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Principles of Economics Lecture 2 Thinking like an economist Role of economic models Economists use diagrams and equations in models to learn more about the economy. When making models, economists often use assumptions. Circular Flow Diagram Just remember:

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Principles of Economics

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Principles of economics l.jpg

Principles of Economics

Lecture 2

Thinking like an economist


Role of economic models l.jpg

Role of economic models

Economists use diagrams and equations in models to learn more about the economy.

When making models, economists often use assumptions.


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Circular Flow Diagram

Just remember:

  • Inputs: labor, land, capital, technology, etc.

  • Outputs: goods and services


The production possibilities frontier ppf l.jpg

The Production Possibilities Frontier (PPF)

Assume firms in Khon Kaen province only have resources to produce 2 things: noodles and ice tea.

Further assume that if firms only produce noodles the maximum output is 1000 packages of noodles per day, if firms only produce ice tea the maximum output is 2000 bottles of ice tea per day


The ppf l.jpg

The PPF

bottles of ice tea

Point g is beyond the frontier: impossible

g

2000

Point h is possible, but not efficient

1000

h

05001000 p. of noodles


The ppf6 l.jpg

The PPF

The PPF represents every point whereby the allocation of resources to produce noodles and ice tea are fully maximized.


The shape of the ppf l.jpg

The shape of the PPF

The shape of the PPF is often bowed outward as a result of differences in marginal costs of resource allocation.


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The shape of the PPF

When Khon Kaen’s firms use their resources to produce for example 1800 bottles of ice tea and 300 packages of noodles, some resources are probably badly allocated such as persons that are very good in producing noodles or equipment better suited for noodles…..


The ppf9 l.jpg

The PPF

bottles of ice tea

i

2000

1800

1000

03005001000 p. of noodles


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….Therefore, it is easy to give up a few bottles of ice tea (for example -10) tea for many packages of noodles (+ 50) and the PPF is flat. Below an example:

i

1800

1790

300

350


The ppf11 l.jpg

The PPF

bottles of ice tea

Relatively flat

i

In other words, in point i the opportunity cost of producing one more package of noodles is very low.

2000

1800

1000

03005001000 p. of noodles


The shape of the ppf12 l.jpg

The shape of the PPF

When Khon Kaen’s firms use their resources to produce for example 500 bottles of ice tea and 800 packages of noodles, some resources are probably badly allocated such as persons that are very good in producing ice tea or equipment better suited for ice tea…..


The ppf13 l.jpg

The PPF

bottles of ice tea

i

2000

Relatively flat

1800

1000

Relatively steep

j

03005001000 p. of noodles


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In point j the opportunity cost of producing one more package of noodles is very high, because firms in Khon Kaen use many resources that are better suitable for the production of bottles of ice tea: the PPF is relatively steep.


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j

500

450

800

810


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Shifts in the PPF

  • If resources expand, the PPF shifts outward (for example better technology).

  • If resources decline, the PPF shifts inward.

    (for example ageing of the population and out-migration)


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positive versus normative

  • Positive statements: claims that attempt to describe the world as it is

  • Normative statements: claims that attempt to prescribe how the world should be


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Why economists disagree?

  • Differences in scientific judgments

    For example certainties in questionnaires

  • Differences in values

    For example poverty

  • Perception versus reality

    For example: Is the world economy really facing a recovery after the 2009 economic recession?


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  • Chapters 1 and 2 introduced some basic ideas and methods of economics.

  • Chapters 3 and 4 start to analyze the principles of economic behavior in detail.


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Homework

Page 16: answer problems and applications 5 and 7

Read chapter 2 and answer problems and applications 3, 4 and 6 on page 37


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