CHAPTER 1

The Scope and

Method of Economics
Appendix: How to Read and Understand Graphs

© 2004 Prentice Hall Business Publishing Principles of Economics, 7/e Karl Case, Ray Fair
 The Study of Economics
C H A P T E R 1: The Scope and Method of Economics

• Economics is the study of how

individuals and societies
choose to use the scarce
resources to satisfy unlimited
human wants.

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 Why Study Economics?
C H A P T E R 1: The Scope and Method of Economics

Three fundamental concepts:

• Scarcity
• Choice
• Opportunity cost

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 Opportunity Cost
C H A P T E R 1: The Scope and Method of Economics

• Opportunity cost is the best

alternative that we forgo, or
give up, when we make a
choice or a decision.

• Nearly all decisions involve

trade-offs.

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 The Scope of Economics
C H A P T E R 1: The Scope and Method of Economics

• Microeconomics is the branch

of economics that examines
the behavior of individual
decision-making units—that is,
business firms and
households.

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 The Scope of Economics
C H A P T E R 1: The Scope and Method of Economics

• Macroeconomics is the
branch of economics that
examines the behavior of
economic aggregates—
income, output, employment,
and so on—on a national
scale.

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 The Scope of Economics
C H A P T E R 1: The Scope and Method of Economics

Examples of microeconomic and macroeconomic concerns

Production Prices Income Employment
Microeconomics Production/Output Price of Individual Distribution of Employment by
in Individual Goods and Income and Wealth Individual
Industries and Services Businesses &
Businesses Wages in the auto Industries
Price of medical industry Jobs in the steel
How much steel care Minimum wages industry
How many offices Price of gasoline Executive salaries Number of
How many cars Food prices Poverty employees in a firm
Apartment rents
Macroeconomics National Aggregate Price National Income Employment and
Production/Output Level Total wages and Unemployment in
salaries the Economy
Total Industrial Consumer prices
Output Producer Prices Total corporate Total number of
Gross Domestic Rate of Inflation profits jobs
Product Unemployment
Growth of Output rate

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 The Method of Economics
C H A P T E R 1: The Scope and Method of Economics

• Positive economics studies

economic behavior without
making judgments. It
describes what exists and how
it works.

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 The Method of Economics
C H A P T E R 1: The Scope and Method of Economics

• Normative economics, also

called policy economics,
analyzes outcomes of
economic behavior, evaluates
them as good or bad, and may
prescribe courses of action.

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 Theories and Models
C H A P T E R 1: The Scope and Method of Economics

• Theories involve models, and

models involve variables.

• A model is a formal statement of a

theory. Models are descriptions of
the relationship between two or more
variables.

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 Theories and Models
C H A P T E R 1: The Scope and Method of Economics

• A variable is a measure that can

change from observation to
observation.

• The ceteris paribus device is part of

the process of abstraction.
• Using the ceteris paribus, or all else
equal, assumption, economists study
the relationship between two variables
while the values of other variables
remain constant.
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 Economic Policy
C H A P T E R 1: The Scope and Method of Economics

Criteria for judging economic outcomes:

• Efficiency, or allocative efficiency.

An efficient economy is one that
produces what people want at the
least possible cost.

• Equity, or fairness of economic

outcomes.

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 Economic Policy
C H A P T E R 1: The Scope and Method of Economics

Criteria for judging economic outcomes:

• Economic growth, or an increase in

the total output of an economy.

• Economic stability, or the condition

in which output is steady or growing,
with low inflation and full employment
of resources.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

• A graph is a two-
dimensional
representation of a
set of numbers or
data.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

Total Disposable Personal Income in

the United States: 1975-2002 (in
• A time series
billions of dollars)
graph shows
8000
7500
how a single
Total disposable personal income

7000
6500
6000
variable changes
5500
5000
4500
over time.
4000
3500
3000
2500
2000
1500
1000
1975 1980 1985 1990 1995 2000
Year

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

• The Cartesian coordinate system is the

most common method of showing the
relationship between two variables.
• The horizontal line is
the X-axis and the
vertical line the Y-axis.
The point at which the
horizontal and vertical
axes intersect is called
the origin.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

• The point at which the

line intersects the Y-axis
(point a) is called the Y-
intercept.

• The Y-intercept, is the

value of Y when X = 0.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

• The slope of the line

indicates whether the
relationship between
the variables is positive
or negative.
• The slope of the line is
computed as follows:

Y Y1  Y0
b= 
 X X1  X 0

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

• This line slopes

upward, indicating that
there seems to be a
positive relationship
between income and
spending.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

An upward-sloping A downward-sloping
line describes a line describes a
positive relationship negative relationship
between X and Y. between X and Y.

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

5 7
b  0.5 b    0.7
10 10

0 10
b 0 b 
10 0

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 Appendix:
C H A P T E R 1: The Scope and Method of Economics

How to Read and Understand Graphs

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