4SSMN136

Introduction to Economics
Lecture 1
 This module...

Term 1: Microeconomics
 Dr John Morrow: Lectures 1-4

 Dr Sotiris Vandoros: Lectures 5-8

Term 2: Macroeconomics
 Dr Brian Bell

 Dr Michele Piffer
2
 This module...

Term 1: Microeconomics

 2 hour lecture + 1 hour tutorial every week.

 Tutorials start the week after the first lectures.

⚫ Weekly readings to discuss and problems!

 No lecture or tutorials in Reading Week.

3
 This module...

Student queries
 Tutorial Leader and Lecturer office hours.

-Several hundred students: your first place to ask

questions is your tutorial teacher. They can escalate
things if needed. Hours will be posted.

 KEATS discussion boards, whatsapp (?)

 For tutorial related queries contact your tutorial teacher

4
  Available as hard copy or ebook

 Check stand in front of library / Waterstones

bookshops (near LSE or UCL)

 Amazon

 Cengage learning website

Note: Other editions of the textbook can also be used

Please be aware that the order of the chapters is slightly different

Main text: Mankiw and Taylor, Economics, 4th Edition

Also: CORE economics, https://www.core-econ.org/

See more on KEATS

 KEATS

• Module outline: required reading week by week

• Lecture slides
• Tutorial quizzes and problem sets
• Practice tests
• Student boards (for queries)
• Weekly Article Discussions
• Short films 7
 THIS IS AN EXPERIMENT
• This is a new format and we’re all learning!

• Let’s be patient and look out for each other.

• Additional ways for you to discuss articles in class and put up weekly media
for discussion.

• Suggestion: pick a buddy or ‘study bubble’ you can chat to about the course,
maybe watch together. Lecture is not meant to be a solitary activity!

• Think of it like a gym buddy: you might feel unmotivated but you don’t want
to let your buddy down!
 Assessment

Final grade will be a weighted average of the following:

1. TUTORIALS: FORMATIVE

1. MIDTERM TEST: FORMATIVE

1. MICROECONOMICS ON FINAL EXAM: 50%

1. MACROECONOMICS ON FINAL EXAM: 50% 9

 Assessment

 Tutorials

 Participation based on online quizzes

 Submit your answers before tutorial

 1st quiz goes live today

 Assessment

 Formative Midterm test

30min online MCQ test

Economics focuses on COSTS and BENEFITS.

What are some for an online exam vs in class?
One benefit:
No stolen pens
Costs and benefits of and online
exam versus in class?

Here are some of mine:

Benefits:

• Don’t have to come in to class, can oversleep, can do

the exam in your pajamas.

Costs:

• Temptation to ask others/open book, not as good

practice for the real thing, don’t get to hang out with
pals later.
 Exam Assessment

 Final exam: Two hours in May/June All term 1 and 2

material.

If weighted average based on these assessment

components is < 40%

RESIT EXAM INAUGUST 14

 Goals of this course

Understand concepts of equilibrium and how prices and

quantities are determined by the interaction of Supply &
Demand.

Understand market structure and market failure and related

government interventions.

Identify main macroeconomic variables.

Understand determinants of national income, nature of money

and monetary transmission mechanism, and uses of monetary
17
and fiscal policies
Wider Goal: Basic Literacy
“Practical men who believe themselves to be quite exempt
from any intellectual influence, are usually the slaves of
some defunct economist. Madmen in authority, who hear
voices in the air, are distilling their frenzy from some
academic scribbler of a few years back.”

Exercise: Pick up the Financial Times.

1. What models are in peoples’ minds?

2. What are they assuming?
3. How does it affect policy recommendations?
4. Would changing these assumptions change policy?

“Unquestioned beliefs are the real authorities of any

culture.”

Bonus Exercise: Try the Cryptic Crossword.

 Roadmap for this lecture

1. Economic models: use of mathematics and graphs

in economics

1. The production possibility frontier

1. Absolute advantage, comparative advantage and

gains from trade
19

Reading guide: Part 1, first half of Part 9.

 Basic concepts
An ECONOMY: system used to make decisions about what is
produced, how production is undertaken and who gets to
consume the goods and services produced
MARKET ECONOMY
• Decisions on what to produce and COMMAND ECONOMY
consume made by individual firms • Decisions on what to produce and
& consumers (decentralised on who should get the resultant
decision-making) output made by a central planner

• E.g. capitalist countries of Western • E.g. former Soviet Union; wartime

Europe, Asia and US
In reality, actually existing economies combine elements of 16

both, called Mixed Economies. Your examples?

Activity: Watch Economics is for Everyone on KEATS, pay
attention to the example of Singapore.
 The Economy of Singapore

• Free Trade, welcome FDI.

• 90% of land and 85% of housing

provided by the Government.

• 22% of the Economy is State Owned

Enterprises.

Want to know more? See: Economics:

The User's Guide by Ha Joon Chang
 Basic concepts
ECONOMICS is the study of how economies work

Economics examines...

• how economic agents (i.e. consumers, households and

firms, MNCs) make decisions, and

• how those decisions combine to determine what

goods and services are produced, how they are
produced, and for whom they are produced
17
 Basic concepts
Microeconomics studies the behaviour of individual economic
agents and how those agents interact with one another in
different settings

Macroeconomics studies the behaviour of the economy as a

whole focusing on the behaviour of economic aggregates

Econometrics is the application of mathematical and statistical

methods to economic data in order to provide empirical support
(or refute) economic theories and models

Economic Models are gross simplifications, they are always

wrong in the sense of not capturing reality. Nonetheless, they18
can be useful to explore and test relationships.
 Further Topics in Economics
Further economics classes you might take include:

• Who produces what goods (Labour/Industrial Organization)

• Where goods are produced (Trade/Geography)

• How economies change (Growth/Development)

• Influence of government and non-market goods (Public)

• Economic ideology and thinking (History of Thought)

• Role of time and intertemporal goods (Money/Macro)

This year long course is the foundation for all of these!

 I. Basic principles
a. Scarcity of resources

People face TRADE-OFFS

VS.

25
There Ain’t No
Such Thing as a
Free Lunch

Well… this isn’t quite true.

If you walk up around Lincoln Inn

Fields at noon you can get a free
lunch from the Hare Krishna guys.

What are some examples of trade

offs…

1. For a household?

1. For a firm?

1. For a nation?
Examples of trade offs for
households, firms and nations?
Here are some of mine:

Households:

• College vs Flat? Career vs Children? KCL vs UCL?

Firms:

• Hire vs Fire? New Product or Plant? Import or Export?

Nations:

• Guns vs Butter? How to provide Health Care?

Lockdown vs Few Restrictions?
 I. Basic principles
I. Principles of individual choice

b. Opportunity cost

The opportunity cost of a given action is the value of

the next best action you could have chosen to
pursue

E.g. opportunity cost of studying at King’s is....

opportunity cost of working as a lecturer is...
28
 I. Basic principles

c. Marginal decisions

In analysing how agents behave,

economists focus on marginal decisions,
whereby people compare the costs &
benefits of doing a little bit more (or less)
of some activity

29
 I. Basic principles
d. Incentives
An incentive is anything that rewards people from
acting in a certain way

Incentives matter because people exploit

opportunities to gain rewards and make themselves
better off

In the labour market high wages in an occupation…

Imposing parking fines....

In politics an active media exposing corrupt politicians... 30

 I. Basic principles
II. Interaction between individual decisions

a. Specialisation and gains from trade

Modern economies are characterised by an

elaborate division of labour where each person
specialises in very few productive activities and
obtains all other necessary goods and services by
trading with other people who’ve specialised in
producing different goods and services.

31
 I. Basic principles

a. Specialisation and gains from trade (cont.)

Specialisation tends to make people more efficient and

productive for two main reasons:

• People specialise in those tasks for which they have an

intrinsic talent (principle of comparative advantage)

• People who specialise tend to become more proficient

(and, thus, more productive)

A classic example is Adam Smith’s pin factory. 32

Your examples?
 I. Basic principles

b. Markets and coordination of activities

Markets potentially make possible the division of

labour by facilitating the trading that enables
agents who specialise in the production of one
good or service to obtain everything else they
need

Markets coordinate people’s activities by giving

people incentives to produce goods and services
that other people want to have, and this can
increase efficiency 33
 I. Basic principles

b. Markets and coordination of activities (cont.)

Markets do so by harnessing people’s desire to

exploit opportunities to make themselves better off

• They reward (with profits) people who efficiently

supply goods desired by other people

• They punish (with losses) people who supply

goods and services that people don’t want, or
who do that inefficiently
34
 I. Basic principles

c. Evaluation of the outcomes produced by markets

Two main criteria:

• Efficiency: an outcome is efficient if it is impossible

to change the way that resources are allocated in
such a way that at least one person is made better
off without someone else being made worse off
(Pareto efficiency)

No scope for mutually beneficial trade

35
 I. Basic principles

Perfectly Competitive Markets tend to generate an

efficient allocation of resources by providing
incentives for efficient uses of resources by self-
interested agents

(First Welfare Theorem)

36
 I. Basic principles

But there are situations where markets can lead to inefficient

allocation of results – i.e. market failure – for example due to...

• insufficient competition
• lack of information
• because markets for important goods do not exist (e.g. market
for pollution, peace)
• externalities

In these cases there may be scope for

government intervention 29
 I. Basic principles

• Equity: economists also evaluate the outcomes produced by

markets by reference to how fair or equitable they are

There is often a trade-off between efficiency and equity.

E.g. high rates of income tax may increase equity, but may also reduce
output by hampering incentives to work hard or innovate....

Low rates of inheritance tax which push the tax burden onto income tax
may therefore reduce output (so there is a trade off between types of
taxation). Similarly in taxing capital versus labour income.

How far society should go in promoting equity over efficiency 30 is a

difficult question which is at the heart of the political process.
 Register with the FT!

• Go to https://accounts.ft.com/login

• Type in your King’s email address and

scroll down.

• Choose log in without password.

• You should get a code for an account.

• Find your first tutorial article. Enjoy!

 II. Economic models
Economic models: simplified representations of (aspects) of the
real economy
• Models abstract from the (complex) reality in order to
highlight a particular aspect of the way economy works

• Models rely on assumptions about agents behaviour, for

instance:
- agents are rational and self-interested
- individuals maximise utility
- firms maximise profit (and minimise costs)

- Some assumptions are relaxed as models evolve 31

 II. Economic models
1. Mathematics in economics:

• Mathematical methods, particularly calculus, are

powerful tools in economics (e.g. for applying
optimization principles: what bundle of goods
maximise an individual’s utility given prices and
income?)

• Lectures and tutorials will use graphs and simple

algebra
41
 II. Economic models

Answer as quickly as possible:

A notepad and a pencil together cost

£1.10. The notepad costs a pound more
than the pencil.

How much does the pencil cost?

43
How much does the pencil cost?

1. N + P = £1.10

1. N = P + £1

1. P + £1 + P = £1.10

1. P = £.05 N = £1.05
 II. Economic models

2. Graphs in Economics

• Graphs are used to illustrate the relationship

between economic variables

• We will use them every week

• And you’re expected to use them too in

homeworks & exams...

34
II. Economic models

34
 II. Economic models

• The slope of a curve – the gradient

Measures how steep the curve is, i.e. how

sensitive the dependent variable is to changes
on the independent variable

47
 II. Economic models
• Slope of a linear curve

• The slope of a linear curve (straight line) is constant

along the line

• How do you calculate it?

• You need to know 2 points on that line: A & B

𝑉𝑒𝑟𝑡𝑖𝑐𝑎𝑙 𝐶ℎ𝑎𝑛𝑔𝑒 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑌 ∆𝑌

• 𝑆𝑙𝑜𝑝𝑒 = = =
𝐻𝑜𝑟𝑖𝑧𝑜𝑛𝑡𝑎𝑙 𝐶ℎ𝑎𝑛𝑔𝑒 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑋 ∆𝑋

48
 II. Economic models
• Slope of a linear curve:

What’s the slope of

this curve?
-1/2

49
 II. Economic models
• Slope of a linear curve: Two special cases
y y

25 25
C D
20 A 20

15 15

10 B 10

5 5

0 2 4 6 8 10 x 0 2 4 6 8 10 x

The slope of a vertical curve is The slope of a horizontal curve

always equal to UNDEFINED is always equal to ZERO
(INFINITY) 39
 II. Economic models
• Slope of a non-linear curve:
The slope of a non-linear curve changes along its
length
y y

Z
25 C 25
B
20 20
A
15 15 Y

10 10 X

5 5

0 2 4 6 8 10 x 0 2 4 6 8 10 x

Negative increasing slope Positive increasing slope 40

 II. Economic models
• Slope of a non-linear curve:
The slope of a non-linear curve can be calculated
using the point method
Tangentline
y
(to point B)
30 C

25

20 B What’s the slope of

15
this curve at point B?

10 A ∆𝑦 20 5
𝑆𝑙𝑜𝑝𝑒 = = =
5 ∆𝑥 8 2

0 2 4 6 8 10 x
41
 II. Economic models
• Slope of a non-linear curve:
The slope can change from being positive to
negative or vice-versa
Tangent to the curve has slope 0 at the max

Tangent to the
curve has slope 0
at the min

53
Exercise
Reggie the Lion likes Root Beer.

His demand for Root Beer is known to be linear from

years of student observation.

At a price of £1/pint Reggie wants 5 pints of Root Beer.

At a price of £2/pint Reggie wants 3 pints of Root Beer.

Keeping in mind the appropriate axes (price and

quantity) of demand curves:

1. What is the slope of Reggie’s demand curve.

2. At what price does Reggie not want any Root Beer?
3. How many times has he been kidnapped?

https://www.kcl.ac.uk/study/spotlight/reggie-the-lion
 Reggie’s Demand Curve

1. As the price goes from £1 to £2, demand drops from

5 pints to 3 pints. Price in on the vertical axis and
quantity on the horizontal axis so the slope is the
vertical change of 1 over the horizontal change of -2,
so the slope is -1/2.

1. Using the slope information, every decrease of 1 pint

corresponds to an increase of £.5, so at £3.5, Reggie
isn’t interested in Root Beer.

1. I have no idea, but keep your eyes peeled for any

suspicious students, especially from UCL!
 III. Production Possibility Frontier
The production possibility frontier (PPF) illustrates the
trade-offs facing an economy that produces two goods

It shows the
maximum
y
quantity of one
good that can be 50
produced given 40
the quantity of 30

the other good 20

10
produced
0 2 4 6 8 10 x 56
 III. Production Possibility Frontier

Points lying inside the PPF are

feasible, but inefficient. Only
points on the PPF are efficient
→ efficiency

Points outside the PPF are not

feasible, i.e. combinations of fish
& coconuts that cannot be
obtained given the available
resources → scarcity

57
 III. Production Possibility Frontier

Fish

Economic growth
25 B expands the production
20 A possibility frontier and
15
allows moving from point
A to point B, where
10 New society can have more of
Old PPF PPF
5 both goods x and y

0 10 20 30 40 50 coconuts

58
 III. Production Possibility Frontier
The PPF slopes downwards: as the economy moves
along the PPF more coconuts can be obtained only at
the cost of less fish → opportunity cost
Slope of the PPF gets steeper as one moves from left to right (e.g.
point A to B) → increasing opportunity cost
coconuts
50
40 A (0,40) B (20, 38)

30 C (40,28)

20
Why do we assume the opportunity
10
cost of producing a good increases as
more is produced of that good?
0 10 20 30 40 50 fish
`Law’ of Diminishing Returns
 III. Production Possibility Frontier

To make things simpler we often use linear PPFs

coconuts Slope is constant => trade-off

coconuts / fish is always the same
40

Slope = -0.5

0 80 fish

In this case, the opportunity cost of 1 additional fish is 1/2 coconut

& the opportunity cost of 1 additional coconut is 2 fishes
48
 III. Gains from Trade

Gains from trade: everyone can be better off if they each specialise in one
activity and then trade with each other than if they try to be self sufficient
(autarky)

Rob’s PPF Cruz’s PPF

coconuts coconuts
50 50
40 40

30 30
Rob’s
20 consumption 20 Cruz’s
consumption
w/o trade
10 10 w/o trade

0 80 fish 0 10 20 30 40 50 fish

Rob’s has an absolute advantage in producing both fish and coconuts 49

 III. Comparative Advantage

Rob’s PPF Cruz’s PPF

coconuts coconuts
50 50

40 40

30
30
Rob’s Cruz’s
20 20
consumption consumption
w/o trade w/o trade
10 10

0 80 0 10 20 30 40 50 fish
fish

• Rob’s opportunity cost of collecting a • Cruz’s opportunity cost of collecting a

fish is coconuts fish is coconuts

• Rob’s opportunity cost of • Cruz’s opportunity cost of

collecting a coconut is fish collecting a coconut is fish 49
 III. Comparative Advantage

Rob has a
comparative advantage
in producing fish

Cruz has a
comparative advantage
in producing coconuts
64
 III. Comparative advantage &
Gains from trade

• Rob could specialise in collecting fish: he’d collect a

total of 80 fishes (and 0 coconuts)

• Cruz could specialise in collecting coconuts: he’d

collect a total of 30 coconuts (and 0 fishes)

... And they could then trade according to their

preferences
65
 III. Comparative advantage &
Gains from trade
Hypothetical scenario

Note: This is an hypothetical scenario for the purpose of this exercise. In autarky Rob & Cruz could have
chosen to produce any quantity on their PPFs. However, w/o trade their consumption possibilities are
constrained by their production decisions.
5
With trade, optimum production decisions are dictated by the comparative advantages. Based on those, they 2
can then decide on much to consume. The consumption figures given are hypothetical and given to illustrate
how trade allows both Rob & Cruz to expand their consumption capabilities.
53
 III. Comparative advantage &
Gains from trade

Rob’s PPF Cruz’s PPF

coconuts coconuts
50 50

40 40
Rob’s
30 Cruz’s
30 consumption
consumption
with trade 20
20 with trade

10 10

0 80 0 10 20 30 40 50 fish
fish
Rob’s Cruz’s
consumption consumption
w/o trade w/o trade

54
 Let’s Recap

1. Course Logistics.
2. Do the quiz and read the article before
tutorial.
3. Economic Models and Basic Assumptions.
4. We’re going to use MATH (linear equations,
slope of a curve)
5. The Production Possibility Frontier.
6. Absolute Advantage, Comparative Advantage,
Gains from Trade (Ricardian Model)
7. In case you miss a lecture, want to clarify
something, want to watch/study together:

MAKE A BUDDY. HELP EACH OTHER OUT.