Microeconomics Definitions Flashcards
Paper 1
Market
The ‘place’ in which goods are bought and sold
Normative statement
a statement that includes a value judgement and cannot be refuted just by looking at the evidence
Positive statement
A statement of fact that can be scientifically tested to see if it is correct or incorrect
Value judgement
an opinion about whether something is desirable or not
need
something that is necessary for survival e.g. food, shelter
want
something that is desirable, but is not necessary for human survival e.g. fashionable clothing
economic welfare
the economic well-being of an individual, a group within a society, or an economy
economic system
the set of instructions within which a community decides what, how and for whom to produce
market economy
an economy in which goods and services are purchased through the price mechanism in a system of markets
command economy
(also known as a planned economy) an economy in which government officials or planners allocate economic resources to firms and other productive enterprises
mixed economy
an economy that contains both a large market sector and a large non-market sector in which the planning mechanism operates
production
a process, or set of processes, that converts inputs into output of goods
capital good
a good which is used in the production of other goods and services (producer good)
consumer good
A good which is consumed by individuals or households to satisfy their needs or wants
factors of production
inputs into the production process, such as land, labour, capital and enterprise
finite resource
a resource, such as oil, which is scarce and runs out as it is used. also known as a non-renewable resource
renewable resource
a resource, such as timber, that with careful management can be renewed as it is used
economic good
has an opportunity cost
free good
has no opportunity cost
fundamental economic good
how best to make decisions about the allocation of scarce resources among competing uses so as to improve and maximise human happiness and welfare
Scarcity
results from the fact that people have unlimited wants but resources to meet these wants are limited. In essence, people would like to consume more goods and services than the economy is able to produce with its limited resources
opportunity cost
the cost of giving up the next best alternative
economic growth
The increase in the potential level of real output the economy can produce over a period of time
technical progress
new and better ways of making goods and new techniques for producing more output from scarce resources
full employment
When all who are able and willing to work are employed
Unemployment
When not all of those who are able and willing to work are employed
choice
Choosing between alternatives when making a decision on how to use scarce resources
resource allocation
The process through which the available factors of production are assigned to produce different goods and services
productive efficiency
For the economy as a whole occurs when it is impossible to produce more of one good without producing less of another. For a firm it occurs when the average total cost of production is minimised.
allocative efficiency
occurs when the available economic resources are used to produce the combination of goods and services that best matches people’s tastes and preferences (producing the things people most want)// occurs when it is impossible to improve overall economic welfare by reallocating resources between markets. In the whole economy, price must equal marginal cost (P=MC) in every market
competitive market
A market in which the large number of buyers and sellers possess good market information and can easily enter or leave the market
equilibrium market
the price at which planned demand for a good or service exactly equals planned supply
supply
the quantity of a good or service that businesses are willing and able to sell at given prices in a given period of time
demand
the quantity of a good or service that consumers are willing and able to buy at given prices in a given period of time. For economists, demand is always effective demand
effective demand
the desire for a good or service backed by an ability to pay
market demand
the quantity of a good or service that all the consumers in a market are willing and able to buy at different market prices
condition of demand
a determinant of demand, other than the good’s own price, that fixes the position of the demand curve
increase in demand
a rightward shift of the demand curve
decrease in demand
leftward shift of the demand curve
normal good
a good for which demand increases as income increases and demand decreases as income falls
inferior good
a good for which demand decreases as income increases and demand increases as income falls
elasticity
the proportionate responsiveness of a second variable to an initial change in the first variable
price elasticity of demand
measures the extent to which the demand for a good changes in response to a change in the price of that good
income elasticity of demand
measures the extent to which the demand for a good changes in response to a change in income; it is calculated by dividing the percentage change in quantity demanded by the percentage change in income
market supply
the quantity of a good or service that all firms plan to sell at given prices in a given period of time
cross- elasticity of demand
measures the extent to which the demand for a good changes in response to a change in the price of another good; it is calculated by dividing the percentage change in quantity demanded of one good by the percentage change in the price of the other good
Profit
the difference between total sales revenue and total costs of production
total revenue
the money a firm receives from selling its output, calculated by multiplying the price by the quantity sold
conditions of supply
determinants of supply, other than the good’s own price, that fix the position of the supply curve
increase in supply
a rightward shift of the supply curve
decrease in supply
a leftward shift of the supply curve
price elasticity of supply
measures the extent of which the supply of a good changes in response to a change in the price of that good
equilibrium
a state of rest or balance between opposing forces
disequilibrium
a situation in a market when there is excess supply or excess demand
market equilibrium
a market is in equilibrium when planned demand equals planned supply and the demand curve crosses the supply curve. In this situation there is no excess demand or excess supply in the market. Unless some event disturbs the equilibrium, there is no reason for the price to change.
market disequilibruim
exists at any other price other than the equilibrium price. When the market is in disequilibrium, either excess demand or excess supply exists in the market. Excess demand causes the price to rise until a new equilibrium is established. Conversely, excess supply causes the market price to fall until equilibrium is achieved.
excess supply
when firms wish to sell more than consumers wish to buy, with the price above the equilibrium price
excess demand
when consumers wish to buy more than firms wish to sell, with the price below the equilibrium price
joint supply
when one good is produced, another good is also produced from the same raw materials
competing supply
when raw materials are used to produce one good they cannot be used to produce another good
complementary good
a good in joint demand, or a good which is demanded at the same time as the other good
substitute good
a good in competing demand, namely a good which can be used in place of the other good
composite demand
demand for a good which has more than one use
derived demand
demand for a good which is an input into the production of another good// demand for a good or factor of production, wanted not for its own sake, but as a consequence of the demand for something else
merit good
a good which when consumed leads to benefits which other people enjoy, or a good for which the long-term benefit of consumption exceeds the short-term benefit enjoyed by the person consuming the merit good. Whether a good should be regarded as a merit good, depends on the value judgements being made.
short-run production
occurs when a firm adds variable factors of production to fixed factors of production
long-run production
occurs when a firm changes the scale of all the factors of production
productivity
output per unit of input
labour productivity
output per worker
Capital productivity
Output per unit of capital
Productivity growth
the difference between labour productivity in the UK and in other developed economies
specialisation
a worker only performing one task or a narrow range of tasks. Also, different firms specialising in producing different goods or services.
division of labour
this concept goes hand in hand with specialisation. different workers perform different tasks in the course of producing a good or service
trade
the buying and selling of goods and services
exchange
to give something in return for something else received. money is a medium of exchange
short run
the time period in which at least one factor of production is fixed and cannot be varied
long run
the time period in which no factors of production are fixed and in which all the factors of production can be varied
fixed cost
cost of production which, in the short run, does not change with output
variable cost
cost of production which changes with the amount that is produced, even in the short run
total cost
the whole cost (fixed cost plus variable cost) of producing a particular level of output
average cost
total cost of production divided by output
long-run average cost
long-run total cost divided by output
economy of scale
as output increases, long-run average cost falls
diseconomy of scale
as output increases, long-run average cost rises
technical economy of scale
a cost saving generated through changes to the ‘productive process’ as the scale of production and level of output increase
internal economy of scale
cost saving resulting from the growth of the firm itself
external economy of scale
cost saving resulting from the growth of the industry or market of which the firm is a part
total revenue
all the money received by a firm from selling its total output
average revenue
total revenue divided by output; in a single-product firm, average revenue equals the price of the product
profit
the difference between total sales revenue and total cost of production
market structure
the organisation of a market in terms of the number of firms in the market and the ways in which they behave
price taker
a firm which passively accepts the ruling market price set by market conditions outside its control
price maker
a firm possessing the power to set the price within the market
perfect competition
a market that displays the six conditions of: a large number of buyers and sellers; perfect market information; the ability to buy or sell as much as is desired at the ruling market price; the inability of an individual buyer or seller to influence the market price; a uniform or homogeneous product; and no barriers to entry or exit in the long run
competitive market
a market in which firms strive to outdo their rivals, but it does not necessarily meet all the conditions of perfect competition
concentrated market
a market containing very few firms, in the extreme only one firm
pure monopoly
when there is only one firm in the market
monopoly power
the power of a firm to act as a price maker rather than as a price taker// the ability of a monopoly to raise and maintain price above the level that would prevail under perfect competition. Market power can also be exercised, usually to a lesser degree, by firms in oligopoly and monopolistic competition
imperfect competition
any market structure lying between the extremes of perfect competition and pure monopoly
profit maximisation
occurs when a firm’s total sales revenue is furthest above total cost of production
sales maximisation
occurs when sales revenue is maximised
market share maximisation
occurs when a firm maximises its percentage share of the market in which it sells its product
normal profit
minimum profit necessary for a firm to stay in an industry
abnormal profit
The profit over and above normal profit
consumer sovereignty
Through exercising their spending power, consumers collectively determine what is produced in a market. Consumer sovereignty is strongest in a perfectly competitive market
producer sovereignty
producers or firms in a market determine what is produced and what prices are charged
entry barrier
makes it difficult or impossible for new firms to enter a market
exit barrier
makes it difficult or impossible for firms to leave a market
natural monopoly
the term has two meanings, first when a country or firm has complete control of a natural resource, and second when there is only room in a market for one firm benefiting from economies of scale to the full
patent
a strategic or man-made barrier to entry caused by government legislation protecting the right of a firm to be the sole producer of a patented good, unless the firm grants royalties for other firms to produce the good
natural barrier to entry
a barrier to market entry which is not man-made// barriers to market entry caused by geography. For example, if one firm has control of a resource essential for a certain industry, other firms are unable to compete in a industry
artificial barrier to entry
a barrier to market entry which is man-made
informative advertising
provides consumers and producers with useful information about goods or services
persuasive advertising
attempts to persuade potential customers that a good or service possesses desirable characteristics that make it worth buying
saturation advertising
through flooding the market with information and persuasion about a firm’s product, this functions as a man-made barrier to market entry by making it difficult for smaller firms to compete.
product differentiation
making a product different from other products through product design, the method of producing the product, or through its functionality// the marketing of generally similar products with minor variations or the marketing of a range of different products
quantity setter
a firm chooses the quantity of a good to sell, rather than its price. In monopoly, the market demand curve then dictates the maximum price that can be charged if the firm is to successfully sell its chosen quantity.
concentration ratio
A ratio which indicates the total market share of a number of leading firms in a market, or the output of these firms as a percentage of total market output
Oligopoly
A ratio which indicates the total market share of a number of leading firms in a market, or the output of these firms as a percentage of total market output
Oligopoly
a market dominated by a few firms
resource misallocation
when resources are allocated in a way which does not maximise economic welfare
collusion
co-operation between firms, for example to fix prices. Some forms of collusion may be in the public interest, for example joint research and labour training schemes
invention
creates new ideas for products or processes // making something entirely new; something that did not exist before at all
innovation
converts the results of invention into marketable products or services// improves on or makes a significant contribution that has already been invented, thereby turning the results of invention into a product
price competition
reducing the price of a good or service to gain sales by making it more attractive for consumers
limit pricing
reducing the price of a good to just above average cost to deter the entry of new firms into the market. Prices are set at levels which are likely to make it unprofitable for potential entrants who might consider coming into the market
predatory pricing
Temporarily reducing the price of a good to below average cost to drive smaller firms or new market entrants out of the market.
signalling function of prices
prices provide information to buyers and sellers
incentive function of prices
Prices create incentives for people to alter their economic behaviour; for example, a higher price creates an incentive for firms to supply more of a good or service.
rationing function of prices
rising prices ration demand for a product
Allocative function of prices
changing relative prices allocate scarce resources away from markets exhibiting excess supply and into markets in which there is excess demand
market failure
when the market mechanism leads to a misallocation of resources in the economy, either completely failing to provide a good or service or providing the wrong quantity
missing market
a situation in which there is no market because the functions of prices have broken down
private good
a good that is excludable and rival
public good
a good that is non-excludable and non-rival
quasi-public good
a good which is not fully non-rival and/or where it is possible to exclude people from consuming the product
externality
a public good, in the case of an external benefit, or a public bad, in the case of an external cost, that is ‘dumped’ on third parties outside the market
positive externality
which is the same as an external benefit, occurs when the consumption or production of a good causes a benefit to a third party, where the social benefit is greater than the private benefit
negative externality
which is the same as an external cost, occurs when the consumption or production of a good causes costs to a third party, where the social cost is greater than the private cost.
production externality
an externality (which may be positive or negative) generated in the course of producing a good or service
consumption externality
An externality (which may be positive or negative) generated in the course of consuming a good or service
Social benefit
the total benefit of an activity, including the external benefit as well as the private benefit. Expressed as an equation: social benefit = private benefit + external benefit
subsidy
a payment made by the government or other authority, usually to producers, for each unit of the subsidised good they produce. Consumers can also be subsidised
demerit good
a good, such as tobacco, for which the social costs of consumption exceed the private costs. Value judgements are involved in deciding that a good is a demerit good.
social cost
the total cost of an activity, including the external cost as well as the private cost. Expressed as an equation: social cost = private cost + external cost
information problem
Occurs when people make wrong decisions because they don’t possess or they ignore relevant information. Very often they are myopic (short-sighted) about the future
immobility of labour
the inability of labour to move from one job to another, either for occupational reasons or for geographical reasons
geographical immobility of labour
occurs when workers find it difficult or impossible to move to jobs in other parts of the country or in other countries for reasons such as higher housing costs in locations where the jobs exist
Occupational immobility of labour
occurs when workers find it difficult or impossible to move between jobs because they lack or cannot develop the skills required for new jobs
equity
fairness or justness// when everyone is treated fairly
inequity
unfairness or unjustness
distribution of income and wealth
the way in which income and wealth are divided among the population
regulation
involves the imposition of rules, controls and constraints, which restrict freedom of economic action in the market place
tax
a compulsory levy imposed by the government to pay for its activities. Taxes can also be used to achieve other objectives, such as reduced consumption of demerit goods
price ceiling
a price above which it is illegal to trade. Price ceilings, or maximum legal prices, can distort markets by creating excess demand
price floor
a price below which it is illegal to trade. Price floors, or minimum legal prices, can distort markets by creating excess supply
government failure
occurs when government intervention reduces economic welfare, leading to an allocation of resources that is worse than the free-market outcome
production possibility frontier
a curve depicting the various combinations of two products (or types of products) that can be produced when all the available resources are fully and efficiently employed
rational behaviour
acting in pursuit of self-interest, which for a consumer means attempting to maximise the welfare, satisfaction or utility gained from the goods and services consumed
utility
the satisfaction or economic welfare an individual gains from consuming a good or service
marginal utility
the additional welfare, satisfaction or pleasure gained from consuming one extra unit of a good or service
hypothesis of diminishing marginal utility
for a single consumer, the marginal utility derived from a good or service diminishes for each additional unit consumed
asymmetric information
when one party to a market transaction possesses less information relevant to the exchange than the other
Behavioural economics
a method of economic analysis that applies psychological insights into human behaviour to explain how individuals make choices and decisions
bounded rationality
when making decisions, individuals’ rationality is limited by the information they have, the limitations of their minds and the finite amount of time available in which to make decisions
bounded self-control
limited self-control in which individuals lack the self-control to act in what they see as their self-interest
cognitive bias
is a systematic error in thinking that affects the decisions and judgements that people make
availability bias
Occurs when individuals make judgements about the likelihood of future events according to how easy it is to recall examples of similar events
anchoring
a cognitive bias describing the human tendency when making decisions to rely too heavily on the first piece of information offered (the so-called ‘anchor’). Individuals use an initial piece of information when making subsequent judgements
social norms
forms or patterns of behaviour considered acceptable by a society or group within that society
nudges
factors which encourage people to think and act in particular ways. Nudges try to shift group and individual behaviour in ways which comply with desirable social norms
altruism
concern for the welfare of others
Fairness
the quality of being impartial, just, or free of favouritism. It can mean treating everyone the same. Fairness involves treating people equally, sharing with others, giving others respect and time, and not taking advantage of them
Choice architecture
a framework setting out different ways in which choices can be presented to consumers, and the impact of that presentation on consumer decision making
default choice
an option that is selected automatically unless an alternative is specified
framing
how something is presented (the ‘frame’) influences the choices people make
mandated choice
people are required, often by law, to make a decision
restricted choice
offering people a limited number of options so that they are not overwhelmed by the complexity of the situation. If there are too many choices, people may make a poorly thought-out decision or not make any decision
effective demand
The desire for a good or service backed by an ability to pay
market demand
the quantity of a good or service that all the consumers in a market are willing and able to buy at different market prices
individual demand
the quantity of a good or service that a particular customer or individual is willing and able to buy at different market prices
condition of demand
a determinant of demand, other than the good’s own price, that fixes the position of the demand curve
substitute goods
alternative goods that could be used for the same purpose
Complementary goods
when two goods are complements, they experience joint demand
productivity gap
the difference between labour productivity in the UK and in other developed economies
firm
a productive organisation which sells its output of goods and/or services commercially
marginal returns of labour
the change in the quantity of total output resulting from the employment of one more worker, holding all the other factors of production fixed
law of diminishing marginal returns
a short-term law which states that as a variable factor of production is added to a fixed factor of production, both the marginal and eventually the average returns to the variable factor will begin to fall
total returns
the whole output produced by all the factors of production, including labour, employed by a firm
average returns of labour
Total output divided by the total number of workers employed
returns to scale
The rate by which output changes if the scale of all the factors of production is changed
plant
an establishment, such as a factory, a workshop or a retail outlet, owned and operated by a firm
increasing returns to scale
when the scale of all the factors of production employed increases, output increases at a faster rate
constant returns to scale
when the scale of all the factors of production employed increases, output increases at the same rate
decreasing returns to scale
when the scale of all the factors of production employed increases, output increases at a slower rate
marginal cost
addition to total cost resulting from producing one additional unit of output
marginal revenue
addition to total revenue resulting from the sale of one more unit of the product
price-maker
when a firm faces a downward-sloping demand curve for its product, it possesses the market power to set the price at which it sells the product
quantity- setter
when a firm faces a downward-sloping demand curve for its product, it possesses the market power to set the quantity of the good it wishes to sell
technological change
A term used to describe the overall effect of invention, innovation and diffusion or spread of technology in the economy
dynamic efficiency
measures improvements in productive efficiency that occur in the long run over time
monopolistic competition
a market structure in which firms have many competitors, but each one sells a slightly different product
creative destruction
capitalism evolving and renewing itself over time through new technologies and innovations replacing older technologies and innovations
entry barriers
obstacles that make it difficult for a new firm to enter a market
exit barriers
obstacles that make it difficult for an established firm to leave a market
divorce of ownership from control
the owners and those who control the firm (managers) are different groups with different objectives
satisficing
achieving a satisfactory outcome rather than the best possible outcome
allocative inefficiency
occurs when P>MC, in which case too little of a good is produced and consumed, and when P<MC, in which case too much of a good is produced and consumed
sunk costs
costs that have already been incurred and cannot be recovered
market conduct
the pricing and marketing policies pursued by firms. This is also known as market behaviour, but is not to be confused with market performance, which refers to the end results of these policies
cartel
a collusive agreement by firms, usually to fix prices. Sometimes there is also an agreement to restrict output and to deter the entry of new firms
price leadership
the setting of prices in a market, usually by a dominant firm, which is then followed by other firms in the same market.
price agreement
an agreement between a firm, similar firms, suppliers or customers regarding the pricing of a good or service
price war
occurs when rival firms continuously lower prices to undercut each other
price discrimination
charging different prices to different customers for the same product or service, with the prices based on different willingness to pay
contestable markets
a market in which the potential exists for new firms to enter the market. A perfectly contestable market has no entry or exit barriers and no sunk costs, and both incumbent firms and new entrants have access to the same level of technology
hit-and-run competition
occurs when a new entrant can ‘hit’ the market, make profits and then ‘run’, given that there are no or low barriers to exit
static efficiency
efficiency at a particular point in time
consumer surplus
a measure of the economic welfare enjoyed by consumers: surplus utility received over and above the price paid for a good
producer surplus
a measure of the economic welfare enjoyed by firms or producers: the difference between the price a firm succeeds in charging and the minimum price it would be prepared to accept
deadweight loss
the loss of economic welfare when the maximum attainable level of total welfare fails to be achieved
marginal physical product of labour
the addition to a firm’s total output brought about by employing one more worker
marginal revenue product of labour
the money value of the addition to a firm’s total output brought about by employing one more worker
elasticity of demand for labour
proportionate change in demand for labour following a change in the wage rate. The elasticity can be calculated by using the following formula: proportionate change in quantity of labour demanded/ proportionate change in the wage rate
elasticity of supply of labour
proportionate change in the supply of labour following a change in the wage rate. The elasticity can be calculated by using the following formula: proportionate change in quantity of labour supplied/ proportionate change in the wage rate
average cost of labour
total wage costs divided by the number of workers employed
marginal cost of labour
the addition to a firm’s total cost of production resulting from employing one more worker
monopsony
there is only one buyer in a market
monopsony power
the market power exercised in a market by the buyer of a good or the services of a factor production such as labour, even though the firm is not a pure monopsonist
trade union
a group of workers who join together to maintain and improve their conditions of unemployment, including their pay
collective bargaining
a process by which wage rates and other conditions of work are negotiated and agreed upon by a union or unions with an employer or employers
national minimum wage
a minimum wage or wage rate that must by law be paid to employees, though in many labour markets the wage rate paid by employers is above the national minimum wage
wage discrimination
paying different workers different wage rates for doing the same job
distribution of income
how income is divided between rich and poor, or between different groups in society, e.g. on a regional, age or gender basis
distribution of wealth
how wealth is divided between rich and poor, or between different groups in society, e.g. on a regional, age or gender basis
income
personal or household income is the flow of money a person or household receives in a particular time period
wealth
personal wealth is the stock of everything that a person or household owns at a particular point in time which has value
equality
when everyone is treated exactly the same. A completely equal distribution of income means that everybody has the same income
Lorenz curve
a graph on which the cumulative percentage of total national income or wealth is plotted against the cumulative percentage of population (ranked in increasing size of share). The extent to which the curve dips below a straight diagonal line indicates the degree of inequality of distribution
Gini coefficient
measures the extent to which the distribution of income or wealth among individuals or households within an economy deviates from a perfectly equal distribution
progressive taxation
a tax is progressive when, as income rises, a greater proportion of income is paid in taxation. The term can be applied to a particular tax such as income tax or to taxation in general
poverty
the state of being extremely poor and not having enough money or income to meet basic needs
absolute poverty
a condition characterised by severe deprivation of basic human needs, including food, safe drinking water, sanitation facilities, health, shelter, education and information. It depends not only on income but also on access to services.
relative poverty
occurs when income is below a specified proportion of average income, e.g. below 60% of median income
marginal tax rate
the tax rate levied on the last pound of income received. The term can be applied solely to income taxes or to all the taxes that a person or business pays
free-rider problem
a free rider is someone who benefits without paying as a result of non-excludability. Customers may choose not to pay for a good, preferring instead to free ride, with the result that the incentive to provide the good through the market disappears.
moral hazard
The tendency of individuals and firms, once insured against some contingency, to behave so as to make that contingency more likely.
competition policy
the part of the government’s microeconomic policy and industrial policy which aims to make goods markets more competitive. It comprises policy toward monopoly, mergers and restrictive trading practices.
competition and markets authority
government agency responsible for advising on and implementing UK competition policy
public ownership
ownership of industries, firms and other assets such as social housing by central government or local government. The state’s acquisition of such assets is called nationalisation.
privatisation
The transfer of assets from the public sector to the private sector
deregulation
the removal of previously imposed regulations
regulatory capture
occurs when regulatory agencies act in the interest of regulated firms rather on behalf of the consumers they are supposed to protect.
