Ch. 2

the economizing problem A) limited resources

the economizing problem B) unlimited wants

Scarcity Means we have to make choices. Individual choices Community choices National choices (guns or butter)

the four economic resources factors of production (or productive inputs) are the resources employed to produce goods and services. and Entrepreneurial ability

The four economic resources 1. land: Everything physical (other than human beings) which is not the result of human effort. all natural materials: natural resources, energy like oil / wind / water, minerals in the ground, untilled land Note: trees in a ‘virgin’ forest are land; in a cultivated forest they are capital.

The four economic resources: 2. Labor All human exertion in the production of wealth and services. Mental toil is labor as well as muscular effort.

Specialization of Labor Enhances productivity & efficiency by allowing labor to develop skills by working on one specific task, taking advantage of their skills, eliminating wasted time switching tasks,

The four economic resources 3. Capital Human made resource used in production, or in the course of exchange. A machine is wealth. In Economics, Cash, Stocks & Bonds ARE NOT CAPITAL

The four economic resources 4. Entrepreneurial ability: Someone who takes the initiative in combining resources like land, labor, tools, and other items to produce some sort of service or product.

THE THREE FACTORS OF PRODUCTION ‘EARN’ MONEY FOR OWNER OF THAT FACTOR:  Rent  interest  wages {  Profit for entrepreneur}  interest

economic efficiency How well an economy allocates scarce resources to meets the needs and wants of consumers. Maximum output from available resources.

Static Efficiency Is at a point in time, focuses on how much output can be produced at that point in time from the available resources and the price to consumers fairly reflects the cost of the factors of production used to produce a good or a service.

Allocative Efficiency Is achieved when the value consumers place on a good or service (reflected in the price they are willing to pay) equals the cost of the resources used up in production. price = marginal cost. Total economic welfare is maximized.

M = Marginal: relating to a small change in something x MR = Marginal Revenue = Price of 1 Unit Sold MC = Marginal Cost = Cost of one additional Unit Produced At point x: Marginal Cost = Price x.

productive efficiency when production of a good is achieved at the lowest cost possible

3. allocative and productive efficiency are related productive and allocative efficiency are achieved in perfectly competitive markets. i.e. many customers and many suppliers. (think pizza in NYC)

5. The Production Possibilities Curve (PPC) use the production possibilities curve (PPC) model to understand scarcity and constrained choice. Every point on the curve assumes maximum efficient use of resources. Production Possibility Curve = Production Possibility Frontier PPC = PPF

The Production Possibilities Curve (PPC) A PPC can be used to represent a number of economic concepts: scarcity of resources Opportunity cost productive efficiency Allocative efficiency Moving from point A to D results from Using available resources more efficiency

The Production Possibilities Curve Shifts If whole economy productivity improves (i.e. the economy grows) the production possibility for all goods and services increases. more output can be generated from the same resources, Usually caused by improved Technology (knowledge, education). Above: Shift to right What would cause shift to left? Disasters  Capital equip lost, less labor Remember, all the points ON the PPC Already are using all available resources In the most efficient way possible.

The Production Possibilities Curve Shifts An outward shift of the frontier shown in the (diagram above) implies that the opportunity cost of production has fallen. The improvement in technology is assumed to affect the notebook computer producers only.

Not on Production Possibilities Frontier (PPF)? On the frontier = all resources used in production (pts B,C, D) Efficiency Inside the PPF: not all resources used (pt A) Inefficiency Outside the frontier: not possible level of production given available resources (pt X) 2 Product Economy

What do economists use PPC (or PPF) for? use the production possibilities curve (PPC) model to understand scarcity and constrained choice. Consumer goods (butter) vs. Government goods (guns) Curve becomes more steep as it approaches either axis. (i.e. you give up more of the other good (guns) as you increase one good (butter)

7. Production of both X and Y increases (or decreases) growth on the Production Possibilities model More resources available (land, labor, capital & entrepreneurship) Fewer resources available (war, natural disasters)

The four basic assumptions of a Production Possibilities Curve: (1)resources are used to produce one or both of only two goods (2) the quantities of the resources do not change (3)technology and production techniques do not change (4)resources are used in a technically efficient way (5)Increasing production of one good means decreasing production of the other good.

Points A, B and C represent the points at which production of Good A and Good B is most efficient. Point X:the point at which resources are not being used efficiently in the production of both goods. Point Y demonstrates an output that is not attainable with the given inputs.

45 0 One for one trade-off (Opportunity Cost). Guns/Butter measured in money $$ spent, not in units/pounds/volume

Determination of the of that economy’s future location on the curve Emphasizing the production of capital goods at the expense of goods for present consumption, or vice versa, would result in "biased" economic growth, meaning that the PPF shifts outwards more in one direction than the other.

Economic System Each system is defined by: What gets made How it is made Who gets it Manorialism

Pure Capitalism: private ownership of the means of production, in which personal profit can be acquired through investment of capital and employment of labor. Pure capitalism is an ideal state in which government plays no role (tax, regulation, subsidy)

Wagner's Law: the development of an industrial economy will be accompanied by an increased share of public expenditure in GNP. (socialism) Adolph Wagner ( ) German economist & academic socialist

Communism or Command Economy: the means of production are publicly owned (or i.e. the government (which Marx & Engels assumed to be a Democratic Republic) ) and economic activity is controlled by a central authority.

Mixed Economy: There is a degree of government intervention in a market economy Somewhere between a command economy and a market economy.

Traditional Economy: People use the resources they have available to them to produce what they’ve always produced, what their parents have always produced, and their parents before them using traditional methods and customs; economic roles are determined by gender, caste and religion.

Circular Flow Graph a "picture" of a market economy in action. The Factors of Production (land, labor, capital and entrepreneurship) flow from households ( consumers ) to producers (businesses). Goods and services flow from producers to consumers and, in exchange, money flows in the opposite direction.

The 5 fundamental questions any economy must answer 1. What goods will be produced 2. How will goods be produced 3. Who gets the goods 4. How will the system accommodate change? 5. How much will be saved? Wag the dog question: what ‘guides’ the producer’s decisions?