Microeconomic

Dr. Karim Kobeissi

Chapter 1: The Core Issues

Economics, Microeconomics, and

Macroeconomics
Economics: economics is the social science that studies how
individuals, firms, and nations make choices on allocating scarce
resources to satisfy their unlimited wants. Economics distinguishes
between microeconomics and macroeconomics.
-

Microeconomics is the branch of economics that analyzes the

market behavior of individual consumers and firms in an attempt to
understand the decision-making process of firms and households. It
is concerned with the interaction between individual buyers and
sellers and the factors that influence the choices made by them.

Macroeconomics is the branch of economics that studies the

behavior of the economy as a whole and not just on specific
companies, but entire industries and economies. This looks at
economy-wide phenomena, such asGross National Product(GDP)
and how it is affected by changes in unemployment, national
income, rate of growth, and price levels.

Economics, The Basic Concepts

The six basic concepts in the definition of economics
are:
1. Economic Agents: Participants in the economy
such as households, governments and business
firms that engage in specialization, production,
exchange, and consumption.

2. Scarce Resources: Productive resources (also

called factors of production) such as land, labor, and
capital, for which the limited amount available is less

Economics, The Basic Concepts

3. Choice: Because resources are scarce, people
must decide how to use them.
4. Specialization: Agents produce a limited number
of things that they can make better than others.
5. Exchange: Because agents produce only a few
things, to consume other goods they must engage
in trade with other (specialist) producers.

Economics, The Basic Concepts

6. Economic System: An organized way in which a
nation allocates its resources and share out goods
and services in the national community. The
imbalance between wants and the ability to meet
them requires an economic system to provide for
orderly

allocation

of

scarce

resources.

In

capitalist society, people own the productive

resources; in a socialist economy, the government

Limited Resources Vs Unlimited Wants

Human wants (the amounts of goods that
would be desired if they were free) are
unlimited

but

resources

are

limited.

Thus, The law of scarcity states that

wants always exceed societys ability to
meet them. Therefore, every society
faces

The

Economic

Problem

of

somehow choosing what to produce,

how to produce, and for whom to

Limited Resources Vs Unlimited Wants

(con)
The three basic questions in this decision are:
1.

What:

What

goods

and

services

should

be

produced?
2. How: What combinations of resources should be
devoted to manufacturing the goods and services
produced?
3. For Whom: when goods and services are produced,
who should get them?

O p p o r t u n i t y

C o s t

When we choose to use resources to produce

one thing, we must give up producing
something else with those resources. This
trade-off comes with a cost Scarcity
creates opportunity costs
economic choices.

and forces

O p p o r t u n i t y

C o s t ( c o n )

The Opportunity Cost of any action is the

loss of the next best alternative that the
action eliminates.
A Free product has zero opportunity cost
because no other product has to be given
up in order to have more of the free
product.
A Scarce product has a positive opportunity
cost, because in order to have more of it

Production-Possibilities and
Opportunity Cost
Production

possibilities:

the

various

combinations of final goods and services

that could be produced in a given time
period with all available resources and
technology.
The Production-Possibilities Curve (PPC)
shows all the possible combinations of
output

that

can

be

produced

resources are used to their fullest.

when

Production-Possibilities and Opportunity

Cost (con)
1. Points on the frontier,
such as (A & B), are
attainable
by
the
economy
and
are
efficient.

2. Points beyond the frontier,

such as (C), are not
attainable due to scarcity
of resources.
3. Points within the frontier,
such as (D), are attainable
but are inefficient since
they occur when resources
are either unemployed or
incorrectly allocated.

The Different Combinations of Skis and Wine that can be

Produced in Altaria
To

increase

ski

Combinatio
ns

Skis

Win
e

from wine production,

1000

and vice versa.

100

900

1 unit of wine

200

700

1.5 unit of
wine

300

400

3 units of wine

400

4 units of wine

production, resources
must be shifted away

Note
opportunity

the
cost

in this trade-off.

opportunity
cost of
producing
one
additional
Ski
-----

Production-Possibilities and Opportunity

Cost (con)

The

production-possibilities

curve is convex because of

the

Law

of

Increasing

Costs, which states that as

more

of

any

product

is

produced the opportunity cost

Production-Possibilities and Opportunity

Cost (con)
Opportunity costs increase since some
factors of production are better suited to
producing one good than another. For
example, consider moving from point A to point
B on the production possibilities frontier. This
requires that resources be switched away from
the production of good Y and into the production
of good X. The first resources that are shifted are
those that are relatively good at producing X
(and bad at producing Y). Eventually, however,
resources must be moved that are not so good at
producing X (and not so bad at producing Y).
Hence, since the resources are not as well suited
at producing X, more must be switched. As a
result, the opportunity cost of producing more X

Production-Possibilities and
Opportunity Cost
The Production-Possibilities Curve (PPC)
illustrates two essential principles:
1) Scarce resources: there is a limit to the
amount we can produce in a given time with
available resources and technology.
2) Opportunity costs: we can obtain additional
quantities of one of the goods only by reducing
production of another good.

Efficiency and the Production-Possibilities Curve

Efficiency: maximum output of a good

from the resources used in production.
Every point on the frontier of the
production possibilities curve is a
point of efficiency.

Surveying Points on the PPC

Economic Growth
Economic growth: an increase in output;
an expansion of production possibilities.
Raises our standard of living.
Satisfies more wants and needs.
Creates more jobs.

Economic growth is caused by increasing

the resources available or by using better
technology.
The PPC pushes outward.

Economic Growth
PPC2

Good Y

PPC1

Either increase resource inputs

or
improve technology, or both (B
to C).

B
Put inactive
resources
to work (D to B).

Good X

First, reach the current PPC by putting

inactive resources /technology to work.

Second, add resources or new

technology to achieve previously
unattainable combinations.

Resolving The Economic

Problem
WHAT to produce: the point we choose on
the production possibilities curve determines
what mix of output gets produced.
HOW to produce: someone must decide
which production methods and technologies
to use.
FOR WHOM to produce: there must be a
mechanism to determine whose wants and
needs will be satisfied and who must go
without.

The Mechanisms of Choice

There are three basic ways to make the
necessary choices:
1) Adopting the market mechanism (pure
market).
2) Adopting the government directives (pure
dictator).
3) Adopting a mixture of both (a
representation of the real world in which
we and others live).

The Market Mechanism

The market mechanism correspond to the use
of market prices and sales to signal desired
outputs and resource allocations.
Adam Smith (the father of economics) called it
the invisible hand.
It is as if we are guided to the correct point on
the PPC.
In fact, we get there by the interaction of millions
of decisions made by buyers, sellers, and
producers in their own self-interest (i.e., to make
themselves better off).

The Market Mechanism

Here is how the market answers the
three basic questions:
WHAT to produce? Produce goods and
services that customers want*.
HOW to produce? Profitably*; produce an
acceptable good or service while keeping
production costs low.
FOR WHOM to produce? Produce for
those who are both willing and able to
pay* for it.

The Government Directives

At its extreme, government could dictate
answers to all three questions.
Such decisions would be made by political
leaders and bureaucrats.
Most likely these decisions would not mirror the
individual desires of the people.
The FOR WHOM decision would lean heavily
toward favoritism: goods for those the
government favors and none for those not
in favor.

A Mixture of Both
The market is highly efficient in production
of wanted goods and services.
The government acts as a maintainer of
balance in the economy.
Makes sure the market does not go to excesses
either in underproduction or overproduction.
Regulates production to ensure that goods and
services are safe.
Acts to redress excessive inequalities (provide
support for groups who dont get products in
the market system).

Market and Government Failure

If the market does not produce the mix of
goods that society desires, market failure
is said to occur. This provides an opening
for government to step in.
If government can move us closer to the mix
society desires, the intervention is successful.

However, government can do the

opposite, or impose such high costs that
the market simply ceases to produce.
This is government failure.

Types of Economic Analysis

Positive analysis in economics focuses on
what is and is based on facts. For
example: The unemployment rate is 10%.
Normative analysis focuses on what should
be and is based on opinions and
judgments.
For
example:
the
unemployment rate is too high.