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Economics for Political Scientists: Lecture Notes
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LECTURE 1: ECONOMIC GROWTH AND INEQUALITYWHAT IS THE STUDY OF ECONOMICS?
Study of human behavior with a focus on economic incentives and economic outcomes
Focus on:
1. Economic incentives
2. Economic outcomes
Economic incentives
Choosing outcomes that improve your (or a group of country) economic welfare
How those choices are shaped by markets and other circumstances (like policy)
How people make choices under scarcity: Economy vs sentiment and benevolence
Economic outcomes
Microeconomics: The study of individual incentives
The thousands of incentives faced by billions of individuals and millions of firms lead to aggregate
outcomes
o inequality, economic growth and development, economic crises, inflation and unemployment,
trade and investment
Macroeconomics: The study of these aggregated outcomes
o business cycles and government response, international trade, international finance,
monetary policy
Often, outcomes are shaped by both political and economic incentives
Politics often shape economic incentives in intended and unintended ways
Microeconomics
The study of individual actors
o Actors — Firms, people, households
How actors make decisions/allocations of scarce resources
o Scarce resources — those you don’t have an infinite amount of
o How people decide where to put those resources and how that affects prices and markets
Macroeconomics
The study of the economy in aggregate
o Millions of individual actors
Focuses on policy-related questions
Hockey stick diagram: Shows rapid, sustained growth in average living standards since 1700
KEY CONCEPTS
1. Nominal GDP (or GDP growth)
Gross domestic product measured in current currency amount
Does not account for inflation or differences in purchasing power across countries
Simply refers to the “sticker price"
2. Real (Constant) GDP (GDP growth) (in constant prices)
Important for measuring changes over time
Growth adjusted for changes in inflation
We translate current nominal prices to a consistent baseline
Applies to any type of price measure: Movie ticket sales, Stock market prices
3. Purchasing power parity
Important for measuring changes across countries and time
Growth adjusted for differences in currencies and what those currencies purchase
Generally we translate local economic activity in to its equivalent in USD of a particular year
Consumer Price Index (CPI)
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,ECONOMIC GROWTH
What is economic growth?
Increase in the capacity of an economy to produce goods and services, compared from one period of
time to another
An increase in real GDP: Increase in national output and national income
How do we measure economic growth?
Gross Domestic Product (GDP)
GDP to compare the size of economies
o across time (GDP growth) & across countries (level of development)
Where does economic growth come from?
Increases in: natural resource discovery, physical capital or infrastructure, population, human capital,
technology, law
Long-term causes
An increase in the long run aggregate supply (productive capacity) and AD
o Increased capital: investment in new factories or investment in infrastructure, such as roads
and telephones
o Increase in working population: through immigration, higher birth rate.
o Increase in labor productivity: through better education and training or improved technology
Short term causes
An increase in aggregate demand
External shocks
o An unexpected change in an economic variable which takes place outside the economy
o Increase in the price of oil and a firm's costs of production
o Trump’s trade war
Animal spirits
o Optimism and pessimism (drive investment but also household consumption and
saving); psychology effects
Government monetary or fiscal policy
Y = C + I + G + (X- M)
Y = GDP (national income)
C= Consumer spending (on finished goods)
I = Investment (in capital goods)
G = Government spending (on finished goods)
X = Exports
M = Imports
(x=m) — often seen as “NX” or “net exports"
WHAT DOES GDP MEASURE?
GDP measures the market value of all finished goods produced within a country (usually measured
yearly)
o Finished good: goods that will not be sold again as part of another good (cake)
o Intermediate goods: goods that will be used to make something else that will be sold (eggs)
o Capital goods: goods that are used to produce other goods not a part of other goods
Measured by government statisticians
Does not include things that are imported from other countries
o Stuff made in another country and sent here
Does include things exported to other countries
o Stuff made in a country and sent out of the country
GDP per capita
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, GDP — How big an economy is
GDP per capita — How wealthy a country is
GDP per capita = GDP/population
o Dividing GDP by a country’s total population
Wealth and health of nations
GDP only measures material values
o Good indicator of development? Correlated with health and happiness.
Faults of GDP:
o GDP doesn’t tell us about inequality — the distribution of income within a country
o Historically, GDP growth usually does correlate with growth in everyone’s income
Differences between the rich and the poor are huge within every country
There are also huge differences in income between countries
Inequality over time
1000 years ago: small differences between countries
1980: Poorest countries were Lesotho and China; the richest were Switzerland, Finland and the US
Today: Differences between the richest 10% and the rest of a country’s population have become
more pronounced
Local and global inequality
Why are some countries rich, while others are poor?
Why are some people in a country rich, while others in the same country are poor?
o Economic reasons (technology and capitalism)
o Political reasons (democracy and property rights)
ECONOMIC SYSTEMS
The explosion in growth rates coincides with adoption of different economic systems
The adoption of more capitalist economic systems
o Other types of systems: feudal, communist, mercantilist (Stalinist)
There are no pure economic systems
o Most economic systems are a mix with more or less of different components of each
o Creating labels makes it easier to talk about
The increase in economic growth starts with capitalism…
Capitalism: an economic system in which private property, markets, and firms play an important role
Economic system founded on individualism and economic incentives
CAPITALISM
3 elements of Capitalism
1. Private property
o People can keep the gains of their labor and are protected from: the government and others
trying to confiscate it
o They can also own capital goods
2. Markets
o The allocations of goods and services are determined by buying and selling, not government
3. Firms (privately run and organized)
o A business organization which pays wages and salaries to employ people, and purchases
inputs, to produce and market goods and services with the intention of making a profit
o Adam Smith and the Wealth of Nations
What does capitalism give us?
1. division of labor
2. specialization
3. entrepreneurial innovators
4. new technology
Incentives and economic organization
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, The gains of specialization and division of labor are increased when individuals are incentivized to do
what they’re best at (or most efficient) at doing — "Self-sufficiency is the road to poverty"
o Specialization — takes place when an individual, country or some other entity produces a
narrower range of goods and services than it consumes, acquiring the goods and services
that it does not produce by trade
o Division of labor — the specialization of producers to carry out different tasks in the
production process
Technological innovation
Technological innovation is clearly tied to improving economies and improving living standards
Where does technological innovation come from?
o Economic incentives
Why would you invent a new product?
o To make the world a better place
o To impress your friends
o To make money — incentives matter
Incentives lead to “innovationism"
o The rapid expansion of growth is in large part due to innovations
o We usually mark this with the emergence of the Industrial Revolution
Creative destruction
Innovation produces winners and losers
This generates, along with different initial abilities and capital, inequalities within countries
When there is intervention to protect the “losers”, innovation lags
Uber vs Taxi
Democracy and property rights
Democracy has many definitions, but generally includes:
1. Giving equal political power to all citizens
This power is defined by individual rights such as freedom of speech, assembly and
the press
2. Selecting political leaders by means of elections
In these elections, virtually all adults are eligible to vote, and the governing party
leaves office if it loses
By giving individual power to choose their economic system, they generally opt to secure property
rights and prevent non-competitive forces
Political institutions ensure secure property rights
Political institutions and inequality
Political institutions can also determine who within a country benefits from markets and can restrict
certain groups from enjoying the benefits of a market economy
Political institutions can also help address, though not-market means, the inequalities that arise
because of capitalism’s tendency to generate inequality
o Social welfare systems
o Trade protection
LECTURE 2: GAME THEORY (STUDY FROM THE PP SLIDES!)
Interaction
Economic (and political) actors do not act in isolation; Our actions impact others, others’ actions impact us
This produces opportunity (gains) and conflict (losses) for individuals, groups and society
Game theory
A tool of social science used to examine strategic interaction between individuals (or groups)
Game theory is not a theory — it is an analytical tool and method
Starts from the assumption that individuals are rational
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