Aug 21 2012

## Introduction to Basic Economic Concepts – the Economics of Zoo Keeping

Introduction: This activity can be done individually or in small groups. It may be completed as a homework assignment or as an in-class activity. Divide the class into small groups (3 or 4 people). Each group is in charge of building a zoo.

Materials needed: Several A3 pieces of paper, scissors, tape or glue, and the images of animals available here.

Instructions for students: You and your teammates are the manager of a new business that has decided to open a zoo. Your zoo is a private, profit-seeking business that will charge admission to visitors. The purpose of the zoo , as with any business, is to earn a profit.

• You have to decide which animals to include in your zoo, but space is limited.
• You have 25 acres on which to build your zoo.
• Each type of animal requires a different amount of space, so you must choose which animals to put in your zoo. Remember, you need at least one male and one female of each animal so they can reproduce.

Below each animal is the number of acres just one of the animals requires. For example, one lion requires 2 acres of land. If you want four lions, therefore, you must use 8 of your 25 acres for lions.

Take a large piece of paper (at least A3) and using a marker, design the layout of your zoo. The paper represents the 25 acres you have for animals. Once you have decided which animals to include, how many of each animal, and calculated how many acres are to be used for each animal, cut out the animals you have chosen and paste each animal into its dedicated enclosure.

Once you have completed construction of your zoo, answer the discussion questions that follow.

Discussion Questions:

1. Did every animal make it into your zoo? Why or why not?
2. Did you include a turkey or a cow in your zoo? Why or why not?
3. Why didn't you have a zoo with only monkeys?
4. Which type of elephant did you choose? Why did you choose the type you did and not the other?
5. What is the last animal to make the cut for your zoo?
6. What is the animal that just missed the cut for your zoo?
7. Did everyone in your group agree to include the the same animals?
8. Would everyone in your group have made the same choices if they did it alone?

Once you have answered the discussion questions, view this presentation, which provides answers to the above questions for discussion as a class.

Aug 14 2012

## My first Economics lesson – Scarce Chairs!!

The following lesson is a great way to start an IB or AP Economics class for the year. I just tried it this morning for the first time and it went great!

Instructions:

• Before your Econ students arrive for their first full class meeting, remove chairs until there are only half as many as you will have students. I stuck mine in the library, well out of view of the students coming to my class.
• Tell students that the custodian removed the chairs for repairs, or they were taken to another room for a presentation or something. Anyway, you don't know when they'll come back and it may be a couple of weeks.
• For now, we are stuck with this many chairs, and we have to figure out a way to resolve this problem!
• Tell the students it's up to them to decide how our limited number of chairs will be allocated. Have them brainstorm solutions out loud while you write their suggestions on the board.
• Try to come up with 6-10 possible solutions, then have the students vote on the one they would like to see enacted. They can only vote once! Write the tallies next to each option on the board.
• If there is a tie for #1, have the whole class vote between the two or three options you've narrowed it down to until there is one clear winner.
The Economist's Solution:
• Once the students have voted on their favorite solution, share with them the economist's favorite solution. It is known as a sealed-bid auction.
• Give each student a slip of scrap paper and have him write two things: 1) His name, and 2) the maximum price he would be willing and able to pay each class period to have a chair to sit on.
• Collect the results, and in front of the students, organize their bids from highest to lowest. If there is a tie on the margin, have the students whose bids were identical bid again, writing their highest price on the back of the same slip of paper, then re-rank.
• The students with the highest bids will get a chair! For example, I had 17 students, and only 8 chairs. The highest bid was \$10, while three students were not willing to pay anything. Four kids were willing to pay \$1, but there were only two chair left at that point. When they re-bid, one was willing to pay \$2, one \$1.75, \$1.25 and \$1.20. Therefore, the two remaining chairs went to the students willing to pay \$2 and \$1.75.
• Finally, tell the winners that they can take a seat, and that everyone else must stand! At this point, of course, you can send the lowest bidders out to fetch the missing chairs and begin your debrief.
Economic concepts illustrated by the Scarce Chairs exercise:

Scarcity exists:

• When something is limited in supply and in demand, it is scarce.
• Everyone wants to sit, but the chairs were missing… chairs were scarce.
• Scarcity is a function of both demand and supply. The greater the demand relative to supply, the more scarce something is.

• Because scarcity exists, we must make choices about how to allocate our scarce resources
• We had to choose between competing systems for allocating the chairs

Rationing systems:

• When faced with scarcity, a system must be decided upon to ration the scarce items.
• The systems we decided upon ranged from a lottery to first come first serve to a merit-based system.

Something that is scarce has value:

• Everyone wanted a chair, yet they were limited. Because the chairs provide us with benefit, we value them, and are therefore willing to pay to have one.
• Value is a function of scarcity. The scarcer something is, the more valuable it becomes (gold), while less scarce items are less valuable (drinking water).

Consumer surplus:

• Consumer surplus is the difference between what you are willing to pay and what the price is.
• Sofia would have had lots of consumer surplus if she only had to pay \$2 , because she was willing to pay up to \$10.

Equity versus Efficiency:

• Equity means fairness, while efficiency requires that resources go towards their most socially optimal use, so that those who value something most end up getting that which they value.
• The tradeoff between equity and efficiency is a major theme of the IB Economics course.
• What is most efficient (an auction to determine who is willing to pay the most for the chairs) may not be equitable (or fair).
• When the richest students end up in the chairs, those with lesser ability to pay feel that they’ve been treated unfairly.
• A lottery in which names would be drawn from a hat to determine who gets a chair is certainly more equitable, but is actually less efficient, since those who get the chairs may not be those who place the greatest value on having a chair.
• Auctioning the chairs assures that those who value them the most will end up getting them, therefore resources are allocated most efficiently.

Jan 11 2012

## The Tragedy of the Commons as a Market Failure

Over the last few weeks in our IB Economics class, we have been studying cases in which markets fail to achieve an efficient, socially optimal level of production and consumption when the private buyers and sellers are left to interact in a free market. Markets fail in many ways; sometimes they produce too much of a good, and sometimes too little is produced. There are some things society would benefit from having more of, while other things society would be better off with less than what is produced by the free market.

When the free market fails to achieve a socially optimal level of output, at which the costs and benefits not just of the individual consumers and producers are accounted for, but all social, environmental and health costs and benefits are weighed as well, the government may be able to improve on the free market outcome by intervening in some way. For example, certain goods deemed beneficial for society are simply under-provided by private firms: Education, infrastructure, public transportation, security, health care… these are all markets in which government often intervenes to increase the provision of the good to society. In other cases, government intervenes to decrease the amount of a good consumed: Cigarettes, alcohol, reckless driving, polluting factories, violence on TV, child pornography, dangerous drugs… in each of these cases governments tend to use taxes, regulation or legislation to reduce the amount of the harmful good available on the market.

Besides the merit (beneficial) goods and the demerit (harmful) goods described above, markets may fail in other ways as well. One notable form of market failure arises due to a phenomenon first articulated by American ecologist Garrett Hardin, who warned of the Tragedy of the Commons. In his 1968 essay, Hardin explained that when there exist common resources, for which there is no private owner, the incentive among rational users of that resources is to exploit it to the fullest potential in order to maximize their own self gain before the resource is depleted. The tragedy of the commons, therefore, is that common resources will inevitably be depleted due to humans' self-interested behavior, leaving us with shortages in key resources essential to human survival.

Each of the videos below illustrates a different example of the tragedy of the commons. Watch the videos and think about how each applies Hardin's concept.

Example 1: Thousands of fishermen empty lake in minutes:

Example 2 – Dr. Suess's The Lorax

Example 3 – Tuna fishing

In each of the videos above, there is a common resource (fish and trees) over which no ownership has previously been established. The resource users (the Malian fishermen, the Once-ler and his family and the tuna boat), all have a strong incentive to maximize their own short term gain by extracting and exploiting the resource as quickly as possible.

• In the Mali fishing hole, the outcome is observable: within minutes the resource is depleted and there are no more fish for for future fisherman to enjoy.
• In The Lorax the result of the Once-ler's exploitation of the forest is foretold in the beginning of the story when the young boy comes upon the desolate outskirts of his town.
• The tragedy of the commons acts as a warning to the tuna fishing industry, in which there are still tuna surviving in the world's oceans, but at the rates industrial fishing boats such as the Albatun Tres exploit the resource, it will not be around much longer.
In each instance above, a market failure occurs. Due to the lack of private ownership over valuable resources, self-interested individuals stand to gain by exploiting them to the fullest extent possible while they still exist. The unfortunate outcome is that over time the resources are exploited unsustainably until they are ultimately depleted. As in the case of merit and demerit goods, the market failure of common resources provides an opportunity for government to intervene to achieve a more socially optimal allocation of resources. In the interview below, Garrett Hardin suggests that there are only two possible solutions to the tragedy of the commons. Watch the video and then respond to the discussion questions that follow.

Garret Hardin – the Tragedy of the Commons

Discussion Questions:

1. Hardin refers to Karl Marx's adage “from each according to his abilities, to each according to this needs.” What does Hardin have against this socialist idea?
2. How does Hardin's example of a “common pasture” illustrate the tragedy of the commons? How is a common pasture similar to the three examples in the videos above?
3. According to Hardin, what are the only two solutions to the common pasture problem? Which of these solutions do you think would be most socially desirable?
4. Explain Hardin's claim that “the unmanaged commons cannot possibly work once the population gets above a certain size”. Of the world's common resources today, what are some examples of common resources that remain unmanaged?
5. Whose responsibility should it be to decide how common resources should be dealt with?
6. Do you agree with Hardin's claim that “the world cannot possibly live at the American standard of living at its present population size”? Which of his predictions do you think is most likely to occur: Will the American (and Western European) standard of living have to go down or will the number of people in the world have to be reduced? Or is there a third possibility? Discuss.

Aug 21 2011

## Thoughts on Scarcity and the big questions of Economics

What is scarcity? In Economics, we say that scarcity is the basic economic problem. Because there are only limited resources available in the world, but humans' wants and needs are practically infinite, we run into a problem, how to:

• decide what will be produced,
• how it will be produced, and
• who will get the stuff that's produced.

Any economic system must answer these three simple questions. Today I started off a new year of AP and IB Economics with a lesson in scarcity (the full lesson plan can be viewed here). Students were faced with a classroom with only half as many chairs as there were students. In the face of the scarcity of chairs, students had to decide who would get a chair and who wouldn't. The suggestions from this morning's class ranged from rock, paper, scissors, to musical chairs, to first come, first serve, to a Hunger Games style fight to the death. Ultimately, students decided that I, the teacher, should create a rotating schedule of who would get the chairs, to assure that they would be allocated fairly and no particular student would get to sit in a chair more often than any other.

It was of great interest to me that the students settled on this solution. Sure, it seems fair if a schedule is set by the teacher. But why was this their preferred solution? I asked them if this is how seats in movie theaters are allocated, or seats in top universities, or beds in hospitals? They agreed that, in fact, other scarce chairs are rarely allocated in the manner they settled on, a rotating schedule assigning seats to different people on different days in a way that assure everyone gets to have the chairs equal numbers of times throughout the year.

Of course, this is NOT how seats at top universities are allocated, nor in movie theaters. Upon reflection, we determined that university spots are typically allocated in the following manner:

1. By merit (based on academic achievements in secondary school), and
2. By price (based on who is able to afford tuition at the best universities).

Of course, in many cases, those who may be most qualified to attend the top universities may not be able to afford the tuition, so ultimately, university spots are allocated by price.

Once we had decided that price was an important factor in allocating the scarce chairs out there in the real world, we decided to try out a price system in the classroom. Each student was asked to write down on a piece of paper (confidentially, of course), the price they would be willing to pay each day to have a seat in my class. Once I collected the “bids” I organized them from highest to lowest, and those who were willing to pay the most ended up getting chairs, while those willing to pay the least had to stand.

Is the price system fair? During our debrief I asked students whether they believed our price system for determining chair allocation was fair. Instinctively, they said it was NOT fair. Their reasons were that those who could afford to pay the most (e.g. the richest students) ended up getting chairs, while the students with less disposable income ended up standing. But what makes this unfair?

Upon further discussion, some students pointed out that in the real world, those who are able to pay the most for scarce goods (university spots, high quality health care, nice cars, big houses), have probably worked the hardest and therefore earned higher incomes than those who cannot afford these nice things. In this regard,the price system makes sure that those who work hardest and are most productive end up enjoying a higher standard of living since they can afford to consume more and nicer products.

Or is the price system unfair? On the other hand, those who cannot afford to pay the prices of lots of nice things may not be able to do so because they have not worked hard enough (either in school or in the labor market). But how, then do we explain the fact that many factory workers, miners, fishermen, farmers and others who obviously work incredibly hard, cannot afford to buy lots of nice things (and get their kids into the best universities).

The questions we struggled with today in class are some of the most fundamental questions that the field of Economics deals with, and which we will study in great detail in my classes over the next two years:

• What is scarcity and why does it exist?
• What are some scarce resources in the world outside of school?
• How should scarce resources be allocated between competing wants and needs?
• Who should get the stuff that scarce resources go towards producing?
• What is fair? And what is efficient?
• What kind of system for allocating scarce resources is both efficient and fair?
These and many other questions form the basis of the field of Economics. In the coming months my students will explore the answers to these questions in  their Economics classes!

Aug 18 2011

## Welcome all new Econ students! Time to start thinking like economists

One of the questions I like to ask my student during the first week of class every year is “What is Economics?” The answers are always interesting to read, because unlike many other high school classes, Econ is one of those subjects students sometimes have no idea what it's all about when they sign up for the class. Below are some of the definitions of “Economics” students shared in their first day survey this week:
• “Economics is the study of money flow between either countries or individual companies.”
• “My definition of Economics is the control of money by a person, organization or nation.”
• “Economics is a complex system that determines and justifies global prices, currency values, and ultimately the success of a nation.”
• “I'd say Economics is the study of how humans use resources including income, investments, taxes and the economy.”
• “I think economics is the study of investments and money. Especially income and outcome, and taxes in the government.”
• “The study of the distribution of wealth and how human beings tend to handle wealth.”
• “A bunch of old men moaning about all of the potentially free lunch oppurtunities they had missed in their youth, passed off as the behaviour of markets.”

As you can see, most students do not yet have a clear definition of the subject in their heads when they start the course, which is perfectly understandable! So I thought I'd start the year off by sharing my definition of economics. Please read the following introduction to Economics then answer the discussion question that follows.

So what IS Economics, anyway? Well, look around you. What do you see? From here in my classroom at Zurich International School, I see five new condominium buildings being built. I can count eight yellow cranes swinging their arms hauling construction materials around their respective sites. Beyond the cranes I see a beautiful forest stretching up a hillside with green sheep pastures and quaint farm houses scattered here and there. I see a church steeple and the rooftops of the businesses down in the village below school. I can just see the tops of cars racing along the A3 highway to and from Zurich and the other cities of central and eastern Switzerland.

Now ask yourself, how did things get to be this way? Why are new condos going up in the midst of Europe's deepest recession in decades? Why are farmers still able to graze sheep on hillsides when 100 square meter condos are selling for a million francs just below their fields? Why are the ancient forests of the Sihlwald still standing even as development has encroached into most of the region's  forests and natural ecosystems? How do normal people make enough money to live comfortably in this expensive country? Where do the things we buy come from? Who built this computer I'm typing on and what will I be doing for a living in twenty years?

One of my favorite quotes that to me sums up what economics is all about comes not from an economist, but from the civil rights leader Martin Luther King. In 1967 King wrote:

Did you ever stop to think that you can’t leave for your job in the morning without being dependent on most of the world? You get up in the morning and go to the bathroom and reach over for the sponge, and that’s handed to you by a Pacific islander. You reach for a bar of soap, and that’s given to you at the hands of a Frenchman. And then you go into the kitchen to drink your coffee for the morning, and that’s poured into your cup by a South American. And maybe you want tea: that’s poured into your cup by a Chinese. Or maybe you’re desirous of having cocoa for breakfast, and that’s poured into your cup by a West African. And then you reach over for your toast, and that’s given to you at the hands of an English-speaking farmer, not to mention the baker. And before you finish eating breakfast in the morning, you’ve depended on more than half the world. This is the way our universe is structured, this is its interrelated quality.

Economics is about all the questions I posed above and it's about all the interactions King describes. Economics is about solving one major problem faced by all human societies going back thousands of years. Economics is about the problem of scarcity. Scarcity is the natural phenomenon arising from the fact that all the world's resources are physically limited in quantity.

Limited resources alone would not pose a problem if it were not for one characteristics of human beings that makes us truly unique in the animal kingdom. The fact that we have desires and wants beyond our basic physical needs. In the face of humans' practically unlimited desires and wants, the limited nature of the earth's limited natural resources gives rise to conflicts regarding the allocation of those resources. Economics is the social science that deals with the allocation of earth's scarce resources among the competing wants and needs of society. Economists provides society with various tools and techniques for efficiently allocating our scarce resources.

Discussion question:

1. Scarcity of resources has given rise to countless conflicts among and between societies throughout history. Identify one conflict from the past or present that you think the problem of scarcity gave rise to.
2. Some say that many of the environmental problems our world faces to day can be solved by economics. If that's the case, then they must have to do with scarcity. Identify one environmental problem and explain how it relates to scarcity.
3. Time is one of the scarcest resources. Explain how the decisions you make regarding your limited time in and out of school can be considered economic decisions.

Sep 29 2010

## Price controls in the Chinese Petrol market – or why you may have to wait in line to fill your gas tank!

China rations diesel as record oil hits supplies | Markets | Reuters

In the fall of 2007 I was living in Shanghai, China. At the time, oil prices were hitting record levels world wide, leading to rising petrol prices for drivers in most places.  However, at the time,  I began witnesing an unusual site on my taxi rides into the city of Shanghai: as our taxi passed petrol station after petrol station, I observed dozens of blue trucks (the ubiquitous medium of transporting good from Shanghai's factories to her ports) spilling out of gas station parking lots into the road, apparently queued, waiting for a spot at the pump. I had never seen such long lines at any of the petrol stations around Shanghai before, and I began to wonder as to the reasons for these crazy long lines!

Well, an article at the time helped solve the riddle of the long lines. As it turns out, there was a simple explanation rooted in the principles of supply and demand that any first semester AP or IB economics student would understand! The Chinese government had been forced to ration petrol (limiting the amount that a driver can buy at one go) due to the shortages resulting from the government's price controls in the petrol market.

Truck drivers reported long queues at petrol stations along a national highway linking Fujian and Zhejiang provinces, with each truck getting 100 yuan (\$13) worth of diesel, or around 20 litres, per visit at a state-run station and 40 litres at a private kiosk…

“What's wrong with the oil market? Our drivers had to queue the whole night for only a small amount of fill, slowing the traffic by almost one day,” said Gao Meili, who manages a logistics company.

China is a major importer of oil. With an economy growing around 12% in 2007, much of the country's growth depended on the availability of crude oil at reasonable prices, which China's oil refining firms turn into diesel and petrol, needed to get Chinese manufactured products from factory to port and from port to overseas consumers.

The problem with the oil market in China, however, was that as “Chinese refiners cannot pass the souring crude costs on to consumers.” Oil is an input needed to make a finished product, diesel. As the price of oil rose in 2007 (it reached a record of \$92 per barrel in October of that year), the resource costs to petrol and diesel producers also rose, shifting the supply of petrol and diesel to the left, putting upward pressure on the equilibrium price.   As a first semester AP or IB student knows, resource costs are a determinant of supply, and as oil (the main resource in the production of petrol and diesel) increased in price, the supply of these important commodities invariably decreased.

In a free market, a decrease in supply leads to an increase in price. Herein lies the answer to the riddle of the long lies at petrol stations in Shanghai: the Chinese petrol and diesel market is not a free market. The government plays an active role in controlling prices paid by consumers for the finished product refiners are producing, petrol fuel:

Beijing fears stoking already high inflation and rigidly caps pump fuel rates to shield users from a 50 percent rally in global oil so far this year.

As the costs to petrol and diesel producers rose in 2007, the government in Beijing took the side of consumers and forbade fuel producers from raising the price they charge consumers.  The Chinese government essentially imposed a price ceiling in the market for petrol. A price ceiling is a maximum price set by a government aimed at helping consumers by keeping essential commodities like fuel affordable. As we have learned this week in AP and IB Economics, price controls such as this end up hurting BOTH producers AND consumers, since they only lead to a dis-equilibrium in the market in which the quantity demanded for a product rises while the quantity supplied by firms falls. The shortage of petrol and diesel resulting from the government's price control are the perfect explanation for the long lines of blue trucks and motor scooters at all the gas stations in Shanghai during October of 2007.

So why, exactly, does the government's enforcement of a lower than equilibrium price result in such severe shortages that truck drivers are only allowed to pump 20 litres of petrol per visit and made to wait hours each time they need to refill? Below is a supply and demand diagram that illustrates the situation in the Chinese fuel market in 2007:

In the graph above, the supply of petrol has decreased due to the increasing cost of the main resource that goes into petrol, oil. This decrease in supply means petrol has become more scarce, and correspondingly the equilibrium price should rise. However, due to the government's intervention in the petrol and diesel markets, the price was not allowed to rise and instead remained at the maximum price of Pc.

At the government-mandated maximum price of Pc, the quantity of fuel demanded by drivers far exceeds the quantity supplied by China's petrol producers. The result is a shortage of petrol equal to Qd-Qs.

The government's intention for keeping petrol prices low is clear: to make consumers happy and keep the costs of transportation among China's manufacturers low so as to not risk a slow-down in economic growth in China. However, the net effect of the price controls is a loss of total welfare in the petrol market. Notice the colored areas in the graph above. These represent the effect on welfare (consumer and producer surplus) of the price control.

• The total areas of the green, orange and grey shapes represent the total amount of consumer and producer surplus in the petrol market assuming there were NO price controls. At a price of Pe, the quantity demanded and the quantity supplied are equal (at Qe) and the consumer surplus and producer surplus are maximized. The market is efficient at a price of Pe. Neither shortages nor surpluses of petrol exist.
• However, at a price of Pc (the maximum price set by the government), the amount of petrol actually produced and consumed in the market is only Qs. Clearly, those who are able to buy petrol are better off, because they paid a lower price than they would have to without the price ceiling. But notice that there is a huge shortage of fuel now; many people who are willing and able to buy petrol at Pc simply cannot get the quantity they demand, because firms are simply not producing enough!
• The total consumer surplus changes to the area below the demand curve and above Pc, but only out to Qs. The green area represents the consumer surplus after the price control. It is not at all obvious whether or not consumers are actually better off with the price ceiling.
• The total producer surplus clearly shrinks to the orange triangle below Pc and above the supply curve. Petrol producers are definitely worse off due to the government's action.
• So how is the market as a whole affected? The black triangle represents the net welfare loss of the government's price control. Notice that with a price of Pe, the black triangle would be added to consumer and producer surplus, but with a disequilibrium in the market at Pc, the black triangle is welfare lost to society.

Price controls by government's clearly have an intended purpose of helping either consumers (in the case of a maximum price or price ceiling) or producers (in the case of a minimum price or price floor).  But the effect is always predictable from an economist's perspective. A price set by a government above or below the equilibrium price will always lead to either a shortage or a surplus of the product in question. In addition, there will always be a loss of total welfare resulting from price controls, meaning that society as a whole is worse off than it would be without government intervention.

Discussion Questions:

1. Why has the supply of petrol decreased?
2. With a fall in supply of a commodity like petrol, does the demand change, or the quantity demanded? What is the difference?
3. Define “consumer surplus” and “producer surplus”. Why does a government's control of prices reduce the total welfare of consumers and producers in a market like petrol?
4. How would a government subsidy to petrol producers provide a more desirable solution to the high oil prices than the maximum price described in this post? In your notes, sketch a new market diagram for petrol and show the effects on supply, demand, price and quantity of a government subsidy to petrol producers. Does a subsidy create a loss of welfare? Why or why not?

Sep 02 2010

## “Guns vs. Butter” – The PPC and tradeoffs in the real world

School kids feel the bite of high food prices – May. 5, 2008

A classic method of teaching the basic economic concept of the production possibilities curve is to illustrate the relationship between a nation's decision to invest in military goods versus civilian goods. The model typically includes two “products” that a nation can choose to invest in: guns and butter. The specific goods themselves are not so important, rather what they are meant to represent: the tradeoff any nation faces between allocating more of its scarce resources towards national defense versus goods and services that benefit the nation's consumers.

Today the United States faces a very real version of the old “guns vs. butter” model. Rising global food prices have put public school districts in a bind: how to feed kids nutritious meals as the prices ingredients has risen at unprecedented rates:

Rising food prices are making it harder for schools to cook up ways to give kids the nutrition they need.

Right now, they're taking shortcuts and shuffling ingredients to make up the difference, but that's only a short-term solution with long-term consequences on the horizon.

“I've been in school service for 27 years and this is the worst it's ever been,” said Sara Gasiorowski, food service director for Wayne Township Schools in Indianapolis. “I have never seen food prices jump up so far…”

Food prices nationwide have risen 4.5% between March 2007 and March 2008, according to the Bureau of Labor Statistics' Consumer Price Index, with flour and eggs rising even more dramatically than milk. Grumbles said milk prices in her district are up 22% from last year, which means an increase of 3.5 cents for each of the federally required 16,000 half-pints she provides every day.

“For every penny on a carton of milk, it costs me \$30,000 a year,” she said. “That's \$105,000 extra on my food bill.”

Flour prices have roughly doubled over the last year, according to Grumbles, to \$19 per 50-pound bag. To make up for the difference, she substitutes canned peaches for fresh apples “to save a couple pennies” per meal, or she uses ground beef in place of chicken.

Unfortunately, federal funding for school lunches has increased at a much slower rate than cost to districts of providing those meals:

Federal reimbursement programs cover all or part of school districts' lunch tabs. Congress lifts reimbursement rates every year, but Gasiorowski said it hasn't been enough: “We need to be looking at an increase of 12% to 15%, instead of our usual annual increase of 2 or 3%.”

The current federal reimbursement program is based on household incomes; the poorest American students receive \$2.47 of federal funding towards their “free lunches”, while students from the highest income bracket only receive \$0.23 per meal. The problem is, the average school lunch now costs \$3.10, so these days no one is actually receiving a “free lunch”, not even the poorest American students.

This article struck me in that is truly does illustrate the concept of tradeoffs as illustrated in the production possibilities curve. Society must allocate its scarce resources towards the goods and services it deems most desirable based on the needs of its citizens. Complications arise in this basic model, however, when government is involved.

The commitment to subsidizing school lunches is based on the idea that if the responsibility of feeding American school children were left to the free market, resources would surely be underallocated towards nutritious meals, representing a market failure. School lunches are a merit good, meaning they would be underprovided by the free market, since without public provision and support, millions of American children would come to school every day without nutritious meals to get them through the day.

National defense is another service that governments find it necessary to provide.  If it were left completely up to the free market, national defense would probably not be provided at all. Instead, only individuals who could afford it would hire private security forces to protect their property. To protect a whole nation, however, government provision of defense is a necessity.

Clearly, both “guns” and “butter” create benefits for society. Among the countless other goods and services the government provides or supports the provision of, the United States faces a tradeoff arising from the scarce resources at the government's disposal. Currently, the US government spends far more on  its military (\$660 billion in 2010!) than it does on lunches for American school children. Clearly, military spending is necessary, but it may be that in the tradeoff between these two important services more resources should be allocated towards “butter” at a period in the US economy when low income households are finding it harder than ever to provide their children with one of life's most basic necessities, nutritious food.

Discussion Questions:

1. What do “guns and butter” represent on the PPC above? Why have economists found it useful to use these two goods on their analysis of the tradeoffs faced by nations?
2. Why doesn't the United States just make all school lunches FREE for all American school children? Wouldn't that make sense? Give an economic argument against this suggestion.
3. Why does the government feel it necessary to allocate any resources towards school lunches? Shouldn't the government just let American families provide their own children with lunch?
4. Say the US government decided to increase its provision of both national defense and school lunches, without reducing its provision of some other good or service. How would it do this? Why wouldn't the government do this?

I have to say that your “guns and butter” diagram is “interesting.” I am not clear on why the United States should spend vastly more on school lunches than on defending the free world While government provided school lunches may have a place, most Americans feed their own children and do not depend on Federal financing.

Where did you get the notion that feeding our children would be “under-provided by the free market”

Here was my reply to this reader. I'm posting it here because I want to make it clear the the diagram above is not meant to make any political statement about US military spending:

Hello,

Actually, the PPC was included simply to illustrate the basic tradeoff that society faces when it chooses how to allocate its scarce resources.

Having taught at least for a short while in public schools, I can say that nutritious lunches are definitely “underprovided” by the free market, that is, many students in poor communities in America depend on the “free and reduced” lunches that are provided through federal and state funding programs… I once volunteer taught in a poor Elementary School in Spokane, Washington where 40% of the students ate only two meals a day, both provided free by the school district: one at 8 in the morning, one at noon. Many of these children had parents who were poor, unemployed, often addicted to drugs, who failed to put any food on the table whatsoever.

In other words, I do think that nutritious meals are a “merit good” which by definition is one that is underprovided by the free market, therefore requires subsidies from the government. Otherwise, why would the government offer such subsidies at all, if these meals were something the free market could adequately provide on its own?

Again, I was not making any political statement with the graph, only pointing out the basic economic concept of tradeoffs and the idea that society must allocate its scarce resources towards an “optimal” combination of goods and services. The article indicates that in this time of rising food prices, not enough of America's resources are going towards providing nutritious meals for school children, indicating that a movement along the PPC might be in order. The degree of such a move is irrelevant, only the fact that a movement must occur if nutritious meals are to continue to be provided. In fact, the x-axis could have represented any other public good the government provides for society, I chose “military spending” so that the current example was consistent with the classic example of “guns vs. butter”.

Hope that clears things up… Best regards,

Jason

Apr 09 2008

## Enter the age of inflation…

Rising inflation in Asia stings in the West – International Herald Tribune

I hate bad news. But this is bad news. Just as the US economy is about to officially enter its long-dreaded recession triggered by falling home prices and weak investment and consumption, it looks like inflation will continue to accelerate as wages and commodity prices skyrocket across Asia.

“Inflation is the major threat to Asian countries,” said Jong-Wha Lee, the head of the Asian Development Bank's office of regional economic integration.
It is also a threat to Western consumers because Asian exporters, even in very poor countries, are passing their rising costs on to their customers.

Now Americans are in big trouble. While the dollar plummets, making imports more expensive, wages and input prices in Asia are climbing, leading to autonomous increases in the price levels overseas.

That puts American consumers in a double bind, paying at least some of producers' higher costs for making their goods, and higher prices on top of that because the dollar buys less in those countries.

So where lies the hope for relief? Is there any? What are the possibilities that input costs will fall in Asia, offering relief to consumers in the West? Daniel Altman, the International Herald Tribune's economics blogger, has this to say:

On the labor question, there is some precedent for relief. When wages rose in Japan and Korea, production of cheap consumer goods and electronics shifted to Hong Kong and Malaysia. When wages there rose, it moved to China and Vietnam. With higher wages in those countries, it could shift to poorer nations in Africa, Central Asia and Latin America – provided those nations are stable enough to do business with foreigners.

There is no relief in sight for energy and commodity prices, however. Demand is simply too great. New technology could provide some answers with time, though it’s not clear how it can solve problems like the lead and copper shortages. In the short term, we may simply have to accept that living standards, judged by our material consumption, will not rise as quickly as they have in the past couple of decades. It was a nice ride while it lasted, eh?

Globalization and free trade have led to huge improvements in access to affordable manufactured goods for Western consumers. The hope that cheap imports will drive our consumptive lifestyles into the future, however, is waning as the basic economic problem of scarcity rears its ugly head in labor and commodity markets.

Discussion Questions:

1. Is global inflation today primarily demand-pull or cost-push? How do you know?
2. What implications do rising wages in China have for less developed countries such as those in Africa and Latin America?
3. As commodity supplies dwindle, how can the world's economies continue to grow? Can they? Will the world ever reach a point where continued growth is impossible and a period of contraction begins?

Sep 16 2007

## May I repeat your order? One six foot six PhD with blue eyes and blonde hair. And your total is…?

The price of sperm | Free exchange | Economist.com

What are sperm banks thinking? This reflective post from Free Exchange takes an economist's look at the market for donated sperm, where only recently have sperm banks been charging interested mothers an additional fee for the sperm from PhD holding donors.

Here's the thing, if mothers are willing to pay more for the higher quality DNA within a PhD's sperm, wouldn't they also be willing to pay for other qualities as well?

For example, should donors be compensated extra for every inch of height? Or for being fine featured? And what about athletic prowess? Surely some donors are more popular than othersâ€”and thus their sperm should exhibit greater scarcity and desirability. Why does the market not price that?

It's a great question, and one that relates to the interaction of supply and demand in the marketplace. The fact is, sperm banks are not following the rules of supply and demand in the prices they charge mothers and their payments to donors.

…perhaps more accomplished donors would step forward if they were compensated more handsomely for their achievements. More aggressive bidding for sperm could raise the quality of donors, leading to more options for customers, andâ€”who knows?â€”more talented children.

If prospective mothers really value certain qualities over others, why wouldn't the market for sperm reflect those values? Perhaps sperm banks have something to learn about basic economics!

Jun 04 2007

## “Monster Hog” and the price of pork in China

Near Delta, Alabama, May 3, 2007â€”Hogzilla may be headed for horror-movie heaven, but the massive swine that became an Internet sensation in 2004 may have been bested, size wise, by this reportedly wild pig killed May 3 by Jamison Stone, 11, and reported by the Associated Press on Wednesday.

From tip to tail, the newfound hogâ€”dubbed “Monster Pig”â€”measures 9 feet, 4 inches (284 centimeters) and weighs in at 1,051 pounds (477 kilograms), according to Stone's father.

At a 150-acre (60-hectare), fenced hunting range, Stone said, he shot the huge beast eight times with a revolver before tracking it with his father and guides for three hours. Finally, the boy shot the hog at point-blank range, killing the animal, the AP reported.

While hunting by children is legal in Alabama, officials are investigating whether anyone had transported and released the live feral pig into the hunting preserve, which would violate state law.

Okay, so maybe this one's a stretch for a blog about economics, but sometimes when you see something in the news this amazing, you just have to share it with the world! Let's see if I can come up with some questions about this one!

Discussion Questions:

1. What impact would “monster hog” have on the price of pork (assuming it goes to market)?
2. What will happen in the beef market once “monster hog's” meat reaches the market? Explain.
3. Can you think of a product that might be a compliment to pork? Describe
what will happen in that product's market thanks to “monster hog”.

Looks like China could use a few monster pigs of its own to relax the steep increase in pork prices recently!

Tighter supplies lead to big price rises for pork, eggs-21food.com

THE prices of pork and eggs have soared in past weeks across China due largely to tighter supplies and increasing production costs…Food products account for 33 percent of the CPI in China with meat, poultry and related products making up about 20 percent.

According to the Ministry of Agriculture, live pigs nationwide were 71.3 percent more expensive than a month earlier, and pork, 29.3 percent higher.

In Beijing, the price of slaughtered pigs went up more than 30 percent in recent days…

An outbreak of blue ear disease, also known as Porcine Reproductive and Respiratory Syndrome, among pigs in Guangdong Province and the Guangxi Zhuang Autonomous Region, causing many deaths and a large amount of pigs to be culled, according to the National Development and Reform Commission…

“This sent a strong signal for distributors to jack up prices,” said Xu, adding that this exacerbated the unbalanced supply and demand.

“Pig raisers have lost money in the past couple years and they are reluctant to raise pigs. This led to a marginal decline in live pigs this year.”

Still worse, edible oil and grain prices rose at the beginning of this year, and feed prices followed suit.

Grain prices have risen largely due to an anticipated decline in output this summer and will continue to increase slightly in the coming weeks, boosting the prices of pork

Discussion Questions:

1. What is the “CPI” and why has it risen in China recently?
2. Does this article discuss the determinants of demand or the determinants of supply? Which determinant is being affected in the pork market?
3. What is happening in the market for pork in China? Which curve is shifting, supply or demand?
4. What “strong signal” led pork distributors to “jack up prices”?
5. If the price of pork continues to rise, what should happen to the supply of pork? Explain.

Next »

• ## Order Welker’s books

for IB Economics

for AP Macro

• ## Meet the Authors

Jason Welker @ ZIS

Andrew McCarthy @ UWC