The Price System and Economic Problem Flashcards
What does MC tell you?
How many cassettes you have to give up for one CD
What does MB tell you?
How many cassettes you are willing to give up for each additional CD.
MB = ? = ?
MB = value = willingness to pay
What is the law of diminishing marginal benefit?
For each additional G+S, the value decreases at an increasing rate.
When MB>MC you will…
Increase your activity
When MB
Decrease your activity
When MB=MC you will…
Stop, you have reached equilibrium
What is a consumer’s goal?
To maximise satisfaction.
What is it called when a consumer maximises satisfaction?
Consumer equilibrium
What is a producer’s goal?
To maximise profit
What is it called when a producer maximises profit?
Consumer equilibrium
What is specialisation?
The tendency of the economic agents including countries to focus on the activities that require them to give up the smallest amount of other things
to concentrate on the activities in which opportunity costs are lowered
How does specialisation increase productivity?
Specialisation allows resources to be allocated to their best use
Specialisation leads to learning by doing, hence a larger amount of output could be produced and therefore per unit cost will decrease
How can countries decide on what to specialise in?
If they have absolute advantage
What is absolute advantage?
A country will have absolute advantage in the production of a good if it more of that good than another country, with the same resources.
Who can have absolute advantage and in what?
Individuals or nations can have absolute advantage in any or all goods?
Why did David Ricardo say not to look at absolute advantage?
It is false information
What did David Ricardo say we should use instead of absolute advantage?
Comparative advantage
What is comparative advantage?
The ability of a country to produce a good at a lower opportunity cost than another country.
What is the benefit of comparative advantage?
It allows you to automatically have comparative advantage in the production of one good, and straight away comparative disadvantage in the production of another. The other country is the exact opposite.
How do you measure opportunity cost?
Give up/gain
If the US could produce 30 cars or 40 computers, what is the opportunity cost of producing cars?
Give up/gain so 40/30 = 4/3 as you are giving up producing 40 computers in order to produce 30 cars
How can there be comparative advantage?
Because of resource endowment.
What is resource endowment?
The amount of land, labour, capital and entrepreneurship a country possesses and can exploit for manufacturing.
What does dynamic comparative advantage result from?
Learning by doing
What is dynamic comparative advantage?
People or nations can become more productive by simply repeatedly producing that good - learning by doing
What needs to exist to allow individuals and countries to gain from specialisation?
Institutions that allow them to engage in trade.
What are the two key social institutions for organising trade?
Property rights
Markets
What are property rights?
Social arrangements that govern the ownership, use and disposal of resources, goods and services.
What are the three types of property rights?
Real property
Financial property
Intellectual property
What is real property?
Land and buildings
What is financial property?
Stocks, bonds, money
What is intellectual property?
Inventions, products of creative efforts
Why should we protect property rights?
They are an incentive for research and development
What is a market?
Any arrangement that allows buyers and sellers to get information and do business with each other.
What do producers do when they have too much inventory and not enough demand? Why?
They bid down the price because storage is expensive so they want to get rid of the goods.
Demand = ? = ?
Demand = supply = equilibrium price
When demand > supply, what do consumers do?
Bid up the price
What will always ensure price equilibrium?
The invisible hand
When will the invisible hand not ensure price equilibrium?
When there is market failure
Money Price =
Px
Relative price =
the ratio of two money prices
Px/Py
Relative price = ? = ?
Relative price = opportunity cost = marginal cost
What does a circular flow diagram show?
The interactions between firms, households, goods and service market and factor of production market
How do households and firms interact through the G+S market in the circular flow diagram?
Households buy the output of goods and services that firms produce. Households pay firms for the goods and services they consume, in expenditure.
How do households and firms interact through the factor of production market in the circular flow diagram?
Households provide firms with land, labour, capital and entrepreneurship whilst firms give them rent, wages, interest and profit in return
What is it called when the output of one firm is the input of another?
Intermediate goods
What is it called when the output of one household is the input of another?
Household production
What is the double counting problem?
When one firms outputs is another firms inputs, the price should not be counted twice when calculating GDP.
How can you avoid the double counting problem?
Value added. It is the final output - input
What is money?
Anything that is widely excepted as a medium of exchange.
What was the system before money?
A bartering system
What’s wrong with a bartering system? What is this called?
Finding someone that has what you want and want what you have is very difficult, this is called the double coincidence of want.
What do we have to do in order to protect future generations?
Save
Saving =
Investment
how do governments encourage saving?
By giving you tax breaks if you save
If the government encourages saving, this must mean they want everyone to save, right?
No! This is the fallacy of composition. If everyone saved there would be no spending
What happens if the interest rate is too high/low?
Too high, bid down
Too low, bid up
Interest rate is…
A reward for saving, a cost for borrowing and the opportunity cost for spending.
