_______________________________________
Part One
What Is Economics?
________________________________________
This opening Part of the book provides an introduction to economics. The central themes of Chapter 1
are scarcity, choice, opportunity cost, and the self-organizing role of markets. The chapter also
examines the gains from specialization and trade, the role of money, the effects of globalization, and
ends with a discussion of the various types of economic systems. Chapter 2 examines how economists
organize their thoughts, build their models, and test their theories. It also addresses central
methodological issues, the most important being the idea that the progress of economics depends on
relating our theories to what we observe in the world around us. Finally, the chapter has an extensive
section on graphing.
***
Chapter 1 opens with a brief tour of some key economic issues in Canada and other countries—from
government debt and climate change to population aging and growing income inequality. The
purpose is to whet the reader’s appetite for the kinds of issues that economists are thinking about
today. This offers a natural segue to the discussion of scarcity, without which few of these issues
would be very interesting. The chapter addresses the fundamental concepts of scarcity, choice, and
opportunity cost, illustrating these ideas with a production possibilities boundary. (It is worth noting
that these concepts are relevant to all economies, no matter how they are organized—central
planning or free markets.) We then examine the complexity of modern market economies, examining
the decision makers, production, trade, money, and globalization. Finally, we examine different types
of economic systems, including traditional, command, and free-market systems. We emphasize that
all actual economies are mixtures, containing elements of all three pure systems.
Chapter 2 provides a longer introduction to the methodological issues of economics than is
usually included in introductory texts. We do this because most students believe that the scientific
method is limited to the natural sciences. But to appreciate economics, they must understand that
its theories are also open to empirical testing and that these theories continually change as a result
of what the empirical evidence shows. We understand that some instructors feel their time is so
limited that they cannot spend class time on Chapter 2. We believe that even if it is not covered in
class, students’ attention should be called to the issues addressed in the chapter. Our experience is
that students benefit from some discussion of the scientific method and from the insight that the
social sciences are not all that different from the “hard” sciences, at least in their basic approaches.
, The chapter begins by making the distinction between positive and normative statements.
We then work carefully through the various elements of economic theories, including definitions,
assumptions, and predictions. Testing theories is as important as developing them, so we
emphasize the interaction between theorizing and empirical observation. We then present various
types of economic data, and this gets us into a detailed discussion of index numbers, time-series and
cross-section data, and graphs. The final section of the chapter goes through graphing in detail.
_______________________________________
Chapter 1: Economic Issues and Concepts
_______________________________________
This chapter is in three main sections, after a short introductory mention of some key economic
issues of the day. The first substantive section develops the concepts of scarcity, choice, and
opportunity cost. To ensure the student really understands what opportunity cost is all about, we
have a box that examines the opportunity cost of a university or college degree. This should be a
familiar example to which students can easily relate. The production possibilities boundary is then
introduced, and it is shown to embody the three key concepts of scarcity, choice and opportunity
cost. Its nature as a frontier between the attainable and the unattainable is worth stressing, as is the
fact that what is attainable is itself subject to change. Four key economic problems are then
discussed, and each one is expressed in terms of the production possibilities boundary. These
questions give the student an inkling of the types of questions addressed both in microeconomics
and in macroeconomics.
The chapter’s second section examines the complexity of modern economies, asking why it
is that the things we want to purchase are almost always available. What produces this remarkable
coordination? We discuss the market as an instrument that brings order to the economy as a whole.
Along the way, the student is introduced to Adam Smith’s “invisible hand”. The section also
discusses who makes the choices in a market economy, and why incentives matter. We show the
circular flow of income and expenditure as a way of showing the interaction between consumers
and producers. We also examine the nature of maximizing decisions (both utility and profit), and
the importance of decisions at the margin. Finally, on the production side, we examine the role of
specialization, the division of labour, globalization, and the importance of money in facilitating
trade.
The chapter’s third and final section deals with comparative economic systems. Students
will read in almost every chapter of this book about a market economy. Contrasting it with planned
and traditional economies is a good way to gain some insight into the concept at the outset. We
emphasize that actual economies are rarely, if ever, well represented by the extremes; instead,
actual economies are mixed economies, with varying degrees of government ownership and
planning. Students are introduced to Karl Marx’s argument for a centrally planned economy. While
Marx had many things right, we argue that central planning has not been successful in proving itself
,as an efficient way of organizing an economy, allocating resources, or generating prosperity for a
large fraction of the population.
, Answers to Study Exercises
Question 1
a) land, labour, capital; factors
b) opportunity cost
c) production possibilities boundary
d) scarcity (because points outside the boundary are unattainable); downward (or negative); the
opportunity cost associated with any choice
e) constant; increasing
f) increases (meaning that more units of good B must be given up to get an extra unit of good A)
Question 2
In general, the opportunity cost (measured in dollars) for any activity includes three things:
• the direct (dollar) cost of the activity, plus
• the dollar value of whatever you give up in order to do the activity, minus
• whatever dollar “savings” the activity generates
In this case, the direct cost of transportation, lift tickets and accommodation of $300 is
definitely included. The income of $120 that you give up also counts. Finally, we must deal
with the restaurant meals of $75. Surely you would have eaten some food even if you hadn’t
gone skiing, so the full $75 is not included. But given the relatively high price of restaurant
meals compared to buying your own groceries, you will probably include most of the $75.
Thus the opportunity cost of the ski trip is $420 plus some (large) fraction of the $75.
Question 3
a) The budget line is shown below. If all $240,000 is spent on ATVs, you could purchase 30 of them;
if all the money is spent on snowmobiles, you could purchase 20 of them. The downward sloping
line divides the attainable from the unattainable combinations of ATVs and snowmobiles.
Part One
What Is Economics?
________________________________________
This opening Part of the book provides an introduction to economics. The central themes of Chapter 1
are scarcity, choice, opportunity cost, and the self-organizing role of markets. The chapter also
examines the gains from specialization and trade, the role of money, the effects of globalization, and
ends with a discussion of the various types of economic systems. Chapter 2 examines how economists
organize their thoughts, build their models, and test their theories. It also addresses central
methodological issues, the most important being the idea that the progress of economics depends on
relating our theories to what we observe in the world around us. Finally, the chapter has an extensive
section on graphing.
***
Chapter 1 opens with a brief tour of some key economic issues in Canada and other countries—from
government debt and climate change to population aging and growing income inequality. The
purpose is to whet the reader’s appetite for the kinds of issues that economists are thinking about
today. This offers a natural segue to the discussion of scarcity, without which few of these issues
would be very interesting. The chapter addresses the fundamental concepts of scarcity, choice, and
opportunity cost, illustrating these ideas with a production possibilities boundary. (It is worth noting
that these concepts are relevant to all economies, no matter how they are organized—central
planning or free markets.) We then examine the complexity of modern market economies, examining
the decision makers, production, trade, money, and globalization. Finally, we examine different types
of economic systems, including traditional, command, and free-market systems. We emphasize that
all actual economies are mixtures, containing elements of all three pure systems.
Chapter 2 provides a longer introduction to the methodological issues of economics than is
usually included in introductory texts. We do this because most students believe that the scientific
method is limited to the natural sciences. But to appreciate economics, they must understand that
its theories are also open to empirical testing and that these theories continually change as a result
of what the empirical evidence shows. We understand that some instructors feel their time is so
limited that they cannot spend class time on Chapter 2. We believe that even if it is not covered in
class, students’ attention should be called to the issues addressed in the chapter. Our experience is
that students benefit from some discussion of the scientific method and from the insight that the
social sciences are not all that different from the “hard” sciences, at least in their basic approaches.
, The chapter begins by making the distinction between positive and normative statements.
We then work carefully through the various elements of economic theories, including definitions,
assumptions, and predictions. Testing theories is as important as developing them, so we
emphasize the interaction between theorizing and empirical observation. We then present various
types of economic data, and this gets us into a detailed discussion of index numbers, time-series and
cross-section data, and graphs. The final section of the chapter goes through graphing in detail.
_______________________________________
Chapter 1: Economic Issues and Concepts
_______________________________________
This chapter is in three main sections, after a short introductory mention of some key economic
issues of the day. The first substantive section develops the concepts of scarcity, choice, and
opportunity cost. To ensure the student really understands what opportunity cost is all about, we
have a box that examines the opportunity cost of a university or college degree. This should be a
familiar example to which students can easily relate. The production possibilities boundary is then
introduced, and it is shown to embody the three key concepts of scarcity, choice and opportunity
cost. Its nature as a frontier between the attainable and the unattainable is worth stressing, as is the
fact that what is attainable is itself subject to change. Four key economic problems are then
discussed, and each one is expressed in terms of the production possibilities boundary. These
questions give the student an inkling of the types of questions addressed both in microeconomics
and in macroeconomics.
The chapter’s second section examines the complexity of modern economies, asking why it
is that the things we want to purchase are almost always available. What produces this remarkable
coordination? We discuss the market as an instrument that brings order to the economy as a whole.
Along the way, the student is introduced to Adam Smith’s “invisible hand”. The section also
discusses who makes the choices in a market economy, and why incentives matter. We show the
circular flow of income and expenditure as a way of showing the interaction between consumers
and producers. We also examine the nature of maximizing decisions (both utility and profit), and
the importance of decisions at the margin. Finally, on the production side, we examine the role of
specialization, the division of labour, globalization, and the importance of money in facilitating
trade.
The chapter’s third and final section deals with comparative economic systems. Students
will read in almost every chapter of this book about a market economy. Contrasting it with planned
and traditional economies is a good way to gain some insight into the concept at the outset. We
emphasize that actual economies are rarely, if ever, well represented by the extremes; instead,
actual economies are mixed economies, with varying degrees of government ownership and
planning. Students are introduced to Karl Marx’s argument for a centrally planned economy. While
Marx had many things right, we argue that central planning has not been successful in proving itself
,as an efficient way of organizing an economy, allocating resources, or generating prosperity for a
large fraction of the population.
, Answers to Study Exercises
Question 1
a) land, labour, capital; factors
b) opportunity cost
c) production possibilities boundary
d) scarcity (because points outside the boundary are unattainable); downward (or negative); the
opportunity cost associated with any choice
e) constant; increasing
f) increases (meaning that more units of good B must be given up to get an extra unit of good A)
Question 2
In general, the opportunity cost (measured in dollars) for any activity includes three things:
• the direct (dollar) cost of the activity, plus
• the dollar value of whatever you give up in order to do the activity, minus
• whatever dollar “savings” the activity generates
In this case, the direct cost of transportation, lift tickets and accommodation of $300 is
definitely included. The income of $120 that you give up also counts. Finally, we must deal
with the restaurant meals of $75. Surely you would have eaten some food even if you hadn’t
gone skiing, so the full $75 is not included. But given the relatively high price of restaurant
meals compared to buying your own groceries, you will probably include most of the $75.
Thus the opportunity cost of the ski trip is $420 plus some (large) fraction of the $75.
Question 3
a) The budget line is shown below. If all $240,000 is spent on ATVs, you could purchase 30 of them;
if all the money is spent on snowmobiles, you could purchase 20 of them. The downward sloping
line divides the attainable from the unattainable combinations of ATVs and snowmobiles.
