Econ 102 SY Lecture 1 What this course is all about June 10, 2008

Econ 102 SY Key concepts Microeconomic theory History of microeconomic theory Economic transaction Market transactions Heirarchical transactions Hybrid transactions Scope of the course: market transactions Requirements of the course

Econ 102 SY Microeconomics Study of the behavior of individual economic agents and why and how they undertake economic transactions Economic agents: Consumers, business firms, workers, capitalists, farmers, government Use of economic models

Econ 102 SY Micro-economic theory Micro-economic theory: a set of assumptions and conditions, an analytical framework, and conclusions (explanations and/or predictions) that are derived from the assumptions and the analytical framework. Analytical framework - a set of cause and effect relationships among economic variables aimed at describing economic events as the interaction of individual economic agents in pursuit of self interest Economic models operationalize the theory and used to predict behavior of agents and values of economic variables, e.g. prices and to explore alternative courses of action to influence outcomes

Econ 102 SY Features of micro-economic theory Scientific method — a standard of any good theory, i.e. the predictions of any scientific theory must be testable and potentially falsifiable in repeatable experiments under controlled conditions Axiomatic – As Debreu puts it, “Allegiance to rigor dictates the axiomatic form of the analysis where the theory, in the strict sense, is logically disconnected from its interpretations.” Deductive vs inductive, usually deductive Econometric method usually used in undertaking economic experiments

Econ 102 SY Assumptions behind micro- economic theory 1. Bounded rationality: Agents pursue their self interest based on the information and constraints they face. 2. Resources are scarce. 3. Individual agents have economic freedom. 4. Decision making is decentralized. 5. Incentives are compatible. 6. Property rights are well defined. 7. There is equity in opportunity.

Econ 102 SY Aspects of an analytical framework 1. Specify economic environments, i.e. a number of individuals, the individuals' characteristics (e.g. preferences, technologies, endowments, etc. ), informational structures, and institutional economic environments that include fundamental rules for establishing the basis for production, exchange, and distribution. 2. Impose behavioral assumptions 3. Presenting economic institutional arrangements 4. Determine equilibria 5. Evaluate outcomes

Econ 102 SY Roles of economic theory It can be used to explain economic behavior and economic phenomena in the real world. It can make scientific predictions or deductions about possible outcomes and consequences of adopted economic mechanisms when economic environments and individuals' behavior are appropriately described. It can be used to refute faulty goals or projects before they are actually undertaken. If a conclusion is not possible in theory, then it is not possible in a real world setting, as long as the assumptions were approximated realistically.

Econ 102 SY Limitations of economic theory Generality – If its assumptions cover a wider set of applications, the theory is more powerful, useful, or meaningful. Limitations: boundary, range of applications

Econ 102 SY Role of mathematics in economic theory Mathematics is an important tool in modern economics. Using the mathematic language, theorists are more able to describe assumptions, logical processes and boundaries/limitations of the theory Use of mathematics can give a new result that may not be easily obtained through observation alone, and Its use can reduce unnecessary debates and improve or extend existing results.

Econ 102 SY History of microeconomic theory Adam Smith David Ricardo John Stuart Mill Stanley Jevons Leon Walras Carl Menger Francis Ysidro Edgeworth Vilfredo Pareto Alfred Marshal (John Maynard Keynes) John Hicks John von Neuman Oscar Morgenstern 1947 – Present Paul Sameulson Gerard Debreu Kenneth Arrow Martin Shubik Neo-classical economics Classical economics New Institutional economics Present Joseph Stiglitz Oliver Willamson

Econ 102 SY Classical economics Focused on economic growth, leaving the market alone or “laissezfaire”, free competition Approach – not mathematical Labor not use theory of value

Econ 102 SY Neoclassical economics Drive to attain “scientific rigor” Approach: mathematical, axiomatic, deductive Use of mathematical models to describe economic behavior Equilibrium theory Game theory

Econ 102 SY New Institutional economics Extension of neoclassical economics Transaction costs Market failures

Econ 102 SY Alternative governance structures of econ transactions ForbearanceNeoclassicalClassicalContract law FiatPrivately orderedCourt orderedConflict Resolution FiatMutual consentUnilateralAdaptation Incommunicable and withheldIncommunicable because of high measurement costs Market pricesConsumer welfare information signaled through CostlyProhibitiveNegligibleDefection costs Not option/costlyRarely existCostless/availableAlternative markets Non-existent/non-existentThin/non-existentThick /intenseMarkets/competition Relevant/autonomousRelevant/bilaterally dependent Irrelevant/autonomousIdentity/autonomy Make only Internal procurement Buy and Make Hybrid procurement Buy only Market procurement HierarchyHybridMarket Attributes Transactions

Econ 102 SY Course Requirements Participation in class discussions Undetermined number of class assignments and/or quizzes Three long mid-term examinations

Econ 102 SY Grade Evaluation 25 percent of the grade in the first long examination 25 percent of the grade in the second long examination 25 percent of the grade in the non-comprehensive third long examination; 15 percent of the average grade in the quizzes or class assignments, and 10 percent of the student’s grade for class attendance and participation. Depending on the overall class performance, a Pareto-improving, monotonic transformation of students’ grades may be made.

Econ 102 SY Grade conversion

Econ 102 SY What you need to do Write me an to Giving your Last Name, First Name, MI, College, Student ID, cell phone number and/or landline number For easy retrieval use as subject matter of your Econ102 I invite you to join the class yahoogroup. You can get the reading list at the group site.

Econ 102 SY End of Lecture 1 What this course is all about