Econ 160 Week 3 The Economic System of Competition Gains from Specialization & Trade

Review: Definitions Good Good : is anything that an individual wants to have more of, at zero price. Resource: Anything that can be used to produce goods. Scarcity: A good is scarce if the amount desired at zero price is more than the amount available at zero price. (Scarce good = Economic Good)

Review:Assumptions Humankind has unlimited wants Our resources are limited ScarcityScarcity : Individually, and as a Society, we do not have enough resources to produce all the things we want.

Review:Implications of Scarcity ChoiceChoice: people must choose which goods to acquire. Economic CostEconomic Cost: The Cost of any action, is the personal value of the next highest valued alternative given-up.

Costs: Economic vs. Accounting Accounting Cost: The explicit expenditure for a given activity. Economic CostEconomic Cost: The Cost of any action, is the personal value of the next highest valued alternative given-up. Economic Cost includes Explicit & Implicit Sunk Cost: Past expenditures that no longer represent an alternative (Not a part of Economic Cost)

Review:Implications of Scarcity ChoiceChoice: people must choose which goods to acquire. Economic CostEconomic Cost: The Cost of any action, is the personal value of the next highest valued alternative given-up. CompetitionCompetition: We are in a state of competition for the use of resources

Forms of Competition in Society Violence,Violence, or Threat of Violence Social/PoliticalSocial/Political : competition on the basis of some limited behavior or characteristic Economic/MarketEconomic/Market: competition based on offering the highest value in exchange.

Scarcity  Society Choices What to produce? Goal find the mixture of outputs that maximizes society’s value. How to produce? Goal: find the optimal mix of inputs to maximize technical output. For whom to produce? Who will get to consume the goods produced.

The Economic/Market Form of Competition

Product Markets FIRMSHOUSEHOLD Resource Markets $'s$'s Revenue $'s Income $'s Goods & Services Goods & Services Resources Inputs Circular Flow Diagram of the Exchange Economy

Interdependence & the Gains from Trade (Chapter 3)

Gains from Specialization &Trade Production Possibilities Resource FishCoconuts Crusoe: 8or 8 Friday:10or 20

Opportunity Cost in Production Crusoe: 8 F = 8 C 1 F = 1C and 1C = 1F Friday: 10 F = 20 C 1 F = 2C and 1C = ½ F Thus Crusoe has a comparative advantage in the production of fish ( 1F = 1C) and Friday has a comparative advantage in the production of Coconuts ( 1C = ½ F)

Separate Production Possibilities Crusoe Friday Fish Coco

Pre-Specialization Production ResourceFishCoconuts Crusoe: 4 and 4 Friday: 5 and 10 Total Output: 9 and 14

Output with Specialization Resource FishCoconuts Crusoe: 8 and 0 Friday: 1 and 18 Total Output: 9 and 18

Results of Specialization No increase in Resources No increase in effort Increased output by 4 coconuts Increased output will be shared by the two people or countries so as to make both better off

Apply Reasoning to more than two Resources Analyze production decisions using several resources with different relative abilities How to organize production to maximize output The graphical technique

Graph: Production Possibilities Function Assumptions: 1. Fixed resources: 10 acres in rows. 2. Fixed technology: current knowledge of how to produce. 3. Resources vary in relative productive ability.

Resources and Potential Outputs Row Corn10 Wheat

Resources and Opportunity Cost Row Corn10 Wheat Cost of 1 corn Cost of 1 wheat

Graph Mechanics The curve divides the space: interior points possible; Points beyond impossible SlopeSlope: Rise/ Run: The slope reflects the relationship: Negative, more corn means less wheat, more wheat means less corn ShapeShape: The concave shape reflects increasing cost of production for either good.

Changing assumptions Shifts the Curve An Increase in resources –Shifts the curve outward An increase in technology of Wheat production: Effects on Cost –Lowers cost of producing Wheat –Raises the cost of producing corn