Microeconomics definitions Flashcards
efficiency
making the best possible use of scarce resources to avoid resource waste
allocative efficiency
an allocation of resources that results in producing the combination and quantity of goods and services most preferred by customers
rationing
a method used to apportion something between its interested users
Market
any kind of arrangement where buyers and sellers of goods, services or resources are linked together to carry out an exchange
Competition
a process in which rivals compete in order to obtain some objective
Demand
the various quantities of a good or service the consumer is willing and able to buy at different possible prices during a particular time period, ceteris paribus (about behaviour of buyers of goods/services/resources)
Law of Demand
there is a negative relationship between the prices of a good and its quantity demanded over a particular time period, ceteris paribus
Non-price determinants of demand
- Income (higher income increases demand for normal goods, decreases demand for inferior goods)
- Tastes and preferences (can change in favour or against the product, causing increase/decrease)
- Price of related goods- movements along other goods’ demand curves (increased price of substitutes increase demand of Good A, increased price of complements decreases demand of Good A)
- Number of consumers (as market demand is sum of individuals, more consumers increases demand)
Supply
the various quantities of a good or service a firm is willing and able to product/supply to the market at different possible prices during a particular time period, ceteris paribus
Law of Supply
there is a positive relationship between the price of a good and its quantity demanded over a particular time period, ceteris paribus
Non-price determinants of supply
- Costs of factors of production: factor prices- higher costs decrease supply
- Technology: new improved technology lowers costs of production, increasing supply
- Price of related goods: competitive supply (alternatives): increased price of competing good decreases supply; joint supply (derived from same product): increased price of joint good increases supply
- Producer price expectations: if expect price to rise, supply decreases
- Taxes: (indirect or on profits): treated as if costs of production, increased tax causes decreased supply
- Subsidies (payment to the firm by the government): like fall in costs of production, increase supply
- Number of firms: an increase in the number of firms supplying increases supply
- Shocks (sudden unpredictable events, eg weather, war, catastrophes): affect supply, normally decrease
Competitive market equilibrium
the point where quantity demanded equals quantity supplied (demand an supply curve intersect), and there is no tendency for the price to change.
Consumer surplus
the difference between the highest price consumers are willing to pay and price paid
Producer surplus
the difference between the lowest price sellers are willing to sell a good and price sold
Price elasticity of demand
measure of the responsiveness of the quantity of a good demanded to changes in price
Determinants of PED
- Number and closeness of substitutes: more and closer substitutes, more elastic (more responsive)
- Necessities vs luxuries: necessities (eg food) are less elastic than luxuries
- Length of time: the longer the consumer has to make a decision, the more elastic the demand
- Proportion of income spent on a good: higher proportion of income needed to buy a good, more elastic
Total revenue
the amount of money received by firms when they sell a good, equal to price × quantity.
price elasticity of supply
measure of the responsiveness of the quantity of a good supplied to changes in price
Determinants of PES
- Length of time: the longer the supplier has to adjust inputs, the more elastic the supply
- Mobility of factors of production: if easily shifted between production lines, more elastic
- Spare capacity of firms: higher unused capacity, more elastic
- Ability to store stocks: larger capacity to store, more elastic
- Rate at which costs increase: if increase slowly, more elastic
Income elasticity of demand (YED)
a measure of the responsiveness of demand to changes in income
Reasons for market intervention
- Raise tax revenue (esp taxing inelastic goods)
- Provide support to firms (financial aid to small firms, encourage growth, protect from foreign competitor)
- Provide support to households (helping those without enough income meet basic needs)
- Influence level of production/consumption
- Promote equity/equality (redistribution of income)
- Correct market failure (help achieve allocative efficiency)
Methods of market intervention
- Price controls (floors and ceilings)
- Indirect taxes
- Subsidies
- Direct provision
- Command/control methods/legislation
- Consumer nudges
- Other methods- tariffs, quotas, transfer payments
Price ceiling
a maximum price set below equilibrium by the government to prevent the price of a good or service rising above a fixed level, in order to make the good more affordable to people on low incomes, eg rent and food
Welfare loss
represents social surplus or welfare benefits that are lost to society because resources are not allocated efficiently
Price floor
a minimum price set above equilibrium by the government to prevent the price of a good or service falling below a fixed level, in order to provide income support for farmers or increase wages of low-skilled workers
Tax
a compulsory payment to the government for which no direct benefit is received in return
Tax base
the item on which a tax is levied
Indirect tax
taxes levied on spending to buy goods and services, paid to government authorities by suppliers
Excise tax
imposed on particular goods and services, such as petrol, cigarettes and alcohol (as opposed to taxes on spending on all goods and services such as GST)
Direct tax
taxes paid directly to government tax authorities by the taxpayer, including personal income taxes, corporate taxes and wealth taxes
Specific tax
a tax imposed as a fixed value per unit of a good (eg $10 000 per luxury car)
Ad valorem tax
a tax imposed as a percentage of the price of a good
Reasons for imposing taxes
- Increase government revenue (especially for inelastic goods)
- Discourage consumption of demerit goods (eg cigarettes)
- Redistribute income (eg luxury cars)
- Improve allocation of resources by correcting negative externalities (in cases of market failure)
Methods of non-price rationing (to address shortage of price ceiling)
- Waiting lists/queues on first-come first-serve basis
- Coupons to purchase a fixed amount
- Preferential customer selection
- Other methods such as regulations develop (government prioritises certain groups) and lottery schemes
- Parallel/underground markets
Subsidy
an amount of money paid by the government to firms, resulting in a higher level of output and lower price for consumers.
Reasons for subsidies
- Increase revenues (and hence producer incomes)
- Make goods affordable to low-income consumers
- Encourage production/consumption of desirable goods and services
- Support growth of particular industries
- Encourage exports of particular goods
- Improve the allocation of resources by reducing inefficiencies (correcting positive externalities)
Direct provision
method of provision wherein the government pays for the entire production (and potentially distribution) of the good or service, providing the good at a free or heavily subsidised price
Legislation
direct rules or laws government an activity or industry that state what is permitted and what is illegal
Consumer nudges
aspect of choice architecture to alter people’s behaviour without physically limiting freedoms, using small prompts to alter social and economic behaviour (ie demand). For instance, placing unhealthy foods less visibly, plain packaging, bicycle lanes
Externality
occurs when the actions of consumers or producers give rise to positive or negative side-effects on other people who are not part of these actions, and whose interests are not taken into consideration
Market failure
where the free market forces of demand and supply lead to an allocation of resources that does not maximise the welfare of a country’s citizens, creating a misallocation of resources (not at socially optimal level)
Negative production externalities
production externality: external costs for third parties caused by production activities, leading to a situation where marginal social costs are greater than marginal private costs
Negative consumption externalities
external costs for third parties caused by consumption activities, leading to a situation where marginal social costs are greater than marginal private costs
Demerit goods
goods that are considered undesirable for consumers and overprovided by the market. Demerit goods are often overallocated due to negative externalities associated with them (as well as ignorance of harm)
positive production externality
external benefits for third parties caused by production activities, leading to a situation where marginal social costs are greater than marginal private costs
positive consumption externality
external benefits for third parties caused by consumption activities, leading to a situation where marginal social costs are greater than marginal private costs
merit goods
goods that are considered desirable for consumers, but are underprovided by the market. Demerit goods are often underallocated due to positive externalities, low incomes/poverty and consumer ignorance
Methods to correct market failure
- Taxes/subsidies
- Tradeable permits
- Legislation and regulation
- Collective self-governance
- Education
- International agreements
Excludable
goods wherein people (eg non-payers) can be kept from consuming the good
Rivalrous
goods wherein consumption by one person reduces the availability for another
private goods
goods that are both rivalrous and excludable
public goods
goods that are neither rivalrous nor excludable (eg lighthouse, streetlights, defence)
common pool resources
goods that are rivalrous but not excludable (fishing, deforestation)
Tragedy of the commons
a story about cattle grazing on commonly-owned land, illustrating the rivalry and non-excludability of common pool resources as the land becomes overused and degraded
Free rider problem
those who do not pay cannot be denied the good, so no one will pay, disincentivising producers such that the goods are underproduced
Sustainable resource use
the use of resources in ways that do not result in fewer or lower-quality resources for future generations
Renewable resource
resources that can last indefinitely if managed properly
Quasi-public goods
goods that are non-rivalrous but excludable, such as museum tickets or toll roads
Non-renewable resource
resources that do not last indefinitely since they have a finite supply
carbon tax
a tax per unit of carbon emissions of fossil fuels (proportional to pollution of fuel type), designed to correct the negative production externalities that threaten climate change
Tradeable permits (cap and trade schemes)
a policy involving permits to pollute issued to firms by a government or international body. Similar to carbon taxes, they provide incentives for producers to switch to less polluting resources.
Collective self-governance
a solution to use of common pool resources where users take control of resources and use them in a sustainable way (counter to Tragedy of the Commons)
Solutions to negative externalities of production
Indirect taxes Carbon taxes Tradeable permits Government legislation Education International agreements
Solutions to negative externalities of consumption
Taxes
Government legislation
Education
Nudges
Solutions of overuse of common pool resources
Taxes
Tradeable permits
Government regulation
Collective self-governance
Solutions to positive externalities of production
Subsidies
Direct provision
Solutions to positive externalities of consumption
Legislation Education Nudges Subsidies Direct provision
