1 The Nature and Scope of Economics The subject of Economics can be defined from a number of different perspectives: ‘Economics is the study of the allocation of resources – the choices that are made by economic agents’. – Anderton ‘The central economic problem is that of scarcity’. - Sloman

2 ‘Economics is a collection of analytical tools designed to tackle problems. The study of economics is the process of learning to use these tools’. - Gowland & Paterson ‘Economics is the science of choice’.

3 A useful working definition is: Economics is the social science that studies human behaviour when allocating (sharing out) scarce resources between alternative uses.

4 Social science Economics is a science because it uses scientific method. Social sciences such as psychology, sociology and economics all use scientific method to study human behaviour from different perspectives.

5 Scarcity As Sloman emphasises, this is the central issue in economics. Human wants are virtually unlimited; most people always want to consume more goods and services. The production of these goods and services needs resources – also known as ‘Factors of Production’. These resources are limited – this is the problem of scarcity.

6 LAND LABOUR CAPITAL ENTREPRENEURSHIP PRODUCTION OF GOODS AND SERVICES SCARCE RESOURCES UNLIMITED WANTS

7 1.Land The natural resources or ‘gifts of nature’; land, soil, mineral resources. 2. Labour Human resources used in production 3. Capital Resources that are the result of human action. There are actually three forms of capital:

8  Physical capital – production equipment and infrastructure. This is the usual definition of capital.  Human capital – the skills that come from investment in education and training.  Social capital – the stock of shared values and social virtues in a society, especially honesty and reciprocity.

9 These are the values that encourage trust and cooperation between individuals. A lack of social capital destroys economic incentives, especially the confidence to invest in physical capital. e.g. the recent crisis in the American economy due to false accounting.

10 Entrepreneurship An entrepreneur is a person who traditionally carries out two functions: a) organises the other factors of production; b) provides the finance for production.

11 Production Factors of production Goods and services The economy is a system for converting resources into goods and services to satisfy wants.

12 This production can be classified into 1.PRIMARY Agriculture, fishing, mining 2. SECONDARY Manufacturing and construction 3. TERTIARY Service industries

13 Choice As resources are limited, people are forced to make choices. As individual consumers we have to make choices about how we spend our limited incomes. Entrepreneurs have to make choices about which resources to use. Governments make choices about spending taxpayers money.

14 Opportunity Cost This is the most important concept in economics. Opportunity cost is the best available alternative foregone when we make a choice. It is the real cost of making that choice. It is also known as economic cost.

15 Rationality Economists assume that people make rational choices. This means that they weigh up the costs and benefits of their choices. A rational choice is one in which the benefits exceed the costs. A rational choice results in a surplus

16 Consumer Surplus This is the benefit obtained from a purchase minus the opportunity cost of that purchase. Producer Surplus This is the benefit obtained from a sale minus the opportunity cost of that sale. Producer surplus is better known as profit.

17 Both consumers and producers are rational if they try to maximise their surpluses.

18 Marginal Choices Sometimes we make ‘all or nothing’ choices – We choose X instead of Y. More often we make marginal choices – we choose to have a little bit more of X in exchange for a little bit less of Y. This is often known as a trade-off. This is the main type of choice analysed by economists.

19 Economic analysis focuses upon marginal decision-making, and every student of economics should learn to ‘think like an economist’ i.e. think in terms of rational marginal choices.

20 Major Resource Allocation Decisions All national economies have to have mechanisms for making three main types of choice. 1. Deciding what to produce 2. Deciding how to produce 3. Deciding for whom to produce

21 All these decisions involve opportunity costs. Capital goods Consumer goods The Production Possibility Curve A B C D

22 The system for making these decisions is known as the Economic System There are two main economic systems: 1. The Planned or Command Economy In which government makes all the key resource allocation decisions.

23 2. The Market Economy In which resource allocation is the outcome of the ‘invisible hand’ of the price mechanism. In practice, all economies use a mixture of the two systems. This is known as a Mixed Economy