2. Scarcity, Choice, and Economic Systems Outline 1.The concept of opportunity cost 2.Production possibility frontiers 3.The law of increasing opportunity cost 4.Productive inefficiency 5.Gains from specialization: Comparative advantage 6.Systems of resource allocation

3. Opportunity cost Resources are scarce; therefore, individuals and societies must make choices. Choice entails foregone alternatives, or opportunity cost. Opportunity cost is defined as the value of the next best alternative foregone as the result of choosing.

4. If I go to the movies, I give up both time and money. Opportunity cost equals: The value of the goods or services that could have been purchased with the money used to pay for the movie ticket; plus The value of the time that could have been used for something else, like work or study.

5. Time is money! I can make $150 per hour as a consultant. So I am giving up a lot by sitting around a doctor’s office or an airport. Cell phones help to reduce my opportunity cost at time like these.

6. Assumptions: ñFixed endowment of economic resources ñFixed technology ñResources fully utilized The PPF illustrates what is possible in terms of production with given resources and technology

7. ( Technology is “applied know how.” ( “A sharp knife is better than a dull knife.” ( Specialization is the inevitable consequence of technology.

8. A hypothetical economy

9. Nondefense goods Defense goods 0160 200 Feasible zone A F C B U I 175 130 75125 àU is a productively inefficient point àI is an impossible point

10. 1 MOC is defined as marginal opportunity cost. Why is the PPF bow-shaped?

11. Nondefense goods Defense goods 0160 200 A F D 175 125 75 E 100125 155 Resources are specialized and hence not perfectly adaptable to alternative uses Law of increasing opportunity cost

12. Quantity of all other goods Number of lives saved 0 1,000,000 950,000 400,000300,000100,000500,000 700,000 400,000 A D E F B The production possibilities frontier How many lives should we save? Figure 1, p. 23

13. Notes on Figure 1, p. 23 If resources are fully allocated to saving lives, 500,000 lives could be saved--but that means zero production of “all other goods.” Notice that the opportunity cost of the first 100,000 lives saved (point A to point B) is units 50,000 units of all other goods ; whereas the opportunity cost of the 4th 100,000 lives saved (point D to point E) is 300,000 units.

14. To save more lives we must allocate resources specialized in the production of food, apparel, new structures, entertainment, education, and other goods and services to various life-saving services such as health care and personal security

15. I just got a free lunch! Economists say “there is no free lunch” from society’s point of view. Preparing the lunch took resources that could have been used to produce something else.

16. Nondefense goods Defense goods U R S T Moving from point U to an efficient point is like getting a free lunch.

17. Micro is from the Greek word mikros, meaning “small.” Microeconomics is the study of individual economic agents—households, firms, and government units; and their interaction in specific markets. Macro is from the Greek work macros, meaning “large.” Macroeconomics is the study of the economy as a whole—that is, the study of the forces that determine total output, total employment, or the general price level.

18. Nondefense goods Defense goods 0160 200 A F C B U 175 130 75125 Microeconomics attempts to explain why this society might end up at point C instead of point B. Macroeconomics attempts to explain why society could end up at a point like point U.