CH 01

Economics: Theory & Practice 9
th
Edition Welch & Welch
John Wiley & Sons, Inc. 2010 All Rights Reserved
Chapter One:
I ntroduction to Economics
Chapter Objectives
1-2
To define economics and introduce the scarcity and choice problem which underlies economics.
To explore opportunity cost, efficiency, and equity and their relationships to scarcity.
To identify the four factors of production and the income return to each type of factor.
To differentiate between economic theory and economic policy, and introduce the tools
economists use to express theories and policies.
To use the production possibilities model to illustrate and explain the basic problem of scarcity.
To explain (in an appendix) how to construct a graph and interpret the illustrated relationship.16
th
Economics and Scarcity
Economics:
The study of how scarce, or limited,
resources are used to satisfy unlimited
wants and needs; the study of decision
making in a world of scarcity.

Scarcity:
The result of not enough goods and
services to satisfy all wants and needs.

Opportunity Cost:
The cost of a purchase or a decision
measured in terms of a foregone
alternative; what was given up to make
a purchase or carry out a decision.
1-4
th
Economics and Scarcity
Tradeoff:
Giving up one thing for something else.

Value Judgment:
The relative importance one assigns to
an action or alternative.
1-5
th
Efficiency & Equity
Efficiency:
Producing the largest attainable output of a desired quality
with a given set of resources; producing at the lowest
possible cost.
If all goods and services were produced efficiently, society would
experience the greatest possible lessening of the scarcity problem.

Equity:
Justice or fairness in the distribution of goods of goods
and services.
The concept of what constitutes an equitable distribution of goods and
services is controversial because it is based on peoples value judgments.
1-6
th
Factors of Production
Factors of Production:
Persons and things used to produce goods and services; limited in amount;
categorized as labor, capital, land, and entrepreneurship:
Labor physical and mental human effort use to produce goods and services.
Capital items, such as machinery and equipment, used in the production of
goods and services.
Land productive inputs that originate in nature, such as coal and fertile soil.
Entrepreneurship the function of organizing resources for production and
taking the risk of success or failure in a productive enterprise.
1-7
th
Factors and Income
Wages:
Income return to labor.

Interest:
Income return to owners of capital.

Rent:
Income return to owners of land and
resources.

Profit:
Income return to those performing the
entrepreneurial function.
1-8
th
Economics Theory and Policy
Economic Theory:
A formal explanation of the relationship between
economic variables;

Model: the setting within which an economic theory is presented.

Assumptions: Conditions held to be true within a model.

Econometrics: the use of statistics techniques to describe the
relationships between economic variables.
1-9
th
Economics Theory and Policy
Economic Policy:
Action taken to change or remedy an economic
condition, which is often a result of a decision made
by a policymaker.
1-10
th
Tools of the Economist
To express economic theories and policies, economists often use:
Verbal Presentations descriptive statement used to state the relationship
between economic variables
The quantity of coffee demanded will fall as its price increases.
Graphs picture used to illustrate the relationship between economic
variables.
Mathematical Equations written mathematical equation used to prove the
relationship between economic variables:
1-11
th
Scarcity, Model Building & Graphs
In the following model, all of a hypothetical economys
resources will be diverted to the production of only two
goods: Cell Phones and Garden Tractors.
Production Possibilities Table
Lists the possible levels of production in an economy.
1-12
th
Scarcity, Model Building & Graphs
Production Possibilities Curve
Formed when data points from the production possibilities table are
plotted on a graph and connected.

With the introduction of unemployment into the model, the economy is unable
to produce at its full potential.

With the introduction of economic growth into the model, the economy is able
to produce above its previous full potential.
1-13
th
Microeconomics & Macroeconomics
Macroeconomics:
Focuses on the operation of the economy as a whole and the
interactions of the household, business, government, and foreign
sectors in the economy.
It includes such topics as inflation, unemployment, taxes and
government spending, and money.

Microeconomics:
Focuses on the behavior of individual businesses and households
and on specific product and resource markets.
It includes such topics as consumer behavior, cost-benefit
analysis, the determination of business profits, and the
determination of prices in specific markets.
1-14
th
Graphing
Graph:

Picture of a relationship between two variables; variables
are given on the vertical and horizontal axes of the graph,
and the line in the graph provides a visual image of how
those variables are related.
1-15
th
Step 1:
Identify the variables to be placed on the axis.
Step 2:
Assign numbers along the axes.
Always use zero at the origin.
Money data is placed on the vertical axis.
Use equal spaces for equal amounts along the axis.
Step 3:
Plot the data points and link the data points with a line.
Graphing
Graphs can be constructed in three steps:
1-16
th
Graphing
Indirect Relationship:
Both variables move in opposite directions; that is, as one becomes
larger, the other becomes smaller, and vice versa.

Direct Relationship:
Both variables move in the same direction; that is, as one gets larger
or smaller, so does the other.
1-17
th
Graphing
What type of relationship (direct or inverse) is illustrated in
each of these graphs?

Game Attendance to Games Won:
Direct
Hours of Study:
Direct
Price per Bottle of Wine:
Inverse
Types of
Relationships
1-18
th
Graphing
In the graph below to the left, the interval of five pounds results in
a more jagged line and better represents the yearly fluctuations.

In the graph below to the right on the right, the interval of twenty-
five pounds results in a smoother line.

The appearance of data in a graph can be affected by how the axes
of the graph are numbered.
1-19

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