The Economic Problem

1.1 Unit contentSix topics: 1.1.1 Economics as a social science 1.1.2 Positive and normative economic statements 1.1.3 The economic problem 1.1.4 Production possibility frontiers 1.1.5 Specialisation and the division of labour 1.1.6 Free market economies, mixed economy and command economyMicroeconomics Topic 1: The Economic Problem11.1.1 Economics as a social science - syllabusStudents should be able to: Explain the process of thinking like an economist: the process of developing models in economics, including the need to make assumptions Define ceteris paribus and explain its use in building models Explain why economists are unable to carry out scientific experiments

Microeconomics Topic 1: The Economic Problem21.1.1 IntroductionWhat is economics?

Economics is usually divided into two parts: microeconomics and macroeconomics.What is the difference?1.1.1 Models and assumptionsEconomics is a social science:

Economists develop models.What is a model?

But models require assumptions.

Microeconomics Topic 1: The Economic Problem41.1.1 Ceteris paribusCeteris paribus is a _______ phrase meaning other things being equal. It is used in economics when we focus on changes in one variable while holding other influences constantMicroeconomics Topic 1: The Economic Problem51.1.1 Why cant economists use scientific experiments?Microeconomics Topic 1: The Economic Problem61.1.2 Positive and normative economic statements - syllabusStudents should be able to: Distinguish between positive and normative economic statements Assess the role of value judgements in influencing economic decision making and policyMicroeconomics Topic 1: The Economic Problem71.1.2 Value judgementsValue judgements are statements or opinions that are not testable (cannot be verified) and depend on the views of the individual and the values they hold.E.g. 1.1.2 Normative statementsNormative statements are based on value judgements which cannot be proven or tested as true or false.E.g.

So normative statements depend on ___________________________Value judgements influence economic decision making and policy.January 2013Microeconomics Topic 1: The Economic Problem91.1.2 Positive statementsPositive statements are statements that can be tested against real data. Positive statements are more objective and scientific. E.g.

Note: positive statements can be tested and possibly found to be _________1.1.2 Positive and normative statements_______ statements are assertions of a factThey can be tested and proved or disproved.They are value free and are scientific or objective.________ statements are value judgementsThey cannot be tested as true or false. They often contain words such as fair or unfair.Remember to read the news look for examples!Exam def January 2009Microeconomics Topic 1: The Economic Problem111.1.3 The economic problem - syllabusStudents should be able to: Explain the problem of scarcity where there are unlimited wants and finite resources Distinguish between renewable and non-renewable resources Evaluate the importance of opportunity costs to economic agents (consumers, producers and government)

Microeconomics Topic 1: The Economic Problem121.1.3 Needs and wantsWhat do you need?

What do you want?

1.1.3 The Economic Problem and opportunity costThe basic economic problem is that there are __________ wants and ____________ resources.Who does this problem affect?___________________________________Resources are scarce (finite or limited). If resources (e.g. money) are used for one thing (e.g. buying a ___________) then they cannot be used for something else (e.g. buying a ___________). This is called opportunity cost. SyllabusMicroeconomics Topic 1: The Economic Problem141.1.3 Definition and example of opportunity costSo opportunity cost is the next best alternative foregone (given up) when an economic decision is made. Note: it is only the next best alternative not a range of alternatives.E.g. if the government builds a new toll road for Xmillion pounds the opportunity cost could be ____________________________Drivers will have to pay 10 to use the road and their opportunity cost could be _______ ______________________________January 2009 Q9aMicroeconomics Topic 1: The Economic Problem151.1.3 Marginal analysisMarginal cost (or benefit) analysis is based on the idea that people take decisions by considering the cost (or benefit) of one more item.E.g. the benefit of another bag of crisps is _______ than the first bag. When firms manufacture a large number of the same good they will find the cost of producing one more tends to _________ but it will eventually ___________January 2009 Q9aMicroeconomics Topic 1: The Economic Problem161.1.3 Economics agentsIn economics we tend to talk about three groups of economic agents: households, firms (producers) and the government.If is often a good idea to evaluate how these three will be affected.June 2011Microeconomics Topic 1: The Economic Problem171.1.3 Factors of productionFactors of production are the economic resources used for producing goods and services. What do you need to produce goods? (Hint - there are four groups)Microeconomics Topic 1b: The Economic Problem - economic resources, objectives and choice181.1.3 Examples of factors of productionLand includes

Labour includes

Capital:

Enterprise:1.1.3 CapitalNOTE capital has different meanings but all imply that capital can be used to generate income.So cash or a bank loan would not count as capital (in economic terms); it is what the money is used for which is the factor of production.1.1.3 ResourcesA resource is a factor of production used to produce goods and services.There is a wide range of resources ranging from renewable resources (things which can be replenished e.g. ______________) to non-renewable resources (e.g. _______ ___________).

SyllabusMicroeconomics Topic 1: The Economic Problem211.1.3 Renewable versus non-renewable resourcesRenewable resources are also called sustainable resources.What is a sustainable resource? E.g.?

Non-renewable resources are also known as finite resources (or finite economic resources). E.g. SyllabusMicroeconomics Topic 1: The Economic Problem221.1.3 Free goods versus economic goodsFree goods are those which are not scarce and they have no opportunity cost. E.g. Economic good are goods which are scarce and have an ______________ costSyllabusMicroeconomics Topic 1: The Economic Problem231.1.4 Production possibility frontiers - syllabusStudents should be able to: Use PPFs to depict opportunity cost, economic growth and the efficient (or inefficient) allocation of resources Distinguish between movements along and shifts in PPFs and assess possible causes of such changes Distinguish between capital and consumer goods

Microeconomics Topic 1: The Economic Problem241.1.4 The production possibility frontierA production possibility frontier shows the different combination of economic goods which an economy is able to produce. For example consider an island which can only produce wine or grain. In a given period of time islanders can choose to produce only wine, only grain or a combination of the two according to the table on the next slide:1.1.4 Example of PPFWine (thousands of bottles)Grain (thousands of bushels)0155149121291451501.1.4 PPF questionsThe PPF shows the different combinations of output for this island if all resources are used to their full potential. What would happen at point a?

What would happen at point b?January 2012Microeconomics Topic 1: The Economic Problem271.1.4 PPF and productive efficiencyPoints on the PPF occur when the country is using its resources efficiently. This is called productive efficiency. It is producing as much as physically and technologically possible given the technology at the time.Points on the PPF do not necessarily maximise economic welfare but they do show that resources are not being _______1.1.4 PPF summaryWhat does a PPF show?

January 2009 Q9b, June 2009Microeconomics Topic 1: The Economic Problem291.1.4 PPF and opportunity costThe PPF also illustrates the idea of choice and opportunity cost. What does a movement along the PPF show?

The PPF is curved and so moving along does not show a constant opportunity cost opportunity cost is ____________June 2010Microeconomics Topic 1: The Economic Problem301.1.4 Straight line PPFSometimes PPFs are shown as straight lines.If they spent half their time on each what would A produce? What would B produce? What would the total production be?

When would outputbe maximised?

1.1.4 PPF and economic growthWhy might the economy be able to shift to the right of its PPF in the future?

January 2013Microeconomics Topic 1: The Economic Problem321.1.4 Reasons for economic growthHow can an economy grow?January 2013Microeconomics Topic 1: The Economic Problem331.1.4 Economic growth new or more resourcesHow could an economy find new resources?

How could an economy improve the quantity of resources?1.1.4 PPF and inward shiftsWhen might an economy shift to the left of its PPF? Sketch this.

January 2013Microeconomics Topic 1: The Economic Problem351.1.4 PPF change in shapeIf efficiency and productivity increases in the production of one good rather than all goods then the PPF can change shape. E.g. technological improvements can mean that one good can be produced more easily without impacting on the other. Sketch this

1.1.4 Consumer and capital goodsOften a PPF is used to show the different combinations of consumer goods and capital goods that the whole economy can produce.Consumer goods are items used by consumers to meet their needs or wants (e.g. ___________). They are also known as final goods.They can be divided into consumer durable goods and non-durable consumer goods.1.1.4 Capital goods and economic growthCapital goods are goods used to produce other goods (e.g. ____________________). They are also known as producer goods or intermediate goods.Capital goods are very important for economic growth as they are used to increase the future capacity of the economy.Why is education a capital good?January 2009 Q9b, January 2012Microeconomics Topic 1: The Economic Problem381.1.4 Investment and consumptionThe purchase of capital goods (by firms) is known as investment. The purchase of consumer goods (by individuals or households) is called consumption.In general, if an economy decides to produce capital goods rather than consumer goods, will the economy grow at a faster or slower rate?January 2012Microeconomics Topic 1: The Economic Problem391.1.4 Marginal costThe marginal cost of a good is the opportunity cost of producing one more unit of it.This is not the same as the total opportunity cost. January 2012Microeconomics Topic 1: The Economic Problem401.1.5 Specialisation and the division of labour - syllabusStudents should be able to: Define specialisation and the division of labour (with reference to Adam Smith) Assess the advantages and disadvantages of specialisation and the division of labour Analyze the advantages and disadvantages of specialising in production Evaluate the functions of money (as a: medium of exchange, measure of value, store of value, method of deferred payment)Microeconomics Topic 1: The Economic Problem411.1.5 The point of economic activityWhat is an economy? In other words, what is the purpose of economic activity?An economy and the central purpose of economic activity is to produce g_____ and s_______ to provide what we need and want.What does economic activity include?1.1.5 Division of labour and specialisationWhat is division of labour?

What is specialisation?June 2009, June 2013Microeconomics Topic 1: The Economic Problem431.1.5 What are the advantages and disadvantages of division of labour and specialisation?June 2009, June 2011Microeconomics Topic 1: The Economic Problem441.1.5 What are the functions of money?A medium of exchange

A measure of value

A store of value

A method of deferred payment e.g. June 2011Microeconomics Topic 1: The Economic Problem451.1.6 Free market, mixed and command economy - syllabusStudents should be able to: Distinguish between free market, mixed and command economies (with reference to Adam Smith, Friedrich Hayek and Karl Marx) Assess the advantages and disadvantages of a free market economy and a command economy Evaluate the role of the state in a mixed economyMicroeconomics Topic 1: The Economic Problem461.1.6 Economic systemsAn economic system tries to answer three questions: What should be produced? How should it be produced? For whom should it be produced?If we could organise a system that would meet wants and needs more effectively then overall economic welfare would increase.1.1.6 Free market and mixed economiesFree market economies are where resources are allocated by market forces (demand and supply and the price mechanism).Command economies are where resources are allocated by the state.Mixed economies are where resources are partly allocated by the market (price mechanism) and partly by the government What are the advantages and disadvantages of free market and mixed economies?Why are there mixed economies?

January 2010Microeconomics Topic 1: The Economic Problem48