Chapter 2: Some Tools of the Economist

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ECO 2013
Joseph Calhoun

Chapter 2: Some Tools of the Economist I. Trade Creates Value a. Physical value (price), not subjective value b. When individuals engage in a voluntary exchange, both parties are made better off i. “but trading does not create new material items and therefore, cannot generate gain”  fallacy ii. Voluntary trades make both parties better off c. By channeling goods and services to those who value them most, trade creates value and increases the wealth created by a society’s resources i. Society’s total value increases ii. Trade creates wealth for both trading partners and the nation d. Transaction Costs – A Barrier to Trade i. Transaction Cost- the costs of the time, effort, and other resources necessary to search out, negotiate, and conclude an exchange (e.g. cost of gas to drive to a cheaper store) ii. Reductions in transaction costs will increase the gains from trade (e.g. the Internet; eBay) e. The Middleman as a Cost Reducer i. Middlemen- people who buy and sell goods/services or arrange trades and lowers transaction costs (e.g. an auto dealer, stockbrokers, realtors, grocers, etc.) II. The Importance of Property Rights a. Property Rights- the rights to use, control, and obtain the benefits from a good/resource b. Private-property Rights- property rights that are exclusively held by an owner and protected against invasion by others. Private property can be transferred, sold or mortgaged at the owner’s discretion. 3 rights: i. exclusive use/sole possession ii. legal protection against invasion iii. right to transfer, sell, exchange or mortgage the property c. Common-property Ownership- beaches, parks; “when everybody owns it, nobody owns it” d. 4 incentive effects that private ownership generates: i. Private owners can gain by employing their resources in ways that are beneficial to others and they bear the opportunity cost of ignoring the wishes of others (e.g. painting the walls of your house purple because you can vs. painting them neutral colors in case you resell the house later) ii. Private owners have a strong incentive to care for and properly manage what they own (e.g. the Berry College communal bikes  destroyed) iii. Private owners have an incentive to conserve for the future – particularly if that property is expected to increase in value (e.g. drilling from a communal hole for oil – you will try to get as much as possible, as quickly as possible vs. if it’s your own hole, you can take your time since no one else can touch it) iv. Private owners have an incentive to lower the chance that their property will cause damage to the property of others (e.g. car accident) e. Private Ownership and Markets i. Market prices give private owners a strong incentive to consider the desires of others and use their resources in ways others value ii. “The Extended Order”- tendency for markets to lead perfect strangers from different backgrounds around the world to cooperate with one another iii. “The Mystery of Capital” by Hernando de Soto – argues that some countries lack economic progress because they lack private ownership (no motivation to provide goods/services since their land can be taken/given away freely) iv. Cool idea- protecting endangered species with private ownership III. Production Possibilities Curve a. Production Possibilities Curve- a curve that outlines all possible combinations of total output that could be produced, assuming 1.) a fixed amount of productive resources, 2.) a given amount of technical knowledge, and 3.) full and efficient use of those resources. The slope of the curve indicates the amount of one product that must be given up to produce more of another b. Whenever more of one thing is produced, there is an opportunity cost! c. Shifting the Production Possibilities Curve Outward i. An increase in the economy’s resource base would expand our ability to produce goods and services (e.g. machinery, buildings) 1. Investment- the purchase/construction/development of resources, including physical assets, such as plants and machinery, and human
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