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Two
Beatles Songs to Reflect On:
Here's the other side of the argument, in a song written and recorded by the Beatles not long after "Money, It's What I Want" It has that sweet idealistic quality that John and Paul were good at in the 1960s. They actually wrote this song (while they only recorded the former) so it seems they came down on the side of money.
Love versus money--and morality versus the market. This grand theme has implications for economic policy: Reflect on part of the homework assignment that is due this Friday. For Homework #1: Capitalism Among Consenting Adults, for example: Asks you to choose from an comment on a list of possibilities, including the following:
CHAPTER 1, FRANK AND BERNANKE THINKING LIKE AN ECONOMIST First, THEIR view. Then, MINE. (They are not mutually exclusive). Scarcity, scarcity, scarcity...tradeoffs. Rational, rational, rational, calculating choice... Compare costs and benefits. Assume that you know exactly what you want, and that you can put a price on all of your desires. If you don't make this assumption, you will have a very very hard time thinking like an economist. Just pretend you are a robot. Reservation price -- the highest price you are willing to pay to obtain any good or service. Or, the lowest payment someone would accept for giving up a good or performing a service. What's the most you would be willing to pay for dinner tonight? What's the most you would be willing to pay for a new car? What's the most you would be willing to pay for a vacation package over spring break? Or, you can be more specific. What's the most you would be willing to pay for a vacation package to Ft. Meyers that included tickets to Red Sox spring training? Or you can ask more abstract questions about things you want that are not so easily "commodified"--that is, things that don't trade on the market: What's the most you would be willing to pay to get an A in this course? What's the most you would be willing to pay to hook up with someone next Friday night? Once you know your reservation price, you can compare it with what you actually pay. And the difference between those two is an economic surplus. Now, generalize this to other people. Say you want to hire someone to do your homework for you. They have a reservation price--a minimum below which they will not do it. Now, you could ask them what this is. They would be stupid to tell you. But let's say that I would do your homework for you for $20. But you offer me $25, and I take it. Then, I've just enjoyed an economic surplus of $5. Note--it's not a physical surplus. It's not money I can put in the bank. It's a psychological surplus. It's the difference between the hypothetical and the real. Do Homework question 1. Reservation price is about a kind of hypothetical benefit--what something is worth to you psychologically, measured in dollars. Opportunity cost is a kind of hypothetical cost--what you give up, or sacrifice, in order to do what you do. Opportunity cost --the value of the next-best alternative that must be foregone to undertake the activity. If you weren't in class right now, what would you be doing? That is, what's your next best alternative? You might be working at your job. What do you earn per hour? That's your opportunity cost. You choose to take a nap. I mean, a nap on a bed, like in your own room. What's the dollar value you would place on this? That's the opportunity cost of coming to class. But you're here, in class. That means, by definition, that you placed a higher value on coming to class than on the next best alternative. So think about it for a minute--what's it worth to you, being in class? You must have some kind of reservation price--what you are willing to pay--or to give up, in order to be here....you are probably getting some kind of a surplus from being here. Otherwise you wouldn't be here.... Now, in the real world, we often don't know what the opportunity cost of doing something is, or what the benefit will be...but in the world of economic theory, we all have perfect knowledge of our preferences, our reservation prices, and our opportunity costs. May be unrealistic, but it could help you to be a more organized decision-maker.... Which brings me to third key concept: marginal cost (and marginal benefit) --the increase in total cost (or benefit) from carrying out one additional unit of the activity. Take it step by step. Break things down into units. You feel like you need a makeover, you've been feeling like a total slob. You go get a haircut. Great feeling. You decide to get your hair colored. Great feeling. You decide to get a manicure. What the hell, why not get a pedicure...you could get your legs waxed....assess the marginal benefit of each step...and compare it to the marginal cost... You want to make your car look really cool. You start out taking it to the car wash. Then you decide to vacuum it. Then you get out the Armor-all and shine up the upholstery...assess the marginal benefit of each step, and compare it to the marginal cost. You have a bunch of homework to do. Some is more pressing than others. In some classes it counts more than in others. In some classes you have an exam coming up, but not in others. The value of an hour devoted to homework in one class (the marginal benefit) is likely to be different from the value of an hour devoted to homework in another class. The psychological costs may also differ. Maybe studying poetry makes you feel good, while reading about economics makes you feel sleepy. On other hand, after studying poetry for three hours, you may get tired of it (the marginal cost goes up) and studying economics could actually perk you up (for an hour, anyway). An agricultural example: From Ch.1, Problem #2 .
With three pounds of compost, what's the total amount of tomatoes produced? On average, how many pounds of tomatoes are you getting per pound of compost? What is the effect of applying the LAST or MARGINAL pound of compost? Notice that you are getting DIMINISHING RETURNS FROM ADDING MORE COMPOST. THE MARGINAL BENEFIT IS DECLINING. If you were going to decide whether or not to apply more compost, would you use the average product or the marginal product? Now, let's put some prices in. Suppose a pound of tomatoes can be sold for 50 cents a pound. Suppose that compost costs $1.49 a pound. How many pounds of compost would you buy? Draw a graph of the relationship between compost and tomatoes. If you really think about this example, and fully understand its implications, it will be of enormous help to you for the remainder of this course. So, what do I have to add to what Frank and Bernanke say? Here's how I think as an economist. We want people to do certain things. Like, I want my students to study hard and learn a lot. Employers want their employees to work hard. But we also want to reinforce certain values. Like, we want students and employees to be honest, trustworthy, caring people. Economic systems organize activities by creating incentives, rewards that will induce the effort we would like to see. There are two basic types of rewards--extrinsic and intrinsic. E.g. for students, there are grades (extrinsic motivation) and satisfaction or intellectual fun (intrinsic motivation). Similarly, in the job market, employers offer money (extrinsic motivation) and job satisfaction (intrinsic motivation). Note that extrinsic rewards are much easier to measure than intrinsic rewards. How do we design incentive structures that encourage people to work hard and be productive, but also bring out the best in them as people? As the wave of recent corporate scandals shows, these two goals can be at odds...
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