Basic terms and conceptsBasic terms and concepts

What goes into a good choice?What goes into a good choice? Needs v. wantsNeeds v. wants EconomicsEconomics: 1] study of what and how : 1] study of what and how

decisions decisions are reached in the face of are reached in the face of limited resources; 2] how limited resources; 2] how resourcesresources are are allocated and used; 3] how/what allocated and used; 3] how/what commoditiescommodities are bought, sold and are bought, sold and consumed and by whomconsumed and by whom◦ Micro Micro – the above in the realm of individuals – the above in the realm of individuals

and/or individual businessesand/or individual businesses◦ MacroMacro – focus is on entire industries, society – focus is on entire industries, society

sized markets and national economiessized markets and national economies

Resources are scarce, i.e. there is a limited supply.

Are all resources limited? If so, then what must we do? Think about it …

◦ If I’ve got only enough ingredients to make 10 pies OR 15 cakes…

◦ What if I choose to make the cakes?◦ Or the pies?

Simply put, we just don’t have the resources to do everything we want. We have to choose.

An illustration from my retail past…

Touring boats:◦ Long◦ Sharp entry/exit points◦ Straight keel line◦ = fast, straight line

paddling White water boats:

◦ Short◦ Blunt entry/exit lines◦ Rockered keel◦ = highly maneuverable e

CUSTOMER HAS CUSTOMER HAS TO DECIDE ON ONETO DECIDE ON ONE

What are some choices you’ve had to make or will be making soon based on limited resources?

Remember – time is a resource Think about 3-4 choices you’ve been

forced to make and jot them down What did you have to give up/trade off? What made it worth giving up the other

option? What were the pluses that made it worth more to you?

Share your choices with someone else and discuss differences and commonalities.

Opportunity cost Opportunity cost - - picking one thing picking one thing over another [since over another [since you can’t do both]you can’t do both]What trade-offs have What trade-offs have

you had to make?you had to make?Opportunity cost is not Opportunity cost is not

measured in measured in $$ $$ - but - but in what is given up in in what is given up in order to do it. E.g. if I order to do it. E.g. if I have resources to have resources to make 5 pies OR 8 make 5 pies OR 8 cakes, the opportunity cakes, the opportunity cost of making 5 pies cost of making 5 pies = 8 cakes.= 8 cakes.

3 basic decisions:3 basic decisions:◦ What to produce?What to produce?◦ How to produce it?How to produce it?◦ For whom to produce it?For whom to produce it?

Answers will define the Answers will define the economic systemeconomic system◦ Controlled economy – by and Controlled economy – by and

for the statefor the state◦ Capitalist economy – by and Capitalist economy – by and

for consumers [market and for consumers [market and price]price]

Charting scarcity and choiceCharting scarcity and choice◦ Production Possibilities FrontierProduction Possibilities Frontier◦ So much of THIS means less of So much of THIS means less of

THATTHAT

Can’t go out here

Soviet GDP

U.S. GDP

What are the fixed, What are the fixed, variable and total costs variable and total costs for a movie theater?for a movie theater?

Margin cost [just one Margin cost [just one more]more]

Total and margin Total and margin revenuerevenue

Marginal benefit, cross-Marginal benefit, cross-country training, and one country training, and one more Gatorademore Gatorade

Putting it all together – Putting it all together – Cost-Benefit analysisCost-Benefit analysis◦ Is it worth making more?Is it worth making more?

Some study will need to Some study will need to be done to find out if be done to find out if making this thing, and making this thing, and how many to make is how many to make is worthwhile – i.e. will it worthwhile – i.e. will it make enough money to make enough money to be worth itbe worth it

Key study is a Cost-Key study is a Cost-Benefit AnalysisBenefit AnalysisThe study looks at money The study looks at money

going out [cost] v. money going out [cost] v. money coming in [revenue] to coming in [revenue] to answer the questionanswer the question

Both costs and revenues Both costs and revenues come in several types and come in several types and must be understood if I must be understood if I want to avoid losing want to avoid losing moneymoney

Types of costs [ Money/resources spent to produce]◦ Fixed –

Stay the same regardless of # of units produced

what examples can you think of?◦ Variable –

Costs vary with # of units produced examples?

◦ Total cost – add the first two◦ Marginal cost –

The cost for producing one additional unit

Very helpful in determining whether or not to make more

RevenueRevenue = money coming in. = money coming in. Two categories:Two categories:◦ Total revenue Total revenue = # units sold X = # units sold X

avg. price per unitavg. price per unit◦ Marginal revenue Marginal revenue – how will – how will

total revenue change by sale total revenue change by sale of one more unit? The of one more unit? The amount often changes as # of amount often changes as # of items produced increasesitems produced increases

BenefitBenefit – action taken – action taken anticipating satisfactionanticipating satisfaction◦ Marginal benefit Marginal benefit – additional – additional

profit, etc. from one more profit, etc. from one more producedproduced

◦ Decreasing marginal benefit Decreasing marginal benefit [law of diminishing returns][law of diminishing returns]

◦ Decreasing marginal utility Decreasing marginal utility [cross-country training and [cross-country training and Gatorade]Gatorade]

CB analysis – comparing marginal cost with marginal benefit◦ If marginal cost > marginal benefit, then don’t do it If marginal cost > marginal benefit, then don’t do it

[unless you actually enjoy losing money][unless you actually enjoy losing money]◦ Often the benefits will decrease as more is produced – Often the benefits will decrease as more is produced –

this is called diminishing marginal benefit, or law of this is called diminishing marginal benefit, or law of diminishing returnsdiminishing returns