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C HAPTER 2 SOME TOOLS OF ECONOMIC ANALYSIS INTRODUCTION This chapter emphasizes key ideas in economic analysis, such as opportunity cost, the production possibilities frontier, absolute and comparative advantage, the division of labor and the gains from specialization, and how economic systems answer the three economic questions of what, how, and for whom. All these ideas address the economic problem of how to allocate scarce resources among unlimited wants. The use of graphs was introduced in the Appendix to Chapter 1. In this chapter, graphs are integrated into the discussion. CHAPTER OUTLINE Choice and Opportunity Cost Use PowerPoint slides 3 - 5 for the following section Opportunity Cost : The value of the best alternative that is forgone. Because of scarcity, whenever people make a choice, another opportunity is foregone. CaseStudy : The Opportunity Cost of College Opportunity Cost Is Subjective : Only the individual can select the most attractive alternative. Calculating opportunity cost requires time, information, and the assumption that people rationally choose the most valued alternative. Sunk Cost and Choice Use PowerPoint slide 6 for the following section Sunk cost: A cost that has already been incurred and cannot be recovered. Economic decision makers should ignore sunk costs and consider only those costs that are affected by the choice. Comparative Advantage, Specialization, and Exchange Use PowerPoint slides 7 -8 for the following section The law of comparative advantage : The individual, firm, region or country with the lowest opportunity cost of producing a particular output should specialize in producing that output. Absolute advantage : The ability to produce a product with fewer resources than others require. Comparative advantage : The ability to produce a product at a lower opportunity cost than other producers face. Resources are allocated most efficiently when production and trade conform to the law of comparative advantage. Use PowerPoint slides 9 -10 for the following section Specialization and Exchange Barter : A system of exchange in which products are traded directly for other products. Money : A medium of exchange in economies with extensive specialization. Use PowerPoint slide 11 for the following section Division of Labor and Gains from Specialization Specialization of labor Takes advantage of individual preferences and natural abilities 15 16 Chapter 2 Some Tools of Economic Analysis Allows workers to develop more experience at a task Reduces time required to shift between tasks Facilitates the introduction of more sophisticated production techniques May be tedious and injury prone due to repetitive motion CaseStudy : Evidence of Specialization Abounds The Economys Production Possibilities Use PowerPoint slides 12-14 for the following section Efficiency and the Production Possibilities Frontier The production possibilities frontier (PPF) is a simple model designed to depict the production ... View Full Document

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