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TEN PRINCIPLES OF
ECONOMICS
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The word Economy . . .

• Comes from a Greek word Oikonomikos for
“one who manages a household.”
• Here are some questions that need answers
– Who will work?
– What goods and how many of them should
be produced?
– What resources should be used in their
production?
– At what price should the goods be sold?
– Who should get the goods produced?
• We shall see the answers during this year
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• “Economics is the study of mankind in the ordinary

business of life.” Alfred Marshall
• Adam Smith was an 18th-century Scottish economist,
philosopher, and author who is considered the father of
modern economics.
• Adam Smith published his most important work, "An
Inquiry into the Nature and Causes of the Wealth of
Nations" (shortened to "The Wealth of Nations"),
• Individuals act as if motivated by self interest, respond
predictably to gain.
• “ it is not from the benevolence of the butcher, the brewer,
or the baker that we expect our dinner, but from their
regard to their own interest.”
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• Economy is the art of making most of life.

- George Bernard Shaw
• Economics is the study of mankind in the ordinary business of life.
- Alfred Marshall
• Economics is the science which studies human behaviour as a
relationship between ends and scarce means which have alternative
uses.
- Lionel Robbins
• Economics comes in whenever more of one thing means less of
another.
- Fritz Machlup
• The theory of economics is a method rather than a doctrine, an
apparatus of mind, a technique of thinking, which helps its possessor
to draw correct conclusions.
- John Maynard Keynes
• Economics is the study of the use of scarce resources to satisfy
unlimited human wants.
- Richard Lipsey
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Modern Definition of Economics

• The modern definition, attributed to the 20th-century
economist, Paul Samuelson, builds upon the definitions of
the past and defines the subject as a social science.
According to Samuelson, “Economics is the study of how
people and society choose, with or without the use of
money, to employ scarce productive resources which could
have alternative uses, to produce various commodities over
time and distribute them for consumption now and in the
future among various persons and groups of society.”
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Scarcity . . .
• Scarcity is a key word to understand economics
• It means that society has less to offer than
people wish to have
• Managing the resources of society is important
because resources are scarce
• Economics is the study of how society manages
its scarce resources
– How people make decisions
– How people interact with each other
– The forces and trends that affect the economy
as a whole
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Ten Principles of Economics

• The first group of principles look at the
individuals in the society
• Our aim is to understand how people make
decisions of economic nature
• We divide this group into four principles
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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Ten Principles of Economics

• The second group of principles look at the
interaction of individuals in the society
• Our aim is to show the effects of the way
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 sometimes improve
economic outcomes.
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Ten Principles of Economics

• The third group of principles look at the
behaviour of the whole society
• What happens at the whole economy has an
effect on individuals and their interaction
• How the Economy as a Whole Works
8. The standard of living depends on a
country’s production
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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1. People face tradeoffs

• To get one thing, we usually have to give up
another thing
– Guns vs. butter
– Food vs. clothing
– Leisure time vs. work
– Efficiency vs. equity
• Efficiency means society gets the most it can
from its scarce resources.
• Equity means the benefits of those resources
are distributed fairly among the members of
society.
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2. The cost of something is what you

give up to get it.
• Decisions require comparing costs and benefits
of alternatives
– College vs. work
– Sleeping vs. sturdying
– Cinema vs. football game
• Opportunity cost is what you give up to obtain
some item
• The final real cost of everthing is its oportunity
cost
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3. Rational people think at the

margin.
• Marginal thinking plays a crucial role in
economic actions
• By “marginal” we mean small changes to an
existing plan of action
• The word “incremental” ise also used
• Individuals make decisions by comparing the
costs and benefits at the margin
• The last item therefore becomes very important
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4. People respond to incentives.

• Marginal changes in costs or benefits motivate
people to respond
• The decision to choose one alternative over
another occurs when MB > MC
MB = Marginal Benefits
MC = Marginal Costs
• When they realise that the incentives have
changed, economic actors take different
decisions
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5. Trade can make everyone better off

• People gain from their ability to trade with one
another
• If there is competition in trading, then every
party gains from trade
• Trade allows people to specialize in what they
do best
• Specialisation is the key to modern society
• And the high levels of income that modern
societies enjoy
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6. Markets are usually a good way to

organize economic activity.
• Specialisation requires the exchange of products
of specialised producers
• One way of doing it is caled the market
economy
• In a market economy
– Households decide what to buy and who to
work for
– Firms decide who to hire and what to produce
• Households and firms interact is as if guided by
an “invisible hand”
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7. Governments can sometimes

improve market outcomes.
• If markets fail (break down), government can
intervene to promote efficiency and equity
• Market failure occurs when the market can not
allocate resources efficiently
• Market failure may be caused by an externality,
which is the impact of one person or firm’s
actions on the well-being of a bystander
• Market failure may also be caused by market
power, which is the ability of a single person or
firm to unduly influence market prices
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8. The standard of living depends on a

country’s production.
• Standard of living may be measured in different
ways:
– By comparing personal incomes
– By comparing the total market value of a
nation’s production
• Almost all variations in living standards are
explained by differences in the productivity level
of different countries
• Productivity is the amount of goods and services
produced from each hour of a worker’s time
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9. Prices rise when the government

prints too much money.
• Inflation is an increase in the overall level of
prices in the economy
• Some countries in some periods have high levels
of inflation
• Turkey has the highest inflation among
comparable countries in the world
• Usually the growth in the quantity of money is the
major cause of inflation
• In other words inflation happens becaure
government prints too much money
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10. Society faces a short-run tradeoff

between inflation and unemployment.
• For many economies there exist a strong
relation between the change in the level of
unemployment and change in inflation
• The Phillips Curve summarises the relation
Inflation  Unemployment
• It’s a short-run tradeoff that applies to normal
situations
• Higher inflation becomes the opportunity cost of
lower inflation
• At other times the relationship may break down
Definition

Economics: The study of how society chooses to allocate its

scarce resources in order to satisfy unlimited wants

Microeconomics: Branch of economics that

studies decision-making by a single individual,
household, firm, industry or level of government.

Macroeconomics: Branch of economics that

studies decision-making for the economy as a
whole
Problem of Scarcity

Scarcity: The condition in which

human wants are forever greater
than the available supply of time,
goods, and resources.

3 Economic
Questions
What will be Produced?
How will it be Produced?
For whom will it be produced?
Positive vs. Normative

Positive Economics: An analysis

limited to statements that are verifiable

Normative Economics: An analysis

based on value judgment
Scarce Economic Resources

Factors of Production (FOP): The resources used to create goods

and services
Land: Any natural resource provided by nature.

Labor: The mental and physical capacity of workers to

produce goods and services.

Capital: Any physical man-made

good used to produce other goods.

Entrepreneurship: Vision, skills,

and risk-taking needed to create and
Opportunity Cost

Trade-off: Any alternative that could be chosen

Opportunity Cost: The best alternative sacrificed for a chosen

alternative
Adam Smith: Scottish Economist (1723-1790)

The Invisible Hand Theory

“It is not from the benevolence of the

butcher, the brewer, or the baker, that we can
expect our dinner, but from their regard to
their own interest
Production Possibilities Curve — Marginal Analysis

A
160
Production Possibilities Curve Z
B
140
A curve that shows the maximum
Unattainable
combinations of two outputs that an
point
economy can produce, given available 120
LLC.
100
Guns
U C
Assumptions about the PPC 80
Underutilization
• Fixed Resources
60
• Fully Employed Resources
• Technology Unchanged 40

PPC
20
D
20 40 60 80 100 120
Butter
Production Possibilities Curve — Law of Increasing Opportunity cost

Guns 160
A
Marginal Analysis
B
An examination of the effects of additions to or 140
subtractions from a current situation.
120
The Law of Increasing Opportunity Costs
The principle that the opportunity cost increases as100 C
production of one output expands.
This is responsible for the “bowed shape” of the 80
PPC.
60
Reasoning
• not all workers are equally suited to 40
producing one good , compared to another. PPC
• as we shift production levels of butter, we 20
gradually tap into the best gun-making D
resources
20 40 60 80 100 120
Butter
Production Possibilities Curve — Movements and Shifts

Guns 160

B
Shifts in the PPC 140
Changes (increases) in the levels of a
country’s LLC will cause the PPC to shift 120
from PPC1 to PPC2
100

A C
Movements along the PPC 80
Changes in the needs and wants cause a
country to choose a different point along an 60
existing PPC
40

20

PPC PPC
20 40 60 80 100 120
1 2
Butter
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Conclusion
• When individuals make decisions, they face
tradeoffs
• Rational people make decisions by comparing
marginal costs and marginal benefits
• People can benefit by trading with each other.
• Markets are usually a good way of coordinating
trades
• Government can potentially improve market
outcomes
• Inflation results from increases in the quantity
of money