SAYRE | MORRIS Seventh Edition The Economic Problem CHAPTER 1 1-1© 2012 McGraw-Hill Ryerson Limited

Learning Objectives: The Economic Problem LO1: Understand the relevance of economics LO2: Define economics, microeconomics, and macroeconomics and understand the importance of the scientific method LO3: Realize that scarcity, choice, and opportunity cost are at the heart of economics and that efficiency is a cornerstone CHAPTER 1 1-2© 2012 McGraw-Hill Ryerson Limited

Learning Objectives: The Economic Problem LO4: Understand why trade results in economies being more productive LO5: Explain the three fundamental questions and the four ways economies can be organized LO6: Use the production possibilities model to explain choice, opportunity cost, efficiency, and unemployment CHAPTER 1 1-3© 2012 McGraw-Hill Ryerson Limited

Learning Objectives: The Economic Problem LO7: List the economic goals of society and explain why they are often difficult to achieve CHAPTER 1 1-4© 2012 McGraw-Hill Ryerson Limited

Relevance of Economics Controversies: 1.Economic growth 2.Income redistribution 3.Road pricing 4.Globalization 5.Provision of health care 6.Carbon trading systems 1-5© 2012 McGraw-Hill Ryerson Limited LO1

What is Economics? Positive Statement – Can be verified with empirical data Normative Statement – Based on a person’s beliefs or value system – Cannot be verified with data 1-6© 2012 McGraw-Hill Ryerson Limited LO2

Self-Test 1-7© 2012 McGraw-Hill Ryerson Limited Identify each of the following statements as either positive (P) or normative (N) a.The federal government’s budget this year is the largest in history. b.The national debt is at a manageable level and therefore is nothing to worry about. c.The price of gasoline is higher than it needs to be. d.Rising Canadian exports are creating many new jobs in the country. LO2

Self-Test 1-8© 2012 McGraw-Hill Ryerson Limited Identify each of the following statements as either positive (P) or normative (N) a.The federal government’s budget this year is the largest in history. b.The national debt is at a manageable level and therefore is nothing to worry about. c.The price of gasoline is higher than it needs to be. d.Rising Canadian exports are creating many new jobs in the country. P N N P LO2

What is Economics? Economic Theory – Looks at how positive statements are related – Uses the scientific method: Set up a hypothesis Define terms, state assumptions Gather data to test hypothesis Accept, reject, or modify theory 1-9© 2012 McGraw-Hill Ryerson Limited LO2

What is Economics? Macroeconomics – How the major components of an economy interact – Unemployment, inflation, interest rates Microeconomics – Outcomes of decisions by people and firms – Supply and demand, costs of production, market structures 1-10© 2012 McGraw-Hill Ryerson Limited LO2

Self-Test 1-11© 2012 McGraw-Hill Ryerson Limited Identify which of the following topics would likely appear in a microeconomics course and which in a macroeconomics course. a.The price of iPods b.Unemployment rates c.The presence of monopolies d.The rate of economic growth LO2

Self-Test 1-12© 2012 McGraw-Hill Ryerson Limited Identify which of the following topics would likely appear in a microeconomics course and which in a macroeconomics course. a.The price of iPods b.Unemployment rates c.The presence of monopolies d.The rate of economic growth Micro Macro Micro Macro LO2

Scarcity and Choice Resources are Scarce: – Resources, or “factors of production”, are anything used to produce goods and services – Do not have enough resources to produce everything everybody wants – Must have some way to ration scarce resources 1-13© 2012 McGraw-Hill Ryerson Limited LO3

Economic Resources Labour - Human mental and physical effort Land – Any natural resource used to produce goods or services Capital – Tools, equipment, factories, and buildings used in production process Enterprise – The human resource that innovates and takes risks 1-14© 2012 McGraw-Hill Ryerson Limited LO3

Economic Resources 1-15© 2012 McGraw-Hill Ryerson Limited RESOURCE:EARNS: LabourWages LandRent CapitalInterest EnterpriseProfit LO3

Self-Test 1-16© 2012 McGraw-Hill Ryerson Limited Indicate whether the resource in question is labour (L), capital (K), land (N), or enterprise (E): a.A bar-code scanner in a supermarket b.Fresh drinking water c.Copper deposits in a mine d.The work of a systems analyst e.The first application of e- technology to an economics textbook f.An office building LO3

Self-Test 1-17© 2012 McGraw-Hill Ryerson Limited Indicate whether the resource in question is labour (L), capital (K), land (N), or enterprise (E): a.A bar-code scanner in a supermarket b.Fresh drinking water c.Copper deposits in a mine d.The work of a systems analyst e.The first application of e- technology to an economics textbook f.An office building K N N L E K LO3

Economic Resources Technology -Method of production -Way in which resources are combined to produce goods and services Opportunity Cost -The value of the next-best alternative that is given up as a result of making a particular choice 1-18© 2012 McGraw-Hill Ryerson Limited LO3

Efficiency Productive Efficiency -Production of an output at the lowest possible average cost Allocative Efficiency -Production of that combination of outputs that best satisfies consumers’ demands 1-19© 2012 McGraw-Hill Ryerson Limited LO4

Trade -Voluntary trade benefits both parties -The more trade, the greater the benefits -Applies to individuals as well as to nations 1-20© 2012 McGraw-Hill Ryerson Limited LO4

Benefits of Trade 1-21© 2012 McGraw-Hill Ryerson Limited LO4 Maximum Output: BreadPlows Athens20OR10 Sparta10OR20 Without Trade: BreadPlows Athens10AND5 Sparta5AND10 Total Output15AND15

Benefits of Trade 1-22© 2012 McGraw-Hill Ryerson Limited LO4 Maximum Output: BreadPlows Athens20OR10 Sparta10OR20 With Trade: BreadPlows Athens20AND0 Sparta0AND20 Total Output20AND20

Three Fundamental Questions 1.What to produce 2.How to produce 3.For whom 1-23© 2012 McGraw-Hill Ryerson Limited LO5

Four Types of Economies 1.Cooperation 2.Custom 3.Command 4.Competition 1-24© 2012 McGraw-Hill Ryerson Limited LO5

Production Possibilities Model Production Possibilities Curve: – A graphical representation of the various combinations of maximum output that can be produced from the available resources and technology – Assumptions: Full employment Use of the best technology available Productive efficiency 1-25© 2012 McGraw-Hill Ryerson Limited LO6

Production Possibilities Model 1-26© 2012 McGraw-Hill Ryerson Limited LO6

Figure 1.1 Unattainable x a b c d e Wheat Cars Attainable f LO6 © 2012 McGraw-Hill Ryerson Limited points on the curve represent maximum output possible with available resources

Production Possibilities Model Scarcity – Represented by points outside the curve Choice – Represented by points on the curve (efficient) and points within the curve (inefficient) Opportunity Cost – Represented by the downward slope of the curve 1-28© 2012 McGraw-Hill Ryerson Limited LO6

Law of Increasing Opportunity Costs – Factors of production are not equally suitable – As output increases, the per unit costs of additional units increases – Gives the production possibilities curve its bowed out shape 1-29© 2012 McGraw-Hill Ryerson Limited LO6

Figure 1.2 a Wheat Cars f b c d e Law of Increasing Opportunity Costs LO6 © 2012 McGraw-Hill Ryerson Limited as more cars are produced, an increasing amount of wheat must be given up

Self-Test 5 If society produces 1000 units of butter, how many guns can it produce? If society is at “b” on the PPC, what is the cost of 1000 more units of butter? Quantity of guns per period Quantity of butter per period b c d Is opportunity cost greater for move from “c” to “d” compared to a move from “b” to “c”? © 2012 McGraw-Hill Ryerson Limited 1-31 LO6

Self-Test 5 If society produces 1000 units of butter, how many guns can it produce? If society is at “b” on the PPC, what is the cost of 1000 more units of butter? Quantity of guns per period Quantity of butter per period b c d Is opportunity cost greater for move from “c” to “d” compared to a move from “b” to “c”? 400 units of guns 100 units of guns c to d – 150 guns per 1000 units of butter b to c – 100 guns per 1000 units of butter © 2012 McGraw-Hill Ryerson Limited 1-32 LO6

PPC and Economic Growth 1-33© 2012 McGraw-Hill Ryerson Limited LO6 Growth means the economy is able to produce more of everything

PPC and Technological Change 1-34© 2012 McGraw-Hill Ryerson Limited LO6 - Improvement in technology shifts curve to PP2 - can produce more of either good, or more of both

Self-Test 6 Quantities per Year ABCD Grain Tools04812 a.Draw a PPC 1 with tools on the horizontal axis Now, assume new technology that can be used only in the tool industry is developed, which increases tool output by 50%. b. Draw a new PPC 2 that reflects this new technology c. If Finhorn produced 12 units of tools per year, how many units of grain could be produced after the introduction of the new technology © 2012 McGraw-Hill Ryerson Limited 1-35 LO6

Self-Test 6 Solution 1-36 a Grain Tools d 4812 b 1618 c b2 c2 d2 PP2 New technology allows 50% increase in tool production © 2012 McGraw-Hill Ryerson Limited LO6

Macroeconomic Goals Improved standard of living Economic growth Full employment Stable prices Viable balance of international trade Equitable distribution of income Manageable government debt & deficit 1-37© 2012 McGraw-Hill Ryerson Limited LO7

© 2012 McGraw-Hill Ryerson Limited1-38 Understand why economics is such a relevant discipline in our society Learn a definition of economics and distinction between micro and macro Appreciate that groups of people can have differing underlying values Realize that scarcity, choice and opportunity cost are at the heart of economics Understand why greater trade results in economies being more productive Chapter 1 Summary

© 2012 McGraw-Hill Ryerson Limited1-39 Explain the three fundamental questions that all societies must address Understand the four different ways that economies can be organized Use the production possibilities model to illustrate opportunity cost, efficiency, and unemployment List the economic goals of society and understand why they are often difficult to achieve Chapter 1 Summary