Foundations of Economics
Economics is a dynamic [social science (TOK!)]: it is the study of people in society and human relationships. Essentially, it is a study of how society manages its scarce resources.
We have finite resources and goods (tangible physical objects)/services (intangible); and supposedly infinite needs and wants. Therefore, we need a system to ration our scarce resources; all economic goods (goods/services that are priced) are considered relatively scarce. Free goods (eg. air, although this is in most cases, pollution may one day get so bad that clean air will be priced!) are so abundant, they aren’t priced.
Choice: People have limited incomes/ financial resources so we need to choose between alternatives, incurring opportunity cost.
Opportunity cost: The next best alternative foregone when an economic decision is made
- Must be an economic good to have opportunity cost
- Never expressed in monetary terms
The Basic Economic Problem
- What should be produced and in what quantities?
- How should it be produced?
- For whom should it be produced for?
The 2 Theoretical Allocation/ Rationing Systems
- Free market: Producers and consumers do as they like without government interference; via the price mechanism (Adam Smith’s theory of the ‘invisible hand’)
- Planned economy: Economic decisions made by the government/ central planning
In reality, economies are a combination of the two. There is always a conflict/ debate about to what extent economies should be planned/ free, running parallel to the efficiency vs. equity argument, which is one of the central themes of economics…
Positive VS. Normative
Positive economics deals with description and factual analysis that can be proven and tested. Normative is prescriptive: an opinion-based analysis that requires judgment.
Factors of Production
- Land: all natural resources (raw materials, physical land)
- Capital (* not money!): investment that leads to production of goods and services
physical capital: stock of manufactured resources like factories, machinery
human capital: value of workforce (education/ improved healthcare)
social overhead capital: large-scale public systems, services, facilities of country, infrastructure
- Labour: physical and mental contribution of existing workforce to production
- Enterprise/management: Organisation and risk-taking factor in organising the other factors of production
PPC (Production Possibilities Curve)
Shows the maximum combinations of goods and services that can be produced by an economy in a given time period, if all resources are used efficiently and the state of technology is fixed: the potential output.
- Scarcity does not let economy produce outside of PPC
- Economy has to make a choice about the combination of goods it wishes to make
- Therefore there is an opportunity cost
- Convex shape: result of increasing opportunity cost as you increase production of a particular good
- Specialisation of factors
- Transfer most productive goods first
- Not equally suitable
- Shifts in PPC caused by increase or decrease in potential output
- Increase in qty of factors of production
- Improvement in resource quality
- New and improved technology
- Warfare or disease, etc.
A brief introductory video by Garrett Peterson that may be useful:
My school uses this textbook: IB Economics Coursebook: Oxford IB Diploma Programme (International Baccalaureate) (Paperback)
In addition to that textbook, I supplemented my notes with my own research as well as these other two textbooks which I found were more structured and informative: