Chapter 2 note

Chapter 2 note - Chapter 2 Choice, Opportunity Costs and...

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Unformatted text preview: Chapter 2 Choice, Opportunity Costs and Specialization and Specialization Microeconomics, Seventh Edition Boyes/Melvin OPPORTUNITY COSTS Opportunity Costs are the highest-valued hestalternative that must be forgone when a choice is made. What you give up to get. 2 Decision Making • Principle: Decision making involves trade-offs. • A trade-off means a sacrifice--giving up sacrifice one good or activity in order to obtain some other good or activity . • Principle: Decision making is done Decision making is done at at the margin. – Decision makers evaluate a fixed array of alternatives. – Decision makers compare the marginal costs to marginal benefits to determine the best alternative. – This is economic decision making. 3 1 Tradeoffs and Decisions at the Margin Economists believe that people make decisions by comparing costs and benefits at the margin. They give up one good or activity in order to obtain one good or activity in order to obtain some some other good or activity. marginal marginal costs: additional costs marginal marginal benefit: additional benefit 4 Production Possibilities Curve The production possibilities curve describes the nature of social choices between alternatives It shows alternatives. It shows the maximum quantity of goods and services that can be produced when the existing resources are used fully and efficiently. 5 Production Possibilities Curve Because resources are scarce, a nation cannot produce as much produce as much of everything it wants. Using resources for one good draws from others. 6 2 Levels of Production On The Line - the maximum production attainable with available resources available resources Inside the Line - underutilization of resources Outside the Line - unattainable with current resources. 7 Repercussions of Production Points • From inside—obviously forgone production. • From on the line – depends on where along line – marginal opportunity cost of the other good (we’ll get to that next). • Outside – impossible with current DOMESTIC resources. 8 Growth • The PPC moves outward (growth occurs) as the result of: – Increased resources • Larger labor force • Change in labor force participation in labor force participation • Chance in labor-leisure decision labor– Improved technology (innovation) – Expansion of capital stock – An improvement in the rules (laws, improvement (laws, institutions, and policies) of the economy 9 3 Growth - A Shift of the PPC 225 A 2 Defense Goods Defense Non-defense 200 A1 B2 A2 225 0 175 B1 B2 200 75 C2 175 120 D2 130 150 E2 70 160 F2 0 165 C2 150 C1 125 D2 100 75 D1 0 E1 25 50 75 100 125 150 Why This Shape? E2 F2 Nondefense Goods 10 • The Production Possibilities Curve (PPC) illustrates the concept of opportunity opportunity cost. Each point on the PPC means that every other point is a forgone opportunity. • The PPC bows outward because there are ever because there are everincreasing marginal opportunity costs to the production of any good. • Marginal Opportunity Cost is how much of one good that must be given up to obtain one additional unit 11 of another good. Marginal Opportunity Cost • The shape of the PPC illustrates the relative cost of moving productive resources from one activity to another. • The marginal opportunity cost is the amount of one good or service that must be given up to obtain one additional unit of another good or service. • The PPC bows outward because there are everever-increasing marginal opportunity costs to the production of any good. 12 4 Why This Shape? • The PPC ‘s shape indicates how costly it is to move resources from one activity from to another • Marginal Opportunity Cost increases due to specialization 13 Specialization • Economic agents (individuals, firms, nations) will be better off if they choose to produce those things for which they have the lowest opportunity costs, and trade for those with higher costs. – This is called specialization. specialization. – We say that the agent specializes in a specific activity because the agent enjoys a comparative advantage in it. • Agents do this because such choices involve giving up the least amount of other things. 14 Basis For Trade • Law of comparative advantage: – proposition that the joint output of trading partners will be greatest when each good is produced by the low opportunity cost producer. • Private Property Rights: - private property rights are necessary for a market economy to develop. If no one owns something, no one has the incentive to take care of it. 15 5 Basis For Trade Haiti Food Dominican Republic Health Food (people) (tons) (people) (tons) 1000 0 500 0 500 7 300 5 0 10 0 10 Health 16 Comparative Advantage • Dom.-10 tons food or 500 health care Dom.1 food = 50 health care 1 health care = .02 tons of food • Haiti-10 tons food or 1000 health care Haiti1 food = 100 health care 1 health care = .01 tons of food 17 Trade Is Beneficial If the “Cost” Is Cheaper Through Trade Than Domestic Production • Dominican Republic paying less than 10 tons of food for 500 people’s healthcare • Haiti receiving more than 7 than tons of food in exchange for providing 500 healthcare 18 6 -Consumption Outside the PPCPPCThe Benefits of Trade Trade occurs because countries find that it is mutually beneficial to specialize in goods in which they have a comparative advantage and trade for 19 the other goods. Optimism and the Economy • How do natural disasters and terrorist attacks affect international trade and economic growth? • A recent report from the World Trade Organization (WTO) says while the (WTO) th immediate effect on particular industries can be notable, the economy-wide impact these events have on trade and growth is short-term and generally minimal. 20 7 ...
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