Five Foundations of Economics

• Economics


  The study of how individuals allocate scarce resources to satisfy unlimited desires
• Scarcity


  Our wants outweigh our ability to satisfy those wants with our resources at hand
• Five Foundations of Economics


  • Incentives matter
  • Life is about trade-offs
  • Opportunity costs
  • Marginal thinking
  • Trade creates value
• Incentives


  Factors that motivate you to act or exert effort
• Types of incentives


  • Positive
  • Negative
• Unintended consequence


  An unplanned result (usually negative and unwanted) of an incentive
• Incentives and Innovation


  • Patents
• Strong patent system


  Innovation, economic growth, higher standards of living
• Scarcity


  Decisions incur costs
• Individual examples of trade-offs


  • Choosing a major
• Governments face trade-offs


  Penalizing polluting companies - gain: cleaner air, better health; loss: less industry, higher prices in some sectors
• Opportunity cost


  The highest-valued alternative that must be sacrificed in order to get something else
• Marginal analysis


  Evaluate whether the benefit of one more unit of something is greater than the cost
• Margin examples


  • One more unit (slice of pizza), one more hour of activity (studying, sleeping)
• Is going to college worth it?

  • X = direct costs of college, Y = opportunity cost of not working while in college, Z = college premium; extra money earned
• Go to college if


  Marginal benefits are greater than marginal costs
• Other non-monetary benefits of college include: statistically less likely to be hit by unemployment during rough economy, college-grad jobs may have better hours and working conditions, sense of accomplishment, positive externalities (benefits to others)
• Markets


  Bring buyers and sellers together to exchange goods and services
• Trade


  The voluntary exchange of goods and services between two or more parties
• Comparative advantage


  Producing a good or service at the lowest possible opportunity cost (giving up the least)
• Without trade


  You would have to produce everything you consume
• Trade controversies: India or China may have a comparative advantage (relative to USA) in labor-intensive goods, resulting in outsourcing of jobs
• Positive economics


  The study of how the economy actually works, free of opinions and value judgments
• Normative economics


  Value statements about the economy
• Implicit Cost

  costs associated with a decision that normally aren't included in regular accounting costs
• Marginal Cost


  additional cost to you over and above the costs you have already incurred
• Marginal Benefit


  additional benefit above what you've already derived
• Comparative Advantage


  able to do it better bc of resouces, talent, etc
• Marginal Benefits of doing Something > Marginal Costs

  DO IT
• Marginal Costs of Doing Something > Marginal Benefits


  DON'T DO IT