Chapter 2: Economic Models Flashcards
KEY TERM:
Model
a simplified representation of a real situation that is used to better understand real-life situations.
KEY TERM:
Production Possibility Frontier
a model that illustrates the trade-offs facing an economy that produces only two goods. It shows the maximum quantity of one good that can be produced for any given quantity produced of the other.
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Inadaptability of Resources
well-suited inputs are used up and less adaptable inputs must be used instead.
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Factors of Production
the resources used to produce goods and services.
KEY TERM:
Land, Labour, Physical Capital, Human Capital
- a resource supplied by nature.
- the economy’s pool of workers.
- created resources such
as machines and buildings. - the educational achievements and skills of the labor force.
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Technology
the technical means for producing goods and services.
KEY TERM:
Comparative Advantage
the advantage a country (or individual) has in producing a good or service if its opportunity cost of producing the good or service is lower than other countries’ (or other peoples’) cost.
KEY TERM:
Barter
trade in the form of the direct exchange of goods or services for other goods or services.
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Absolute Advantage
the advantage a country (or individual) has in producing a good or service if the country can produce more output per worker than other countries (or people).
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Circular-flow Diagram
a diagram that represents the transactions in an economy by two kinds of flows around a circle: flows of physical things such as goods or labor in one direction and flows of money to pay for these physical things in the opposite direction.
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Household
a group of people that share their income.
KEY TERM:
Firm
an organisation that produces goods and services for sale and employs members of households.
KEY TERM:
Market for Goods and Services
markets in which firms sell goods and services that they produce to households.
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Factor Markets
markets in which firms buy the resources they need to produce goods and services (includes labor market and capital market). Determines an economy’s income distribution.
KEY TERM:
Income Distribution
the way in which total income is divided among the owners of the various factors of production in an economy.
KEY TERM:
Positive Economics
the branch of economic analysis that describes the way the economy works.
KEY TERM:
Normative Economics
the branch of economic analysis that makes prescriptions about the way the economy should work. Prescriptions are for citizens (requires value judgement) not economists.
3 types of economic models?
- create or find a real but simplified economy, then extrapolate the results.
- simulate the workings of an economy on a computer.
- most effective form of economic modelling is the construction of “thought experiments” (simplified, hypothetical versions of real-life situations) – later supported with mathematics.
PPF - efficiency, opportunity cost, economic growth
- no missed opportunities in production, no producing of more of one good without producing less of the other. Command economies are notorious for inefficiency in allocation.
- increasing opportunity cost represented in a bowed-out curve, inadaptability of resources.
- expansion of PPF. Increase in factors of production. Increase in technology (innovation).
Why do economists disagree?
- media exaggerates polarising debates while underreporting issues that are agreed upon.
- economics is tied up with politics.
- values (trump over untested economic policies).
- differing simplifications and assumptions in the models that economists’ use.
Assumptions of comparative advantage model?
includes 2 countries, PPF linear, no mobility of input (for example, labor cannot move abroad), feasible (total production = total consumption), attractive (trade is worth it), balanced (import expenditure = export revenue).
Lessons of comparative advantage model?
- illustration of gains through trade and specialisation by the means of increased consumption.
- everyone has a comparative advantage and disadvantage in producing something.
Simplifications of circular-flow diagram?
ignoring firm-to-firm sales and external influences – injections and leakages.
