Economics Flashcards
What does the Fundamental Law of Demand states?
It states that the price of a product/service and the quantity demanded of that product/service are INVERSELY related due to the Substitution Effect and the Income Effect.
What is the Substitution Effect?
Consumers tend to purchase more (less) of a good when its price falls (rises).
What is the Income Effect?
When prices are lowered (income kept constant) consumers will purchase more of the lowered-price product.
What are the factors that shift Aggregate Demand (macro - overall economy)?
Factors that shift aggregate demand include changes in CREEGC:
Consumer wealth
Real Interest rates
Expectations regarding future economic outlook
Exchange rates
Government spending
Consumer taxes (personal income taxes)
What are the factors that shift the Demand Curve (micro - firm level - individual products)?
Factors that shift the Demand Curve include changes in WRITTEN:
Wealth
Related good’s prices (substitutes or complements)
Income (consumer)
Tastes and preferences (consumer)
Expectations (consumer)
Number of buyers served by the market
What is a Demand Curve Shift?
When demand changes due to something other than price.
What is a Positive Demand Curve Shift (Shift Right)?
When demand increases at each price point
Price of substitutes go up - price of beef rises- so people buy more chicken
Future price increase is expected - War in Middle East- people go out and buy gas
Market expands - i.e. people get new free health care plan- demand at clinic rises
Expansion - more spending increases equilibrium GDP
What is a Negative Demand Curve Shift (Shift Left)?
Demand decreases at each price point.
Price of complement goes up - price of beef goes up- less demand for ketchup
Boycott - Company commits social blunder- consumers boycott
Consumer income rises - Demand for inferior goods drops as people have more money to spend
Consumer tastes change
Contraction - less spending decreases equilibrium GDP
What is the Marginal Propensity to Consume?
How much you spend when your income increases
Calculate: Change in Spending / Change in Income
What is the Marginal Propensity to Save?
How much you save when income increases
Calculate: Change in Savings / Change in Income
Also equals 1 - Marginal Propensity to Consume
How is the multiplier effect calculated?
(1 / 1-MPC) x Change in Spending
How does increased spending by consumers and the government affect the demand curve?
As spending by consumers or the government increases- the demand curve increases (shifts right).
How does spending change due to the multiplier effect?
The increase in demand ends up being larger than the amount of additional income spent in the economy due to the multiplier effect.
One consumer spends money- which:
*Increases the income of a business
*Increases the income of a vendor
*Increases income of employees
*Increases tax revenue
How is Price Elasticity of Demand calculated?
% Change in Quantity Demand / % Change in Price
Under elastic demand- how does price affect revenues?
Price increases - Revenue decreases
Price decreases - Revenue increases
What conditions would indicate Elastic Demand?
Many substitutes (luxury items)Considered elastic if elasticity is greater than 110% drop in demand / 8% increase in price : 1.25 (Elastic)Price increases- Revenue decreasesPrice decreases- Revenue increases
How does revenue react to price under Inelastic Demand?
Price increases - Revenue increases
Price decreases - Revenue decreases
What conditions would indicate Inelastic Demand?
The inelasticity of Demand is the idea that demand will remain relatively unchanged in responses to changes in prices. When a good is inelastic it the good will have few or no substitutes (groceries- gasoline).
The good is considered inelastic if coefficient of elasticity is less than 1.
A 15% drop in demand / 10% increase in price = 00.5 (inelastic)
Price increases = Revenue increases
Price decreases = Revenue decreases
What is Unitary Demand?
Total revenue will remain the same if price is increased
Considered unitary if coefficient of elasticity : 1
How is Income Elasticity of Demand calculated?
% Change Quantity Demanded / % Change in Income
Normal goods greater than 1 (demand increases more than income)
Inferior goods less than 1 (demand increases less than income)
What conditions occur under periods of inflation?
Interest rates increase
Reduced demand for loans - Reduced demand for houses- autos- etc.
Value of bonds and fixed income securities decrease
Inferior goods demand increase
Foreign goods more affordable than domestic
Demand for domestic goods decrease
What happens under Demand-Pull inflation?
Overall spending increases
Demand increases (shifts right)
Market equilibrium price increases
Note: Demand-Pull and Cost-Push Inflation BOTH result in market equilibrium price to increase
What happens under Cost-Push inflation?
Overall production costs increase
Supply decreases (shifts left)
Market equilibrium price increases
Note: Demand-Pull and Cost-Push Inflation BOTH result in market equilibrium price to increase
What is the Equilibrium Price?
A Market Equilibrium Price and Output is the point on the graph where the supply and demand curves intersect. This is also called the market’s clearing price.
The price where Quantity Supplied : Quantity Demanded
What is Optimal Production?
When Marginal Revenue : Marginal Cost
What is the result of a Price Floor?
Causes a surplus if above equilibrium price.
What is GDP (Gross Domestic Product)?
The annual value of all goods and services produced domestically at current prices.
(by consumers- businesses- the government- and foreign companies with domestic interestsIncluded: Foreign company has US FactoryNot included: US company has foreign factory)
What is included under the income approach for calculating GDP?
Sole Proprietor and Corp Income
Passive Income
Taxes
Employee Salaries
Foreign Income Adjustments
Depreciation
What is included under the Expenditure Approach for calculating GDP?
GICE Government Purchases Individual Consumption Private Investment Net Exports