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Chapter 1

Economics 101: Chapter 1

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University of British Columbia
ECON 101
Robert Gateman

Economics 101 – Principles of Microeconomics Chapter 1 1.1 Complexity of the Modern Economy  Economy: a system in which scarce resources are allocated among competing uses Self Organizing Economy  An economy based on a free market system is self organizing  Individual consumers and producers act independently → creates economic order  Adam Smith: people are not generous, they do things out of their own self interest Efficient Organizing  Adam Smith: the self organizing, self interest driven economy is relatively efficient o Resources are organized/distributed and produced efficiently  Decision makers respond to prices determined in the market with regards to scarcity or plenty Main Characteristics of Market Economies  Self Interest: individuals pursue self interest, buying/selling what is best  Incentives: people respond to incentives (sellers sell → high prices, buyers buy → low prices  Market Prices and Quantities: prices/quantities determined by sellers competing for buyers  Institutions: all governed by set of institutions (private property, freedom of contract, rule of law) 1.2 Scarcity, Choice and Opportunity Cost  Consumer demand < world resources (scarcity)  Cannot have everything we want, decision making process must take place  Alfred Marshall: Economics is a study of mankind in the ordinary business of life  Economics is the study of the use of scarce resources to satisfy unlimited human wants Resources  Resources are divided into three categories: land, labour and capital (factors of production) o Land: all natural endowments (land, forests, lakes, crude oil, minerals) o Labour: all mental/physical human resources o Capital: all manufactured aids to production (tools, machinery and buildings) Scarcity and Choice  Average Canadian family makes $72,000 after taxes (still cannot satisfy all needs/wants)  Scarcity implies choices must be made, and making choices implies existence of costs Opportunity Cost  To balance costs, one thing must be given up for another product/service o What one is giving up in order to get another thing is the opportunity cost  Every time a choice is made, opportunity costs are incurred Economics 101 – Principles of Microeconomics Production Possibility Boundary  As a result of scarcity, some goals are unattainable  Production possibility curve illustrates the most effective/efficient use of resources o Illustrates scarcity (outside curve), choice (points along boundary), opportunity cost  As the production possibilities curve shifts towards one side, the opportunity cost rises Four Economic Problems  What is produced and how? o Allocation of scarce resources, and alternative uses (resource allocation) o Resources must be produced efficiently (production mechanisms) because of scarcity  What is consumed and by whom? o Economists try to determine distribution of resources and consumption o Consumption does not always match production (may trade/export products instead) o Exporting and importing allows countries to consume a range of products o What is produced and how, falls under microeconomics (price system, policies)  Why are resources sometimes idle? o Economy is operating inside the ppc because of different factors o Recession, high unemployment, all may contribute  Is productive capacity growing? o Growth in production capacity is outlined in an outward shift of the ppc o Idleness of resources and growth of productive capacity falls under macroeconomics o Macroeconomics: economic aggregates, total output, employment, price level, growth 1.3 Who Makes the Choices and How? The Flow of Income and Expenditure  Prices determined in the flow of income and expenditure determine incomes of producers  Distribution of Income: how the nation's total income is distributed among citizens o Determined by price that each factor service receives in factor markets  Maximizing Decisions: economists assume each person tries to maximize decisions o Consumers try to buy as much as possible, producer try to maximize profits  Marginal Decisions: firms and consumers weigh the costs and benefits at the margin o The benefit of an extra product or factor must have marginal benefit The Complexity of Production  Production in a modern economy is complex because of the diversity of products  Specialization: specialization and the division of labour o Individuals abilities differ, each person can specialize in one particular thing o More efficient, greater pro
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