Paper 1 (* are also in Paper 2, ** are not in the spec) Flashcards
Ceteris paribus
The assumption that all other variables within the model remain constant whilst one change is being considered.
Basic economic problem
Wants are infinite whilst resources are scarce so choices have to be made on how to allocate resources.
Scarcity
There are not enough resources to satisfy all wants.
Opportunity cost
The value of the next best alternative foregone (given up) when making a decision.
Trade off
What is given up when making a choice.
Business objectives
What a business is trying to achieve e.g. profit, growth, survival, helping the community etc.
Stakeholder
Anyone interested in the activities or success of a business.
Corporate Social Responsibility
Where a firm does ‘more’ than the basic minimal legal requirement e.g. uses recycled packaging, plants trees to replace those lost etc.
Entrepreneur
Someone who has the skills and traits required (in particular the willingness to take calculated risks) to set up a business.
Creative destruction
Occurs when businesses innovate (something new, better, cheaper) and introduce strong competition. This threatens existing producers that have failed to adapt.
Factors of production / resources
The inputs to the production process: Capital, which is the stock of manufactured resources used in the production of goods and services;Entrepreneurs, individuals who seek out profitable opportunities for production and take risk in attempt to exploit these; Land, which is all natural resources; Labour, which is the workforce;
Non-renewable resources
Resources, such as coal or oil, which once exploited cannot be replaced.
Renewable resources
Resources, such as fish stocks or forests, which can be exploited over and over again because they have the potential to renew themselves.
Specialisation
When a firm asks workers to do a specific task repeatedly (division of labour) so workers become specialist. This means that for a given amount of input (labour) more is produced. This has close links to productivity.
Market
A place where buyers and sellers communicate to agree prices for goods and services.
Free market economy
An economic system which resolves the basic economic problem through the market mechanism aka the invisible hand. The outcome is that the market reaches the natural equilibrium where supply meets demand at a certain price.
Demand
The quantity that buyers are willing and able to purchase of a good at any given price over a period of time.
**Consumer surplus
The difference between how much buyers are prepared to pay for a good and what they actually pay.
Supply
The quantity of goods that suppliers are willing and able to sell at any given price over a period of time.
**Producer surplus
The difference between the market price which firms receive and the price which they are prepared to supply.
Complement
A good which is purchased with other goods to satisfy a want.
Substitute
A good which can be replaced by another to satisfy a want.
*Price elasticity of demand
The responsiveness of demand to a change in price.
*Price inelastic demand
Where the price elasticity of demand is less than 0. The responsiveness of demand is proportionally less than the change in price. Demand is infinitely inelastic if price elasticity of demand is zero.
*Price elastic demand
Where the price elasticity of demand is less than -1. The responsiveness of demand is proportionally greater than the chance in price.
*Cross elasticity of demand
A measure of the responsiveness of quantity demanded on one good to a change in price of another good. It is measured by dividing the percentage change in quantity demanded for one good by the percentage change in price of another good.
*Income elasticity
The responsiveness of demand to a change in income.
*Income elasticity of demand
A measure of the responsiveness of quantity demanded to a change in income. It is measured by dividing the percentage change in quantity demanded by the percentage change in income.
*Inferior good
A good where demand falls when income increases.
*Normal good
A good where demand increases when income increases.
*Luxury good
A good where demand increases rapidly when income increases.
**Price elasticity of supply
A measure of the responsiveness of quantity supplied to a change in price. It is measured by dividing the percentage change in quantity supplied by the percentage change in price.
Market research
The process of finding out what customers want. Can be quantitative (using numbers) or qualitative (using attitudes/feelings/opinions/emotions). Can be primary (collected yourself) or secondary (using research conducted by others).
Competition
Businesses fighting to supply the same customers as you. They may compete by being cheaper or better (extra features, higher quality etc.)
Market mapping
The process of identifying how different brands appeal to different market segments / groups of consumers.
Differentiation
The process of making your product / service / brand different to others in order to gain a competitive advantage.
Adding value
How a business persuades the customer to pay more for something than it cost to produce e.g. convenience/speed, quality service, good design/features, uniqueness, branding.
Revenue
Money received from sales. Price x quantity = Revenue.
Fixed costs
Costs that do not change in relation to quantity sold e.g. rent.
Variable costs
Costs that change in proportion to quantity sold e.g. raw materials.
Total costs
Fixed costs + variable costs.
Break even point
The quantity sold where revenue equals total costs.
Margin of safety
The difference between your break even point and your sales forecast.
Gross Profit
What is left of revenue after variable costs have been paid. Revenue – Variable Costs = Gross Profit.
Operating Profit
What is left of revenue after total costs have been paid. Revenue – Total Costs = Operating Profit.
Gross profit margin
The percentage of sales revenue left after variable costs have been paid. (Gross profit / sales revenue) x 100.
Operating profit margin
The percentage of sales revenue left after total costs have been paid. (Operating profit / sales revenue) x 100.
Profit and loss account
A document that shows the revenues, costs and profits of a business.
Cash
The money you have ‘in hand’ at a point in time.
Cash flow forecast
A document that predicts how much cash a business will have at a point in time.
Net cash flow
The difference between cash inflows and cash outflows in a period of time (normally a month).
Opening / closing balance
The amount of cash you start / end the month with.
Sources of credit
See ‘Role of financial sector’ for ones relating to banks. Trade credit, venture capital, crowd funding, peer-to-peer lending, share capital.
Market failure
When the market fails to allocate resources efficiently (there is a misallocation of resources).
Private cost and benefit
The cost or benefit of an activity to an individual or firm.
Social cost and benefit
The cost or benefit of an activity to society.
Externality
Where the actions of an individual or firm have an impact on society that they do not pay for (or are rewarded for).
Negative externality in production
Where social costs are greater than private costs e.g. a factory polluting the air.
Negative externality in consumption
Where social benefits are lower than private benefits e.g. listening to your phone on the train without headphones.
Positive externality in production
Where social costs are less than private costs e.g. production of solar panels.
Positive externality in consumption
Where social benefits are greater than private benefits e.g. planting a pretty tree/flower bed in your garden.
Merit good
A good that has positive externalities AND the consumer lacks information about their own private benefits e.g. education, immunisations.
De-merit good
A good that has negative externalities AND the consumer lacks information about their own private benefits e.g. smoking in the 1960s, junk food.
Market failure
Where the free market doesn’t result in an outcome that is at the social equilibrium. This means that there is a misallocation of resources.
Public good
A good that is non-excludable and non-rivalrous.
Quasi-public good
A good that does not fully have both characteristics of a public good.
Free rider
A person or organisation which receives benefits that others have paid for without making any contributions themselves.
Spectrum of competition
Perfect competition through to monopoly.
Barriers to entry / exit
Things that stop a firm from joining (or leaving) a market freely e.g. brand loyalty, high start-up costs, sunk costs (more linked to exit), patents, economies of scale of existing suppliers meaning they are far more competitive on price, existing supplier agreements (i.e. no access to raw materials or other factors of production such as technology or labour), regulation.
NB: economies of scale are a barrier but appear more fully in their own right in paper 2.
Contestability
A market is ‘contestable’ if barriers to entry are reasonably low i.e. firms are able to join and contest.
Marginal cost
The cost of producing the next unit.
Marginal revenue
The revenue received from selling another unit.
Diminishing marginal returns
Where the marginal amount reduces as scale increases.
Perfect competition
Where there are many buyers and many sellers, the product is homogenous and there is perfect information and no barriers to entry. Firms are attracted to short run abnormal profit, enter freely, drive down the price and in the long run P=MC and only normal profit is made.
Imperfect competition
As above but more realistic i.e. there are some barriers to entry in the short term and there is a degree of product differentiation. Long run abnormal profits are temporarily protected by barriers to entry but then prices are driven down by new entrants so only normal profits are made.
Oligopoly
A handful (3-7) of firms whose behaviour is interdependent. High barriers to entry prevent new entrants. There are three states: stable, price war or illegal collusion. Price wars are rare because only the consumer wins because all firms will match the price cut. Therefore, stable oligopoly is common because firms know that price cutting is not wise. This can be described as ‘tacit collusion’ – where firms don’t cut prices because they instinctively know it is not a good idea. Instead they compete on non-price factors such as quality, convenience or product range etc. In some cases illegal collusion takes place where firms meet to either set high prices to make long run abnormal profit and/or agree to not compete on certain contracts or in certain areas in order to effectively make the customer face a monopoly supplier. The firms involved in collusion are often known as a Cartel. Remember that you can calculate the n-firm concentration ratio of an oligopoly by adding together the market shares of the n number of firms.
Monopoly
One seller (a duopoly is two sellers). Very high barriers to entry mean that consumers can only buy from the incumbent supplier. The barriers to entry mean the supplier has no incentive to innovate or reduce prices or improve quality so consumer welfare is low. Long run abnormal profit is made.
Monopsony
A single buyer. The single buyer of something (e.g. the NHS is practically the single buyer of labour in nursing) has high market power and can use this to gain advantage over the suppliers by offering very low prices on a ‘take it or leave it’ basis.
Natural monopoly
An occasion where it actually benefits the consumer to have a monopoly. This is because having two suppliers would mean such as loss in economies of scale that actually prices would be higher with competition e.g. you wouldn’t lay two sets of water pipes to everyone’s house as infrastructure costs and maintenance would be the same but only half the revenue each.
Price discrimination
Where different groups of consumers are charged different prices for the same product e.g. on/off peak, OAP or student discount etc. Sellers are more likely to be able to do this if they have market power.
Allocative efficiency
Where P=MC and customer satisfaction is maximised.
Productive efficiency
Where firms produce at the bottom of their average cost curve (i.e. when they have had the chance to exploit their economies of scale).
Dynamic efficiency
Where firms have the incentive to innovate (to either increase quality/features or reduce costs).
Tax
Increases the price of consumption in order to reduce its attractiveness for a given marginal private benefit.
Subsidy
A grant given which lowers the price of a good, usually designed to encourage production or consumption of a good.
Regulation
Restricting consumption/production of a good or service by law. Also includes regulation to ensure markets are as competitive as possible e.g. preventing collusion and mergers or other restrictive practices e.g. product bundling that are not in the consumers interest (e.g. CMA refusing to approve the Asda-Sainsbury’s proposed merger and don’t forget there is an EU wide equivalent). Some industries attempt ‘self-regulation’ in (cynical) attempt to avoid being more tightly regulated by the government e.g. gambling – “When the Fun Stops, Stop” on all firms’ advertising.
Government provision
When the government decides to provide the good in an attempt to avoid private firms being able to abuse their market power (or in cases where the private sector is unwilling to provide even if there is demand for the good.
Information provision
Providing information about the costs or benefits of consumption in an attempt to change behaviour.
Tradeable permits
A market system that gives individuals or firms the right to consume/produce goods that have negative externalities.
Government failure
When government intervention has unintended consequences that cause market failures of their own.
Uncertainty
Any possible chance that is not predictable. There is no way to calculate its likelihood / probability.
Risk
Changes are expected and economists work to calculate the probabilities (often using historic data and models).
Insurance
Spreading risk by sharing the costs (i.e. everyone pays their premiums that pay for all of the collective claims).
Economic shock
Unexpected or unpredictable events that have a major impacts on national and international economies.
Role of the financial sector
Lending (including assessing creditworthiness), facilitating exchange, provide equity and forward/futures markets.
(lending sources of finance e.g. bank loan, overdraft, leasing, hire purchase, mortgage)
Central bank
Responsible for setting monetary policy (Monetary Policy Committee) and regulating the financial sector (Financial Policy Committee and Prudential Regulation Authority). Also is the lender of last resort.
Global financial crisis
Sub-prime mortgages offered, primarily in the US. Assets owned by financial institutions contained these debts, which had been rated AAA. Downturn meant people weren’t able to repay mortgages because house prices no longer rising. People defaulted on the debts. The AAA assets owned by financial institutions turned out to be almost worthless because the debt inside them wouldn’t be repaid in full. This meant the institutions’ balance sheets took a battering and they could no longer afford to lend. Lack of lending in the economy (the credit crisis) had a big negative impact on businesses and individuals.
Moral hazard
Knowing that you won’t have to pay for the costs of your reckless actions makes you more prone to taking risks that are unwise e.g. low excesses in insurance make you less bothered about locking your car or knowing that the government would bail them out, the banks acted irresponsibly with lending to sub-prime customers. This is linked to ‘Too big to fail’ - banks were accused of knowing that the government would have to bail them out to prevent an even bigger economic crisis.
