Key definitions Flashcards
What is economics?
the study of how society manages its scarce resources.
microeconomics
the study of choices that individuals and businesses make, the way those choices interact in markets, and the influence of governments.
macroeconomics
the study of the performance of the national and global economies.
= economy-wide phenomena
tradeoff
an exchange—giving up one thing to get something else.
–> scarcity and choice
rational choice
one that compares costs and benefits and achieves the greatest benefit over cost for the person making the choice.
opportunity cost
the highest valued alternative that must be given up to get it.
the cost of the next best forgone alternative
marginal cost
The opportunity cost of pursuing an incremental increase in an activity
market
a group of buyers and sellers of a particular product.
Trade-off
The idea that, because of scarcity, producing more of one good or service means producing less of another good or service.
productive efficiency
producing a good or service at the lowest possible cost –> it comes about due to competition
allocative efficiency
when production is in accordance with consumer preferences; in particular, every good or service is produced up to the point where the last unit provides a marginal benefit to society equal to the marginal cost of producing it. –> it arises due to voluntary exchange
voluntary exchange
A situation that occurs in markets when both the buyer and the seller of a product are made better off by the transaction.
Efficiency
the way in which society gets the most it can from its scarce resources
equity
the extent to which the benefits of outcomes are FAIRLY DISTRIBUTED among society’s members
market failure
when the market fails to allocate society’s resources efficiently.
causes of market failure
externalities, market power
Externalities
when the production or consumption of a good affects bystanders (e.g. pollution)
= the cost/benefit of one person’s decision on the well-being of a bystander
market power
a single buyer or seller has substantial influence on market price (e.g. monopoly)
scientific method
the dispassionate development and testing of theories about how the world works.
assumptions
simplify the complex world, make it easier to understand.
Model
a highly simplified representation of a more complicated reality.
positive statements
attempt to describe the world AS IT IS.
- can be confirmed or refuted
normative statements
attempt to prescribe how the world SHOULD be.
- cannot be confirmed or refuted
PPF
Production Possibilities Frontier -
a graph that shows the combinations of two goods the economy can possibly produce given the available resources and the available technology.
production efficiency (PPF)
We achieve production efficiency if we cannot produce more of one good without producing less of some other good.
- All points ON the PPF (line/curve) are efficient.
competitive market
a market that has many buyers and many sellers so no single buyer or seller can influence the price.
money price
the amount of money needed to buy it.
relative price
the ratio of its money price to the money price of the next best alternative good—is its opportunity cost.
quantity demanded
the amount that consumers plan to buy during a particular time period, and at a particular price.
The Law of Demand
Other things remaining the same (ceteris paribus), the higher the price of a good, the smaller is the quantity demanded; and the lower the price of a good, the larger is the quantity demanded.
–> the quanity demanded of a good falls when price rises
demand schedule
shows the quanitity demanded at each price
demand curve
graph that shows the relationship between the quantity demanded of a good and its price when all other influences on consumers’ planned purchases remain the same.
normal goods (DEMAND SHIFTERS INCOME)
Goods for which the demand increases as income rises and decreases as income falls.
inferior goods (DEMAND SHIFTERS INCOME)
Goods for which the demand increases as income falls and decreases as income rises.
e.g. second-hand clothes
substitutes (DEMAND SHIFTERS - Price of related goods)
Goods and services that can be used for the same purpose.
Complements (DEMAND SHIFTERS - Price of related goods)
Goods and services that are used together.
Demand shifters - tastes
If consumers’ tastes change, they may buy more or less of the product.
Demand shifters - expectations
Consumers decide which products to buy, but also when to buy them.
* Future products are substitutes for current products.
* An expected increase in the price tomorrow increases demand today.
* An expected decrease in the price tomorrow decreases demand today.
Demand shifters - number of buyers
Increases in the number of people buying something will increase the amount demanded.
quantity supplied
the amount that producers plan to sell during a given time period at a particular price.
The Law of Supply
Other things remaining the same, the higher the price of a good, the greater is the quantity supplied; and the lower the price of a good, the smaller is the quantity supplied.
supply curve
shows the relationship between the quantity supplied of a good and its price when all other influences on producers’ planned sales remain the same.
Supply shifters - input prices
- Inputs are things used in the production of a good or service.
- An increase in the price of an input decreases the profitability of selling the good, causing a decrease in supply.
- A decrease in the price of an input increases the profitability of selling the ood, causing an increase in supply.
Supply shifters - tech
A firm may experience a positive or negative change in its ability to produce a given level of output with a given quantity of inputs. We call this a technological change.
Supply shifters - expectations
If a firm anticipates that the price of its product will be higher in the future, it might decrease its supply today in order to increase it in the future.
Supply shifters - number of sellers
Fewer firms→ supply decreases.
- The larger the number of suppliers of a good, the greater is the supply of the good. An increase in the number of suppliers shifts the supply curve rightward.
what change affects quantity supplied
a change in the price of a good
what changes affects the supply
- costs
- input prices
- tech
- prices of related goods/services
surplus
When price > equilibrium price, then quantity supplied > quantity demanded.
shortage
When price < equilibrium price, then quantity supplied < quantity demanded.
welfare economics
the study of how the allocation of resources affects economic well-being.
Allocative efficiency
a resource allocation where the value of the output by sellers matches the value placed on that output by buyers.
What is consumer surplus?
buyer’s willingness to pay - the actual price paid for the good
What is the effect of a lower price on consumer surplus?
raises consumer surplus - they were willing to pay more than they acc bought it for
producer surplus
the amount a seller is paid for a good minus the seller’s cost.
using the supply curve to measure producer surplus
The area below the price and above the supply curve measures the producer surplus in a market.
What is the effect of a higher price for producer surplus
raises producer surplus
How can economic well-being be measured?
by total surplus = consumer surplus + producer surplus
price ceiling
A legal maximum on the price at which a good can be sold.
price floor
a legal minimum on the price at which a good can be sold
when is a price ceiling NOT binding?
if price is set ABOVE equilibrium price
what does a price ceiling below equilbrium price mean?
binding; leads to a shortage bc Qd > Qs
when is a price floor NOT binding?
if price is set BELOW equibrium price
what does a price floor above equilbrium price mean?
it is binding - creates surplus - Qs > Qd
direct tax
imposed on income and wealth
indirect tax
levied on sales of goods and services
specific tax
set amount per unit of expenditure
ad valorem
tax expressed as a %
Tax incidence
the manner in which the burden of a tax is shared among participants in a market.
What is the effect of a specific tax on market outcomes?
- Supply curve shifts up by the amount of the tax.
- Quantity sold falls.
- both buyers & sellers share the burden as buyers pay more and suppliers receive less
Price elasticity
how much the quantity demanded responds to change in the price
What determines the incidence?
price elasticity
- if demand is inelastic => consumer burden > producer burden
- if demand is price elastic => producer burden > consumer burden
What is a negative externality?
the COSTS imposed on a third party of a decision –> impact of the decision has adverse effects on a third party
costs > benefits
Positive externality
the benefits to a third party of a decision - impact is beneficial
How to achieve a socially optimal output?
The government can internalize an externality by imposing a tax on the producer to reduce the equilibrium quantity to the socially desirable quantity.
Pigovian taxes
taxes imposed to correct the effects of negative externalities
Absolute advantage
Where a producer can produce a good using fewer factor inputs than another producer –> The producer that requires a smaller quantity of inputs to produce a good is said to have an absolute advantage in producing that good.
Comparative advantage
the comparison among producers according to their opportunity cost –> a producer who has the smaller opportunity cost of producing a good is said to have a comparative advantage in producing that good.
Imports
goods produced abroad and sold domestically.
- money flows OUT of the country
Exports
goods produced domestically and sold abroad.
- money flows INTO the country
World price
the price that prevails in the world market for that good.
What determines if a country is an importer of a good?
if the domestic price > world price –> NO comparative advantage
What determines if a country is an exporter of a good?
if domestic price < world price –> YES comparative advantage
Who benefits from trade? Who does trade harm? Do the gains outweigh the losses?
exporting country benefits
trade benefits domestic producers; domestic consumers are worse off
but overall yes, gains are that trade raises the economic well-being of the nation as a whole.
If policymakers restrict imports, who benefits?
producers
–> importing country yields: Domestic producers of the good are worse off, and domestic consumers of the good are better off.
What is a tariff?
a tax on goods produced abroad and sold domestically ( - tax on imports)
The effects of a tariff on the economy
domestic sellers are better off and domestic buyers are worse off
–> The tariff reduces the domestic quantity demanded
–> It raises the domestic quantity supplied
Deadweight loss
a loss in the overall market because of the taxes (so for both supply & demand)
Marginal product
the increase in output that arises from an additional unit of that input.
Diminishing marginal product
the marginal product of an input declines as the quantity of the input increases.
Fixed costs
costs that do not vary with the quantity of output produced.
Variable costs
costs that do vary with the quantity of output produced.
Average cost
the cost of each typical unit of product.
Marginal cost
measures the increase in total cost that arises from an extra unit of production.
Total revenue =
selling price x quantity sold
TR = P x Q
Marginal revenue
the change in total revenue from an additional unit sold.
average revenue
tells us how much revenue a firm receives for the typical unit sold.
Normal profit
the amount required to keep the factors of production in their current use
Abnormal profit
the profit over and above normal profit.
What is a shutdown?
a short-run decision not to produce anything during a specific period of time because of current market conditions.
What is an Exit?
a long-run decision to leave the market
Imperfect competition
where firms differentiate their product in some way and so can have some influence over price.
Market share
the proportion of total sales in a market accounted for by a particular firm.
Market share
the proportion of total sales in a market accounted for by a particular firm.
Market power
where a firm is able to raise the price of its product and not lose all its sales to rivals.
Monopoly
a firm that is the sole seller of a product without close substitutes.
Natural monopoly
(e.g. an industry) - when a single firm can supply a good or service to an entire market at a smaller cost than could 2+ firms.
Price discrimination
selling the same good at different prices to different customers, even though the costs for producing for the two customers are the same.
Arbitrage
The process of buying a good in one market at a low price and then selling it in another market at a higher price.
