Macroeconomics

more wheat,

or any combination in between.

Economic growth shifts the PPF outward.

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The PPF shows the tradeoff between the outputs of different goods at a given time, but the tradeoff can change over time.

For example, over time, the economy might get more workers (or more factories or more land). Or, a more efficient technology might be invented. Both events—an increase in the economy’s resources or an improvement in technology—cause an expansion in the set of opportunities. That is, both allow the economy to produce more of one or both goods.

This is a simple example of economic growth, an important subject that gets its own chapter in the macroeconomics portion of the textbook.

In the example shown on this slide, economic growth causes a parallel outward shift of the PPF. Since the new PPF is parallel to the old one, the tradeoff between the two goods is the same. However, this need not always be the case. For example, if a new technology had more impact on the computer industry than on the wheat industry, then the horizontal (computer) intercept would increase more than the vertical (wheat) intercept, and the PPF would become flatter: the opportunity cost of computers would fall, because the technology has made them relatively cheaper (relative to wheat). Going into more detail here is probably beyond the scope of this chapter.

The Shape of the PPF

The PPF could be a straight line or bow-shaped

Depends on what happens to opportunity cost as economy shifts resources from one industry to the other.

If opp. cost remains constant, PPF is a straight line.

(In the previous example, opp. cost of a computer was always 10 tons of wheat.)

If opp. cost of a good rises as the economy produces more of the good, PPF is bow-shaped.

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Why the PPF Might Be Bow-Shaped

Mountain Bikes

Beer

As the economy shifts resources from beer to mountain bikes:

PPF becomes steeper

opp. cost of mountain bikes increases

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Why the PPF Might Be Bow-Shaped

At point A, most workers are producing beer, even those who are better suited to building bikes.

So, do not have to give up much beer to get more bikes.

A

Mountain Bikes

Beer

At A, opp. cost of mtn bikes is low.

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Here, we are using “workers” for the more general “resources,” to keep things simple and consistent with the previous examples.

Why the PPF Might Be Bow-Shaped

At B, most workers are producing bikes. The few left in beer are the best brewers.

Producing more bikes would require shifting some of the best brewers away from beer production, causing a big drop in beer output.

B

Mountain Bikes

Beer

At B, opp. cost of mtn bikes is high.

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Why the PPF Might Be Bow-Shaped

So, PPF is bow-shaped when different workers have different skills, different opportunity costs of producing one good in terms of the other.

The PPF would also be bow-shaped when there is some other resource, or mix of resources with varying opportunity costs

(E.g., different types of land suited for different uses).

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The bow-shaped PPF is more realistic. However, the linear PPF is simpler to work with, and we can learn a lot about how the economy works using the linear PPF. In Chapter 3, we will use a linear PPF to show how trade can make two countries (or two individuals) better off.

Note: In the “Problems and Applications” at the end of the chapter, problem 4 asks students to construct a PPF for an economy with three different workers (Larry, Moe, and Curly), each with a different opportunity cost. The PPF ends up having three line segments (one for each worker), which--very roughly--approximates a bow-shape. After students work through and understand this problem, it should not be hard for them to understand the following: the more different kinds of workers (or, more generally, resources) there are, the closer the PPF will resemble a smooth bow shape. In an actual economy like the U.S., there are millions of different workers with different opportunity costs, so a smooth bow-shaped PPF is a nearly perfect approximation to the actual PPF.

The PPF: A Summary

The PPF shows all combinations of two goods that an economy can possibly produce, given its resources and technology.

The PPF illustrates the concepts of tradeoff and opportunity cost, efficiency and inefficiency, unemployment, and economic growth.

A bow-shaped PPF illustrates the concept of increasing opportunity cost.

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Microeconomics and Macroeconomics

Microeconomics is the study of how households and firms make decisions and how they interact in markets.

Macroeconomics is the study of economy-wide phenomena, including inflation, unemployment, and economic growth.

These two branches of economics are closely intertwined, yet distinct—they address different questions.

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The Economist as Policy Advisor

As scientists, economists make positive statements, which attempt to describe the world as it is.

As policy advisors, economists make normative statements, which attempt to prescribe how the world should be.

Positive statements can be confirmed or refuted, normative statements cannot.

Govt employs many economists for policy advice. E.g., the U.S. President has a Council of Economic Advisors, which the author of this textbook chaired from 2003 to 2005.

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ACTIVE LEARNING 3 Identifying positive vs. normative

Which of these statements are “positive” and which are “normative”? How can you tell the difference?

a. Prices rise when the government increases the quantity of money.

b. The government should print less money.

c. A tax cut is needed to stimulate the economy.

d. An increase in the price of burritos will cause an increase in consumer demand for music downloads.

© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

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ACTIVE LEARNING 3 Answers

a. Prices rise when the government increases the quantity of money.

Positive – describes a relationship, could use data to confirm or refute.

b. The government should print less money.

Normative – this is a value judgment, cannot be confirmed or refuted.

© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

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ACTIVE LEARNING 3 Answers

c. A tax cut is needed to stimulate the economy.

Normative – another value judgment.

d. An increase in the price of burritos will cause an increase in consumer demand for music downloads.

Positive – describes a relationship. Note that a statement need not be true to be positive.

© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

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Why Economists Disagree

Economists often give conflicting policy advice.

They sometimes disagree about the validity of alternative positive theories about the world.

They may have different values and, therefore, different normative views about what policy should try to accomplish.

Yet, there are many propositions about which most economists agree.

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Propositions about Which Most Economists Agree (and % who agree)

A ceiling on rents reduces the quantity and quality of housing available. (93%)

Tariffs and import quotas usually reduce general economic welfare. (93%)

The United States should not restrict employers from outsourcing work to foreign countries. (90%)

The United States should eliminate agriculture subsidies. (85%)

continued…

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This slide and the next show several of the Propositions appearing in Table 1 of the chapter. For the full list, see Table 1 in the chapter.

Note: Some of the terms appearing in these statements have not yet been defined, so you may wish to define them to students as they appear on the screen.

If you’re pressed for time, delete the following slide and refer your students to Table 1 in the chapter.

Propositions about Which Most Economists Agree (and % agreeing)

The gap between Social Security funds and expenditures will become unsustainably large within the next fifty years if current policies remain unchanged. (85%)

A large federal budget deficit has an adverse effect on the economy. (83%)

A minimum wage increases unemployment among young and unskilled workers. (79%)

Effluent taxes and marketable pollution permits represent a better approach to pollution control than imposition of pollution ceilings. (78%)

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…Continued from previous slide.

FYI: Who Studies Economics?

Ronald Reagan, President of the United States

Barbara Boxer, U.S. Senator

Sandra Day-O’Connor, Former Supreme Court Justice

Anthony Zinni, Former General, U.S. Marine Corps

Kofi Annan, Former Secretary General, United Nations

Meg Witman, Chief Executive Officer, eBay

Steve Ballmer, Chief Executive Officer, Microsoft

Arnold Schwarzenegger, Former Gov. of California, Actor

Ben Stein, Political Speechwriter, Actor, Game Show Host

Mick Jagger, Singer for the Rolling Stones

John Elway, NFL Quarterback

Tiger Woods, Golfer

Diane von Furstenburg, Fashion Designer

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This FYI lists people who studied economics in college. It is a fun way to lighten up the lecture. On the other hand, if you’re running short on time, this is a good candidate to skip—students will readily find it when they read the chapter.

(Due to space limitations, this slide omits a few of the names in the corresponding FYI box in the text.)

SUMMARY

As scientists, economists try to explain the world using models with appropriate assumptions.

Two simple models are the Circular-Flow Diagram and the Production Possibilities Frontier.

Microeconomics studies the behavior of consumers and firms, and their interactions in markets. Macroeconomics studies the economy as a whole.

As policy advisers, economists offer advice on how to improve the world.

© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

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