02

Limits, Alternatives, and Choices

McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
 Introduction

• Economics defined
• Economic wants exceed
productive capacity
• A social science concerned
with making optimal choices
under conditions of scarcity

LO1 1-2
 The Economic Perspective
Scarcity and Purposeful Marginal
Choice Behavior Analysis

• Resources • Rational • Marginal

are scarce self-interest benefit
• Choices must • Individuals • Marginal cost
be made and utility
• Opportunity • Firms and • Marginal
cost profit means extra
• There’s no • Desired • MB and MC
free lunch outcomes

LO1 1-3
 Theories, Principles, and Models
• The scientific method
Observe Formulate a hypothesis Test the hypothesis

Accept, reject, or modify the hypothesis

Continue to test the hypothesis, if necessary

• Economic principles- statement about

economic behavior that enables prediction of the probable
effects of a certain outcome.

• Generalizations
• Other-things-equal assumption
• Graphical expression
LO2 1-4
 Microeconomics and Macroeconomics

• Microeconomics
• Decision making by individual
units
• Macroeconomics
• Examines either the economy
as a whole or its basic
subdivisions or aggregates

LO3 1-5
 Positive and Normative Economics

• Positive economics
• Deals with economic facts
• Normative economics
• A subjective perspective of
the economy

LO3 1-6
 Individual’s Economizing Problem
• Limited income (microeconomic model)
• Unlimited wants (Necessities and Luxuries)
• A budget line (It is a curve that shows combinations
of two products a consumer can purchase with given
income)
• Attainable and unattainable options
• Trade-offs and opportunity costs (Opportunity
cost of first DVD is 2 books and opportunity cost of
first book is ½ DVD)
• Make the best choice possible (marginal
costs and benefit)
• Change in income (shifts budget line- repeat for
LO4
income $240 and $60)
1-7
 Individual’s Economizing Problem

$120 Budget 12
DVDs Books
$20 $10 10
6 0 Income = $120
=6
8 Pdvd = $20
5 2
Quantity of DVDs Unattainable
4 4 6
3 6
4 Income = $120
2 8 Pb = $10
= 12

1 10 2 Attainable
0 12
0
2 4 6 8 10 12 14
Quantity of Paperback Books

LO4 1-8
 Society’s Economizing Problem
Human Resources / Inputs / Factors of Production- Scarce Resources

• Land (natural resources- forests, minerals, oil deposits, water

resources, sunlight and arable land)

• Labor (physical and mental activities contributed by people such as

teachers, clerks, football players etc.)

• Capital (includes manufactured aids in producing good such as

factory, storage, transportation, tools, machinery etc.)

• Entrepreneurial Ability (takes initiatives, makes decisions,

innovates, and takes risks)

LO4 1-9
 Production Possibilities Model
• Illustrates production choices given scarce resources
(macroeconomic model)
• Assumptions:
• Full employment- economy employees all available
resources
• Fixed resources- Quantity and Quality of factors of
production is fixed
• Fixed technology- State of technology used in production
is fixed
• Two goods- Economy produces two goods: consumer and
capital goods.

LO5 1-10
 Production Possibilities Model

Production Alternatives
Type of Product A B C D E

Pizzas 0 1 2 3 4
(in hundred thousands)

Industrial Robots 10 9 7 4 0
(in thousands)

Plot the Points to Create the Graph…

LO5 1-11
 Production Possibilities Model
14
• The law of
13
12
increasing
11 opportunity costs makes
A
10
B
the PPC concave.
9
Industrial Robots

8
7
C Unattainable • Underemployment
6
5
D
4 U
3
2 Attainable
1 E
0 1 2 3 4 5 6 7 8 9
Pizzas

LO5 1-12
 A Growing Economy

• Increasing Resource Supplies

• Increasing Resource Quality
• Advances in Technology
Production Alternatives
Type of Product A B C D E

Pizzas 0 2 4 6 8
(in hundred thousands)

Industrial Robots 14 12 9 5 0
(in thousands)

LO5 1-13
 A Growing Economy

14 A’
13
B’ Unattainable
12
11
A
10
9
B C’ Economic
Industrial Robots

8
C
Growth
7
6
D’
5
D
4
3 Now Attainable
2 Attainable
1 E E’
0 1 2 3 4 5 6 7 8 9
Pizzas

LO6 1-14
 Present Choices, Future Possibilities
Compare Two Hypothetical Economies

Future Future
Goods for the Future

Goods for the Future

Curve Curve
F

Current P Current
Curve Curve

Goods for the Present Goods for the Present

Presentville Futureville

LO6 1-15
Pitfalls to Sound Economic Reasoning

• Biases
• Loaded terminology
• Fallacy of composition
• Post hoc fallacy
• Correlation not causation

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