Unit 1: Introduction to

Microeconomics
Instructor: Nguyen Tai Vuong
School of Economics and Management
Hanoi University of Science and Technology

Contents
1.1 Definition of Economics
1.2 Ten principles of Economics
1.3 Thinking like an economist
1.4 Economic models
1.5 Microeconomics and macroeconomics
1.6 Positive versus normative statements
1.7 Why economics disagree?

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 1.1 What is an economics?

Labour
Capital Goods Wants,
Processes Service Needs
Land
etc,

Scarce
resources
Limited
Outputs
? Unlimited

What to produce?
How to produce?
For whom to produce?

1.1 What is an Economics?

• Scarcity. . . means that society has limited resources and therefore
cannot produce all the goods and services people wish to have.

• The management of society’s resources is important because

resources are scarce.

 Economics is the study of how society manages its scarce

resources.

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 Economic Study
 Economists study how people make decisions
 How much they work
 What they buy
 How much they save
 How they invest their savings

 Economists also study how people interact such as buyers and sellers
 Price determination

 Economists also analyze forces and trends that affect the economy as a whole
 Growth in average income
 The rate of price increase.
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1.2 Ten Principles of Economics

 There is no mystery to what an “economy” is.

 It’s a group people interacting with one another as they go about

their lives.

 Four principles of individual decision making:

1. People face tradeoffs
2. The cost of something is what you give up to get it
3. Rational people think at the margin
4. People respond to incentives
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 Principle 1: People Face Tradeoffs
 To get something we like we usually have to give up something we
don’t like.
 A student and her(his) time:
 Studying vs. napping or cycling
 Society’s tradeoffs:
 Guns vs. Butter
 Clean environment vs. higher income
 Efficiency vs. Equity
 Efficiency: Society getting the most it can from its scarce resources.
 Equity: Distributing economic prosperity fairly among the members of
society.

Principle 2: The Cost of Something is What You Give Up

 Making decisions requires comparing the costs and benefits of

alternative courses of actions.
 To go to university or not to go?

 Opportunity cost: Whatever must be given up to obtain some item.

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 Principle 3: Rational People Think at the Margin
• Rational people
• systematically and purposefully do the best they can to achieve their
objectives.
• Make decisions by evaluating costs and benefits of marginal
changes – incremental adjustments to an existing plan.

• Individuals and firms can make better decisions by thinking at the

margin.
• By comparing the marginal benefits (MB) with the associated marginal
costs (MC) of a decision.

Principle 4: People Respond to Incentive

• Incentive: something that induces a person to act, i.e. the prospect
of a reward or punishment.
• Rational people respond to incentives.

• Examples:
• When oil prices rise, consumers buy more electric cars and fewer
gas guzzling SUVs.
• When cigarette taxes increase, teen smoking falls.

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 How People Interact

• The first four principles discussed how individuals make decisions.

• The next three principles concern how people interact with one
another.
5. Trade can make everyone better off
6. Markets are usually a good way to organize economic activity
7. Governments can improve market outcomes

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Principle 5: Trade can Make Everyone Better Off

• Rather than being self-sufficient,
people can specialize in producing one good or service and
exchange it for other goods.

• Countries also benefit from trade & specialization:

• Get a better price abroad for goods they produce
• Buy other goods more cheaply from abroad than could be
produced at home

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 Principle 6: Markets are Usually a Good Way to Organize
Economic Activity
• Market economy: An economy that allocates resources through the
decentralized decisions of many firms and households as they
interact in markets for goods and services.

• Firms decide whom to hire and what to make.

• Households decide which firms to work for and what to buy

with their incomes.

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Principle 7: Governments can Improve Market Outcomes

• Market failure: A solution in which a market left on its own fails to

allocate resources efficiently.
• Externality: The impact of one person’s actions on the well-being of a
bystander.
• Market power: The ability of a single economic actor (or small group of
actors) to have a substantial influence on market prices.
• In such cases, public policy may promote efficiency.
• Govt. may alter market outcome to promote equity.
• If the market’s distribution of economic well-being is not desirable, tax or
welfare policies can change how the economic “pie” is divided.

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 How The Economy as a Whole Works
• The last three principles concern the workings of the economy as a
whole:
8. A country’s standard of living depends on its ability to produce
goods and services;
9. Prices rise when the government prints too much money;
10. Society faces a short-run tradeoff between inflation and
unemployment.

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Principle 8: A Country’s Standard of Living Depends on its Ability to

Produce Goods and Services

 Standard of Living may be measured in different ways (e.g. personal

income or total market value of a nation’s production.)
– Differences in standard of living between countries or even
provinces is attributable to the productivity of the country or
province.
 Productivity: The amount of goods and services produced from each
hour of a worker’s time.

Productivity => Standard of Living

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 Principle 9: Prices Rise when the Government Prints
Too Much Money
• Inflation: increases in the general level of prices.
• In the long run, inflation is almost always caused by excessive
growth in the quantity of money, which causes the value of money
to fall.
• The faster the govt creates money, the greater the inflation rate.

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Principle 10: Society Faces a Short-Run Tradeoff Between

Inflation and Unemployment.
• In the short-run (1 – 2 years),
many economic policies push inflation and unemployment in
opposite directions.

• Other factors can make this tradeoff more or less favorable, but
the tradeoff is always present.

• Phillips curve: A curve that shows the short-run tradeoff between

inflation and unemployment.

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 1.3 Thinking Like an Economist
Every field of study has its own terminology
• Mathematics
• integrals  axioms  vector spaces
• Psychology
• ego  id  cognitive dissonance
• Law
• promissory  estoppels  torts  venues
• Economics
• supply  opportunity cost  elasticity  consumer surplus 
demand  comparative advantage  deadweight loss

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Thinking Like an Economist

• Economics trains you to. . . .
• Think in terms of alternatives.
• Evaluate the cost of individual and social choices.
• Examine and understand how certain events and issues are related.

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 The Economist as a Scientist
The economic way of thinking . . .
• Involves thinking analytically and objectively.
• Economists…
• Devise theories
• Collect data
• Analyze the data to verify or refute their theories
• Economics makes use of the scientific method.

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The Scientific Method: observation, theory, and more

observation
• Uses abstract models to help explain how a complex, real world
operates.

• Develops theories, collects, and analyzes data to evaluate the

theories.

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 The Role of Assumptions
• Economists make assumptions in order to make the world easier to
understand.

• The art in scientific thinking is deciding which assumptions to make.

• Economists use different assumptions to answer different questions.

“Certeris paribus”

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1.4 Economic Models

• Economists use models to simplify reality in order to improve our
understanding of the world

• Two of the most basic economic models include:

• The Circular Flow Diagram

• The Production Possibilities Frontier

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 First Model: The Circular-Flow Diagram
• The circular-flow Revenue
MARKETS
FOR Spending
diagram is a visual Goods
GOODS AND SERVICES
•Firms sell Goods and
model of the and services
sold
•Households buy services
bought

economy that shows

how dollars flow FIRMS HOUSEHOLDS
through markets •Produce and sell
goods and services
•Buy and consume
goods and services

among households •Hire and use factors

of production
•Own and sell factors
of production

and firms.
Factors of MARKETS Labour, land,
production FOR and capital
FACTORS OF PRODUCTION
Wages, rent, •Households sell Income
and profit •Firms buy
= Flow of inputs
and outputs
= Flow of dollars

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• Firms
• Produce and sell goods and services
• Hire and use factors of production
• Households
• Buy and consume goods and services
• Own and sell factors of production
• Markets for Goods and Services
• Firms sell
• Households buy
• Markets for Factors of Production
• Households sell
• Firms buy
• Factors of Production
• Inputs used to produce goods and services
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• Land, labor, and capital

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 Second Model:
The Production Possibilities Frontier
• The production possibilities frontier is a graph that shows the
combinations of output that the economy can possibly produce
given the available factors of production and the available
production technology.

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The Production Possibilities Frontier

Quantity of
Computers
Produced
D

3000
C
2200
A
2000

Production
possibilities
frontier
B
1000

0 300 600 700 1000 Quantity of

Cars Produced
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 1.5 Microeconomics and Macroeconomics
• Microeconomics focuses on the individual parts of the economy.
• How households and firms make decisions and how they interact in specific
markets

• Macroeconomics looks at the economy as a whole.

• Economy-wide phenomena, including inflation, unemployment, and
economic growth

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1.6 Positive Versus Normative Statements

• Positive statements are statements that attempt to describe the
world as it is.
• Called descriptive analysis

• Normative statements are statements about how the world should

be.
• Called prescriptive analysis

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 Positive Versus Normative Statements
• Positive or Normative Statements?

• An increase in the minimum wage will cause a decrease in

employment among the least-skilled.
POSITIVE

• Higher government budget deficits will cause interest rates to

increase.
POSITIVE

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Positive Versus Normative Statements

• Positive or Normative Statements?

• The income gains from a higher minimum wage are worth more
than any slight reductions in employment.
NORMATIVE

• State governments should be allowed to collect from tobacco

companies the costs of treating smoking-related illnesses among
the poor.
NORMATIVE

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 1.7 Why Economists Disagree?
• They may disagree about the validity of alternative positive theories
about how the world works.

• They may have different values and, therefore, different normative

views about what policy should try to accomplish.

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