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Old Micro > 1.2 How Markets Work > Flashcards

1.2 How Markets Work Flashcards

1
Q

How are assumptions made when creating economic models

A

Deduction - start with a hypothesis

Induction - collect evidence

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2
Q

Deductive Assumption Schools

A

Classical school - Adam Smith

Neo-classical school - Alfred Marshall

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3
Q

Inductive Assumption Schools

A

Behavioural school - Richard Thaler

Keynesian school - Joan Robinson

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4
Q

Utility

A

The satisfaction or benefit derived from consuming a good

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5
Q

What are decision makers in classical and neoclassical economics

A

Rational

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6
Q

How do consumers act rationally

A

Buying products that maximise utility

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7
Q

How do firms act rationally

A

Maximising utility though profit
Maximising profit is achieved through producing as efficiently as possible and making things that consumers both want and can afford

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8
Q

What is needed to make rational decision

A

Time
Information
Ability to process information

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9
Q

Behavioural Economics

A

School of economic thought based on evidence and observations to develop assumptions of economic decision making
Uses inductive approach
Assumes individuals have bounded rationality (individuals wish to maximise utility but cannot)

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10
Q

What can prevent rational decision making

A

Habitual behaviour/consumer inertia
People are influenced by the behaviour of others
Consumer weakness at computation

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11
Q

What are the two types of economy consolidation

A

Nationalisation and privatisation

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12
Q

Nationalisation

A

Process of bringing economic activity under state control

Industry would be run by public sector instead of private sector

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13
Q

Privitisation

A

Process of transferring economic activity from state to market
Industry run by private sector instead of public sector

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14
Q

How can we explain changes in prices of goods and services

A

Develop a model that beings together the two fundamental economic agents that determine the price of a good (consumers and producers)

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15
Q

Demand

A

The quantity of a good or service purchased at a given price over a given time period

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16
Q

How is contraction shown on a demand curve

A

Movement along the demand curve to the top left

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17
Q

How is extension shown on a demand curve

A

Movement on the curve in a top bottom direction

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18
Q

Law of Demand

A

Ceteris Paribus, as the price of a good increases, quantity demanded decreases
Conversely, as the price of a good decrease, quantity demanded increases

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19
Q

What causes a contraction on a demand curve

A

An increase in price

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20
Q

What causes an extension on a demand curve

A

A decrease in price

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21
Q

What does an inward shift on a demand curve show

A

A decrease in demand

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22
Q

What does an outward shift on a demand curve show

A

An increase in demand

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23
Q

Conditions of Demand

A 
Population size
Price of substitute goods
Price of complement goods
Population structure
Incomes
Advertising
Tastes/preferences
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24
Q

Substitute Good

A

A good which can be an alternative product which could be used for the same purpose

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25
Q

Complement Goods

A

Products that are used together

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26
Q

Revenue

A

Income that a government or company receives

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27
Q

Raw Materials

A

Materials before being processed for use

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28
Q

How is extension shown on a supply curve

A

Movement along the curve in a top right direction

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29
Q

How is contraction shown on a supply curve

A

Movement on the curve in a bottom left direction

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30
Q

Total Revenue

A

Price * Quantity

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31
Q

Who supplies good and services

A

Firms in a market

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32
Q

Supply

A

Quantity of a good or service that firms are willing to sell at a given price over a given time period

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33
Q

Law of Supply

A

Ceteris Paribus, as the price of a good increases, quantity supplied increases
Conversely, as the price of a good decreases, quantity supplied decreases

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34
Q

What does extension on a supply curve show

A

An increase in price

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35
Q

What does contraction on a supply curve mean

A

A decrease in price

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36
Q

What does a supply curve assume

A

Firms are motivated to produce by profit

The cost of producing a unit increases as output increases

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37
Q

What does an inward shift on a supply curve mean

A

A decrease in supply

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38
Q

What does an outward shift on a supply curve mean

A

An increase in supply

39
Q

Conditions of Supply

A 
Changes in production costs
Improvements in technology/innovation
Number of firms in the market
Changes in the price of related goods
Weather conditions
Firms’ expectations about future prices
40
Q

Market

A

Anywhere buyers and sellers meet to exchange money for goods

41
Q

Excess Demand

A

What the demand of a product is greater than its supply

42
Q

Excess Supply

A

When the supply of a product is greater than its demand

43
Q

Price Equilibrium

A

When demand and supply are equal

44
Q

What is the equilibrium price also known as and why

A

Market clearing price

All products are cleared off the market

45
Q

Direct Tax

A

A tax levied directly on an individual or organisation

46
Q

Indirect Tax

A

A tax levied on a good or service

47
Q

Specific Tax

A

Parallel shift in the supply curve

Same fixed amount at all prices

48
Q

Ad Valorem Tax

A

Non-parallel shift in the supply curve

Tax increases as the amount sold rises

49
Q

Law of Diminishing Marginal Utility

A

The satisfaction derived from the consumption of an additional unit of a good will decrease as more of a good is consumed

50
Q

Why do governments impose taxes

A

Raise government revenue

Decrease certain economic activities

51
Q

Subsidy

A

Money given by the government to encourage production

52
Q

Shared Economic Incidence

A

When the government increases indirect tax, suppliers need to be able to maintain profit and sales thus them increasing the price of the product by only 50% of the tax. This means the consumer pays 50% of that indirect tax and the supplier pays the other 50%

53
Q

What effect do subsidies have on a supply and demand curve

A

Subsidies lead to increased production leading to increased supply. This means there is an outward shift for supply

54
Q

Price Elasticity of Demand

A

A measure of the responsiveness of demand given a change in price

55
Q

When is demand price elastic

A

When a change in price causes a proportionately larger change in demand

56
Q

When is demand price inelastic

A

When a change in price causes a proportionately smaller change in demand

57
Q

Price Elasticity of Demand Determinants

A 
Number of substitutes
Necessity/luxury
Addictiveness 
Time
Proportion of income spent on the product
58
Q

How does number of substitutes affect price elasticity of demand

A

The more substitute goods a product has, the greater the degree of consumer switching when there is a price change
More substitute goods => more elastic

59
Q

How does being a necessity/luxury affect price elasticity of demand

A

If a product is a necessity, people will require the product no matter what
Necessity => Price Inelastic

If a product is a luxury, people will not necessarily need it
Luxury => Price Elastic

60
Q

How does addictiveness affect the price elasticity of demand

A

More addictive => more price inelastic

61
Q

How does time affect the price elasticity of demand

A

Time gives consumers the opportunity to find alternatives

Greater time period => more elastic

62
Q

How does proportion of income spent on the product affect the price elasticity of demand

A

Greater proportion of income spent on product then the less able consumers will be able to afford after price increases
Greater proportion of income spent => more price elastic

63
Q

How to calculate price elasticity of demand

A

Percentage change in quantity demand
/
Percentage change in price

64
Q

PED Value for elastic

A

Greater than 1

65
Q

PED Value for inelastic

A

Between 0 and 1

66
Q

PED Value for unitary elastic

A

= 1

67
Q

PED Value for perfectly elastic

A

0

68
Q

Price Elasticity of Demand Diagrams

A

Price Elastic - Close to horizontal (-)

Price Inelastic - Close to vertical ()

69
Q

Price Elasticity of Supply

A

A measure of the responsiveness of supply given a change in price

70
Q

Price Elasticity of Supply Determinants

A 
Time required to produce the product
Level of spare capacity 
Number of stocks/finished goods available
Time
Perishability of the product
71
Q

How does time required to produce the product affect the price elasticity of supply

A

Greater time required to produce => more price inelastic
Less time required to produce product, firms will be able to respond to changes in price fast
Short production time => price elastic

72
Q

How does level of spare capacity affect the price elasticity of supply

A

Greater spare capacity => more price elastic

Factors of production available to be used in production so firms will be able to respond to change in price quickly

73
Q

How does number of stock/finished goods available affect the price elasticity of supply

A

More finished goods => more price elastic

Firms able to respond to price rise by releasing more products on to the market

74
Q

How does time affect the price elasticity of supply

A

Greater time period => more price elastic

Time gives firms opportunity to expand/reduce production

75
Q

How does perishability of produce affect the price elasticity of supply

A

More perishable => more price inelastic

More perishable a product is, harder it is to build up stock

76
Q

When is supply price elastic

A

When a change in price causes a proportionately larger change in supply

77
Q

When is supply price inelastic

A

When a change in price causes a proportionately smaller change in supply

78
Q

How to calculate price elasticity of supply

A

Percentage change in quantity supplied
/
Percentage change in price

79
Q

PES Value for Price Elastic

A

Greater than 1

80
Q

PES Value for price inelastic

A

Between 0 and 1

81
Q

PES Value for unitary elastic

A

1

82
Q

PES Value for perfectly elastic

A

0

83
Q

Consumer Surplus

A

Extra amount of money consumers are prepared to pay for a good or service above what they actually pay
It is the utility or satisfaction gained from a good or service in excess to the amount paid for it

84
Q

Producer Surplus

A

Extra amount of money paid to producers above what they are willing to accept to supply a good or service
It is the extra earning obtained by a producer above the minimum required for them to supply the good or service

85
Q

Incidence of Indirect Tax

A

Distribution of the tax between consumers and producers
Depends on the elasticity of both demand and supply

When demand is price elastic, the burden of the tax will fall mostly on producers
When demand is price inelastic, the burden of tax will fall mostly on consumers

86
Q

Incidence of Subsidy

A

How the gains of the subsidy are distributed between consumers and producers
Depends on the elasticity of both demand and supply

When demand is price elastic, most of the gain goes to producers
When demand is price inelastic, most of the gain goes to consumers

87
Q

Income Effect

A

Assuming a fixed level of income, the income effect means that as price falls the amount that consumers can afford increases and so demand increases

88
Q

Diminishing Marginal Utility

A

As successive units of a good are consumed, the utility gained from each unit will fall

89
Q

Cross Price Elasticity of Demand (XED)

A

Measures the responsiveness of demand for one good to changes in the price of another good

Substitute goods have a positive XED
Complement goods have a negative XED
The XED of unrelated goods is zero

90
Q

Income Elasticity of Demand (YED)

A

Measures the responsiveness of demand to changes in income

Inferior goods have a negative YED
Normal goods have a positive YED
Normal goods that have a YED between 0 and 1 are classed as income inelastic goods. They tend to be necessities.
Normal goods that have a YED larger than 1 are classed as income elastic goods. These goods are often considered luxuries

91
Q

Functions of Price Mechanism

A

Signalling
Incentive
Rationing

92
Q

Signalling

A

Price mechanism acts as a signal where resources should be used
When prices rise, producers move resources into the manufacture of that product
The change in price indicates to suppliers and consumers that market conditions have changed so they should change the quantity bought and sold

93
Q

Rationing

A

The price system is a way of rationing goods because when price increases, some people will no longer be able to afford to buy the products and others may no longer have the desire to buy the good
Limited resources can be rationed and allocated to the people who are able to afford them and those who value them most highly

94
Q

Incentive

A

Acts as an incentive for people to work hard
Buyers realise that the more money they have, they are able to buy more products
Suppliers realise that if they produce more of the goods, they will make more money
Also low prices act as an incentive to consumers to buy more of a good and higher prices act as an incentive to sell more of a good

Old Micro (10 decks)

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