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A-Level Economics > A-Level Economics A: THEME 1 GENERAL KNOWLEDGE > Flashcards

A-Level Economics A: THEME 1 GENERAL KNOWLEDGE Flashcards

1
Q

1.1.1 Nature of economics

What assumptions do Economists rely on?

A

Ceteris Paribus: The word means ‘everything else remains equal.’

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2
Q

1.1.1 Nature of economics

What does the ceteris paribus assumption imply for Economic studies?

A

When Economists study the relation between two factors, they’ll assume one-factor changes whilst the rest stay constant.

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3
Q

1.1.1 Nature of economics

Argument: Why is Economics a social science, unlike natural science?

A
  • It is difficult to set up experiments to test hypothesis.
  • Economists have to gather data in the ordinary, everyday world. These variables
    are always changing making evidence to support a hypothesis tedious to fully justify.
  • As a result, Economists tend to come up with very different conclusions for a particular set of data.
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4
Q

1.1.1 Nature of economics

Argument: Why is Economics not a science?

A
  • It studies human behaviour which still cannot be reduced to scientific law.
  • Some groups of individuals are much more predictable than individuals themselves. Hence why economics tends to deal with groups.
  • Laws are not definite due to the unpredictability of individuals.
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5
Q

1.2.1 How markets work

What are rational economic agents?

A

Rational agents are economic agents who use utility theory to guide their decision-making.

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6
Q

1.2.1 How markets work

Explain how a rational economic agent will maximise their utility?

A
  • Maximise their total utility.

- Consume something until the point where marginal utility and price are equal to each other.

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7
Q

1.2.1 How markets work

What is meant by utility?

A

The satisfaction gained from the consumption of a product.

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8
Q

1.2.1 How markets work

Explain why producers are profit maximisers?

A
  • Firms want to continue to survive in the market.
  • Firms wish to reinvest their profits.
  • Firms wish to offer managers and staff better rewards/wages.
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9
Q

1.2.1 How markets work

Beyond profit maximising, in a world of asymmetric information, what are other objectives firms may have?

A
  • Maximising revenue
  • Maximising market share (and gaining monopoly power)
  • Ethical objectives (e.g supporting local economy)
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10
Q

1.2.1 How markets work

Explain why governments aim to maximise social welfare?

A
  • Voted in by the public to work for the public (government for the people by the people).
  • Aim to maximise public satisfaction by utilising decisions to increase social welfare.
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11
Q

1.2.1 How markets work

What does maximising overall welfare include?

A
  • Economic growth.
  • Reducing inflation.
  • Reducing/eliminating unemployment.
  • Achieving a balance between payments in and payment out (equilibrium).
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12
Q

1.2.1 How markets work

Explain why consumers are said to act rationally and maximise utility?

A
  • They are within the limits of their income.
  • Utility maximisation can be interpreted in many ways such as financial security or flashy products.
  • They may wish to maximise work-life balance through maximising income whilst enjoying free time and holidays.
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13
Q

1.2.3 Price, income and cross elasticities of demand

What is meant by elasticity?

A

Elasticity measures the responsiveness of one variable to the change in another variable.

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14
Q

1.2.3 Price, income and cross elasticities of demand

What is the formula for price elasticity of demand (PED)?

A

Price elasticity of demand = % change in quantity demanded ÷ % change in price

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15
Q

1.2.3 Price, income and cross elasticities of demand

State what the PED is when it is Elastic, Inelastic, or Unitary.

A
  • Elastic demand is where the PED > 1.
  • Inelastic demand is where the PED < 1.
  • Unitary elasticity is where the PED = 1.
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16
Q

1.2.3 Price, income and cross elasticities of demand

Why is PED almost always negative?

A

PED is almost always negative as an increase in price would result in a decrease in demand.

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17
Q

1.2.3 Price, income and cross elasticities of demand

What is the formula for income elasticity of demand (YED)?

A

Income elasticity of demand = % change in quantity demanded ÷ % change in income

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18
Q

1.2.3 Price, income and cross elasticities of demand

State what the YED is when it is either a Normal good or Inferior good.

A
  • Normal goods have a positive income elasticity, YED > 0 (income rises; demand increases).
  • Inferior goods have negative income elasticity, YED < 0 (income rises; demand decreases).
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19
Q

1.2.3 Price, income and cross elasticities of demand

What is the Cross-price elasticity of demand?

A

Cross-price elasticity of demand is when a change in the price of one good can change the quantity demanded of another.

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20
Q

1.2.3 Price, income and cross elasticities of demand

What is the formula for cross-price elasticity of demand?

A

Cross-price elasticity of demand = % change in quantity demanded of good A ÷ % change in the price of good B

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21
Q

1.2.3 Price, income and cross elasticities of demand

State what the XED is when the goods are substitutes, complements, and unrelated.

A
  • XED is positive if the goods are substitutes and negative if the goods are complements.
  • If XED is close to zero this would suggest that the goods are unrelated.
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22
Q

1.2.3 Price, income and cross elasticities of demand

Explain how the availability of substitutes impacts PED.

A
  • Lots of substitutes means people can potentially switch to other products when price go up (PED elastic).
  • Little substitutes mean if prices go up people will haver to buy since there are no alternatives.
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23
Q

1.2.3 Price, income and cross elasticities of demand

Explain how necessity impacts PED.

A

If you need something, demand will be inelastic because even if prices go up, you still need to buy it (e.g. medicine).

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24
Q

1.2.3 Price, income and cross elasticities of demand

Explain how addictiveness impacts PED.

A

If a product is addictive, no matter the prices, people will still buy the good to fulfil their addiction (e.g sugar, cigarettes, drugs ).

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25
Q

1.2.3 Price, income and cross elasticities of demand

Explain why PED is significant? (long response)

A
  • Determines the effects of the imposition of indirect taxes and subsidies.
  • The more elastic, the lower the incidence of tax on the consumer. Tax would only lead to a small increase in price and the supplier will have to cover the majority of the cost of the tax.
  • When inelastic, the will be passed to the consumer. Since consumers are relatively unresponsive to the prices, quantity demanded will not fall by large. This means that the tax will be ineffective in reducing company output.
  • However, it means revenue for the government. The more inelastic, the higher the tax revenue for the government.
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26
Q

1.2.5 Elasticity of supply

What is the price elasticity of supply?

A

The price elasticity of supply measures how the quantity of supply reacts to a change in price.

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27
Q

1.2.5 Elasticity of supply

What is the formula for price elasticity of supply (PES)?

A

PES = % change in quantity supplied ÷ % change in price

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28
Q

1.2.5 Elasticity of supply

Why is high elasticity of supply (PES) usually good?

A

Firms aim for high elasticity of supply so that they can react rapidly to changes in price and demand.

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29
Q

1.2.5 Elasticity of supply

How can firms increase the elasticity of supply (PES)?

A
  • Improve their technology
  • Introduce flexible working patterns.
  • Have excess production capacity.
30
Q

1.2.5 Elasticity of supply

State what the PES is when it is Elastic, Inelastic, or Unit Elastic.

A
  • Elastic supply, PES > 1
    So a higher PES value means more elastic supply.
  • Inelastic supply, 1 > PES > 0
    So a smaller PES value means more inelastic supply.
  • Unit elasticity of supply, PES = 1
    Percentage change in quantity supplied = percentage change in price.
31
Q

1.2.5 Elasticity of supply

State the factors that affect PES.

A
  • Time
  • Stocks
  • Availability of factors of production
  • Ease of entry into the market
  • Availability of substitutes
32
Q

1.2.5 Elasticity of supply

How does a recessionary period impact PES?

A
  • During periods of high unemployment, we tend to see a more elastic supply.
  • This is because if a firm tried to expand their production, they would have a larger pool of labour to hire.
  • Their ability to attract this labour is also high.
33
Q

1.2.5 Elasticity of supply

How do perishable goods impact PES?

A
  • Products that are likely to perish because of weather conditions will have a more inelastic supply.
  • E.g crops and agriculture.
34
Q

1.2.5 Elasticity of supply

How does agility impact PES?

A
  • Firms that are agile keep high levels of stock.
  • This makes supply price elastic as they can quickly respond to increases in demand by releasing more stock.
  • More generally, firms with agile factor mobility will be more price elastic in supply.
35
Q

1.2.5 Elasticity of supply

State the characteristics of short-run PES.

A
  • Capacity is fixed.
  • One or more factors of production are fixed (usually capital).
  • Often hard to increase production in this period.
  • Supply = inelastic.
36
Q

1.2.5 Elasticity of supply

State the characteristics of long-run PES.

A
  • No factors of production are fixed - all are variable.
  • Firms are able to increase capacity.
  • Supply = more elastic than in the short run.
  • Firms have more time to react to price and demand shifts.
37
Q

1.2.5 Elasticity of supply

Explain how time impacts the price elasticity of supply (PES).

A
  • In the immediate term, a supplier can only sell the amount of product they have. So supply is perfectly inelastic.
  • In economics, the short-term is the period of time when at least one factor of production is filed and the long term is when all factors of production are variable.
  • In the short term, they could sell more products but will still be restricted by the factors of production. Meaning it will still be inelastic.
38
Q

1.2.5 Elasticity of supply

Explain how stocks impact the price elasticity of supply (PES).

A

If a business has a stockpile of goods when the price goes up, they will simply decide to use up some or all of their stockpiles and therefore supply will be more elastic.

39
Q

1.2.5 Elasticity of supply

Explain how the availability of substitutes impact the price elasticity of supply (PES).

A
  • If a good has a lot of producer substitutes, it will have high elasticity.
  • One model of cars is a substitute for another mode of car producers can easily switch between the two meaning suppliers can alter the pattern of production if price rises or falls so supply will change.
40
Q

1.3.1 Types of market failure

What is a market failure?

A
  • Market failure is when the price mechanism leads to a misallocation of resources.
  • Resources are misallocated when they are not devoted to the use that will give society the most welfare.
41
Q

1.3.1 Types of market failure

What is the main difference between complete and partial market failure?

A
  • Complete market failure happens where, unless the good or service is provided outside the mechanism, there wouldn’t be a market for it (e.g a country’s military services).
  • Partial market failure happens when the private sector may partially provide it but at the wrong price or quantity (e.g private healthcare vs NHS).
42
Q

1.3.1 Types of market failure

State and explain the types of market failure. (long response)

A
  • Externalities - An externality is the cost or benefits a third party receives from an economic transaction outside of the market mechanism. In other words, it is the spillover effect of the production or consumption of a good or service.
  • The under-provision of public goods - Public goods are non-excludable and non-rival, and they are underprovided in a free market because of the free-rider problem.
  • Information gaps - It is assumed that consumers and producers have perfect information when making economic decisions. However, this is rarely the case, and this imperfect information leads to a misallocation of resources.
43
Q

1.3.1 Types of market failure

Explain what is the private benefit.

A
  • The benefits of a good can be separated into private and external benefits.
  • The costs are also separated into private and external.
  • Private benefits are observed and accounted for by the market.
  • But, because of asymmetry of information, the external consequences of a good are often ignored.
  • So we see over/underconsumption/production of some goods in the free market.
  • This is a source of market failure.
44
Q

1.3.1 Types of market failure

Explain what is the social benefit.

A
  • The social benefit is equal to the sum of the external and private benefits.
  • The socially optimal quantity is where it is allocatively efficient to produce and consume.
  • This is a different quantity to what is often observed in the free market.
45
Q

1.3.1 Types of market failure

What is the external benefit?

A

The difference between the social benefit and the private benefit is the external benefit.

46
Q

1.3.2 Externalities

What is meant by externalities?

A

Externalities are the effects that producing or consuming goods have on other third parties or society as a whole.

47
Q

1.3.2 Externalities

How can buyers lead to market failure?

A
  • Buyers or producers do not consider externalities when making decisions.
  • This can lead to market failure because goods or services can be under or over consumed.
48
Q

1.3.2 Externalities

Briefly define what is meant by positive/negative consumption externalities and positive/negative production externalities.

A
  • Positive Consumption - This is a ‘good’ externality created in the consumption of a good.
  • Negative Consumption - This is a ‘bad’ externality created in the consumption of goods/services (e.g cigarettes).
  • Positive Production - These are externalities incurred when producing a good or service.
  • Negative Production - These are externalities created when producing a good or service.
49
Q

1.3.2 Externalities

Explain positive consumption externalities.

A
  • The marginal social benefit is the total benefit of consuming a good or service to society. MSB = MPB + Externality.
  • If the consumption externality is positive, then the marginal social benefit is more than the marginal private benefit.
  • Consumers do not account for the benefit of the externality and this goodwill be under-consumed.
  • E.g. school education is a positive consumption externality because students become more productive for employers.
50
Q

1.3.2 Externalities

Explain negative consumption externalities.

A
  • The marginal social benefit is the total benefit of consuming a good or service to society. It is equal to the marginal private benefit plus the value of the consumption externality.
  • If the consumption externality is negative, then the marginal social benefit is less than the marginal private benefit and the good will be overconsumed (vs the socially optimal level).
51
Q

1.3.2 Externalities

Explain positive producer externalities.

A
  • Marginal social cost = Marginal private cost - Production externality.
  • MSC is the total cost of producing a good or service to society.
  • If the production externality is positive, then the social cost is less than the private cost and the goodwill be underproduced.
52
Q

1.3.2 Externalities

Explain negative producer externalities.

A
  • If the production externality is negative, then the social cost is greater than the private cost and the goodwill be overproduced (vs the socially optimal level).
  • E.g a factory producing noise and air pollution is likely to have a social cost larger than the private cost.
53
Q

1.3.2 Externalities

State and Define all types of costs.

A
  • Private cost - The cost to an individual in the market.
  • External cost - A cost put on a third party due to a negative externality.
  • Social cost - The cost to society due to a negative externality.
    Social cost = private cost + external cost.
54
Q

1.3.2 Externalities

State and Define all types of benefits.

A
  • Private benefit - The benefit to an individual in the market.
  • External benefit - The benefit a third party receives due to a positive externality.
  • Social benefit - The benefit to society due to a positive externality.
    Social benefit = private benefit + external benefit.
55
Q

1.4.1 Government intervention in markets

What are the reasons for government intervention?

A
  • Under consuming merit goods
  • Overconsuming demerit goods
  • Irrationality
  • Meeting basic needs
56
Q

1.4.1 Government intervention in markets

What are the advantages of indirect taxation?

A
  • It internalises the externality- the market now produces at the social equilibrium position and social welfare is maximised.
  • It raises government revenue, which could be used to solve the externality in other ways such as through education. This may help goods to become more elastic in the long run. The effect will depend on what the government does with the revenue they raise.
57
Q

1.4.1 Government intervention in markets

What are the disadvantages of indirect taxation?

A
  • There could be a conflict between the government’s goal of raising revenue and solving the externality, which makes setting the tax difficult.
  • It could lead to the creation of a black market
  • If demand for the good is inelastic, then the tax will be ineffective at reducing output.
  • Taxes are politically unpopular and so governments may be reluctant to introduce
    them.
  • They are regressive, meaning the poor spend a larger proportion of their income on indirect taxes than the rich do.
58
Q

1.4.1 Government intervention in markets

What is an example of indirect taxation in the UK?

A

Examples used for externalities are landfill taxes fuel duties, alcohol duties, tobacco duties, and sugar taxes.

59
Q

1.4.1 Government intervention in markets

What are the advantages of subsidies?

A
  • Society reaches the social optimum output and welfare is maximised.
  • They can have other positive impacts , such as encouraging small businesses,
    bringing about equality and encouraging exports.
60
Q

1.4.1 Government intervention in markets

What are the disadvantages of subsidies?

A
  • The government has to spend a large amount of money, which will have a high opportunity cost.
  • As with taxes, they are difficult to target since the exact size of the externality is unknown.
  • Subsidies can cause producers to become inefficient, especially if they are in place for a long time.
  • Once introduced, subsidies are difficult to remove.
61
Q

1.4.1 Government intervention in markets

What is an example of subsidies in the UK?

A

Examples include the UK subsidising biofuels, solar panels, apprenticeship schemes, wind farms and rail industries.

62
Q

1.4.1 Government intervention in markets

What are the advantages of state provision of public goods?

A
  • This corrects market failure by providing important goods which would otherwise not be provided. It will lead to improved social welfare.
  • It can help to bring about equality, by ensuring everyone has access to basic goods.
  • There will be benefits of the goods themselves, for example by providing healthcare, the government ensures that the workforce is healthy and so this can improve economic growth.
  • By using competitive tenders, the government can ensure efficiency.
63
Q

1.4.1 Government intervention in markets

What are the disadvantages of state provision of public goods?

A
  • This is expensive and represents a high opportunity cost for the government. Administration costs are a problem
    are similar to their own.
  • The government may be inefficient at production since they have no incentive to cut costs.
  • Government officials may suffer from corruption and conflicting objectives.
64
Q

1.4.1 Government intervention in markets

What is an example of state provision of public goods in the UK?

A
  • In the UK, the government provides a number of goods including roads, education and healthcare.
  • The NHS suffers from severe underfunding and many schools are having their budgets cut.
  • Moreover, more money is spent on improving railways than roads, even though 92% of all journeys in the UK are made on roads, suggesting incorrect resource allocation.
65
Q

1.4.2 Government failure

What is government failure?

A

Government failure is the unintended worsening allocation of resources as a consequence of a policy the government has implemented to correct a market failure. It produces a net welfare loss.

66
Q

1.4.2 Government failure

How does imperfect information cause government failure?

A
  • In a world of perfect information, governments should be able to make the right decisions to improve allocation.
  • Asymmetric information limits the governments ability to critically assess market failures and possible solutions.
  • So the right decision isn’t always made and government failure can arise.
67
Q

1.4.2 Government failure

How does bureaucracy cause government failure?

A
  • The private sector has the incentive to maximise profits, but individuals working for governments rarely get the benefits.
  • Governments are also very large and may suffer from material diseconomies of scale.
68
Q

1.4.2 Government failure

How does misallocation of resources cause government failure?

A
  • Government failure is the result of a policy trying to correct a market failure that has led to a misallocation of resources.
  • This means there is a welfare loss to society.
  • For example, the council might charge people for some forms of waste disposal.
  • This may increase fly-tipping, which is a worsening of the initial pollution externality.
69
Q

1.4.2 Government failure

How do administrative costs cause government failure?

A
  • Resources are needed to implement government intervention.
  • If the cost is too high, the intervention may not be worthwhile.
  • Daniel Kahneman’s inside view explains why governments may frequently underestimate the cost of their projects.
70
Q

1.4.2 Government failure

Give an example of administrative costs being forecasted incorrectly.

A

The Scottish parliament in Holyrood was forecast to cost £10-40M but cost £414M.

71
Q

1.4.2 Government failure

What is bureaucracy?

A

The inefficiency caused by state officials making decisions when they don’t have a profit incentive?

A-Level Economics (14 decks)

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