Mr Sydney Armstrong ECN 1100 Introduction to Microeconomic Lecture Note (1) What is Economics?

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1 Mr Sydney Armstrong ECN 1100 Introduction to Microeconomic Lecture Note (1) What is Economics? Informally Economics can be defined as any activity that allows for the transformation of resources into goods and services. Goods and services are anything individuals value such as a T Shirt, your dental check-ups etc. Economics is defined by Curtis and Diane Eaton (1943) in their book Microeconomics as the study of the allocation of scarce resources to the production of alternative goods. Parkin (1939) suggests that it is the study of the behaviour of individual and society in the production, distribution and consumption of goods and services with the use of scarce resources. Two words in the definition deserve special attention are scarce and alternative. Like most other discipline, economics is divided into branches. The major branches are Microeconomics and Macroeconomic. Microeconomics is the study of the economic actions of individual and well-defined groups of individual while Macroeconomics is the study of broad aggregated such as total employment and national income (GPD). Both branches deal with the determination of prices and incomes and the use of resources however, Microeconomics concentrates on the analysis of individual prices and markets, and the allocation of specific resources to particular uses. On the other the goals of Macroeconomics theories generally are the determination of national income, aggregate resource employment and aggregate price indices with minor emphasis placed upon the interrelation among the components. In Economics we often defined resources as the factors of production or inputs to the production process. Resources can be divided into four main categories: Land All those gifts of nature, such as a land itself, forest, mineral deposits commonly called natural resources are referred to as land by economist. The existences are independent on human being. All human resources, mental and physical both, inherited and acquired are called Labour. Capital All those man made aids to further production such as tools, machinery and factories that are used in the process of making other goods and services. Economist calls these capitals. Those who take risks by introducing new products and new ways of making old products, developing new business and form of employment are called entrepreneurs or innovators and the resource they provide is entrepreneurship. Those who have or own the resources stand to gain some benefits or return. Land Rent Labour Wages and Salaries Capital Interest Entrepreneurship Profits

2 Policy Economics Policy economics recognises that theories and data can be used to formulate policies courses of action based on economic principles that are intended to resolve a specific economic problem or achieve an economic goal. Economic theories are the foundation of economic policy (You need to understand economics to pursuit economic policy). In order to create policies to achieve specific goals, policy makers need to understand the basic steps that are involved in policy making. State the goal Determine the policy option Implement and evaluate the policy that was selected Economics Goals If economics polices are designed to achieve certain economic goals, then we need to recognise a number of goal that are widely accepted in Guyana and many other countries. These include: Economic Growth Full Employment Economic Efficiency Price-level Stability Equitable Distribution of income Economists try to discover how the economic world works and in pursuit of these goals (like all scientists) they distinguish between two types of statements. What is? What ought to be? Statements about what is are called positive statements and they might be right or wrong. We can test a positive statement be checking it against the facts. Statements about what ought to be are called normative statements. These statements depend on values and cannot be tested. Using Economics model to explain the economy. Economists use models to learn about resources and about the world; these models are most often composed of diagrams and equation. Models however, omit many details to allow us to see what is truly important. The methodological frame work for using model to explain economic phenomena is broken down into three (4) steps: State the hypothesis Observation and Measurement Model Building Testing Models

3 A very important assumption use in economist is called ceteris paribus. It is a Latin term that means all other things being equal or all other relevant things remain the same. In essence by changing one variable at a time (factor) and holding all the other relevant factors constant, we are able to isolate the factors of interest and are able to investigate its effect in the clearest possible ways. But ceteris paribus can be a problem in economics when we try to test a model given the fact that we are living in a dynamic world and things are always changing. Economist tries to avoid fallacies errors of reasoning that lead to a wrong conclusion. But 2 fallacies are common and you need to be on your guard to avoid them. Fallacy of Composition Post hoc Fallacy/ergo proter hoc Scarcity Choice and opportunity cost Economics is a social science that is concerned with the efficient use of scarce productive resources to achieve maximum satisfaction of economic wants. From all definitions of economics it can be identify that the basic problem in economics is scarcity. Scarcity implies that there is not enough resource to satisfy everyone s wants. In essence the resources that are available are in limited or finite supply while everyone s wants and needs are unlimited. Further because resources are scarce, individuals and society have to choose among alternatives. Put differently the economic system (because of scarcity) must determine the allocation of resource to the various sectors. Every society needs to develop an economic system a particular set of institutional arrangements and a coordinating mechanism to respond to the economising problem. Economic systems differ as to (1) who owns the factor of production and (2) the method used to coordinate and direct economic activity. There are two general types of economic systems: The Market System and the Command System, other economic systems are hybrid of the two. All economic system must answer four basic questions: What goods and services will be produced? How will the goods and services be produced? Who will get the goods and services? How will the system accommodate change? Research these economic system Going back to the scarcity to choice problem. Because individual and society are forced to make choice it means that some goods and services would be sacrificed in order to consume other. When this occurs individual and society incur an opportunity cost. Opportunity cost of a decision is the value of the next best alternative foregone when resources are employed.

4 Rational Behaviour Economics is grounded on the assumption of rational self-interest. Individuals pursue actions that will enable them to achieve their greatest satisfaction. Rational behaviour means that individuals will make different choices under different circumstances (e.g.) Rational decision may change as costs and benefits change (e.g.) It should be made clear that rational self-interest is not the same as selfishness. Many persons help their family members or friends, and they contribute to charities because they derived pleasure from doing so. Parents help pay for their children s education for the same reason. These self-interested but unselfish acts help maximise the give s satisfaction as much as any personal purchase of goods or services. Self-interest behaviour is simply behaviour that enables a person to achieve personal satisfaction however, it may be derived. GRAPHS AND THEIR MEANING Graphs are extensively used in Economics. A graph is a visual representation of the relationship between two variables. Graphs depict either a direct relationship or an inverse relationship. By a direct relationship (positive) we mean that the two variables change in the same direction. That is when one increase the other also increases or when one decreases the other also decreases. The curve for the graph is upward sloping, e.g. consumption and Income. In contrast two variables are said to be inversely related when as one increase the other decreases, vice versa. This is also called a negative relationship, e.g. price and quantity demanded.

5 DEPENDENT AND INDEPENDENT VARIABLES Although it is not always easy, Economists try to determine which variable is the cause and which is the effect. Or more formally, they seek the independent variable and the dependent variable. The independent variable is the cause or source; it is the variable that changes first. The dependent variable is the effect or outcome; it is the variable that changes because of changes in the independent variable. Most of these notes came from McConnell &Brue, Economics 15 edition, 2002 You are required to supplement this with additional reading.