Economics, Scarcity, and Choice

This is Unit One of Principles of Macroeconomics, part two of two. Part one closed on a cost worked out from two prices for one person; this part draws the same idea for a whole society, and then names it outright. Carry the unit's idea to its payoff. Opportunity cost is what a choice gives up, and it turns up in three diagrams that are one idea drawn three ways: a budget line, a frontier, and a comparison between two producers. The final entry of this unit puts the three side by side. By the end you will be able to say whether a point is attainable and efficient, and what would move it. To explain why the frontier bows outward where a budget line stays straight. To tell absolute advantage from comparative advantage, and find the comparative one in a table. To classify a statement as positive or normative. And to tell a shift of a line from a tilt.

Five entries on the frontier: what it shows, why it curves, what it takes to reach it, how it moves, and how to read a point against it.

What a whole society can produce.

MAC 0021 The Production Possibilities Frontier

A production possibilities frontier shows the combinations of two goods a society can produce with the resources and technology it has now. Points on or inside the curve are attainable; points outside are not. The slope of the frontier is the opportunity cost of the good on the horizontal axis, measured in units of the other good.

Why the curve is not straight.

MAC 0022 Why the Frontier Bows Outward

The frontier bows outward because resources are not equally suited to every use, so each extra unit of one good costs more than the last. The curve is flat near one end and steep near the other. That is the law of increasing opportunity cost, and it is what makes the frontier curve where a budget constraint stays straight.

What it takes to reach it.

MAC 0023 Efficiency and Full Employment

Production is efficient when no more of one good can be made without less of the other, which is every point on the frontier, and full employment means no factor sits idle. Idle workers or idle factories put the economy inside the curve. An economy can also fall inside while fully employed, by putting resources where they have no comparative advantage.

Moving the frontier itself.

MAC 0024 Growth Shifts the Frontier

There are two ways to get more of everything: move from inside the frontier onto it by ending inefficiency, or shift the frontier outward through economic growth. More labor, more capital or better technology moves the whole curve out. A movement along the frontier is a tradeoff; a shift of the frontier is growth, and unit four takes up the causes.

Reading a point against the frontier.

MAC 0025 On, Inside or Outside the Frontier

Given a frontier and a point, answer three questions in order. Is it attainable? Points on or inside the curve are, with the resources and technology in hand; points outside are not. Is it efficient? Only points on the curve are, because a point inside leaves resources idle or badly used. And what would move it? Ending inefficiency moves a point from inside onto the curve, while growth moves the curve itself outward. Take a country that at the extremes could make six hundred ambulances or nine hundred schools. Three hundred ambulances with four hundred schools lies inside: attainable, and inefficient, because both could rise. Five hundred with eight hundred lies outside: out of reach today, though growth could bring it within reach. Unattainable is not impossible forever, and an inside point is no tradeoff at all, because from inside more of both is available.

Two entries on comparing producers: the difference between making more of a good and making it at a lower cost, and how to find that in a table.

Two ways to compare producers.

MAC 0026 Absolute and Comparative Advantage

Absolute advantage means making more of a good; comparative advantage means making it at a lower opportunity cost. Brazil gives up less to grow sugar cane, and the United States less to grow wheat. Comparative advantage can come from being poor at the alternative rather than good at the good itself, and unit seventeen works the numbers.

Finding it in a table.

MAC 0027 Comparative Advantage from a Table

To find comparative advantage from a table, work in three steps. Compute each country's opportunity cost of one unit of the first good, dividing how much of the second it gives up by how much of the first it gains. Do the same for the other good; the two answers are reciprocals. The country with the lower cost in a good has the comparative advantage there and should specialize in it, exporting that good and importing the other. With the same resources, Country X can make twenty wheat or ten cotton, and Country Y twelve of either. For X one wheat costs half a cotton; for Y one wheat costs one cotton. So X takes wheat, Y takes cotton, and the two trade. The trap is answering with absolute advantage: it turns on the ratios, not the totals, and a country producing less of both still holds an advantage in one.

Two entries on tools the rest of the course keeps using: which claims evidence can settle, and the shape every diagram takes.

Which claims evidence can settle.

MAC 0028 Positive or Normative

A positive statement describes the world as it is and can in principle be tested against evidence. A normative statement says how the world ought to be and rests on values, so evidence alone cannot settle it. To classify one, ask whether any measurement could show it false. A study finding that a new subway line would cost more to build than riders would save in travel time is positive. An argument that a wealthy country ought to extend unemployment payments is normative. That raising the minimum wage reduces teenage employment is positive and contested: economists disagree about the size of the effect, and the disagreement is about evidence. Positive does not mean true, and normative does not mean worthless.

The shape every diagram takes.

MAC 0029 Reading a Straight Line

Most of this course's diagrams are straight lines, and two numbers describe one. Written as y equals b plus m x, b is the vertical intercept, the value of y when x is zero, and m is the slope, the rise divided by the run. A positive slope means the variables move together, a negative slope that they move oppositely, and a slope of zero is a flat line. Take y equals nine plus three x: at x of zero, y is nine, and raising x by one raises y by three. Change the nine to twelve and every point rises with the tilt unchanged; change the three to five and the line steepens from the same start. Keep the two apart, because in later units a shift of a curve and a movement along it answer different questions.

One entry to close the unit: the idea all of this has been circling, and what it carries into the rest of the course.

Where the unit has been heading.

MAC 0030 Where Opportunity Cost Keeps Turning Up

Here the unit's governing idea is at work. Opportunity cost arrives in three diagrams that are really the same idea drawn three ways. In the budget constraint it is a price ratio: with income fixed, one more of a good means giving up some number of the other, and that number is the slope of the line. In the frontier it is a resource ratio: a society moving resources into one good gives up units of the other, and that is the slope of the curve. In comparative advantage it is the basis of trade: whichever producer gives up less to make a good should make it, and both can end with more than either could produce alone. The three connect. The budget line is straight because prices do not change with the quantity bought; the frontier bows because resources are not equally suited to every use; and comparative advantage compares two producers' opportunity costs, which is why a country worse at making everything still has something worth specializing in. One student, one afternoon, three uses: study, a job paying sixty dollars, or rest. The cost of studying is the single best alternative given up, whichever the student would otherwise have chosen, not all three. Three cautions carry forward. It counts the next best alternative only, so a choice among five options has one opportunity cost. It is measured in what is given up, often not in money, so a receipt is an incomplete record. And it looks forward, because what is already spent belongs to no decision still to be made.

Look at what you can now do. You can take a point and a frontier and say whether it is attainable, whether it is efficient, and what would move it. You can explain why the frontier bows outward while a budget line stays straight: resources are not equally suited to every use, so each extra unit costs more than the last. You can tell absolute advantage from comparative advantage, and find the comparative one by comparing ratios rather than totals. You can classify a statement as positive or normative by asking whether any measurement could show it false. And you can tell a shift of a line from a tilt, which is the difference much of the rest of the course turns on. Unit two takes up how a market sets a price.