. 2
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other items for those you could not have?
want, factors of production, land, capital,
financial capital, labor, entrepreneur, produc-
tion, Gross Domestic Product (GDP)
3. Describe the fundamental economic problem. 8. Synthesizing Information Give an example
of a supposedly “free” item that you see
4. List the three basic economic questions every
every day. Explain why the item is not really
society must answer.
free by stating who or what actually pays
5. Describe the factors of production. for it.
6. List the four key elements of economics. Practice and assess key social studies skills with
the Glencoe Skillbuilder Interactive Workbook,
Level 2.

Changes in the rules of the
Alexis de Tocqueville, a French traveler,
business game are putting
wrote about his travels in the United
a premium on the
States during the 1830s. His book,
entrepreneurial quali-
Democracy in America, a two-volume
ties of [the smaller]
study of the American people and their companies. Today™s
institutions, is still relevant today. successful enterprises
are nimble, innova-
tive, close to the cus-
tomer, and quick to the
The Role of the market. They™re not
bureaucratic, centrally con-
Entrepreneur trolled institutions that are slow
to change. It adds us to a new manage-
ment catechism with many of the hallmarks of
What astonishes me in the United States is small business. . . .
not so much the marvelous grandeur of such Sure, some industries, such as auto making and
undertakings as the innumerable multitude petrochemicals, still require size and scale. But the
of small ones. swift pace of technological change and the frag-
”Alexis de Tocqueville, 1835 mentation of markets are eroding the traditional
economies of scale. Indeed, some management
What [de Tocqueville noticed nearly 160
thinkers now speak of the “diseconomies of
years ago]”before the advent of Apple
scale,” the unresponsiveness, sluggishness, and
Computer, Genentech, Microsoft, or Nucor”is
high costs that come with bureaucracy. While the
just as true today. The only difference is that the
behemoths try to adjust to new competitive reali-
spirit of enterprise is more than ever a global
ties, younger and smaller companies have
phenomenon with few bounds.
emerged as the agents of change in economies
From the row of kiosks selling goods on nearly
around the world. . . .
every block in Moscow to the cramped factories in
Taiwan, Russian biznez-men and Chinese chang- ”Reprinted from Small Business Trends and Entrepreneurship,
by the editors of Business Week, copyright © 1995 by
shang are reshaping their nations™ economies in The McGraw-Hill Companies, Inc.
much the same way as
those ingenious old
Yankees created the basis
for America™s business cul-
Examining the Newsclip
tures just after independ-
ence was won. 1. Summarizing Information What are the
Any [de Tocqueville of entrepreneurial qualities of small companies?
modern times] would 2. Finding the Main Idea What does the writer
notice something else mean by “diseconomies of scale”?
about this global shift:

Basic Economic Concepts
Main Idea Key Terms
An economic product is a good or service that is use- economic product, good, consumer good, capital
ful, relatively scarce, and exchangeable. good, service, value, paradox of value, utility, wealth,
market, factor market, product market, economic
Reading Strategy growth, productivity, division of labor, specialization,
Graphic Organizer As you read the section, describe human capital, economic interdependence
three different transactions that could take place in
the factor market. Use a web like the one below to
help you organize your answer. After studying this section, you will be able to:
1. Explain the relationship among scarcity, value,
utility, and wealth.
2. Understand the circular flow of economic activity.
Factor market Effect Applying Economic Concepts
Specialization Read to discover how specialization
Effect increases production.

conomics, like any other social science, has
its own vocabulary. To understand econom-
Cover Stor y ics, a review of some key terms is necessary.
Fortunately, most economic terms are widely used,
On Specialization and many will already be familiar to you.
an draws out the
an example, . . . One m
To take
ird cuts it, a fourth
her straightens it, a th Goods, Services, and Consumers
wire, anot
it at
points it, a fifth grinds
Economics is concerned with economic
the top for receiving th
products”goods and services that are useful,
head; to make the head
requires two or three relatively scarce, and transferable to others.
distinct operations; Economic products are scarce in an economic
to put it on, is a sense. That is, one cannot get enough to satisfy
peculiar business, to individual wants and needs. Because of these char-
whiten the pins is acteristics, economic products command a price.
another; it is even a
trade by itself to put
them into the paper; Goods
and [the making of] a
The first type of economic product is a good”
pin is, in this manner,
an item that is economically useful or satisfies
divided into about eight-
an economic want, such as a book, car, or com-
een distinct operations.
pact disc player. A consumer good is intended
Adam Smith
alth of
”Adam Smith, The We
for final use by individuals. When manufactured
Nations, 1776
goods are used to produce other goods and serv-
ices, they are called capital goods. An example

of a capital good would be a robot welder in a fac- Economists knew that scarcity is required for
tory, an oven in a bakery, or a computer in a high value. For example, water was so plentiful in many
school. areas that it had little or no value. On the other
Any good that lasts three years or more when hand, diamonds were so scarce that they had great
used on a regular basis is called a durable good. value. The problem was that scarcity by itself is not
Durable goods include both capital goods, such as enough to create value.
robot welders, and consumer goods such as auto-
mobiles. A nondurable good is an item that lasts
for less than three years when used on a regular
basis. Examples of nondurable goods include food, It turned out that for something to have value, it
writing paper, and most clothing items. must also have utility, or the capacity to be useful
and provide satisfaction. Utility is not something
that is fixed or measurable, like weight or height.
Instead, the utility of a good or service may vary
The other type of economic product is a service,
from one person to the next. One person may get
or work that is performed for someone. Services
a great deal of satisfaction from a home computer;
include haircuts, home repairs, and forms of enter-
another may get very little. One person may enjoy
tainment such as concerts. They also include the
a rock concert; another may not. A good or service
work that doctors, lawyers, and teachers perform.
does not have to have utility for everyone, only
The difference between a good and a service is that
utility for some.
a service is intangible, or something that cannot be
For something to have value, economists
decided, it must be scarce and have utility. This is
the solution to the paradox of value. Diamonds are
Consumers scarce and have utility”and therefore they possess
a value that can be stated in monetary terms. Water
The consumer is a person who uses goods and
has utility, but is not scarce enough in most places
services to satisfy wants and needs. As consumers,
to give it much value. Therefore, water is less
people indulge in consumption, the process of
expensive, or has less value, than diamonds.
using up goods and services in order to satisfy
wants and needs.

Value, Utility, and Wealth
In economics, value refers to a worth that
can be expressed in dollars and cents. Why,
however, does something have value, and why are Durable Goods Orders The Department of Com-
some things worth more than others? To answer merce™s report on durable goods orders highlights
the number of new orders placed with domestic
these questions, it helps to review an early problem
manufacturers for goods intended to last over
faced by economists.
three years. The report is divided into broad cate-
gories; these include defense, nondefense, and
Paradox of Value capital and noncapital goods. Noncapital goods
are generally of the consumer spending variety
At first, early economists were puzzled by a con- and include automobiles and large appliances.
tradiction between necessities and value called the Capital goods tend to be of the investment spend-
paradox of value. The paradox of value is the situa- ing nature, while defense goods indicate govern-
tion where some necessities, such as water, have little ment spending.
monetary value, whereas some non-necessities, such
as diamonds, have a much higher value.

Wealth The Circular Flow of Economic
Another concept is wealth. Wealth, in an eco-
nomic sense, is the accumulation of those products
The wealth that an economy generates is
that are tangible, scarce, useful, and transferable from
made possible by the circular flow of eco-
one person to another. Consequently, a nation™s
nomic activity. The key feature of this circular flow
wealth is comprised of all items, including natural
is the market, a location or other mechanism that
resources, factories, stores, houses, motels, theaters,
allows buyers and sellers to exchange a certain eco-
furniture, clothing, books, highways, video games,
nomic product. Markets may be local, regional,
and even footballs.
national, or global. More recently, markets have
While goods are counted as wealth, services are
evolved in cyberspace, with buyers and sellers inter-
not because they are intangible. However, this does
not mean that services are not useful. Indeed, when acting through computer networks without leaving
Adam Smith wrote The Wealth of Nations in 1776, he the comfort of their homes.
was referring specifically to the ability and skills of
a nation™s people as the source of its wealth. To
illustrate, if a country™s material possessions were Factor Markets
taken away, its people, through their skilled efforts,
How does this circular flow operate? As shown
could restore these possessions. On the other hand,
in Figure 1.3, individuals earn their incomes in
if a country™s people were taken away, its wealth
factor markets, the markets where productive
would deteriorate.
resources are bought and sold. This is where entre-
preneurs hire labor for wages and salaries, acquire
land in return for rent, and borrow money for
interest. The concept of a factor market is a sim-
plified version of the real world, of course, but it
is nevertheless realistic. To illustrate, you partici-
pate in the factor market whenever you go to work
and sell your labor to an employer.

Product Markets
After individuals receive their income from the
resources they sell, they spend it in product markets,
markets where producers sell their goods and serv-
ices to consumers. Thus, the money that individu-
als receive from businesses in the factor markets
returns to businesses in the product markets.
Businesses then use this money to produce more
goods and services”and the cycle, through eco-
nomic activity, repeats itself.
As you can see from Figure 1.3, markets serve as
the main links between individuals and businesses.
Note that money circulates on the outside, illus-
trating payments for goods, services, and the fac-
Natural Resources Fertile land is a natural tors of production. The actual factors of
resource and an item of wealth. Why are natu- production, and the products made with these pro-
ral resources considered part of the nation™s
ductive inputs, flow in the opposite direction on
the inside.

Productivity and Economic Growth Productivity
Everyone benefits when scarce resources are
Economic growth occurs when a nation™s
used efficiently. This is described by the term
total output of goods and services increases
productivity, which is a measure of the amount of
over time. This means that the circular flow in
output produced by a given amount of inputs in a
Figure 1.3 becomes larger, with more factors of pro-
specific period of time. Productivity goes up when-
duction, goods, and services flowing in one direc-
ever more output can be produced with the same
tion, and more payments flowing in the opposite
amount of inputs in the same amount of time. For
direction. A number of factors are responsible for
example, if a company produced 500 units of a
economic growth, but productivity is the most
product in one period, and if it produced 510 in

Figure 1.3

The Circular Flow of Economic Activity
$ Consumer

Goods Goods
Services Services



$ Income from

Payments for

Using Charts The circular flow diagram shows the high degree of economic interdependence
Using Charts The circular flow diagram shows the high degree of economic interdependence
in our economy. In the diagram, the factors of production and the products made from them flow in
in our economy. In the diagram, the factors of production and the products made from them flow in
one direction. The payments for the factors, which consumers spend on goods and services, flow
one direction. The payments for the factors, which consumers spend on goods and services, flow
in the opposite direction. As a consumer, what role do you play in the circular flow of
in the opposite direction. As a consumer, what role do you play in the circular flow of
economic activity?
economic activity?

the next period with the same number inputs, than Specialization takes place when factors of pro-
productivity went up. duction perform tasks that they can do relatively
Productivity is often discussed in terms of labor, more efficiently than others. Note that specializa-
but it applies to all factors of production. For this tion is not limited to a single factor of production
reason, business owners try to buy the most effi- such as labor. For example, complex industrial
cient capital goods, and farmers try to use the most robots are often built to perform just one or two
fertile land for their crops. simple assembly line tasks. In regional specializa-
tion, different regions of the country often special-
ize in the things they can produce best”as when
Division of Labor and Specialization Idaho specializes in potatoes, Iowa in corn, and
Division of labor and specialization can improve Texas in oil, cotton, and cattle.
productivity. Division of labor takes place when One of the best examples of the advantages
work is arranged so that individual workers do fewer offered by the division of labor and specialization is
tasks than before. In most cases, a worker who per- Henry Ford™s introduction of the assembly line into
forms a few tasks many times every day is likely to automobile manufacturing. This process cut the time
become more proficient than a worker who performs necessary to assemble a car from a day and a half to
hundreds of different tasks in the same period. just over 90 minutes. It also cut the price of a new car
by more than 50 percent. The result
was improvement in productivity.
Another example of the changes
ECONOMICS that can result from specialized tools
Figure 1.4 can be seen in American agriculture.
In 1910 it took more than 13 million
farmers to feed the U.S. population,
Effect of Education on Income at that time about 90 million. Today,
2 million farmers can feed a popula-
Average Income For
tion that is more than two and a half
Education Males Females
times as large as it was in 1910.
$22,746 $14,957
Less Than 9th Grade
$27,638 $18,594
9th to 12th Grade (no diploma)
Investing in Human Capital
$32,611 $22,656
High School Graduate & Equivalency
One of the main contributions to
$39,367 $26,562
Some College, no degree
productivity comes from investments
$40,465 $29,776
Associate Degree in human capital, the sum of the
$55,832 $37,319
Bachelor™s Degree skills, abilities, health, and motivation
of people. Government can invest in
$71,225 $46,072
Master™s Degree
human capital by helping to provide
$120,052 $74,077
Professional Degree
education and health care. Businesses
$93,106 $60,468
Doctorate Degree
can invest in training and other pro-
Source: U.S. Department of Commerce, Bureau of the Census, 1999 grams that improve the skill and
motivation of its workers. Individuals
Using Tables Education is can invest in their own education by
one way to invest in human completing high school, going to
capital. How does this type
technical school, or going to college.
of invest-ment pay off for
investment pay off
Figure 1.4 shows that investments
both employers and their Visit epp.glencoe.com and click on
both employers and
in education can have substantial
Textbook Updates”Chapter 1 for
payoffs. According to the data in the
an update of the data.
table, high school graduates have
substantially higher incomes than

nongraduates, and college graduates make even
more than high school graduates. Educational
investments require that we make a sacrifice today so First and Biggest The world™s first programmable
we can have a better life in the future”and few computer, the Electronic Numerical Integrator and
investments generate higher returns. Computer (ENIAC), was developed in 1946. Standing
10 feet tall and stretching 150 feet wide, ENIAC
could perform up to 5,000 operations per second.
Investing in the Future Personal computers today easily outperform ENIAC.
Businesses, government, and other organiza-
tions face many of the same choices that individu-
als do. Investments in human capital and physical
capital can eventually increase production and pro-
the lives of tens of thousands of people who park
mote economic growth. Faster economic growth,
cars, sell tickets, serve food at the games, and sell
in turn, increases the amount of goods and services
NBA apparel and memorabilia all across the country.
available to us.
Or, bad weather in countries where sugar cane is
grown can affect sugar prices in the United States,
Economic Interdependence which in turn can affect the price of snack foods and
The American economy has a remarkable degree the demand for sugar substitutes elsewhere.
of economic interdependence. This means that we This does not mean that economic interdepen-
rely on others, and others rely on us, to provide the dence is necessarily bad. The gain in productivity
goods and services that we consume. and income as a result of increased specialization
Events in one part of the country or the world almost always offsets the costs associated with the
often have a dramatic impact elsewhere. To illustrate, loss in self-sufficiency. However, we need to under-
a labor dispute between several hundred professional stand how all the parts fit together, which is one
basketball players and a handful of owners can affect reason why we study economics.

Checking for Understanding Applying Economic Concepts
1. Main Idea Using your notes from the graphic 6. Specialization Provide at least three examples
organizer activity on page 12, explain the each of specialized workers and capital that
different transactions that take place in the are used in your school to provide the service
product market. of education. Would productivity go up or
down if these specialized capital goods and
2. Key Terms Define economic product, good,
workers were not available to your school?
consumer good, capital good, service, value,
Explain why or why not.
paradox of value, utility, wealth, market,
factor market, product market, economic
growth, productivity, division of labor,
specialization, human capital, economic
7. Making Comparisons What is the differ-
ence between a durable good and a non-
3. Discuss the relationship among scarcity, value, durable good?
utility, and wealth.
8. Drawing Conclusions In what way do busi-
4. Describe the circular flow of economic activity. nesses and households both supply and
5. Explain why productivity is important to eco- demand in the circular flow model?
nomic growth. Practice and assess key social studies skills with
the Glencoe Skillbuilder Interactive Workbook,
Level 2.

The Father of Modern
Adam Smith

Take a look at a Scottish penny
and you™ll be surprised by what
you see. The person pictured was
not a political or military figure,
but an economist: Adam Smith.
It is a fitting tribute to a man who
contributed so much to economics.

productive as each worker becomes competitive market”operating with
more skilled at a single job. He said a minimum of government inter-
Smith was born in Kirkcaldy,
that new machinery and the divi- vention”would bring about the
Scotland. After graduating from
sion of labor and specialization greatest good for society as a whole.
Glasgow University, he traveled
would lead to an increase in produc- The English aristocracy ridiculed
to England and enrolled at Oxford
tion and greater “wealth of nations.” The Wealth of Nations. Business peo-
University. Six years later, Smith
Smith also put forth what was then ple, however, were delighted to
returned to Scotland to lecture
a radical new idea: that the wealth have a moral justification for their
at Edinburgh University and at
of a nation should be defined as the growing wealth and power. Soon,
his alma mater, where he was
sum of its labor-produced goods, Smith™s doctrine of laissez-faire
immensely popular with his stu-
not by who owned those goods. (French, “let it be”), meaning mini-
dents. Smith became a tutor to a
Smith™s most influential contri- mal government intervention in
young duke, and traveled through-
bution, however, concerned com- economic affairs, became the eco-
out Europe.
petition in the marketplace. Every nomic watchword in Europe, and is
individual, Smith wrote, “intends today the economic watchword of
only his own gain, and he is in this much of the world.
Smith met and exchanged ideas . . . led by an invisible hand. . . .
with French writer Voltaire, By pursuing his own interest he fre-
Benjamin Franklin, and the French quently promotes that of the soci- Examining the Profile
economist Quesnay. His travels ety. . . .” Smith argued that a free
1. Summarizing Ideas Summarize
helped him formulate the ideas put market isn™t chaotic, but that com-
Smith™s contribution to economic
forth in The Wealth of Nations (1776). petition acts as an “invisible hand”
In The Wealth of Nations, Smith that guides resources to their most
2. Synthesizing Information Explain
observed that labor becomes more productive uses. A truly free,
how Smith™s ideas are evident in the
workings of the American economy.

Economic Choices and
Decision Making
Main Idea Key Terms
Trade-offs are present whenever choices are made. trade-off, opportunity cost, production possibilities
frontier, cost-benefit analysis, free enterprise econ-
Reading Strategy omy, standard of living
Graphic Organizer As you read this section, complete
a graphic organizer similar to the one below by
explaining what you need to know to become a After studying this section, you will be able to:
good decision maker. 1. Analyze trade-offs and opportunity costs.
2. Explain decision-making strategies.
Making decisions Applying Economic Concepts
Opportunity Costs Read to find out how your deci-
sions are measured in terms of opportunity costs.

he process of making a choice is not always
Cover Stor y easy. Still, individuals, businesses, and gov-
ernment agencies, like the Suffolk County
Bureau of Labor, who try to satisfy people™s wants
Cost Benefit Analysis and needs, must make decisions. Because resources
are scarce, consumers need to make wise choices.
When a person
To become a good decision maker, you need to
makes an invest-
know how to identify the problem and then ana-
ment, they usually
lyze your alternatives. Finally, you have to make
expect a return on
that investment. your choice in a way that carefully considers the
The public has costs and benefits of each possibility.
made an invest-
ment in workforce
Trade-Offs and Opportunity Cost
development pro-
grams and here in
There are alternatives and costs to every-
thing we do. In a world where “there is no
(NY) that invest-
such thing as a free lunch,” it pays to examine these
ze that
ment has gener- Successful producers reali
choices involve trade-offs
ated an excellent concepts closely.
opportunity costs.
re tu rn . . . . F ro m
an expenditure of Trade-Offs
training programs, Suffo
9,689,377 in these job-
$1 d
2,406 in benefits . . . an
unty realized over $81,92 The first thing we must recognize is that peo-
Co t!
nefit for each dollar spen
at translates to a $4.16 be ple face trade-offs, or alternative choices, when-
, Suffolk County ever they make an economic decision. To help
” Cost Benefit Analysis
ll 1998
Department of Labor, Fa make the decision, constructing a grid such as
that in Figure 1.5 shows one way to approach the

problem. This grid summarizes a decision to be Opportunity Cost
made by Jesse, a newspaper carrier, whose dilemma is People often think of cost in terms of dollars
how to spend a gift of $50 in the best way possible. and cents. To an economist, however, cost often
Jesse realizes that several alternatives are appeal- means more than the price tag placed on a good
ing”a soccer ball, jeans, a portable cassette player, or service. Instead, economists think broadly in
several CDs, or concert tickets. At the same time, terms of opportunity cost”the cost of the next
he realizes that each item has advantages and dis- best alternative use of money, time, or resources
advantages. Some of these items are more durable when one choice is made rather than another.
than others, and some might require his parents™ When Jesse made his choice and decided to pur-
consent. Some even have additional costs while chase the jeans, his opportunity cost was the next
others do not”the cassette player requires batteries best choice”the soccer ball or the cassette player”
and the concert tickets require the use of his par- that he gave up.
ents™ car. Suppose you spend $5,000 on a used car. The
To help with his decision, Jesse draws a grid that opportunity cost of the purchase is the value of the
lists his alternatives and several criteria by which to stereo, apartment, vacation, or other items and
judge them. Then he evaluates each alternative activities that you could have purchased with the
with a “yes” or “no.” In the end, Jesse chooses the money spent on the car.
jeans because they satisfy more of his criteria than Even time has an opportunity cost, although
any other alternative. you cannot always put a monetary value on it. The
Using a decision-making grid is one way to ana- opportunity cost of taking an economics class, for
lyze an economic problem. Among other things, it example, is the history or math class that you could
forces you to consider a number of relevant alter- not take at the same time. Thus, part of making
natives. For another, it requires you to identify the economic decisions involves recognizing and eval-
criteria used to evaluate the alternatives. Finally, it uating the cost of the alternatives as well as making
forces you to evaluate each alternative based on the choices from among the alternatives.
criteria you selected.

Figure 1.5

Jesse™s Decision-Making Grid
Alternatives Costs $50 Will parents Future expense Can use
or less? approve? unnecessary? anytime?
Several CDs yes yes yes yes no
Concert tickets yes no no no no
Cassette player yes yes yes no yes
Soccer ball yes yes yes yes no
Jeans yes yes yes yes yes
Adapted from A Framework for Teaching Basic Economics,
Economics America National Council on Economic Education, 1996

Using Tables A decision-making grid is a good way to list and then evaluate alternatives when a
decision must be made. What do economists mean when they talk about costs?

Economic Choices

Trade-Offs In this cartoon, the king faces a trade-off between crops and catapults. What is the oppor-
tunity cost of obtaining two more catapults?

Production Possibilities Alpha has many alternatives available to it,
which is why the figure is called a production “pos-
A popular model economists use to illus- sibilities” frontier. Eventually though, Alpha will
trate the concept of opportunity cost is the have to settle on a single combination such as
production possibilities frontier, a diagram repre- point a, b, or any other point on or inside the
senting various combinations of goods and/or curve, because its resources are limited.
services an economy can produce when all pro-
ductive resources are fully employed. In the classic
Fully Employed Resources
example shown in Figure 1.6, a mythical country
All points on the curve such as a, b, and c repre-
called Alpha produces two goods”guns and butter.
sent maximum combinations of output possible if
all resources are fully employed. To illustrate, sup-
Identifying Possible Alternatives pose that Alpha is producing at point a and the
Even though Alpha only produces two goods, people would like to move to point d, which rep-
the country has a number of alternatives available resents the same amount of guns, but more butter.
to it. For example, it could choose to use all of its As long as all resources are fully employed at
resources to produce 70 units of guns and 300 units point a, however, there are no extra resources avail-
of butter, which is shown as point a in Panel A. Or, able to produce the extra butter. Therefore, point d
it could shift some of its resources out of gun pro- cannot be reached, nor can any other point outside
duction and into butter, thereby moving to point b. the curve. This is why the figure is called a produc-
Alpha could even choose to produce at point c, tion possibilities “frontier””to indicate the maxi-
which represents all butter and no guns, or at mum combinations of goods and/or services that
point e, which is inside the frontier. can be produced.

homework and spending time with your friends. If
Opportunity Cost
you decide to spend extra hours on your home-
work, the opportunity cost of this action is less
time with your friends.

The Cost of Idle Resources
If some resources were not fully employed, then
it would be impossible for Alpha to reach its poten-
tial. To illustrate, suppose that Alpha was producing
at point b in Panel A when workers in the butter
industry decided to go on strike. Butter production
would fall, causing total output to change to point e.
The opportunity cost of the unemployed resources
would be the 100 units of lost butter production.
Production at e could also be the result of other
idle resources, such as factories or land that are
available but are not being used. As long as some
resources are idle, the country cannot produce on
its frontier”which is another way of saying that it
cannot reach its full production potential, although
it can produce at some point inside it.

Economic Growth
The production possibilities frontier represents
potential output at a given point in time.
Eventually, however, population may grow, the cap-
Making Choices The nation incurs opportunity ital stock may grow, and productivity may increase.
costs when it makes choices. The money spent
If this happens, then Alpha will be able to produce
on defense cannot at the same time be spent on
more in the future than it can today.
health services; money spent on health services
The effect of economic growth is shown in
cannot be spent on education, and so on. Why
does every choice involve an opportunity cost? Panel C of Figure 1.6. Economic growth made pos-
sible by having more resources or increased pro-
ductivity causes the production possibilities
frontier to move outward. Economic growth will
Opportunity Cost
eventually allow Alpha to produce at point d,
Suppose that Alpha was producing at point a which it could not do earlier.
and that it wanted to move to point b. This is
clearly possible so long as point b is not outside the
frontier. As shown in Panel B, the opportunity cost
of producing the 100 additional units of butter is
the 30 units of guns given up.
As you can see, opportunity cost is a general
concept that is expressed in terms of trade-offs, or
Student Web Activity Visit the Economics: Principles
in terms of things given up to get something else. and Practices Web site at epp.glencoe.com and click
Opportunity cost is not always measured in terms on Chapter 1”Student Web Activities to learn more
of dollars and cents. For example, you need to bal- about what economists do.
ance the time you spend studying and doing

Thinking Like an Economist Figure 1.6
Because economists study how people sat-
The Production
isfy seemingly unlimited and competing
wants with the careful use of scarce resources, they
Possibilities Frontier
are also concerned with strategies that will help us
make the best choices. Some of these strategies are
A Alternative Possibilities
discussed here; others will be discussed in later
chapters. a d

e b
Build Simple Models 40
One of the most important strategies of econo- Production can take
place anywhere on or
mists is the economic model. A model is a simpli-
inside the frontier.
fied theory or a simplified picture of what c
something is like or how something works. Simple 300 400
models can often be constructed that reduce com- Butter
plex situations to their most basic elements. To
illustrate, the circular flow diagram in Figure 1.3 is
B Opportunity Cost
an example of how complex economic activity can
be reduced to a simple model. a
Another basic model is the production possibil-
ities frontier illustrated in Figure 1.6. Realistically,

of course, economies are able to produce more b
than two goods or services, but the concepts of The opportunity cost
of producing 100 units
trade-offs and opportunity costs are easier to illus- of butter is the 30 guns
trate if only two products are examined. As a result, given up.
simple models such as these are sometimes all that
300 400
economists need to analyze or describe an actual
It is important to remember that models are
C Economic Growth
based on assumptions, or things that we take for
granted as true. We use them as facts even though
we can™t be sure that they are. For example, you d
might assume that a restaurant is out of your price
range. You might not even try it because you

Increased productivity b
assume you cannot afford it. However, you might and additional factors
be wrong”the prices at the restaurant might be of production expand
production possibilities.
quite reasonable. The quality of a model is no bet-
ter than the assumptions that it is based on. c
It is also important to keep in mind that mod-
els can be revised. Economists use models to better
understand the past or present and to predict the
future. If an economic model results in a predic- Using Graphs A production possibilities
tion that turns out to be right, the model can be frontier shows the different combinations of
used again. If the prediction is wrong, the model two products that can be produced. What
might be changed to make better predictions the do points inside the frontier represent?
next time.

Employ Cost-Benefit Analysis Take Small, Incremental Steps
Most economic decisions can be made by using Finally, and whenever possible, it also helps to
cost-benefit analysis, a way of thinking about a make decisions by taking small, incremental steps
problem that compares the costs of an action to toward the final goal. This is especially valuable
the benefits received. This is what Jesse did in the whenever we are unsure of the exact, or total, cost
decision-making matrix shown in Figure 1.5. This involved. If the cost turns out to be larger than we
decision can be made subjectively, as when Jesse anticipated, then the resulting decision can be
selected the jeans. Or, the decision can be more reversed, without too much being lost.
formal, especially if the costs of the various alter- For example, if someone offers you a steaming
natives are different. cup of beverage, it might be best to take a small
To illustrate, suppose that you like choices A and sip first. This will allow you to find out if the bev-
B equally well. If B costs less, however, then it erage is cool enough to drink, without paying too
would be the better choice because you would get high a price if it is not. Few decisions are all-or-
more satisfaction per dollar spent. Businesses make nothing decisions”sometimes it helps to do a lit-
investment decisions in exactly this manner, choos- tle bit at a time.
ing to invest in projects which give the highest
return per dollar spent. State and local govern-
ments, like the one in Suffolk County, also use
The Road Ahead
cost-benefit analysis to evaluate the effectiveness of
public programs. The study of economics does more than
explain how people deal with scarcity.
Economics also includes the study of how things
are made, bought, sold, and used. It helps answer
such questions as, Where do these products come
from? Who makes them? How are they made?
How do they get to the stores? Who buys them?
It provides insight as to how incomes are earned
Economists study the way society dis-
and spent, how jobs are created, and how the
tributes scarce resources to produce
economy works on a daily basis. It also provides a
goods and services. They carry on
more detailed understanding of a free enterprise
inquiries, collect and analyze data,
economy”one in which consumers and privately
and observe economic trends.
owned businesses, rather than the government,
The Work make the majority of the WHAT, HOW, and FOR
Economists in the private sector WHOM decisions.
advise businesses and other organi-
zations on such topics as energy
Topics and Issues
costs, inflation, imports, and employ-
ment levels. Those who work for var- The study of economics will provide a working
ious government agencies may study knowledge of property rights, competition, supply
economic conditions in the United and demand, the price system, and the economic
States or in other countries to estimate the economic
incentives that make the American economy func-
effects of new legislation or public policies.
tion. Along the way, topics such as unemployment,
the business cycle, inflation, productivity, and eco-
nomic growth will be covered. The role of business,
Graduate training is required for most economists in the
labor, and government in the American economy
private sector. Individuals who wish to secure an entry-
also will be examined, along with the relationship
level job in the federal government must have a bache-
of the United States economy to the international
lor™s degree, with a focus on economics and on statistics,
community. All of these have a bearing on our
accounting, or calculus.

standard of living”the quality of life based on the Making the Rational Choice
possession of the necessities and luxuries that make You have already learned in this chapter that
life easier. You will learn how we measure the value economists study how decisions are made. Every
of our production and how productivity helps time a choice is made something is given up.
determine our standard of living. You will find, Rational choice is taking the things with greater
however, that the way the American people make value and giving up those with lesser value. That™s
economic decisions is not the only way to make the rational thing to do.
these decisions. Economists have identified three But which things have greater value? If everyone
basic kinds of economic systems. You will analyze felt the same about what they did and did not
these systems in Chapter 2. want, deciding how to use our resources would be
simple; the problem is we don™t all agree. When
you make a decision for yourself alone, it doesn™t
Economics for Citizenship make much difference how others feel. But many
of your decisions will affect other people who may
The study of economics helps us to become bet-
not share your ideas. Making the best choices for
ter decision makers”both in our personal lives and
groups of people is hard to do.
in the voting booths. Economic issues often are
Textbook economics can be divided into neat
debated during political campaigns, and we need to
sections for study, but the real world is not so
understand the issues before deciding which candi-
orderly. Society is dynamic and things are always
date to support. Most of today™s political problems
changing. In addition, people have different degrees
have important economic aspects: How important
of ambition, strength, and luck. Opinions also dif-
is it that we balance the federal budget? How can we
fer, and some issues never seem to be settled.
best keep inflation in check? What methods can we
In practice, the world of economics is complex
use to strengthen our economy? The study of eco-
and the road ahead is bumpy. Studying and under-
nomics will not provide you with clear-cut answers
standing economics, however, is vital to our
to all questions, of course, but it will give you a bet-
understanding of how the world around us works.
ter understanding of the issues involved.

Checking for Understanding Applying Economic Concepts
1. Main Idea Using your notes from the graphic 6. Opportunity Costs Identify several possible
organizer activity on page 19, explain what uses of your time that will be available to you
people try to achieve when they make deci- after school today. What will you actually do,
sions or trade-offs. and what will be the opportunity cost of your
decision? Explain how your decision will or
2. Key Terms Define trade-offs, opportunity
will not affect your friends and members of
cost, production possibilities frontier, cost-
your family.
benefit analysis, free enterprise economy,
standard of living.
3. Describe the relationship between trade-offs
and opportunity costs.
7. Making Generalizations Study the decision-
4. List the decision-making strategies that econ- making grid on page 20. Explain the advan-
omists use. tages of using such a grid to evaluate
5. Explain why the study of economics is impor-
tant to the American free enterprise system. Practice and assess key social studies skills with
the Glencoe Skillbuilder Interactive Workbook,
Level 2.

Sequencing and Categorizing Information
Sequencing involves placing facts in the order in which they occur.
Categorizing entails organizing information into groups of related facts and
ideas. Both actions help you deal with large quantities of information in an
understandable way.

Excerpt A
Learning the Skill
In the 1950s and early 1960s, the United States
Follow these steps to learn sequencing and
dominated the world steel market. However, construction
categorizing skills:
of new facilities in other countries hurt the domestic steel
• Look for dates or clue words that provide you industry in the 1980s. During the next ten years, U.S. steel
with a chronological order: in 2004, the late 1990s, firms improved production methods and reduced hourly
first, then, finally, and so on. wages. By 1990 the number of work-hours required to
produce a ton of steel fell from 10.5 in 1980 to just 5.3 in
1990. Trade protection, beginning with the 1947 General
Agreement on Tariffs and Trades, and later agreements
protected many American jobs.

Excerpt B
Competition is the rivalry among producers or sellers of
similar goods to win more business by offering the lowest
prices or best quality. In many industries effective
competition requires a large number of independent buyers
and sellers. This large number of competitors means that no
one company can noticeably affect the price of a particular
product. Competition also requires that companies can
enter or exit any industry they choose. Those who feel they
Steelworker tends blast furnace
could make more profit in another industry are free to get
out of the industry they are in.
• If the information does not happen in sequence,
1. Which passage™s information can be organized
you may categorize it instead. To do so, look for
sequentially? List the main ideas in chronological order.
information with similar characteristics.
2. What categories can you use to organize the
• List these characteristics, or categories, as the
information in the other excerpt?
headings on a chart.
• As you read, fill in details under the proper cate-
gory on the chart.

Practicing the Skill Find two newspaper or magazine articles about an
important local economic issue. Sequence or cate-
Read the excerpts that follow, compare the
gorize the information on note cards or in a chart.
information they contain, then answer the questions.
Practice and assess key social studies skills with the
Glencoe Skillbuilder Interactive Workbook, Level 2.
Section 1 • Productivity and investments in human capital help
economic growth; investments in human capital are
Scarcity and the Science of among the most profitable of all investments.

Economics (pages 5“10) Increases in specialization and division of labor
cause more economic interdependence.
• The basic economic problem of scarcity is due to
the combination of people™s seemingly unlimited
Section 3
wants and relatively scarce resources.
• In a world of scarce resources, There Is No Such
Economic Choices and Decision
Thing As A Free Lunch (TINSTAAFL).
Making (pages 19“25)
• Because of scarcity, society
has to decide WHAT, HOW,
• The opportunity cost of doing something is the next
and FOR WHOM to
best alternative, or trade-off, that you give up.
• A decision-making grid can be used to help evaluate
• Land, capital, labor, and
entrepreneurs are the four

factors of production A production possibilities frontier shows the vari-
required to produce the things ous possible combinations of output that can be
that people use. produced when all resources are fully employed;
production inside the frontier occurs when some
• Entrepreneurs are risk-taking individuals who go into
resources are idle or are not being used to their
business in order to make a profit; they organize the
maximum capability.
other factors of production.

• When economic growth takes place, the production
The scope of economics deals with description,
possibilities frontier shifts outward, showing that
analysis, explanation, and prediction.
more products are produced than before.
• The economic way of thinking involves simplification
Section 2 with model building, cost-benefit analysis to evaluate
alternatives, and incremental decision making.
Basic Economic Concepts (pages 12“17) • The study of economics will make you
a better decision maker and will
• Consumers use goods and services to satisfy their
help you to understand the
wants and needs.
world around you; however,
• Something has value when it has utility and is rela- the study of economics
tively scarce. will not tell you which
• Wealth consists of products that are scarce, useful, decisions to make.
and transferable to others, but wealth does not
• The study of economics
include services, which are intangible. helps people understand
• Markets link individuals and businesses in the circu- how a free enterprise
lar flow of economic activity; the factors of produc- economy makes the
tion are traded in factor markets; goods and services WHAT, HOW, and FOR
are traded in the product markets. WHOM decisions.

Reviewing the Facts
Section 1 (pages 5“10)
1. Identify the cause of scarcity.
Self-Check Quiz Visit the Economics: Principles
2. List the three basic economic questions that every
and Practices Web site at epp.glencoe.com and
click on Chapter 1”Self-Check Quizzes to prepare society must face.
for the chapter test.
3. Describe the factors of production required to
deliver a service like education.
4. Explain why economics is considered a social
Identifying Key Terms
Write the key term that best completes the following sentences. Section 2 (pages 12“17)
capital goods opportunity cost 5. Describe the relationship between goods, services,
consumer goods scarcity and consumers.
consumers services
6. Explain why services are excluded from the meas-
factors of production utility
ure of wealth.
human capital value
7. Distinguish between product markets and factor
1. Economic products designed to satisfy people™s
wants and needs are called _____ .
8. Explain why economists argue that productivity is
2. The _____ of a CD player can be expressed in dol-
lars and cents.
3. Haircuts, repairs to home appliances, and enter-
Section 3 (pages 19“25)
tainment are examples of _____ .
9. Describe the nature of an opportunity cost.
4. _____ arises because society does not have enough
10. Identify the economic concept illustrated by the
resources to produce all the things people would
production possibilities frontier.
like to have.
11. Describe incremental decision making.
5. The _____ of going to a football game instead of
working would include the money not earned at 12. Explain why economic education is important.
your job.
6. _____ is the sum of the skills, abilities, health, and
Thinking Critically
motivation of people.
1. Understanding Cause and Effect Suppose that
7. _____ is another name for the capacity of a prod-
Alpha, shown in Figure 1.6 on page 23, decided
uct to be useful.
to produce more guns and less butter. What would
8. The only factors of production that are themselves
Alpha have to do to make the change? What
the result of earlier production are _____ .
would be the opportunity cost of producing more
9. Land, capital, labor, and entrepreneurs are _____ . guns? What conditions would have to be met for
10. People who use goods and services to satisfy their the new mix of guns and butter to be on the pro-
wants and needs are called _____ . duction possibilities frontier?

2. Understanding Cause and Effect Copy the two Thinking Like an Economist
diagrams of the production possibilities frontiers
Without using the numbers in the math practice
shown below. Then, write captions that explain
problem above, write a paragraph describing the alter-
what each diagram is showing.
natives, trade-offs, and opportunity costs that face the
EFFECT EFFECT city administrator. What other issues do you think are
important to a cost-benefit analysis of this type?

Technology Skill
Using a Spreadsheet Keep track of your economic
Butter Butter decisions for one week. Use your data to create a
spreadsheet, highlighting your weekly spending habits.
Applying Economic Concepts 1. In cells B1 through E1, type Food, Clothing,
Entertainment, and Other. In cell F1, type Total.
1. Scarcity What three choices must a society make
2. In cells A2 through A8, type the days of the week,
because of scarcity?
starting with Monday in cell A2. In cell A9, type Total.
2. Utility How is a product™s utility related to its
3. In cells B2 through E2, enter the amount spent in
each category on Monday.
3. Cost-Benefit Analysis How would you apply the
4. In cell F2, use a formula such as =SUM(B2:E2) to
concept of cost-benefit analysis to the decision to
calculate total expenditures on Monday. Click and
finish high school? To further your education?
drag this formula to cells F3 through F8 to find the
other weekday sums.
Math Practice 5. Compute total expenditures for cells B9“F9.
A city administrator with a $100,000 annual budget
is trying to decide between fixing potholes or direct-
ing traffic at several busy intersections after school.
Sequencing and Categorizing Information
Studies have shown that 15 cars hit potholes every Identify a reasonably large purchase you
week, causing average damages of $200. Collisions at recently made or are about to make. What
are the trade-offs involved, and what are the
the intersections are less frequent, averaging one per
criteria you use to evaluate the alternatives?
month at an average cost of $6,000, although none
On a separate sheet of paper, illustrate your
have ever caused injuries or deaths. Use this informa- decision in the form of a decision-making
tion to answer the following questions. grid like the one below.
1. What are the annual costs from the pothole damage?
Decision-Making Grid
2. What are the annual costs due to damage from
collisions? Criteria Criteria Criteria Criteria
Alternatives 1 2 3 4
3. Given the size of the annual budget, make your
recommendation as to which project should be
undertaken. Explain you answer in terms of dollar
benefits per dollar spent. Practice and assess key social studies skills with
the Glencoe Skillbuilder Interactive Workbook,
Level 2.

Setting Up the Workshop
For this activity you will need:
• small paper “lunch” bags
• miniature chocolate bars
• marshmallows
• graham crackers


Review the concept
of scarcity with your
Working with group. Remember that
scarcity is the economic
Resource Scarcity term that describes a situa-
tion where there are not
enough products available to
From the classroom of . . .
satisfy people™s needs or wants.
Douglas Ide Discuss why scarcity always exists.
Mt. Ararat High School
Topsham, Maine STEP 2
Our resources are limited while our Review the concept of production. Note that
production”the creation of goods and ser-
wants are relatively unlimited. In this
vices”requires four factors.
workshop, you will experiment with meth-
ods to overcome the problem of scarcity.
The Four Factors of Production:
You will also answer the three fundamental
• Natural Resources
questions of economics: what to produce,
• Labor
how to produce it, and how to distribute • Capital
what you produce. Finally, you will ana- • Entrepreneurship
lyze why it is important to determine the
answers to these questions.
Your teacher will provide you with your group™s
“resources.” Do not open the bag.

STEP 4 Summary Activity
Read and discuss these instructions:
Once you™ve produced the product, answer the
This bag contains your resources. You must use following questions. Take notes as you deter-
these resources and no other, but you may use mine the answers.
them in any way you choose. The resources are
1. What was your first thought when you
exactly what they appear to be: chocolate,
opened the bag and examined the amount
marshmallows, and graham crackers; they may
of resources?
not be used to represent anything other than
2. What did you then have to decide?
3. Why did you have to think about how to
produce them, and how they would be
Open your bag and study the contents. Discuss
4. Were each of the four factors of production
what item or items your group can produce
used in making your product?
with these “resources.” Due to scarcity, your
5. What resources were used?
group may have difficulty in producing one
complete unit of “product” for each group 6. What type of skills and tools did the workers
member. need?
7. Create a chart showing the factors of pro-
STEP 6 duction that are combined into different
consumer products that the members of
Compare the available resources in your bag to
your group buy.
the “demand” for the finished product. How
many units can be produced? How will you
produce them? How will you distribute them?
(e.g. Will each member of the group receive a
completed unit, or will only some of the mem-
bers receive the product? If not everyone
receives one, how will you determine who
receives one?)

In Chapter 2, you will
learn how economic
systems differ and what makes
up the major characteristics of
the United States market
system. To learn more about A wide range of choices is
characteristic of a market economy.
how economic systems operate,
view the Chapter 3 video lesson:
Economic Systems and the
American Economy

Chapter Overview Visit the Economics: Principles
and Practices Web site at epp.glencoe.com and
click on Chapter 2”Chapter Overviews to preview
chapter information.
Economic Systems
Main Idea Key Terms
An economic system is a set of rules that governs economy, economic system, traditional economy,
what goods and services to produce, how to produce command economy, market economy
them, and for whom they are produced.
Reading Strategy After studying this section, you will be able to:
Graphic Organizer As you read the section, complete 1. Describe the characteristics of the traditional, com-
a graphic organizer like the one below to identify mand, and market economies.
ways in which a market economy differs from, and is 2. Explain the advantages and disadvantages of the
similar to, a command economy. traditional, command, and market economies.

Applying Economic Concepts
Market economy
Tradition Tradition plays a stabilizing role in our lives.
Even the U.S. economy, characterized by freedom and
competition, has some elements of tradition.
Command economy

he survival of any society depends on its abil-
Cover Stor y ity to provide food, clothing, and shelter for
its people. Because these societies face
scarcity, decisions concerning WHAT, HOW, and
FOR WHOM to produce must be made.
All societies have something else in common. They
have an economy, or economic system”an organized
way of providing for the wants and needs of their peo-
ple. The way in which these provisions are made
determines the type of economic system they have.
Three major kinds of economic systems exist”tradi-
tional, command, and market. Most countries in the
world can be identified with one of these systems.
Bombay, India

McDonald™s in India Traditional Economies
arrived in India, but
olden Arches finally have
The G Many of our actions spring from habit
re still out of luck. . . .
t a Big Mac Attack, you™
if you ge and custom. Why, for example, do so
Hindu nation, where
g to this predominately
In comin
ople don™t eat beef, many Americans eat turkey on Thanksgiving?
e sacred and most pe
cows ar Mac for an Indian Why does the bride toss the bouquet at a wed-
™s Corp. ditched the Big
at™s two all-mutton pat- ding? Why do most people shake hands when
, the Maharaja Mac. Th
stand-in , pickles and onions, they first meet, or leave tips in restaurants? For
ial sauce, lettuce, cheese
ties, spec
the most part, these practices have been handed
all on a sesame-seed bun.
down from one generation to the next and have
l, October 14, 1996
”The Wall Street Journa
become tradition“they are a part of our culture.

In a society with a traditional economy, the


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