Chapter 2

Economic Tools
and
Economic Systems
Choice and Opportunity Cost
Scarcity
Make a choice
Pass up another opportunity
Opportunity cost
• The value of the best alternative forgone
• Opportunity lost
– Monetary aspect 货币金融方面
• Non-monetary aspect
–
–
–
–

2
 The Opportunity Cost of College
• Value of best alternative forgone
– Forgone income (full-time job; $20,000)
– Minus income earned as student (part-
time work; $10,000)
• Plus direct cost of college
– Tuition, fees, books ($6,000)
• $20,000 - $10,000 + $6,000 = $16,000
– Not included: room, board, personal
expenses 3
Opportunity Cost
Opportunity cost is subjective
‘the road not taken’
Calculating opportunity cost
Requires time and information
•
Time: the ultimate constraint
–
Opportunity cost varies with circumstance
•
Depends on the alternative
–
•
•
–

4
Sunk Cost and Choice

5
Law of Comparative Advantage
Specialize in the task that you do better
Law of comparative advantage 相对优势
Specialize in producing a good IF
Lower opportunity cost of producing it
• Specialization and exchange
• Better off 比较富裕
–
Absolute advantage 绝对的优势
– Use fewer resources
•
–
•
–

6
Law of Comparative Advantage
No specialization: 2 term papers; 3 shirts
Activity You Your
roommate
Type 1 term ½ hour 1 hour
paper
Iron 1 shirt 10 minutes 5 minutes

One hour I term paper 1 term paper

3 shirts No shirts
Opp. Cost to 3 shirts 12 shirts
type 1 paper
Opp. Cost to 1/3 term paper 1/12 term
iron 1 shirt paper
7
Law of Comparative Advantage
Specialization and exchange
Activity You (type Yr roommate
paper) (irons shirt)

Type 1 term ½ hour 1 hour

paper

Iron 1 shirt 10 minutes 5 minutes

One hour 2 term papers 12 shirts

Total: 2 papers; 12 shirts. Much better than

no specialization 8
Specialization and Exchange
Exchange: You type your roommate’s paper and he irons your 6 shirts
Both are better off
You have lower opp. cost to type paper, so you specialize in typing papers
Your roommate has lower opp. cost in ironing shirt, so he specializes in ironing shirts
This is the Law of Comparative Advantage

9
No specialization: you have absolute advantage
Total: 2 papers; 3 shirts

Activity You Your

roommate
Type 1 term ½ hour 1 hour
paper
Iron 1 shirt 10 minutes 12 minutes

One hour I term paper 1 term paper

3 shirts No shirts
Opp. Cost to 3 shirts 5 shirts
type 1 paper
Opp. Cost to 1/3 term paper 1/5 term paper
iron 1 shirt
10
Law of Comparative Advantage
Specialization and exchange
Activity You (type Yr roommate
paper) (irons shirt)

Type 1 term ½ hour 1 hour

paper

Iron 1 shirt 10 minutes 12 minutes

One hour 2 term papers 5 shirts

Total: 2 papers; 5 shirts. Still better than no

specialization 11
Specialization and Exchange
Barter 物物交换
Trade products for other products
Simple economies
Few goods
Little specialization
• Money
– Medium of exchange
– Facilitates
• exchange 减轻挑战
•
Greater specialization

•
–
–
–

12
Division of Labor
Division of labor 劳动力的分工
Specialization; Increased productivity
Individual preferences; natural ability
Experience
• No need to shift between tasks
Laborsaving machinery 劳工保存的体系
– •
Downside:
• Repetitive, tedious 重复的单调的
• Routine tasks - robots
•

– •
•

13
Efficiency and the PPF
• Production Possibilities Frontier (PPF)
• Assumptions
– Output: consumer and capital goods 资本货物
– Production: 1 year
– Fixed resources (quantity, quality)
– Fixed technology
– Fixed ‘rules of the game’
• Resources - scarce for the economy
• Economy’s production options

14
Efficiency and the PPF
PPF
Possible combinations of
Consumer and Capital goods that
Can be produced using
•
All resources efficiently
–
Inefficient combinations
–
Unattainable combinations 达不到的
–
–
•
•

15
 Exhibit 1
The Economy’s Production Possibilities Frontier
50 A
B PPF (AF): Economy uses
48
Consumer goods (millions of units per year)

C all resources and

43 technology efficiently
U

34 D Unattainable
PPF: bowed out; law of
30
Inefficient increasing opportunity
cost
I E
20
Inefficient: inside PPF
10
Unattainable: outside PPF
F
0 10 20 30 40 50

Capital goods (millions of units per year)

16
The Shape of the PPF
Movement down along PPF
Give up some consumer goods to get more capital goods
Bowed-out shape 放弃
• Law of increasing opportunity costs
–
Slope of PPF
• Opportunity cost of 1 unit capital good
•
•
–

17
What Can Shift the PPF?
Economic growth
Expansion in the economy’s PPF
1. Changes in resource availability
Outward shift of PPF – increase in:
Size, health of labor force
• Skills of labor force
– Availability of other resources
1. Increases in capital stock股本
• • More output; outward shift of PPF
•
•

18
What Can Shift the PPF?
3. Technological change
Employs resources more efficiently
Outward shift of PPF
4. Improvements in the rules of the game
Formal and informal institutions制度
•
Economic growth
•
Outward shift of PPF

•
•
•

19
 Exhibit 2 (a), (b)
Shifts of the economy’s PPF
(a) Increase in available resources (b) Decrease in available resources

A’
Consumer goods

Consumer goods
A A
A’

F F’
Capital goods
(a) Outward shift of PPF – increase in
available resources; better technology
- enhanced production of both capital
and consumer goods
F’ F
Capital goods
(b) Inward shift of PPF – decrease in
available resources
- decreased production of both
capital and consumer goods 20
 Exhibit 2 (c), (d)
Shifts of the economy’s PPF
(c) Change in resources that
benefits consumer goods
(d) Change in resources,
technology, or rules that
benefits capital goods

A’

Consumer goods
Consumer goods

A A

F F F’
Capital goods Capital goods
21
Rules of the Game and Economic Development
• “Ease of doing business” 解除
• Friendly business climate
– High standard of living
– Sophisticated economy 精锐尖端的经济
体制
• Difficult business climate
– Low standard of living
– Poor economy
22
Exhibit 3
Best 10 and worst 10 among 175 countries based on
ease of doing business
Best 10 Worst 10
1. Singapore 166. Burundi
2. New Zealand 167. Central African Republic
3. United States 168. Sierra Leone
4. Canada 169. Sao Tome and Principe
5. Hong Kong 170. Eritrea
6. United Kingdom 171. Republic of Congo
7. Denmark 172. Chad
8. Australia 173. Guinea-Bissau
9. Norway 174. East Timor
10. Ireland 175. Democratic Republic of Congo

23
 Rules of the Game and Economic Development
• Possible explanations for bad business
environment
– Bad administrative systems
– Favoritism in governmental jobs
– Corruption 贪污的
– Bribes 贿赂

24
What We Learn from the PPF?
Efficiency
Scarcity缺乏
Opportunity cost机会成本
Law of increasing opportunity cost
• Economic growth
• Choice
– Costs
– Benefits
–
•
–
–

25
Economic Systems
Three questions
What?
How?
For whom?
• Economic system
– Mechanisms构造机制
– Institutions制度
– Answer the three questions
•
–
–
–

26
Economic Systems
Criteria标准
Ownership of resources资源所有权
Allocation of resources
Incentives
•
Range from
–
Pure capitalism, to纯资本
–
Pure command system控制体系
–
•
–
–

27
Pure Capitalism

28
Pure Capitalism: Flaws 缺点
No central authority没有中心权力
People with no resources could starve
• Monopoly垄断
• Side effects 副作用 for people not involved
• No public goods
•
•

29
Pure Command System
Public/communal ownership of property
Government planners
Central plans
Direct resources
•
Coordinate production协调
•
Answer the three questions
–
Communism 共产主义
–
–
–
•

30
Pure Command System: Flaws

31
Mixed and Transitional Economies

32
 Tutorial Classes

Wednesdays
Time Place
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Thursdays
Time Place
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11-12 noon BT 139
12-1 pm BT 138