Chapter 1: Thinking Like an Economist

Scarcity Principle (No-Free-Lunch Principle):

although we have boundless needs and wants, the resources available to us are limited. So having more of one good thing usually means having less of another.

marginal benefit:

the increase in total benefit that results from carrying out one additional unit of an activity

marginal cost:

the increase in total cost that results from carrying out one additional unit of an activity

sunk cost:

-a cost that is beyond recovery at the moment a decision must be made -irrelevant to the decision of whether to take the action

opportunity cost:

-the value of what must be forgone to undertake an activity -not the combined value of all things forgone, but only the value of the best alternative (what you would have chosen instead)

The Incentive Principle is an example of...

...a positive economic principle. It stresses that relevant costs and benefits usually help us predict behavior (but does not insist that people behave rationally)

The Cost-Benefit Principle is an example of a...

...normative economic principle, one that provides guidance about how we should behave.

The Cost-Benefit Principle is not always a...

...positive, or descriptive, economic principle, one that describes how we actually will behave.

You should only measure costs and benefits as absolute dollar amounts, rather than...

...proportions. ($'s, not %'s)

The only benefits we should consider are...

...those that would not occur unless the action were taken.

The only costs that should influence a decision about whether to take an action are...

...those we can avoid by not taking the action.

One of the Core Principles of economics is that...

...trade-offs are widespread and important.

3 Important Decision Pitfalls:

1) Measuring costs and benefits as proportions rather than absolute dollar amounts 2) Ignoring implicit costs 3) Failure to think at the margin

Streaming economy:

1) willingness to pay is low 2) willingness to produce?

Scarcity is involved in:

global warming, political elections, career choices, buying bottled water

Bob purchased a beach condo for $500K. It was recently valued at $300K. Should he use this information in deciding whether to sell?

Nope. $500K is a sunk cost.

The Incentive Principle:

a person (or a firm or a society) is more likely to take an action if its benefit rises, and less likely to take it if its cost rises. In short, incentives matter.

Cost-Benefit Principle:

an individual (or a firm or a society) should take an action if, and only if, the extra benefits from taking the action are at least as great as the extra costs

positive economic principle:

one that predicts how people will behave

normative economic principle:

one that says how people should behave

In studying choice under scarcity, we assume that people are:

rational (with well-defined goals, trying to fulfill them as best they can)

The Cost-Benefit Principle is a fundamental tool for the study of how...

rational people make choices.

economic surplus:

the benefit of taking an action minus its cost

economics:

the study of how people make choices under conditions of scarcity and of the results of those choices for society

microeconomics:

the study of individual choice under scarcity and its implications for the behavior of prices and quantities in individual markets.

macroeconomics:

the study of the performance of national economies and the policies that governments use to try to improve that performance -inflation, unemployment, growth

average benefit:

the total benefit of undertaking n units of an activity divided by n

average cost:

the total cost of undertaking n units of an activity divided by n