Chapter 1
Introduction
Chapter Outline
What is economics
Ten principles of economics
Thinking like an economist
What is Economics
• The management of society’s resources (e.g., people, land, buildings, machinery) is
important because resources are scarce.
• Scarcity: The limited nature of society’s resources.
• Economics: The study of how society manages its scarce resources.
Micro and Macro Economics
• Microeconomics: that branch of economics that deals with small-scale economic
factors; the economics of the individual firm, product, consumer, etc., rather than the
aggregate of such individuals
• Macroeconomics: the branch of economics that deals with large-scale economic
factors; the economics of a national economy as a whole
Microeconomics Macroeconomics
Output of a firm GDP
Purchases of a consumer Consumption
Capital accumulation by a firm Investment
Individual labour participation choice Employment
Price movements of a good Inflation
10 Principles of Economics
How People make decisions
• People face trade-offs with time, money and resources. Decisions will be made with
the following in mind:
- Efficiency: The property of society getting the maximum benefits from its
scarce resources.
- Equity: The property of distributing economic prosperity fairly among the
members of society.
• The cost of something is what you give up to get it; opportunity cost
• Rational people think at the margin
- Rational people: People who systematically and purposefully do the best they
can to achieve their objectives.
- Marginal changes: Small incremental adjustments to a plan of action.
Page | 1
, • People respond to incentives
How the Economy as a whole works
• A country’s standard of living depends on its ability to produce goods and services
- Productivity: The quantity of goods and services produced from each hour of
a worker’s time.
• Prices rise when the government prints too much money
- Inflation: An increase in the overall level of prices in the economy.
• Society faces a short-run trade-off between inflation and unemployment
- This short-run trade-off plays a key role in the analysis of the business cycle.
- Business cycle: The irregular and largely unpredictable fluctuations in
economic activity, as measured by the production of goods and services or the
number of people employed.
How People Interact
• Trade can make everyone better off
- Specialization and Competitive advantage
• Markets are usually a good way to organize economic activity
- Centrally planned economies: Decisions of what, how and who to produce is
made by the government.
- Market economy: An economy that allocates resources through the
decentralized decisions of many firms and households as they interact in
markets for goods and services
- “It is not from the benevolence of the butcher, the brewer, or the baker that we
expect our dinner, but from their regard to their own interest. (…) He intends
only his own gain, and he is in this, as in many other cases, led by an invisible
hand to promote an end which was no part of his intention” (Adam Smith)
• Governments can sometimes improve market outcomes
- We need governments for two reasons:
1. To enforce property rights: the ability of an individual to own and
exercise control over scarce resources. Promotes productivity.
2. Because the invisible hand is powerful, but it is not omnipotent (having
unlimited power; able to do anything). Two broad reasons for a
government to intervene in the economy:
▪ The goal of efficiency: externalities; it is the positive or
negative effect on a third party, market power: prevent
monopoly power.
▪ The goal of equity: ensures everyone has an equitable share of
a certain good.
Page | 2
, Chapter 2
Thinking Like an Economist
Chapter Outline
Scientific method
Assumption
Models simplifying the world
Positive and normative statements
Scientific Method
• The scientific method involves observation, theory, and more observation: e.g. self-
study.
• Economists use theory and observation like other scientists, but they do face an
obstacle that makes their task especially challenging:
- Experiments are often difficult in economics: e.g. money supply.
- Attention to natural experiments: e.g. Looking back at things that happened in
the past.
- Recently, field experiments: e.g. textbook, however consider the ethical side
of things, is it fair to only give textbooks to only certain students.
The Role of Assumptions
• Assumptions can simplify the complex world and make it easier to understand. It’s
the first thing economists look into when analysing economic models.
• The art in scientific thinking is deciding which assumptions to make.
- E.g.: Is international trade welfare improving?
Economic models
• Economists also use models to learn about the world that are most often composed of
diagrams and equations.
• Economic models omit many details to allow us to see what is truly important.
• All the models are built with assumptions
Model 1: The Circular Flow of Income
Page | 3
, Model 2: The Production Possibilities Frontier
The Economist as Scientist Vs. Policy Adviser
• When economists are trying to explain the world, they are scientists.
• When they are trying to help improve it, they are policy advisers.
The economist as Policy Adviser
• Positive statements: Claims that attempt to describe the world as it is.
• Normative statements: Claims that attempt to prescribe how the world should be.
• Both can be true or false. –
- Positive statements: look at evidence
- Normative statements: philosophy, religion, ethics
Why economists’ advice is not always followed
• Any economist who advises government knows that his or her recommendations are
not always heeded.
• In the real world, figuring out the right policy is only part of the job for the
government
Page | 4
Introduction
Chapter Outline
What is economics
Ten principles of economics
Thinking like an economist
What is Economics
• The management of society’s resources (e.g., people, land, buildings, machinery) is
important because resources are scarce.
• Scarcity: The limited nature of society’s resources.
• Economics: The study of how society manages its scarce resources.
Micro and Macro Economics
• Microeconomics: that branch of economics that deals with small-scale economic
factors; the economics of the individual firm, product, consumer, etc., rather than the
aggregate of such individuals
• Macroeconomics: the branch of economics that deals with large-scale economic
factors; the economics of a national economy as a whole
Microeconomics Macroeconomics
Output of a firm GDP
Purchases of a consumer Consumption
Capital accumulation by a firm Investment
Individual labour participation choice Employment
Price movements of a good Inflation
10 Principles of Economics
How People make decisions
• People face trade-offs with time, money and resources. Decisions will be made with
the following in mind:
- Efficiency: The property of society getting the maximum benefits from its
scarce resources.
- Equity: The property of distributing economic prosperity fairly among the
members of society.
• The cost of something is what you give up to get it; opportunity cost
• Rational people think at the margin
- Rational people: People who systematically and purposefully do the best they
can to achieve their objectives.
- Marginal changes: Small incremental adjustments to a plan of action.
Page | 1
, • People respond to incentives
How the Economy as a whole works
• A country’s standard of living depends on its ability to produce goods and services
- Productivity: The quantity of goods and services produced from each hour of
a worker’s time.
• Prices rise when the government prints too much money
- Inflation: An increase in the overall level of prices in the economy.
• Society faces a short-run trade-off between inflation and unemployment
- This short-run trade-off plays a key role in the analysis of the business cycle.
- Business cycle: The irregular and largely unpredictable fluctuations in
economic activity, as measured by the production of goods and services or the
number of people employed.
How People Interact
• Trade can make everyone better off
- Specialization and Competitive advantage
• Markets are usually a good way to organize economic activity
- Centrally planned economies: Decisions of what, how and who to produce is
made by the government.
- Market economy: An economy that allocates resources through the
decentralized decisions of many firms and households as they interact in
markets for goods and services
- “It is not from the benevolence of the butcher, the brewer, or the baker that we
expect our dinner, but from their regard to their own interest. (…) He intends
only his own gain, and he is in this, as in many other cases, led by an invisible
hand to promote an end which was no part of his intention” (Adam Smith)
• Governments can sometimes improve market outcomes
- We need governments for two reasons:
1. To enforce property rights: the ability of an individual to own and
exercise control over scarce resources. Promotes productivity.
2. Because the invisible hand is powerful, but it is not omnipotent (having
unlimited power; able to do anything). Two broad reasons for a
government to intervene in the economy:
▪ The goal of efficiency: externalities; it is the positive or
negative effect on a third party, market power: prevent
monopoly power.
▪ The goal of equity: ensures everyone has an equitable share of
a certain good.
Page | 2
, Chapter 2
Thinking Like an Economist
Chapter Outline
Scientific method
Assumption
Models simplifying the world
Positive and normative statements
Scientific Method
• The scientific method involves observation, theory, and more observation: e.g. self-
study.
• Economists use theory and observation like other scientists, but they do face an
obstacle that makes their task especially challenging:
- Experiments are often difficult in economics: e.g. money supply.
- Attention to natural experiments: e.g. Looking back at things that happened in
the past.
- Recently, field experiments: e.g. textbook, however consider the ethical side
of things, is it fair to only give textbooks to only certain students.
The Role of Assumptions
• Assumptions can simplify the complex world and make it easier to understand. It’s
the first thing economists look into when analysing economic models.
• The art in scientific thinking is deciding which assumptions to make.
- E.g.: Is international trade welfare improving?
Economic models
• Economists also use models to learn about the world that are most often composed of
diagrams and equations.
• Economic models omit many details to allow us to see what is truly important.
• All the models are built with assumptions
Model 1: The Circular Flow of Income
Page | 3
, Model 2: The Production Possibilities Frontier
The Economist as Scientist Vs. Policy Adviser
• When economists are trying to explain the world, they are scientists.
• When they are trying to help improve it, they are policy advisers.
The economist as Policy Adviser
• Positive statements: Claims that attempt to describe the world as it is.
• Normative statements: Claims that attempt to prescribe how the world should be.
• Both can be true or false. –
- Positive statements: look at evidence
- Normative statements: philosophy, religion, ethics
Why economists’ advice is not always followed
• Any economist who advises government knows that his or her recommendations are
not always heeded.
• In the real world, figuring out the right policy is only part of the job for the
government
Page | 4
