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Introduction to Economics

Professor Hedrick SS 424

Instructional Method
Primarily Lecture format with discussion, simulations, and video presentations Constructive discussion is welcomed Grading is based on five mini-exams and Aplia Homeworks. NO MAKEUPS GIVEN Professor available during office hours and by appointment Suggestions for the study of economics

What is Economics?
Scarcity a basic human dilemma
Limited resources vs. unlimited wants The human condition requires making choices

Definitions of Economics
Mankiws definition
is the study of how society manages its scarce resources

Hedricks definition
is how society chooses to allocate its scarce resources among competing demands to improve human welfare

Alternative definitions
what economists do. is the study of choice.

Fundamental Questions of Economics - Scarcity requires all societies to answer the following questions:
What is to be produced? How is to be produced? For whom will it be produced

WHFM Questions

How Do Economists Study Human Behavior?


Economics as a Science
The scientific method
ObservationTheoryDataTesting

Rational Behavior
Weighing benefits and costs and maximizing total net benefits Marginal vs. Total Thinking

Economic Theory and Models


Simplification by assumption Ceteris Paribus Holding other factors constant Prediction vs. realism

Microeconomic versus Macroeconomics

Bias towards use of natural rather than controlled experiments The specialized language of economics (e.g. He has lots of money.)
Money medium of exchange Wealth accumulated financial and non-financial assets Income the purchasing power earned during a given period

Why do Economists Study Human Behavior?


Scientists versus policy makers Positive Economics
Descriptive - what the world is like. Objective- value judgments need not be made Positive statements can theoretically be tested by appealing to the facts

Normative Economics
Prescriptive - what the world ought to be like Subjective value judgments must be made Normative statements cannot be tested appealing to facts.

Categories of Basic Principles of Economics


How do people make decisions? How do people interact? How does the economy work overall?

How Do People Make Decisions?


Principle #1 - People face tradeoffs
Time allocation an example of tradeoffs Efficiency versus equity Production Possibilities Frontier

Principle #2 - The cost of something is what you have to give up to get it


Opportunity costs come from Von Weiser, a German economist late 1800s Opportunity costs are independent of monetary units TINSTAAFL The real costs of going to college

Principle #3 - Rational people think at the margin


Rational or irrational decision-making Marginal benefits and costs versus total benefits and costs Weighing marginal costs and benefits leads to maximizing net benefits (total welfare) The boxes example

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Principle #4 People respond to incentives
Reactions to changes in marginal benefits and costs Increases (decreases) in marginal benefits mean more (less) of an activity Increases (decreases) in marginal costs mean less (more) of an activity Example of seat belts leading to increased speeds Example of SUV (with child car seat) in Issaquah

How Do People Interact?


Principle #5 - Trade can make everybody better off
Adam Smith author of the An Inquiry into the Causes and Consequences of the Wealth of Nations 1776 Gains from the division of labor and specialization Mercantilists perspectives Example of why Ellensburg

Principle #6 - Markets are usually a good way of organizing economic activity


feudal times where feudal states were self-supporting, also haciendas in the new world the benefits of trade are so powerful that people began to trade markets for economists are more abstract than the notion of a middle eastern bazaar or a flea market and simply determine the prices and quantities traded of different goods and services the failure of centrally planned economies and the movement towards markets for the WHFM questions

Markets
Principles 1-5 combine with markets to turn the pursuit of self-interest into promoting the interests of society Adam Smith and the invisible hand creativity and productivity are stimulated by the pursuit of self-interest into improving resource allocations set it and forget it becomes compete or be obsolete in some cases markets fail to allocate resources effectively so,

Principle #7 Governments can sometimes improve interaction that occurs in markets


there are circumstances when market signals fail to allocate resources efficiently or equitably Public Goods, Externalities and Income Distribution Some goods or services that people desire will not be produced by markets (e.g. lighthouses). Some goods or services will either be underproduced (vaccines) or overproduced (pollution) because markets fails to register certain benefits or costs.

markets may also fail to provide an equitable or fair distribution of resources government intervention with its ability to coerce (the opposite of voluntary) can regulate, tax and subsidize to change market outcomes efficiency and equity: the pie analogy if government intervention always the proper solution?

How Does the Economy Work as a Whole?


Principle # 8 A countrys standard of living depends upon its ability to produce goods and services
Adam Smiths An Inquiry into the Nature and the Consequences of the Wealth of Nations Materialism more toys mean more welfare wealth: a necessary or sufficient condition for happiness (are rich people happier, children with lots of toys) leisure time and productivity

the factors of production: land or natural resources, labor, capital, entrepreneurship technology and productivity the rule of 72 for growth rates

Principle #9 The general level of prices rises when the government prints and distributes too much money
definition of money, the concept of snow to Inuits, and economic language inflation is an increase in the general or average level of prices in an economy not worth a continental and recent example in Argentina the establish of the Federal Reserve and the introduction of sustained inflation in the US

Principle #10 Society faces a short-run tradeoff between inflation and unemployment
Short-run and the long-run demand and supply shocks short-run increases (decreases) in output above (below) long-run potential output lead to adjustments countercyclical stabilization versus pro-cyclical destabilization political business cycles

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