Chapter 1: Introduction to Economic Development

Learning Objectives
At the end of the chapter, the students should be able to:

1. Define Economics.
2. Explain the concept of Opportunity cost and unemployment
with the use of production possibilities curve.
3. Explain the price relationship with demand and supply.
4. Explain efficiency and Equity in the context of Economic Development.
5. Identify and explain market failures.
 n 1
e s so
L Economics
and
Distribution

Economics
Broad Topics Efficiency and
and Scarcity
Equity

Market
Failures and a
Glimpse of
the Future
 Economics and Scarcity

Economics
and Economics Scarcity Resources
Scarcity
 Understanding Scarcity

There is always a limit to the use of resources

Scarcity of to produce what the society wants. A problem of
Resources societal
There is a need to make a choice among choice
competing uses of resources.

Production Possibilities: The

easiest way to look at the
problem of societal choice.
 Understanding Scarcity

An economic concept that explains

scarcity and the need to make a choice.
Production
Possibilities Alternate combinations of maximum
amounts of two different goods that can
be produced in a given period if the
economy’s resources are used fully and
efficiently.
 Understanding Scarcity

Assumptions is examining production possibilities:

1. Resources are used fully.
Production 2. Resources are used efficiently.
Possibilities 3. The quantity and quality of resources are not
changing over a period of analysis.
4. Technology is not changing over the period of analysis.
5. Only 2 goods can be produced with the available
resources and technology.
 Understanding Scarcity

Quantity of Bread (Tons)

A
Production Possibilities Table
Alternative Bread (Tons) Roses (Tons) ----------- B
A 150 0
----------------------C
B 120 20
C 90 40
---------------------------------D
D 60 60
E 30 80 ------------------------------------------- E

F 0 100
F

Quantity of Roses (Tons)

Economic Concepts Illustrated by Production
Possibilities
Produce
Which bread not
roses
should we Opportunity Cost
produce?

The best alternative

forgone to produce or
consume something
else; what you give to
get something else.
 Economic Concepts Illustrated by Production
Possibilities

Unemployment

Idle Factories A situation in which

resources are not fully
used in production.

Assumption in our illustration of production possibilities:

There’s full use of resources, knowledge and technology

Reality: Some resources may not be fully utilized, some even unused.
Resources must be put to work to move back to production
possibilities curve.
 Economic Concepts Illustrated by Production
Possibilities
Economic A sustained increase in
Growth production, represented
by an outward shift of
production possibilities
curve.
and
o d s
t 2 go
s
ju Assumption in our illustration of production possibilities:
a n
o r e th inite. Resources and technology are constant.
c e m i nf
u r e
n p rod ices a
t r y ca f cho Reality: Resources and technology do change. Our country should not
un t s o
r co se be restricted to a single production possibilities curve.
Ou
Economy may grow to increase production output with the
available resources.
 Economic Growth
Quantity of Bread (Tons)
210

180

----------B

C G
-------------------------------------------

U
--------------------------------D

-------------------------------------------E

F
120 140

Quantity of Roses (Tons)

 Key Learnings from the Concept of
Production Possibilities

Nations must prioritize spending.

Costs of unemployment are not limited to

personal hardships. Costs are borne by the nation
and the world in the form of reduced production.

If resources are wasted, production will be reduced.

Problem of scarcity is a big issue.

 Problem of scarcity:
is a REAL issue.

Poverty is a situation in which one

is unable to get even the minimum
basic necessities of life such as food,
clothing and shelter. A person is
considered poor if he is not able to
fulfill his basic needs.
Problem of scarcity:
is a REAL issue.
Key Learnings from the Concept of
Production Possibilities
Problem of scarcity is a big issue.
Economics and Distribution
 Economics and Distribution

The reason there is hunger in a world

of plenty is not a problem of production
but of distribution. Poor people and
poor governments lack the income to
purchase food that is produced.
 Economics and Distribution
k ? Reflection
t h in
y o u
t do Who should receive the bread and roses after they are produced?
Wha Should the decision be on the basis of equality?
Or based on proportion to contribution in producing those goods?
Or based on income?
Or based on who deserve to get more of what and how much?

Or should the government decide who should get what and how much?

On what basis should distribution choices be made?

 Economics and Distribution

What is the basis of distribution in a

Free-market economy?

Prices
Demand
& Supply
Prices
 Quantity of Bread (Tons)

Economics and Distribution

USD$ Demand Curve: Graph
showing quantities that
Demand Schedule for Tutoring consumers are willing to
buy at alternative prices
Services (One Week) -------- e during a specified time
P ($ per QD period. Law of demand: There is
Alternative hour) (hours) --------------------------d a negative relationship bet.
a $1 100 price and quantity demanded
---------------------------------------------c all other things equal.
b 2 80
b
c 3 60 --------------------------------------------------------------
d 4 40
---------------------------------------------------------------------------------a
e 5 20 D

Demand schedule Q (hours of tutoring services)

A table showing the quantities that consume Fig. 1-3
are willing to buy at alternative prices Demand for Tutoring Services, 1
during a specified time period Week
 Quantity of Bread (Tons)

Economics and Distribution

USD$

Demand Schedule for Tutoring

Services (One Week) e e
---------------------------------------------
P ($ per QD
Alternative hour) (hours) d
----------------------------------------------------------- d

a $1 100 c
c
---------------------------------------------------------------------------
b 2 80
b
c 3 60 -----------------------------------------------------------------------------------------------b
d 4 40 a
--------------------------------------------------------------------------------------------------------------a
e 5 20 D D

Demand schedule 120 140

A table showing the quantities that consumers Q (hours of tutoring services)

are willing to buy at alternative prices during a Fig. 1-4
specified time period Increased demand for tutoring services, 1 week. Demand curve D1
represents quantities demanded at each price than does demand
curve D
 Factors that Cause Demand Curve to Shift

Changes in the number of consumers who wish Hmmm….

to purchase the product.

Changes in the tastes of the consumers

in the market.

Changes in the prices of complements

or substitutes.

Changes in consumers’ income.

Changes in consumers’ expectations about the

product’s future prices or availability.
 Economics and Distribution
USD$ USD$

Supply Schedule for Tutoring Supply Curve:

Services (One Week) A graph showing
z the quantities that
P ($ per QD (hours) suppliers are willing
Alternative hour) ------------------------------------------ to sell at alternative
y
prices during a
v $1 20
specified period.
w 2 40 ------------------------------ x
Law of Supply:
x 3 60 ------------------ w There is a positive
y 4 80 Relationship
between price and
ez 5 100
----- v Quantity supplied,
all other things
equal

Supply schedule Q (hours of tutoring services)

A table showing the quantities that suppliers Fig. 1-5
are willing to sell at alternative prices during Supply curve for tutoring services, 1 week. The graph
a specified time period Shows amounts of tutoring supplied at various prices.
 Quantity of Bread (Tons)

Economics and Distribution

USD$

Increased Supply Schedule for

Tutoring Services (One Week)
-----------------------------------------------------------------------------
z z
P ($ per QD (hours)
Alternative hour)
-------------------------------------------------------------------
y y
v $1 60

w 2 80 ---------------------------------------------------------
x x
x 3 100 --------------------------------------------
w w
y 4 120

ez 5 140
--------------------------------
v v

120 140
Supply schedule
Fig. 1-6 Q (hours of tutoring services)
A table showing the quantities that suppliers
are willing to sell at alternative prices during Supply curve for tutoring services, 1 week. The graph
a specified time period Shows amounts of tutoring supplied at various prices.
 Factors that Cause Supply Curve to Shift

Changes in the number of sellers in the market.

Hmmm….
Changes in the prices of resources used to produce
the product.

Changes in the technology used to produce the product.

Changes in the prices of other products that could be

produced with the same resources.

Changes in government taxes or subsidies.

Changes in sellers’ expectations about the product’s

future prices.
 USD$
Economics and Distribution

S
Fig. 1-7
Equilibrium: Market for Tutoring Services, 1 week.
State of balance, The market will clear at point E.
A point at which At $3, quantity demanded equals
quantity supplied.
Quantity --------------------------------------- E
demanded equals
quantity
supplied,

D
 USD$
Economics and Distribution
USD$

S
Shortage:
QS QD A situation in
P($/hr) (hrs) (hrs) which quantity
1 20 100 demanded is
2 40 80 greater than
-------------------------------------- E quantity
3 60 60 supplied.
4 80 40
Occurs only when
5 100 20
The price is lower
-------------------------------------------------------------------- than the market
D level.

Fig. 1-8 Response to a shortage of Tutoring Service. At $1, quantity demanded exceeds quantity supplied
by 80 hours. The 80-hour shortage will cause price to rise to the equilibrium price of $3.
 Economics and Distribution

S
----------------------------------------------------------------------

Surplus:
USD$
A situation in
which quantity
supplied is --------------------------------------- E
greater than
quantity
demanded.

Occurs when the

price is higher D
than the market
level.

Fig. 1-9 Response to a surplus of Tutoring Services. At $ 5, quantity supplied exceeds quantity demanded
By 80 hours. This 80-hour surplus will cause price to fall to the equilibrium price of $3.
 Economics and Distribution
USD$

S S

Fig. 1-11 Effects of increased supply for Tutoring Services.

E
--------------------------------------- The increase in supply from S to S1 causes
equilibrium quantity from 60 to 80 hours but
a decrease in equilibrium price from $3 to $2.

-------------------------------------------------------E

D
 Economics and Distribution
USD$

E Fig. 1-10 Effects of increased demand for Tutoring Services.

The increase in demand from D to D1 causes
equilibrium price to increase from $3 to $4 and
equilibrium quantity from 60 hours to 80 hours.
E

D D1
 Economics and Distribution
USD$ USD$

S1 S S

E1 E1
------------- ----------------------------------------
E E
------------------------ -----------------------------
D1

D D

Rising costs of producing cars causes their prices to rise. New Harry Potter book causes increased demand for Harry Potter
toys, thereby raising their prices.
 Economics and Distribution
USD$ USD$

S S

S1
E E
--------------------------- ----------------------------
E1
E1
---------------- ---------------------------------------

D1

Boycott of chocolate decreases demand for chocolates, causing Great weather causes an increase in the supply of pumpkins,
Chocolate prices to fall. causing pumpkin prices to decrease their price.
 Efficiency and Equity

Using resources in such a way as

Efficiency
to maximize the desired output.

Fairness.
Equity
 Market Failure

Situations when pursuit of profit will not result in

increase in consumer satisfaction.

Spillover General Cases of Market Failure

Cost or benefit of a private
market activity that is shifted
onto society also called
externality.
Pollution
Groundwater contamination People downwind
Resource Depletion Neighbors
Externalities Soil Erosion Future Generations
Nuclear Waste disposal
Inequity, Market Power and
Instability

Causes of Inequity

Discrimination.
Poverty.
Inequality of income distribution.
 Market Power
The ability of a supplier to influence
the market price of its product.

Competition protects consumers

from unreasonable prices.

Pure competition discourages

market power because there are
many producers selling a
standardized product to many
buyers.
 Instability
State of economic volatility
The factors that determine whether our
nation is operating within the production
possibilities curve or below it is dynamic.
High and low employment affects c t u a t e.
ri c e s flu
production possibilities, and changes in
t a n d p
average price levels. ploymen
h e n em
ilit y w Inflation
a b
mic inst
i s e cono A rise in the average price level
There in the economy.
 id ay s ?
b y th e hol
er
. . Ha n g-ov
Opps… Economic
liberal
Macroeconomics (Economic left)
The study of the A person who
total economy. believes in high
level of gov’t
involvement in
Microeconomics the economy.
The study of
individual areas of
activity within the
Gross Domestic
total economy. Economic
Product (GDP)
Total output Conservative
within the A person who believes in
economy. very low levels of
government involvement
in the economy.