ECON204: Introduction to Economics

W. Quarmine

House Rules•No calls in class• Show respect to your friends (don’t distract them)• Feel free to ask any question•All assignments must be sent by email:

William.quarmine@gmail.com•Attendance and participation in class are important•Bad grammar will cost you

House rules• Finals marks will be composed of • Five assignments [10%]• Two quizzes [15%]• One Midsem [15%]• 1 examination [60%]

• Quizzes and exams will be in the form of • True or false question [wrong answer = -1 point]• Multiple response questions [wrong answer = -1 point]• Short answers [Understand the course and chew what can’t]

House Rules• The course will cover

• The meaning and principles of economics• Thinking like an economist• Demand and Supply• Applications of demand and supply

• Elasticity• Taxes and welfare• Markets and competition: Perfect competition, monopoly, oligopoly, monopolistic

• Production• Consumer behaviour

• Course materials• Gregory N. Mankiw. Principles of Economics• Compiled reader• PowerPoint handouts

The meaning of economics• ‘Economics’ comes from Greek word ‘Oikonomikos’• Oikos’, which means ‘Home’, and• ‘Nomos’, which means ‘Management, custom or law’.

“rules or laws for managing a household”

The meaning of economics

• All households and economies face many decisions: • Who will work?• What goods and how many of them should be produced?• What resources should be used in production?• At what price should the goods be sold?

Economics is the study of how society manages its scarce resources.

Definitions of economics

•Wealth definitions,•Material welfare definitions,•Scarcity definitions, •Growth-related definitions

Economics, it’s definition and concepts have evolved and expanded over the years

Wealth definition• Focus on wealth• Adam Smith (1723-1790):“Economics is the study of the nature

and causes of the wealth of nations’ or, simply the science of wealth”. • Jean-Baptiste Say (1767 -1832): “Economics is the science of

production, distribution, and consumption of wealth”

Wealth is anything MATERIAL, produced by LABOUR, which can SATISFY human needs

and has EXCHANGE value.

Wealth definition

•Wealth definitions have been criticized• They are narrow and focus only on wealth. Economics is broader

than wealth• Narrow definition of wealth. Even with wealth their definition

focuses only on material wealth.• They ignore human welfare

Material welfare definitions

• Focus is on material welfare• Arthur Cecil Pigou (1877-1959): “Economics is the science of material

welfare”• Alfred Marshall (1842-1924): “Economics is a study of man in the

ordinary business of life. It enquires how he gets his income and how he uses it. Thus, it is on the one side, the study of wealth and on the other and more important side, a part of the study of man”.

Welfare is not always material. There are non-material forms of wealth and welfare such as social capital

Scarcity definitions

• Focus is on scarcity• Lionel Robbins (1898-1984): “Economics is a science which studies

human behaviour as a relationship between ends and scarce means which have alternative uses”.

Human needs are unlimited. Human resources (means) are limited. Therefore there is scarcity.

Humans must make careful choices.

Scarcity definitions• Scarcity arises because• Needs are unlimited.• Often once a need is fulfilled another shows up• Resources limited• Resources have alternative uses

Careful choices must be made. To do so, our needs must be listed in order of importance (scale of

preference). But if we choose to satisfy one need, it means we must forego others.

Scarcity leads to four economic issues• Allocation of resources. • What are we to produce? How are we to produce it? What are we to sacrifice to

meet our needs?

• Economic efficiency• How do we distribute the little resource that we have such that everyone is better

off?

• Full-employment of resources • Must an economy utilize all its resources at a go or must it sacrifice efficiency and

reserve some resources for future use.

• The problem of economic growth• To grow any economy, the resources must expand. How can this be

achieved?

Scarcity leads to economic systems• Traditional economic system • What to produce, how to produce and for who are determined by

traditional rules and communal decision. Found in aboriginal people of Amazons and Australia

•Command or planned economic system• What to produce, how to produce and for who are determined

central government. Socialist state of Cuba and former USSR of the 60s and 70s.

Scarcity leads to economic systems•Market economies• What to produce, how to produce and for whom are decided by private

individual interacting in markets, responding to prices and motivated by prices. • Past USA and French economies were totally free of controls (lassez-

faire)

•Mixed economic system• What to produce, how to produce and for whom are decided by both

government and private sector. The principle here is that the government does what he market refuses to pay for.• Ghana is a mixed economy

Principle #1: People Face Tradeoffs

“There is no such thing as a free lunch!”

Making decisions requires trading

off one goal against another.

Principle #1: People Face Tradeoffs

• To get one thing, we usually have to give up another thing• Example……Efficiency v. Equity• Efficiency means society gets the most that it can from its scarce

resources.• Equity means the benefits of those resources are distributed fairly

among the members of society.

Principle #2: The Cost of Something Is What You Give Up to Get It

•Decisions require comparing costs and benefits of alternatives on a scale of preference

The real or opportunity cost of an item is what you give up to obtain that item

People make decisions by comparing costs and benefits at the margin

Principle #3: Rational People Think at the Margin

• Marginal changes are small, incremental adjustments to an existing plan of action

• EXAMPLE…….If you have to choose between drinking water and picking diamond, you will probably choose DIAMOND. Why? Because if after taking 3 glasses of water, 1 more glass does not bring you extra satisfaction. But, after grabbing three diamond stones, if you add one more you will still not be satisfied.

Principle #4: People Respond to Incentives

•Marginal changes in costs or benefits motivate people to respond.• The decision to choose one alternative over another occurs

when that alternative’s marginal benefits exceed its marginal costs!• An incentive is something that induces a person to act.

Incentives change the marginal costs and benefits facing people and thus makes them act in certain ways

Principle #5: Trade Can Make Everyone Better Off

• Trade allows people to specialize in what they do best.

•People gain from their ability to trade with one

another.

Thanks to trade, your family doesn’t have to grow its own food, make its own cloth and build its own home

Principle #6: Markets Are Usually a Good Way to Organize Economic Activity.

• A market economy is an economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and services.• Households decide what to buy and who to work for.• Firms decide who to hire and what to produce. • prices guide decision makers to reach outcomes that tend to maximize the

welfare of society as a whole

A market is an arrangement which allows people to exchange goods and services. It could be a physical

structure, a set of rules or even a virtual design.

Principle #7: Governments Can Sometimes Improve Market Outcomes.

• The market sometimes fails to allocate resources efficiently.• Market failure may be caused by • an externality, which is the impact of one person or firm’s actions on the well-

being of a bystander.• market power, which is the ability of a single person or firm to unduly influence

market prices.

When the market fails (breaks down) government can intervene to promote efficiency and equity.

Principle #8: The Standard of Living Depends on a Country’s Production.

• Standard of living may be measured in different ways:• By comparing personal incomes.• By comparing the total market value of a nation’s production.

• Almost all variations in living standards are explained by differences in countries’ productivities.

Productivity is the amount of goods and services produced from each hour of a worker’s time.

Principle #9: Prices Rise When the Government Prints Too Much Money.

• Inflation is an increase in the overall level of prices in the economy.• One cause of inflation is the growth in the quantity of money.• When the government creates large quantities of money, the value of

the money falls.

Principle #10: Society Faces a Short-run Tradeoff Between Inflation and Unemployment.

• The Phillips Curve illustrates the tradeoff between inflation and unemployment:

òInflation ð ñUnemploymentIt’s a short-run tradeoff!

Summary

• When individuals make decisions, they face tradeoffs among alternative goals.• The cost of any action is measured in terms of foregone

opportunities.• Rational people make decisions by comparing marginal costs and

marginal benefits. • People change their behavior in response to the incentives they face.

Summary

• Trade can be mutually beneficial.• Markets are usually a good way of coordinating trade among people.• Government can potentially improve market outcomes if there is

some market failure or if the market outcome is inequitable.

Summary

• Productivity is the ultimate source of living standards.• Money growth is the ultimate source of inflation.• Society faces a short-run tradeoff between inflation and

unemployment.