Exam 1 Flashcards
What is economics?
The study of the allocation of scarce resources.
How do we determine how resources are distributed?
Economists create models to analyze the world
What is a model?
A model is a simplified description of reality
All economic models have…
Decision makers (agents), Choices agents can make, Payoffs (to agents) as a result of these choices
Who are agents?
Generic decision makers, Consumers, Households, Firms
Economists use models to study…
How agents make decisions, how agents’ decisions interact with one another, how these decisions aggregate and affect the economy as a whole.
What is microeconomics?
In micro the decision makers are “small” usually individuals, households, and firms
What is an opportunity cost?
Whatever must be given up to obtain something
Rational agents
Choose the best option given the alternative
Marginal changes
small incremental adjustments to a plan of action
Rational decision makers
Make decisions by comparing marginal benefits and marginal costs. They make a choice if Marginal Benefits > Marginal Costs
Incentive
Something that induces an agent to act
Trade
Allows each agent to specialize in the activities they have a comparative advantage in
What does the government choose in a centrally planned government?
What goods and services are produced, how much to produce, who should produce and consume these goods and services
In a price setting competitive market
goods are allocated through decentralized decisions of many firms and households
Efficiency
Does society achieve the maximum benefit from its scarce resources
(in)Equality
Do we care if economic prosperity is/is not distributed uniformly across individuals?
Property rights
The ability of an agent to own and exercise control over economic goods
Market failure
a situation in which the market, left on its own, fails to allocate resources efficiently
Externality
Anything that affects an agent’s payoff that they DO NOT CHOOSE to consume. They are not allocated efficiently by the market
Market power
Ability of a single economic actor to have a substantial influence on market prices
Monopoly
one seller
oligopoly
a few sellers
cartels
a few sellers acting as one
monopsony
one buyer
Economists
devise theories,
collect data,
analyze these data, verify or refute their theories, use the scientific method
Scientific method
develops and tests theories about how the world works. Observation, theory, more observation
assumptions
simplify the complex world to make it easier, and possible, to understand
Circular flow diagram
schematic representation of the organization of the economy: factor market, households, product market, businesses
PPF
shows all feasible combinations of output that an economy can produce. The output is feasible given the available factors of production and production technology
Efficient
we can’t increase one output without decreasing another
inefficient
we can produce more without giving anything up
Positive statements: descriptive
attempt to describe the world as it is
Normative statements: prescriptive
attempt to prescribe how the world should be
rent control
adversely affects availability and quality of housing, and is a costly way of redistributing wealth
trade barriers
tariffs and quotas: generally bad
voluntary trade
generally mutually beneficial
trade
the exchange of goods and services
absolute advantage
ability to produce a good using fewer inputs than another producer
comparative advantage
one producer can produce x at a lower opportunity cost than another
If R has a comparative advantage in m
F has a comparative advantage in P
specialization
devoting resources to production of one good relative to another
trade equilibrium
the equilibrium price of trade must lie In between the two opportunity costs
transaction costs
anything that adds cost to trade: time it takes to bargain, cost of searching for a good, uncertainty over quality of a good, enforcing property rights over goods
Price setting competitive market
market that uses prices to allocate goods and services in which every agent is a price taker
allocation
distribution of goods and services across agents
market
group of buyers and sellers of a particular good or service OR a way of organizing exchange of goods and services (a means of reaching an allocation)
money
medium of exchnage
price taker
agent that believes they have no control of effect on prices
characteristics of a competitive market
Many buyers and sellers of one good, prices are transparent, free entry/exit, transaction costs are low
competitive equilibrium
allocation and a set of prices where every consumer is maximizing their payoff and every firm is maximizing profit
Non-competitive markets
agents are not price takers
demand curve
models the quantity demanded as a function of the market price; function that gives quantity demanded for any price
Law of Demand
when p increases, D decreases, demand is downward sloping
demand schedule
shows quantity demanded for a set of prices
Market Demand
Sum of Individual Demand
How does a change in price affect the demand curve?
any change in price brings us to a new point on the demand curve
Shift in the demand curve
any change that increases the quantity demanded shifts to the right; any change that decreases the quantity demanded shifts left
Variables that affect demand
income, prices of related goods, references, expectations, number of buyers
substitute
if an increase in price leads to an increase in demand for the other (shift to the right for the other good)
complements
an increase in price of one leads to a decrease in demand for the other (shift to the left for the other good)
Normal good
an increase in income leads to an increase in demand (shift to the right)
inferior goods
relatively low quality goods that have relatively high-quality substitutes
Tastes and preferences
Demand is determined by preferences, so any change in preference will change demand
Expectations about the future
if you expect an increase in income or future prices, you may increase in current demand
Supply curve
model of quantity supplied as a function of the market price
profit
revenue - cost
revenue
total money collected through sales
cost
total money spent on production
“law” of supply
when p increases, s increases; supply is upward sloping
supply schedule
table showing quantity supplied for a set of prices (so it shows supply for a finite number of prices)
market supply
total quantity supplied in a market as a function of price
competitive equilibrium
allocation and set of prices so every consumer can maximize their payoff, every firm maximizes payoff, and total production = total consumptioni
surplus
quantity supplied > quantity demanded
shortage
quantity demanded > quantity supplied
