HO CHI MINH CITY OPEN UNIVERSITY

ADVANCED STUDY PROGRAM

TS: Nguyen Thi Thanh Thuy

OBJECTIVES
 Explain the basic definitions, concepts, processes and theories of
economics in general
 Explain microeconomics in particular such as equilibrium in a
market economy, supply and demand theory, elasticity, consumer
behaviors and decisions.
 Analyse consumer behaviors and decisions, causes of changes in
the prices of commodities, and impacts of government policies on
the micro-economy.
 Identify the different types of market structures (complete
competition, complete monopoly, exclusive competition, and
oligopoly).
 Interpret the meaning of supply and demand elasticity and
their applications in business
 Use the supply-and-demand model to analyze changes in market
prices.
 Analyze consumer behaviors and choices.
 Analyze the behavior of businesses in different market structures.
 Calculate the elasticity of demand by price, cross-price, and income;
the elasticity of supply by price. 2
 CONTENTS
W6: ECONOMICS OF
W1: INTRODUCTION
THE LABOR MARKET

W2: DEMAND AND

W7:CONSUMER
SUPPLY HOW
THEORY
MARKETS WORK
W8:PRIMARY
W3: MARKET AND
DIMENSION OF
WELFARE
MACRO ECONOMICS
W4: THE ECONOMIS
W9:REAL ECONOMY
OF THE PUBLIC
IN THE LONG RUN
SECTORS
W5: FIRM BEHAVIOR W10: MONEY AND 3
AND INSDUSTRIAL PRICES
ORGANIZATION
 EVALUATION

Class participation,
quizzes 30 %

LMS assignments
GRADE 20%

Final exam : 50%

Multiple choice
question items
 MATERIALS
TEXTBOOKS
N. Gregory Mankiw (2012),Principles of Economics, Sixth
Edition

References
Robert H. Frank ans Ben S. Bernanke (2011),Principles of
Microeconomics, Third Edition. The McGraw-Hill

Campbell R. McConnel, Stanley L. Brue and Sean M.

Flynn (2009), Microeconomics, Eighteenth edition.
McGraw-Hill

Pindyck Robert S. and Rubinfeld L. Daniel (2013)

Microeconomics, 8th edition, Pearson Prentice Hall 5
HO CHI MINH CITY OPEN UNIVERSITY
ADVANCED STUDY PROGRAM

Th.S: Nguyễn Thị Thanh Thủy

 LEARNING OBJECTIVES
After completing this chapter, students will be
able to answer
 What kinds of questions does economics address?
 What are the principles of how people make
decisions, how people interact and how the economy
as a whole works
 What are economists’ two roles? How do they differ
 How do economist use model in the
 What are the elements of the Circular-Flow Diagram?
 What is the Production Possibilities Frontier ? How is
the Production Possibilities Frontier related to
opportunity cost ?

 OUTLINE

What economics is all about

How people make decisions

How people interact

How the economy as a whole works

The economist as scientist

 WHAT ECONOMICS IS ALL ABOUT

 Economics is the study of how people make choices

under scarcity
What is scarcity?

Scarcity means that resources are limited. There are not

enough resources available to satisfy everyone’s wants.
This is clearly true for individuals.
Your income is limited. You cannot buy everything you
want, so you must choose between different alternatives.
Your time is also limited. You cannot do everything you
want to, so you are forced to choose between different
alternatives. If you choose to spend the day at the beach,
you give up going to class or working
 WHAT ECONOMICS IS ALL ABOUT

 Scarcity refers to the limited nature of society’s

resources.
 Economics is the study of how society manages
its scarce resources, including
◦ How people decide how much to work, save, and
spend, and what to buy
◦ How firms decide how much to produce, how many
workers to hire
◦ How society decides how to divide its resources
between national defense, consumer goods, protecting
the environment, and other needs
TEN PRINCIPLES OF ECONOMICS
HOW PEOPLE MAKE DECISIONS

 Decision making is at
the heart of economics.

 The first four principles

deal with how people
make decisions.

CHAPTER 1 TEN PRINCIPLES OF

ECONOMICS
HOW PEOPLE MAKE DECISIONS
Principle #1: People Face Tradeoffs

All decisions involve tradeoffs. Examples:

 Going to a party the night before your midterm
leaves less time for studying.
 Having more money to buy stuff requires
working longer hours, which leaves less time for
leisure.
 Protecting the environment requires resources
that might otherwise be used to produce
consumer goods.
HOW PEOPLE MAKE DECISIONS
Principle #1: People Face Tradeoffs

 Society faces an important tradeoff:

efficiency vs. equity
 Efficiency: getting the most out of scarce
resources
 Equity: distributing prosperity fairly among
society’s members
 Tradeoff: To increase equity, can redistribute
income from the well-off to the poor.
But this reduces the incentive to work and produce,
and shrinks the size of the economic “pie.”
HOW PEOPLE MAKE DECISIONS
Principle #2: The cost of something is what you give
up to get it

 Making decisions requires comparing the costs

and benefits of alternative choices.
 The opportunity cost of any item is whatever
must be given up to obtain it.
 It is the relevant cost for decision making.
HOW PEOPLE MAKE DECISIONS
Principle #2: The cost of something is what you give
up to get it

Examples:
The opportunity cost of…
…going to college for a year is not just the tuition,
books, and fees, but also the foregone wages.
…seeing a movie is not just the price of the ticket,
but the value of the time you spend in the
theater.
HOW PEOPLE MAKE DECISIONS
Principle #3: Rational People Think at the Margin

 A person is rational if she systematically and

purposefully does the best she can to achieve her
objectives.
 Many decisions are not “all or nothing,” but involve
marginal changes – incremental adjustments to an
existing plan.
 Evaluating the costs and benefits of marginal changes is
an important part of decision making.
HOW PEOPLE MAKE DECISIONS
Principle #3: Rational People Think at the Margin

Examples:
 A student considers whether to go to college
for an additional year, comparing the fees &
foregone wages to the extra income he could
earn with an extra year of education.
 A firm considers whether to increase output,
comparing the cost of the needed labor and
materials to the extra revenue.
HOW PEOPLE MAKE DECISIONS
Principle #4: People Respond To Incentive

 Incentive: something that induces a person to

act, i.e. the prospect of a reward or punishment.
 Rational people respond to incentives because
they make decisions by comparing costs and
benefits. Examples:
◦ In response to higher gas prices,
sales of “hybrid” cars (e.g., Toyota Prius) rise.
◦ In response to higher cigarette taxes,
teen smoking falls
HOW PEOPLE MAKE DECISIONS
Exercise

You are selling your 1996 Mustang. You have already

spent $1000 on repairs.
At the last minute, the transmission dies. You can pay
$600 to have it repaired, or sell the car “as is.”
In each of the following scenarios, should you have the
transmission repaired?
A. Blue book value is $6500 if transmission works,
$5700 if it doesn’t
B. Blue book value is $6000 if transmission works,
$5500 if it doesn’t
HOW PEOPLE MAKE DECISIONS
Exercise

Cost of fixing transmission = $600

A. Blue book value is $6500 if transmission works,
$5700 if it doesn’t
Benefit of fixing the transmission = $800
($6500 – 5700).
It’s worthwhile to have the transmission fixed.
B. Blue book value is $6000 if transmission works,
$5500 if it doesn’t
Benefit of fixing the transmission is only $500.
Paying $600 to fix transmission is not worthwhile.
HOW PEOPLE MAKE DECISIONS
Answers

Observations:
 The $1000 you previously spent on repairs is
irrelevant. What matters is the cost and benefit
of the marginal repair (the transmission).
 The change in incentives from scenario A to
scenario B caused your decision to change.
HOW PEOPLE INTERACT

 An “economy” is just a
group of people
interacting with
each other.
 The next
three principles
deal with how people
interact.
HOW PEOPLE INTERACT
Principle #5: Trade Can Make Everyone Better Off

 Rather than being self-sufficient, people can

specialize in producing one good or service and
exchange it for other goods.
 Countries also benefit from trade &
specialization:
◦ get a better price abroad for goods they
produce
◦ buy other goods more cheaply from abroad
than could be produced at home
HOW PEOPLE INTERACT
Principle #6: Market Are Usually A Good Way to
Organize Economic Activity

 A market is a group of buyers and sellers.

(They need not be in a single location.)
 “Organize economic activity” means determining
◦ What goods to produce
◦ How to produce them
◦ How much of each to produce
◦ Who gets them
HOW PEOPLE INTERACT
Principle #6: Market Are Usually A Good Way to
Organize Economic Activity
HOW PEOPLE INTERACT
Principle #6: Market Are Usually A Good Way to
Organize Economic Activity

 In a market economy, these decisions result from the

interactions of many households and firms.

 Famous insight by Adam Smith in The Wealth of

Nations (1776):

Each of these households and firms acts as if “led by an

invisible hand” to promote general economic well-
being.
HOW PEOPLE INTERACT
Principle #6: Market Are Usually A Good Way to
Organize Economic Activity

 The invisible hand works through the price system:

◦ The interaction of buyers and sellers determines
prices of goods and services.
◦ Each price reflects the good’s value to buyers and the
cost of producing the good.
◦ Prices guide self-interested households and firms to
make decisions that, in many cases, maximize
society’s economic well-being.
HOW PEOPLE INTERACT
Principle #7: Government Can Sometimes Improve
Market Outcomes

 Important role for govt: enforce property rights (with

police, courts)
 People are less inclined to work, produce, invest, or
purchase if large risk of their property being stolen.
◦ A restaurant won’t serve meals if customers
do not pay before they leave.
◦ A music company won’t produce CDs if too many
people avoid paying by making illegal copies
HOW PEOPLE INTERACT
Principle #7: Government Can Sometimes Improve
Market Outcomes

 Govt may alter market outcome to promote efficiency

 Market failure, when the market fails to allocate
society’s resources efficiently. Causes:
◦ externalities, when the production or consumption
of a good affects bystanders (e.g. pollution)
◦ market power, a single buyer or seller has
substantial influence on market price (e.g. monopoly)
 In such cases, public policy may increase efficiency.
HOW PEOPLE INTERACT
Principle #7: Government Can Sometimes Improve
Market Outcomes

 Govt may alter market outcome to promote equity

 If the market’s distribution of economic well-being
is not desirable, tax or welfare policies can
change how the economic “pie” is divided.
 DISCUSSION QUESTIONS

In each of the following situations, what is the

government’s role? Does the government’s
intervention improve the outcome?
a. Public schools for K-12
b. Workplace safety regulations
c. Public highways
d. Patent laws, which allow drug companies to
charge high prices for life-saving drugs
 .
HOW THE ECONOMY AS A WHOLE WORKS

 The last three

principles deal
with the economy
as a whole.
HOW THE ECONOMY AS A WHOLE WORKS
Principle #8: A country’s standard of living depends on
its ability to produce goods and services

 The most important determinant of living standards:

productivity, the amount of goods and services
produced per unit of labor.
 Productivity depends on the equipment, skills, and
technology available to workers.
 Other factors (e.g., labor unions, competition from
abroad) have far less impact on living standards.
HOW THE ECONOMY AS A WHOLE WORKS
Principle #8: A country’s standard of living depends on
its ability to produce goods and services

 Huge variation in living standards across

countries and over time:
◦ Average income in rich countries is more than
ten times average income in poor countries.
◦ The U.S. standard of living today is about eight
times larger than 100 years ago.
HOW THE ECONOMY AS A WHOLE WORKS
Principle #9: Prices rise when the government prints
too much money

 Inflation: increases in the general level of

prices.
 In the long run, inflation is almost always caused
by excessive growth in the quantity of money,
which causes the value of money to fall.
 The faster the govt creates money, the greater
the inflation rate.
HOW THE ECONOMY AS A WHOLE WORKS
Principle #10: Society faces a short-run tradeoff
between inflation and unemployment

 In the short-run (1 – 2 years), many economic

policies push inflation and unemployment in
opposite directions.
 Other factors can make this tradeoff more or
less favorable, but the tradeoff is always
present.
THE ECONOMIST AS A SCIENTIST

Economists play two roles:

1. Scientists: try to explain the world
2. Policy advisors: try to improve it

The economists employ the scientific method, the

dispassionate development and testing of theories about
how the world works

The economic way of thinking . . .

Involves thinking analytically and objectively.
Makes use of the scientific method
THE ECONOMIST AS A SCIENTIST

The scientific method

Develops theories, collects, and analyzes data
to prove the theories.
Uses abstract models to help explain how a
complex, real world operates.

Observation, Theory and More Observation!

THE ECONOMIST AS A SCIENTIST

 Assumption
◦ Simplify the complex world and make it easier
to understand
◦ Example: to study international trade, assume
two countries and two goods
 Economists use models to study economic
issues
◦ Highly simplified representation of a more
complicated reality
 THE ECONOMIST AS A SCIENTIST
 Examples of models:
◦ The model teeth at the dentist’s office
◦ A model of human anatomy from high
school biology class
◦ A road map Don’t forget to
floss!

©ittipon/Shutterstock.com

©wavebreakmedia/Shutterstock.com

©Accord/Shutterstock.com
THE ECONOMIST AS A SCIENTIST

Economic Models
 Economist use models to simplify reality in order
to improve our understanding of the world
 Economist use model to study economic issues

Two of the most basic economic models include:

The Circular Flow Model
The Production Possibilities Frontier
THE ECONOMIST AS A SCIENTIST

Economic Models
The circular-flow model is a simple way to
visually show the economic transactions that
occur between households and firms in the
economy
THE ECONOMIST AS A SCIENTIST
The circular flow
Households:
▪ Own the factors of production,
sell/rent them to firms for income
▪ Buy and consume goods & services

Households
Firms

Firms:
▪ Buy/hire factors of production,
use them to produce goods and services
▪ Sell goods & services

44
THE ECONOMIST AS A SCIENTIST
The circular flow
Revenue Spending
Markets for Goods
& Services
G & S sold G&S
bought

Firms Households

Factors of Labor, land,

production capital
Markets for Factors
of Production

Wages, rent, profit Income

THE ECONOMIST AS A SCIENTIST
The production possibilities frontier
The PPF is a graph showing the various
combinations of output that the economy can
possibly produce given the available factors of
production and technology.

Example:
Two goods: computers and wheat
One resource: labor (measured in hours)
Economy has 50,000 labor hours per month available for
production
THE ECONOMIST AS A SCIENTIST
PPF Example
 Producing one computer requires 100 hours labor
 Producing one ton of wheats requires 10 hours labor

Employment o labor hours Production

Computers Wheat Computer Wheat

A 50,000 0 500 0

B 40,000 10,000 400 1000

C 25,000 25,000 250 2500

D 10,000 40,000 100 4000

E 0 50,000 0 5000
THE ECONOMIST AS A SCIENTIST
PPF Example

Production

Computer Wheat

A 500 0

B 400 1000

C 250 2500

D 100 4000

E 0 5000
THE ECONOMIST AS A SCIENTIST
PPF Example

Production

Computer Wheat

A 500 0

B 400 1000

C 250 2500

D 100 4000

E 0 5000
THE ECONOMIST AS A SCIENTIST
Economists play two roles:
 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.
 Government employs many economists for policy
advice.
 Example: the U.S. President has a Council of Economic
Advisors, which the author of this textbook chaired from
2003 to 2005
THE ECONOMIST AS A SCIENTIST

 Microeconomics
◦ The study of how households and firms make
decisions and how they interact in markets
 Macroeconomics
◦ The study of economy-wide phenomena,
including inflation, unemployment, and
economic growth

51
 WHAT IS MIRCRO AND MACRO ECONOMICS
Micro economics Macro economics

Involves the study of human and Looks at how government policies

business decisions in line with affect the economy. It is a more broad
resource allocation and decision focus on economic development
making
Focus on individual market segments Covers several segments due to its
broad economy focus

Deals with factors such as supply, Deals with issues of unemployment,

demand, production costs and national income and GDP: External
product pricing: Internal
It presumes full employment within an It follows that what is true for the
economy economy may not be true for all
individuals
Regulates the prices of products and Strives to solve issues involving
services inflation, poverty and employment
levels.
THE ECONOMIST AS POLICY ADVISER

 Positive statements: descriptive

◦ Attempt to describe the world as it is
◦ Confirm or refute by examining evidence:
“Minimum-wage laws cause unemployment”
 Normative statements: prescriptive
◦ Attempt to prescribe how the world should be:
“The government should raise the minimum
wage”

53
Thank You !
THE ECONOMIST AS A SCIENTIST
PPF Example

Production

Computer Wheat

A 500 0

B 400 1000

C 250 2500

D 100 4000

E 0 5000
THE ECONOMIST AS A SCIENTIST

Points off the PPF

A.On the graph above, find the point that represents

(100 computers, 3000 tons of wheat), label it F.
◦ Would it be possible for the economy to produce
this combination of the two goods?
Why or why not?
B.Next, find the point that represents (300 computers,
3500 tons of wheat), label it G.
◦ Would it be possible for the economy to produce
this combination of the two goods?

56
THE ECONOMIST AS A SCIENTIST

Point F:
Wheat
 100 computers, (tons)
3000 tons wheat
6,000
 Point F requires
5,000
40,000 hours of
labor 4,000
 Possible but not 3,000
efficient: could get F
2,000
more of either
good without 1,000
sacrificing any of 0
the other 0 100 200 300 400 500 600
Computers
THE ECONOMIST AS A SCIENTIST

 Point G: Wheat
(tons)
 300 computers,
6,000
3500 tons wheat
 Point G requires 5,000

65,000 hours of 4,000

G
labor. 3,000
 Not possible 2,000
because the 1,000
economy only
0
has 50,000 0 100 200 300 400 500 600
hours
Computers
THE ECONOMIST AS A SCIENTIST
The PPF: What we know so far
 Points on the PPF (like A – E): possible
◦ Efficient: all resources are fully utilized
 Points under the PPF (like F): possible
◦ Not efficient: some resources are
underutilized (e.g., workers unemployed,
factories idle)
 Points above the PPF (like G)
◦ Not possible
THE ECONOMIST AS A SCIENTIST
The PPF and Opportunity cost
Recall: The opportunity cost of an item is what must be
given up to obtain that item
 Moving along a PPF
◦ Involves shifting resources from the production of one
good to the other
 Society faces a tradeoff
◦ Getting more of one good requires sacrificing some of
the other
 The slope of the PPF
◦ The opportunity cost of one good in terms of the other
THE ECONOMIST AS A SCIENTIST
PPF Example

Production

Computer Wheat

A 500 0

B 400 1000

C 250 2500

D 100 4000

E 0 5000
THE ECONOMIST AS A SCIENTIST
The PPF and Opportunity Cost
Wheat The slope of a line
(tons) equals the “rise over
–1000 the run.” The amount
6,000 slope = = –10
100 the line rises when
5,000
you move to the right
4,000 by one unit
3,000
2,000
1,000
Opportunity cost
0
0 100 200 300 400 500 600
of 1 computer =
10 tons of wheat.
Computers
 The PPF and Opportunity Cost
In which country is the opportunity cost of cloth lower?

FRANCE ENGLAND
Wine Wine
600 600

500 500

400 400

300 300

200 200

100 100

0 0
0 100 200 300 400 0 100 200 300 400
Cloth Cloth

63
Active Learning 2
Answers
England, because its PPF is not as steep as France’s

FRANCE ENGLAND
Wine Wine
600 600

500 500

400 400

300 300

200 200

100 100

0 0
0 100 200 300 400 0 100 200 300 400
Cloth Cloth

64
Economic Growth and the PPF
With additional Wheat
resources or an (tons)
Economic growth
improvement in 6,000 shifts the PPF
technology, 5,000
outward.

the economy can

4,000
produce more
computers, 3,000
2,000
more wheat, 1,000
0
orany combination in 0 100 200 300 400 500 600
between. Computers
THE ECONOMIST AS A SCIENTIST
 Shape of 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
(Straight line: constant opportunity cost )
 Previous example: the opportunity cost of 1 computer is
10 tons of wheat
◦ If opp. cost of a good rises as economy produces
more of the good , PPF is bow-shaped
(Bowed outward: increasing opportunity cost
 As more units of a good are produced, we need to give up
increasing amounts of the other good produced
THE ECONOMIST AS A SCIENTIST
Why the PPF Might Be Bowed Outward
As the economy
Beer

shifts resources
from beer to
mountain bikes:

PPF becomes
steeper

and the
opportunity cost of
mountain bikes
Mountain Bikes increases.
THE ECONOMIST AS A SCIENTIST

Why the PPF Might Be Bowed Outward

At A, opportunity cost of
At point A, most
Beer

mountain bikes is low.

A
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.
Mountain Bikes
THE ECONOMIST AS A SCIENTIST
Why the PPF Might Be Bowed Outward
At B, most workers
are producing bikes.
Beer

A The few left in beer

production are the
best brewers.

B Producing more
bikes would require
At B, opportunity cost of shifting some of the
mountain bikes is high.
best brewers away
from beer production
causing a big drop in
Mountain Bikes
beer output.
THE ECONOMIST AS A SCIENTIST
Why the PPF Might Be Bowed Outward
 The PPF is bowed outward when:
◦ Different workers have different skills
◦ Different opportunity costs of producing one good in
terms of the other
◦ There is some other resource, or mix ofresources
with varying opportunity costs
 E.g., different types of land suited for different uses

70
THE ECONOMIST AS A SCIENTIST
A summary of PPF
 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

71
Active Learning 3
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.

72
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.

73
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.

74