Chapter 2 - Trade-offs, Comparative Advantage, and the Market System Flashcards
Why does scarcity require trade-offs?
Goods and services and the economic resources used to make them, or factors of production—workers, capital, natural resources, and entrepreneurial ability—are scarce.
Production possibilities frontier (PPF)
A curve showing the maximum attainable combinations of two products that may be produced with available resources and current technology.
Opportunity cost
The highest-valued alternative that must be given up to engage in an activity.
What are PPF assumptions?
- Full employment:
All available resources are in use - Fixed resources:
The total amount of resources are fixed - Fixed technology:
The technology of production is fixed
Capital goods
Produced to produce something else
Specialization
Resources are specialized to some extent because resources are better suited to produce one good than another
Economic growth
The ability of the economy to increase the production of goods and services
Trade
The act of buying and selling
Absolute advantage
The ability of an individual, a firm, or a country to produce more of a good or service than competitors, using the same amount of resources
Comparative advantage
The ability of an individual, a firm, or a country to produce a good or service at a lower opportunity cost than competitors
What is the basis for trade, absolute advantage or comparative advantage?
The basis for trade is comparative advantage, not absolute advantage.
This is because individuals, firms and countries are better off if they specialize in producing goods and services for which they have a comparative advantage and obtain other goods and services they need by trading
Market
A group of buyers and sellers of a good or service and the institution or arrangement by which they come together to trade
Product market
A market for goods—such as computers—or services—such as medical treatment
Factor market
A market for the factors of production, such as labour, capital, natural resources, and entrepreneurial ability
Factors of production
The inputs used to make goods and services
What are the four factors of production?
1) Labour
Includes all types of work, from the part-time labour of teens working at McDonald’s to the work of CEOs of large corporations..
2) Capital
Refers to physical capital, such as computers, machines, and buildings that are used to make other goods.
3) Natural resources
Include land, water, oil, iron ore, and other raw materials (or “gifts of nature”) that are used in producing goods.
4) Entrepreneur
Someone who operates a business.
Entrepreneurial ability
The ability to bring together the other factors of production to successfully produce and sell goods and services
Circular-flow diagram
A model that illustrates how participants in markets are linked
What are the two key groups that participate in markets?
1) Household
Consists of all the individuals in a home
2) Firms
Consists of suppliers of a good or service
What do the different colours of arrows in a circular-flow diagram represent?
Blue arrows show the flow of the factors of production
Red arrows show the flow of goods and services from firms to households
Green arrows show the flow of funds
Free market
A market with few government restrictions on how a good or service can be produced or sold or on how a factor of production can be employed
The Market Mechanism
Individuals usually act in a rational, self-interested way.
For the market mechanism to work in responding to changes in consumers’ wants, prices must be flexible.
Firms respond individually to changes in relative prices by making decisions that collectively end up satisfying the wants of consumers.
Property rights
The rights individuals or firms have to the exclusive use of their property, including the right to buy or sell it
Patents and copyrights
They protect intellectual property rights for inventors of ideas for new products or production methods and for creators of books, films,
and software
