1.2 - The allocation of resources

Question 1

What are market economies?

Answer 1

Economies where governments leave markets to their own devices (no government interventions/public sector). The market forces of supply and demand allocate all (scarce) resources.

Question 2

In a Market economy: What to produce is determined by?

Answer 2

Consumer preference

Question 3

In a Market economy: Who to produce for is determined by?

Answer 3

Whoever has the greatest purchasing power in the economy, and is therefore able to buy the good/service

Question 4

In a Market economy: How to produce it is determined by?

Answer 4

Producer’s seeking profit

Question 5

What are the advantages of a Market economy?

Answer 5

Having multiple businesses competing against one another is likely to lead to lower average costs
Competition between firms can lead to greater efficiency
Firms are more likely to innovate when there is a profit incentive
Therefore, overall output of the economy increases (economic growth).
The bureaucracy from government intervention is avoided - increasing efficiency.
Some economists might argue the freedom gained from having a free economy leads to more personal freedom.

Question 6

What are the disadvantages of a Market economy?

Answer 6

The free market ignores inequality, and tends to benefit those who hold most of the wealth.
There are no social security payments for those on low incomes.
There could be monopolies, which could exploit the market by charging higher prices.
There could be the overconsumption of demerit goods, which have large negative externalities, such as tobacco.
Public goods are not provided in a free market, such as national defence.
Merit goods, such as education, are under provided.

Question 7

What is a mixed economy?

Answer 7

Combination of market forces and Govt policies that controls the allocation of resources
An economy in which there is some degree of government intervention and therefore the market is controlled by both the government and the forces of supply and demand (there is a public sector and private sector).

Question 8

In a Mixed economy: What to produce is determined by?

Answer 8

Both consumer and government preferences

Question 9

In a Mixed economy: Who to produce for is determined by?

Answer 9

Both the purchasing power of private individuals (and firms), and the government

Question 10

In a Mixed economy: How to produce is determined by?

Answer 10

Producers making profits and the government

Question 11

What are the advantages of a Mixed economy?

Answer 11

Govt can decide which resources to control

Market forces can be used for goods and services that are considered less important

Question 12

What are the disadvantages of a Mixed economy?

Answer 12

Governments fail, as do markets, and they may not be fully informed for what to produce. They may not necessarily meet consumer preferences.
It limits democracy and personal freedom.

Question 13

What is a planned economy?

Answer 13

This is where the government allocates all of the scarce resources in an economy to where they think there is a greater need. It is also referred to as central planning.

Question 14

In a Planned economy: What to produce is determined by?

Answer 14

The government

Question 15

In a Planned economy: How to produce it determined by?

Answer 15

The government

Question 16

In a Planned economy, for whom to produce it for, is determined by?

Answer 16

The government

Question 17

What are the advantages of a planned economy?

Answer 17

Govt can focus resources on where they are most needed in the economy
Prices can be controlled so that those most in need can access goods and services
Fewer resources are wasted on duplicating goods and services
There can be less inequality of income and wealth

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It might be easier to coordinate resources in times of crises, such as wars.
The government can compensate for market failure, by reallocating resources - this might ensure everyone can access basic necessities.
Inequality in society could be reduced, and society might maximise welfare rather than profit.
The abuse of monopoly power can be prevented.

Question 18

What are the disadvantages of a planned economy?

Answer 18

Government failure, as they may not be fully informed for what to produce.
Consumer preferences and allocative efficiency may not be met.
Limits democracy and personal freedom.

Question 19

What is the idea of Marginal Utility?

Answer 19

The additional utility gained from consuming an extra unit of a good or service.

Question 20

What is the law of diminishing marginal utility?

Answer 20

Is the reason for why the demand curve slopes downwards. It suggests that consumer surplus generally declines with extra units consumed. This is because the extra unit generates less utility than the one already consumed. Therefore, consumers are willing to pay less for extra units.

Question 21

What do economic agents respond to?

Answer 21

Incentives.

Question 22

What happens when incentives are not used correctly?

Answer 22

Resources are misallocated

Question 23

What do prices in market economies provide?

Answer 23

Signals to buyers and sellers, which is an incentive to purchase or sell the good or service.

Question 24

What are economic agents assumed to be?

Answer 24

Rational

Question 25

Rational economic agents have what objective?

Answer 25

Maximisation - firms aim to maximise profits and consumers aim to maximise utility

Question 26

What is allocative efficiency?

Answer 26

This is where resources are allocated to the best interests of
society, where there is maximum social welfare and maximum utility.

Question 27

What is productive efficiency?

Answer 27

This is where resources are used to give the maximum possible
output at the lowest possible cost.

Question 28

Why is productive efficiency useful?

Answer 28

The goods and services consumers want might be produced where there is allocative
efficiency, but they also need to be affordable. Productive efficiency helps keep the
price down.

Question 29

What is economic efficiency?

Answer 29

It is where resources are allocated optimally, so every

consumer benefits and waste is minimised.

Question 30

What is static efficiency?

Answer 30

Static efficiency describes the level of efficiency at one point in time. Productive and
allocative efficiencies are examples of static efficiency.

Question 31

What is dynamic efficiency?

Answer 31

Dynamic efficiency is concerned with new technology and increases in productivity,
which causes efficiency to increase over a period of time. It can be influenced by research and development,
investment in human and non-human capital and technological change.

Question 32

What is dynamic efficiency affected by?

Answer 32

Dynamic efficiency is affected by short run factors such as demand, interest rates
and past profitability. Short run costs might be increased in order to cause long run
costs to fall.

Question 33

What are Incentives ?

Answer 33

Something that motivates an action. In Economics this usually relates to profit, prices and social welfare (the objectives of economic agents)

Question 34

The effectiveness of Incentives depend on what …….

Answer 34

Size of the incentive
Timescale involved
Type of good/service
objectives of the economic agents
other changes in the market/economy