goal of economics for the individual maximize happiness: “utility” subjective as to what...

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GOAL OF ECONOMICS FOR THE INDIVIDUAL

MAXIMIZE HAPPINESS: “UTILITY”

SUBJECTIVE AS TO WHAT COMPOSES A PERSON’S “UTILITY FUNCTION”

* RESOURCES* LEISURE* OTHER PERSON’S UTILITY* GLOBAL GOALS

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HOW MUCH SHOULD YOU “SEARCH” FOR HAPPINESS?

TIME LOOKING FOR LOWEST GAS PRICE

TIME LOOKING FOR BEST APARTMENT

TIME LOOKING FOR BEST JOB

TIME LOOKING FOR PERFECT MATE

SEARCH INVOLVES TIME (AND SOMETIMES, MONEY) COSTS

OPPORTUNITY COST OF SEARCH (WEB INFORMATION HAS REDUCED)

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THE DEMAND CURVE

“WANTS” AND “NEEDS” – WHAT YOU’D LIKE TO HAVE NOT RECOGNIZING PRICE

“DEMAND” – HOW MUCH YOU BUY AT A GIVEN PRICE

COMPARE THE SUBJECTIVE VALUE YOU DERIVE TO PRICE

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CONCEPT OF “MARGINAL VALUE” – WHY WE BUY MORE WHEN PRICE FALLS

ADDITIONAL AMOUNTS OF SOMETHING ARE WORTH LESS TO US THAN EARLIER AMOUNTS

AT $3/GALLON, 20TH GALLON IS JUST WORTH $3 TO MARY

TO BUY 21ST GALLON, PRICE WOULD HAVE TO FALL TO $2.90

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ILLUSTRATES THE IDEA OF “MARGINAL DECISION-MAKING”

MOST OR OUR DECISIONS INVOLVE SMALL CHANGES – BUY ONE MORE GALLON OF GAS; SPEND ONE MORE HOUR STUDYING

COMPARE BENEFITS OF BUYING ONE MORE GALLON OF GAS TO BENEFITS OF SPENDING THAT MONEY IN ANOTHER WAY

COMPARE BENEFITS OF STUDYING ONE MORE HOUR TO BENEFITS OF USING THAT HOUR IN ANOTHER WAY

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IDEA OF CONSUMER SURPLUS

IF BUY AT SAME PRICE PER UNIT FOR ALL UNITS, THEN GET A “BARGAIN” ON EARLIER UNITS WHERE WILLING TO PAY MORE

IN EXAMPLE, WHEN PRICE IS $5, CONSUMER SURPLUS IS $4+$3+$2+$1=$10

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SELLERS TRY TO “EXTRACT” CONSUMER SURPLUS

CHANGING FEATURES OF PRODUCT SO NOT SAME TO ALL

DIVIDING BUYERS INTO DIFFERENT GROUPS (MARKET SEGMENTATION – MORE LATER)

ULTIMATE EXAMPLES – HOME AND CAR BUYING – UNIQUE PRICE TO EACH BUYER

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ANOTHER EXAMPLE IS TWO-PART PRICING

FIRST PART – PAY AN ENTRANCE FEE

SECOND PART – PAY FOR NUMBER OF UNITS

EXAMPLES AMUSEMENT PARKS BIG-BOX STORES

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CAUTIONS ON COMPARING PRICES

MOST PRICES INVOLVE TRADE-OFFS

THE ADAGE “TOO GOOD TO BE TRUE” IS OFTEN RELEVANT

FOR PRICES* SAME PRODUCT CHARACTERISTICS?* SERVICE CONTRACTS, DELIVERY?* WARRENTIES?* PAY NOW VERSUS PAY LATER?

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IMPACT OF INCOME ON HOW MUCH WE BUY

“NORMAL GOOD” – HIGHER INCOME PERSON BUYS MORE AT EVERY PRICE

“INFERIOR GOOD” – HIGHER INCOME PERSON BUYS LESS AT EVERY PRICE * SECOND HAND CLOTHES * FAST FOOD * USED VEHICLES

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EXAMPLES OF NORMAL AND INFERIOR GOODS

MIKE MARY ($20,000) ($150,000)Fast food burgers per month 20 3

Pairs of new shoes per year 1 15

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PRICE OF COMPLEMENTS

COMPLEMENTS – PRODUCTS THAT YOU LIKE TO CONSUME TOGETHER - BACON AND EGGS

PRICE OF BACON UP, EAT LESS BACON AND EAT LESS EGGSPRICE OF BACON DOWN – EAT MORE BACON AND EAT MORE EGGS

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PRICE OF SUBSTITUTES

SUBSTITUTES – PRODUCT THAT CAN USE IN PLACE OF ANOTHER - CHICKEN AND BEEF

PRICE OF CHICKEN UP – EAT LESS CHICKEN AND EAT MORE BEEFPRICE OF CHICKEN DOWN – EAT MORE CHICKEN AND EAT LESS BEEF

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IMPORTANCE OF LOCATION TO PRODUCT PRICE

CONSUMERS ARE WILLING TO PAY MORE FOR PRODUCTS SOLD IN MORE CONVENIENT LOCATIONS-- HOUSING-- GAS MORE EXPENSIVE AT CONVENIENTLY LOCATED STATIONS

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GREAT EXAMPLE – IMPACT OF SCHOOLS ON HOME PRICES

HOMES IN NEIGHBORHOODS WHERE STUDENTS PERFORM BETTER ACADEMICALLY SELL FOR MORE, AFTER ADJUSTING FOR ALL OTHER FACTORS THAT AFFECT HOME VALUES

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BUYING VERSUS RENTINGADVANTAGES OF OWNING:

• FREEDOM OF USE• SECURITY OF POSSESSION• FOR SOME, POTENTIAL FOR INVESTMENT

GAINS - POSSIBLE FOR HOMES - RARELY FOR VEHILCES• OFTEN LOWER COST OVER LONG-RUN

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BUYING VERSUS RENTING, IIRENTING ADVANTAGES:

• EASIER TO CHANGE• NO RISK OF LOSS• POSSIBLE SHORT-RUN SAVINGS SINCE DON’T PAY FOR DEPRECIATION

HAS THERE BEEN A PERMANENT CHANGE IN THE ECONOMICS OF OWNING VERSUS RENTING?

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PREFERENCES PERSONAL “LIKES” AND “DISLIKES”

I’LL BUY MORE TIES THAN YOU AT ANY PRICE

YOU’LL BUY MORE FLIP-FLOPS THAN ME AT ANY PRICE

ROLES OF ADVERTISING, AGE, PEERS

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POTENTIAL USE OF “BROKERS” TO ACQUIRE INFORMATION

WHEN INFORMATION IS TIME-CONSUMING TO ACQUIRE, OR DIFFICULT TO UNDERSTAND, BUYERS SOMETIMES USE A BROKER

BROKER COLLECTS THE INFORMATION AND ANALYZES FOR THE BUYER

PAID FOR SERVICESQUESTION: WHO PAYS THE BROKER?

INTERNET HAS REDUCED THE COST TO BUYERS OF ACQUIRING INFORMATION

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CREDIT AND BUYING USING CREDIT (BORROWING) CAN INCREASE YOUR ABILITY TO SPEND TODAY

EFFECTIVELY BORROWING AGAINST FUTURE INCOME

CONCERN – ABILITY TO REPAY IN FUTUREWILL ALWAYS PAY MORE DUE TO INTEREST CHARGES

BEST USED FOR “DURABLE” PRODUCTS AND INVESTMENTS – SOMETHING THAT HAS FUTURE BENEFITS

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SEE EVERYDAY ECONOMICS

CHAPTER 12: HOW MUCH IS TOO MUCH DEBT?

CHAPTER 13: HOW TO GET OUT OF DEBT

BEWARE OF “DEBT CONSOLIATION AND PAYMENT” SCHEMES

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SMART BUYING

CONSIDER WHAT CAN BUY WITH SAME MONEY (OPPORTUNITY COST)

CONSIDER CURRENT AND FUTURE COSTS - VEHICLE – PURCHASE PRICE AND ANNUAL OPERATING COSTS

PAY MORE NOW TO SAVE LATER? – HOW JUDGE (MORE LATER)

BUY “OFF-PEAK” (OUT-OF-SEASON) TO SAVE

WAIT – PRICE LOWER IN FUTURE?

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SMART BUYERS ALSO IGNORE “SUNK COSTS” IN THEIR DECISIONS

COSTS THAT YOU’VE PAID AND CAN’T GET BACK

IRRELEVANT TO THE FUTURE

EXAMPLE: PAID $200 FOR PLANE TICKET TO WASHINGTON FOR A JOB INTERVIEW; CHANCE TO HAVE AN INTERVIEW HERE FOR A BETTER JOB – DO THE INTERVIEW HERE AND FORGET THE $200

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TIME AND MONEY

VALUE OF MONEY DEPENDS ON AMOUNT AND WHEN IT’S PAID OR RECEIVED

USUALLY, PRICES ARE HIGHER IN THE FUTURE AND LOWER IN THE PAST

SO DOLLARS IN PAST ARE WORTH MORE – GREATER PURCHASING POWER THAN DOLLARS TODAY

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DEFINITIONS

“NOMINAL DOLLARS” - “ACTUAL” DOLLAR AMOUNTS, UNADJUSTED FOR PURCHASING POWER

“REAL DOLLARS” – DOLLARS ADJUSTED FOR PURCHASING POWER

CONVENTION – EXPRESS DOLLARS IN THEIR PURCHASING POWER OF THE CURRENT YEAR (2014)

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USE PRICE INDICES TO SHOW HOW PURCHASING POWER OF DOLLAR HAS CHANGED

EXAMPLE: CONSUMER PRICE INDEX VALUE OF 100 IN 1983 VALUE OF 218 TODAY (2014) MEANS TAKES $2.18 TODAY TO PURCHASE WHAT $1.00 BOUGHT IN 1983 THEREFORE, IF EARNED $10,000 IN 1983, WOULD BE THE SAME AS EARNING $21,800 TODAY. SAYING THE SAME THING, THE “PURCHASING POWER” OF $10,000 IN 1983 IN “2014 DOLLARS” IS $21,800

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WAYS FOR CALCULATING THE PURCHASING POWER - IN TODAY’S DOLLARS – OF PAST DOLLARS

1. PAST DOLLAR X (CPI TODAY/CPI PAST YEAR) AMOUNT

RUSS EARNED $50,000 IN 2000; WHAT’S THE PURCHASING POWER TODAY – IN 2014 – OF THAT SALARY? CPI 2000 = 172 CPI 2014 = 218$50,000 X (218/172) = $63,372 $50,000 IS THE “NOMINAL” SALARY $63,372 IS THE “REAL” SALARY

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CALCULATING PURCHASING POWER IN TODAY’S DOLLARS - CONTINUED

2. HAVE A TABLE WITH (CPI TODAY/CPI PAST YEAR) ALREADY CALCULATED CALLED “PURCHASING POWER CONVERTERS” (Everyday Economics, page 4).

SAME EXAMPLE: RUSS EARNED $50,000 IN 2000; WHAT’S HIS PURCHASING POWER IN 2014?

$50,000 X 1.2674419 = $63,372

TABLE OF PURCHASING POWER CONVERTERS MUST BE UPDATED EACH YEAR

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CALCULATING PURCHASING POWER IN TODAY’S DOLLARS - CONTINUED

3. HAVE TOTAL INFLATION RATE BETWEEN THE TWO YEARS

Example: Inflation rate between 2000 and 2014 was 26.7%

26.7% = 0.267 Then add 1.00 and multiply: $50,000 x 1.267 = $63,350 (rounding difference)

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PRICES ALSO VARY GEOGRAPHICALLY: STATE TO STATE OR CITY TO CITY

CHAPTER 2, EVERYDAY ECONOMICS

COST-OF-LIVING INDEX FOR NORTH CAROLINA: 96.9

COST-OF-LIVING INDEX FOR NEW YORK: 132.7

COST-OF-LIVING IN NEW YORK IS ((132.7/96.9)-1)*100 = 36.9% HIGHER THAN IN NORTH CAROLINA

SO NEED $1.37 IN NY TO EQUAL $1.00 IN NC FOR SAME PURCHASING POWER

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MULTIPLE APPLICATIONS

CONVERT SALARIES, PRICES, COSTS, PROFITS, ETC.

CAN CONVERT AND COMPARE NOMINAL $ THAT START AT DIFFERENT YEARS

SEE WWW.BLS.GOV FOR CPI VALUES 1913, CPI = 9.8, SO A DOLLAR THEN WOULD BE WORTH (238/9.8) OR $24