Llad Phillips1 Introduction to Economics Outline: Lecture One n Information About the Course n What...

Llad Phillips 1

Introduction to EconomicsOutline: Lecture One

Introduction to EconomicsOutline: Lecture One

Information About the CourseInformation About the Course What is economics all about?What is economics all about? Examples: Elements of Personal FinanceExamples: Elements of Personal Finance

Buying or Leasing a CarBuying or Leasing a Car

Economics 109 Llad Phillips Fall 2002Introduction to Economics

Hour, Location: 2:00-3:15, Engineering 1104Instructor: Llad Phillips, [email protected] Hours: NH 3032, 9:30-10:15 TuTh and 10:30-11:15 W, and by appointment

Arthur O’Sullivan and Steven Sheffrin, Economics, Principles and Tools, Third Edition(2003,2001)

Labs(sections)12617 F 9:00-9:50 AM Jalama Lab, Phelps 1517

MCL 12625 M 2:00-2:50 PM Rincon Lab, Phelps 151812633 M 7:00-7:50 PM Jalama Lab, Phelps 151712641 W 8:00-8:50 AM Jalama Lab, Phelps 1517

Note 12658 Th 6:30- 7:20 PM Rincon Lab, Phelps 151812666 F 1:00-1:50 PM Rincon Lab, Phelps 1518

Teaching Assistants: Dunghun Cho, Office: NH 2048Taeil Kang, Office: NH 2048Kirk Lesh, Office: NH 2043

Exams:Quiz: Tuesday, Oct. 17. You will need scantron sheet and #2 pencil.Midterm: Tuesday, Nov. 5, 2:00-3:15 PM. You will need scantron sheet

and #2 pencil.Final: Thursday, Dec. 12, 4:00-7:00 PM, You will need scantron sheet and

#2 pencil.

Problem Assignments: At least half of the questions on the 25 minute quiz will be from the assigned problems, both text and lab. Due at the next Lab(section).

Standing Assignment: Read the business section of the Los Angeles Times .

Course Home Page: http://www.econ.ucsb.edu/ Note: menu on the

left, Class Pages: Economics 109

Text Home Page:http://www.prenhall.com/osullivan/

Lecture Topics and Reading List

Part OnePersonal Finance: Economics in Everday Life

1. Tuesday Sept. 25, Lecture One: "Choosing a method to finance a car"Buying or Leasing a car

The choice between:paying cashleasingbuying on time

Reading Assignment:

O’Sullivan and Sheffrin: Ch.1, “Introduction: What is Economics?”

emphasis: concepts of scarcity and production possibilities curve

O’Sullivan and Sheffrin: Appendix to Ch.1, “Using Graphs and Formulas”

Problems O & S Text: p.13: 1, 2, 3, 4, 5.p. 21: 1, 2, 3, 4, 5, 6

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Lectures:Organization of Concepts

Lectures:Organization of Concepts

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Collective, Group or Social Behavior

Collective, Group or Social Behavior

PoliticalPolitical SocialSocial CulturalCultural EconomicEconomic

How to understand and cope with the economic How to understand and cope with the economic part of lifepart of life

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World Economy

Japan MexicoEuropeanUnion

US Economy

YOU Me

Japan

Iraq

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World Economy

US Economy

YOU Me

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Topics in Personal Finance, What Can We Learn from Econ?Topics in Personal Finance, What Can We Learn from Econ? Buying a CarBuying a Car Buying a HouseBuying a House Budgeting ExpensesBudgeting Expenses Saving and Investing MoneySaving and Investing Money

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Concepts and Buying a CarConcepts and Buying a Car

ScarcityScarcity Consumer Durable and DepreciationConsumer Durable and Depreciation opportunity costopportunity cost Consumer ChoiceConsumer Choice

brand and model brand and model how to payhow to pay

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What is Economics All About?What is Economics All About?

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Five Topic AreasFive Topic Areas Personal Finance and the IndividualPersonal Finance and the Individual

incomeincome expenditureexpenditure

income-expenditure statementincome-expenditure statement

wealth or net assetswealth or net assets asset-liabilities statementasset-liabilities statement

The National EconomyThe National Economy Markets: Competition versus MonopolyMarkets: Competition versus Monopoly The Global EconomyThe Global Economy Economic WelfareEconomic Welfare

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Five Topic AreasFive Topic Areas II. The National EconomyII. The National Economy

consumersconsumers business firmsbusiness firms governmentgovernment

III. Competition versus Monopoly, the FirmIII. Competition versus Monopoly, the Firm how monopoly shafts the consumerhow monopoly shafts the consumer how competition benefits the consumerhow competition benefits the consumer anti-trust policyanti-trust policy

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Five Topic AreasFive Topic Areas

IV. The Global EconomyIV. The Global Economy TradeTrade Balance of PaymentsBalance of Payments Foreign ExchangeForeign Exchange

Economic WelfareEconomic Welfare distribution of incomedistribution of income povertypoverty aging and healthaging and health public goods, e.g. safetypublic goods, e.g. safety

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Year Before Last Year’s (2000)Current Economic Questions

Year Before Last Year’s (2000)Current Economic Questions

Who is better for you, Bush or Gore?Who is better for you, Bush or Gore? Is the great bull market of the 90’s over?Is the great bull market of the 90’s over? Is the economy about to crash?Is the economy about to crash? Is Japan going to recover?Is Japan going to recover? Will the government break up Microsoft?Will the government break up Microsoft?

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Last Year’s (2001)Current Economic Questions

Last Year’s (2001)Current Economic Questions

Are we in a recession?Are we in a recession? How bad could it get?How bad could it get? How long will it last?How long will it last? Will the stock market stabilize?Will the stock market stabilize? What kind of economic impact did the What kind of economic impact did the

attack have?attack have? If we continue to mobilize, what kind of If we continue to mobilize, what kind of

economic impact will that have?economic impact will that have?

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http://www.odci.gov/ World Factbook 2001

Afghanistan,GDP per capita: $800 versus US $36,200

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http://www.odci.gov/ World Factbook 2001

Iraq,GDP per capita: $2500 versus US $36,200

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Introduction to EconomicsIntroduction to Economics

Elements of Personal FinanceElements of Personal Finance

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Elements of Personal FinanceElements of Personal Finance

Economics in every day lifeEconomics in every day life buying or leasing a carbuying or leasing a car buying or renting a homebuying or renting a home personal financial planningpersonal financial planning managing personal investmentsmanaging personal investments managing a household budgetmanaging a household budget determinants of personal incomedeterminants of personal income

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Buying or Leasing a CarBuying or Leasing a Car

Your choice of vehicleYour choice of vehicle Is it what you need?Is it what you need? Is it what you want?Is it what you want? Is it what you can afford?Is it what you can afford? Loss of value through depreciation of your carLoss of value through depreciation of your car

physical wear and tearphysical wear and tear decrease in resale value: paying a premium for decrease in resale value: paying a premium for

newnessnewness

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The Process of Economic Decision MakingThe Process of Economic Decision Making Compare alternative choicesCompare alternative choices

if you make a choice are you giving anything if you make a choice are you giving anything up (a cost) to get what you want?up (a cost) to get what you want?

Which is the best choice?Which is the best choice? Criteria: lowest cost or highest benefit net of Criteria: lowest cost or highest benefit net of

costcost

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Economic Concept: Consumer Durable, e.g. car, refrigeratorEconomic Concept: Consumer Durable, e.g. car, refrigerator perishable good: strawberriesperishable good: strawberries

experience with Farmers’ Marketsexperience with Farmers’ Markets Haymarket Square in BostonHaymarket Square in Boston

Why did institutional buyers, such as convents, buy on Why did institutional buyers, such as convents, buy on late Saturday afternoons?late Saturday afternoons?

durable good: cardurable good: car resale value declines each yearresale value declines each year

How does this affect choice of which car to buy?How does this affect choice of which car to buy?

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Sources of InformationSources of Information Kelley Blue Book: Used Car GuideKelley Blue Book: Used Car Guide

bookstoresbookstores Kelley Blue Book: InternetKelley Blue Book: Internet

Universal Resource Locator(URL)Universal Resource Locator(URL) http://www.kbb.com/http://www.kbb.com/

ManufacturersManufacturers NissanNissan

http://www.nissandriven.com/http://www.nissandriven.com/

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2003 Nissan Altima2003 Nissan Altima

Kelley Blue Book

http://www.nissan-usa.com/

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Economic Decision MakingEconomic Decision Making

choice of a vehiclechoice of a vehicle Nissan Altima XE 4-Dr SedanNissan Altima XE 4-Dr Sedan Ford Taurus 4-Dr SedanFord Taurus 4-Dr Sedan

choice of payment methodchoice of payment method cashcash leaselease payment planpayment plan

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Economists Assume You Know What You LikeEconomists Assume You Know What You Like Lingo: economists call these consumer Lingo: economists call these consumer

tastes or consumer preferencestastes or consumer preferences

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Economists Assume You Can make ComparisonsEconomists Assume You Can make Comparisons example 1996 Altima vs. 1996 Ford Taurusexample 1996 Altima vs. 1996 Ford Taurus

compare specifications or attributescompare specifications or attributeswe know price for a bundle of attributeswe know price for a bundle of attributes

• e.g. horsepower, miles per gallon, etc. e.g. horsepower, miles per gallon, etc. dealer invoice (with destination charge)dealer invoice (with destination charge)

Altima: $14,641Altima: $14,641Taurus: $17,171Taurus: $17,171

manufacturer’s suggested retail price (MSRP)manufacturer’s suggested retail price (MSRP)Altima: $16,219Altima: $16,219Taurus: $18,545Taurus: $18,545

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Economists Assume You Can Make TradeoffsEconomists Assume You Can Make Tradeoffs Do you prefer a Ford Taurus or an Altima Do you prefer a Ford Taurus or an Altima

plus $2,326 = $18,545 - $16,219 ?plus $2,326 = $18,545 - $16,219 ? If you prefer the Ford, then you buy the TaurusIf you prefer the Ford, then you buy the Taurus If you prefer the Nissan plus the cash, then you If you prefer the Nissan plus the cash, then you

buy the Altimabuy the Altima If you are indifferent between these two options If you are indifferent between these two options

or bundles of goods ( car plus cash), then you or bundles of goods ( car plus cash), then you might buy either one might buy either one

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Data

Kelley’sPrices

Nissan’sSpecs

Framework“Your Tastes”

Information

Decision:Choice ofVehicle

Economics Framework: Converting Data Into Useful Information for Decisions

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Data

?

?

Framework?

Information

Decision:Choice of Payment


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Choice of Payment MethodChoice of Payment Method

cashcash leaselease loanloan

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CashCash for cash, the bottom line is equal to: for cash, the bottom line is equal to:

total cost - resale value total cost - resale valuethe total cost is going to depend on the total cost is going to depend on

manufacturer’s suggested retail manufacturer’s suggested retail price, MSRPprice, MSRP

the resale value will depend on the the resale value will depend on the value lost from depreciationvalue lost from depreciation

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Depreciation: Taurus, GL SedanDepreciation: Taurus, GL Sedan

Year MSRP Kelley* Depreciation1996 18,5451995 18,295 14,750 3,5451994 18,280 13,350 4,9301993 17,675 11,700 5,9751992 17,619 10,200 7,4191991 16,595 8,800 7,7951990 16,054 7,750 8,304

* Excellent Condition

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Depreciation: Taurus

0100020003000400050006000700080009000

0 2 4 6Age of Vehicle

Dep

recia

tion

, $

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Taurus Depreciation As Fraction of MSRP

0

0.1

0.2

0.3

0.4

0.5

0.6

0 2 4 6Age of Vehicle

Fra

cti

on

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Choice: cash Choice: cash

purchase price: $16,488purchase price: $16,488 tax at 7.5 %: $1,237tax at 7.5 %: $1,237 documents: $35documents: $35 total: $17,760total: $17,760

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KeepYourMoney

This Year Next Year Year After

$17,760 $17,760 $17,760

$1,225* $1,225

$1,225

* @ 6.9 % interest$17,760 $18,985 $20,210

BuyTheCar,Cash

Car’s ServicesFor 1 Yr.

Car’sServicesFor 2 Yrs.

Resale value: $14,947** $13,538#** MSRP - Depreciation = MSRP - MSRP * 0.194 = $18,545 * 0.806

# MSRP - Depreciation = MSRP - MSRP * 0.27 = $18,545 * 0.73

Cost of Car’s Services: $4,038(1 Yr.) & $6,672(2 Yrs.)

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Note:Note: The first years cost:The first years cost:

$18,985 - $14,947 = $4,038$18,985 - $14,947 = $4,038 (principal + interest) -depreciation = principal - (principal + interest) -depreciation = principal -

(depreciation - interest)(depreciation - interest) Bottom Line = Total Cost - Resale ValueBottom Line = Total Cost - Resale Value

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Economic PrinciplesEconomic Principles A dollar today is not the same as a dollar tomorrow!A dollar today is not the same as a dollar tomorrow!

$10 today @ 6.9% = $10 * 1.069 next year$10 today @ 6.9% = $10 * 1.069 next year The “opportunity cost” of spending your money is The “opportunity cost” of spending your money is

the foregone interest.the foregone interest. The cost of buying the services of the car, The cost of buying the services of the car,

neglecting operating costs:neglecting operating costs: depreciation: owning a new cardepreciation: owning a new car foregone interestforegone interest

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Data

?

?Framework:DepreciationForegone Interest

Information

Decision:Choice of Payment


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Choice: LeaseChoice: Lease drive-off costs(payments due at lease signing): drive-off costs(payments due at lease signing):

$2,136.77$2,136.77 total of 24 monthly payments: $7248 = 24 total of 24 monthly payments: $7248 = 24

months * $302 per monthmonths * $302 per month monthly Payment: $249 + taxmonthly Payment: $249 + tax tax + documents = $1237 + $35 = $1272, or $53 per tax + documents = $1237 + $35 = $1272, or $53 per

monthmonth total: $9384.77total: $9384.77

http://www.fordcredit.com/

Example

Walnut Creek Dealer: 1996, Ford Taurus, $16,488

5,976 + tax249 + tax

Example

249 + tax24 months

5,976 + tax

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This Year Next Year Year After

$2,450$1,225*

$4,222

$6,672* @ 6.9 % interest $4,038

Buy TheCar, Cash

foregone interest on $17,760:

depreciation:

# price+tax-blue book = $17,760 - 0.806*$18,545

$2,813#

Lease, 24 monthstotal drive-off: $2,137 $2,137

total monthly payments @$302/m.: $3,624 $7,248

foregone interest on $2,137**: $147 $294

$5908 $9679** Assumes no opportunity cost of monthly payments

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Example: Buying a New ‘96 Taurus: Advertised Price $16488Example: Buying a New ‘96 Taurus: Advertised Price $16488 KnownsKnowns

advertised price + tax + documents: $17,760advertised price + tax + documents: $17,760 down payment: $2,137down payment: $2,137 loan amount: $15,623loan amount: $15,623

loan amount = $17,760 - $2,137loan amount = $17,760 - $2,137

annual interest rate: 6.9%annual interest rate: 6.9% loan term in months: 24 monthsloan term in months: 24 months

UnknownsUnknowns monthly payment ( $698.77)monthly payment ( $698.77)

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Choice: Two year Loan @ 6.9%Choice: Two year Loan @ 6.9% Loan Cost = Principal + Interest = $16,771Loan Cost = Principal + Interest = $16,771

principal = loan =$15,623principal = loan =$15,623 interest = $1,148interest = $1,148

Resale Value After 2 YearsResale Value After 2 Years 0.73*$18,545 = $13,5380.73*$18,545 = $13,538

foregone interest on $2137: $294foregone interest on $2137: $294 total cost = $5,664total cost = $5,664

$16,771 - $13,538 + $294$16,771 - $13,538 + $294

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Cost of Using a ‘96 Taurus for 2 Yrs.Cost of Using a ‘96 Taurus for 2 Yrs.

Cost item Cash Lease Loanforegone interest $2,450 $294 $294depreciation $4,222total drive-off $2,137monthly payments $7,428*down payment $2,137monthly payments -blue book**

$3,233

total $6,672 $9,679 $5,664

* residual value: $11,480

** blue book: $13,538

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Summary - Vocabulary - ConceptsSummary - Vocabulary - Concepts opportunity costopportunity cost depreciationdepreciation interest on principalinterest on principal leaselease loanloan services of a carservices of a car

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http://www/latimes.com

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SCARCITY AND PRODUCTION POSSIBILITY CURVESSCARCITY AND PRODUCTION POSSIBILITY CURVES

Production Possibility CurveProduction Possibility Curve

A visual representation of tradeoffs that A visual representation of tradeoffs that arise in an economy that produces two arise in an economy that produces two goods.goods.

A picture of the choices which A picture of the choices which cancan be be made when considering the production made when considering the production of two goods.of two goods.

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PRODUCTION POSSIBILITY CURVE(FRONTIER)

PRODUCTION POSSIBILITY CURVE(FRONTIER)

A production possibility curve shows how A production possibility curve shows how all of an economies available resources all of an economies available resources can be used to produce various can be used to produce various combinations of goods and services.combinations of goods and services.

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WHAT ARE RESOURCES?WHAT ARE RESOURCES?WHAT ARE RESOURCES?WHAT ARE RESOURCES? LaborLabor

-- human effort used to produce-- human effort used to produce Production facilities (PHYSICAL CAPITAL)Production facilities (PHYSICAL CAPITAL)

-- factories, offices, stores, restaurants-- factories, offices, stores, restaurants

• • Human CapitalHuman Capital

-- knowledge and skills acquired by workers-- knowledge and skills acquired by workers Natural Resources (LAND)Natural Resources (LAND)

-- things created by acts of nature and used -- things created by acts of nature and used to produceto produce

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GRAPHING POSSIBILITIES

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ThousandsThousandsofofcomputers computers per yearper year

Number of Space Missions Per YearNumber of Space Missions Per Year


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PRODUCTION POSSIBILITYPRODUCTION POSSIBILITYCURVECURVE


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