1. ECONOMICS BY SANDEEP NARULA INTRODUCTION TO MICROECONOMICS 2

2. ECONOMICS IS ABOUT DECIDING
MicroEconomics is about making choices and it deals with allocation of given resources having alternative uses-----Said by Robbins
Introduction

3. EXAMPLES OF SOME DECISIONS ECONOMISTS HAVE ANALYZED
Whether to buy a car this week.
Whether to have pizza for dinner tonight, or something else.
Whether to go for tuition
How hard to study for this course.
Whether to go to college, and if so, which one.
Whether to buy a lottery ticket in Your city
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4. Factors in decision making
1. People face tradeoffs.(EQUILIBRIUM)
2. Opportunity cost.
3. Making decisions at the margin.
4. People respond to incentives.
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5. How individual decisions affect others
5. Trade (exchange) can benefit everyone.
6. Markets are often a good way to organize exchange.
7. Government can sometimes improve on
markets.
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6. MICROECONOMIC AGENTS Firms Consumers
Produce and sell goods and services
Buy inputs (labor, capital & raw materials)
Consumers
Buy goods and services
Sell inputs (labor services, loanable funds)
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7. Methodology: Positive v. Normative Economics
Positive econ. -- Studies the way the world is.
How much will a new gasoline tax raise the price of gasoline?
Will an increase in the minimum wage increase unemployment?
Why is the price of corn $4.20 per bushel?
How much will a drought in the corn belt raise the price of corn? Of wheat?
What will be the effect on Byron Brown’s pizza consumption if we take $1000 away from Tom Izzo and give it to Brown?
Introduction

8. Methodology: Positive v. Normative Economics
Normative econ. -- Studies the way the world should be.
Should there be a new tax on gasoline?
Should there be an increase in the minimum wage?
Should $1000 be taken from Mr. Chetan to Jatin
What should the price of corn be?
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9. Models and theories
Model -- a hypothesis about the relationships among variables.
Everyone uses models.
Because a model abstracts from reality it makes mistakes.
Models can contain two kinds of errors or mistakes:
the wrong explanatory variables may be included.
the functional form may be incorrect.
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10. Contents of models
List of variables, especially a clear statement of what is to be explained
Dependent v. independent variables
Hypothesized relationships among the variables.
Using tables of values, graphs, or equations.
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11. A model of heights H height A H = a + b(A) a b = H/A age in years
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12. A better (nonlinear) model of heights
naive (linear)
fancy
height
age in years
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13. A better model?
Height = f(age, gender, parents’ heights, nutrition, ...)
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14. Gender effects in the better model
Height = f(age, gender, parents’ heights, nutrition, ...)
men
women
height
age
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15. MODEL SUMMARY Three ways to describe models Important concepts Graphs
Tables of values
Mathematical functions (equations)
Important concepts
Dependent and independent variables
Linear function, intercept and slope
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16. AN ECONOMIC MODEL The Production Possibility Curve
Purposes of model
Show scarcity constraint
Illustrate economic efficiency
Introduce opportunity cost concept
Variables
Quantities of goods that may be produced
Givens
Total amounts of inputs available
Technology of production
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17. PPF DEFINED
The Production Possibility Curve (or frontier) shows the maximum amount of two goods you can produce given the total amounts of inputs available, and given the technology of production.
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18. PPC EXAMPLE Assumptions: There are only two goods, wheat and machines
There are limited inputs and given technology of production.
Definition:
The PPC shows the maximum amount of wheatyou can produce, given the amount of machines to be produced.
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19. PRODUCTION POSSIBILITY CURVE
machines
400
Which points are attainable
and which points are unattainable?
300
200
100 10 20 30 40 50 60
Go to hidden slide
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20. PRODUCTION POSSIBILITY CURVE
machines
400
What’s the effect of an improvement
in the technology for producing
machines
300
200
100 10 20 30 40 50 60
Go to hidden slide
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21. PRODUCTION POSSIBILITY CURVE
machines
400
What’s the effect of an increase in
total resources (inputs)?
300
200
100 10 20 30 40 50 60
wheat
Go to hidden slide
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22. Points “inside” the PPC are inefficient.
For any point “inside” there corresponds some point that represents more production of both goods.
Note that while points on the PPC are efficient, we cannot say at this time whether some are better for society than others.
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23. OPPORTUNITY COST DEFINED
The opportunity cost of doing something is what you must give up in order to do it.
The cost of a wheat what you must give up to consume it, which in this case is easily computed in money.
The cost of a college education includes both money and other foregone alternatives. For example, the cost of a year at DU includes not only tuition and books, but the income you could have earned working on a full time job.
The cost of attending a baseball game includes the value of the time you could have spent studying economics.
Introduction

24. The PPC can show opportunity cost
Suppose you are at some point on a PPC.
Then suppose you want to consume one more wheat.
The opportunity cost of one more unit of wheat is the amount of machines you must give up in order to get it.
Note that this opportunity cost is equal to minus the slope of the PPC.
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25. PRODUCTION POSSIBILITY CURVE
machines
400
300
More wheat means less machines
200
100 10 20 30 40 50 60
wheat
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26. OPPORTUNITY COST INCREASES AS MORE OF A GOOD IS PRODUCED
Not only does more wheatean less machines, but each additional wheatcosts more than the one before it.
This idea shows up as the PPC being concave to the origin. (The curve bows out.)
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27. Production Possibility Curve
machines
400
300
Opportunity cost of more wheat is
constant.
200
100 10 20 30 40 50 60
wheat
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28. We will use Production Possibilities Curves that are straight lines (i
We will use Production Possibilities Curves that are straight lines (i.e., that have constant opportunity cost) to illustrate some important economic principles.
Introduction