Chapter 1: Economic Principles 5-12

Question 1

What is interaction of choices?

Answer 1

• my choices affect your choices, and vice versa

Question 2

What are the 5 principles that underlie the interaction of individual choices?

Answer 2

1. There are gains from trade
2. Market moves toward equilibrium
3. Resources should be used as efficiently as possible to achieve society’s goals
4. Markets usually lead to efficiency
5. When markets do not achieve efficieny, government intervention can improve society’s welfare

Question 3

What is specialization? (2)

Answer 3

• each person specializes in the task that he or she is good at performing
• increases the output

Question 4

Why is specialization important in the economy?

Answer 4

• The economy as a whole can produce more when each person specializes in a task and trades with others

Question 5

Markets move towards equilibrium. What exactly is equilibrium?

Answer 5

• when no individual would be better off doing something different, given what others are doing

Question 6

Any time there is a change, the economy will move to a new ____. Why? (2)

Answer 6

equilibrium
ex. What happens when a new checkout line opens at a busy supermarket?
- this happens because people respond to incentives

Question 7

Is the equilibrium where we want it to be? (2)

Answer 7

• not necessarily where society wants to be
• we must ask ourselves if it is efficient and equitable

Question 8

Resources should be used as efficiently as possible to achieve society’s goals. What does efficient mean in terms of economy?

Answer 8

• an economy is efficient if it is not possible to make anyone better off without making other people worse off
  In lecture, no more trades that both parties want to do

Question 9

What is equity?

Answer 9

• everyone gets his or her fair share
• since people can disagree about what is fair, equity is not as well defined a concept

Question 10

What is the conflict between efficiency and equity?

Answer 10

• there is very often a trade-off
• economists explain, theorize, test and discuss this, but it is up to society to choose how much of the trade-off it wants (see examples slide 22)

Question 11

What does it mean by “markets usually lead to efficiency?” (2)

Answer 11

• the incentives built into a market economy already ensure that resources are usually put to good use
• opportunities to make people better off are not wasted
• The invisible hand

Question 12

What is the invisible hand?

Answer 12

• unseen forces that move the free market economy
• get back to this after assignment

Question 13

What are exceptions to markets leading to efficiency? (6)

Answer 13

1. market failures
2. externalities
3. Public goods
4. Information asymmetries
5. Market Power
6. Non-rival and non-excludable characteristics of goods

Question 14

When markets do not achieve efficiency, what can improve society’s welfare?

Answer 14

• government intervention
  ex. carbon taxes, cap and trade system for carbon

Question 15

Why is government intervention in the market important? (2)

Answer 15

• the market alone will not account for pollution
• externality

Question 16

What are the principles that underlie economy-wide interactions?

Answer 16

10. One person’s spending is another person’s income
11. Overall spending sometimes get out of line with the economy’s productive capacity
12. Government policies can change spending

Question 17

What is a recession?

Answer 17

• spending below the economy’s productive capacity

Question 18

What is inflation?

Answer 18

• spending in excess of the economy’s productive capacity
  Govt. can steer the economy between recession and inflation