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Economics Unit I The Problem with People Unlimited human wants but scarce resources! Needs v. Wants Needs can be satisfied, wants cannot. Resources are scarce because ... – PowerPoint PPT presentation

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Title: Economics

  • Unit I

The Problem with People
  • Unlimited human wants but scarce resources!
  • Needs v. Wants
  • Needs can be satisfied, wants cannot.
  • Resources are scarce because not enough exists to
    meet our wants
  • Humans then must decide how to allocate resources
    among competing wants
  • Utility satisfaction
  • The ultimate goal of a consumer

Definition of Economics
my car
  • Economics is a social science that seeks the
    optimal allocation of scarce resources to satisfy
    unlimited wants
  • Examining the costs, benefits and trade-offs
    inherent in any decision.
  • Maximize benefit while minimizing costs

Cesar's car
  • Any given activity has two distinct types of
  • Accounting/explicit cost
  • Simple monetary cost of a good or service, also
    called out-of-pocket expense.
  • Opportunity cost
  • The value of the next-best alternative to a given
    activity, good, or service.
  • Always present
  • Trade-off
  • AKA implicit cost

Accounting cost Opportunity cost Total
Economic cost
Other costs blah!
  • Transaction Cost
  • The costs of making the economic exchange itself
  • The cost of time spent to determine if the good
    is available and the best price.
  • Bargaining Cost
  • The cost of the time taken for two parties to
    come to an agreement on price or to draw up a
  • Policing and Enforcement Cost
  • The cost of the time and effort to ensure that
    the other party of an agreement sticks to the
    agreed terms
  • Warranties

The Four Assumptions of Economics
  • People are rational
  • People are greedy
  • Limitless desires!
  • People act in their own self-interest
  • Resources are scarce

Four Basic Factors of Production
  • Land
  • All natural resources
  • Raw goods (primary commodities)
  • Payment for land rent
  • Labor
  • Human resources
  • Planning, physical activity, skills.
  • Payment for labor is called wages
  • Capital
  • All goods, and even processes that are used to
    make other goods or services
  • Human capital
  • Physical capital
  • Payment is called interest
  • Entrepreneurship
  • The combination of the other three factors of
    production in new ways to produce new goods or
    improve old ones
  • Payment is called profit

Production Possibilities Frontier (Curve)
  • Producers combine the four factors of production
  • Resources are finite thus there must be
  • Producers can decide to produce a combination of
    goods depending on how they allocate their
  • Production Possibilities what combinations of
    two different goods one can produce with varying
    combinations of the same resources

  • Graphing these combinations produces the PPF
  • Each axis of the graph represents the quality of
    each good that one can produce with a given
    allocation of available resources.
  • The PPF implies that increasing the production of
    one good requires decreasing the production of
    the other

Linear the two goods in question are perfectly
PPF (An Example) Guns and Butter
  • Point B nearly all available inputs are being
    used to produce guns
  • Point D Inputs are split more or less evenly
    between guns and butter.
  • Point C nearly all available inputs are being
    used to produce butter
  • Point X is impossible. There are not enough
    resources to achieve this production
  • Point A inefficient production (not all
    resources are being allocated efficiently)

Economic Systems
  • Three fundamental economic questions
  • What to produce?
  • How to produce it?
  • Who received the benefits of production?
  • All societies must answer these questions, who
    answers them determines the economic structure of
    that society!
  • 1. Traditional
  • 2. Planned
  • 3. Market
  • 4. Mixed

  • Economic questions answered by traditions
  • Social mores and accepted norms
  • We do it that way because!
  • Brazil, Indonesia

Planned Economies
  • The state answers production and allocation
  • State sets targets
  • Indicative decisions are made by groups for the
    benefit of society as a whole
  • Democratic process
  • Sweden
  • Command
  • Decisions are made by figures with absolute
    authority and no accountability.
  • State owns and controls the factors of production
  • Goods are often rationed
  • Fixed Prices and wage controls
  • Former Soviet Union, N. Korea

Planned? Pros and Cons
  • Negative
  • Price and wage controls results in significant
    control over personal activities
  • Price setting is difficult and often inaccurate
  • Shortages or sever rationing
  • Entrepreneurship is eliminated as a factor of
  • Low motivation to work
  • Often death, disease, and starvation. Fun fun
  • Positive
  • Costs and benefits which would be ignored by
    individual private agents, are taken into
    consideration by central planners
  • Controlled income distribution egalitarian
  • Externalities are eliminated.

Planned Economies and Political Ideologies
  • Marxism
  • The Communist Manifesto
  • Leninism
  • Soviet Union
  • 1917-1922
  • Maoism
  • Communist China 1949-1976

The only planned economies today are in Cuba
and North Korea
  • Free market
  • Production and allocation questions are decided
    by individual economic agents interacting in free
  • Motivated by self-interest
  • Free supply and demand
  • Capitalism
  • Adam Smith and Laissez-Faire, Wealth of Nations
  • Libertarianism
  • A more extreme form of market economics that
    advocates that governments should have no role in
    private decision-making
  • Ayn Rand (Anthem) and Robert Nozick

Mixed Market
  • Mixed
  • Both state and the market are involved in
    answering production and allocation questions
  • Best of both worlds
  • Social democracy and regulations
  • Social Democracy or welfarism
  • Favors government involvement or public
    involvement over private business.
  • John Maynard Keynes
  • Most significant work, General Theory of
    Employment, Interest, and Money (1936)

Circular Flow Model
  • The flow of resources, goods and services, and
    money in a market system.

What are the advantages and disadvantages of a
pure market system?
Type of Economy Who owns the Means of Production? Who Makes Economic Decisions? Who Makes Political Decisions? Who Receives the Benefits of Production?
Market Individual persons and firms Individuals Individuals Whoever is willing to pay the most
Indicative economies (socialism) The state The state If democratic, individuals The state decides how benefits are distributed
Command economies The state The state Dictators, kings, etc. The state decides how benefits are distributed
Mixed economies That state and individuals Primarily individuals with some state action individuals Primarily whoever is willing to pay.
Traditional economies Traditional bodies (village) Traditional authorities Traditional authorities Traditions dictate who receives benefits
  • The central focus of all non-planned, modern
  • All pure market economies are founded on
    competition among individual producers in a
    free-market place
  • Mixed economies manage competition by
  • Regulation
  • Competition policies (regulating the activities
    of firms)
  • Prevents monopolies and oligopolies

Markets Voluntary Exchange
  • Based on the laws of supply and demand
  • The laws of supply and demand determine price and
    allocation of resources
  • A market exists where ever two parties want to
    make an exchange
  • Can include supermarkets, national markets, the
    entire country, internet, and underground markets
  • Requires a means of exchange

Means of Exchange
  • Allows individuals to transfer goods
  • Barter requires a double coincidence of wants.
  • Money a medium of exchange that allows smooth
    transactions and markets to function more
  • Durable
  • Portable
  • Scarce
  • Accepted
  • Divisible

Incentives and Individual Decision-making
  • Positive and negative incentives
  • Monetary financial benefits
  • Non-monetary no monetary loss, but can results
    in a punishment or lost time.
  • They appeal to the rational self-interest of the
  • Positive utilitary benefits for the individual.
  • Increases the cost, or results in a utilitary
    loss for the individual

Specialization, Interdependence, and Trade
  • Specialization
  • Markets and voluntary exchange allow economic
    agents to specialize in producing certain goods.
  • This is based on the division of labor
    (allocation of workers so that each worker is
    responsible for only one type of good, or one
    step in the process.
  • This allows an increase in productivity (how much
    an individual can produce in a given time)
  • Specialization may results from different factors
    for resource endowments
  • It allows for individuals and nations to
    compensate for unequal access to the various
    factors of production.

Comparative Advantage
  • The principle of comparative advantage refers to
    the ability of a party (an individual, a firm, or
    a country) to produce a particular good or
    service at a lower opportunity cost than another
    party. It is the ability to produce a product
    most efficiently given all the other products
    that could be produced.
  • David Ricardo
  • Free Trade

Macro scale
Comparative Advantage Micro Scale
  • Farmer Richard can produce tomatoes, at 5 cents a
    piece, and can sell them for 1.00 a piece.
    However, it costs him 15.00 a month per chicken
    to feed and house, but he can only sell his
    chickens for 9.00. Farmer Arnulfo cant manage
    to get tomatoes to grow. He continues to lose
    money, but he can raise large, healthy, juicy
    chickens at 10.00 to house and feed, and sell at
    12.00 a chicken.

Arnulfo has a comparative a advantage with
chickens and Richard has a comparative
advantage with tomatoes.
David Ricardo
  • The ideology of free trade (no restrictions on
    imports or exports) has been part of conventional
    economics since David Ricardo propounded his
    theory of comparative advantage in 1817.
    Ricardo took as an example Portugal as a producer
    of wine and England as a producer of cloth and
    hardware. While Portugal could produce cloth and
    hardware and England wine, neither could do so as
    cheaply as the other if they did this there
    would be a waste of resources compared with what
    would happen if Portugal specialized in wine and
    England in cloth and hardware. This was because,
    said Ricardo, the cheaper wine produced in
    Portugal and the cheaper cloth and hardware
    produced in England could then be exchanged for
    more of each other. Both sides would be better

What is the downside to free trade? What is the
difference between free trade and fair trade?
Not Looking So HOT?
  • Exports 1.377 trillion (2008 est.)
  • Exports - commodities agricultural products
    (soybeans, fruit, corn) 9.2, industrial supplies
    (organic chemicals) 26.8, capital goods
    (transistors, aircraft, motor vehicle parts,
    computers, telecommunications equipment) 49.0,
    consumer goods (automobiles, medicines) 15.0
  • Exports - partners Canada 21.4, Mexico 11.7,
    China 5.6, Japan 5.4, UK 4.3, Germany 4.3
  • Imports 2.19 trillion (2008 est.)
  • Imports - commodities agricultural products
    4.9, industrial supplies 32.9 (crude oil 8.2),
    capital goods 30.4 (computers,
    telecommunications equipment, motor vehicle
    parts, office machines, electric power
    machinery), consumer goods 31.8 (automobiles,
    clothing, medicines, furniture, toys) (2003)
  • Trade deficit 1.377 trillion -2.19 trillion

Germany is the world's largest exporter
Canada is our largest trading partner
The United States is the world's largest importer
End of Unit I Review Questions
  • What do economists study?
  • What are the factors of production?
  • How many types of cost exist and what are they?
  • What does the PPF imply?
  • What are the three fundamental economic
  • What are the different types of economies?
  • What is the central focus of all non-planned,
    modern economies?
  • What is the comparative advantage of country A if
    country A can product 50 computers at 50.00 each
    and country B can produce 30 computers at 75.00