From paying people to queue for you to selling permits to allow factories to pollute, Michael Sandel (Professor of Philosophy at Harvard University) is uncomfortable with the creeping marketisation of our society. Is attaching a price to something a morally neutral act that might help us to achieve our aims more efficiently or can the act of paying for something devalue and degrade the very thing we hope to obtain? Sandel certainly thinks so.

Christmas is coming (queue a chorus of voices decrying Christmas displays in shops from August and the commercialisation of the Christmas season). But as you open yet another ill-fitting knitted jumper and garish pair of socks from great aunt Gertrude, have you ever wondered about the “efficiency” of your gifts? Confused? Let me explain.

Donald Trump is on a self-proclaimed quest to “make America great again”. He has pledged to tear up trade agreements that do not benefit the USA. Thus far he has, amongst other things, withdrawn the US from the Trans-Pacific Trade Partnership, threatened to withdraw from NAFTA (North American Free Trade Agreement) and imposed billions of dollars of trade tariffs on China, who have of course retaliated. Let’s take a look at the economics behind trade and protectionism.

 

Economists usually view free trade as beneficial for all parties. The country who is most efficient at producing a good makes it cheaply and gains revenue from exporting and the country who is less efficient obtains the good more cheaply than if they had made it themselves and can focus on producing goods and services that they are more efficient at. Everyone benefits. For a more technical explanation of this you may wish to read up on the theory of absolute advantage (Adam Smith, 1776) and the theory of comparative advantage (David Ricardo, 1817).

 

Most economists contend that to impose tariffs (taxes on imports) would diminish these benefits or eliminate them. However, there are some situations in which many would consider protectionist (anti-trade) policies:

1)      Infant industries - temporarily protecting new industries until they are developed enough to compete on their own.

2)      Sunset industries – declining industries that we may wish to let go more slowly so that workers have time to retrain and the economy can adjust.

3)      Strategic industries – sectors that are so important to the security of an economy that we might be prepared to produce less efficiently in order to keep control of them.

4)      Anti-dumping – protecting firms against foreign goods that are being sold below cost price either because too many have been produced or in a deliberate effort to damage competitors.

 

It is these last two that Trump is claiming as justification. The US has regularly accused China of dumping surplus goods or of giving state subsidies to firms, which, they say, amounts to the same thing. Trump also claims that steel, an industry that has declined significantly in the US over recent years, is a strategic industry as it is needed for national defence.

 

It is not the first time that the US has looked to protectionist policies. The first US Treasury Secretary, Alexander Hamilton (1755-1804), oversaw a raft of protectionist measures that many have credited as highly successful in building the fledgling United States.

 

Critics of the Trump administration would suggest a degree of hypocrisy in the anti-dumping argument and point to the $25bn a year that the US pays out in farm subsidies and the generous defence contracts given to some firms that allow them to subsidise other products. Some have also suggested that the steel the US has traditionally produced cannot be considered a strategic industry,1 as they have traditionally focused on lower grades of steel, not the very high grade steel required by defence industries, which they have always imported.

 

Trump’s trade theory then; is he getting tough to defend American interests or is this a naked attempt to appeal to core voters who have lost manufacturing jobs in the Rust-Belt? Does it make good economic sense or is Trump destined to increase costs for US businesses and condemn the economy to focus on inefficiently producing goods and services that it is ill-equipped to produce instead of importing them?

 

Further Reading:

BBC Radio 4’s “The Long View” considers the early history of US protectionism and whether Trump’s policies are likely to have the same beneficial effects. You can listen to it here: http://www.bbc.co.uk/programmes/b09xjtd8

 

EconplusDal has some excellent YouTube videos on the benefits from trade and the theories of comparative and absolute advantage. You can find these here: https://www.youtube.com/watch?v=aPJTi3gGOHs

 

You can find Adam Smith’s original publication of the theory of absolute advantage here: https://www.ibiblio.org/ml/libri/s/SmithA_WealthNations_p.pdf

 

You can find David Ricardo’s original work on comparative advantage here: http://www.econlib.org/library/Ricardo/ricP.html

 

BBC News have some excellent articles on Trump’s approach to trade, including this one: http://www.bbc.co.uk/news/business-43635623

Rational choice theory is a branch of Economics that seeks to model people’s economic and social decision making. To do this it uses a number of tools including Game Theory.

In order to predictably model choices, rational choice economics must assume that people are rational. That is they behave in certain predictable ways. Rationality is not the same as being sensible. We may consider the choices someone makes to be obviously ridiculous but as long as they are logically consistent with that person’s other choices they are likely to be rational. Most people would consider poking yourself in the eye with a stick to be a rather silly thing to do but this does not make it an irrational act in the economic sense as long as the other choices and preferences the individual has are consistent with it. Economists have 4 axioms (rules or laws) of rationality the first 2 of which must hold for us to be able to model people’s behaviour.

 

Completeness

A person must be able to state a preference order. If I have a choice between an Aston Martin, a Ford Fiesta and enduring an evening with Justin Bieber then completeness states that I must be able to put these in order of preference:

Aston Martin is preferred to Ford and to an evening with Justin Bieber. Completeness says that I must know if a Ford is also preferred to an evening with Justin Bieber.

 

It is perfectly possible to be indifferent – to say that you don’t care whether you have a Fiesta or Justin Bieber but your preferences would not be complete if you did not know which you would prefer. It is important as if you don’t know your preferences then economists can’t work out how you would react given different choices

Formally we would write this as:

For every A and B either A ≥ B or A ≤ B

 

Transitivity

This is what most people think of when they think of rationality. If I prefer an Aston Martin to a Ford Fiesta and I prefer a Ford Fiesta to an evening with Justin Bieber then logically I must prefer the Aston to Justin. If not a situation like the diagram would result and again it would not be possible to order your preferences and predict your actions.

Formally we would say:

For every A, B and C with A≥B and B≥C we must have A≥C

 

 

Independence within lotteries

By a lottery or probability distribution all we mean is that people make a choice without being certain what the outcome will be. You do this all the time. When you go to the beach you don’t know whether you are choosing a sunny day at the beach, a wet day at the beach or a day in a traffic jam. Weather forecasts and travel news may change the odds but there is still a chance of any one of the three.

Let’s use the same example as our previous axioms but this time we will look at them as a lottery

either

(0.6) Aston Martin + (0.4) Justin Bieber

Or

(0.6) Ford Fiesta + (0.4) Justin Bieber  

We know that your preference is Aston, then Fiesta then Bieber so it must follow that you prefer lottery 1 with a 60% chance of getting an Aston to lottery 2 with a 60% chance of getting a Fiesta. That must be the case because each time there is a 40% chance of getting an evening with Justin.

This is really helpful in rational choice theory because it means economists can work the other way. I don’t know your preferences but you have told me that you would choose lottery 1 over lottery 2. That allows me to work out your preference order.

It is quite straightforward with a single set of outcomes and it is unlikely that anyone would make choices that violate this axiom but it gets rather more complicated when we factor in compound lotteries. This is when instead of simply choosing a lottery you choose a lottery within a lottery. Then people’s ability to rationalise between one lottery, each of whose outcomes is a lottery and another lottery with a different set of lotteries as an outcome, becomes highly questionable. While it sounds unlikely that you will be faced with this sort of choice the example of going to the beach shows that many choices that seem straightforward are in fact a lottery of outcomes. An example of this is the Allias Paradox which you can find out more about online.

Formally we would say:

Let p ϵ [0-1] and A, B, and C be three outcomes. A ≥ B if and only if pA + (1-p)C ≥ pB + (1-p)C

  

Continuity

Continuity says that if I have 3 outcomes there must be some probability that would make me indifferent between the best outcome with a risk of the worst and the middle outcome with certainty.

Let’s go back to our example. I have an ‘x’ chance of getting an Aston otherwise I get the evening with Justin. There must be some value of ‘x’ that would make me indifferent between that lottery and getting the Fiesta with certainty. Given the horrific prospect of an evening with Justin you may think that I would rather take the Fiesta every time but it seems reasonable to assume that once the probability of getting the Aston reaches 99% and above I would change my mind.

Formally we would say:

        Let p ϵ [0-1] and A ≥ B ≥ C. There exists a probability p such that B = pA+(1-p)C

 

 

There was quite a bit of detail there so if you are still with me then you have done well. I hope you can see that the axioms of rationality are actually simpler than they look and not especially controversial with the possible exception of independence, which makes logical sense but in a real life situation it is easy to see how people could make inconsistent choices as compound lotteries come into play. If you want to look more at the various axioms then there are an excellent set of videos on each one in this YouTube play list

 

Aggregate demand is one of the central concepts in macroeconomics. It is used to analyse changes in economic output and indicate the likely impact on other economic goals such as inflation, unemployment, budget balance and the balance of trade. Made up of consumption spending, investment spending, government spending and the balance of trade, aggregate demand measures the total value of spending within an economy over a period of time.

This video will take you through drawing the aggregate demand curve and the sorts of changes that might lead to a shift in the AD curve.

 

Utilitarianism as a theory has had many incarnations. Act vs Rule Utilitarianism are just two examples of this but all flavours of utilitarianism have at their heart the concept of “the greatest good for the greatest number”. This is, of course, a simplification but it is the working definition of utilitarianism that I shall be using.

Utilitarianism is everywhere. It is used by economists in their models of rationality, it is used by Government in cost benefit analysis and it is used by you, probably multiple times a day when you decide whether to have tea of coffee. What will make us happier? Mars or Coke, a new railway line or green fields and a tax cut? Can we justify the redistribution of wealth? What about torture?

When it comes to mundane, everyday decisions there is probably little to be criticised in the theory of utilitarianism but when it comes to major decisions, especially decisions of freedoms and morality there are some serious problems. Not only is it highly questionable that individuals can calculate all the costs of their actions but the ridged application of basic utilitarianism can lead to some highly undesirable outcomes under certain circumstances.

This lecture is not intended to be a systematic scholarly critique of utilitarianism but, simply a general introduction to the central concepts and a discussion of some of the problems non-theists must overcome if they are to defend a coherent set of ethical and moral beliefs.

 

 

Costs are defined as money paid by a firm to obtain the factors of production. While you may understand what a cost is it is important that you are able to define the term succinctly in an exam to gain maximum credit.

Types of Cost

We split costs in to fixed costs which do not vary with output in the short run and variable costs which do vary with output. Fixed costs include things like rent. A shop or factory must rent a building to operate from and will need to pay for it even if they do not produce anything this month. Obviously if in the long run the firm wants to expand its production significantly then it may need to pay more to rent a larger building but this will not happen in the short run. Variable costs pay for things like raw materials. As these are used up in making the product these must be paid for each time and so do vary with output.

Sometimes people refer to semi-fixed costs. These are costs like electricity which may have a fixed element such as line rental and a variable element such as calls, which will increase as the business produces more.

Calculating Costs

There are a number of costs you need to be able to calculate:

Using these formulae and the reminders at the top of the columns you should be able to calculate every cost in the table

Output	Fixed Cost	Variable Costs	Total Cost (FC+VC)	Average Cost (TC/Q)	Marginal Cost DTC
0	1000		1000
1		200	1200
2		340
3		440
4		540
5		675
6				310
7				300
8			2400
9		1790
10			3300
11		2960
12				400

Hint: if you are struggling try starting with fixed costs (they don't change) and then fill in as many variable and total costs as you can.

 

Drawing Costs

As well as being able to calcuate costs you must also be able to sketch what they look like on a graph and explain the reason for the shape.