1 What Is Economics? 1
PART I 1
PRELIMINARIES 1
1 WHAT lS ECONOMICS? 1
PART I PRELIMINARIES 1
Myths about Economics 2
Economics, Scarcity, and Choice 3
Scarcity and the Individual 3 Scarcity and Society 3
Scarcity and Economics 4
The World of Economics 5
Microeconomics and Macroeconomics 5 Positive andNormative Economics 5 Fields of Economics 6
Why Study Economics? 8
The Methods of Economics 9
The Art of Building Economic Models 9 Assumptionsand Conclusions 10 Two Fundamental Assumptions 11
"How Much Math Do I Need?" 13
The Basic Principles of Economics 14
How to Study Economics 15
The Concept of Opportunity Cost 18
2 SCARCITY, CHOICE, AND ECONOMIC SYSTEMS 18
2 Scarcity, Choice, and Economic Systems 18
Opportunity Cost for Individuals 18 Opportunity Costand Society 20
The Principle of Opportunity Cost 20
Economic Systems 26
SpecIalization and Exchange 27 Resource Allocation 32
Resource Ownership 36 Types of Economic Systems 37
Using the Theory: Opportunity Cost and the Internet 39
3 SUPPLY AND DEMAND 43
3 Supply and Demand 43
The Size of the Market 44 Competition in Markets 44
Markets 44
Demand 45
Price and Quantity Demanded 46 The Demand Scheduleand the Demand Curve 47 Changes in Demand 48
Supply 52
Price and Quantity Supplied 52 The Supply Schedule andthe Supp]y Curve 53 Changes in Supply 55
Putting Supply and Demand Together 57
What Happens When Things Change? 60
The Principle of Markets and Equilibrium 63
A Myth about Supply and Demand 64
Government Intervention in Markets 65
Price Ceilings 65 Price Floors 67
Supply and Demandand Normative Economics 68
Using the Theory: Anticipating a Price Change 68
CONCEPT AND USE 73
4 ELASTICITY: 73
4 Elasticity: Concept and Use 73
PART II MICROECONOMICS: FUNDAMENTAL CONCEPTS 73
MICROECONOMICS: FUNDAMENTAL CONCEPTS 73
PART II 73
The Problem with Using Slope 74
Price Elasticity of Demand 74
The Elasticity Approach 75
Calculating Price Elasticity of Demand 76
Categoriz-ing Goods hy Elasticity 78
Elasticity of Straight-LineDemand Curves 80
Elasticity and Total Expenditure 81
Determinants of Elasticity 84
Other Demand Elasticities 90
Income Elasticity of Demand 90 Cross-Price Elasticity ofDemand 93
Price Elasticity of Supply 94
Using the Theory: The Problem with Food 97
5 CONSUMER CHOICE 103
5 Consumer Choice 103
The Budget Constraint 104
Changes in the Budget Line 106
Consumer Preferences 108
Early Insights 108 Rationality 110 Tastes 111
Consumer Decision Making 112
What Happens When Things Change? 116
Changes in Income 116 Changes in Price 117
From Individual to Market Demand 122
Consumers in Markets 122
Challenges to Consumer Theory 123
Using the Theory: Improving Education 124
ApPendix: Consumer Theory with Indifference Curves 131
The Indifference Map 133 The Marginal Rate of Substitution 134
Consumer Decision Making 134
Indifference Curves and the Individual DemandCurve 136
6 Production and Cost 137
6 PRODUCTION AND COST 137
The Nature of the Firm 138
Inputs and Outputs 144
The Short Run and the Long Run 145
Production in the Short Run 146
Cost in the Short Run 153
Production and Cost in the Long Run 161
The Relationship between Long-Run and Short-RunCosts 163
Average Cost and Plant Size 165
Explaining the Shape of the LRATC Curve 166
Using the Theory: Cost Curves andEconomic Reform in Russia 169
7 HOW FIRMS MAKE DECISIONS: PROFIT MAXIMIZATION 175
The Goal of Profit Maximization 175
7 How Firms Make Decisions: Profit Maximization 175
Understanding Profit 176
Two Definitions of Profit 176 Why Are There Profits? 178
The Profit-Maximizing OutPut Level 179
A Myth about Profit 179
Constraints on Revenue and Cost 180 Total Revenue 181
The Goal of the Firm Revisited 192
Wrong and Getting lt Right 197
8 Pure Competition 203
PART III 203
PRODUCT MARKETS 203
8 PURE COMPETITION 203
PART III PRODUCT MARKETS 203
The Notion of Competition 204
What ls Pure Competition? 205
The Purely Competitive Firm 208
The Demand Curve Facing a Competitive Firm 209
Cost and Revenue Data for a Competitive Firm 209
Finding the Profit-Maximizing Output Level 210
Measuring Total Profit 212
The Firm's Short-Run Supply Curve 214
The (Short-Run) Market Supply Curve 216 Short-Run Equilibrium 216
Competitive Markets in the Short Run 216
Competitive Markets in the Long Run 219
Profit and Loss and the Long Run 219
Long-Run Equilibrium 220
Distinguishing Short-Run from Long-Run Outcomes 222
The Notion of Zero Profit in Pure Competition 223
Pure Competition and Plant Size 224
A Summary of the Competitive Firm in the Long Run 225
What Happens When Things Change? 225
Constant-Cost Industries 226
Increasing-Cost Industries 227
Decreasing-Cost lndustries 229
Changes in Demand: A Summary 230
Using the Theory: Changes in Technology 231
9 MonopoLy 236
9 MONOPOLY 236
What ls a Monopoly? 236
The Origins of Monopoly 237
EConomies of Scale 238 Control of Scarce Inputs 238
Government-Enforced Barriers 238
The Single-Price Monopoly 240
Price and Output Decisions of a Single-Price Monopoly 240
Profit and Loss 242 Monopoly in the Short Run 244
Monopoly in the Long Run 245
Comparing Monopoly to Pure Competition 246
Why Monopolies Often Earn Zero Economic Profit 249
Myths about Monopoly 250
Price Discrimination 251
Requirements for Price Discrimination 252
Effects of Price Discrimination 254
The Demise of Monopoly 258
Using the Theory: Price Discrimination at Colleges and Universities 259
10 MONOPOLISTIC COMPETITION ANO OLIGOPOLY 263
The Concept of Imperfect Competition 263
10 Monopolistic Competition and Oligopoly 263
Monopolitic Competition 264
Monopolistic Competition in the Long Run 265
Monopolistic Competition in the Short Run 266
Excess Capacity under Monopolistic Competition 268
Nonprice Competition 269
Oligopoly 270
Oligopoly in the Real World 271
Why Oligopolies Exist 271
Oligopoly Behavior 274
Cooperative Behavior in Oligopoly 278
The Limits to Oligopoly 284
Using the Theory: Advertising in Monopolisric Compettion and Oligopoly 285
The Four Market Structurcs: A Postscript 289
11 The Labor Market 294
PART IV 294
INPUT MARKETS 294
11 THE LABOR MARKET 294
Resource Markets in General 294
PART IV INPUT MARKETS 294
labor Markets in Particular 296
Defining a labor Market 296 competitive labor Markets 297
Demand for Labor by a single Firm 298
The Firm's Employment Decision When Only Labor Is Variable 299
The Firm's Employment Decision When Several Inputs Are Variable 304
The Market Demand for Labor 305
Shifts in the Market Labor Demand Curve 307
Labor Supply 310
Individual Labor Supply 311 Market Labor Supply 313
Shifts in the Market Labor Supply curve 313
Short-Run Versus Long-Run Labor Supply 316
Labor Market Equilibrium 319
what Happens when Things Change？ 321
A Change in Labor Demand 321
A Change in Labor Supply 323 Labor Shortages and Surpluses 324
USing the Theory：Understanding the Market for College-Educated Labor 326
12 Income Inequality 331
12 INCOME INEQUALITY 331
Why Do Wages Differ? 332
An Imaginary World 332 Compensating Differentials 334
Barriers to Entry 340 Union Wage Setting 342
Discrimination and Wages 344
Employer Prejudice 344
Employee and Customer Prejudice 345
Statistical Discrimination 346
Dealing with Discrimination 346
Discrimination and Wage Differentials 347
Measuring Income Inequality 349
Income Inequality，Fairness，and Economics 357
Using the Theory:The Minimum wage 358
13 MARKETS FOR CAPITAL AND NATURAL RESOURCES 363
13 Markets for Capital and Natural Resources 363
Flows versus Stocks 364
Rental Markets and Asset Markets 364
Rental Markets for Capital and Natural Resources 365
Demand for a Resource 365 Supply 367
Market Equilibrium 367
Asset Markets for Capital and Natural Resources 368
Comparing Future Dollars with present Dollars 369
Capitalizing an Income Stream 371
Purchase Prices of Natural Resources 372
An Application:Land Price Differentials 373
Nonrenewable Resources：Are We Doomed? 374
A Model of Resource Exhaustion 375
Betting on the Planet 377
Interest and the Market for Loanable Funds 378
Consumers Time Preference 378
The Time Productivity of Producers 380
Nominal Interest versus Real Interest 380
A Firm's selection of Investment Projects 381
The Loanable Funds Market 382
Financial Markets in the United States 383
Growth and Value 386 Efficient Markets 387
USing the Theory：A COrporate Buyout 388
PART V 392
EFFICIENCY AND THE ROLE OF GOVERNMENT 392
14 ECONOMIC EFFICIENCY AND THE COMPETITIVE IDEAL 392
The Meaning of Efficiency 392
14 Economic Efficiency and the Competitive Ideal 392
PART V EFFICIENCY ANO THE ROLE OF GOVERNMENT 392
Pareto Improvements 393
Side Payments and Pareto Improvements 395
Potential Pareto Improvements 396
Productive Efficiency 397
The Elements of Efficiency 397
Allocative Efficiency 404
Economic Efficiency：Summary 407
The Inefficiency of Imperfect Competition 408
Where Do We Go from Here？ 410
Using the Theory：The Collapse of Communism 410
15 GOVERNMENT’S ROLE IN ECONOMIC EFFICIECY 416
15 Government's Role in Economic Efficiency 416
the Institutional Infrastructure of Market Economy 417
The Legal System 418
Law and Regulation in Perspective 421
Regulation 421
Taxation 422
Market Failures 427
Imperfect Competition 427
Externalities 428
Public Goods 434
Using the Theory：Case Studies of Antitrust and Regulation 437
Breaking Up a Monopoly：Alcoa 437
Regulation and Deregulation The Airlines 437
Preserving Competition：Soft Drinks 439
An Ongoing Challenge：Mighty Microsoft 440
16 WHAT MACROECONOMICS TRIES TO EXPLAIN 445
MACROECONOMICS：BASIC CONCEPTS 445
PART VI 445
PART VI MACROECONOMICS: BASIC CONCEPTS 445
16 What Macroeconomics Tries to Explain 445
Rapid Economic Growth 446
Macroeconomic Concerns 446
High Employment 448
Stable Prices 450
The Macroeconomic Approach 451
Macroeconomic Controversies 452
Aggregation in Macroeconomics 452
As You Study Macroeconomics… 454
17 PRODUCTION，INCOME，AND EMPLOYMENT 457
17 Production, Income, and Employment 457
GDP：A Definition 458
Production and Gross Domestic Product 458
The Expenditure Approach to GDP 462
Other Approaches to GDP 468 Measuring GDP A SummarY 470
Real versus Nominal GDP 471
The Importance of Real Values：A Basic Principle 471
How GDP Used 471 Problems with GDP 473
Employment and Unemployment 474
Types of Unemployment 475
The Costs of Unemployment 478
How Unemployment Is Measured 480
Problems in Measuring Unemployment 482
Using the Theory：Society’s Choice of GDP 484
The Monetary SystEm 489
18 The Monetary System, Prices, and Inflation 489
18 THE MONETARY SYSTEM, PRICES，AND INFLATION 489
HIstory of the Dollar 490
Why Paper Currency Is Accepted as a Means of Payment 490
Measuring the Price Level and Inflation 492
Index Numbers 492 Consumer Price Index 493
How the LPI Has Behaved 493
From Price Index to Inflation Rate 494 How the CPI Is Used 494
Real Variables and Adjustment for Inflation 495
Inflation and the Measurement of Real GDP 497
The Costs of Inflation 497
The Inflation Myth 498
The Redistributive Cost of Inflation 499
The Resource Cost of Inflation 502
Using the Theory：Is the CPI Accurate？ 503
Sources of Bias In the CPI 503
The Consequences of Overstating Inflation 505
Will We Change the CPI？ 506
Appendix：Calculating the CPI，the GDP Price Index，and Real GDP 509
Calculating the Consumer Price Index 509
Calculating the GDP Price Index 510
Calculating Real GDP 511
PRAT VII LONG-RUN MACROECONOMICS 513
19 The Classical Long－Run Model 513
PART VII 513
LOHG-RUN MACROECONOMICS 513
19 THE CLASSICAL LONG-RUN MODEL 513
Macroeconomic Models：Classical versus Keynesian 514
Assumptions of the Classical View 516
How Much Output Will We Produce？ 517
The Labor Market 517
Determining the Economy’s Output 519
Total spending in a Very Simple Economy 521
The Role of Spending 521
Total Spending in a More Realistic Economy 523
Leakages and Injections 524
The Loanable Funds Market 525
The Supply of Funds Curve 526
The Demand for Funds Curve 527
Equilibrium in the Loanable Funds Market 528
The Loanable Funds Market and Say’s Law 529
Money and Prices in the Classical Model 531
The Demand for Money 531
Monetary Equilibrium 532
The Classical Model：A summary 534
Using the Theory：Fiscal and Monetary Policy In the Classical Model 535
An Increase in the Money Supply 538
20 Economic Growth and Rising Living Standards 543
20 ECONOMIC GROWTH AND RISING LIVING STANDARDS 543
The Importance of Growth 544
What Makes Economies Grow 546
Growth in Employment 546
Growth of the Capital stock 552
Investment and the Capital Stock 553
An Increase in Government Purchases 553
Human Capital and Economic Growth 558
Technological Change 559
Economic Growth in the United States 561
The Cost of Economic Growth 562
Budgetary Costs 562
Consumption Costs 563
Opportunity Costs of Workers’Time 565
Sacrifice of Other Social Goals 565
Using ThE Theory：Economic Growth in the Less Developed Countries 566
PART VIII SHORT-RUN MACROECONOMICS 573
21 Booms and Recessions 573
PART VIII 573
SHORT-RUN MACROECONCMICS 573
21 BOOMS AND RECESSIONS 573
Can the Classical Model Explain Booms and Recessions？ 575
Shifts n Labor Demand 576
Shifts in Labor Supply 577
Verdict：The Classical Model Cannot Explain Booms and Recessions 578
Booms and Recessions：A More Realistic View 578
Opportunity Cost and Labor supply 579
Firms’Benefits from Hiring：The Labor Demand Curve 580
The Meaning of Labor Market Equilibrium 580
The Labor Market in a Recession 582
The Labor Market in a Boom 582
What Triggers Booms and Recessions？ 583
A very Simple Economy 583
The Real-World Economy 583
Shocks That Push the Economy Away from Equilibrium 584
Job Destruction and Job Greation 586
The Economics of slow Adjustment 587
Adjustment in a Boom 588
Adjustment in a Recession 589
The Speed of Adjustment 589
Where Do We Go from Here? 590
22 The short－Run Keynesian Model 593
22 THE SHORT-RUN KEYNESIAN MODEL 593
Consumption Spending 595
The Relationship between Consumption and Disposable Income 596
The Relationship between Consumption and Income 599
Shifts in the Consumption－Income Line 601
Investment Spending 603
Government Purchases 604
Income and Aggregate Expenditure 604
Finding Equilibrium GDP 606
Inventories and Equilibrium GDP 607
Finding Equilibrium GDP with a Graph 608
Equilibrium GDP and Employment 611
What Happens When Things Change? 614
A Change in Investment Spending 614
The Expenditure Multiplier 615
The Multiplier in Reverse 617
Other Spending Shocks 618
A Graphical View of the Multiplier 618
An Important Proviso about the Multiplier 620
Comparing Models：Classical and Keynesian 622
The Role of saving 622
The Effect of Fiscal Policy 623
Using the Theory：The Recession of 1990－1991 623
Appendix1：Finding Equilibrium GDP Algebraically 627
Appendix2：The Special Case of the Tax Multiplier 628
PART IX MONEY， PRICES， AND FLUCTUATIONS 630
23 The Banking System and the Money Supply 630
23 THE BANDING SYSTEM AND THE MONEY SUPPLY 630
What Is Counted as Money 630
Measuring the Money stock 631
Assets and Their Liquidity 631
MI and M2 633
The Banking system 634
Financial Intermediaries 635
Commercial Banks 636
A Bank’s Balance sheet 636
The Federal Reserve System 638
The Structure of the Fed 638
The Federal Open Market Committee 639
The Fed and the Money supply 641
The Functions Of the Federal Reserve 641
How the Fed Increases the Money supply 642
The Demand Deposit Multiplier 645
The Fed’s EfFect on the Banking System as a whole 647
How the Fed Decreases the Money supply 648
Some Important Provisos about the Demand Deposit Multiplier 650
Other Tools for Controlling the Money supply 651
Using the Theory：Bank Failures and Banking Panics 652
24 The Money Market and the Interest Rate 658
The Demand for Money 658
24 THE MONEY MARDET AND THE INTEREST RATE 658
An Individual’s Demand for Money 659
The Economy-Wide Demand for Money 660
The supply of Money 662
Equilibrium in the Money Market 663
How the Money Market Reaches Equilibrium 665
How the Fed Changes the Interest Rate 665
What Happens when Things Change? 668
The Fed in Action 669
How Do Interest Rate Changes Affect the Economy? 671
Fiscal Policy (and Other spending Changes) Revisited 673
Shifts in the Money Demand Curve 677
Arc There Two Theories of the Interest Rate? 680
Using the Theory：Active versus Passive Policy 681
the Fed’s Response to Spending shocks 682
The Fed’s Response to Changes in Money Demand 683
25 Aggregate Demand and Aggregate Supply 688
25 AGGREGATE DEMAND AND AGGREGATE SUPPLY 688
The Aggregate Demand Curve 689
Understanding the AD Curve 691
Movements along the AD Curve 692
Shifts of the AS Curve 692
The Aggregate Supply Curve 696
Prices and Costs in the Short Run 697
Deriving the Aggregate Supply Curve 700
Movements along the AS Curve 701
Shifts of the AS Curve 704
AD and AS Together：Short－Run EquIlibrium 704
What Happens When Things Change? 705
Demand Shocks in the Short Run 705
Demand Shocks：Adjusting to the Long Run 708
The Long－Run Aggregate Supply Curve 711
Supply Shocks 713
some Important Provisos about the AS Curve 715
Using the Theory：The Recession and Recovery of 1990-92 716
PART X 720
MACROECONOMIC POLICY 720
PART X MACROECONOMIC POLICY 720
26 Inflation and Monetary Policy 720
The objectives of Monetary Policy 720
Low, Stable Inflation 721 Full Employment 721
The Fed’s performance 723
Federal Reserve Policy：Theory and Practice 723