10 Principles of Economics

Acknowledgement

• Based on the ideas presented in the book Principles of Macroeconomics by N. Gregory Mankiw

How People Make Decisions

1. People Face Tradeoff

• Time• Guns and Butter• No such thing as a pure

benefit• Efficiency and Equality• Short term vs Long term• Distortions

2. Costs

• Costs• Benefits• Courses of Action• Decisions• Opportunity Cost

3. Thinking at the Margin

• Firms maximize profits• People: highest level of

satisfaction• Incremental adjustment

to an existing plan of action

• Marginal benefits vs marginal cost

• Average cost vs. marginal cost.

4. Incentives

• People respond to incentives.

• Carrot and Stick• Plata o plumbo • Prices: how a market

economy allocates scarce resources.

• Government Policy decisions

• Unintended consequences

How People Interact

5. Trade

• Competition• Zero Sum Games• Specialize• Greater variety of goods

at lower cost• All boats rise on a rising

tide• Partners

6. Markets

• Organize Economic Activity

• Allocate scarce resources• Collapse of Communism• Market Economy:

– Decentralized , self-interested decision makers

– Remarkably successful in promoting overall economic well-being

Invisible Hand

• Households and firms interacting in markets act as if they are guided by an “invisible hand” that leads them to desirable outcomes.

• Coordinates individual decisions toward overall economic well-being

• Adam Smith 1776

7. Government Policy

• Proper role and Scope• Enforce the rules• Maintain Institutions• Police and Courts• Ability to enforce our

rights• Promote efficiency • Promote equality

How the Economy as a Whole Works (or doesn’t)

Standard of Living

• Ability to Produce Goods and Services

• Quality of Life– Based on material goods

and services

• Growth• Productivity• Education• Tools • Technology

Inflation

• Prices rise with increase in Money Supply

• Leveraging money through banks and lending

• How dollars get printed and injected into the Money Supply

• Money Supply vs. Interest Rates

Inflation vs. Unemployment

• Short-term effect of $ injection stimulates spending and demand for goods

• Trade-offs• Business Cycle• Policy instruments• Stimulus• Role of Federal Reserve

10 Principles of Economics• How People Make Decisions

– People Face Trade-offs– Rational People Think at the Margin– People Respond to Incentives

• How People Interact– Trade Can Make Everyone Better off– Markets Are usually a Good Way to Organize Economic Activity– Government Can Sometimes Improve Market Outcomes

• How the Economy as a Whole Works– A Country’s Standard of Living Depends on its Ability to Produce Goods

and Services– Prices Rise When the Government Prints Too Much Money– Society Faces a Short-Run Trade-off between Inflation and Unemployment