Ana Belizario

IV-Giambelluca

ECONOMICS SESSIONS 2 & 3 REVIEWER

I.
II.
1.

2.

3.

4.

10 Principles of Economics by N. Gregory Mankiw

How People Make Decisions
People face trade-offs

There aint no such thing as a free lunch

To get one thing that we like, we usually have to

give up another thing that we like

Making decisions requires trading off one goal

against another

Examples:
o
Guns (national security) vs. butter
(goods/productivity) the more a
society spends on national defense to
protect its shores from foreign
aggressors, the less it can spend on
consumer goods to raise the standard
of living
o
Clean environment vs. high level of
income (factories) firms are required
to reduce pollution so they raise prices.
Because of the higher costs, the firms
end up earning smaller profits, paying
lower wages and/or charging higher
prices
o
Efficiency (is the economy getting the
most out of its scarce resources? Or are
they being wasted?) vs. equity/equality
(how fair is the distribution of products
between different members of society?)
these two goals often conflict when
government policies are designed (ex.
Welfare system or unemployment
insurance those who do not work are
being paid/given salary by the
government; when the government
redistributes income from the rich to
the poor, it reduces the reward for
working hard result: people work less
and produce fewer goods and services;
when the government tries to cut the
economic pie into more equal slices, the
pie gets smaller
The cost of something is what you give up to get it

Making decisions requires comparing the costs

and benefits of alternative courses of action

Opportunity cost is what you give up to get

something

Example: going to college vs. work

o
Rational people think at the margin

Rational people those who think systematically

and purposefully do the best they can to achieve
their objectives; make decisions by comparing
marginal benefits and marginal costs

Marginal change a small incremental

adjustment to an existing plan of action

Marginal cost is the change in the total cost

that arises when the quantity produced changes
by one unit

Marginal benefit the additional satisfaction or

utility that a person receives from consuming an
additional unit of a good or service

A rational decision maker takes an action if and

only if the marginal benefit of the action exceeds
the marginal cost

Example:
People respond to incentives

Incentive is something that

induces/encourages a person to act; punishment
or reward

Policies affect incentives

IV.
5.

6.

Examples:
o
Price of apples will increase

Producers are motivated to

produce more and hire more
workers

Consumers will buy less

o
Seatbelts more accidents because
people drive more recklessly, but fewer
death rates
o
Gasoline taxes

People drive smaller cars in

Europe

Also encourages people to

carpool, to take public
transportation and live closer
to their work place
III.
How People Interact
Trade can make everyone better off

People gain fro their ability to trade with one

another

Competition result in gains from trading

Trade allows people to specialize in what they do

best and to enjoy a greater variety of goods and
services

Examples:
o
Teacher shares her knowledge, students
learn from their teacher trade of
teaching skills and learning skills
o
Trade with other countries potential
markets in different countries
Markets are usually a good way to organize economic
activity

A market economy is an economy that allocates

resources through the decentralized (not
controlled by the government) decisions of many
firms and households as they interact in markets
for goods and services

Households decide which firms to work for and

what to buy with their incomes

Firms decide who to hire and what to produce

Adam Smiths invisible hand

o
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
market prices reflect both the value of a
good to society and the cost to society
of making the good
o
Role of the invisible hand: to put
everything into place
o
Both households and firms only think
about themselves/for their own good
being selfish is okay; it is good for the
economy without you noticing it
o
By promoting your own interest, you
promote the societys interest prices
adjust to guide individual buyers and
sellers to reach outcomes that
maximize the well-being of society as a
whole

Example: failure of communism

o
Prices in communist countries are
dictated by central planner, and not by
the marketplace
o
Central planners failed because they
tried to run the economy with one hand
tied behind their backs the invisible
hand of the marketplace

7.

V.
VI.
8.

Governments can sometimes improve market

outcomes

Market failure occurs when the market fails to

allocate resources efficiently

When the market fails/breaks down, the

government can intervene to promote efficiency
and equality most policies aim either to
enlarge the economic pie or to change how the
pie is divided

We need government for the invisible hand to

work its magic only if the government enforces
the rules and maintains the institutions that are
key to a market economy

Market failure may be caused by:

o
An externality, which is the impact of
one person or firms actions on the wellbeing of a bystander

Example: pollution
o
Market power, which is the ability of a
single person or firm to unduly
influence market prices

The government only intervenes sometimes,

because if government always intervenes, that is
communism

In capitalism, the rich get richer while the poor

get poorer

Example: sin tax bill where the government

increased the prices of alcohol and cigarettes
not to completely stop people from doing these,
but to lessen (it still depends on the person if
he/she wants to smoke/drink)

How the Economy as a Whole Works

A countrys standard of living depends on its ability
to produce goods and services/The standard of living
depends on a countrys production

Standard of living may be measured in different

ways:
o
By comparing personal incomes
o
By comparing the total market value of
a nations productivity

Productivity is the amount of goods and services

produced from each hour of a workers time

In nations where workers can produce a large

quantity of goods and services per unit of time,
most people enjoy a high standard of living; in
nations where workers are less productive, most
people endure a more meager existence

Higher productivity = higher standard of living

Example: economic recession in the USA were

blaming Japan for the decline of their economy;
truth is, because Japan was producing so much
more than them, Americans started producing
less

To boost living standards, policymakers need to

raise productivity by ensuring that workers are
well educated, have the tools needed to produce
goods and services, and have access to the best
available technology
9. Prices rise when the government prints too much
money

The value of money decreases and prices rise

our resources will remain limited, so if the prices
stay the same, our resources will run out
because of its accessibility to everyone

Inflation is an increase in the overall level of

prices in the economy

One cause of inflation: growth in the quantity of

money (too much printing)

When the government creates large quantities of

money, the value of money falls decline of
economy
10. Society faces a short-run trade-off between inflation
and unemployment

IX.

Inflation rate increases prices will rise,

including that of raw materials for production
VII.
From the perspective of:
a. Producers increase production by:
o
Hiring more workers low
unemployment rate because everyone
will have a job
o
Improve technology high
unemployment rate because less labor
is needed
b. Consumers/workers will demand for
salary to increase
o
Lay-off workers to sustain the salary
high unemployment
o
Lay-off workers to improve technology
high unemployment
VIII.
Demand
The willingness and capability of the consumer to
purchase
Refers to the amount of a product or service than an
individual is willing and able to buy at alternative
prices
Ceteris Paribus Latin for other things held
constant
Price independent; only factor affecting the change
in the quantity demanded
DEMAND relationship of price and quantity
demanded
Can be illustrated in 3 ways:
1. Demand Function a mathematical expression
of the relationship between the quantity of a
good demanded
X.
Example: Qd = 45 1P
o
45 quantity demanded when price is 0
o
1 slope (change in quantity for every
change in price); negative graph is
increasing to the left
o
P price
2. Demand Schedule a table that shows the
different quantities that will be bought, given
various prices
XI.
Example: Jennys Demand Schedule for
Choc-nut
XII.
Point
XV.
A
XIX.
B

XXIV.
C
XXVII.
D
XXX.
E
XXXIII.
F
XXXVI.
G

XXXIX.

XIII.
XVI.

Price
15

XX.

25 = 45
1P
XXI.
1P = 45
25
XXII.
P = 20
XXV.
25

XIV.

Quantity Demande

XVII.
Qd = 45 1(15)
XVIII.
Qd = 30
XXIII.
25

XXVI.

20

XXVIII.

30

XXIX.

15

XXXI.

35

XXXII.

10

XXXIV.

40

XXXV.

XXXVII.

45

XXXVIII.

3.

XL.

Demand Curve a graphical representation of

the price of the good and the quantity
demanded
Law of Demand
There is a negative relationship between the prices
and the quantity demanded
Market Demand
o
The sum of the quantities demanded by
each consumer at every price as a
producer, you will be able to strategize
o
Shows how the total quantity demanded of a
good varies as a price of a good varies
XLI.

Example: Qd = 120

2
5

(P)

XLII.

I.

II.

Poi

Price of

VI. VII.
A

III.

IV.

Nicholas

V.

Sparks

VIII.

IX.

Qd = 120
2/5(0)

X.

XI.

70

Qd = 120

M
a
r
k
e
t
D
e
m
a
n
d
1
2
0
+
7
0
=
1
9
0

XII. XIII.
B

XIV.

50

XV.

Qd = 120
2/5(50)

XVI.

XVII.

60

Qd = 100

1
0
0
+
6
0

XVIII.

=
1
6
0

XIX. XX.
C

XXI.

100

XXII.

XXIII.

Qd = 120
2/5 (100)

XXIV.

50

8
0

Qd = 80
+
5
0

XXV.
=
1
3
0

XXVI.XXVII. XXVIII.
D

150

XXXII.
XXXIII.
E

XXIX.
XXXIV.

Qd = 120
2/5 (150)

40

300

XXXV. XXXVI.
30

XXXIX.

20

250

XLII. XLIII.

40

Qd = 60

200

XXXVII.
XXXVIII.

XXX. XXXI.

XL.

XLI.

20

XLIV.

XLV.
10

XLVI.

1
0
0
7
0
4
0
1
0

Shifts in the demand

curve
o
To the right
increase in
demand
o
To the left
decrease in
demand
Factors affecting the
demand curve
1. Income
a. Normal good
an
increase in
income
leads to an
increase in
demand; ex.
Increase in
salary will
increase
your
demand for
ice cream
b. Inferior good
an
increase in
income
leads to a
decrease in
demand; ex.
As your
income falls,
you are less
likely to buy
a car or take
cab and
more likely
to ride a bus
2. Prices of related
goods
a. Substitutes
two goods
for which an
increase in
the price of
one leads to
an increase
in the
demand for
the other;
two goods
that are
used in
place of
each other;
ex. Increase

XLIV.

in movie tickets, increase in demand for

DVDs
b. Complements two goods for which an
increase in the price of one leads to a
decrease in the demand for the other; pair
of goods that are used together; ex.
Gasoline and automobiles
3. Tastes and preferences based on historical and
psychological forces that are beyond the realm
of economics; ex. High School Musical vs. Pitch
Perfect
4. Expectations/Occasions ex. If you expect to
earn a higher income next month, you may
choose to save less now and spend more of your
current income buying cream. If you expect the
price of ice cream to fall tomorrow, you may be
less willing to buy an ice-cream cone at todays
price
5. Number of buyers
XLIII.
Supply
Refers to the amount of goods and services which
sellers are willing and able to produce at alternative
prices
The relationship of price and quantity supplied can
be illustrated in 3 ways:
1. Supply Function a mathematical expression of
the relationship between the price and the
quantity of good supplied
XLV.
Example: Qs = 45 + 1P
o
45 quantity supplied when price is 0
o
1 slope (change in quantity for every
change in price); positive increasing to
the right
o
P price
2. Supple Schedule a table that shows the
different quantities that will be sold, given
various prices
3. Supple Curve a graphical representation of the
relationship between the price of a good and the
quantity supplied
The relationship between price and quantity
supplied: positive relationship
Law of Supply

XLVI.

There is a positive relationship between quantity

supplied and price
XLVII.
As price increases, quantity supplied increases. As
price decreases, quantity supplied decreases

Market Supply
o
The sum of the quantities supplied by each
producer at every price
o
Shows how the total quantity supplied of a
good varies

Factors affecting the supply curve

1. Related Goods a decrease in price leads to a
decrease in quantity supply
XLVIII.
Example: toothbrush and toothpaste
XLIX.
The price of toothbrush goes down
supply goes down decrease in supply of
toothpaste
2. Input Price (factors of production)
o
Factors of production: land, labor, capital /
factories, ingredients, labor, machines
o
Increase in input price, decrease in supply
o
Decrease in input price, increase in supply
L.
Example: bakery increase in price of flour
(raw material) decrease in supply
3. Number of Sellers
o
Increase in number of sellers, increase in
supply
o
Decrease in number of sellers, decrease in
supply
4. State of Technology
o
Machines make work easier lay-off
workers
o
Buying of machines leads to an increase in
supply
5. Future Expectations the quantity supply of a
product may depend on the firms expectations
about the future
LI.
Example: today is June
LII.
Expectation: price of good will rise
in July firms will sell/supply less in June, then
supply more in July increase in income
6. Government Policies and Regulations
government policies can greatly affect supply
LIII.
Example: Anti-plastic in Quezon City

7.

Natural Factors natural calamities

(earthquakes, floods, typhoons, etc)