ECON1101: Microeconomics 1

Chapter 1: Thinking as an economist

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

Microeconomics vs. macroeconomics

Microeconomics the study of individual choice, and of the combined

result of these choices for the group as a whole.

Macroeconomics the study of national economies, and the government

policies that try to improve them

Scarcity principle
Scarcity principle (or no-free-lunch principle) Although needs and wants
are unlimited, resources are limited. Consequently, having more of one thing
usually means having less of another.

Cost-benefit principle
Cost benefit principle An economic agent should only undertake an action if
its marginal (extra) benefits outweigh its marginal costs (ceteris paribus).

Benefit the largest price a person would pay in order to undertake an

action

Cost the largest price a person would pay in order to avoid an action

Economic surplus the amount by which an actions benefits outweigh

its costs

Ceteris paribus (or all else equal) the assumption that everything,
besides the variable being studied, stays the same

Incentive principle
Incentive principle An economic agent is more likely to undertake an action if
its benefits rise or its costs fall, and is less likely to undertake an action if its
benefits fall or its costs rise.

Positive vs. normative economics

Positive economics explains what happens and why, but not what
should happen (e.g. the incentive principle)

Normative economics explains what should happen (e.g. the costbenefit principle)

Decision-making pitfalls
1. Failing to account for all opportunity costs 1
2. Failing to ignore sunk costs2 (e.g. all-you-can-eat buffet)
3. Failing to account for all relevant benefits (e.g. gambling restrictions not
only protect problem gamblers, they benefit their friends and families)
4. Failing to measure costs and benefits as absolute dollar amounts rather
than as proportions
5. Failing to know when to use average or marginal costs and benefits
a. Average costs and benefits3 determine whether an activity should
be undertaken at all.
b. Marginal costs and benefits4 determine the extent to which an
activity should be undertaken.
6. Failing to incorporate time into cost-benefit thinking (i.e. money now is
worth more than money later)

Chapter 2: Comparative advantage

Absolute advantage
Absolute advantage when a person can undertake an action with fewer
resources than another person

Comparative advantage
Comparative advantage when a persons opportunity cost of undertaking an
action is less than that of another person

Principle of comparative advantage everyone can do better if they

specialise in their comparative advantage

Sources of individual
comparative advantage:

Sources of national comparative

advantage:

1 Opportunity costs the value of the next-best alternative to undertaking an

action
2 Sunk costs costs that cannot be recovered when a decision is made
3 Average costs and benefits total costs or benefits of undertaking
units of an activity, divided by

4 Marginal costs and benefits increases in costs or benefits associated with

a small increase in the level of an activity

Talent
Education and training
Experience

Natural resources (e.g. Australian

minerals)
Climate (e.g. NZ landscapes for
tourism)
Skilled labour
Technology
Infrastructure
Culture (e.g. entrepreneurial spirit)
English as the de facto world
language

Production possibilities curve (PPC)

Production possibilities curve (PPC) shows the maximum simultaneous
production of two goods

Attainable point lies on or below the PPC

Unattainable point lies above the PPC
Efficient point lies on the PPC

Inefficient point lies below the PPC

Slope The slope of the PPC equals the opportunity cost of the good on
the horizontal axis.

Specialisation Specialisation allows for consumption beyond the PPCs

(unless the PPCs are the same).

Terms of trade The opportunity costs set the bounds of the terms of
trade.

PPC for a many-person economy

PPC for a many-person economy has an outwardly-bowed shape because of
the principle of increasing opportunity cost