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Chapter 2 Notes

by: Ebony Bell

Chapter 2 Notes Econ 20A

Ebony Bell

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Hi! This is the Chapter 2 Econ Notes. Thanks for using them!! Good luck with your studies!
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This 8 page Class Notes was uploaded by Ebony Bell on Monday October 19, 2015. The Class Notes belongs to Econ 20A at University of California - Irvine taught by RODRIGUEZ LOPE, J. in Fall 2015. Since its upload, it has received 13 views.


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Date Created: 10/19/15
ECON 20A FALL SEMESTER 2015 INSTRUUOR RODRIGUEZ ebonybeuuedu 28 September 2015 CHAPTER 2 The Economist as Scientist I The Scientific Method Observation Theory and More Observation A Economists use the scientific method to test their theories 1 There is an interplay between theory and observation a Example There is a theory that inflation is caused when the gov t prints too much money To test this an economist would collect and analyze data on prices and money from around the world If they were correct money growth and inflation would have a strong correlation if they were incorrect they would have to go reassess their theory B It is impractical to conduct economic experiments so as a substitute economists have to pay attention to natural experiments offered by history The Role of Assumptions A Assumptions simplify the complex world and make it easier to understand 1 Example to study the effects of international trade an economist would simplify the world to two countries trading only two goods B Economists use different assumptions to answer different questions 1 Example We want to study what happens the economy when the gov t changes the number of dollars in circulation knowing that the price of a newspaper changes very infrequency will lead to different assumptions when studying the effects of the policy change over different time periods I Economic Models A Economists use models such as diagrams and equations to learn things about the world and examine economic issues 1 These modes omit many details and allow to focus what is the most important IV The CircularFlow Diagram A This model simplifies the economy to two types of decision makers firms and households Firms produce goods and services using inputs such as labor land and capital buildings and machines these inputs are called factors of production Households own the factors of production and consume all the good and services that firms produce B These decision makers interact in two types of markets In the markets for good and services households are buyers and firms are sellers In the market for factors of production households are sellers and firms are buyers households provide inputs that firms use to produce goods and services 1 The inner loop ofthe diagram represents flows of inputs and outputs a Households sell the use oftheir labor land and capital to the firms Then the firms use these factors to produce good and services 2 The outer loop represents the corresponding flow of dollars a The households spend money to buys goods and services from the firms The firms use revenue from the sales to pay for factors of production such as wages for workers C A more complex and realistic model would show roles ofthe gov t and international trade but these details are not important for basic understanding of how the economy is organized FIGURE 1 The GireulerrFlew Digrern Revenue GDP G S eelld Ffme Fa t f 1f l3 ltd uetil 2 Tegee rent prefit GDP r h lrl m i a l quot3 i 3939 r l f l l i 1 u 139 1394 m I A r J l I p l I i 47 397 r L 53 H in 1 a q r i l 1 r V V gt 1 l 1 ii riitr r l a I V I r l I u P quot El 5 ii 1 IE 1 l Lebemlend eephel Ineeme GDP EH F TER 23 ME EUHlNE N T lDNE S lHEDME E V The Production Possibilities Frontier A This is a graph that shows the various combinations of output that the economy can possibly produce given the available factors of production and the available production technology B Because resources are scarce not every conceivable outcome is feasible possible realistic 1 Any point outside the PPF is not feasible An outcome is efficient if an economy is getting all it can from scarce resources 1 Any point inside the PPF is inefficient Society has to make a tradeoff when they are being efficient with their resources they have to make less of one good to make more of the other This means that the opportunity cost of one good is measured in terms ofthe other good 1 Sometimes the PPF is not linear but the opportunity cost of the good on the xaxis is the slope ofthe PPF Economists believe that PPF s often have a bowed out shape 1 fthe economy is using most of its resources to produce coconuts when most of its workers are skilled fisherman then using resources to fish will only slightly decrease the amount of coconuts being produced However if society is using most of its resources to fish the more coconuts they produce the lose a greater amount of fish a The opportunity cost of fish is high and the opportunity cost of fish is low Tradeoffs can change over time 1 Example Is there is a technological advance the coconut industry society s opportunities are expanded and the economy grows which causes the PPF to shift outward Then society has a more feasible region The PPF simplifies a complex economy and highlights basic but powerful ideas scarcity efficiency tradeoffs opportunity cost and economic growth Quantity of c cnnuts T W5 and Ni feasible 315 efficient U I 3E m Feasible but n r not effi cient I Prodiiiziltlnn 3 possibility 5i I frontier l I W I 393 llZlI 2i sill Elli Quantity if fish VI Microeconomics and Macroeconomics A Economiics is studied on various levels 1 Microeconomics is the study of how households and firms make decisions and how they interact in specific markets a A microeconomist might study the effects of rent control in Chicago 2 Macroeconomics is the study of economy wide phenomena a A macroeconomist might study the of borrowing by the federal gov t B Microeconomics and macroeconomics are intertwined 1 It is impossible to understand macroeconomic developments without considering the associated microeconomic decisions a Example A macroeconomist might study the effect of a federal income tax on the overall production of goods and services but he must consider how the tax cut affects household decisions about how much to spend on good and services The Economist as Policy Advisor I When economists are trying to explain the world they are scientists when they are trying to help improve it they are policy makers Positive versus Normative Analysis A Positive statements are descriptive they make a claim about how the world is Minimumwage aws cause unemployment Normative statements are prescriptive the make a claim about how the world is supposed to be The gov t should raise minimumwage B We can confirm or refute positive statements by examining evidence Evaluating normative statements includes values as well as facts and cannot bejudged using data alone 1 Deciding what is good or bad policy is involves our views on ethics religion and political philosophy A Positive views about how the world works affects normative views about what policies are desirable C Normative conclusions cannot come from positive analysis alone they involve value judgements as well I Economists in Washington A Economists are aware that most policy decisions face tradeoffs 1 A policy might increase efficiency at the cost of equality or help future generations while hurting current generations B Since 1946 the president has been receiving guidance from the council of economic advisors who advise the president and write the annual Economic Report for the President which discusses recent developments in the economy and and presents their analysis of current policy issues IV Why Economists Advice Is Not Always Followed A After the president hears from his economic advisors about what they feel is the best policy he consults with other advisors 1 Making economic policy into a representative democracy is messy but economist s opinions are only one peice to the puzzle Why Economist Disagree I Economists may disagree about the validity of alternative positive theories or they may have different values and therefore different normative about what gov t policy should aim to accomplish I Differences in ScientificJudgements A Economists sometimes disagree because they have different hunches about the validity of alternative theories or about the size of things that measure how economic variables are measured 1 Example Economists disagree about whether the gov t should tax based on consumption or income a Economists who argue for consumption say that this would encourage households to save more and would improve the quality of living and productivity b Economists who argue for income believe that households won t respond much ifthe law was changed Differences in Values A Scenario Peter and Paula drink from the same well and each has to pay a tax Peter makes 1 00k and has to pay 10 of his income 10k Paula makes 20k and has to pay 20 of her income 4k 1 Economists with different values would argue if this is fair or not Each respective value yields a different opinion I Perception versus Reality A Realities of political process are immovable objects and how the public perceives them is based on how they want them to change Let39s Get Going I Key Concepts A circularflow diagram a visual model of the economy that shows how dollars flow through the market among household and firms B production possibilities frontier C microeconomics the study of how households and firms make decisions and how they interact in markets D macroeconomics the study of economywide phenomena including inflation unemployment and economic growth E positive statements claims that attempt to describe the world as it is F normative statements claims that attempt to prescribe how the world should be


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