Sec.2 The allocation of resources Ch.5-15 Ian Flashcards
Microeconomics
The study of the behavior and decisions of households and firms and the performance of individual markets.
Macroeconomics
The study of the whole economy.
Market
An arrangement which brings buyers into contact with sellers.
Economic agents
Those who undertake economic activities and make economic decisions.
Private sector firms
Firms owned by shareholders and individuals.
Public sector firms
Firms owned by the state/government.
The 3 key allocation decisions
What to produce?
How to produce it?
Who is to receive the products produced?
Economic systems
The institutions, organizations and mechanisms that influence economic behavior and determine how resources are allocated.
Market economic system
An economic system where consumers determine what is produced, resources are allocated by the price mechanism, and land and capital are privately owned.
Price mechanism
The way the decisions made by households and firms interact to decide the allocation of resources.
Mixed economic system
An economy in which both the private and public sectors play an important role.
Planned economic system
An economic system where the government makes the crucial decisions, land and capital are state owned and resources are allocated by directives.
Directives
State instructions given to state owned enterprises.
Capital intensive
The use of a high proportion of capital to labour.
Labour intensive
The use of a high proportion of labour to capital.
The role of price mechanism
Price changes are determined by changes by the interaction of market forces of demand and supply in a market economy. Resources switch from products with less demand to those with more demand.
Market equilibrium
A situation where demand and supply are equal at the current price.
Market disequilibrium
A situation where demand and supply are not equal at the current price.
Normal good
A product whose demand increases when income increases and decreases when income falls.
Inferior good
A product whose demand decreases when income increases and demand increases when income falls.
Substitute
A product that can be used in place of anoter
Complement
A product that is used together with another product
Demand
The willingness and ability to buy a product.
Relation between demand and price
Inversely related: As price falls, demand will rise.
Market demand
Total demand for a product.
Aggregation
The addition of individual components to arrive at a total amount.
Extension in demand
A rise in the quantity demanded caused by a fall in the price of the product itself.
Contraction in demand
A fall in the quantity demanded caused by a rise in the price of the product itself.
Shifts/changes in demand
Shifts/changes in the demand curve.
Shift right/increase in demand
A rise in demand at any given price causing the demand curve to shift to the right.
Shift left/decrease in demand
A fall in demand at any given price causing the demand curve to shift to the left.
Causes of shifts/changes in demand
Changes in income, changes in the price of related products, advertising campaigns, changes in population, changes in taste and fashion, changes in weather, etc.
Supply
The willingness and ability to sell a product.
Relation between supply and price
Directly related: As price rises, demand will rise.
Market supply
The total supply of a product.
Extension in supply
A rise in the quantity supplied caused by a rise in the price of the product itself.
Contraction in supply
A fall in the quantity supplied caused by a fall in the price of the product itself.
Shifts/changes in supply
Shifts/changes in the supply curve.
Shift right/increase in supply
A rise in supply at any given price causing the supply curve to shift to the right.
Shift left/decrease in supply
A fall in supply at any given price causing the supply curve to shift to the left.
Causes of shifts/changes in supply
Improvement in technology, taxes, subsidies, weather conditions, health of livestock and crops, disasters, conflicts, discovery of new sources, depletion, prices of other products, etc.
Unit cost
The average cost of production (total cost/output).
Improvements in technology
Advances in the quality of capital goods and methods of production.
Taxes
Payments to the government.
Direct taxes
Taxes on the income and wealth of individuals and firms.
Indirect taxes
Taxes on goods and services.
Subsidies
A payment by the government to encourage the production or consumption of a product.
Equilibrium price
The price at which demand and supply are equal.
Disequilibrium
A situation where demand and supply are not equal.
Surplus
When there is an excess supply.
Scarcity
When there is an excess in demand.
Price elasticity of demand (PED)
A measure of responsiveness of the quantity demanded to a change in price (percentage change in quantity demanded/percentage change in price).
Elastic demand
When the quantity demanded changes by a greater percentage than the percentage change in price.
Inelastic demand
When the quantity demanded changes by a smaller percentage than the percentage change in price.
Determinants of PED
Availability, price, quality, and similarity of substitutes, proportion of income spent on product, whether the product is a luxury or normal good, the addictiveness of the product, uniqueness of the product, brand loyalty, etc.
Perfectly elastic demand
When a change in price causes a complete change in the quantity demanded (PED is infinity and the gradient of the demand curve is 0).
Perfectly inelastic demand
When the quantity demanded does not change when price changes (PED is 0 and the gradient of the demand curve in infinity).
Price elasticity of supply (PES)
A measure of the responsiveness of the quantity supplied to a change in price.
Elastic supply
When the quantity supplied changes by a greater percentage than the percentage change in price
Inelastic supply
When the quantity supplied changes by a smaller percentage than the percentage change in price
Determinants of PES
Time taken to produce the product, the cost of altering supply, and feasibility of storage.
Perfectly elastic supply
When a change in price causes a complete change in the quantity supplied (PES is infinity and the gradient of the demand curve is 0).
Perfectly inelastic supply
When quantity supplied does not alter with price changes (PES is 0 and gradient of the supply curve in infinity).
State-owned enterprises (SOEs)
Organizations owned by the government which sell products.
Privatisation
The sale of public sector assets to the private sector.
Market failure
Market forces resulting in an inefficient allocation of resources.
Advantages of a market economic system
Responsive to consumer demand, resource allocation based on consumer demand, availability of choice, lower prices and costs, higher quality, etc.
Disadvantages of a market economic system
Failure to take external benefits and costs into account, possibility of monopoly or oligopoly powers, lack of production and demand of public goods, distortion of consumer choice due to advertising, failure to achieve efficiency, increases in wage gaps, etc.
Productive efficiency
When products are produced at the lowest possible cost are and making full use of resources.
Dynamic efficiency
Efficiency that occurs over time as a result of investment and innovation.
Third parties
Those not directly involved in the production or consumption of a product.
Social benefits
The total benefits to a society of an economic activity (private benefits+external benefits).
Social costs
The total costs to a society of an economic activity (private costs+external costs).
Private benefits
Benefits received by those directly involved in the production or consumption of a product.
Private costs
Costs borne by those directly involved in the production or consumption of a product.
External benefits
Benefits received by those who are not involved in the production or consumption of others directly.
External costs
Costs borne by those who are not involved in the production or consumption of others directly.
Socially optimum output
The level of output where social cost equals social benefit and society’s welfare is maximized.
Merit goods
Products which generate positive externalities and the government considers consumers do not fully appreciate how beneficial they are and so which will be under-consumed if left to market forces.
Demerit goods
Products which generate negative externalities and the government considers consumers do not fully appreciate how harmful they are and so which will be over-consumed if left to market forces.
Private goods
Products which is both rival and excludable.
Public goods
Products which are non-rival and non-excludable and hence need to be financed by taxation. Prone to the free rider problem.
Free rider problem
The problem in which people consumes a good or service without paying for it.
Monopoly
When there is only 1 seller within a market.
Price fixing
When 2 or more firms agree to sell a product at the same price.
Maximum prices
A legally mandated maximum price typically set below market equilibrium with the intent to enable the poor to afford basic necessities. Often causes shortages, and introduces distribution tactics such as rationing.
Rationing
A limit on the amount the can be consumed.
Minimum prices
A legally mandated minimum price typically set above market equilibrium with the intent to encourage the production of a product. Often causes shortages, which forces governments or other bodies to purchase the surplus.
Nationalisation
Moving of ownership and control of an industry from a private sector to a public sector
Public corporation
A business organization owned by the government which is designed to act in the public interest.
Cost benefit analysis (CBA)
A method of assessing investment projects which takes into account, social costs and benefits.
