation’s production. 21

Principle #9: Prices Rise When the Government Prints Too Much Money. Inflation is an increase in the overall level of prices in the economy. One cause of inflation is the growth in the quantity of money. When the government creates large quantities of money, the value of the money falls. 23

òInflation ð ñUnemployment Principle #10: Society Faces a Short-run Tradeoff Between Inflation and Unemployment. The Phillips Curve illustrates the tradeoff between inflation and unemployment: òInflation ð ñUnemployment It’s a short-run tradeoff! 24

Summary When individuals make decisions, they face tradeoffs among alternative goals. The cost of any action is measured in terms of foregone opportunities. Rational people make decisions by comparing marginal costs and marginal benefits. People change their behavior in response to the incentives they face.

Summary Trade can be mutually beneficial. Markets are usually a good way of coordinating trade among people. Government can potentially improve market outcomes if there is some market failure or if the market outcome is inequitable.

Summary Productivity is the ultimate source of living standards. Money growth is the ultimate source of inflation. Society faces a short-run tradeoff between inflation and unemployment.

Markets A market is a group of buyers and sellers of a particular good or service. The terms supply and demand refer to the behaviors of people . . . as they interact with one another in markets. And Economics, especially Microeconomics is about how supply and demand interact in markets. 4

Market Types or Structures Competitive Markets Products are the same,price takers Monopoly Monopolistic Competition Oligopoly

Demand Curve Price of Milk Tea $3.00 2.50 2.00 1.50 Use the cookie or snack example to illustrate individual and market demand. 1.00 0.50 Cups consumed? 1 2 3 4 5 6 7 8 9 10 11 12 17

Why does the Demand Curve Slope Downward? Law of Demand Inverse relationship between price and quantity. Law of Diminishing Marginal Utility. Utility is the extra satisfaction that one receives from consuming a product. Marginal means extra. Diminishing means decreasing.

Market Demand Market demand refers to the sum of all individual demands for a particular good or service. Graphically, individual demand curves are summed horizontally to obtain the market demand curve. Use the market example on pages 60-61. Use Famous Amos cookies.

Ceteris Paribus Ceteris paribus is a Latin phrase that means all variables other than the ones being studied are assumed to be constant. Literally, ceteris paribus means “other things being equal.” Need to emphasize the point of holding all other factors constant. The demand curve slopes downward because, ceteris paribus, lower prices imply a greater quantity demanded! 18

Two Basic Rules for Movements vs. Shifts Rule One When an independent variable changes and that variable does not appear on the graph, the curve on the graph will shift. Rule Two When an independent variable does appear on the graph, the curve on the graph will not shift, instead a movement along the existing curve will occur. Let’s apply these rules to the following cases of supply and demand!

Change in Quantity Demanded versus Change in Demand Movement along the demand curve. Caused by a change in the price of the product. 19

Changes in Quantity Demanded Price of Cigarettes per Pack A tax that raises the price of cigarettes results in a movement along the demand curve. C 2 rmb A 1 rmb D1 12 20 Number of Cigarettes Smoked per Day

Change in Quantity Demanded versus Change in Demand A shift in the demand curve, either to the left or right. Caused by a change in a determinant other than the price. Need to emphasize that this difference is because of ceteris paribus. Very important distinction. 19

Determinants of Demand Market price Consumer income Prices of related goods Tastes Expectations What are some examples? 11

Consumer Income Normal Good Price of Ice-Cream Cone $3.00 An increase in income... Hotter temperatures 2.50 Increase in demand 2.00 1.50 1.00 0.50 D2 D1 Quantity of Ice-Cream Cones 1 2 3 4 5 6 7 8 9 10 11 12

Consumer Income Inferior Good Price of Beer $3.00 2.50 An increase in income... 2.00 Decrease in demand 1.50 1.00 0.50 D2 D1 Quantity of Beer. 1 2 3 4 5 6 7 8 9 10 11 12

Prices of Related Goods Substitutes & Complements When an increase in the price of one good increases the demand for another good, the two goods are called substitutes. Tea and Coffee….Bread and Cake??? When a fall in the price of one good increases the demand for another good, the two goods are called complements. Petrol and Cars And vice versa…. Check page 68. Use the Cold Soda example from page 64-65 in the Instructors Manual. Shows very nicely the two different demand curves. 15

Change in Quantity Demanded versus Change in Demand Variables that Affect Quantity Demanded A Change in This Variable . . . Price Represents a movement along the demand curve Income Shifts the demand curve Prices of related goods Tastes Expectations Number of buyers 19

Homework – select one of the ten principles and describe how it relates to your daily life.