What’s in Economics for You?

Scarcity, Opportunity Cost & Trade

LEARNING OBJECTIVES

A.1 Explain scarcity and describe why you must

make smart choices among your wants

A.2 Define and describe opportunity cost

A.3 Describe how comparative advantage,

specialization, and trade make us all better

off

A.4 Explain how markets connect us all using the

circular flow of economic life

A.5 Illustrate and explain the Three Steps to

Smart Choices

ARE YOU GETTING ENOUGH? SCARCITY AND CHOICE

Because you can never satisfy all of your wants,

making the most out of your life requires smart choices about what to go after,

and what to give up.

SCARCITY AND CHOICE

• Economics

how individuals, businesses, and

governments make the best possible choices

and how those choices interact in markets

• Problem of scarcity arises because of

limited money, time, and energy

GIVE IT UP FOR OPPORTUNITY COST

Opportunity cost is the single most important concept

both in economics and for making smart choices in life.

OPPORTUNITY COST

• Every choice involves a trade-off, you have to

give up something to get something else

• True cost of any choice is the opportunity

cost,

cost of best alternative given up

• For a smart choice, value of what you get

must be greater than value of what you give

up

continued…

• Incentives

rewards and penalties for choices

• You are more likely to

– choose actions with rewards (positive incentives)

– avoid actions with penalties (negative incentives)

– Economics is the social science that studies the choices that individuals, businesses, governments, and entire societies make as they cope with scarcity and the incentives that influence and reconcile those choices.

– Economics is the study of the use of scarce resources to satisfy unlimited human wants.

• 2 main areas of economics. Micro & Macro-

economics

– Microeconomics is the study of choices that individuals and businesses make, the way those choices interact in markets, and the influence of governments.

– Macroeconomics is the study of the performance of the national and global economies.

– analyzes performance of the whole Canadian economy and global economy

• Back to Scarcity

• Possible solutions to allocating scarce resources

First come first serve

Rationing

Lottery

Producer/sellers preference (nepotism/favoritism)

Social norms

Markets

The Big Economic Question

–The basic question that summarize the scope of economics:

–How do choices end up determining what, how, and for whom goods and services get produced? (basic questions of economics)

• A society’s resources are usually divided into

land, labour, capital, and entrepreneurship.

• Economists refer to resources as factors of

production.

• Outputs are goods (tangibles) or services

(intangibles).

• What, How, and For Whom?• What?

– What we produce changes over time.

– E.g. what combination of civilian and military goods will be chosen?

• How?

• Resource allocation determines the quantities

of various goods that are produced

• What combination of labour & capital should be

employed in the production of the good?

• For Whom?

– Who gets the goods and services produced?

– Why do some people get a lot while others get only a little?.

– Answers to What, How and For Whom depends on the economic system

Types of Economic Systems: 4 Cs

Co-operation, customs, capitalism, command

There are Four pure types of economic systems:

• Traditional (Custom)

• Co-operation

• Command

• Free-MarketIn practice, every economy is a mixed economy, in the sense that it combines significant elements of all systems.

Prices and Value

• Value is subjective• Scarcity determines Value• Teachers, Doctors, and Athletes• Water and Diamonds (Paradox of value)• Different values lead to trade

Choosing at the Margin

• Price = marginal value or incremental value not

total value

• Margin = additional (one at a time)

• Benefit that arises from an increase in an

activity = marginal benefit

• Cost of an increase in activity = marginal cost

– Compare marginal benefit to marginal cost in decision making.

The Economic Way of Thinking

• Choices and Tradeoffs

– The economic way of thinking places scarcity and its implication, choice, at center stage.

– You can think about every choice as a tradeoff—an exchange—giving up one thing to get something else.

• Scarcity implies the need for choice

• Every choice has an associated cost –

• - opportunity cost.

• Opportunity cost is defined as the benefit given

up by not choosing the next best alternative.

Consider the choice that must be made by a child who has only 50 cents to spend.

She wishes to spend it all on two types of candy.

Bubble gums cost 5 cents each and lollipops cost 10 cents each.

Combination A is unattainable.

Quantity of Lollipops

Unattainable

Qu

ant

ity o

f Bu

bble

Gu

ms

2 3

4

6

Attainable

5

10

•A

4

8

Combination B is attainable.

The negatively sloped line provides a boundary between attainable and unattainable combinations.

The opportunity cost of getting 1 more lollipop is the 2 bubble gums that must be given up.

Quantity of Lollipops

Unattainable

Qu

ant

ity o

f Bu

bble

Gu

ms

2 3

4

6

Attainable

5

10

4

8

B

•A

Point d illustrates scarcity; it is unattainable with current resources.

Points a and b illustrate choice. They are both attainable, but which one will be chosen?

The production possibilities boundary illustrates:

• scarcity • choice• opportunity cost

The negative slope illustrates opportunity cost.

Attainable combinations

• c

• a

• b

• d

Unattainable combinations

Quantity of Military Goods

Qu

ant

ity o

f Civ

ilia

n G

ood

s

Production possibilitiesboundary

4. Is Productive Capacity Growing?

Point d was initially unattainable. But after sufficient growth, it becomes attainable.

Growth in productive capacity is shown by an outward shift of the production possibilities boundary.

• a

• b

Quantity of Military Goods

Qu

ant

ity o

f Civ

ilia

n G

ood

s

Before growth

• d

After growth

WEIGH MARGINAL BENEFITS & COSTS

• Three Keys to Smart Choices

1 Choose only when additional benefits are greater than additional opportunity costs

2 Count only additional benefits and additional opportunity costs

3 Be sure to count all additional benefits and costs, including implicit costs and externalities

continued…

• Marginal benefits additional benefits from next choice

• Marginal opportunity costs additional opportunity costs from next choice

• Implicit costs opportunity costs of investing your money or time

• Negative (or positive) externalities costs (or benefits) that affect others external to a choice or a trade

Copyright © 2011 Pearson Canada Inc.Appendix A - 28

SCARCITY & CHOICE

1. In your own words define scarcity.

2. What does the definition of economics have

to do with scarcity?

3. Social activists argue that materialism is

one

of the biggest problems with society: If we

all wanted less, instead of always wanting

more, there would be plenty to go around

for everyone. What do you think of this

argument?

Copyright © 2011 Pearson Canada Inc.Appendix A - 29

OPPORTUNITY COST

1. What is the opportunity cost of any choice?

2. What is the biggest difference between the money cost of attending college and the opportunity cost?

3. This weekend, your top choices are going camping with your friends or working extra hours at your part-time job. What facts (think rewards and penalties), if they changed, would influence your decision?

Copyright © 2011 Pearson Canada Inc.Appendix A - 30

GAINS FROM TRADE

1. If you spend the next hour working at

Sears,

you will earn $10. If you instead spend the

next hour studying economics, your next

test score

will improve by 5 marks. Calculate the

opportunity cost of studying in terms of

dollars given up per mark. Calculate the

opportunity cost of working in terms of

marks given up per dollar.continued…

Copyright © 2011 Pearson Canada Inc.Appendix A - 31

2. Highway 407 ETR in Toronto is a toll road that uses transponders to keep track of how many kilometres you drive, and then sends a monthly bill. Highway 401 runs parallel to Highway 407 and is free. Why do drivers voluntarily pay the tolls? (Use opportunity cost in your answer.)

Suppose the government could estimate the cost per kilometre of the pollution damage from your driving, and send you a similar monthly bill. How would that additional cost affect your decision to drive?