Lesson 1 - Economic Principles

Question 1

Economics

Answer 1

Study of how society manages scarce resources
(economy - one manages household)

Question 2

Scarcity

Answer 2

limited resources + cannot produce all goods/services people want SO tradoffs happen

Question 3

What do economists study

Answer 3

1) how people make choices
2) how people interact with one another (demand + supply)
3) forces that affect overall economy

Question 4

Ten economic principles

Answer 4

1) Trade-offs
2) cost of something is what you give up for it
3) people are rational
4) people respond to incentives
5) Trade makes everyone better off
6) Markets good way to organize economic activity
7) Governments can sometimes improve market outcomes
8) country’s standard of living depends on its ability to produce goods + services
9) prices rise when govt prints too much money
10)

Question 5

Principle 1: Trade-Offs

Answer 5

1) Spending money or investing time in one thing detracts from another i.e. more military spending –> less spending on consumer goods
2) Efficiency vs equality (ensuring get greatest benefit from resources VS spreading resources evenly amongst everyone)

Question 6

Principle 2: cost of something is what you give up to get it

Answer 6

1) Opportunity cost = what you give up to get it
2) smart to understand opportunity costs when making decisions

Question 7

Principle 3: Rational People think at margin

Answer 7

1) economists assume people are rational –> think systematically + purposefully
2) make decisions by comparing marginal benefits + marginal costs SO if marginal benefit is greater than marginal cost, you make that action
3) Water = low marginal benefit (a little more water makes no diff) compared to diamonds SO willing to pay more for diamonds

Question 8

Marginal change

Answer 8

incremental adjustment to existing plan of action

Question 9

Marginal Cost

Answer 9

1) extra money required to stream another film for example
2) if consumer pays more than marginal cost –> profitable for company

Question 10

Principle 4: People respond to incentives

Answer 10

1) incentive = something that induces person to act like punishment or reward
2) higher price –> consumers buy less
3) important to consider unintended consequences

Question 11

Unintended consequences of incentives

Answer 11

1) Seat Belt laws –> reduced marginal cost of speeding (less dangerous bc of seatbelt) WHICH led to more accidents WHICH injured pedestrians since they did not have the added protection
2) Important to consider indirect effects of policies with incentives

Question 12

Principle 5: Trade makes everyone better off

Answer 12

1) example = all families compete with each other for resources, jobs, etc. BUT a family that is isolated struggles so much to sew, cook, make food, etc.
2) trade allows all countries to specialize in what they’re best at AND enjoy greater variety of goods + services

Question 13

Principle 6: Markets good way to organize economic activity

Answer 13

1) Market economy = firms decide who to hire, what to make + households decide where to work + what to buy
2) guided by “invisible hand” to desired outcome –> prices shifted to maximize well-being of society (demand + supply)
BUTTTT, govt intervention often undermines this –> taxes

Question 14

Principle 7: Governments can sometimes improve market outcomes

Answer 14

1) Invisible hand needs the government to enforce property rights
2) otherwise if farmers’ crops kept being stolen for example, they wouldn’t grow food
3) govt intervention needed to promote efficiency (correcting market failures) + equality

Question 15

How does govt promote efficiency + equality

Answer 15

1) Efficiency = sometimes markets do not maximize resources due to externalities (pollution) or market power (one person/group has too much control over prices, like monopoly)
2) ex = pollution, market often fails to take this into account
3) Equality = invisible hand does not ensure everyone benefits equally + has access to healthcare, food, etc

Question 16

Principle 8: country’s standard of living depends on ability to produce goods + services

Answer 16

1) positive relationship btwn SOL + productivity = amount of goods + services produced by each unit of labor input
2) policymakers need to ensure that workers are well trained + have tools needed to produce goods + best technology
generous employers + labor unions NOT reason for improved SOL

Question 17

Principle 9: Prices rise when govt prints too much $

Answer 17

1) Too much $ –> value of $ falls

Question 18

Principle 10: Society faces short-run trade-off btwn inflation + unemployment

Answer 18

SHORT RUN effect of more money
1) Increase spending + demand for goods/services
2) more demand –> firms hire more workers + increase prices
3) more hiring = lower unemployment
LONG RUN effect
1) inflation

Question 19

Business cycle

Answer 19

fluctuations in economic activity like employment + production

Question 20

Simply put explain the contrasting effect of monetary policy tools as described in principle 10

Answer 20

1) Govt can reduce inflation by reducing amount of money BUT this will increase unemployment
2) If govt wants to decrease unemployment, it can pump money into the economy, stimulate it, create more jobs BUT long term will lead to inflation

Question 21

Leadership + Economics Note

Answer 21

1) Trade-Off in every decision (opportunity cost)
2) Leaders think on margin (marginal benefit must be higher than marginal cost)
3) leaders solve coordination problems via incentives + create beneficial outcomes for stakeholders
4) trade is a win-win bc it fosters specialization + comparative advantage
5) Perfect info –> efficient outcomes BUT often faced with imperfect info –> need equilibrium btwn gathering info + being decisive (risk vs reward)
6) Leaders must seek equilibrium btwn efficiency + equity