Living in a world of scarcity and trade offs

6eExploring Economics ROBERT L. SEXTON Pepperdine University

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1c h a p t e r o n e FuSE/JuPITERIMAGES

As you begin your first course in economics, you may be asking yourself why youre here. What does economics have to do with your life? Although we can list many good reasons to study economics, perhaps the best reason is that many issues in our lives are at least partly economic in character.

A good understanding of economics would allow you to answer such questions as, Why do 10 a.m. classes fill up more quickly than 8 a.m. c lasses during registration? Why is it so hard to find an apartment in cities such as San Francisco, Berkeley, and New York? Why is teenage

The Role and Method of Economics 1.1 Economics: A Brief Introduction

1.2 Economic Behavior

1.3 Economic Theory

1.4 Pitfalls to Avoid in Scientific Thinking

1.5 Positive Statements and Normative Statements

APPENDIX: Working with Graphs

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EconomicsA Word with Many Different Meanings Some people think economics involves the study of the stock market and corporate finance, and it doesin part. Others think that economics is concerned with the wise use of money and other matters of personal finance, and it isin part. Still others think that economics involves forecasting or predicting what business conditions will be in the future, and again, it doesin part. The word economics is, after all, derived from the Greek Oeconomicus, which referred to the management of household affairs.

Precisely defined, economics is the study of the choices we make among our many wants and desires given our limited resources. What are resources? Resources are inputs land, human effort, and skills, and machines and factories, for instanceused to produce goods and services. The problem is that our unlimited wants exceed our limited resources, a fact that we call scarcity. That is, scarcity exists because human wants for goods and services exceed the amount of goods and services that can be produced using all of our available resources. So scarcity forces us to decide how best to use our limited resources. This is the economic problem: Scarcity forces us to choose, and choices are costly because

economics the study of choices we make among our many wants and desires given our limited resources

resources inputs used to produce goods and services

scarcity exists because our unlimited wants exceed our limited resources

the economic problem scarcity forces us to choose, and choices are costly because we must give up other opportunities that we value

What is economics?

What is scarcity?

What is the economic problem?

Economics: A Brief Introduction 1.1

unemployment higher than adult unemployment? Why is the price of your prescrip- tion drugs so high? How does inflation impact you and your family? Will higher taxes on cigarettes reduce the number of teenagers smoking? If so, by how much? Why do female models make more than male models? Why is it easier for college graduates to find jobs in some years rather than others? Do houses with views necessarily sell faster than houses without views? Why do people buy houses near noisy airports? Why do U.S. auto producers like tariffs (taxes) on imported cars? Is outsourcing jobs to India a good idea? Is globalization good for the economy? The

study of economics improves your understanding of these and many other concerns. Economics is a unique way of analyzing many areas of human behavior.

Indeed, the range of topics to which economic analysis can be applied is broad. Many researchers discover that the economic approach to human behavior sheds light on social problems that have been with us for a long time: dis- crimination, education, crime, divorce, political favoritism, and more. In fact, your daily newspaper is filled with economics. You can find economics on the domestic page, the international page, the business page, the sports page, the entertainment page, and even the weather pageeconomics is all around us.

However, before we delve into the details and models of economics, it is impor- tant that we present an overview of how economists approach problemstheir methodology. How does an economist apply the logic of science to approach a problem? And what are the pitfalls that economists should avoid in economic think- ing? We also discuss why economists disagree.

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Why do female models make more money than male models?

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we must give up other opportunities that we value. Consumers must make choices on what to buy, how much to save, and how much to invest of their limited incomes. Workers must decide what types of jobs they want, when to enter the workforce, where they will work, and number of hours they wish to work. Firms must decide what kinds of goods and services to produce, how much to produce, and how to produce those goods and services at the lowest cost. That is, consumers, workers, and firms all face choices because of scarcity, which is why economics is sometimes called the study of choice.

The economic problem is evident in every aspect of our lives. You may find that the choice between shopping for groceries and brows- ing at the mall, or between finishing a research paper and going to a movie, is easier to understand when you have a good handle on the economic way of thinking.

Economics Is All Around Us The tools of economics are far reaching. In fact, other social scientists have accused economists of being imperialistic because their tools

have been used in so many fields outside the formal area of economics, like crime, education, marriage, divorce, addiction, finance, health, law, politics, and religion. Every individual, business, social, religious, and governmental organization faces the economic problem. Every society, whether it is capitalistic, socialistic, or totalitarian, must also face the economic problem of scarcity, choices, and costs.

Even time has an economic dimension. In fact, in modern culture, time has become perhaps the single most precious resource we have. Everyone has the same limited amount of time per day, and how we divide our time between work and leisure (including study,

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Newspapers and websites are filled with articles related to economicseither directly or indirectly. News headlines may cover topics such as unemploy- ment, deficits, financial markets, health care, Social Security, energy issues, war, global warming, and so on.

in the Who Studies Economics?

The study of economics is useful in many career paths. here is a short list of some relative ly well-known people who studied economics in college.

Politicians, Policy Makers, and Supreme Court Justices George h. W. Bush, former u.S. President (Yale) Ronald Reagan, former u.S. President

(Eureka college) Gerald Ford, former u.S. President

(university of Michigan) Arnold Schwarzenegger, body builder/actor/

governor (university of Wisconsin) Sandra Day-Oconnor, retired u.S. Supreme court

Justice (Stanford) Stephen Breyer, u.S. Supreme court Justice

(Stanford)

(continued)

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Productive resources are limited. Therefore, people cannot have all the goods and services they want. As a result, they must choose some things and give up others.

ECS economic content standards

4 PART 1 Introduction

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S E C T I O N Q U I Z

1. If a good is scarce,

a. it only needs to be limited.

b. it is not possible to produce any more of the good.

c. our unlimited wants exceed our limited resources.

d. our limited wants exceed our unlimited resources.

2. Which of the following is true of resources?

a. Their availability is unlimited.

b. They are the inputs used to produce goods and services.

c. Increasing the amount of resources available could eliminate scarcity.

d. Both b and c.

Anthony kennedy, u.S. Supreme court Justice (Stanford and london School of Economics)

kofi Annan, former Secretary General of the united Nations (Macalester college)

Billionaires Sam Walton, founder of Walmart (university of

Missouri) Warren Buffett, financier (columbia School of

Business, Masters in Economics) Meg Whitman, former President and cEO of

eBay, Inc. (Princeton) Ted Turner, media tycoon (Brown) Steve Ballmer, cEO of Microsoft (harvard) Donald Trump,

(university of PennsylvaniaWharton) Paul Otellini, President and cEO of Intel

(university of San Francisco)

Celebrities John Elway, former NFl quarterback (Stanford

university) Mick Jagger, lead singer of the Rolling Stones

(london School of Economics) cate Blanchett, actress (Melbourne university) Scott Adams, cartoonist, creator of Dilbert

(hartwick college) Tiger Woods, golfer (Stanford) Bill Belichick, NFl head coach, New England

Patriots (Wesleyan university)

According to Bob McTeer, former President and cEO of the Federal Reserve Bank of Dallas, My take on training in economics is that it becomes increasingly valuable as you move up the career ladder. I cant think of a better major for corporate cEOs, congressmen (and women), or presidents of the united States. Youve learned a systematic, dis- ciplined way of thinking that will serve you well.

in the Who Studies Economics? (Cont.)

sleep, exercise, and so on) is a distinctly economic matter. If we choose more work, we must sacrifice leisure. If we choose to study, we must sacrifice time with friends or time spent sleeping or watching television. Virtually everything we decide to do, then, has an economic dimension.

Living in a world of scarcity involves trade-offs. As you are reading this text, you are giving up other things you value: shopping, spending time on Facebook, text messaging with friends, going to the movies, sleeping, or working out. When we know what the trade-offs are, we can make better choices from the options all around us, every day. George Bernard Shaw stated, Economy is the art of making the most of life.

(continued)

Why cant we ever eliminate scarcity?

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S E C T I O N Q U I Z (Cont.)

3. If scarcity were not a fact,

a. people could have all the goods and services they wanted for free.

b. it would no longer be necessary to make choices.

c. poverty, defined as the lack of a minimum level of consumption, would also be eliminated.

d. all of the above would be true.

4. Economics is concerned with

a. the choices people must make because resources are scarce.

b. human decision makers and the factors that influence their choices.

c. the allocation of limited resources to satisfy unlimited wants.

d. all of the above.

1. What is the definition of economics?

2. Why does scarcity force us to make choices?

3. Why are choices costly?

4. What is the economic problem?

5. Why do even non-economic issues have an economic dimension?

What is self-interest?

Why is self-interest not the same as selfishness?

What is rational behavior?

Economic Behavior

Self-Interest Economists assume that most individuals act as if they are motivated by self-interest and respond in predictable ways to changing circumstances. In other words, self-interest is a good predictor of human behavior in most situations. For example, to a worker, self-interest means pursuing a higher-paying job and/or better working conditions. To a consumer, it means gaining a higher level of satisfaction from limited income and time.

We seldom observe employees asking employers to cut their wages and increase their workload to increase a companys profits. And how often do you think customers walk into a supermarket demanding to pay more for their groceries? In short, a great deal of human behavior can be explained and predicted by assuming that most people act as if they are motivated by their own self-interest in an effort to increase their expected personal satisfac- tion. When people make choices, they often do not know with certainty which choice is best. But they expect the best outcome from that decisionthe one that will yield the greatest satisfaction.

1.2 Answers: 1. c 2. b 3. d 4. d

Do people really pursue their self-interest? Do peo- ple really think that way?

6 PART 1 Introduction

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Critics will say people dont think that way, and the critics might be right. But economists are arguing that people act that way. Economists are observing and studying what people dotheir actions. We largely leave what people think to psychologists and sociologists.

There is no question that self-interest is a powerful force that motivates people to produce goods and services. But self-interest can include benevolence. Think of the late Mother Teresa, who spent her life caring for others. One could say that her work was in her self-interest, but who would consider her actions selfish? Similarly, workers may be pursuing self-interest when they choose to work harder and longer to increase their charitable giving or sav- ing for their childrens education. That is, self-interest to an econo- mist is not a narrow monetary self-interest. The enormous amount of money and time donated to victims of Hurricane Katrina is an example of self-interest toothe self-interest was to help others in need. However, our charitable actions for others are influenced by cost. We would predict that most people would be more charitable when the tax deductions are greater or that you may be more likely to offer a friend a ride to the airport when the freeway was less congested. In short, the lower the cost of helping others, the more help we would expect to be offered.

In the United States, people typically give more than $250 billion annually to charities. They also pay more money for environmentally friendly goods, giving a cleaner world to the future. Consumers can derive utility or satisfaction from these choices. It is clearly not selfishit is in their best interest to care about the environment and those who are less fortunate than themselves.

What Is Rational Behavior? Economists assume that people, for the most part, engage in rational, or purposeful, behav- ior. And you might think that could not possibly apply to your brother, sister, or roommates. But the key is in the definition. To an economist, rational behavior merely means that people do the best they can, based on their values and information, under current and anticipated future circumstances. That is, people may not know with complete certainty which decisions will yield the most satisfaction and happiness, but they select the one that they expect to give them the best results among the alternatives. It is important to note that it is only the person making the choice that determines its rationality. You might like red sports cars while your friend might like black sports cars. So it would be rational for you to choose a red sports car and your friend to choose a black sports car.

Economists assume that people do not intentionally make decisions that will make them worse off. Most people act purposefully. They make decisions with some expected outcome in mind. Their actions are rational and purposeful, not random and chaotic. Individuals all take purposeful actions when they decide what to buy and produce. They make mistakes and are impacted by emotion, but the point is that they make their decisions with some expected results in mind. In short, rational self-interest means that individuals try to weigh the expected benefits and costs of their decisions, a topic we will return to in Chapter 2.

rational behavior people do the best they can, based on their values and information, under current and anticipated future circumstances

What do economists mean when they say people are rational?

Does being rational mean you dont make mistakes?

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Enormous amounts of resources (time and money) were donated to the Hurricane Katrina victims. If individuals are acting to promote the things that interest them, are these self-interested acts neces- sarily selfish? Acting in ones own self-interest is only selfish if ones interests are selfish.

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