1.1 - Nature of Economics

Question 1

What is the basic economic problem?

Answer 1

Finite resources vs Unlimited wants

Question 2

What is ceteris parabus?

Answer 2

The assumption that other things are held constant / equal, so nothing else changes

Question 3

What are positive statements?

Answer 3

They are objective, factual statements that can be tested and verified

They describe how the economy works without expressing value judgements

Question 4

What are normative statements?

Answer 4

They are subjective statements that involve value judgement and opinion

They express things how they should be rather than how they are

Question 5

What are the 4 factors of production? (CELL)

Answer 5

1. Capital - goods made by people that are used to supply other products (e.g. machines, tech, factories)
2. Enterprise - entrepreneurs organise the factors of production and take risks when seeking to exploit market opportunities
3. Land - the stock of natural/environmental factor resources available for production
4. Labour - the quantity and quality of the human input into the production process

Question 6

What is opportunity cost?

Answer 6

The next best alternative foregone

Question 6

What is a Production Possibility Frontier (PPF) show?

Answer 6

The maximum potential output combination of two goods that an economy can achieve if all resources (factors of production) are fully and efficiently employed

Question 6

What causes a PPF to shift outwards (5)

Answer 6

1. Higher productivity / efficiency of factors
2. Better management of factor inputs
3. Increased stock of capital and labour supply
4. Innovation of new products and resources
5. Discovery / extraction of new natural resources (land)

Question 6

What causes a PPF to shift inwards?

Answer 6

1. Severe natural disasters
2. Economic damage caused by war / other types of conflict
3. Large scale net emigration (i.e. when there is high unemployment)
4. Long term fall in productivity of labour

Question 7

What is the difference between resource depletion and resource depreciation?

Answer 7

Resource depletion - the decline in total stock of resources available (in the LR, this arises from de-population, climate change and low rates of investment in new capital inputs)

Resource depreciation - when the productivity / efficiency of resources diminishes with age and also with repeated use when producing goods and services

Question 8

What is specalisation?

Answer 8

When we concentrate on producing a specific product or task

Question 9

Case study of specialisation (2)

Answer 9

1. Bangladesh is a major producer and exporter of textiles
2. Ghana is one of the biggest global producer of Coca

Question 10

What is division of labour?

Answer 10

The breakdown of a production process of a good/service into smaller tasks, each of which is carried out by a different person / factor input

Question 11

Adam Smith and the Division of Labour

Answer 11

In his book, ‘The Wealth of Nations, in 1776, he considered the impact of using division of labour in a pin factory in Glasgow

He claimed that by separating the production process of pins into 18 different parts, then just 10 workers are able to produce 48,000 pins in one day

Smith realised that the increase in productivity stemmed from workers being able to focus on just one task, gaining large increase in dexterity and waste less time moving from one task to another. He noted that this would result in significant boredom

Question 12

Advantages of specialisation (3)

Answer 12

1. Higher output - total production and quality of goods and services increased
2. Variety - consumers have access to a greater variety of higher quality products
3. Bigger market - this along with global trade can increase the size of the market offering for economies of scale to be exploited, leading to lower unit costs and prices

Question 13

Disadvantages of specialisation (4)

Answer 13

1. Unrewarding, repetitive work requires little skill - leads to lack of motivation and eventually lower productivity
2. Decreased worker utility
3. Absenteeism increases due to dissatisfaction
4. Suffer structural unemployment / occupational immobility due to little human capital (training) - difficult to find an alternative job when out of work

Question 14

4 functions of money

Answer 14

1. Medium of exchange - facilitates transactions between buyers and sellers
2. Store of value - an asset that holds its value over time
3. Unit of account - unit of measure used to value/cost products, assets, debts and spending
4. Deferred payment - accepted way to settle a debt

Question 15

Key characteristics of money (6)

Answer 15

1. Durability - lasts long
2. Portable - easy to carry around and use
3. Divisible - it can be broken down into smaller denominations to facilitate purchases
4. Hard to counterfeit - cannot be easily faked
5. Accepted - acts as a legal tender
6. Valuable - holds its value over time

Question 16

What are the 3 types of economies

Answer 16

1. Free market economy (e.g. Fredrick Hayek, Adam Smith, Milton Friedman) - the market forces of supply and demand dictate the allocation/production of resources
2. Command / Planned economy (e.g. Karl Marx) - the government decides the allocation of resources
3. Mixed economy - combination of both the private and public sector in the economy, influenced by the government and market forces

Question 17

Advantages of free market (4)

Answer 17

1. Consumer sovereignty - an efficient allocation of scarce resources (consumers are utility maximisers)
2. Competition drives innovation - as producers are profit maximisers
3. Encourages lower prices for consumers - profit motive stimulates investment which encourages economies of scale
4. Competition helps to reduce monopoly power and increase choice

Question 18

Disadvantages of free market (4)

Answer 18

1. Worker exploitation due to firms being profit motivated - this would help reduce costs of production
2. Public goods not provided
3. Significant inequality
4. Promotes the production of de-merit goods and underproduces merit goods

Question 19

Advantages of command economy (3)

Answer 19

1. Low level of inequality and unemployment
2. Resources are allocated to the ‘common good’ - promotes the universal provision of healthcare and education
3. Faster for a large-scale infrastructure projects being built

Question 20

Disadvantages of command economy (4)

Answer 20

1. Bureaucratic costs - leads to wasteful inefficiencies and therefore higher costs
2. No incentive for workers and businesses - no wage differentials and no profit motive
3. The state suffers from information failures and corruption
4. Higher risk of mal/bad investment driven by political motivations rather than market assessed cost-benefit analysis

Question 21

Adam Smith on economic systems (2)

Answer 21

‘Invisible hand’ - the idea that the market, through the self interest of individuals and firms, can coordinate economic activity and allocate resources efficiently

Warned about the dangers of large businesses (i.e. monopolies) as they have the tendency to raise prices

Question 22

Karl Marx on economic systems

Answer 22

Believed that capitalism has a terrible impact on workers as the profit motived business owners would push wages to ‘subsistence’ levels and that they would be exploited

Believed that the exploited workers would overthrow capitalism in a revolution and would be instead replaced with socialism

Question 23

Fredrick Hayek on economic systems

Answer 23

‘Road to Serfdom’ - argued that state planning would lead to authoritarianism