Slides for October 11 Microeconomics Lecture

Economics 1: Fall 2010

J. Bradford DeLong, Michael Urbancic, and a cast of thousands...

hAp://delong.typepad.com/econ_1_fall_2010/

Ladies and Gentlemen, to Your i>Clickers...

•  About how much does use of markets rather than command amplify societal economic producMvity? – A. None – B. Doubles it – C. Triples it – D. Quadruples it – E. Quintuples it

Administrivia: The Next Month: The Long March to the Second Midterm

•  M Oct 11: Choice, Scarcity, and Exchange

•  W Oct 13: Markets and Other AllocaMon Procedures. Essay 2: two-‐pages on human social large-‐scale cooperaMon

•  M Oct 18: Working with Supply and Demand

•  W Oct 20: ProducMon and Equilibrium in the Short Run and the Long Run. Problem set 4

•  M Oct 25: General Equilibrium and the "Efficiency" of "Perfect" CompeMMon.

•  W Oct 27: Monopoly. Problem set 5 •  M Nov 1: Oligopoly •  W Nov 3: MonopolisMc CompeMMon.

Problem set 6 •  M Nov 8: MIDTERM 2 EXAM

Economics 1: Fall 2010: Choice, Scarcity, and Exchange

J. Bradford DeLong

October 11, 2010, 12-‐1 Wheeler Auditorium, U.C. Berkeley

Guessing at Some Numbers •  Growth rates of populaMon

–  HG: 0.01%/year –  AS: 0.05%/year –  EM: 0.2%/year –  >1800: 1.0%/year

•  Growth rates of technological and organizaMonal knowledge –  HG: ???? –  AS: 0.01%/year –  EM: 0.09%/year –  IS: 2%/year

•  Growth rates of global GDP –  AS: 0.05%/year –  EM: 0.2%/year –  EIS: 1.4%/year –  IS: 3.4%/year

Convergence to 2009

How Much Does Market OrganizaMon MaAer?

•  We have a 20th century “natural experiment”

•  High Stalinist central planning –  Marx’s suspicion of markets as

surplus-‐extracMon devices –  Hence, the communists said, we

won’t have any –  We will reproduce the Rathenau-‐

Ludendorff World War I Imperial German war economy

–  Communes, economies of scale, GOSPLAN, etc.

•  Effect: you throw away a five-‐ to ten-‐fold amplificaMon of producMvity by eschewing the market –  Effect on human welfare can be

greater or smaller

How Much Does Market OrganizaMon MaAer?

Effect on Human Welfare Can Be Greater or Lesser

•  Lesser: –  In Cuba life expectancy is high –  In Cuba inequality is low

•  Greater:

The Economic Problem •  Stuff:

–  What... –  How... –  For whom...

•  We can’t make everything •  Where there is no scarcity—or

where we don’t care that there is scarcity—there is no economic problem

•  Where there is, and where we care, there is an economic problem: –  Ursula K. LeGuin: Urras and

Anarres –  Jan Wenner vs. Paul Allen

What Do We Care About?

•  We care about choices between things we value

•  “Opportunity cost” – What is the “opportunity cost” of aAending Cal? •  Cash cost plus foregone wages plus foregone valuable experience plus Med to Berkeley plus not a boring job...

– What is the “opportunity cost” of drinking a cup of coffee? •  You can’t spend the Mme and money taking yoga lessons

Scarcity and Choice in a MulM-‐Person Economy

•  Dharma and Greg – Greg is good at making coffee—can make, say, 10 cups a day •  But inept at yoga—one lesson a day max

– Dharma is good at doing (and teaching) yoga—can teach 5 lessons a day •  But can only make two cups of coffee

Greg and Dharma in Autarky

A Market with cu2 Yoga Lessons!

What the Market System Gets Us •  Win-‐win

–  Dharma benefits as long as the price of yoga lessons > cu0.40

–  Greg benefits as long as the price of yoga lessons < cu10

•  Wealth MaximizaMon –  Any price between cu0.40 and cu10

produces an “wealth-‐maximizing producMon outcome

–  Any price between cu0.40 and cu10 produces an efficient allocaMve outcome

–  Any price outside the range shuts the market—and specializaMon—down

•  DistribuMon: –  A price of cu10 gives all the surplus to

Dharma –  A price of cu0.40 gives all the surplus to

Greg –  A price of cu2 makes them equally well

off •  Or does it?


•  The “economic problem”: – A. Is figuring out how to deal with the fact of scarcity in (at least some of) the things we care about.

–  B. Is the result of high opportunity costs. –  C. Was solved for all Mme by the wave of technological innovaMon that was the Industrial RevoluMon.

– D. Is that supply is not guaranteed to match demand. –  E. Is that of figuring out what prices should be charged in markets

In Order to Coordinate...

•  ...in an economy with N commodiMes via the market, you have to... – 1. Find a whiteboard – 2. Write down N prices

– 3. Laissez-‐faire – 4. Maybe you don’t have to write down the prices

In Order to Coordinate...

•  ...in an economy with N commodiMes via a bureaucraMc command-‐and-‐control hierarchy, you have to... –  1. Tell everybody what to do

–  2. Tell everybody what they are going to consume

–  3. Check up to make sure everybody is doing what they are supposed to be doing

How Important Are These InformaMonal Differences?

•  With two people—Dharma and Greg—these informaMon differences may not seem that important

•  But with 140 million workers and with 100,000 different commodiMes?

•  What if it is more producMve to do pieces of the division of labor via bureaucraMc command-‐and-‐control? –  Then the market provides

incenMves to create such islands within itself—that is what big businesses are

QuesMons to Ask of Any Societal CalculaMng Mechanism

•  Is it aAainable? –  i.e., China during the Great Leap Forward

not aAainable

•  Will the right people be making the right things?

•  Will anybody say “I don’t want that, I want this instead”?

•  Will it be fair? –  The cu0.40 price allocaMon might be

Pareto-‐opMmal •  Dharma teaches yoga •  Dharma consumes 2.5 yoga and 1 cup of

coffee—and at a price of cu0.4 doesn’t want to teach any more or less for any more or less coffee

•  Greg consumes 2.5 yoga and 9 cups of coffee—if he doesn’t like yoga that much, he might not want to take any more yoga lessons even at a price of cu0.4

–  But it doesn’t seem fair, does it? •  That is what we will look at next

Mme...


•  What is the single principal reason to have a market economy rather than a bureaucraMc-‐command economy? –  A. It is more producMve –  B. It requires that a huge amount less of effort be spent on centrally collecMng and processing informaMon

–  C. It requires that a huge amount less of effort be spent checking up on people to make sure that they are doing what they are supposed to be doing

–  D. Its tolerance of independent centers of social power makes a collapse into oppressive dictatorship less likely.

–  E. It is fairer

Test Your Knowledge

•  What is the “economic problem”? •  What is “opportunity cost”? •  What informaMon do we need to disseminate in order for a market economy to funcMon?

•  What informaMon do we need to acquire and process in order for a centrally-‐planned bureaucraMc economy to funcMon?

•  What are the quesMons we should ask of any societal social calculaMng mechanism?

Documents

Slides for October 11 Microeconomics Lecture