THE BIG IDEAS
1. Incentives matter
2. Good institutions align self interest with the social interest
3. Trade-offs are everywhere
4. Think on the margin
5. Trade makes people better off
6. Wealth and economic growth are important
7. Institutions matter
8. Economic booms and busts cannot be avoided but can be moderated
1.9.Incentives
Inflation is caused by an increase in the supply of money
matter
10. Central banking is a hard job 1787 British government hired captains
Incentives = rewards and
to ship prisoners to Australia
penalties that motivate conditions on board were worse than
behaviour slave ships so the government in 1973
followed and economist who
o Example of the convict suggested to pay for each alive the
ships of prisoners survival rate increased to 99%
proves that incentives
matter
2. Good institutions align self-interest with the social interest
If self-interest align with public interest => good outcomes
o Under the right conditions markets align self-interest
with social interest
If self-interest and social interest
The supermarket is stocked with
do NOT align => bad outcomes products from all around the world
because market channels coordinate
Adam Smith: when markets work
self-interest with millions of people
well => those who pursue self- touching a social could each person in
interest promote the social good the channel act in their own interests
but also in the interest of the people
as if led by the invisible hand
this is not always the case as they may not align => the
government can intervene
3. Trade-offs are everywhere DRUGS EXAMPLE
Trade-offs exist because there is Testing the new drug takes time =>
drugs are delayed
scarcity of resources needed to
drug lag: new drugs work better
=> the longer it takes for them to
reach to market => more people are
harmed => they can die from unsafe
dryg but can also die while waiting
drug loss: the greater the costs
=> fewer drugs => a new drug may
, satisfy our needs opportunity cost of a choice is the value
of the lost opportunities
IMPORTANT:
1) If you don’t understand the lost opportunities then won’t recognise
the real trade
2) If you want to understand change in human behaviour most of
the time people react to changes in opportunity cost even if money
costs have not changed
GREAT ECONOMIC PROBLEM: How to arrange
Scarcity = a resource is
scarce when there is not our scarce resources to satisfy our needs/wants as
enough to satisfy our needs much as possible
4. Think on the margin
Making choices by thinking in terms of marginal benefits and
marginal costs => benefits or costs of a little bit more or less
Marginal revolution = a term used to explain the
transformation in economic thought
5. Trade makes people better off
Trade => specialization (division of knowledge) => increase
production
o Allows reduction in costs of mass – production
6. Wealth and economic growth are important
Wealth (the ability to pay for prevention of malaria ) ended
the disease in US
7. Institutions matter
Entrepreneurs investors savers need to save and invest in
human capital innovation efficient organisation => powerful
institutions for supporting good incentive our property rights
honest government competition in the open market
Macroeconomics
o Interested in the incentives to produce new ideas
, o Significant task is to understand both promises and
limits of monetary and fiscal policies in smoothing out
the normal booms and busts of the macroeconomy
8. Economic booms and busts cannot be avoided but can be
moderated
NO ECONOMY GROWS AT A
THE GREAT DEPRESSION
CONSTANT PACE The most catastrophic economic
event in US history
Booms/busts are part of the National output decrease 30%
Unemployment rate increased 20%
normal response of an
Stock market lost 2/3 of its value
economy to changing
economic conditions
9. Inflation is caused by an increase in the supply of money
Inflation = an increase in the general level of prices
Hard for people to see the real value of goods and services
10. Central banking is a hard job
By the time the central bank has made a decision and the
time it takes for it to be applied and to come into action and
affect the event may be too long and the circumstances might
have changed
1.
, Chapter 2: THE POWER OF TRADE AND COMPARATIVE ADVANTAGE
Main benefits of trade:
1. People are better off when preferences differ
2. Division of labour => specialization => increased productivity (A. Smith)
“Trade increases productivity through division of labour and
specialization”
3. Comparative advantage => increased productivity trade => increase of
total productivity
1. Trade makes people better off when preferences differ
Trade creates value by moving goods from people who value
them less to people who value them more trading makes
people better off because both parties receive what they want
2. Trade increases productivity through specialization
Trade develops => people specialize and gain knowledge
about a product and its production process, however human
brain is limited => divide knowledge and then trade =>
increase total knowledge
NO trade = NO specialization
3. Trade takes advantage of differences => uses comparative
advantage
The country with the lowest opportunity cost will have the
comparative advantage => should be the one producing
the product => world production is maximized
Comparative Advantage Absolute Advantage
When people or nations specialise in goods in The ability to produce the same goods but using
which they have lower opportunity cost => can fewer inputs than another producer
trade to mutual advantage
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