two roles of economists
Scientists and Policy advisors
scientists
try to explain the world
policy advisors
try to improve the world
scientific method
the dispassionate development and testing of theories about how the world works
Model
a highly simplified representation of a more complicated reality
Assumptions
simplify the complex world, make it easier to understand
The Circular-Flow Diagram
a visual model of the economy, shows how dollars flow through markets among households and firms
Two types of "actors
households and firms
Two types of "markets
the market for goods and services
the market for "factors of production
Factors of production
the resources the economy uses to produce goods & services, including labor, land, and capital (buildings and machines used in production)
households
Own the factors of production, sell/rent them to firms for income; buy and consume goods & services
Firms
Buy/hire factors of production, use them to produce goods and services; sell goods & services
The Production Possibilities Frontier
a graph that shows the combinations of two goods the economy can possibly produce given the available resources and the available technology
Absolute Advantage
The ability to produce a good using fewer inputs than another producer
If each country has an absolute advantage in one good and specializes in that good...
then both countries can gain from trade
Two countries can gain from trade when...
each specializes in the good it produces at lowest cost
Absolute advantage measures
the cost of a good in terms of the inputs required to produce it
Comparative Advantage
The ability to produce a good at a lower opportunity cost than another producer
Gains from trade arise from
comparative advantage (differences in opportunity costs)
When each country specializes in the good(s) in which it has a comparative advantage
total production in all countries is higher, the world's "economic pie" is bigger, and all countries can gain from trade
The slope of a line on the PPF is
the opportunity cost of a certain good
Economic growth
shifts the PPF outward
If the opportunity cost remains constant as the economy shifts resources from one industry to the other
the PPF is a straight line
If the opportunity cost of a good rises as more of the good is produced as the economy shifts resources from one industry to the other
the PPF is bow-shaped
as a PPF becomes steeper
opp. cost of the good (slope) increases
when different workers have different skills, different opportunity costs of producing one good in terms of the other or when there is some other resource, or mix of resources with varying opportunity costs...
PPF is bow-shaped
PPF shows
all combinations of two goods that an economy can possibly produce, given its resources and technology
PPF illustrates the concepts of
tradeoff and opportunity cost, efficiency and inefficiency, unemployment, and economic growth
A bow-shaped PPF illustrates the concept of
increasing opportunity cost
economists as scientists make...
positive statements
economists as policy advisors make...
normative statements
positive statements
attempt to describe the world as it is; describes a relationship, could use data to confirm or refute
normative statements
attempt to prescribe how the world should be; a value judgment, cannot be confirmed or refuted
Economists often give
conflicting policy advice
As scientists, economists
try to explain the world using models with appropriate assumptions
Two simple models that try to explain the world with appropriate assumptions are
Circular-Flow Diagram and the Production Possibilities Frontier
Microeconomics studies
studies the behavior of consumers and firms, and their interactions in markets
Macroeconomics
the economy as a whole
As policy advisers, economists
offer advice on how to improve the world