Definition of economics

 the study of the proper allocation and efficient use of scarce resources to produce commodities
for the satisfaction of the unlimited needs and wants of man.
 the study of how individuals and societies use limited resources to satisfy unlimited wants.

Goals of economics
 To strengthen economic freedom
 Promote economic stability
 To improve economic security
 Attaining a high level of growth in the economy
 Expansion in romote economic efficiency
 the resources available
 Improve skills and technology
 for Government – to provide law and order and public services

Thinking Like an Economist

 Economics trains you to. . . .
 Think in terms of alternatives.
 Evaluate the cost of individual and social choices.
 Examine and understand how certain events and issues are related.

THE ECONOMIST AS A SCIENTIST

 The economic way of thinking . . .
 Involves thinking analytically and objectively.
 Makes use of the scientific method.
 Uses abstract models to help explain how a complex, real world operates.
 Develops theories, collects, and analyzes data to evaluate the theories.

Economic methodology
 scientific method
 observe a phenomenon,
 make simplifying assumptions and formulate a hypothesis,
 generate predictions, and
 test the hypothesis.
fallacies
 fallacy of composition
 occurs when it is incorrectly assumed that what is true for each and every individual in
isolation is true for an entire group.
 post hoc, ergo propter hoc fallacy (association as causation)
 occurs when one incorrectly assumes that one event is the cause of another because it
precedes the other.

Economic Models
 Economists use models to simplify reality in order to improve our understanding of the world
 Two of the most basic economic models include:
 The Circular Flow Diagram
 The Production Possibilities Frontier

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 POLICY ADVISOR

 When economists are trying to explain the world, they are scientists.
 When economists are trying to change the world, they are policy advisor.

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 or Normative Statements?
 An increase in the minimum wage will cause a decrease in employment among the least-
skilled.
POSITIVE
 State governments should be allowed to collect from tobacco companies the costs of
treating smoking-related illnesses among the poor.
NORMATIVE

Fundamental economic problem

 scarcity.
 individuals and societies must choose among available alternatives.

Economic resources
 land
 natural resources, the “free gifts of nature”
 labor
 the contribution of human beings
 capital
 plant and equipment
 this differs from “financial capital”
 entrepreneurial ability

Economic goods, free goods, and economic bads

 economic good (scarce good) - the quantity demanded exceeds the quantity supplied at a zero
price.
 free good - the quantity supplied exceeds the quantity demanded at a zero price.
 economic bad - people are willing to pay to avoid the item

Resource payments
Economic Resource Resource payment
land rent
labor wages
capital interest
entrepreneurial ability profit
Rational self-interest
  individuals select the choices that make them happiest, given the information available at the time
of a decision.
 self-interest vs. selfishness

Positive and normative analysis

 positive economics
 attempt to describe how the economy functions
 relies on testable hypotheses
 normative economics
 relies on value judgements to evaluate or recommend alternative policies.

Microeconomics vs. macroeconomics

 microeconomics - the study of individual economic agents and individual markets
 macroeconomics - the study of economic aggregates

The fundamental economic problem

What goods and services must be produce and in what quantities?

 Which goods or services must be produced? Out of the many possibilities, shall we produce rice
or weapons today? If we decide on rice, shall it be a limited quantity of high quality rice or low
quality rice?
 Shall we produced many financing institutions or many vegetable farms?
 Which goods or services must be produced? Out of the many possibilities, shall we produce rice
or weapons today? If we decide on rice, shall it be a limited quantity of high quality rice or low
quality rice?
 Shall we produced many financing institutions or many vegetable farms?

How shall these goods and services be produced?

 Who shall produce them? What technology and resources must be used?
 Who will be soldiers and who will be clerk?
 Will education system consist of government schools alone or combination of public and private
schools?

For whom shall these goods and services be produced?

  Who benefits from the results of economic activities?
 How shall the goods be distributed?
 Shall we have a society of a few rich people and many poor people?
 Shall we have high-salaried managers and low-salaried workers or vice versa
 Who benefits from the results of economic activities?
 How shall the goods be distributed?
 Shall we have a society of a few rich people and many poor people?
 Shall we have high-salaried managers and low-salaried workers or vice versa

Types of economic systems

Traditional Economy
 A traditional economy is one whose economic decision are made with great influence from the
past. It finds answers to the basic economic questions by copying or duplicating the decisions
made by previous generations.
 The essential characteristics of traditional economy are :
 Communal land ownership
 The leader decides on the management of agricultural production which is the
basis of the economy;
 The production, distribution, and use of economic resources are based on
traditional practices;
 New technologies are not welcomed since they are in contrast with the traditional
practices of their ancestors;
 The economy is only its third priority while culture and religion are its foremost
priorities; and
 Mines are used to gather raw materials for production. Advantages: people have
specific roles; security in the way things are done
 Disadvantages: Technology is not used; difficult to improve
Command Economy
 Under the command economy the factors of production and distribution are owned and managed
by the state. Decisions in answering the basic economic problems are planned, done and
dictated by the government.
 The essential characteristics of command economy are :
 Resource allocation is done by government;
 Presence of central planning of all economic activities;
 There is no free competition (the government is the only seller);
  Only the government plays the role in setting legal framework for economic life
production and distribution of goods and services and
 The products or needs of the people are distributed based on priorities set by the
committee.
 Advantages
 Guarantees equal standard of living for everyone
 Less crime and poverty
 Needs are provided for through the government
 Disadvantages
 Minimal choices
 Fewer choices of items
 No incentive to produce better product or engage in entrepreneurship

Market Economy
 Under a market economy, the individual consumers and businesses interact to solve economic
problems. The price of commodity dictates what goods and services will be produced, how and
for whom it will be produced. The decisions made by buyers and sellers help in determining the
price of a particular good or product.
The essential characteristics of market economy are:
 the private sector owns and manages the means of production;
 the price system in a market structure applies to determine how much will be paid for a
certain commodity or service;
 it is known as laissez-faire or free enterprise;
 there is minimum government interference on decisions pertaining to the management of
the economy protection of the society against internal and external aggressions).
 existence of competition often results to monopoly; and there is presence of economic
power.
 Advantage—competition to have the best products and services
 Disadvantage—huge rift between wealthy and poor
 Note: a true market economy does not exist.

Mixed Economy
 The essential characteristics of a mixed economy are :
1. the means of production are owned and controlled by the private sector as well as the
government;
2. the people decide on economic activities within the economy;
 3. the combinations of the best features of capitalist and command economies are observable in the
market; and
 the problem of distribution of goods and services and allocation of economic resources are
determined through a combination of the market system and government laws and policies.
 Advantage—balance of needs and wants met by government and in marketplace
 Disadvantage—citizens have to pay taxes

The Three Great Economic and Political Systems

Capitalism
 Capitalism is an economic system in which most resources are privately owned, people are free
to choose their occupation, the kind and amount of production is determined by price and people
searching for a profit, and there is substantial amount of competition.
 Capitalism has three aspects as follows:
1. the institution of private ownership is generally accepted. Factories, land, goods and services
are privately owned by individuals or group of individuals like stockholders and shareholders.
2. Most people are free to pursue their own economic self-interests, that is, to work for personal
gain. For this reason, capitalism is often called the free enterprise system; most people are
free to choose their own occupations.
3. Because people are motivated by self-interest, they compete with one another to get ahead,
to make a better product, to control markets in order to maintain or obtain a large profit. There
is a struggle for larger profit lead (usually, but by no means always) to a high degree of
competition among business.

Communism
 Communism holds that the people themselves, not the government own the means of production.
There is no system wages or profits needed to spur people to work. Everyone simply takes from
what is produced whatever he or she needs to live comfortably. No government or bureaucracy
supervises what the people do. Consequently, communism is considered ideal, though still be
realized, by those who believe in it.

Socialism
 Socialism is an economic system in which the government owns and operates the major
industries of the country. It means that the government also decides in those major industries the
answers to the three economic questions.
Algebra and graphical analysis
 direct relationship

Linear relationships
 A linear relationship possesses a constant slope, defined as: