in this chapter we are going to talk about how we are going to approach economics in this course yeah I will be talking about the methodology we will be using to study values issue key question we'll be tackling is how do economists use models so what exactly is model model at each heart is a simplified version of complex reality we use them make things easier to understand we make assumption to simplify situation for example when we study International Trade we might consider world with just two countries each producing only two good pretty simple doesn't it you might say it's unrealistic but that is the whole point by making it unrealistic and simple it becomes incredibly useful it help us focus on big picture what more important what less important Simplicity give us a valuable Insight I will show you what I mean in more detail shortly so let's think about why simplifying it so helpful imagine you are going somewhere new what do use yeah old day we used to use map right it's simplifi the version of the reality that's what makes it so useful now what put the map try to show everything every tree every house every tiny detail it would be overwhelming here is another example when I was trying to explain how airplane fly to my son when he was a young I used PO airplane it's a simplified the model to because it's simple it allowed me to explain the basic physics of lift and how air PL stay in the air think about mother in biology 2 a diagram of a human body show us only the major organs it's very simplified version so it help us understand how those major organs interact and function so Economist use model not this kind of model our model and not toy what diagram of body our model graphs tables and equation so it's crucial that you know how to read the graphs and tables and how to converter between them if you are struggling with this I like recommended checking out the pendix in chapter two of the text book it has a great overview how to interpret graphs and tables so let's dive into our first example production possibility Frontier this graphs this table show all different combination of two good economy can produce given it resource and Technology let's say economy produce computers and weight there is only one resource labor they have 50,000 labor hours and Technology let's say it takes 100 labor hours to make one computer and 10 labor hours to make one ton of weed that's the information about technology they have so with this information we can explore different production possibilities what if economy use all 50,000 labor hours to make only computer how many could they produce 50,000 right labor spend on computer then yes 500 computer with zero ton of we right so no label left for we so no we is produced well you can think of the Other Extreme case now suppose all 50,000 labor hours spent on with production right then how many tons of weight 5,000 tons of weight with zero computer what if they split their labor 50/50 so 25,000 hours for each good then how many computers and how much with can they produce 250 computer and 2500 tons of it right so you can understand the other possibility B and D right by splitting labor this way 40 10 and 10 40 then you can come up with these number I believe you can do it yourself right then let's put this on a R computers on the horizontal axis right and with on the vertical axis now point a that's 500 computer and zero we point e that's zero computer and 5,000 with right C is Middle Point so 250 2500 when we connect all these possibility a through e we get production possibility Frontier this blue line any point on this line represent possible production combination we looked at just five possibility but there are numerous possibility right so now it's possible to produce 100 computers and 30,000 tons of weight is that right yes that is actually F so yeah let's label it f then can you illustrate it in this figure where if F right here 100 tons of 100 computer and 3,000 tons of we right so this mean 10,000 labor hours either right yeah to produce this poter we actually need only 40,000 labor hours what about Point G Point G associate with 300 computer and 3500 point with let's libr now can you place it on this figure then here it is right then what do you notice now put Point G is above the line right it implies this is impossible to produce anything above production possibility Frontier is unattainable well to produce this combination how many labor hours do we need 65,000 labor hours but economy has only 50,000 so point8 through e on production possibility from here they all are possible Right to produce also we say they are efficient because all resources 50,000 labor hours are utilized but Point F inside the production possibility Frontier yes it's possible to produce but in efficient right because resources are underutilized so you can understand what efficiency means in this context all resources are being used right now what about Point G that's outside production possibility Frontier then simply it's impossible to produce we cannot say whether it's efficient or inefficient because it's impossible to produce well this model is very use useful in understanding concept of opportunity cost we already know what it is but okay you will see this concept can be clarified even more with the help of model let me just remind you every decision involves tradeoff right yeah in our model tradeoff is what between computers and we to get more of one we have to give up some of the other so here's thing the slope of production possibility Frontier that is opportunity cost of one good in terms of the other because our production possibility Frontier is a straight line the slope is a constant we can calculate it by taking any two points and finding the change in WID divided by change in computer so I'm sure you understand what this formula is right yeah that's the mathematical definition of the slope change in y change in X in our case changing with changing computer you can take any two points here right so you can look at this ratio then that's the slope now simple way to do yeah use just to intercept yeah the these two extreme Point here right then so changing y That's 5,000 changing X that's 500 right between two intercept so we obtain slope 10 this is opportunity cost but let me make it more clear so slope of 10 that means what to produce one more computer we have to give up 10 tons of weight yeah that is opportunity cost of producing one more computer right where we could say opportunity cost of 100 computer then what should it be well then 10 times 500 5,000 yeah it makes sense because yeah to produce 500 yes all resources have to be spent on computer so we lose what we lose chance to produce the 50,000 I'm sorry 5,000 tons of weight right okay also we could ask what's the opportunity cost of now one ton of we right then inverse of slope inverse slope right one10 that is the answer so poity cost of one ton of weight inverse of slope 110 again slope itself is opportunity cost of x good computer in our case now inverse 1110th that is opportunity cost of one ton of weight then this opportunity cost must be expressed in in terms of the other right so one computer opportunity cost one computer 10 tons of with one t of it what's the opportunity cost of it then one penth unit of a computer is that clear okay now let's look at France and England these two different economy right okay to Simplicity let's assume two economy they have same amount of labor but different technology so question is which country has high opportunity cost of producing cloth right now if you look at the maximum amount of cloth each country can produce then see you know same right so you might think that okay they are equally capable of producing cloth so must mean cost of producing cloth are the same between the two country do you think it's correct actually not yeah this is really really interesting let's see what's the opportunity cost of one unit of cloth for France that's the slope right so 600 divided by 300 two wine but for England two over three two3 B of wine so France right has a high opportunity cost England has a low opportunity cost in producing cloth even though they are equally capable why why is that because France can produce wine a lot more than England that makes cost of producing cloth right higher more costly to produce cloth because France has to give more right does it make sense okay now again you know yeah France is so good at making wine right because France is good at making wine they have to give up more wine to make cloth that's why opportunity cost is higher opportunity cost of producing growth it's higher in France right okay this model right it also help us to understand another key Concept in economics which is economic growth we can visualize economic growth as an expansion of production possibility Frontier like this from Blue to rain why because economy can now produce and consume more of both good what can cause this kind of growth where first we could have more resources like labor imagine our economy suddenly had 60,000 labor hours instead of 50,000 then if you plot production possibility Frontier then yeah must be this kind of out of the sift right red we could produce more of everything that's economic growth another factor that drive economic growth is a better technology now suppose our economy develop more efficient way to make a computer maybe it now only take 80 hours not 100 hours maybe even 50 hours to produce one computer again then production possibility Frontier would expand reflecting this increased productivity we can illustrate this out of the sipt production possibility Frontier that's economic growth in action right okay so so far right we have drawn production possibility Frontier as a straight line well why does it have to be straight line actually in more realistic situation it's not straight line it's usually bow shape like this why is that okay okay let me help you understand so the reason has to do with the fact that workers have different skills right yeah that's more realistic you know people have different skill so with a straight line we are implicitly assuming all workers identical they are equally good at making computer sand we but that's not realistic in reality some people are better at computer programming or making computers because they are engineer While others sub better at farming let's make our model a bit more realistic then with this in mind let's assume half the work skilled at making computer the other half skilled at growing we they are farmer imagine our economy is producing mostly with and very few computers right mostly with and very few computers somewhere here right like this point a then what's happening here now all the farmers are working in the field right which makes sense but to produce a lot of we right what does it mean then even Engineers right they are working in the field as well even though they are not very good at it now suppose we want to produce more computers what do we do we just move some of those Engineers from the field with field to computer Factory then because these people are engineer their contribution to computer right that's relatively large but the loss in we production is relatively small because they are not very good at growing weat in the first place right that's why production possibility Frontier is bowed out as we SI to Resource from one sector to the other opportunity cost to change it becomes increasingly costly to produce more and more computer right so here's thing why didn't I start with this Mor listic about shape production possibility Frontier oh by the way yeah you can also understand this change just similar way I will leave that to you then okay I could start with this bow shape production possibility Frontier more realistic version if I did well it would have been much harder to explain opportunity cost with the curved production possibility Frontier slope is constantly changing you have to use more advanced mathematics like the derivative to calculate it yeah slope is changing along the curve right the whole point is that by starting with a simple model we can understand the fundamental concept more easily if I had thrown complex realistic version then it would have been much harder to grab but truly important right okay now let's look at quickly real world example think about health care reform right now we can we have a good framework to think about such issue we can use our production possibility Frontier to understand the tradeoffs involved regarding healthcare reform let's put healthcare service on one AIS right and all the other good on the other exis currently our economy is at some point to X1 right now if we want to reform Health Care to provide a more Health Care Service right so we want to move from X1 to x three right then this simple model reminds us that there is trade off to get more healthare you have to give up some of the other good the resour that could have been used to produce them of course that's very straightforward but we often forget it and this model clarify tradeoff we face in every decision