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ECON1101 Notes CHAPTER 1 Thinking as an EconomistEconomics is the study of how people make choices under conditions of scarcity and of the results of those choices for society o Microeconomics is used to describe the study of individual choice and of the combined result of these choices for the group as a whole o Macroeconomics is the study of the performance of national economies and the policies that governments use to try to improve that performanceThe scarcity principle or nofreelunch principle is defined asalthough we haveboundless needs and wants the resources available to use are limitedAn economic decision is a decision whereby securing something of value to us means that we must go without some other thing that we value o Thus this involves comprises between competing interestsThe costbenefit principlean individual or a firm or a society should undertake a particular action if and only if the extra benefits of undertaking that action are at least as great as the extra costs Ceteris paribus or all else equal is an assumption that everything besides the thing of interest is the same or remains constantAn economic naturalist is some who uses basic economic concepts to make sense of observations about all aspects of everyday lifethe aim of this courseAn economic surplus is the gain that results from undertaking an action when the benefits outweigh the costsAn opportunity cost is the value of the nextbest alternative to undertaking a particular action1The incentive principlea person or firm or society is more or less likely to undertake an action if its benefit or cost rises and less more likely to undertake it if its cost or benefit risesPositive economics is an economic analysis that explains what happens and why but does not state what should happenNormative economics is an economic analysis that states what should or ought to happenPitfall 1 Failing to account for all opportunity costs o For example buying a computer game in town involves a 30 minute bus ride costing 2 each wayMost people will recognise this cost but many will fail to recognise the opportunity cost also includes the value to you of watching the television if that is the highestvalued alternative use of your timePitfall 2 Failing to ignore sunk costs o A sunk cost is a cost that cannot be recovered at the moment a decision is made o For example an allyoucaneat buffet has a 15 entry feeOnce inside diners should make the decision of should I go back for another helping and their answer will be decided whether the marginal benefit gained from doing so is greater than the marginal cost which is zero in this scenario o Another example you purchased a computer five years ago for 2000 and you can now sell it for only 500The sunk cost in this scenario is 1500Pitfall 3 Failing to account for all relevant benefits 2o For example the benefit of introducing a new law that would reduce the incidence of gambling is obvious less gamblingHowever other lessobvious benefits include the reduction of psychological and emotional strain on the family of excessive gamblersPitfall 4 Failing to measure costs and benefits as absolute dollar amounts rather than as proportions o For example saving 10 on a 50 game is a better decision than saving 9 on a 10 gamePitfall 5 Failing to know when to use average costs and benefits and when to use marginal costs and benefits o A marginal cost is the increase in costs associated with a small increase in the level of a particular activity o A marginal benefit is the increase in benefits associated with a small increase in the level of a particular activity o A average benefit is the total benefit of undertaking n units of an activity divided by n o A average cost is the total cost of undertaking n units of an activity divided by nPitfall 6 Failing to incorporate time into costbenefit thinking o In many decisions time is important as actions undertaken now can have effects that carry on well into the future and are associated with flows of costs and benefits that take place over many years o For example studying a commerce degree now which involves substantial costs may increase your potential earnings over your entire working life o Explanations for this occurrenceTheres an opportunity cost delaying when a benefit is received and to incurring a cost earlyHuman nature to for preference for current over future benefits o Its possible for costs and benefits to occur at different points in time and thus the costbenefit principle becomes we should undertake an action if and only if the extra benefits of undertaking the action are at least as great as the extra costs when both are expressed in terms of a common unit of measurement 3
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