The Economizing Problem Human economic wants are unlimited Resources are scarce All economics depends directly on these two facts/assumptions Economics is about doing the best with what we have it’s about using resources in the most efficient manner possible to create the most “stuff” to fulfill wants In Chapter 1, we threw out lots of concepts and definitions. Now, let’s start to make some sense of them and to synthesize them into coherent thoughts that reflect the core principles of economics. As economists, we always start with the core economizing problem. [READ SLIDE]

Resources – Factors of Production Types of resources: Land All natural resources (“gifts of nature”) Minerals, forests, arable land, oil, etc. Income from Land = Rent Capital: human/physical machinery, factories, storage facilities, transportation Income from capital = Interest Labor All physical and mental talents of individuals Income from Labor = Wages Entrepreneurship Initiative, Management, Innovation, Risk-taking Income from Entrepreneurship = Profit/Loss It is a fundamental fact that economic resources are scarce. [READ SLIDE] Note some definitions that differ from common usage here. Land is any natural resource, not just a plot of land. So trees, oil, minerals are all part of land. Capital goods do not include money. Money produces nothing, but rather acts as a medium of exchange for goods and services that do have inherent value and use in creating other goods and services. We spend a good deal of time on money at the end of the course. But you have to be careful. What we think of as capital is actually capital finance, which is a means to purchase real capital.

Economic Systems An economic system is a particular set of institutional arrangements and mechanisms that respond to the economizing problem The market system -- “capitalism” The command system -- “communism” When we take the economizing problem out of the realm of theory and into reality, societies are complex beasts. The issues are numerous and contentious. So, societies create a particular set of institutions, laws, beliefs that help us to determine how best to make difficult trade-offs. Do we spend more on education and less on agriculture? Do we strive for full employment of every human being, or do we acknowledge that for some period of a person’s life, they should be devoted to developing their bodies, minds, and skills? These institutions, laws, and beliefs we know as systems. One approach is to let the market decide. Next week, we’ll spend a good deal of time on this topic. In a market system, each economic entity acts in their own self-interest, making decisions by maximizing the marginal benefit = marginal cost equation. This means there is private ownership of the means of production and no controls on what is produced or purchased. Goods and services are produced by whoever is willing and able to do it. Goods are purchased by the highest bidder for those goods. In pure laissez-faire society, the government has very little economic role to play. While we would call the USA a capitalist society, and without question it is, the government’s role is much more significant than what pure theory might dictate.

The two economic sectors Households - Consumers individuals in their private lives acting as consumers and producers Business – Firms - Producers firms seeking to maximize their profit by purchasing productive resources

The Market Economy and the Circular Flow Model Virtually all major economies work through some version of the market economic system In this system, there are a number of different aspects to the market a market to buy and sell resources a market to buy and sell products businesses households The market system is clearly the predominant economic system in the world. Virtually ever major economy operates that way, and the few remaining command systems are generally considered failures. Even China, with a command political system has adopted a freeish market system for its economy. In a market economy, we need to allocate resources to create products. So, at the highest level of abstraction, the market has two players and two arenas for exchange of resources and products. A market is an institution or a mechanism that brings together buyers and sellers of particular goods, services, or resources.

Building the Circular Flow Model - Step 1 RESOURCE FACTOR MARKET BUSINESSES HOUSEHOLDS PRODUCT MARKET

Building the Circular Flow Model - Step 2 RESOURCE FACTOR MARKET RESOURCES INPUTS BUSINESSES HOUSEHOLDS PRODUCT MARKET

Building the Circular Flow Model - Step 3 COSTS INCOMES RESOURCE MARKET RESOURCES INPUTS BUSINESSES HOUSEHOLDS GOODS & SERVICES GOODS & SERVICES PRODUCT MARKET

Building the Circular Flow Model - Step 4 COSTS INCOMES RESOURCE MARKET RESOURCES INPUTS BUSINESSES HOUSEHOLDS GOODS & SERVICES GOODS & SERVICES PRODUCT MARKET

Building the Circular Flow Model - Step 5 COSTS INCOMES RESOURCE MARKET RESOURCES INPUTS BUSINESSES HOUSEHOLDS Notice that the real good flow is counterclockwise and the payment flow is clockwise. GOODS & SERVICES GOODS & SERVICES PRODUCT MARKET REVENUE Profit from goods and services PAYMENT Goods+Services

Factor Market Product Market Money for wages, rent, profit, interest Capital, land, labor, entrepreneurship BUSINESSES HOUSEHOLDS Notice that the real good flow is counterclockwise and the payment flow is clockwise. Goods and Services Money PAYMENT for Goods +Services Product Market

How can An Economy become more productive??? Specialization Takes place when people, businesses, regions, and even countries concentrate on goods and services that they can produce better than anyone else

Division of Labor the breaking down of a job into separate, smaller, tasks, which are performed by different workers.

Technological Advances Robotics: machines perform physical tasks Assembly Line -A manufacturing process in which interchangeable parts are added to a product to create an end product Technological Advances Robotics: machines perform physical tasks Invention: new goods and services Innovation: Improving a good or service Automation: machines control production

Labor/Workers -Blue-collar workers: working class employee who perform manual/unskilled labor Ex: factory worker -White-collar workers: perform tasks that require less physical labor. Skilled workers oftentimes are more highly paid than blue-collar workers. Ex: doctors, lawyers, administrators -Pink-collar workers: workers who work in the charitable sector Ex: Susan G. Koman -Green-collar workers: workers who work in the environmental sector Ex:

Ex: mortgage payments, rent Economic decision making requires people to consider all the costs and benefits of a decision Fixed Costs -Costs or expenses that are the same no matter how many units of a good are produced Ex: mortgage payments, rent

Variable Costs -Costs or expenses that change with the number of products produced Ex: wages, raw materials, electricity bills, water bills -These costs increase when production increases and decrease when production decreases

Total Costs -Fixed Costs + Variable costs= Total costs

Key Terms and Concepts Economizing problem Utility Economic resources Land Capital Investment Labor Entrepreneurial ability Factors of production Full employment Full production Productive efficiency Allocative efficiency Consumer goods Capital goods Production possibilities table Production possibilities curve Opportunity cost Law of increasing opportunity costs Economic growth Economic system Market system Command system Resource market Product market Circular flow model