Week 1 – Day 2 Introduction to Microeconomics

 It is the study of how people make choices in the marketplace ◦ Consumers (you and me)  How to allocate your time  Studying versus work versus socializing versus sleep  How to allocate your income  Saving versus consuming  Among various goods  Food, housing, transportation, “fun”

 It is the study of how people make choices in the marketplace ◦ Firms (and their managers)  Which goods to produce  How to allocate your investment (capital)  How to allocate your labor among various goods or models of the product  Which technology to use  Capital or labor  Which inputs, quality of inputs

 The reason people/firms need to make choices is because of scarcity ◦ “ You can’t have it all”  Limits on resources, time, money/income “dictate” that individuals have to choose how to allocate their “scarce” resources to their maximum value/use ◦ “Opportunity costs ” : since resources are scarce and you will have to make choice  Means that there are “opportunity costs” of making a choice  That is, there are tradeoffs between alternatives

 Lionel Robbins (1932): Lionel Robbins  "the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses." ◦ Scarcity :available resources are insufficient to satisfy all wants and needs. Scarcityresources  Absent scarcity and alternative uses of available resources, there is no economic problem.economic problem  Economics involves the study of choices as they are affected by incentives and resources.choices

 What is economics? ◦ Greek: okonos: manager or administrator of a household  More recently (borrowed from Wikipedia) ◦ Adam Smith (1776): "an inquiry into the nature and causes of the wealth of nations,"Adam Smith ◦ Thomas Carlyle (1849): coined 'the dismal science' as an epithet for classical economics linked to the pessimistic analysis of Malthus (1798). [ Thomas Carlylethe dismal scienceepithet classical economicsMalthus [ ◦ John Stuart Mill (1844) the science which traces the laws of such of the phenomena of society as arise from the combined operations of mankind for the production of wealth, in so far as those phenomena are not modified by the pursuit of any other object. John Stuart Mill ◦ Alfred Marshall Principles of Economics (1890): Study of man in the ordinary business of life. It enquires how he gets his income and how he uses it. Thus, it is on the one side, the study of wealth and on the other and more important side, a part of the study of man. Alfred MarshallPrinciples of Economics ◦ Lionel Robbins (1932): Economics is a science which studies human behaviour as a relationship between ends and scarce means which have alternative uses. Lionel Robbinshuman behaviour

 Alchian and Allen ◦ Discovery and analysis of the different ways in which individual goals and activities can be coordinated without central planning ◦ The unit of analysis is the individual ◦ Economic analysis is scientific, not normative  Formulates hypothesis about behavior, subjects these hypotheses to tests/analysis with data, accepts/rejects the model based on the results  It helps explains what conditions lead to what consequences

◦ 2 major fields of inquiry  Microeconomics  Study of individual markets and factors that affect market price, quantity supplied  two principal actors: consumers/households and firms/producers  Macroeconomics  Study of a system of (national) markets focusing on national income (gross national product), price levels (inflation), employment/unemployment and international trade  Focuses on the role of government (Congress and budgets, Federal Reserve Bank), regulation (and regulatory agencies, business cycles and their effect on the economy

Alchian and Allen 1. For each person, some goods are scarce 2. Each person desires many goods and goals 3. Each person is willing to give up some of one economic good to get more of another economic good 4. The more one has of a good, the lower is its personal marginal value 5. Not all people have identical tastes and preferences 6. People are innovative and rational

 For each person, some goods are scarce ◦ Can’t get all that you want  you will have to make choices between 2 or more goods – tradeoff comparing benefits and costs of alternatives  Shimano Dura-Ace/Ultegra/105 – weight/product quality/ dollars  Each person desires many goods and services  Carbon fiber frame or carbon fiber wheels or 11-speed shifters/gears

 The more one has of a good, the lower is its personal marginal value ◦ First unit(s) purchased have a higher value to the individual than subsequent units purchased  Satiation accounts for diminishing marginal (use) value  Implies demand curves are downward sloping  Basis for the First Law of Demand  Each person is willing to give up some of one economic good to get more of another economic good ◦ But will depend on how much of each good you already have

 For each person, some goods are scarce ◦ Can’t get all that you want  you will have to make choices between 2 or more goods – tradeoff comparing benefits and costs of alternatives  Shimano Dura-Ace/Ultegra/105 – weight/product quality/ dollars  Each person desires many goods and services  Carbon fiber frame or carbon fiber wheels or 11-speed shifters/gears or a power meter

 Scarcity ◦ For each person, some goods are scarce  What does scarcity mean: ◦ “there is never enough” – time, money, a specific good or set of goods  So what? ◦ People have to choose between various goods, how to spend their money, use their time ◦ Economics develops and uses models to explain how they make these decisions and what factors affect their decisions  Model of human behavior in an economic context

 Scarcity / People Desire Many Goods ◦ Scarcity implies that you “can’t have it all” ◦ Have to make choices about which goods to consume and how much of each good given your constraints (income and time) ◦ Face tradeoffs when making these choices  Compare additional benefits and costs of choices  “opportunity costs”: value of the highest alternative not chosen – lower bound on the value of the alternative chosen  Always an “opportunity cost” associated with any choice  Milton Friedman’s “no such thing as a free lunch”

 People are innovative and rational ◦ When making decisions, people will rationally choose the alternative with the highest net (additional) benefit (net = benefit – cost) ◦ Take into account how much they currently have when assessing the value of the next unit  People do not have identical tastes and preferences ◦ May have different personal value for goods  Will not make identical decisions  Can be a basis for trade

16 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password- protected website for classroom use. Ten Principles of Economics (Greg Mankiw)