Scarcity, Efficiency, and Scarcity, Efficiency, and GrowthGrowth

Econ Dept, UMR

Presents

StarringStarring

uuThe 3 basic questions, andThe 3 basic questions, anduuThe Production Possibilities The Production Possibilities

modelmodel

FeaturingFeaturing

uu The invisible hand argument for coping The invisible hand argument for coping with scarcitywith scarcity

uu Three basic questionsThree basic questionsuu Efficiency Efficiency uu Production possibilities modelProduction possibilities modeluu Marginal opportunity costMarginal opportunity cost

Part IPart I

uu The invisible hand argument for coping The invisible hand argument for coping with scarcitywith scarcity

uu Three basic questionsThree basic questionsuu Efficiency Efficiency

Scarcity and Economic Scarcity and Economic QuestionsQuestionsuu Scarcity Scarcity -- relationship between limited relationship between limited

resources and unlimited wants. Not all resources and unlimited wants. Not all human wants can be satisfied with human wants can be satisfied with goods or servicesgoods or services

uu Resources Resources -- the inputs used to make the inputs used to make goods we want. Resources are limited goods we want. Resources are limited and this leads to scarcityand this leads to scarcity

ResourcesWants

Scarcity Scarcity -- relationship relationship between limited resources and between limited resources and unlimited wants. Not all unlimited wants. Not all human wants can be satisfiedhuman wants can be satisfied

L: labor

K: capital

l: land

Resources Resources -- The inputs that The inputs that are used to make things we are used to make things we wantwantuu L: laborL: labor--skilled and unskilled, also skilled and unskilled, also

includes entrepreneurial abilityincludes entrepreneurial abilityuu K: capitalK: capital--tools, machines, human tools, machines, human

capital (education)capital (education)uu L: landL: land--natural resources, even waternatural resources, even water

Scarcity implies the necessity Scarcity implies the necessity of Choiceof Choiceuu We canWe can’’t have everything we want thus t have everything we want thus

we must make choiceswe must make choicesuu Three Basic QuestionsThree Basic QuestionsvvWhat (and how much)What (and how much)vvHowHowvv For WhomFor Whom

Basic Economic Questions Basic Economic Questions dealing with Scarcity dealing with Scarcity uu What do we want, and how much of What do we want, and how much of

each do we want?each do we want?uu How shall we get what we want?How shall we get what we want?uu Who shall enjoy what we have? Who shall enjoy what we have?

What do we want, and how What do we want, and how much of each do we want?much of each do we want?uu I want, we wantI want, we wantvv A chicken in every potA chicken in every potvv A car in my garageA car in my garagevv A garageA garagevv Peace and quietPeace and quietvv A lot of funA lot of funvv A good bookA good bookvv And so on, And so on, and on,and on, and on,and on, and on,and on, and on, and on, and on,and on, and onand on

How shall we get what we How shall we get what we want?want?uu Who will be the teachers? The nurses Who will be the teachers? The nurses

and doctors? Who will raise our kids? and doctors? Who will raise our kids? How will we provide for our old age? How will we provide for our old age? For the education of our children?For the education of our children?

uu What technologies should we use? Do What technologies should we use? Do we import, or do we produce we import, or do we produce ourselves?ourselves?

uu What about the conflict between What about the conflict between production techniques and production techniques and environmental goals?environmental goals?

Who shall enjoy what we have?Who shall enjoy what we have?uu Those who are meritorious? Or, who Those who are meritorious? Or, who

work hard? Or, who inherit?, Or who work hard? Or, who inherit?, Or who are are ““pure bloodedpure blooded””? Or who are the ? Or who are the chosen few? Or who are educated?chosen few? Or who are educated?

uu Is there a necessary link between what Is there a necessary link between what we get and what we contribute? Should we get and what we contribute? Should there be such a link?there be such a link?

uu Should some things be available to all?Should some things be available to all?vv Basic medical service, food and shelterBasic medical service, food and sheltervv Basic education, telephone, postal serviceBasic education, telephone, postal servicevv Internet accessInternet accessvv One trip to Disneyland, or a national park One trip to Disneyland, or a national park

per year per familyper year per family

How should these questions be answered?How should these questions be answered?How are these questions answered?How are these questions answered?uu Economists have ideas about both.Economists have ideas about both.uu How should they be answered?How should they be answered?vv Efficiently, say economistsEfficiently, say economistsvv Equitably, say othersEquitably, say othersvvNormative economicsNormative economics

uu How are they answered?How are they answered?vv Increasingly through markets, moderated Increasingly through markets, moderated

with government regulationwith government regulationvv A A ““mixedmixed”” economyeconomyvv Positive economicsPositive economics

EfficiencyEfficiencyuu TheThe criterion used by economistscriterion used by economistsuu Common sense of the term is Common sense of the term is ““lack of lack of

wastewaste”” but we use a definition more but we use a definition more preciseprecise

uu Efficiency: the inability to make Efficiency: the inability to make someone better off without making someone better off without making someone else worse offsomeone else worse off

uu A change is efficient if the gainers could A change is efficient if the gainers could potentially compensate the losers and potentially compensate the losers and still come out aheadstill come out ahead

Why Efficiency Makes SenseWhy Efficiency Makes Sense

uu The fact of scarcity implies we can’t The fact of scarcity implies we can’t have everything we want, so what we have everything we want, so what we select should take into account what it select should take into account what it costscosts

uu Efficiency means getting the most value Efficiency means getting the most value from our limited resourcesfrom our limited resources

uu What we want should be accomplished What we want should be accomplished at minimum opportunity costat minimum opportunity cost

Efficiency and/or EquityEfficiency and/or Equityuu Efficiency is the preview of economists, Efficiency is the preview of economists,

equity is for all of us to judgeequity is for all of us to judgeuu Equity does not necessarily mean equalityEquity does not necessarily mean equality

vv Equality of opportunity is fair (equitable) for most Equality of opportunity is fair (equitable) for most of usof us

vv Equality of income is probably not fair Equality of income is probably not fair (inequitable) for most of us(inequitable) for most of us

uu If a change is efficient If a change is efficient andand equitable, it equitable, it probably has already occurredprobably has already occurred

uu Most policy debate is about change that Most policy debate is about change that involves a tradeoff between these two involves a tradeoff between these two objectivesobjectives

Measurement of Efficient ChangesMeasurement of Efficient Changesuu Review of definition: A change is efficient if the Review of definition: A change is efficient if the

gainers can compensate the losers and have gainers can compensate the losers and have something leftsomething left

uu Gains are measured by the maximum persons Gains are measured by the maximum persons who gain are willing to pay (WTP) for their who gain are willing to pay (WTP) for their gaingain

uu Losses are measured by the minimum people Losses are measured by the minimum people who lose are willing to accept (WTA) in who lose are willing to accept (WTA) in compensation for their losscompensation for their loss

uu An efficient change requires An efficient change requires ΣΣWTP > WTP > ΣΣ WTAWTAuu Notice an efficient change doesnNotice an efficient change doesn’’t require losers t require losers

be compensated, just that they potentially could be compensated, just that they potentially could be compensatedbe compensated

How do we get what we want How do we get what we want Efficiently?Efficiently?

uu Cooperation is more efficient that selfCooperation is more efficient that self--sufficiency, so how do we insure sufficiency, so how do we insure cooperation?cooperation?

uu Cooperation and the nature of manCooperation and the nature of manvvMan as a benevolent actorMan as a benevolent actorvvMan as a selfMan as a self--interested actorinterested actorvv The economist view is that man is The economist view is that man is

motivated primarily by selfmotivated primarily by self--interestinterest

Self Interest and EfficiencySelf Interest and Efficiencyuu Thomas Hobbs (1588Thomas Hobbs (1588--1679) 1679) leviathanleviathan, ,

16511651v “No arts, no letters, no society, and which is

worst of all, continual fear and danger of violent death, and the life of man solitary, poor, nasty, brutish, and short.”

vAdvocated the submission to an absolute monarch to avoid the inevitable conflict and chaos resulting from the uncontrolled pursuit of self-interest

Self Interest and EfficiencySelf Interest and Efficiencyu Adam smith (1723-90) wealth of nations,

1776v The invisible hand argumentv Policy of laissez faire French “allow to act”

commonly taken to mean minimum government

The Invisible Hand ArgumentThe Invisible Hand Argumentuu A wonderful thing, if trueA wonderful thing, if trueuu By allowing each person to pursue their By allowing each person to pursue their

own interest, the general interest will be own interest, the general interest will be promotedpromoted

uu Smith saw selfSmith saw self--interest leading to a interest leading to a desirable outcomedesirable outcome----the wealth of the the wealth of the nationnation

uu Hobbs saw selfHobbs saw self--interest leading to a life interest leading to a life that was nasty, brutish, and shortthat was nasty, brutish, and short

Basic tenets of the Smith argumentBasic tenets of the Smith argument

uu The principle human motive is selfThe principle human motive is self--interestinterest

uu The invisible hand of competition The invisible hand of competition automatically transforms the selfautomatically transforms the self--interest of many into the common goodinterest of many into the common good

uu Therefore, the best government policy Therefore, the best government policy for the growth of a nation’s wealth is for the growth of a nation’s wealth is that policy which governs least (that policy which governs least (laissez laissez fairefaire))

Criticisms of Smith’s SyllogismCriticisms of Smith’s Syllogismuu Without government oversight, markets tend Without government oversight, markets tend

to be less competitive and monopoly power to be less competitive and monopoly power replaces competitionreplaces competition

uu Even with competition, markets fail whenEven with competition, markets fail whenvv There are significant external effectsThere are significant external effectsvv Things we want do not have characteristics of Things we want do not have characteristics of

rivalry and excludabilityrivalry and excludabilityvv Significant information externalities existSignificant information externalities exist

uu Laissez faireLaissez faire produces an intolerable degree of produces an intolerable degree of inequalityinequality

Competition vs. Monopoly Competition vs. Monopoly PowerPoweruu We will look at the inefficiencies of We will look at the inefficiencies of

monopoly power in chapters 9 and 10monopoly power in chapters 9 and 10uu Essentially the argument is that Essentially the argument is that

monopoly power skews the gains from monopoly power skews the gains from trade to the advantage of the party with trade to the advantage of the party with the power. Their gain is less than the the power. Their gain is less than the loss to the other party; thus monopoly loss to the other party; thus monopoly power is inefficientpower is inefficient

Market failures with competition: Market failures with competition: external effects external effects (Ch. 8)(Ch. 8)uu Society gains when trade takes place Society gains when trade takes place

due to the self interest of the buyer and due to the self interest of the buyer and seller. Buyer gains, seller gains, seller. Buyer gains, seller gains, therefore society gains. therefore society gains.

uu But some trade have effects on others But some trade have effects on others not taken into account by the self not taken into account by the self interest of the buyer and sellerinterest of the buyer and seller

uu Thus competitive markets may not Thus competitive markets may not generate the efficient level of tradegenerate the efficient level of trade

Market failures with competition: Market failures with competition: goods with nonrivalry and nongoods with nonrivalry and non--excludability characteristics excludability characteristics (Ch. 8)(Ch. 8)uu Some things we want are nonrivalSome things we want are nonrival----they they

may be enjoyed by more than the buyer may be enjoyed by more than the buyer without cost to the buyer, e.G., Clean airwithout cost to the buyer, e.G., Clean air

uu In such cases, who wants to be the buyerIn such cases, who wants to be the buyer----let bill buy, and I’ll enjoylet bill buy, and I’ll enjoy

uu Some things we want are nonexcludableSome things we want are nonexcludable----people can not easily be denied access, people can not easily be denied access, e.G., Salmone.G., Salmon

uu In such cases, there tends to be over useIn such cases, there tends to be over use----I I better get mine before Betty gets hersbetter get mine before Betty gets hers

Market failures with competition: Market failures with competition: information asymmetry information asymmetry (Ch. 8)(Ch. 8)uu Smith’s argument supposes pursuit of Smith’s argument supposes pursuit of

selfself--interest is efficient because buyer interest is efficient because buyer and seller are equally informedand seller are equally informed

uu When one side or the other knows more When one side or the other knows more about the trade there is information about the trade there is information asymmetry that may lead to inefficiencyasymmetry that may lead to inefficiency

uu Government has a role in providing Government has a role in providing sufficient information so selfsufficient information so self--interest interest action is informed self interestaction is informed self interest

The End The End

Continue to Part 2