Definition of Economics All economic questions arise from scarcity.

Because wants exceed the resources available to satisfy them, we cannot have everything we want and must make choices. Choices depend on incentives-rewards that encourage actions and penalties that discourage action. Economics is the social science that studies the choices people make to cope with scarcity. Microeconomics studies choices of individuals and businesses. Macroeconomics studies national and global economies. Two Big Economic Questions Two questions summarize the scope of economics: How do choices determine what, how, and for whom goods and services are produced, and in what quantities? How can choices made in the pursuit of self-interest also promote the social interest? The factors of production used to produce goods and services are land (shorthand for all natural resources), which earns rent. labour (includes human capital-knowledge and skills from education, training, experience), which earns wages. capital (machinery), which earns interest. Entrepreneurship, which earns profit. Choices made in self-interest are best for the person making them. Choices that are in the social interest are best for society as a whole. Markets often provide incentives so that the pursuit of our self-interest also promotes the social interest; but self-interest and social interest sometimes conflict. Economic principles allow us to understand when self-interest promotes the social interest, when they conflict, and policies to reduce those conflicts. The Economic Way of Thinking A choice is a tradeoff-we give up one thing to get something else-and the opportunity cost of any action is the highest-valued alternative forgone. Opportunity cost is the single most important concept for making choices. Economic tradeoffs: Guns versus "butter" tradeoffs (between any pair of goods). What, how and "for whom" tradeoffs. The big tradeoff - between equality and efficiency. Government redistribution using taxes and transfers weaken incentives, so a more equally shared pie results in a smaller pie. We make choices in small steps, or at the margin, and choices are influenced by incentives. Economic choices are made by comparing the additional benefit -marginal benefit- and additional costmarginal cost -of a small increase in an activity. If marginal benefit exceeds marginal cost, we choose to increase the activity. By choosing only activities that bring greater benefits than costs, we use our scarce resources in the way that makes us as well off as possible. Given a change in incentives-rewards and penalties for particular actions-we can predict how choices will change by looking for changes in marginal benefit and marginal cost.

Economists assume that it is human nature for all people-consumers, producers, politicians, public servantsto pursue their self-interest. Incentives are key for reconciling self-interest and the social interest. Economists identify incentive systems and institutions (like a legal system protecting personal security and private property) that result in self-interested choices leading to the social interest. Economics as Social Science and Policy Tool Economics, as a social science, distinguishes between positive statements-statements about what is, that can be tested by checking them against the facts. normative statements-statements about what ought to be, that depend on values and cannot be tested. Economics attempts to understand the economic world and is concerned with positive statements. Economists try to discover positive statements that are consistent with observed facts by unscrambling cause and effect. creating economic models-simpliied description of the economic world including only features needed for purpose ofexplanation. testing economic models, comparing predictions with the facts, using . natural experiments-where one factor is different in real world; other things are equal. . statistical investigations-correlations between variables. economic experiments-putting people in decision-making situations and changing one variable to see response. Economics is a useful toolkit for making decisions about personal economic policy business economic policy government economic policy For any normative policy objective, economics provides a method ofevaluating alternative solutions-evaluate marginal benefits and marginal costs to ind solution with itest gain.