T1.2 - Econ Flashcards
State 3 forms of irrationality
Weakness of computation
Habitual behaviour
Herd behaviour
Explain ‘Weakness of computation’
Consumers/producers fail to properly understand the costs & benefits of choices presented to them
Explain ‘Habitual behaviour’
Consumers/ Producers continue to behave in the same way over time even though better alternatives become available
Explain how consumers (households) rationalise
Use their income to maximise the fulfilment of their wants/needs
Consumers utility (=happiness) maximised
Explain how producers (firms) rationalise
They see to profit maximise
Define demand
Demand is the willingness and ability of consumers to purchase a good at a given price
Travel by bus is an example of a good for which demand decreases as income increases. This is referred to as a…
Inferior good
One explanation of the shape of a downward sloping demand curve is the law of diminishing marginal utility. What does this law suggest?
As consumers consume additional quantities of a good, the satisfaction derived from consuming each additional unit diminishes
What is utility?
Utility is a measure of satisfaction from consumption
What is marginal utility?
Marginal utility refers to the additional satisfacation or utility gained from consuming one more unit of a good or service
What is the law of diminishing marginal utility?
The law of diminishing marginal utility states that as a person consumes more units of a particular good or service while keeping the consumption of other goods constant gained from each additional unit will decrease
Define disutility
Disutility refers to the negative feelings, discomfort, or displeasure associated with certain activities, goods or services
When is total utility maximised?
Total utility for a single product is maximised when a consumer consumes the quantity of that product where the marginal utility is zero
What does the rational choice theory assume?
Rational choice theory assumes that consumers always behave rationally in allocating their limited budget between different products to maximise total satisfaction from purchases
What is the condition for maximising total utility?
MUA/PA = MUB/PB
Marginal utility/ Price of given product
Causes of shifts of a demand curve:
Changing prices of substitutes in competitive markets
Effects of advertising and marketing changing people’s tastes
Changes in the size and age structure of a nation’s population
Define Price Elasticity of Demand (PED)
Price elasticity of demand measures the responsiveness of the quantity demanded of a good or service to changes in its price
State the formula for PED
PED = %change in Quantity demanded/ Change in PRICE OF x
Factors affecting price elasticity of demand
Number of close substitutes
Habitual demand
Strength of customer brand loyalty
Define Income elasticity of demand (YED) & formula
YED measures the responsiveness of demand following a change in real income
Formula: %change in demand / %change in income
Describe Normal goods
Normal goods have a positive income elasticity of demand so as consumers’ income rises, more is demanded at each price
Describe inferior goods
Inferior goods have a negative income elasticity of demand meaning that demand falls as income rises
Examples of inferior goods
Urban bus transport
Cigarettes
Own-labels cereal
Economy foodstuff
Economy class travel
Describe normal luxury goods
Income elasticity of demand exceeds +1 so as incomes rise, the proportion of a consumer’s income spent on that product will go up
Describe normal necessities
YED is positive but less than 1
Describe normal necessities
XED measures responsiveness of the quantity demanded of one good to a change in the price of another related good
Do substitutes have a positive or negative XED
Positive
What is XED?
Cross price elasticity of demand
What is PED?
Price elasticity of Demand
What is YED & it’s formula?
Income elasticity of demand
%changeQd/% of income
Define supply
Supply is defined as the quantity of a good or service that producers are willing and able to supply at a given price
What is the law of supply?
The Law of Supply is that as the price of a product rises, so businesses expand supply
What is the standard theory?
Standard theory assumes that rational firms choose an output and price that aims to maximise profits
What is market supply?
Market supply is the total supply brought to the market by producers at each price
Cause of shifts in market supply curve
Changes in the unit costs of production
Lower unit cost - mean a business can supply more at each price
Higher unit cost - cause an inward shift of supply perhaps due to a rise wage rates
Define joint supply
Joint supply is where an increase or decrease in the supply of one good leads to an increase or decrease in supply of a by-product
Define Price Elasticity of Supply
PES measures the responsiveness of the quantity supplied of a good or service to changes in its price
Which two factors influence the position of the demand curve
Change in consumer income
Consumer preferences/tastes
State 6 factors that influence PED:
Number of close substitutes
Degree of necessity
Breadth of definition
Strength of customer brand loyalty
% of income
Habitual behaviour
What are the types of goods according to YED
<———————————————————>
Inferior goods (anything below 0)
Normal goods (Anything above 0)
Necessties (0-1)
Luxury goods (+1)
What are the types of goods according to XED?
<——————————————————->
<- Complemetary
-> Substitutes
Strong/close (-1 )
(-1 to 1) weak substitutes (inelastic)
Define substitutes
Substitutes are the same good or service that fulfil the consumers wants or needs of a similar good
Why is the demand curve downwards sloping?
Diminishing marginal utility due to as we consume more, we are less likely to pay less for each succesive unit
Why is the supply curve upwards sloping
As price increases, supply increases
What is the relationship between prices, revenue & PED?
When demand in price inelastic, a rise in price leads to a rise in total revenue
When demand in price elastic, a fall in price leads to a rise in total revenue
Why is it important for a business to understand its YED?
Helps firms predict the effect of changes in the macroeconomic cycle on their sales
Define consumer surplus
Consumer surplus is the difference between the total amount that consumers are willing and able to pay for a good or service and the total amount they actually do pay
What happens to consumer surplus when demand is inelastic?
When demand is inelastic, there is greater consumer surplus because there are some buyers willing to pay a very high price to continue consuming the product
What is Producer surplus?
Producer surplus is the difference between the price producers are willing & able to supply a good or service for and the price they actually recieve
What is price discrimination?
This is a way of turning consumer surplus into producer surplus
What is an indirect tax?
An indirect tax is a tax imposed by the government that increases the supply costs of producers
What are excise duties?
They are indirect taxes levied on three major categories of goods
Alcoholic drinks
Tobacco products & road fuels
What is the formula for tax revenue?
Consumer burden + producer nurden = tax revenue
What is ad valorem?
An ad valorem tax imposes a tax on a good or asset, depending on its value. The tax is usually shown as a percentage
What is progressive tax?
Progressive tax as income rises, so does the % paid in tax
Taxes the rich proportionally more than the poor
What is regressive tax?
Regressive tax is a tax imposed by a government which takes a higher percentage of someone’s income from those low incomes
This means that those with lower incomes pay more in tax relative to their income
What is the formula for the Real value
nominal value/ current index x new index
What is a Government subsidy?
A subsidy is any form of government support - financial or otherwise - offered to producers and (occasionally) consumers
What is price mechanism?
The price mechanism is a fundamental concept in economics that uses the forces of supply & demand to allocate resources and determine prices in a market economy
What are main functions of price mechanism?
1) Allocate - changing market prices allocate scarce resources among competing uses
2) Rationing - higher market prices serve to ration scarce resources when market demand outstrips supply
3) Signaling - prices adjust up or down to demonstrate where resources are required, and where they are not
4) Incentives - when the price of a product rises quantity supplied increases as businesses respond
