ECO2011 Basic Microeconomics

ECO2011 Basic Microeconomics
Fall 2020
Emily Zheng
Exercise
1. The trade-offs facing workers include all of the following EXCEPT:
• A) decision to work or remain outside the workforce.
• B) decision to work or seek additional education.
• C) decision to work for a large corporation or a small firm.
• D) decision to allocate their time between work and leisure.
• E) All of the above are trade-offs facing workers.
Exercise
2. The opportunity cost of taking an on-line history class is
• A) the knowledge and enjoyment you receive from taking the class.
• B) the value of the time spent online.
• C) equal to the highest value of an alternative use of the time and
money spent on the class.
• D) zero because there is no classroom time involved if you are
enrolled in the course.
• E) the cost of tuition and fees only.
Exercise
• 3. Amy’s Tuesday morning class was cancelled! (Yay!!!) She now must
decide how to spend her extra-time. She has three, mutually
exclusive, options for activities:
• 1) Go to the library and study for her ECO2011 midterm, which cost
her nothing and which she values at $10
• 2) Go to a movie, which costs her $5 and which she values at $30
• 3) Have lunch with a friend, which cost her $10 dollars and which she
values at $55
• What is Amy’s opportunity cost of having lunch with her friends?
HOW PEOPLE INTERACT
• Trade can make everyone better off.
• Markets are usually a good way to organize economic activity.
• Governments can sometimes improve economic outcomes.
Principle #5: Trade Can Make Everyone Better
Off.
• People gain from their ability to trade with one another.
• Competition results in gains from trading.
• Trade allows people to specialize in what they do best.
Principle #6: Markets Are Usually a Good Way
to Organize Economic Activity.
• A market economy is an economy that allocates resources through
the decentralized decisions of many firms and households as they
interact in markets for goods and services.
• Households decide what to buy and who to work for.
• Firms decide who to hire and what to produce.
Principle #6: Markets Are Usually a Good Way
to Organize Economic Activity.
• Adam Smith made the observation that households and firms
interacting in markets act as if guided by an “invisible hand.”
• Because households and firms look at prices when deciding what to buy and
sell, they unknowingly take into account the social costs of their actions.
• As a result, prices guide decision makers to reach outcomes that tend to
maximize the welfare of society as a whole.
Principle #7: Governments Can Sometimes
Improve Market Outcomes.
• Markets work only if property rights are enforced.
• Property rights are the ability of an individual to own and exercise control
over a scarce resource
• Market failure occurs when the market fails to allocate resources
efficiently.
• When the market fails (breaks down) government can intervene to
promote efficiency and equity.
Principle #7: Governments Can Sometimes
Improve Market Outcomes.
• Market failure may be caused by:
• an externality, which is the impact of one person or firm’s actions on the well-
being of a bystander.
• market power, which is the ability of a single person or firm to unduly
influence market prices.
HOW THE ECONOMY AS A WHOLE WORKS
• A country’s standard of living depends on its ability to

produce goods and services.
• Prices rise when the government prints too much
money.
• Society faces a short-run trade-off between inflation
and unemployment.
Principle #8: A Country’s Standard of Living Depends on Its Ability to
Produce Goods and Services.
• Almost all variations in living standards are explained by differences in

countries’ productivities.
• Productivity is the amount of goods and services produced from each
hour of a worker’s time.
Principle #9: Prices Rise When the
Government Prints Too Much Money.
• Inflation is an increase in the overall level of prices in the economy.
• One cause of inflation is the growth in the quantity of money.
• When the government creates large quantities of money, the value of
the money falls.
Principle #10: Society Faces a Short-run Trade-off between Inflation and
Unemployment.
• The Phillips Curve illustrates the trade-off between inflation and

unemployment:
• Inflation or Unemployment
• It’s a short-run trade-off!
• The trade-off plays a key role in the analysis of the business cycle—
fluctuations in economic activity, such as employment and production
• The principles of personal decision making are:
• People face trade-offs.
• The cost of something is what you give up to get it.
• Rational people think at the margin.
• People respond to incentives.
• The principles of economic interaction are:
• Trade can make everyone better off.
• Markets are usually a good way to organize economic activity.
• Governments can sometimes improve market outcomes.
• The principles of the economy as a whole are:
• A country’s standard of living depends on its ability to produce goods and
services.
• Prices rise when the government prints too much money.
• Society faces a short-run trade-off between inflation and unemployment.
Microeconomics and Macroeconomics
• Microeconomics focuses on the individual parts of the economy.
• How households and firms make decisions and how they interact in specific
markets
• Macroeconomics looks at the economy as a whole.
• Economy-wide phenomena, including inflation, unemployment, and
economic growth
THE ECONOMIST AS A SCIENTIST
• Economists try to address their subject with a scientist’s objectivity
• Scientific method: observation, theory, and more observation
• Theories are developed to explain observed phenomena in terms of a set of basic
rules and assumptions.
• Uses abstract models to help explain how a complex, real world operates.
• Challenges faced by economists
• Assumption plays an important role

• Economists make assumptions in order to make the world easier to understand.
• The art in scientific thinking is deciding which assumptions to make.
• Economists use different assumptions to answer different questions.
THE ECONOMIST AS POLICY ADVISOR
• When economists are trying to explain the world,

they are scientists.
• When economists are trying to change the world,
they are policy advisors.
Positive versus Normative Analysis
• Positive statements are statements that attempt to describe the
world as it is.
• Called descriptive analysis
• Normative statements are statements about how the world should
be.
• Called prescriptive analysis
Positive Versus Normative Analysis
• Are the following positive or normative statements?
• An increase in the minimum wage will cause a decrease in employment
among the least-skilled.
• Higher federal budget deficits will cause interest rates to increase.

Positive Versus Normative Analysis
• Are the following positive or normative statements?
• The income gains from a higher minimum wage are worth more than any
slight reductions in employment.
• State governments should be allowed to collect from tobacco companies the

costs of treating smoking-related illnesses among the poor.
Example: should college be free?
• In the United States, students are used to paying tuition to attend college.
• In Finland, universities do not collect tuition fees.
• Should the United States also provide free public university education?
• Economists can develop models to estimate the effect on the economy

(national output, incomes, etc.) of such a policy. This is positive analysis.
• Judgment based on these effects requires normative analysis.

• A positive statement is an assertion about how the world is.
• A normative statement is an assertion about how the world ought to
be.
• When economists make normative statements, they are acting more
as policy advisors than scientists.
WHY ECONOMISTS DISAGREE
• They may disagree about the validity of alternative positive theories
about how the world works.
• They may have different values and, therefore, different normative
views about what policy should try to accomplish.

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• A country’s standard of living depends on its ability to

• Almost all variations in living standards are explained by differences in

• The Phillips Curve illustrates the trade-off between inflation and

• Assumption plays an important role

• When economists are trying to explain the world,

• Higher federal budget deficits will cause interest rates to increase.

• State governments should be allowed to collect from tobacco companies the

• In Finland, universities do not collect tuition fees.

• Economists can develop models to estimate the effect on the economy

• Judgment based on these effects requires normative analysis.

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