Revision Flashcards
(114 cards)
1
Q
Capitalism
A
- Private property: can exclude others and if you sell/gift it to someone it becomes their property.
- Markets: exchange of goods between buyers and sellers.
- Firm: organised production of goods/services, pay wages to employees, direct employees in production, sell goods on markets to make a profit.
2
Q
Capitalism decentralises
A
Limites powers of governments and of other individuals in the process of owning, buying and selling.
3
Q
Capitalism centralises
A
Concentrates power in the hands of owners and managers of firms who are then able to secure the cooperation of large number of employees in a production process.
4
Q
Properties of a dynamic economic system
A
Economic properties:
- Secure private property.
- Competitive markets.
- Leadership acquired by merit in the firm.
Political properties:
1. Government policies to determine the above.
5
Q
Gini coefficient
A
Measure of inequality.
0 = everyone has the same income, i.e. no inequality
1 = single individual has all the income, i.e. maximum inequality.
Based on the Lorenz curve.
Taxes can be used to redistribute income and lower the Gini coefficient.
6
Q
An economic model
A
A simplified description of a situation: what determines peoples actions, how the actions affect others, the outcome of those actions.
A good model is: clear, predicts accurately and is useful in improving the economy.
7
Q
Ceteris parabus
A
Less is more, keeping all else equal.
8
Q
Economic rent
A
The benefits received from a choice, taking into account the next best alternative (reserve option).
9
Q
Rents drive the innovation process
A
- Private property: entitles to rents.
- Markets: competition means that firms that don’t innovate will fall behind.
- Firms: successful innovation will lead to expansion and increasedI profits.
10
Q
Isocost line
A
Line along which all combinations of workers and materials would cost the same amount.
11
Q
Key driver of the industrial revolution in the UK
A
Previously, technology was labour intensive. The high relative wage in Britain created a incentive to innovate more capital intensive technologies.
Cost of wages relative to energy and capital goods increased first in the UK, and at the same time energy costs were falling.
12
Q
Malthus’ law
A
If theres unlimited subsistence then populations will continue to increase but will eventually reach a level where further population growth pushes down incomes as a result of diminishing average product of labour. This leads to living standards falling and slows population growth. Incomes then settle at the subsistence level and is in equilibrium.
Need a trigger to cause incomes to rise initially, e.g. a good harvest or new technology
13
Q
Malthusian trap
A
Higher real wage -> more children -> lower death rates -> population growth -> forces real wage down -> fewer children
But the permanent technological revolution means that this model no longer applies.
14
Q
Marginal product
A
Change in output per unit change in input.
15
Q
Average product
A
Average output per unit of input.
16
Q
Opportunity cost
A
Choices are dependent on constraints and involve trade-offs. The opportunity cost of an action is the net benefit of the next best alternative action.
Compare economic cost (money + subjective cost)
17
Q
Feasible frontier
A
Maximum attainable output for a given input.
18
Q
Marginal rate of transformation
A
Slope of the feasible frontier.
What you have to give up to get another unit.
19
Q
Marginal rate of substitution
A
The slope of the indifference curve.
The trade-off that a person is willing to make between two goods.
20
Q
Game theory and climate change
A
The game:
- 2 stages (i) membership stage where countries decide independently and simultaneously whether to join the coalition (ii) emissions stage where members and non members decide how much abatement to do; coalition members cooperate with each other to maximise their common welfare; non signatories determine their own emissions independently.
- Continuous strategy choices
Large number of signatories if marginal benefit from cooperation is steep and marginal cost is flat, but in that case the benefit from cooperation is small since costs are low enough that countries will already be doing a lot of abatement on their own.
If there are large gains to cooperation then there will also be large gains to free riding which will mean that there are large incentives to defect and overall a small number of signatories.
21
Q
Repeated games
A
Altruistic strategies can prevail as long as players are far sighted. This could be the case for climate change negotiations.
22
Q
Economies of scale occur when
A
Doubling all production inputs more than doubles outputs.
23
Q
Network effects
A
Value of output rises with number of users
24
Q
Cost functions
A
Show how total costs vary with the quantity produced
25
If marginal cost = average cost
Zero economic profit
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Profit maximising
Where MRT of the demand curve (will be downwards sloping) = MRS of the isoproft curve (where the isoprofit curve touches the demand curve).
Also when margins revenue (downwards sloping) = marginal costs (upwards sloping).
27
Demand curve
Quantity consumers will buy at each price (the firms feasible set)
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Isoprofit curves
Price-quantity combinations that give the same profit
29
Marginal revenue
Change in revenue from selling one additional unit
30
Consumer surplus
The total difference between WTP (shown by the demand curve) and the purchase price.
31
Producer surplus
The total difference between revenue and marginal cost (an upwards sloping line/curve).
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Total surplus
Consumer + producer surpluses.
Highest when demand (downward sloping) equals marginal cost (upwards sloping).
33
Deadweight loss
A loss of total surplus relative to a Pareto efficient outcome.
34
Pareto efficiency
An allocation with the property that there is no alternative technically feasible allocation in which at least one person would be better off, and nobody worse off.
35
Price elasticity of demand
Degree of responsiveness (of consumers) to a change in price.
Elasticity = -% change in demand / % change in price
>1 : demand is elastic
<1 : demand is inelastic
36
Price elasticity and profits
Firm markup (profit margin as a proportion of the price) is inversely proportional to elasticity of demand.
37
Elasticity equations
Elasticity of demand curve = (P / Q) * (1 / Slope)
Therefore slope of demand curve = (P / Q) * (1 / Elasticity)
Slope of isoprofit curve = -(P - MC) / Q
Therefore: (P - MC) / Q = (P / Q) * (1 / Elasticity)
Therefore: (P - MC) / P = (1 / Elasticity)
38
Price taker
Characteristics of consumers and producers who cannot benefit from transacting at any price other than the market price.
They have no power to influence the market.
Choose output where MC = P.
They are unable to choose P.
Demand curve is completely flat.
Supply curve = marginal cost curve.
39
Perfect competition
- All transactions take place at a single price.
- Supply = demand.
- No buyer or seller can benefit from altering the price, i.e. price takers.
- All potential gains from trade are realised.
40
Competitive equilibrium
Occurs when all buyers and sellers are price takers and supply = demand (market clearing).
The market clears.
41
Competitive equilibrium is Pareto efficient if
- All participants are price takers
- Contracts between buyers and sellers are complete
- No externalities
42
Market entry
- In the short run costs of entry prevent new firms from entering the market. Existing firms make normal profits.
- In the long run, new firms can enter. Supply increases which lowers profits for all firms.
- In the long run competitive equilibrium, the marginal costs of every firm equals the market price. All firms make normal profits.
43
Taxes
Shift the supply/demand curve and lower the total surplus. Introduces deadweight loss.
Can raise welfare if tax revenue is used to provide beneficial goods/services.
44
Market equilibrium
Excess supply or demand causes rent seeking behaviour on the short side of the market. The market reaches a new equilibrium via voluntary trades on the shore side.
Market equilibrium through rent seeking.
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Financial markets differ from goods markets
- Trades take place continually and prices are always changing.
- Prices fluctuate according to: buyers believes about future profits and speculation (buying with the intention of reselling at a higher price)
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Price bubble
Sustained and significant rise in an assets price due to expectations of future price increases.
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Stationary economic rents
Arise in equilibrium and are persistent.
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Dynamic economic rents
Occur in disequilibrium and are eliminated through the rent-seeking process.
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Causes of market failure
- Asymmetric information
- Lack of competition
- Incomplete contracts
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Possible solutions to market failure
- Taxes / subsidies
- Property rights
- Information sharing
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External cost
A negative effect on an economic decision that is not specified in the contract (e.g. pollution)
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Marginal social cost
Total external cost to society.
If this is greater than the marginal private cost then more than is socially optimal will be produced.
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Marginal private benefit
Cost to the producer
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Coasian bargaining
Private bargaining between parties involved will result in a Pareto efficient allocation regardless of which party has the property rights, in the absence of transaction costs.
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Transaction costs (for Coasian bargaining)
Costs of acquiring information, enforcing the contract, collective action etc make Coasian bargaining infeasible,
56
Government policies
- Regulation of production
- Taxes
- Enforcing compensation
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Pigouvian tax
Tax on firms generating negative external effects, in order to correct an inefficient market outcome.
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Pure public good
Non-rival and non-excludable
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Non-rival good
No additional cost to provide the good to one more person
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Non-excludable good
Its use by one person does not reduce its availability to others
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Veblen effect
People care about what they have in absolute terms
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Positional goods
Valued more because they are expensive.
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Hidden action
Actions or one party are not completely observable by another interest party, e.g. in labour markets effort is unobservable.
Creates a moral hazard.
64
Hidden attribute
Some attributes of the person/product involved in an exchange is not know to the other parties, e.g. second hand cars - only the seller knows the quality.
Create adverse selection.
65
Limited competition
Firma may be able to set a price greater than marginal costs because of:
- Limited competition, e.g. selling a differentiated product.
- Decreasing long run average costs due to economies of scale.
Not Pareto efficient therefore market failure.
66
Repugnant markets
Creating a market for a certain good/service would violate ethical/social norms, e.g. body parts.
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Merit goods
Goods that should be available to everyone independently of their ability to pay, e.g. education.
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Externalities
Third party is affected by another persons production or consumption.
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Social marginal cost
Private marginal cost + marginal external cost
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Social marginal benefit
Private marginal benefit + marginal external benefit
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Negative externality in production, e.g. emitting CO2
MEC > 0
| SMC > PMC
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Positive externality in production, e.g. R&D
MEC < 0
| SMC < PMC
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Negative externality in consumption, e.g. driving a car
MEB < 0
| SMB < PMB
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Positive externality in consumption, e.g. walking
MEB > 0
| SMB > PMB
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Public policy to correct externalities
- Command and control: regulate behaviour directly through legislation, incentives/quotas
- Market based policies: provide incentives so that private decision makers will choose to solve the problem on their own though corrective taxes and subsidies or carbon/pollution trading.
76
Command and control - disadvantages
- Costs may differ between firms and/or consumers which may not be accounted for.
- Uncertainty over MSB/MPB and MSC/MSB curves (required to set optimal equilibria).
- Political costs.
- Difficult to write in law and once passed difficult to change when technology progresses or pollution impacts change.
- Allocation mistakes are not self-correcting.
77
Taxation - disadvantages
- Taxation may not internalise all externalities (demand subject to other influences)
- Taxation can internalise externalities only if transaction costs (cost of implementing the taxation system) are sufficiently low.
78
Taxation - advantages
Achieves efficient level of outcome without having to write a different law for each producer.
79
Coasian bargaining - advantages
- By assigning property rights to pollution, the government allows the market to correct the externality.
- The economic efficiency achieved does not depend on who receives the property rights, although this will affect the distribution of profits across the producers.
- This allocation problem explains why it is difficult to implement cap and trade markets.
80
Multiplier model
Relative magnitude of change in output following an initial change in demand.
Taxes and imports reduce the multiplier effect.
81
Investment spending
A firms decision will depend on:
- Owners discount rate
- Interest rate on assets
- Net profit rate on investment.
A firm will invest when the net profit rate on investment is greater then the discount rate and interest rate.
82
Aggregate investment function
Shows how overall investment spending depends on the discount rate and net profit rate on investment
83
Aggregate demand =
Co + C1 ( 1 - t ) Y + I ( r ) + G + X + mY
84
Dampening mechanise to offset shocks
- Automatic stabilisers - characteristics of the tax and transfer system in an economy that have the effect of offsetting an expansion or contraction of the economy, e.g. unemployment benefit, proportional tax system.
- Stabilising policy - fiscal or monetary.
- Privately individuals can smooth their consumption.
85
Amplifying mechanisms that can reinforce shocks
- Credit contraints which limit an individuals ability to smooth consumption.
- Rising value of collateral (house price) can increase wealth above target level and raise consumption.
- Policy mistakes such as limiting the scope of automatic stabilisers in a recession, running deficits during low economic demand periods while not running surpluses during booms.
86
Comparative advantage
A country has a comparative advantage to some other country in the production of the good for which it has the greatest absolute advantage, or lease productivity disadvantage.
87
Economies of agglomeration
Cost reductions from locating close to other firms in the same or similar industry.
88
Absolute advantage
Use fewer inputs to produce a good
89
Specialisation
When an entity produces a narrower range of goods than it consumes, acquiring the rest through trade.
90
Reasons for specialisation
- Comparative advantage
- Economies of agglomeration
- Economies of scale
91
Winners and losers of specialisation
Short run:
- Depends on relative scarcity of inputs
- Relatively abundant factors within a country are relatively cheap and gain when trade raises their prices towards the world average.
- The price of relatively scarce factors falls towards the world average due to trade.
Long run:
- Similar labour market effects as technological progress.
- Initial unemployment, then in the medium term growth in the export industry creates new jobs with the long run adjustment process depending on how much the wage curve shifts by.
92
Rodrik's trilemma
Globalisation brings new policy challenges and must give up either sovereignty or democracy.
Hyperglobalisation: no political or cultural barriers to the flow of goods and investment
Democracy: liberty & equality
Sovereignty: pursue the policies that one chooses
93
Hyperglobalisation & democracy
- Global market rules, race to the bottom (wages), global market failures (e.g. pollution), macroeconomic instability.
- Demands for global governance that compromise nationally differentiated policies.
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Hyperglobalisation & sovereignty
- Global market rules, race to the bottom (wages), global market failures (e.g. pollution), macroeconomic instability.
- Hyperglobalisation can only survive if democracy does not.
95
Democracy & sovereignty
- "Domestic globalisation", i.e. national economic policies must be effective, leading to...
- Limits on labour and capital mobility.
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Globalisation can promote growth
- Competition with foreign firms accelerates the rate of technological progress.
- Economies of scale due to foreign demand allows for lower production costs, which benefits workers, owners, buyers.
97
Globalisation can limit growth
- Disadvantageous specialisation - specialising in low innovation sectors cal slow growth.
- Learning by doing in infant industries may lead to temporary tariff protection.
98
Infant industry
A relatively new industrial sector in a country that has relatively high costs, because its recent establishment means that it has few benefits from learning by doing, its small size deprives it of economies of scale, or a lack of similar firms means that it does not benefit from economies of agglomeration. Temporary tariff protection of an infant industry may increase productivity in an economy in the long run.
99
Environmental policy choices
- Cap and trade
- Regulation
- Quantity
100
Social cost benefit analysis
Apply monetary values to all positive and negative consequences
101
Pareto improvement
Reallocation of resources that makes at least one individual better off without making anyone worse off.
102
Cost benefit analysis via integrated assessment models
1. Build (or borrow) an IAM and use to estimate all the impact of climate change, mitigation and adaptation.
2. Put monetary values on these impacts. But often don't know what the price is.
3. Aggregate all monetary costs and benefits.
103
Stern review key findings
- All countries affected - poorest countries earlier and more.
- Potential scale of damage is very large
- Costs of action are less than the costs of inaction
- Delays in action are dangerous.
- Greatest market failure the world has ever seen.
- Global collaboration/action is required.
104
Discount rate
- Key to the findings in the Stern review.
- Used 1.4%
- Critics argues it should have used 4.4%.
Stern incorporated:
- Technological progress, e.g. might make future generations richer therefore should not value the benefits that they receive as highly as we value the costs.
- Extinction of the human species: future generations may not exist.
- He takes the view that all generations are equally worthy of our concern.
Critics also included:
- Impatience - measure of how people value future vs present consumption.
- Take the view that future generations are less worthy of our concern than the current generation.
105
Problems with IAMs
- Poor evidence base
- Low damage levels
- Deficient in modelling nature and scale of risks and damage
- Overestimation of cost of action
106
Ethics of climate change
- Fundamental question that economists can't avoid addressing due to immense damages, conflicts, loss of life
- Moral philosophy - strong action is morally required
- Intergenerational ethics
- Intragenerational ethisch (distribution of damages, responsibilities)
- Double inequity - rich countries caused most of the damage of the emissions but poor countries are being hit the hardest.
107
How can we manage the ethics? Discounting
- Argue that future generations will be much worse off than us therefore give them a higher weight (negative discount rate?)
- Market rate of return? Does not reflect ethical decisions.
- Pure time discounting of future welfare or lives places lower weight on a future life that is otherwise identical - difficult to justify ethically
108
Impact of technological advances on feasible set
Enlarge it by making abatement more efficient or reducing the environmental costs of consumption
109
Achieving desired abatement
- Education - shifts up and right the marginal private benefit of abatement
- Taxes, subsidies etc - shifts down and right the marginal private cost of abatement
110
First best policy
- Both tax and cap and trade can be first best policies (achieve maximum efficiency).
- Sometimes first best policy isn't feasible.
- Therefore second best becomes the most efficient policy among the feasible policies.
111
Tax vs cap and trade
- When emissions are uncertain there may be deadweight loss - whether this will be more from tax or cap and trade depends on whether it is a recession or boom, and the steepness of the marginal damage curve.
- But policy probably not designed with uncertainty in mind, more likely to be political.
- Cap and trade likely to have higher transaction costs than taxes.
112
Cap and trade issues
- Policy makers need to set the correct total level of abatement which isn't easy to determine.
- Putting a price on pollution may send the wrong message by making in profitable.
113
Carbon markets and competitiveness
- CC forces companies to rethink their strategy.
- Require important transformation of the economy.
- Companies need to anticipate this and understand how exposed they are to carbon emissions both upstream and downstream.
- Involves calculating their carbon footprint.
- Recipes for successful business still the same.
- Lobbying is fundamental in this sector and industry associates are heavily engaged in public policy making.
- Companies may react strategically to CC policies in a variety of ways depending on how affected they are, from marginal changes to radical transformations.
- Policy makes need to anticipate companies' reactions and think about solutions to avoid possible negative employment consequences.
114
Paradox of the thrift
Worried about debt/losing jobs at an individual level then think you need to save but if everyone does that then the economy slows down and leads to unemployment leading to a vicious cycle.
