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Department
Economics (Arts)
Course
ECON 219
Professor
Christopher Ragan
Semester
Fall

Description
CHAPTER 1: ECONOMIC ISSUES AND CONCEPTS 1.1 The Complexity of the Modern Economy The Self-Organizing Economy - An economy based on free-market transactions - Early economists notices that the interaction of self-interested people creates a spontaneous social order – the economy is self-organizing - Self-interest, not benevolence, is the foundation of economic order o Producers and consumers being self-interested Efficient Organization - Loosely speaking, efficiency refers to organizing available resources to produce the goods and services that people most value, when they most want them, and by using the fewest possible resources to do so. - Decision-makers all respond to the same set of prices, which are determined in markets that respond to overall conditions of national scarcity or plenty Main Characteristics of Market Economies: - Self-interest guides individuals – buying and selling what is best for them - Individuals respond to incentives – selling when prices are high and buying when prices are low - Prices and quantities are set in (relatively) free markets in which individuals trade voluntarily - Institutions, created by the state, protect private property and enforce contractual obligations 1.2 Scarcity, Choice and Opportunity Cost Scarcity - How many we have relative to how many we want - Gives rise to the basic economic problem of choice - Economics is the study of the use of scarce resources to satisfy unlimited human wants Resources - A society’s resources are usually divided into land, labor, and capital - Economists refer to resources as factors of production - Outputs are goods (tangibles) or services (intangibles) Scarcity and Choice - Resources can produce only a fraction of the goods and services desired by people - Scarcity implies the need for choice - The less of “something” can be thought of as the cost of having more of “something else” - Every choice has an associated cost – opportunity cost - Opportunity cost is defined as the benefit given up by not using resources in the best alternative way Four Key Economic Problems: 1. What is produced and how? - Resource allocation determines the quantities of various goods that are produced - What combination of goods will be chosen? - Will economy be inside the production possibilities boundary – inefficiency 2. What is consumed and by whom? - What determines how economies distribute total output? Why do some people get a lot while others get only a little? - Will the economy consume exactly what it produced? - Microeconomics is the study of the allocation of resources as it is affected by the workings of the price system 3. Why are resources sometimes idle? - An economy is operating inside its production possibilities boundary if some resources are idle - Under what circumstances are workers seeking jobs unable to find them? - Should governments worry about idle resources? Is there anything the government can do about it? Who makes the choices and how? The Flow of Income and Expenditure Goods markets Firms Individuals (consumers) (producers) Factor Markets The Complexity of Production - Production usually displays two characteristics: o Specialization  The allocation of different jobs to different people. It is more efficient than self-sufficiency because:  Individual abilities differ  Comparative advantage  Focusing on one activity leads to improvements  Learning by doing o Division of labor Markets and Money - Specialization must be accompanied by trade - Money eliminates the cumbersome system of barter by separating the transaction involved in the exchange of products, thereby facilitating specialization and trade Globalization - Underlying modern globalization is the rapid reduction of transportation and th communication costs in the last half of the 20 century Is there an alternative to the Market Economy? Types of economic systems: 1. Traditional - Based on traditions, customs, and habits - Little change in the pattern of goods produced from year to year - Techniques of production also follow traditional patterns - Works best in an unchanging environment 2. Command - Fundamental decisions are made by a command - Planned by a group 3. Free-market - Economy where the means to production are owned privately - Voluntary transactions - Based on private property and mutual transactions  In practice, every economy is a mixed economy in the sense that it combines significant elements of all three systems The Great Debate - Adam Smith, Karl Marx argued that free-market economies could not be relied upon to generate a “just” distribution of output o He argued the benefits of centrally planned system - Beginning with the Soviet Union, many countries inspired by Marx adopted socialist/communist systems - By the last few decades of the 20 century, most of these countries were unable to provide their citizens the rising living standards that existed in the more free- market economies th - In the last two decades of the 20 century, most governments replaced their systems of central planning with more freer markets - The failure of the centrally planned economies does not demonstrate the superiority of completely free-market economies - Instead, it shows the superiority of mixed economies Government in the Modern Mixed Economy - Key government-provided institutions in market economies are private property and freedom of contract - Governments also intervene to: o Correct market failures o Provide public goods o Offset the effects of externalities - Markets often work well, but sometimes government policy can improve the outcome for society as a whole CHAPTER 3: DEMAND AND SUPPLY - 4 conditions necessary for demand and supply to be useful 1. A large number of small producers – small relative to the market – large number so that no one producer is significant 2. A large number of small consumers – no one consumer is a big enough share of the market 3. The product itself has to be almost identical across all producers 4. There must be good information in the market about the different sides of the market Demand Quantity Demanded - The total amount that consumers desire to purchase in some time period is called the quantity demanded of a product - Quantity bought (or exchanged) refers to actual purchases - Quantity demanded is a flow (how much people want to buy per period), as opposed to a stock - Basic hypothesis: Ceteris paribus – the price of a product and the quantity demanded are negatively related o There are usually several products that can satisfy any given want or desire – substitution o A reduction in the price of a product means that the specific desire can now be satisfied more cheaply by buying more of that product - A change in variables other than price will shift the demand curve to a new position o Average household income o Prices of other products o Distribution of income or population o Expectations about the future - Demand curve: Price on Y axis, quantity demanded on X axis o A rightward shift indicated an increase in demand o A leftward shift indicated a decrease in demand Supply Quantity Supplied - The amount of product that firms desire to sell in some time period is called the quantity supplied of that product - Quantity supplied is the amount that firms are willing to offer for sale - Supply curves o Steep curve – in response to price increase, firms produce more, but not must more o Flat – if price increases, production goes up - A change in any variable other than price will shift the supply cure to a new position o Prices of inputs o Technology o Number of suppliers Quantity Supplied and Price - Another basic economic hypothesis is that – ceteris paribus – the price of the product and the quantity supplied are positively related o Producers are interested in making profits. If the price of a particular product rises, the production and sale of this product is more profitable. The Determination of Price The Concept of a Market - A market may be defined as any situation in which buyers and sellers negotiate the transaction of some goods or services - Markets may differ in the degree of competition among various buyers and sellers - In a perfectly competitive market buyers and sellers are price takers Graphical Analysis of a Market - At the equilibrium price, every buyer finds a seller and every seller finds a buyer – the market “clears”. (Demand and supply are equal) Changes in Market Prices - The four “laws" of supply and demand 1. An increase in demand causes an increase in both the equilibrium prices and equilibrium quantity 2. A decrease in demand causes a decrease in both the equilibrium prices and equilibrium quantity 3. An increase in supply causes a decrease in the equilibrium price and an increase in the equilibrium quantity 4. A decrease in supply causes an increase in the equilibrium price and a decrease in the equilibrium quantity Relative Prices and Inflation - The absolute price of a product is the amount of money that must be spent to acquire one unit of the product - A relative price is the price of one good in terms of another - Demand and supply curves are drawn in terms of relative prices rather than absolute prices CHAPTER 5: MARKETS IN ACTION 5.1 The Interaction Among Markets - Partial-equilibrium analysis examines a single market in isolation and ignores feedback effects from other markets - In general, this is appropriate when the specific market is quite small relative to the entire economy - Most of microeconomics uses partial-equilibrium analysis o Economist explicitly thinks about all of the linkages - When economists study all markets together, they use general-equilibrium analysis - General-equilibrium analysis is more complicated because it involves the analysis of all the economy’s markets simultaneously 5.2 Government-Controlled Prices Disequilibrium Prices - If price is set above equilibrium, some sellers will be unable to find buyers - Conversely, if price is set below the equilibrium, some buyers will be unable to find sellers - With administered prices, the quantity is determined by the lesser of quantity demanded and supplied o Government sets a “price floor” or minimum wage  Price floors make it illegal to sell the product below the controlled price  A black market is any market in which goods are sold at illegal prices o Price ceilings is the maximum price as which products may be exchanged  Typically, a government has one or more of three main objectives in imposing a price ceiling:  Restrict production  Keep specific prices down  Satisfy (normative) notions of equity 5.3 Rent Controls: A Case study of Price Ceilings The predicted Effects of Rent Controls - Binding rent controls are a specific form of price ceiling - Effects: o A housing shortage o Alternative allocation schemes in black markets o Illegal schemes like “key money” - Who gains and loses? o Existing tenants in rent-controlled apartments win o Landlords lose o Potential future tenants - Policy Alternatives o Housing shortages can be reduced if the government (at taxpayers’ expense) either subsidizes housing production or produces public housing directly o The government may also provide lower-income household with income assistance o But no policy is “free” – every policy involves a resource cost 5.4 An Introduction to Market Efficiency - Legislated minimum wages make firms and some workers worse off, but benefits those workers who retain their jobs Demand as “Value” and supply as “Cost - Price corresponding to a specific quantity demanded is the highest prices consumers are willing to pay – as shown by the height of the demand curve - Price corresponding to a specific quantity supplied is the lowest price producers are willing to accept – as shown by the height of the supply curve - Surplus o Maximum willingness of customers/suppliers to pay for a product and the price that they actually pay for that product o Supply side  Lowest price is their marginal cost – the cost of producing one unit o Customers side  Surveys in order to know the lowest price that customers would pay for a product - Economic Surplus o Consumer surplus + supplier surplus o Economic surplus is maximized at the competitive equilibrium level of output – the market is “efficient” A Cautionary Word - Government intervention in competitive markets redistribute surplus between buyers and sellers, but often creates overall losses. So why do it? - Government policy is often motivated by a desire to help a specific group (e.g. increase incomes of farmers) - Economists must carefully analyze the effects of such policies to determine the actual effects rather than what is desirable for political reasons CHAPTER 16: MARKET FAILURES AND GOVERNMENT INTERVENTION 16.1 Basic Functions of Government - The operative choice is between which mix of markets and government intervention best suits people’s hopes and needs - When government’s monopoly of violence is secure and functions with restrictions against its arbitrary use, citizens can safely carry on their ordinary economic and social activities 16.2 The Case for Free Markets - The formal case for free markets is based on the concept of efficiency allocation o Efficiency: Total maximum surplus - The informal case is based on three central arguments: 1. Free markets coordinate actions automatically  Coordination through prices which can insinuate scarcity 2. The pursuit of profits leads to innovation and growth 3. Free markets decentralize economic power - Automatic Coordination o A decentralized market system adjusts quickly to changes o As market conditions change, prices in a market economy also change – decision makers can react continually o A market system coordinates without anyone needing to understand how the whole system works - Innovation and Growth o Firms in free markets innovate because they get to keep the rewards o Similar motives give individuals an incentive to invest in human capital - Decentralization of Power o Market systems have less centrali
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