NEXT The Economic Way of Thinking. NEXT Chapter 1: The Economic Way of Thinking Scarcity is the situation that exists because wants are unlimited and.

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The Economic Way of Thinking

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Chapter 1: The Economic Way of Thinking

• Scarcity is the situation that exists because wants are unlimited and resources are limited.

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What Is Scarcity?

• Wants — desires that can be met by consuming products• Needs — things necessary for survival• Scarcity — lack of resources available to meet all human wants

– not a temporary shortage• Economics — study of how people use resources to satisfy wants

– examines how individuals and societies choose to use resources– organizes, analyzes, interprets data about economic behaviors– develops theories, economic laws to explain economy, predict

future• Shortage – a situation when suppliers decide to cut production of a

good

Scarcity: The Basic Economic Problem

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People Have Wants

• People make choices about all their needs and wants• Wants are unlimited, ever changing

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Scarcity Affects Everyone

Scarcity affects which goods & services are provided• Goods — physical objects that can be bought• Services — work one person does for another for pay• Consumer — person who buys good or service for personal use• Producer — person who makes a good or provides a service

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Scarcity leads to 3 economic questions every society must answer:

– what will be produced?– how will it be produced?– for whom will it be produced?

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Question 1: What Will Be Produced?

• Societies must decide on mix of goods to produce– depends in part on their natural resources

• Some countries allow producers and consumers to decide• In other countries, governments decide• Must also decide how much to produce; choice depends on societies’

wants

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Question 2: How Will It Be Produced?

• Decisions on production methods involve using resources efficiently– decisions influenced by a society’s natural resources

• Societies adopt different approaches– with unskilled labor force, might use labor-intensive methods– with skilled labor force, might use capital-intensive methods

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Question 3: For Whom Will It Be Produced?

• How goods and services are distributed involves:– how should each person’s share be determined?– how will goods & services be delivered to people?

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The Factors of Production

Factors of production — resources needed to produce goods and services

– include land, labor, capital, entrepreneurship– supply of these factors is limited

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Factor 1: Land

Land means all natural resources on or under the ground– includes water, forests, wildlife, mineral deposits

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Factor 2: Labor

Labor is all the human time, effort, talent used to make products

– physical and mental effort used to make a good or provide a service

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Factor 3: Capital

Capital is a producer’s physical resources – includes tools, machines, offices, stores, roads, vehicles– sometimes called physical capital or real capital

• Workers invest in human capital — knowledge and skills– workers with more human capital are more productive

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Factor 4: Entrepreneurship

Entrepreneurship — vision, skill, ingenuity, willingness to take risks

• Entrepreneurs anticipate consumer wants, satisfy these in new ways– develop new products, methods of production, marketing or

distributing– risk time, energy, creativity, money to make a profit

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Practice

With a partner, decide on a good or service you would like to produce (of course it’s appropriate for class and legal). Tell me in your notes:

1. the good or service2. each of the 4 factors of production

-tell me the land you need to produce-tell me the labor you need to produceetc.

We will share out when everyone is finished.

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Reviewing Key Concepts

Explain the relationship between the terms in each of these pairs:

• wants and scarcity• consumer and producer• factors of production and entrepreneurship

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Making Choices

Economic choices shaped by– Incentives — benefits that encourage people to act in certain

ways– Utility — benefit or satisfaction gained from using a good or

service• To make choices, people economize:

– make decisions according to best combination of costs and benefits

Economic Choice Today: Opportunity Cost

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There’s No Such Thing as a Free Lunch

• All choices have a cost– choosing one thing means giving up another, or paying a cost– cost can take form of money, time, other thing of value

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Trade-Offs and Opportunity Cost

Trade-off is alternative people give up when they make a choice

– Your most desired Trade-off is your OPPORTUNITY COST

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Analyzing Choices

Cost-benefit analysis — examination of costs, expected benefits of choices

– one of most useful tools for evaluating relative worth of economic choices

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Analyzing Choices

Example: Max’s Decision-Making Grid (text pg. 15)• Decision-making grid shows what one gets, gives up with each

choice• Max’s grid shows all possible choices for his free hours each week

– lists choices, benefits and opportunity cost of each choice• With time, costs and benefits change; also goals and circumstances

– Changes influence decisions, make people alter original choices

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Marginal Costs and Benefits

Marginal cost – additional cost of using one more unit of a good or service

Marginal benefit– additional benefit of using one more unit of a good or service

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Reviewing Key Concepts

Explain the relationship between the terms in each of these pairs:

• incentive and utility• trade-off and opportunity cost• marginal cost and marginal benefit

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Graphing the Possibilities

• Economic models — simplified representations of economic forces• Production possibilities curve (PPC) is one model

– maximum goods or services that can be produced from limited resources

– also called production possibilities frontier

Analyzing Production Possibilities

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Production Possibilities Curve

• PPC based on assumptions that simplify economic interactions– resources are fixed– all resources are fully employed– only two things can be produced– technology is fixed

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Production Possibilities Curve

• PPC runs between extremes of producing only one item or the other• Data is plotted on a graph; lines joining points is PPC

– shows maximum number of one item relative to other item• PPC shows opportunity cost of each choice

– more of one product means less of the other

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What We Learn from PPCs

• Each point on PPC represents efficiency (producing the maximum amount of goods and services possible); points inside curve mean underutilization (producing fewer goods and services than possible); outside curve cannot be met (unattainable)

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Increasing Opportunity Costs

• Law of increasing opportunity costs– as production switches from one product to another, more

resources are needed to increase production of second product anotherwords, each new unit costs more than last one

• Reasons for increasing cost of making more of one product– need new resources, machines, factories– must retrain workers

• Costs paid by making less and less of other product

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Shifting the Production Possibilities

• A country’s supply of resources changes over time– Example: U.S. in 1800s grew, gained resources, workers, new

technology– new resources mean new production possibilities beyond frontier

• Increased production shown on PPC as shift of curve outward• Increase in total output called economic growth

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Reviewing Key Concepts

Explain how each term is illustrated by the production possibilities curve:

• underutilization• efficiency

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Case Study: The Real Cost of Expanding O’Hare AirportBackground

• Chicago’s O’Hare Airport is one of the busiest airports in the United States.

• Delays at O’Hare are commonplace.• Considerable debate over the best solution to improve efficiency.

What’s the Issue• What are the real costs involved in airport expansion? Study these

sources to determine the costs tied to the expansion of O’Hare airport.

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Case Study: The Real Cost of Expanding O’Hare Airport {continued}

Thinking Economically1. Explain the real cost of expanding O’Hare Airport. Use information

presented in the documents to support your answer.2. Who are the most likely winners and losers as a result of the O’Hare

expansion? Explain your answer.3. How might supporters of expansion use a production possibilities

model to strengthen their case?