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2 of 36 Chapter Outline 1 The Scope and Methodof Economics Why Study Economics?To Learn a Way of ThinkingTo Understand SocietyTo Understand Global AffairsTo Be an Informed VoterThe Scope of EconomicsMicroeconomics and MacroeconomicsThe Diverse Fields of EconomicsThe Method of EconomicsTheories and ModelsEconomic PolicyAn InvitationAppendix: How to Read and Understand Graphs

THE SCOPE AND METHOD OF ECONOMICS : 

3 of 36 THE SCOPE AND METHOD OF ECONOMICS economics The study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided. Economics is the study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided. The key word in this definition is choose. Economics is a behavioral, or social, science. In large measure it is the study of how people make choices. The choices that people make, when added up, translate into societal choices.

WHY STUDY ECONOMICS? : 

4 of 36 There are four main reasons to study economics: to learn a way of thinking, to understand society, to understand global affairs, and to be an informed voter. WHY STUDY ECONOMICS?

WHY STUDY ECONOMICS? : 

5 of 36 Three fundamental concepts: Opportunity cost Marginalism, and Efficient markets TO LEARN A WAY OF THINKING WHY STUDY ECONOMICS?

WHY STUDY ECONOMICS? : 

6 of 36 opportunity cost The best alternative that we forgo, or give up, when we make a choice or a decision. scarce Limited. WHY STUDY ECONOMICS? Opportunity Cost

WHY STUDY ECONOMICS? : 

7 of 36 WHY STUDY ECONOMICS? marginalism The process of analyzing the additional or incremental costs or benefits arising from a choice or decision. sunk costs Costs that cannot be avoided, regardless of what is done in the future, because they have already been incurred. Marginalism and Sunk Costs

WHY STUDY ECONOMICS? : 

8 of 36 WHY STUDY ECONOMICS? efficient market A market in which profit opportunities are eliminated almost instantaneously. Efficient Markets—No Free Lunch The study of economics teaches us a way of thinking and helps us make decisions.

WHY STUDY ECONOMICS? : 

9 of 36 WHY STUDY ECONOMICS? Industrial Revolution The period in England during the late eighteenth and early nineteenth centuries in which new manufacturing technologies and improved transportation gave rise to the modern factory system and a massive movement of the population from the countryside to the cities. TO UNDERSTAND SOCIETY The study of economics is an essential part of the study of society.

WHY STUDY ECONOMICS? : 

10 of 36 WHY STUDY ECONOMICS? TO UNDERSTAND GLOBAL AFFAIRS An understanding of economics is essential to an understanding of global affairs. The events of September 11, 2001, dealt a blow to the tourism industry and left airlines in deep financial trouble.

WHY STUDY ECONOMICS? : 

11 of 36 WHY STUDY ECONOMICS? TO BE AN INFORMED VOTER When we participate in the political process, we are voting on issues that require a basic understanding of economics. A knowledge of economics is essential to be an informed voter.

THE SCOPE OF ECONOMICS : 

12 of 36 microeconomics The branch of economics that examines the functioning of individual industries and the behavior of individual decision-making units—that is, business firms and households. THE SCOPE OF ECONOMICS MICROECONOMICS AND MACROECONOMICS macroeconomics The branch of economics that examines the economic behavior of aggregates—income, employment, output, and so on—on a national scale. Microeconomics looks at the individual unit—the household, the firm, the industry. It sees and examines the “trees.” Macroeconomics looks at the whole, the aggregate. It sees and analyzes the “forest.”

THE SCOPE OF ECONOMICS : 

13 of 36 THE SCOPE OF ECONOMICS THE DIVERSE FIELDS OF ECONOMICS

THE METHOD OF ECONOMICS : 

14 of 36 THE METHOD OF ECONOMICS positive economics An approach to economics that seeks to understand behavior and the operation of systems without making judgments. It describes what exists and how it works. normative economics An approach to economics that analyzes outcomes of economic behavior, evaluates them as good or bad, and may prescribe courses of action. Also called policy economics.

THE METHOD OF ECONOMICS : 

15 of 36 THE METHOD OF ECONOMICS descriptive economics The compilation of data that describe phenomena and facts. Descriptive Economics and Economic Theory economic theory A statement or set of related statements about cause and effect, action and reaction.

THE METHOD OF ECONOMICS : 

16 of 36 THE METHOD OF ECONOMICS model A formal statement of a theory, usually a mathematical statement of a presumed relationship between two or more variables. variable A measure that can change from time to time or from observation to observation. THEORIES AND MODELS

THE METHOD OF ECONOMICS : 

17 of 36 THE METHOD OF ECONOMICS Ockham’s razor The principle that irrelevant detail should be cut away. Maps are useful abstract representations of reality.

THE METHOD OF ECONOMICS : 

18 of 36 THE METHOD OF ECONOMICS ceteris paribus, or all else equal A device used to analyze the relationship between two variables while the values of other variables are held unchanged. All Else Equal: Ceteris Paribus Using the device of ceteris paribus is one part of the process of abstraction. In formulating economic theory, the concept helps us simplify reality to focus on the relationships that interest us.

THE METHOD OF ECONOMICS : 

19 of 36 THE METHOD OF ECONOMICS The most common method of expressing the quantitative relationship between two variables is graphing that relationship on a two-dimensional plane. Expressing Models in Words, Graphs, and Equations

THE METHOD OF ECONOMICS : 

20 of 36 THE METHOD OF ECONOMICS Cautions and Pitfalls The Post Hoc Fallacy post hoc, ergo propter hoc Literally, “after this (in time), therefore because of this.” A common error made in thinking about causation: If Event A happens before Event B, it is not necessarily true that A caused B.

THE METHOD OF ECONOMICS : 

21 of 36 THE METHOD OF ECONOMICS The Fallacy of Composition fallacy of composition The erroneous belief that what is true for a part is necessarily true for the whole.

THE METHOD OF ECONOMICS : 

22 of 36 THE METHOD OF ECONOMICS empirical economics The collection and use of data to test economic theories. Testing Theories and Models: Empirical Economics

THE METHOD OF ECONOMICS : 

23 of 36 THE METHOD OF ECONOMICS ECONOMIC POLICY Criteria for judging economic outcomes: 1. Efficiency 2. Equity 3. Growth 4. Stability

THE METHOD OF ECONOMICS : 

24 of 36 THE METHOD OF ECONOMICS efficiency In economics, allocative efficiency. An efficient economy is one that produces what people want at the least possible cost. Efficiency equity Fairness. Equity

THE METHOD OF ECONOMICS : 

25 of 36 THE METHOD OF ECONOMICS economic growth An increase in the total output of an economy. Growth stability A condition in which national output is growing steadily, with low inflation and full employment of resources. Stability

AN INVITATION : 

26 of 36 AN INVITATION As you proceed, it is important that you keep track of what you have learned in earlier chapters. This book has a plan; it proceeds step by step, each section building on the last. It would be a good idea to read each chapter’s table of contents and scan each chapter before you read it to be sure you understand where it fits in the big picture.

Review Terms and Concepts : 

27 of 36 Review Terms and Concepts ceteris paribus descriptive economics economic growth economic theory economics efficiency efficient market empirical economics equity fallacy of composition Industrial Revolution macroeconomics marginalism microeconomics model normative economics Ockham’s razor opportunity cost positive economics post hoc, ergo propter hoc scarce stability sunk costs variable

Appendix : 

28 of 36 A graph is a two-dimensional representation of a set of numbers, or data. HOW TO READ AND UNDERSTAND GRAPHS Appendix

Appendix : 

29 of 36 Appendix A time series graph shows how a single variable changes over time. TIME SERIES GRAPH FIGURE 1A.1 Total Disposable Personal Income in the United States: 1975–2005 (in billions of dollars)

Appendix : 

30 of 36 GRAPHING TWO VARIABLES ON A CARTESIAN COORDINATE SYSTEM Appendix The Cartesian coordinate system is the most common method of graphing two variables. This system is constructed by simply drawing two perpendicular lines: a horizontal line, or X-axis, and a vertical line, or Y-axis. The axes contain measurement scales that intersect at 0 (zero). This point is called the origin. FIGURE 1A.2 A Cartesian Coordinate System

Appendix : 

31 of 36 PLOTTING INCOME AND CONSUMPTION DATA FOR HOUSEHOLDS Appendix

Appendix : 

32 of 36 Appendix This line slopes upward, indicating that there seems to be a positive relationship between income and spending. Points A and B, above the 45° line, show that consumption can be greater than income. FIGURE 1A.3 Household Consumption and Income

Appendix : 

33 of 36 Appendix The slope of the line indicates whether the relationship between the variables is positive or negative. The slope of the line is computed as follows:

Appendix : 

34 of 36 Appendix A downward-sloping line describes a negative relationship between X and Y. An upward-sloping line describes a positive relationship between X and Y. FIGURE 1A.4 A Curve with (a) Positive Slope and (b) Negative Slope

Appendix : 

35 of 36 Appendix FIGURE 1A.5 Changing Slopes Along Curves

Appendix : 

36 of 36 Appendix FIGURE 1A.6 National Income and Consumption