Chapter 1: Economic Foundations and Models

Question 1

Important ideas when considering economics

Answer 1

1. People are rational
2. people respond to incentives
3. optimal decisions are made at the margin

Question 2

Trade-offs

Answer 2

The idea that because of scarcity, producing more of one good or service means producing less of another good or service

Question 3

Opportunity Cost

Answer 3

The highest-valued alternative that must be given up to engage in an activity

Question 4

Central Planned Economy

Answer 4

An economy in which the government decides how economic resources will be allocated

Question 5

Market Economy

Answer 5

An economy in which the decisions of households and firms interacting in markets allocate economic resources

Question 6

Mixed Economy

Answer 6

An economy in which most economic decisions result form the interaction of buyers and sellers in markets but in which the government plays a significant role in the allocation of resources

Question 7

Productive Efficiency

Answer 7

A situation in which a good or service is produced at lowest possible cost

Question 8

Allocative Efficiency

Answer 8

A state of the economy in which production is in accordance with consumer preferences; in particular, every good or service is produced up to the point where the last unit provides a marginal benefit to society equal to the marginal cost of producing it

Question 9

Equity

Answer 9

The fair distribution of economic benefits

Question 10

What steps are followed when economists develop a model

Answer 10

1. Decide on the assumptions to use in developing the model
2. Formulate a testable hypothesis
3. use economic data to test the hypothesis
4. Revise the model if it fails to explain the economic data well
5. Retain the revised model to help answer similar economic questions in the future

Question 11

Economic Variable

Answer 11

Something measurable that can have different values

Question 12

Positive Analysis

Answer 12

Analysis concerned with what is
- facts and logic

Question 13

Normative Analysis

Answer 13

Analysis concerned with what ought to be
- Value judgements

Question 14

Mircoeconomics

Answer 14

The study of
1. how individual economic agents make choices
2. how these choices come together to determine what happens in a single market
3. the impact of government interventions on market outcomes

Question 15

Macroeconomics

Answer 15

The study of the economy as a whole, including topics such as inflation, unemployment, and economic growth

Question 16

Production

Answer 16

The process of making goods and services

Question 17

Entrepreneur

Answer 17

Someone who operates as a business

Question 18

Innovation

Answer 18

The practical application of an invention

Question 19

Invention

Answer 19

The development of a new good or a new process for making good

Question 20

Technology

Answer 20

A firm’s technology is the process it uses to turn inputs into outputs

Question 21

Firm, Company, or business

Answer 21

A firm is an organization that produces a good or service

Question 22

Goods

Answer 22

Tangible items that people want

Question 23

Services

Answer 23

Activities done for others

Question 24

Revenue

Answer 24

All the money it receives when it sells goods or services

Question 25

Profit

Answer 25

The difference between revenue and costs

Question 26

Household

Answer 26

Consists of all the people occupying a home that make decisions together

Question 27

Factors of production or economic resources

Answer 27

Things used to produce goods and services
- labor, capital, natural resources, entrepreneurial ability

Question 28

Capital

Answer 28

Financial Capital
- Stocks and bonds issued by firms, bank accounts and holdings of money
Physical Capital (in economics capital refers to physical capital)
- Any manufactured goods that can be used to make other goods

Question 29

Human Capital

Answer 29

the accumulated training, skills and knowledge that a person has