The Nature of Economics and Methodology of

Research

Define Economics Explain the five big questions that

economists seek to answer Explain eight ideas that define the

economic way of thinking Describe how economists go about their

work

Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek οἰκονομία (oikonomia, "management of a household, administration") from οἶκος (oikos, "house") + νόμος (nomos, "custom" or "law"), hence "rules of the house(hold)"

Scarcity of resources: Society’s wants exceed the resources available to satisfy them.

Economics is the science of choice — the science that explains the choices that we make and how those choices change as we cope with scarcity.

Alfred Marshall. Principles of Economics (1890):

“…a study of mankind in the ordinary business of life; it examines that part of individual and social action which is most closely connected with the attainment and with the use of the material requisites of wellbeing.

Political economy originally was the term for studying production, buying, and selling, and their relations with law, custom, and government, as well as with the distribution of national income and wealth, including through the budget process.

Classical Political EconomySir William Petty: A Treatise of Taxes and Contributions

(1662) - he is attributed as having started the philosophy of 'laissez-faire' in relation to government activity.

Adam Smith: An Inquiry into the Nature and Causes of the Wealth of Nations. (1776) – “invisible hand”, division of labor, absolute advantage in foreign trade.

David Ricardo - Principles of Political Economy and Taxation (1817) – comparative advantage in foreign trade, labor theory of value

Karl Marx: The Capital (Volumes I-IV, 1867-1894)

Define Economics Explain the five big questions that

economists seek to answer Explain eight ideas that define the

economic way of thinking Describe how economists go about their

work

What?

How?

When?

Where?

Who?

What goods and services are produced and in what quantities? Do we produce houses or cars, food or

entertainment, gasoline or plastics, private goods or public goods, weapons or medical services, etc.?

How are goods and services produced?

Do we use labor or machines to produce the goods we want? Manual with simple instruments versus automated or even robotized technologies?

When are goods and services produced?

Do we increase or decrease production?

Ahead of the change in demand or following the demand changes?

Where are goods and services produced? Do we produce the goods in Bulgaria, the U.S. or

in China? Next to the raw materials or thousand of

kilometers away: for instance, extracting bauxite in Australia and producing aluminum in Germany, drilling crude oil in Saudi Arabia but refining the oil in the USA or in the UK.

Who consumes the goods and services that are produced? Do we sell our goods to the wealthy, or the poor?

Does it matter or the only important thing is the volume of income? Is there any difference in answering this question from the producers, consumers, and the society as a whole?

Define Economics Explain the five big questions that

economists seek to answer Explain eight ideas that define the

economic way of thinking Describe how economists go about their

work

The questions give you a sense of what economics is about.

The Big Ideas of Economics describe how

economists think about these questions and seek answers to them.

IDEA 1

A choice is a tradeoff — we give up something to get something else — and the highest valued alternative we give up is the opportunity cost of the activity chosen.

IDEA 2

We make choices in small steps, or at the margin, and choices are influenced by incentives. Marginal Benefit vs. Marginal Cost Incentives are inducements to take particular actions

IDEA 3

Voluntary exchange makes both buyers and sellers better off, and markets are an efficient way to organize exchange.Buyers receive goods or services

Sellers receive money.

IDEA 3 (cont.)

Markets are efficient because they ensure that resources will be used where they are valued most highly.

Alternative to Market Economy Command Economy

IDEA 4 The market does not always work efficiently and

sometimes, government action is necessary to overcome market failure and lead to a more efficient use of resources.

Market failure is a state in which the market does not use resources efficiently.

IDEA 5

For the economy as a whole, expenditure equals income equals the value of production.

IDEA 6 Living standards improve when production per

person increases (labor productivity).

This increase in output per person will enable more people to own goods and services.

IDEA 7 Inflation occurs when the quantity of money

increases faster than production. Inflation results from “too much money chasing

too few goods.”

IDEA 8 Unemployment can result from market failure but

some unemployment (natural unemployment) is productive. Unemployment rates vary. Some unemployment results from employees

searching for a suitable job and employers searching for suitable workers. This unemployment improves productivity.

Define Economics Explain the five big questions that

economists seek to answer Explain eight ideas that define the

economic way of thinking Describe how economists go about their

work

Microeconomics, Macroeconomics and International Economics

Microeconomics is the study of individual people

(households) and businesses and the interaction of those decisions in markets.

Studies: Prices and Quantities Effects of government regulation and taxes

Macroeconomics is the study of the national

economy and the global economy as a whole. Studies:

Average prices and total employment, income, and production

Effects of taxes, government spending, a budget deficits on total jobs and incomes

Effects of money and interest rates

International Economics: foreign trade, competitiveness on the world

market place, international capital flow and international capital markets, foreign exchange mechanisms, economic integration (EU, NAFTA), interaction with the IMF, World bank and other international financial institutions

Economists attempt to discover an explanation for how economic systems work.

Economists distinguish between Positive

Statements and Normative Statements

Positive statements are about what is. ◦ Can be proven right or wrong.◦ Can be tested by comparing it to facts – inflation

leads to lower purchasing power, recession increases unemployment, foreign investments stimulate the economic development and lower the unemployment, etc..

Normative statements are about what ought to be.◦ Depend upon personal values and cannot be

tested.

Objective Discover and catalog positive statements that are

consistent with what we observe in the world and that enable us to understand how the economic world works.

Steps◦ Observation and Measurement

◦ Model Building

◦ Testing

Unscrambling Cause and Effect Ceteris Paribus

Fallacy of Composition The statement that what is true of the parts is

true of the whole or what is true of the whole is true of the parts.

Post Hoc Fallacy The error or reasoning that a first event causes a

second event because the first occurred before the second.