1. Thinking Like an Economist
Chapter 2
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2. Economics trains you to. . . .
Think in terms of alternatives.
Evaluate the cost of individual and social choices.
Examine and understand how certain events and issues are related. 2

3. The Economic Way of Thinking
Includes developing abstract models from theories and the analysis of the models.
Uses two approaches:
Descriptive (reporting facts, etc.)
Analytical (abstract reasoning) 5

4. Two Roles of Economists
When they are trying to explain the world, they are scientists.
When they are trying to change the world, they are policymakers. 30

5. The Economist as a Scientist
The economic way of thinking . . .
Involves thinking analytically and objectively.
Makes use of the scientific method. 3

6. Observation, Theory and More Observation!
The Scientific Method
Develops theories, collects, and analyzes data to prove the theories.
Uses abstract models to help explain how a complex, real world operates.
Observation, Theory and More Observation! 4

7. Economic Models The Circular Flow Model
Economists use models to simplify reality in order to improve our understanding of the world
Two of the most basic economic models include:
The Circular Flow Model
The Production Possibilities Frontier

8. The Circular-Flow Model
The circular-flow model is a simple way to visually show the economic transactions that occur between households and firms in the economy. 6

9. The Circular-Flow Diagram
Spending
Revenue
Goods & Services sold
Goods & Services bought
Firms
Market for Goods and Services
Households
Market for Factors of Production
Labor, land, and capital
Inputs for production
Wages, rent, and profit
Income 7

10. The Production Possibilities Frontier
The production possibilities frontier is a graph showing the various combinations of output that the economy can possibly produce given the available factors of production and technology. 14

11. The Production Possibilities Frontier
Quantity of
Computers
Produced D
3,000 C
2,200
600 A
2,000
700 B
1,000
300
1,000
Quantity of
Cars Produced 15

12. Microeconomics and Macroeconomics
Microeconomics focuses on the individual parts of the economy.
How households and firms make decisions and how they interact in specific markets
Macroeconomics looks at the economy as a whole.
How the markets, as a whole, interact at the national level. 13

13. Economists in Washington . . .
. . . serve as advisers in the policymaking process of the three branches of government:
Legislative
Executive
Judicial 33

14. Positive versus Normative Analysis
Positive statements are statements that describe the world as it is.
Called descriptive analysis
Economists as scientists make positive statements
Normative statements are statements about how the world should be.
Called prescriptive analysis
Economists as policymakers make normative statements 31

15. Why Economists Disagree
They may disagree on theories about how the world works.
They may hold different values and, thus, different normative views. 35

16. Examples of What Most Economists Agree On
A ceiling on rents reduces the quantity and quality of housing available.
Tariffs and import quotas usually reduce general economic welfare. 36

17. ECONOMIC ANALYSIS EASY AS 1..., 2..., 3...
1. Where are you before any changes? Mark a beginning point based on the scenario. (A) Tell how you knew where to start.
What was the change? What happened in the scenario? Did production of one good increase? Did we go to war? Restate it simply here.
What was the result of the change?
Short Run Where are we now? What was the immediate impact on the two variables? Which way on the line did we move? Are we inside the line?
Show the result with a new point. (B)
Long Run What happened to the location of the production possibilities frontier? Did it move in or out?
If it moved show the new location with a new line and arrows indicating the direction of change.
Tell what changed to cause this movement (this must be a change in a resource or technology).

18. PRODUCTION POSSIBILITIES CURVE
Scenario: While at full-employment new developments in computer technology cause many business to invest in new computer systems.
Begin:
Change:
Result of Change:
Short run:
Long run:
Capital Goods
Consumer Goods

19. While at full-employment new developments in computer technology cause many business to invest in new computer systems.
Begin: A , because at full-employment
Change: US companies increase purchase and production of capital goods.
3. Result of Change: Move to B
Short run: Consumer goods decrease and Capital goods increase
Long run: Production Possibilities Curve shifts outward due to more capital. B
Ca2
Capital Goods A
Ca1
Co2
Co1
Consumer Goods