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Economics 1:  Fall  2010   J.  Bradford  DeLong,  Michael  Urbancic,  and  a   cast  of  thousands...   hAp://  

Gerard Roland  Has  Found  Some  Extra   Money...  

•  Please let  your  students  know  that  the  tutors   are  available  to  students  of  Econ  1,  100A,   101A,  100B,  140,  and  141.   •  The  tutors  will  start  holding  office  hours   tomorrow.  The  Smes  and  locaSons  of  their   office  hours  will  be  posted  to  the  following   page  later  today:   •  hAp:// eac/eac.shtml  

Economics of  Markets  with  Search   FricSons   •  “Sveriges  Riksbank  Prize  in  Economic  Sciences  in   Memory  of  Alfred  Nobel”  vs.  “ The  Nobel  Prize  in   Chemistry”  

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Administrivia: The  Next  Month:  The   Long  March  to  the  Second  Midterm   M  Oct  11:  Choice,  Scarcity,  and   Exchange   W  Oct  13:  Markets  and  Other   AllocaSon  Procedures.  Essay  2:  two-­‐ pages  on  human  social  large-­‐scale   cooperaSon   M  Oct  18:  Working  with  Supply  and   Demand   W  Oct  20:  ProducSon  and  Equilibrium   in  the  Short  Run  and  the  Long  Run.   Problem  set  4       M  Oct  25:  General  Equilibrium  and  the   "Efficiency"  of  "Perfect"  CompeSSon.   W  Oct  27:  Monopoly.  Problem  set  5   M  Nov  1:  Oligopoly   W  Nov  3:  MonopolisSc  CompeSSon.   Problem  set  6   M  Nov  8:  MIDTERM  2  EXAM  

Economics 1:  Fall  2010:     Choice,  Scarcity,  and  Exchange   J.  Bradford  DeLong   October  11,  2010,  12-­‐1   Wheeler  Auditorium,  U.C.  Berkeley  

Ladies and  Gentlemen,  to  Your   i>Clickers...   •  About  how  much  does  use  of  markets  rather   than  command  amplify  societal  economic   producSvity?   –  A.  None   –  B.  Doubles  it   –  C.  Triples  it   –  D.  Quadruples  it   –  E.  Quintuples  it  

Guessing at  Some  Numbers   •  Growth  rates  of  populaSon   –  –  –  – 

HG: 0.01%/year   AS:  0.05%/year   EM:  0.2%/year   >1800:  1.0%/year  

•  Growth rates  of  technological  and   organizaSonal  knowledge   –  –  –  – 

HG: ????   AS:  0.01%/year   EM:  0.09%/year   IS:  2%/year  

•  Growth rates  of  global  GDP   –  –  –  – 

AS: 0.05%/year   EM:  0.2%/year   EIS:  1.4%/year   IS:  3.4%/year  

How Much  Does  Market  OrganizaSon   MaAer?   •  We  have  a  20th  century   “natural  experiment”   •  High  Stalinist  central  planning  

–  Marx’s suspicion  of  markets  as   surplus-­‐extracSon  devices   –  Hence,  the  communists  said,   we  won’t  have  any   –  We  will  reproduce  the   Rathenau-­‐Ludendorff  World   War  I  Imperial  German  war   economy   –  Communes,  economies  of   scale,  GOSPLAN,  etc.  

•  Effect: you  throw  away  a  five-­‐ fold  amplificaSon  of   producSvity  by  eschewing  the   market  

How Much  Does  Market  OrganizaSon   MaAer?   •  Effect:  you  throw  away  a   five-­‐fold  amplificaSon  of   producSvity  by   eschewing  the  market...   •  Effect  on  human  welfare   can  be  greater  or  smaller   (Cuba/Cambodia)...   •  Linkage  between  market   economy  and   technological   knowledge...  

The Economic  Problem   •  Stuff:  

–  What... –  How...   –  For  whom...  

•  We can’t  make  everything   •  Where  there  is  no  scarcity—or   where  we  don’t  care  that  there   is  scarcity—there  is  no   economic  problem   •  Where  there  is,  and  where  we   care,  there  is  an  economic   problem:   –  Ursula  K.  LeGuin:  Urras  and   Anarres   –  Jan  Wenner  vs.  Paul  Allen  

What Do  We  Care  About?   •  We  care  about  choices   between  things  we  value   •  “Opportunity  cost”  

–  What is  the  “opportunity   cost”  of  aAending  Cal?   •  Cash  cost  plus  foregone   wages  plus  foregone   valuable  experience  plus   Sed  to  Berkeley  plus  not  a   boring  job...  

–  What is  the  “opportunity   cost”  of  drinking  a  cup  of   coffee?     •  You  can’t  spend  the  Sme   and  money  taking  yoga   lessons  

Scarcity and  Choice  in  a  MulS-­‐ Person  Economy   •  Dharma  and  Greg   –  Greg  is  good  at  making   coffee—can  make,  say,   10  cups  a  day   •  But  inept  at  yoga—one   lesson  a  day  max  

–  Dharma is  good  at   doing  (and  teaching)   yoga—can  teach  5   lessons  a  day   •  But  can  only  make  two   cups  of  coffee  

Greg and  Dharma  in  Autarky  

A Market  with  cu2  Yoga  Lessons!  

What the  Market  System  Gets  Us   •  •  • 

They have  specialized  in  what  they  are   most  producSve  doing   They  have  traded  via  this  insStuSon   clled    “market”   It  is  win-­‐win   –  Dharma  benefits  as  long  as  the  price  of   yoga  lessons  >  cu0.40   –  Greg  benefits  as  long  as  the  price  of  yoga   lessons  <  cu10  


Wealth MaximizaSon  



–  Any price  between  cu0.40  and  cu10   produces  a  wealth-­‐maximizing   producSon  outcome   –  Any  price  between  cu0.40  and  cu10   produces  an  efficient  allocaSve  outcome   –  Any  price  outside  the  range  shuts  the   market—and  specializaSon—down   –  A  price  of  cu10  gives  all  the  surplus  to   Dharma   –  A  price  of  cu0.40  gives  all  the  surplus  to   Greg   –  A  price  of  cu2  makes  them  equally  well   off   •  Or  does  it?  

Ladies and  Gentlemen,  to  Your   i>Clickers...   •  The  “economic  problem”:   –  A.  Is  figuring  out  how  to  deal  with  the  fact  of  scarcity   in  (at  least  some  of)  the  things  we  care  about.   –  B.  Is  the  result  of  high  opportunity  costs.   –  C.  Was  solved  for  all  Sme  by  the  wave  of  technological   innovaSon  that  was  the  Industrial  RevoluSon.   –  D.  Is  that  supply  is  not  guaranteed  to  match  demand.   –  E.  Is  that  of  figuring  out  what  prices  should  be  charged   in  markets  

In Order  to  Coordinate...   •  an  economy  with   N  commodiSes  via   the  market,  you  have   to...   –  1.  Find  a  whiteboard   –  2.  Write  down  N   prices   –  3.  Laissez-­‐faire   –  4.  Maybe  you  don’t   have  to  write  down   the  prices  

In Order  to  Coordinate...   •  an  economy  with  N   commodiSes  via  a   bureaucraSc  command-­‐ and-­‐control  hierarchy,   you  have  to...  

–  1. Tell  everybody  what  to   do   –  2.  Tell  everybody  what   they  are  going  to   consume   –  3.  Check  up  to  make  sure   everybody  is  doing  what   they  are  supposed  to  be   doing  

In Order  to  Coordinate...   •  an  economy  with   N  commodiSes  via   “custom,”  you  have   to...   –  1.  Already  have  solved   the  economic   problem  last   generaSon   –  2.  Keep  things  from   changing  

How Important  Is  InformaSon  Flow?   •  • 

With two  people—Dharma  and  Greg— these  informaSon  differences  may  not   seem  that  important   But  with  140  million  workers  and  with   100,000  different  commodiSes?   –  Private  property  pushes  decision-­‐making   out  to  the  periphery  where  the   informaSon  already  is:  you  don’t  have  to   collect  it   –  Purchase-­‐and-­‐sale  automaScally  gives   good  incenSves:  you  don’t  have  to  check   up  on  people   –  If  you  can  get  prices  right  


But what  if  the  market  system  has  big   fricSons?  What  if  it  is  more  producSve   to  do  pieces  of  the  division  of  labor  via   bureaucraSc  command-­‐and-­‐control?   –  Then  the  market  provides  incenSves  to   create  such  islands  within  itself—that  is   what  big  businesses  are   –  And  we  can  and  do  supplement  the   market  with  the  government   •  Wyoming  KnoA’s  Sixth  InternaSonal   Plauorm  

QuesSons to  Ask  of  Any  Societal   CalculaSng  Mechanism   • 

Is it  aAainable?  

–  i.e., China  during  the  Great  Leap  Forward   not  aAainable   •  Peng  Dehuai’s  reprimand  of  Mao;  Hai   Jui’s  reprimand  of  Shih  Tsung  

•  •  • 

ProducSve efficiency:  will  the  right   people  be  making  the  right  things?   AllocaSve  efficiency:  will  anybody  say   “I  don’t  want  that,  I  want  this   instead”?   Will  it  be  fair?   –  The  cu0.40  price  allocaSon  might  be   Pareto-­‐opSmal  

•  Dharma teaches  yoga   •  Dharma:  2.5  yoga  and  1  cup  of  coffee— and  doesn’t  want  to  teach  more  or  less   •  Greg  consumes  2.5  yoga  and  9  cups  of   coffee—if  he  doesn’t  like  yoga  that  much,   he  might  not  want  to  take  any  more    yoga  

–  But it  doesn’t  seem  fair,  does  it?  


That is  what  we  will  look  at  next   Sme...  

Ladies and  Gentlemen,  to  Your   i>Clickers...   •  What  is  the  single  principal  reason  to  have  a  market   economy  rather  than  a  bureaucraSc-­‐command   economy?  

–  A. It  is  more  producSve   –  B.  It  requires  that  a  huge  amount  less  of  effort  be  spent  on   centrally  collecSng  and  processing  informaSon   –  C.  It  requires  that  a  huge  amount  less  of  effort  be  spent   checking  up  on  people  to  make  sure  that  they  are  doing   what  they  are  supposed  to  be  doing   –  D.  Its  tolerance  of  independent  centers  of  social  power   makes  a  collapse  into  oppressive  dictatorship  less  likely.   –  E.  It  is  fairer  

Test Your  Knowledge   •  What  is  the  “economic  problem”?   •  What  is  “opportunity  cost”?   •  What  informaSon  do  we  need  to  disseminate   in  order  for  a  market  economy  to  funcSon?   •  What  informaSon  do  we  need  to  acquire  and   process  in  order  for  a  centrally-­‐planned   bureaucraSc  economy  to  funcSon?   •  What  are  the  quesSons  we  should  ask  of  any   societal  social  calculaSng  mechanism?  

20101011 for 20101011 Econ 1  

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20101011 for 20101011 Econ 1  

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