1.

0 Introduction to EconomicsUnit overview

Economics as a Social Science Introduction to
Explain that Economics is a social science Economics Online:
Outline the social scientific method. Scarcity
Explain the process of model building in economics. Basic Economic Ques
Explain that economists must use the ceteris paribus assumption when developing
economic models. tion
Distinguish between positive and normative economics. Opportunity cost
Examine the assumption of rational economic decision-making Trade-offs
Production possibilit
Scarcity ies curve
Explain that scarcity exists because factors of production are finite and wants are Price Theory
infinite.
Explain that economics studies the ways in which resources are allocated to meet Circular Flow Model
needs and wants. Factors of Production
Explain that the three basic economic questions that must be answered by any Cost/Benefit Analysi
economic system are: What to produce?, How to produce? and For whom to
produce?
s
Incentives
Choice and Opportunity Cost Utility
Explain that as a result of scarcity, choices have to be made. Utility maximization
Explain that when an economic choice is made, an alternative is always foregone. Comparative advant
Explain that a production possibilities curve (production possibilities frontier) model
age
may be used to show the concepts of scarcity, choice, opportunity cost and a situation
of unemployed resources and inefficiency.
Specialization
Economic systems
Central Themes Free Markets
The extent to which governments should intervene in the allocation of resources Command economie
The threat to sustainability as a result of the current patterns of resource allocation
1.0 Introduction to EconomicsWhat is Economics?
A Riddle to start off your course
You may not know it yet, but you are
beginning a science class. Yes, Economics is a
science, and just like other sciences, it deals
with a fundamental problem of nature.
Think of Aerospace Engineering. This is a
science that struggles to overcome a basic
problem of nature, that of GRAVITY.
Aerospace Engineers are scientists whose
research and lifes work is aimed at
overcoming the problem of gravity and
putting man in space.
Economists are also scientists whose work
attempts to overcome a basic problem of
nature.
Your Riddle:
What is the basic problem of nature that
1.0 Introduction to Economics Scarcity

Scarcity the Basic Economic Problem

The problem that Economics, a social science, attempts to overcome is that
of Scarcity.
Scarcity arises when something is
both limited in quantity yet desired
Some facts about scarcity
Not all goods are scarce, but most are
Some goods that humans consume are infinite, such as air
Organize the following words under the correct category: Scarce or Not
Scarce (limited and desired)
Scarce Not Scarce (not limited OR not
desired)
Sewing factory Compute Swiss francs Happine
machines workers rs Teacher ssDoctor
Dirt s Worm
Apartments in Oxyge s
Zurich n Lov Air s Creativi
Nitroge Football
Murdere e Diamond ty
n players
rs British HIV Wate Cloud s Mosquito
Pounds r s s
1.0 Introduction to Economics Scarcity

What makes something scarce?

Heres another riddle for you
Nobody needs diamonds, yet they are considered extremely valuable
Everybody needs water, yet they are considered extremely cheap

Why Are Diamonds So Why Is Water So Cheap?

ThisExpensive?
is known as the diamond / water paradox. The answer lies in the
fact that economic value is derived from scarcity Read more: The Dia
The more scarce an item, the more valueable it is mond Water Paradox
The less scarce, the less value it has in society!
1.0 Introduction to Economics Scarcity

Free Goods and Economics Goods

Goods in Economics are those things we like to consume. They are called
goods because consuming them makes us feel good!
Free goods are those things that we desire but that are not limited
Economic goods are those that we desire but that ARE limited

Which of these goods are Free Goods and which are Economic Goods?
Haircuts Cars Toothbrushe T.V.S Movies Happiness
s
Shoes Vacations Friendship Hamburgers Love Jewelry
Educatio Air Fresh Water Public Sunshine Etc.
n Transportation
Economics as a Social Science: Economics is the social science that studies the
interactions of humans in the commercial realm. Economists examine the way
societies allocate their scarce resources towards competing wants and needs and
seek to develop systems that achieve certain objectives, including:
Growth in humans standard of living over time
Sustainable development
1.0 Introduction to Economics Do you think
like an Economist?

What do you already know about economics?

Take this true/false quiz to see what you already know about
Economics!
1. - T F 1. Because it is desirable, sunshine is scarce.
2. Because it is limited, HIV is scarce.
2. - T F 3. Because water covers three-fourths of the earth's surface
3. - T F it cannot be considered scarce.
4. The main cost of going to college is tuition, room and
4. - T F board.
5. - T F 5. If public transportation fares are raised, everyone will take
the trains anyway.
6. - T F 6. You always get what you pay for.
7. - T F 7. If someone makes an economic gain, someone else loses.
8. If one nation produces everything better than another
8. - T F nation, there is no economic reason for these two nations
9. - T F to trade.
10. - T F 9. A non-regulated monopoly tends to charge the highest
possible price.
10.A Adapted
Source: business owner's
from decision
NCEE's "AP to show
Microeconomics" by more care for
John Morton
consumers is a decision to accept lower levels of profits.
1.0 Introduction to Economics
What is Economics?

What do Economists study?

The topics below are all some of the things you will study in your
Economics course. Follow the links to see some headlines from a blog
relating to each of the topics
Some key topics from your Economics Course
Scarcity Cost/Benefit Analy Environment Supply and D
Resources sis Perfect competiti emand
Trade-offs Utility maximizati on Trade
Opportunity cost on Game Theory Markets
Marginal analysis Price Theory Price discriminati Prices
Factors of Product Taxes on Consumer behavi
ion Market failure Income distributio or
Exchange Rates Public goods n Firm behavior
Financial markets Recession Free Trade
Read the following blog post:
Microeconomics vs. Macroeconomics
1.0 Introduction to Economics
What is Economics?

Economics is divided into two main fields of study

Microeconomics: Studies the behaviors of INDIVIDUALS within an economy:
Consumers and producers in particular markets. Examples of microeconomic
topics:
The Automobile market in Switzerland,
the market for movie tickets in Zurich,
the market for airline tickets between the US and Europe,
the market for vacations to Spain,
the market for international school teachers.

Macroeconomics: Studies the total effect on a nation's people of all the

economic activity within that nation. The four main concerns of macroeconomics
are:
1. total output of a nation,
2. the average price level of a nation,
3. the level of employment (or unemployment) in the nation and
4. distribution of income in the nation
Examples of macroeconomic topics:
. Unemployment in Canada, inflation in Zimbabwe, economic growth in China,
1.0 Introduction to Economics
What is Economics?

Microeconomics vs. Macroeconomics

The two main units in your economics course can be broken down into
many smaller topics. Some of them are identified below.
Microeconomics examines Macroeconomics examines
Individual markets National markets
the behavior of firms (companies) and Total output and income of nations
consumers Total supply and demand of the
the allocation of land, labor and capital nation
resources Taxes and government spending
Supply and demand Interest rates and central banks
The efficiency of markets Unemployment and inflation
Product markets Income distribution
Supply and Demand Economics growth and development
Profit maximization International trade
Utility maximization
Competition
Resource markets
Market failure
1.0 Introduction to Economics
What is Economics?

Fundamental Concepts
Weather we study micro or macro, there are some basic concepts that
underly all fields of Economics study
Economics is about the allocation of scarce resources among societys
Scarcity: various needs and wants.
Resources Economics is about the allocation of resources among societys various
: needs and wants.
Individuals and society as whole are constantly making choices
involving tradeoff between alternatives. Whether its what goods to
Tradeoffs: consume, what goods to produce, how to produce them, and so on.

Opportuni The opportunity cost is the opportunity lost.

ty Cost: In other words, every economic decision involves giving up something.
NOTHING IS FREE!!
1.0 Introduction to Economics
What is Economics?

Read the following from

The Worldly Philosophers about
the basic economic problems
faced by all societies
1.0 Introduction to Economics
What is Economics?
1.0 Introduction to Economics
What is Economics?

Reading Discussion Questions

1. How is the struggle against scarcity a struggle for survival of man?

2. Is man by nature a social creature? How does man's nature pose a challenge to his
survival? Discuss...

3. Discuss the benefits and dangers of the two ways societies organized economic
activities throughout most of human history
a. Tradition
b. command

4. Why was there no need for "economists" throughout most of human history?

5. "It was not at all obvious that with each man out only for his own gain, society could
in fact endure. It was by no means clear that all jobs of society - the dirty ones as
well as the plush ones - would be done if custom and command no longer ran the
world. When society no longer obeyed one man's dictates, who was to say where it
would end? Evaluate the author's claim that the economic revolution was
1.0 Introduction to Economics
The productive Resources

The Factors of Production

The production of all of the good we desire requires scarce resources. It
is the allocation of these resources between humans competing wants
that Economics focuses on.
Entrepreneurshi
Land Labor Capital
p
Capital refers to the
tools and This refers to the
technologiesthat innovation and
are used to produce creativity applied in
Labor refers to the the goods and the production of
Land resources are
human resources services we desire. goods and services.
those things that
used in the Since more and The physical
are "gifts of nature".
production of goods better tools scarcity of land,
The soil in which we
and services. Labor enhance the labor and capital
grow food, wood,
is the human work, production of all does not apply to
minerals such as
both physical and types of goods and human ingenuity,
copper and tin and
intellectual, that services, from cars which itself is a
resources such as
contributes to the to computers to resource that goes
oil, goal, gas and
1.0 Introduction to Economics The Basic Economic
Questions

The Basic Economic Problem?

In a world of finite resources, the wants of man are virtually infinite. The
basic Economic Problem is how to allocate those limited, scarce resources
between the unlimited wants of man. This problem gives rise to three
questions that any and all economic systems must address. The Three
Basic Econoimcs Questions are :

1. What should be produced? Given the resources with which society

is endowed, what combination of different goods and services
should be produced?
2. How should things be produced? Should production use lots of
labor, or should lots of capital and technology be used?
3. Who should things be produced for? How should the output that
society produces be distributed? Should everyone keep what he or
she makes, or should trade take place? Should everyone be given
equal amounts of the output, or should it be every man for
himself?
1.0 Introduction to Economics
Introduction to Trade

Free Trade
The market system allocates societys scarce resources through the free,
voluntary exchanges of individuals households and firms in the free
market. These exchanges are broadly known as trade. Trade ban exist
between individuals, or between entire nations. Trade between countries is
called International Trade.
Trade is one of the concepts fundamental to the field of economics.
Voluntary exchanges between individuals and firms in resource and product markets
involving the exchange of goods, services, land, labor and capital is a type of trade.
International trade involves the exchange of resources, goods, services, assets (both
real and financial) across national boundaries.
Trade makes everyone better off, and leads to a more efficient allocation of society's
scarce resources.
Adam Smith on Trade: "It is not from the benevolence of the butcher, the
brewer, or the baker, that we expect our dinner, but from their regard to
their own interest. We address ourselves, not to their humanity but to their
self-love, and never talk to them of our necessities but of their
1.0 Introduction to Economics
Introduction to Trade

Adam Smith, the father of Modern

Economics
Lived 1723-1790
Leading thinker of the Scottish Enlightenment
Two great works: The Theory of Moral Sentiments (1759)
and The Wealth of Nations (1776)
Believed that humans acting in their own self-interest
would lead to benefits for society as a whole, since the
pursuit of self-interest naturally leads individuals to meet
the
Adamwants andon
Smith needs
the of those around
mutual benefitsthem.
of trade:
"Whoever offers to another a bargain of any kind, proposes to do this. Give me that which I
want, and you shall have this which you want, is the meaning of every such offer; and it is
in this manner that we obtain from one another the far greater part of those good offices
which we stand in need of."
And on self-interest:
"Every manis first and principally recommended to his own care; and
every man is certainly, in every respect, fitter and abler to take care of
himself than of any other person."
1.0 Introduction to Economics
Model Building in Economics
A popular tool in the Economists kit is the economic model. Just like
scientists in other fields, economists use models to represent something
from the real world.
A model of the solar system:
Allows astronomers to illustrate in a
simplified model the relationships
between solar bodies.
A Circular Flow Model: Allows
economists to illustrate in a simplified
model the relationships between
households and firms in a market
economy.

Ceteris Paribus: Like in other scientists,

when using economic models we must
assume all else equal. This allows us to
observe how one variable in an economy will
1.0 Introduction to Economics
Positive and Normative Economics
Economists explore the world of facts and data, but also often draw conclusions or
prescribe policies based more on interpretation or even their own opinions. It is
important to distinguish at all times whether the focus of our studies is in the realm of
positive or normative Economics
Positive economic statements: Each of the following statements above are
statements of fact, and each can be supported by evidence based on
quantifiable observations of the world.
Unemployment rose by 0.8 percent last quarter as 250,000 Americans lost their jobs in both the
public and private sectors.
Rising pork prices have led to a surge in demand for chicken across China.
Normative
Increased use of public transportation
economic statements:reduces
Each congestion on city streets
of the statements and lowers
above traffic on
are based
fatality rates.
observable, quantifiable variables, but each includes an element of opinion
Unemployment rates are higher among less educated workers, therefore government should
include education and job training programs as a component of benefits for the nation's
unemployed.
Rising pork prices harm low income households whose incomes go primarily towards food,
therefore, to slow the rise in food prices, the Chinese government should enforce a maximum
price scheme on the nation's pork industry.
It is the government's obligation to provide public transportation options to the nation's people
to relieve the negative environmental and health effects of traffic congestion.
1.0 Introduction to Economics
Opportunity Cost

Opportunity Cost
Perhaps the most fundamental concept to Economics, opportunity cost is what must
be given up in order to undertake any activity or economic exchange.
Opportunity costs are not necessarily monetary, rather when you buy something,
the opportunity cost is what youcould have donewith the money you spent on
that thing.
Even non-monetary exchanges involve opportunity costs, as you may have done
something different with the time you chose to spend undertaking any activity in
Examples
your life. of opportunity costs
The opportunity cost of watching TV on a weeknight is the benefit you
could have gotten from studying.
The opportunity cost of going to college is the income you could have
earned by getting a job out of high school
The opportunity cost of starting your own business in the wages you give
up by working for another company
The opportunity cost of using forest resources to build houses is the
enjoyment people get from having pristine forests.
1.0 Introduction to Economics The PPC

Opportunity Cost in the Production Possibilities Model

The tradeoff we face between the use of our scarce resources (or even
time) can be modeled in a simple Economic graph known as the Production
Possibilities Curve (the PPC). Study the graph below:
Tradeoffs in the PPC: Sarah faces two
tradeoff. She can either work or play with
her limited amount of time.
The opportunity cost of an hour of work
is an hour of play
As she goes from 3 hours of work to 7
hours of work, she gives up 4 hours of
play.
She cannot spend 10 hours working
AND 10 hours playing, so Sarah has to
make CHOICES

This basic model can be used to illustrate

1.0 Introduction to Economics The PPC

Consider the hypothetical PPC for

the country of Italy
This model shows that Italy can produce:
Either 7.5 million pizzas,
OR 750 robots
Note, however, that Italy can NOT produce
7.5 million pizzas AND 750 robots

Italy faces a tradeoff in how to use its scarce

resources of land, labor and capital. As the
country moves along its PPC from point A to
point D:
It gives up more and more pizza to have
more robots
It gives up current consumption of food for
production of robots, which themselves are
capital goods, and therefore will assure that
1.0 Introduction to Economics The PPC

Assumptions about the PPC

A point ON the PPC is attainable only if a nation
achieves full-employment of its productive
resources
The nation's resources are fixed in quantity
The economy is closed, i.e. does not trade with
other countries
Represents only one country's economy
Observations about points on or within
the PPC
Points ON the PPC are attainable, and desirable,
since a country producing on the line is achieving
full employment and efficiency
Points inside the PPC (such as E) are attainable
but undesirable, because a nation producing here
has unemployment and is inefficient
Points outside the PPC (such as F) are unattainable
because they are beyond what is presently
possibble given the countrys scarce resources.
But such points are desirable because they mean
1.0 Introduction to Economics The PPC

Straight line versus curved PPCs

A PPC can be either straight (A) or bowed outwards
from the origin (B).
A straight line PPC (A)
Indicates that the two goods require similar resources
to produce (like pizzas and calzones)
The opportunity cost of one pizza is one calzone, so
Italy always gives up the same quantity of one good no
mater where it is on its PPC

A bowed out PPC

Indicates that the two goods require very different
resources to produce (like pizzas and robots)
As Italy increases its output of one good, the oportunity
cost (in terms of the quantity of the other good that (B)
must be given up)ofincreases.
The Law Increasing Opportunity Cost:
As the output of one good increases, the
opportunity cost in terms of other goods
1.0 Introduction to Economics The PPC

Key Concepts shown by the PPC

In addition to opportunity costs and tradeoffs, the PPC can be used to
illustrate several other key Economic concepts, including
Scarcity: Because of scarcity, society
can only have a certain amount of
output
Actual output: A countrys actual
output is shown by where it is currently
producing on or within its PPC
Potential output: A point on the PPC
shows the potential output of a nation at
a particular time
Economic growth: An increase in the
quantity or the quality of a nations
resources will shift its PPC out, indicating
the economy has grown
Economic development: The
 Economic Growth vs.
1.0 Introduction to Economics Economic Development

Economic Growth vs. Economic Development

Two of the key areas of study in economics are those of growth and
development. Sometimes these concepts are thought of as the same, but
they are not.
Economic Growth: This refers to the increase in the total
output of goods and services by a nation over time.
It is also sometimes defined as an increase in household
income over time.
It is purely a monetary measure of the increases in the
material well being of a nation.
On a PPC growth can be shown as an outward shift of the
curve.

Economic Development: This refers to the improvement in

peoples standard of living over time.
Measured by improvements in health, education, equality,
life expectancy and so on
Incorporate income as well, but is a much broader
measure than growth
On a PPC development can be shown by a movement
1.0 Introduction to EconomicsOpportunity Cost

Announcement:
All economics students will receive
a FREE LUNCH of pizza and soda
compliments of your Economics
teacher this Friday!
1.0 Introduction to EconomicsOpportunity Cost
"There's No Such Thing As A Free
Lunch!
It is a popular saying among Economists that there
is no such thing as a free lunch:
Everything in life has a cost associated with it.
The free lunch your teacher offers you is not
really free. There are opportunity costs
associated with giving up your lunch break to
eat with your teacher

If nothing in life is free, then why do we seem to be

surrounded by things that are FREE? Analyze each
of the signs below and determine whether youre
really getting anything for free.
1.0 Introduction to Economics Markets

Product and Resource Markets

In the market system, there exists an interdependence between all
individuals.
Households (thats us) depend on the goods and services produced by
business firms, and the incomes they provide us, for our survival
Business firms depend on households for the workers, the capital, the
land resources they need to produce the goods they hope to sell us and
These exchanges all take place in one of two
make profits on.
categories of market present in all market
Product Markets economies Resource Markets
Where households buy the goods and
Where business firms buy the
services we desire from firms.
productive resources they need to
Examples:
make their products:
The market for private schools
The market for teachers
The market for dental services
The market for dentists
The market for airline travel
The market for pilots
The market for football
The market for football players
1.0 Introduction to Economics Markets

In Resource Markets:
Households supply productive resources (land, labor, capital)
Firms buy productive resources from households. In exchange for their productive
resource, firms pay households:
Wages: payment for labor
Rent: payment for land
Interest: payment for capital
Profit: payment for entrepreneurship
Firms seek to minimize their costs in the resource market
Firms employ productive resources to make products, which they sell back to
households in the product market
In Product Markets:
Consumers buy goods and services from firms
Households use their money incomes earned in the resource market to buy
goods and services
Expenditures by households become revenues for firms
Firms seek to maximize their profits
Households seek to maximize their utility (happiness)
Notice the circular flow of money payments from one market to the
 The Circular Flow
1.0 Introduction to Economics of Resources

The Circular Flow

Market economies are
characterized by a
circular flow of money,
resources, and products
between households and
firms in resource and
product markets. Notice:
Money earned by
households in the
resource market is
spent on goods and
services in the product
market
Money earned by firms
in the product market The incentives of Households: Maximize
is spent on resources Utility
1.0 Introduction to Economics Resources
Resource Payments (Incomes for households)
In exchange for their land, labor, capital and entrepreneurship,
households receive payments. The payments for the four productive
resources (which are costs for firms) ar
Firms pay households RENT. Landowners have the option to use their land for
For Land: their own use or to rent it to firms for their use. If the landowner uses his land
Rent for his own use, the opportunity cost of doing so is the rent she could have
earned by providing it to a firm.
Firms pay households WAGES. To employ workers, firms must pay workers
For Labor:
money wages. If a worker is self employed, the opportunity cost of self-
Wages employment is the wages he could have earned working for another firm.
Firms pay households INTEREST. Most firms will take out loans to acquire
capital equipment. The money they borrow comes mostly from households'
For Capital: savings. Households put their money in banks because they earn interest on
Interest it. Banks pay interest on loans, which becomes the payment to households. If
a household chooses to spend its extra income rather than save it, the
opportunity cost of doing so is the interest it could earn in a bank.
Households earn PROFIT for their entrepreneurial skills. An entrepreneur who
Entrepreneu
takes a risk by putting his creative skills to the test in the market expects to
rship: Profits earn a normal profit for his efforts.
1.0 Introduction to Economics
The Price Mechanism

The Price Mechanism

Prices are how resources are allocated between competing interests in a market
economy. Without tradition or command determining the allocation of resources,
prices send the signals to producers and consumers regarding what should be
produced, how it should be produced, and for whom.
Examples of how prices allocate resources: Imagine a city with two types of
street food, hot dogs and kebabs. How would price assure that the right amount of
these two foods is produced based on consumer demand.
At present,
The price of a hot dog is $2
The price of a kebab is $3
Due to a report on the negative effects of hot dogs on health, consumers now
demand more kebabs. How will each of the two systems assure that the increased
demand for kebabs is met?
Prices are signals from buyers to
sellers!
As the demand for kebabs rises, they will become
more scarce, causing the price to rise. Sellers will
realize there are more profits in kebabs and hot
dog vendors will switch to kebabs.
1.0 Introduction to Economics
The Price Mechanism

Prices as the Allocating mechanism in the market

economy
Wow, we keep Yeah, and we better
selling out of brown lower the price of
If only they'd make black bags!
bags, let's raise the
more brown leather
price!
handbags! Price of brown bags rises,
other colors must get
cheaper to sell

More brown bags are

made available to
buyers
1.0 Introduction to Economics
The Price Mechanism Video

Commanding Heights - 1.3 & 1.4 Vienna and the Soviet Union
1.0 Introduction to Economics
International Trade

Introduction to International Trade

The expansion of oluntary trade between nations has been a defining characteristic
of the global economic system since the second World War. But peoples view on
trade were not always so liberal.

US President Lincoln once argued that

To me that if we buy the rails from England, then we've got the rails and they've got
the money. But if we build the rails here, we've got our rails and we've got our
money."
Author and political Economist Charles Wheelan paraphrased Lincolns view of trade
in the following way:
"If I buy meat from the butcher, then I get the meat and he gets my money. But if I
raise a cow in my backyard for three years and slaughter it myself, then I've got the
meat and I've got my money.

Whats wrong with Lincolns logic?

Key Questions
Lincould probably would about
not argue against International
a family Trade
buying their meet from a butcher.
What he Why
does not recognizetrade?
do nations is that what makesWhat
an economy thrivefrom
are the gains at the level
trade of
between
nations?
individual consumers can also help an economy thrive at the international level.
1.0 Introduction to Economics
International Trade

Specialization based on Comparative Advantage

Because the worlds productive resources are not distributed evenly between
nations, it does not make sense that every nation tries to produce the same
goods. Rather, nations tend to specialize in goods for which their natural,
human and capital resources are particularly appropriate to produce. These
may be Labor-intensive goods Land-intensive goods
Examples: Where? Examples: Where?
Textiles China Agricultural North America
Low-skilled Latin America products Russia
manufactured Low-wage countries Minerals Australia
goods Timber resources
Capital-intensive goods
Examples: Where?
Airplanes Western Europe
Automobiles Japan
Microchips South Korea

What does your country specialize in the production of? Why?

1.0 Introduction to Economics
International Trade

Specialization based on Comparative Advantage

What a particular nation should produce and trade is based on what the
country has a comparative advantage in the production of.
Comparative Advantage: A country has a comparative advantage in production
of a certain product when it can produce that product at a lower relative
opportunity cost than another country.
Production Possibilities Analysis: Consider
How much do apples "cost each 39
two countries, South Korea
PPC - USA
and
PPC the
- Korea
United States.
country to produce?
The US can produce either 39
apples or 13 cell phones. 24

apples

apples
1 apple = 1/3 cell phone
S. Korea can produce either 24
apples or 12 cell phones.
1 apple = cell phone
How much do cell phones cost?
The US must give up 3 apples for
each cell phone it produces.
S. Korea must give up only 2 13 12
apples for each cell phone it cell phones cell phones
produces.
The US has a comparative advantage in apples, South Korea in cell
1.0 Introduction to Economics
International Trade

Specialization based on Comparative Advantage

Because the US has a lower opportunity cost for apples than S. Korea, and S.
Korea has a lower opportunity cost for cell phones than the US, these two
countries can benefit from specializing and trading with one another.
United States: Specialize in Trading 36 Trading
apples -> trade apples for cell 39
possibilities line possibilities line
phones with Korea. Korea should be USA Korea
willing to trade 1 apple for anything

apples
24

apples
up to, but not beyond, 1/2 cell
phone. Before trade, 1 apple could
only be get America 1/3 cell phone.
The US has gained from trade.
South Korea: Specialize in cell
phones -> trade cell phones for 13 12
19.5
apples with the US. The US should cell phones cell phones
be willing to exchange up to three The red dashed lines represent the maximum amount
apples for one cell phone. Before of output the two countries could hope to consume as
trade, Korea could only get two a result of trade with one another. This is the trading
apples for each cell phone it gave possibilities line. Trade allows each nation to
consumer beyond its own production possibilities.
1.0 Introduction to Economics
International Trade

Specialization based on Comparative Advantage

Specialization is defined as the use of the resources of an individual, a firm, a
region, or a nation to concentrate production on one or a small number of goods
and services.
What a person, company or country should specialize in depends on the task for
which it has the lowest opportunity costs.
Countries should specialize based on the products for which they have a
comparative advantage

Terms of trade: Terms that are mutually beneficial to the two countries in trade.
Where the trade leaves both countries better off than they were originally.

Gains from Specialization and Trade: Specialization based on comparative

advantage improves global resource allocation. Each country would result in a
larger global output with the same total inputs or world resources and technology.

Specialization and trade based on comparative

advantage increases the productivity of a nation's
1.0 Introduction to Economics
International Trade

Specialization and Trade based on Production

Possibilities Tables
The PPC provides a graphical means of displaying a nations potential output of two
Output
goods. The same Table
information can be shown in a table as well.Input
TheseTable
tables come in
two types, the
Reading Output and
table: Input
Given tables.
a fixed amount of Reading the table: In order to produce
resources, Mexico and the USA can choose one ton of output, Mexico and the USA
between the following alternatives. must use the following amount of
resources. (in acres of land)
Soybeans Avocados Soybeans Avocados

Mexico 15 60 Mexico 16 8

USA 30 90 USA 8 6

How to determine specialization and trade based on a table

1. Identify the opportunity costs of soybeans and avocados in Mexico and the USA
2. The countries should specialize in the one for which they have the lower opportunity
cost.
1.0 Introduction to Economics
International Trade

Specialization and Trade based on Production

Possibilities Tables
Based on the tables below, Mexico has the comparative advantage
Input in avocados and
Output
the US in soy beans. The two countries should specialize and Problem
trade with one another
Problem
Soybeans
based on these advantages.Avocados Soybeans Avocados

Mexico 15 60 = 1800 Mexico 16 8 = 64

X X

USA 30 90 = 1350 USA 8 6 = 96

For an output problem, simply cross
multiply and then choose the highest level
of output.
Output is maximized when the US
specializes in soybeans and Mexico in
avocados.
For an input problem, cross-multiply and
then choose the combination that uses the
least amount of inputs.
Inputs are minimized when the US
specializes in soybeans and Mexico in
avocados.
1.0 Introduction to Economics
International Trade

Absolute Advantage versus Comparative Advantage

Having put the data into a PPC, it is clear that the US is, in fact, better at producting
BOTH avocados and soybeans. The US has an absolute advantage in both goods
Absolute Advantage: When a nation can produce a certain good more efficiently
than another nation.
How is this different from comparative advantage? Having an absolute
advantage in a product, as the US does in both soybeans and avocadoes, does not
mean a country has a lower opportunity costs in bothSoybeans
products. The US should still
Avocados
30
only specialize in what it has a comparative advantage in.
USA Mexico 15 60
Soybea

15 Mexic
ns

o USA 30 90

Soybeans Avocados
In US: 1s = 3a In US: 1a=1/3s
60 90
Avocados In Mexico: 1s=4a In Mexico: 1a=1/4s
1.0 Introduction to Economics International
Trade Video
Lesson

DETERMINING COMPARATIVE ADVANTAGE U

SING PPCS WORKED SOLUTIONS TO AP
1.0 Introduction to Economics Central
Themes in
Economics
Other Key Themes in Economics
Having introduces several of the topics you will study in this course, we can now look
at some of the major themes that will underlie all sections of the course. These
include:
The role of government in the economy: In every unit of this course we will
examine the appropriate role of government in the market economy. There are
some who argument government should never interfere with the free functioning of
markets; on the other hand, when market failures arise, the government may be
needed to improve the allocation of resources.
Threats to sustainability of current economic trends: What threat do global
warming, environmental degredation, population growth and urbanization play to
the ability of our economic systems to endure?
The conflict between the pursuits of efficiency and equity: Sometimes the
pursuit of wealth and economic growth leaves some individuals behind. To what
extent should economic policy be concerned with income and wealth inequality? Is
there a mechanism available for reducing inequality while at the same time
encouraging efficiency?
The distinction between economic growth and economic development: The
emerging market economies of the world have achieve amazing economic growth