Tutor2u Glossary Theme 1 Flashcards
Behavioural economics
1.1.1 - Economics as a social science
Research that adds elements of psychology to traditional models in an attempt to better understand decision-making by investors, consumers and other economic participants.
Ceteris paribus
1.1.1 - Economics as a social science
To simplify analysis, economists isolate the relationship between two variables by assuming ceteris paribus – i.e. all other influencing factors are held constant.
Economic assumptions
1.1.1 - Economics as a social science
In his 1953 essay titled “The Methodology of Positive Economics, Milton Friedman explained why economists need to make assumptions to provide useful predictions. Friedman understood economics couldn’t use the scientific method as neatly as chemistry or physics, but he still saw the scientific method as the basis. Friedman stated economists would have to rely on “uncontrolled experience rather than on controlled experiment.”
Economic model
1.1.1 - Economics as a social science
A simplified representation of economic processes. This representation can be used to gain a better understanding of the theory.
Microeconomics
1.1.1 - Economics as a social science
Study of economics at the level of the individual firm, industry or consumer/household.
Unintended consequences
1.1.1 - Economics as a social science
Outcomes that are not the ones foreseen and intended by a purposeful action. In government intervention in markets there is usually at least one and often many unintended consequences partly because economics is a social science and we cannot predict accurately how producer and consumers will react.
Normative statements
1.1.2 - Positive and normative economic statement
Normative statements express an opinion about what ought to be. They are subjective statements - i.e. they carry value judgments. For example, the level of duty on petrol is unfair and unfairly penalizes motorists.
Positive statement
1.1.2 - Positive and normative economic statement
Objective statements that can be tested or rejected by referring to the available evidence. Positive economics deals with objective explanation. For example: “A rise in consumer incomes will lead to a rise in the demand for new cars.” Or “A fall in the exchange rate will lead to an increase in exports overseas.”
Value judgement
1.1.2 - Positive and normative economic statement
A view of the rightness or wrongness of something, based on a personal view.
Barter
1.1.3 - The economic problem
The practice of exchanging one good or service for another without using money.
Basic economic problem
1.1.3 - The economic problem
There are infinite wants but finite factor resources with which to satisfy them.
Capital goods
1.1.3 - The economic problem
Producer or capital goods such as plant (factories) and machinery and equipment are useful not in themselves but for the goods and services they can help produce in the future. Distinguished from “financial capital”, meaning funds which are available to finance the production or acquisition of real capital.
Constraints
1.1.3 - The economic problem
Limits to what we can afford to consume – we have to operate within a budget and therefore must make choices from those sets that are feasible/affordable. There is always a set of conceivable things that are actually available, and another set of that are not.
Economic agent
1.1.3 - The economic problem
A participant in an economic system – be it a consumer, business or the government.
Entrepreneur
1.1.3 - The economic problem
An entrepreneur is an individual who seeks to supply products to a market for a rate of return (i.e. a profit). Entrepreneurs will often invest their own financial capital in a business and take on the risks associated with a business investment
Factor incomes
1.1.3 - The economic problem
Factor incomes are the rewards to factors of production. Labour receives wages and salaries, land earns rent, capital earns interest and enterprise earns profit.
Factors of production
1.1.3 - The economic problem
Factors of production are the inputs available to supply goods and services:
* Land - Natural resources available for production
* Labour - The human input into the production process
* Capital - goods used in the supply of other products e.g. technology, factories and specialized machinery
* Enterprise - Entrepreneurs organise factors of production and take risks
* Know-how - Information required to develop, produce and bring products to the market.
Finite resources
1.1.3 - The economic problem
There are only a finite number of workers, machines, acres of land and reserves of oil and other natural resources on the earth. By producing more for an ever increasing population, we may destroy the natural resources of the planet.
Free goods
1.1.3 - The economic problem
Free goods do not use up any factor inputs when supplied. Free goods have a zero-opportunity cost i.e. the marginal cost of supplying an extra unit of a free good is zero.
Inputs
1.1.3 - The economic problem
Labour, capital and other resources used in the production of goods and services.
Interest
1.1.3 - The economic problem
Interest is the reward to the ownership of capital.
Land
1.1.3 - The economic problem
Natural resources available for production
Labour
1.1.3 - The economic problem
Physical and mental effort by humans.
Manufacturing
1.1.3 - The economic problem
The use of machines, tools and labour to make things for use or sale. The is most commonly applied to industrial production, in which raw materials are transformed into finished goods on a large scale.
Needs
1.1.3 - The economic problem
Humans have many different types of wants and needs - economic, social and psychological. A need is essential for survival; food satisfies hungry people. A want is something desirable but not essential to survival e.g. cola quenches thirst.
Non-renewable resources
1.1.3 - The economic problem
Non-renewable resources are resources which are finite and cannot be replaced. Minerals, fossil fuels and so on are all non-renewable resources.
Opportunity cost
1.1.3 - The economic problem
The cost of any choice in terms of the next best alternative foregone.
Rationing
1.1.3 - The economic problem
Rationing is a way of allocating scarce goods and services when market demand exceeds available supply. There are many ways of rationing including by price, by consumer income, by assessment of need, by education level and by age, gender, nationality
Renewable resources
1.1.3 - The economic problem
Renewable resources (in theory) are replaceable if the rate of extraction of the resource is less than the natural rate at which the resource renews. Examples of renewable resources are solar energy, oxygen, biomass, fish stocks and forestry.
Rent
1.1.3 - The economic problem
Rent is income typically associated with the ownership of land, but which can also include rental income from leasing out other assets such as cars, capital equipment.
Scarcity
1.1.3 - The economic problem
Scarce means limited. There is only a limited amount of resources available to produce the unlimited amount of goods and services we desire.
Allocative efficiency
1.1.4 - Production possibility frontiers
Allocative efficiency occurs when the value that consumers place on a good or service (reflected in the price they are willing and able to pay) equals the cost of the resources used up in production.
Capital goods
1.1.4 - Production possibility frontiers
Producer or capital goods such as plant (factories) and machinery and equipment are useful not in themselves but for the goods and services they can help produce in the future. Distinguished from “financial capital”, meaning funds which are available to finance the production or acquisition of real capital.
Concave production possibility frontier
1.1.4 - Production possibility frontiers
A concave PPF is “bowed outwards”. This means there is a rising marginal opportunity cost as you produce more of one good. This is because there is imperfect factor mobility. E.g. labour/land/capital is more suited towards the production of one good than another.
Consumer goods
1.1.4 - Production possibility frontiers
Goods bought and used by consumers and households. They are the end result of manufacturing.
Economic efficiency
1.1.4 - Production possibility frontiers
Economic efficiency is about making best or optimum use of our scarce resources among competing ends so that economic and social welfare is maximised over time.
Economic growth
1.1.4 - Production possibility frontiers
An increase in the productive potential of a country – shown by an outward shift of the production possibility frontier
Pareto efficiency
1.1.4 - Production possibility frontiers
In neoclassical economics, an action done in an economy that harms no one and helps at least one person. A situation is Pareto efficient if the only way to make one person better off is to make another person worse off.
Production possibility frontier
1.1.4 - Production possibility frontiers
A boundary that shows the combinations of two or more goods and services that can be produced using all available factor resources efficiently.
Productive potential
1.1.4 - Production possibility frontiers
The amount of output an economy could produce if all of its resources were fully and efficiently employed.
Trade-off
1.1.4 - Production possibility frontiers
A trade-off implies that choices have to be made between different objectives of policy for example a trade-off between economic growth and inflation.
Adam Smith
1.1.5 - Specialisation and the division of labour
One of the founding fathers of modern economics. His most famous work was the Wealth of Nations (1776) - a study of the progress of nations where people act according to their own self-interest - which improves the public good. Smith’s discussion of the advantages of division of labour remains a potent idea.
Alienation
1.1.5 - Specialisation and the division of labour
A sociological term to describe the estrangement many workers feel from their work, which may reduce their motivation and productivity. It is sometimes argued that alienation is a result of the division of labour because workers are not involved with the satisfaction of producing a finished product, and do not feel part of a team.
Division of labour
1.1.5 - Specialisation and the division of labour
The specialization of labour in specific tasks, intended to increase productivity.
Measure of value
1.1.5 - Specialisation and the division of labour
A function of money where it can be used to judge the value of a good or service.
Medium of exchange
1.1.5 - Specialisation and the division of labour
Money is any asset that is widely acceptable as a medium of exchange when buying goods and services in markets. It facilitates transactions between buyer and seller.
Method of deferred payment
1.1.5 - Specialisation and the division of labour
A function of money that allows a system of making payments at a later date.
Money
1.1.5 - Specialisation and the division of labour
Money is defined best by what money does. Money – in its various forms – fulfils various key functions including a medium of exchange, a unit of account, a store of value and a standard of deferred payment.
Specialisation
1.1.5 - Specialisation and the division of labour
A method of production where a business or area focuses on the production of a limited scope of products or services to gain greater productive efficiency.
Standard of deferred payment
1.1.5 - Specialisation and the division of labour
A function of money - the accepted way, in a given market, to settle a debt.
Store of value
1.1.5 - Specialisation and the division of labour
A function of money in that it can be used to save and be exchanged at a later time
Unit of account
1.1.5 - Specialisation and the division of labour
A function of money, a nominal unit of measure or currency used to value/cost products, assets (e.g. houses), debts, incomes and spending.
Adam Smith
1.1.6 - Types of economies
One of the founding fathers of modern economics. His most famous work was the Wealth of Nations (1776) - a study of the progress of nations where people act according to their own self-interest - which improves the public good. Smith’s discussion of the advantages of division of labour remains a potent idea.
Capitalist economy
1.1.6 - Types of economies
An economic system organised along capitalist lines uses market-determined prices to guide our choices about the production and distribution of goods. One key role for the state is to maintain the rule of law and protect private property.
Command economy
1.1.6 - Types of economies
An economic system where most factor resources are allocated by the government, with few officially sanctioned private markets (e.g. ex-Soviet bloc countries prior to their transition into market economies, modern-day North Korea and Venezuela).
Consumer sovereignty
1.1.6 - Types of economies
Consumer sovereignty exists when an economic system allows scarce resources to be allocated to producing goods and services that reflect the wishes of consumers. Sovereignty can be distorted by the effects of persuasive or misleading advertising.
Economic planning
1.1.6 - Types of economies
Government policies aimed at influencing trends in the economy.
Economic system
1.1.6 - Types of economies
An economic system is a network of organisations used to resolve the problem of what, how much, how and for whom to produce
Free market
1.1.6 - Types of economies
System of buying and selling that is not under the control of the government, and where people can buy and sell freely, or an economy where free markets exist, and most companies and property are not owned by the state.
Friedrich Hayek
1.1.6 - Types of economies
An Anglo-Austrian economist and philosopher best known for his criticisms of the Keynesian welfare state. His approach stems from the Austrian school of economics and emphasises the limited nature of knowledge. 1899 – 1992
Karl Marx
1.1.6 - Types of economies
A German philosopher, economist and political theorist. He was a hugely influential thinker and co-authored the pamphlet ‘The Communist Manifesto’ which was published in 1948 and asserted that all human history has been based on class struggles, but that these would ultimately disappear with the victory of the proletariat. 1818 – 1883.
Mixed economy
1.1.6 - Types of economies
Where resources are partly allocated by the market and partly by the government
Planned economy
1.1.6 - Types of economies
In a planned economy, decisions about what to produce, how much to produce and for whom are decided by central planners working for the government rather than allocated using the price mechanism.
Transition economies
1.1.6 - Types of economies
Transition economies are involved in a process of moving from a centrally planned economy to a mixed or free market economy.
Behavioural economics
1.2.1 - Rational decision making
Research that adds elements of psychology to traditional models in an attempt to better understand decision-making by investors, consumers and other economic participants.
Incentives
1.2.1 - Rational decision making
Incentives matter enormously in any study of microeconomics, markets and market failure. For competitive markets to work efficiently economic agents (i.e. consumers and producers) must respond to price signals in the market.
Income
1.2.1 - Rational decision making
Income represents a flow of earnings from using factors of production to generate an output of goods and services. For example, wages and salaries are a factor reward to labour and interest is the flow of income for the ownership of capital.
Invisible hand
1.2.1 - Rational decision making
Adam Smith - one of the founding fathers of modern economics, described how the invisible or hidden hand of the market operated in a competitive market through the pursuit of self-interest to allocate resources in society’s best interest.
Market incentives
1.2.1 - Rational decision making
Signals that motivate economic actors to change their behaviour perhaps in the direction of greater economic efficiency.
Profit maximisation
1.2.1 - Rational decision making
The assumption that producers wish to produce an output that will create maximum profit levels.
Rational choice
1.2.1 - Rational decision making
Rational choice involves the weighing up of costs and benefits and trying to maximise the surplus of benefits over costs.
Utility
1.2.1 - Rational decision making
Utility is a measure of the satisfaction that we get from purchasing and consuming a good or service.
Utility maximisation
1.2.1 - Rational decision making
The assumption that consumers behave rationally in allocating their limited budget between different products so as to maximise total satisfaction from their purchases.
Consumer goods and services
1.2.2 - Demand
Consumer goods and services help satisfy our needs and wants directly
There is a sub-division between:
* Consumer durables: Products that provide a steady flow of satisfaction / utility over their working life (e.g. a washing machine or using a smartphone).
* Consumer non-durables: Products that are used up in the act of consumption e.g. drinking a coffee or turning on the heating)
* iii) Consumer services: E.g. a hair cut or ticket to a show or sporting event.
Demand
1.2.2 - Demand
Quantity of a good or service that consumers are willing and able to buy at a given price in a given time period.
Demand curve
1.2.2 - Demand
A demand curve shows the relationship between the price of an item and the quantity demanded over a period of time. For normal goods, more of a product will be demanded as the price falls.
Diminishing marginal utility
1.2.2 - Demand
Marginal utility is the change in satisfaction from consuming an extra unit of a good or service. Beyond a certain point, marginal utility may start to fall (diminish). If marginal utility becomes negative, then consuming an extra unit will cause total utility to fall.
Effective demand
1.2.2 - Demand
Demand in economics must be effective. Only when a consumers’ desire to buy a product is backed up by an ability to pay for it do we speak of demand.
Law of demand
1.2.2 - Demand
The law of demand is that there is an inverse relationship between the price of a good and demand. As prices fall, we see an expansion of demand. If price rises, there should be a contraction of demand.
Perverse demand curve
1.2.2 - Demand
A perverse demand curve is one which slopes upwards from left to right. Therefore,an increase in price leads to an increase in demand. This may happen where goods are strongly affected by price expectations.
Willingness to pay
1.2.2 - Demand
The maximum price a consumer is prepared pay to obtain a product.
Complements
1.2.3 - Price, income and cross elasticities of demand
Two complements are said to be in joint demand. Examples include fish and chips, iron ore and steel, hardware and software for digital products.
Cross price elasticity of demand
1.2.3 - Price, income and cross elasticities of demand
Responsiveness of demand for good X following a change in the price of good Y (a related good). With cross price elasticity, we make an important distinction between substitute products and complementary goods and services.
-ve - complements
+ve - subsitues
Derived demand
1.2.3 - Price, income and cross elasticities of demand
Derived demand is demand that comes from (is derived) from the demand for something else. Thus, the demand for machinery is derived from the demand for consumer goods that the machinery can make. If there is low demand for consumer goods, there is low demand for the machinery that can make them. Demand for bricks is derived from spending on new construction projects.
Elastic demand
1.2.3 - Price, income and cross elasticities of demand
Demand for which the coefficient of price elasticity of demand is greater than 1.
Income elasticity of demand
1.2.3 - Price, income and cross elasticities of demand
Measures the relationship between a change in quantity demanded and a change in real income..
Inelastic demand
1.2.3 - Price, income and cross elasticities of demand
When the coefficient of price elasticity of demand is less than 1. (Ped<1)
Inferior good
1.2.3 - Price, income and cross elasticities of demand
When demand for a product falls as real incomes increases. Income elasticity is negative.
Luxury good
1.2.3 - Price, income and cross elasticities of demand
Luxury goods and services have an income elasticity of demand with a coefficient of more than +1 i.e. a 5% rise in real incomes might lead to an increase in demand of 20% giving a coefficient of YED of +4
Necessities
1.2.3 - Price, income and cross elasticities of demand
Necessities typically have a low own-price elasticity of demand (consumers are not sensitive to a change in price) and a low but positive income elasticity of demand (YED >0 but <+1). Examples might include milk, cereals, toothpaste and bread.
Normal goods
1.2.3 - Price, income and cross elasticities of demand
Normal goods have a positive income elasticity of demand. Necessities have a coefficient of income elasticity of demand of between 0 and +1. Luxuries have income elasticity > +1 demand rises more than proportionate to a change in income.
Price elasticity of demand
1.2.3 - Price, income and cross elasticities of demand
Price elasticity of demand measures the responsiveness or sensitivity of demand for a product following a change in its own price.
Real income
1.2.3 - Price, income and cross elasticities of demand
The money earned from employment after the distorting effects of inflation have been removed.
Substitutes
1.2.3 - Price, income and cross elasticities of demand
Goods in competitive demand that act as replacements for another product.
Total revenue
1.2.3 - Price, income and cross elasticities of demand
The amount of money earned by a firm from selling its output. TR = P X Q
Unit elasticity of
demand
1.2.3 - Price, income and cross elasticities of demand
A demand curve with unitary price elasticity has a coefficient of PED equal to 1 (unity) throughout. Total spending on the product will be the same at each price level. Government intervention will not affect total spending on the product.
Unrelated goods
1.2.3 - Price, income and cross elasticities of demand
Goods or services that have no relationship between them in which case the cross price elasticity of demand will be zero
Competitive supply
1.2.4 - Supply
Goods in competitive supply are alternative products a firm could make with its resources. E.g. a farmer can plant potatoes or carrots. An electronics factory can produce smart-phones or smart-watches. Land has many uses – e.g. commercial/residential.
Excess supply
1.2.4 - Supply
When supply is greater than demand and there are unsold goods in the market. Surpluses put downward pressure on the market price.
Law of supply
1.2.4 - Supply
The law of supply is that there is a positive relationship between the price of a good and supply. As prices rise, we see an expansion of supply. If price fall, there should be a contraction of supply
Market supply
1.2.4 - Supply
Market supply is the total amount of an item producers are willing and able to sell at different prices, over a given period of time e.g. one month. Industry, a market supply curve is the horizontal summation of all each individual firm’s supply curves.
Supply
1.2.4 - Supply
Quantity of a good or service that a producer is willing and able to supply onto the market at a given price in a given time period.
Supply chain
1.2.4 - Supply
Different stages of making, distributing and selling a good or service from the production of parts, through to distribution and sale of the product.
Supply curve
1.2.4 - Supply
The relationship between market price and quantity supplied onto the market.
Elastic supply
1.2.5 - Elasticity of supply
Where the coefficient of price elasticity of supply is greater than +1.
Elasticity of supply
1.2.5 - Elasticity of supply
Price elasticity of supply measures the relationship between change in quantity supplied and a change in market price.
Inelastic supply
1.2.5 - Elasticity of supply
When the coefficient of price elasticity of supply is less than +1. (Pes<1)
Price elasticity of supply
1.2.5 - Elasticity of supply
Price elasticity of supply (PES) measures the relationship between change in quantity supplied and a change in price. Supply responds positively to price, so PES is always positive.
Disequilibrium
1.2.6 - Price determination
Prices where demand and supply are out of balance are points of disequilibrium. There is either excess demand (market prices too low) or excess supply (market prices too high).
Equilibrium
1.2.6 - Price determination
Equilibrium means ‘at rest’ or ‘a state of balance’ - i.e. a situation where there is no tendency for change. The concept is used in both microeconomics (e.g. equilibrium prices in a market) and also in macroeconomics (e.g. equilibrium national income).
Excess demand
1.2.6 - Price determination
A situation where quantity demanded is greater that quantity supplied.
Excess supply
1.2.6 - Price determination
A situation where quantity supplied is greater than quantity demanded.
Health rationing
1.2.6 - Price determination
Health rationing occurs when the demand for health care services outstrips the available resources leading to waiting lists and delays for health treatment.
Shortage
1.2.6 - Price determination
A situation in which quantity demanded is greater than quantity supplied.
Incentives
1.2.7 - Price mechanism
For competitive markets to work efficiently economic agents (i.e. consumers and producers) must respond to price signals in the market.
Price mechanism
1.2.7 - Price mechanism
The means by which decisions of consumers and businesses interact to determine the allocation of resources. The free-market price mechanism clearly does NOT ensure an equitable distribution of resources and can lead to market failure.
Price signals
1.2.7 - Price mechanism
Changes in price act as a signal about how resources should be allocated. A rise in price encourages producers to switch into making that good but encourages consumers to use an alternative substitute product (therefore rationing the product).
Rationing
1.2.7 - Price mechanism
A rising price can reduce the quantity demanded of a good or service.
Signalling
1.2.7 - Price mechanism
Prices have a signalling function because the price in a market sends important information to producers and consumers.
Community surplus
1.2.8 - Consumer and producer surplus
Community surplus is the sum of consumer and producer surplus at a given market price and output. Community surplus is maximised in competitive markets at an equilibrium output when price = marginal cost.
Consumer surplus
1.2.8 - Consumer and producer surplus
A measure of the welfare that people gain from consuming goods and services, or a measure of the benefits they derive from the exchange of goods. Consumer surplus is the difference between the total amount that consumers are willing and able to pay for a good or service (indicated by the demand curve) and the total they pay (the market price)
Producer surplus
1.2.8 - Consumer and producer surplus
The difference between what producers are willing and able to supply a good for and the price they actually receive. The level of producer surplus is shown by the area above the supply curve and below the current market price.
Ad valorem tax
1.2.9 - Indirect taxes and subsidies
An indirect tax based on a percentage of the sales price of a good or service. An increase in an ad valorem tax causes an inward shift in the supply curve.
Alcohol duties
1.2.9 - Indirect taxes and subsidies
Excise duties on alcohol are a form of indirect tax and are chargeable on beer, wine and spirits according to their volume and/or alcoholic content.
Black market
1.2.9 - Indirect taxes and subsidies
An illegal market in which the market price is higher than a legally imposed price ceiling. Black markets can develop where there is excess demand (or a shortage) for a product.
Direct tax
1.2.9 - Indirect taxes and subsidies
A tax on income and wealth e.g. income tax or corporation tax where the burden of the tax cannot be passed on to someone else.
Emission tax
1.2.9 - Indirect taxes and subsidies
A charge made to firms that pollute the environment based on the quantity of pollution they emit i.e. the volume of CO2 emissions.
Excise duties
1.2.9 - Indirect taxes and subsidies
Excise duties are indirect taxes levied on our spending on goods and services such as cigarettes, fuel and alcohol. There are also duties on air travel, car insurance.
Incidence of a tax
1.2.9 - Indirect taxes and subsidies
How the final burden of a tax is shared out. If demand for a good is price elastic and a tax is imposed, then the tax may fall mainly on the producer as they will be unable to put prices up without losing a lot of demand.
Indirect tax
1.2.9 - Indirect taxes and subsidies
An indirect tax is imposed on producers (suppliers) by the government. Examples include excise duties on cigarettes, alcohol and fuel and also value added tax.
Specific tax
1.2.9 - Indirect taxes and subsidies
A specific tax is a set tax per unit imposed by the government, a good example is the specific tax (duty) on fuel sold in the UK.
Subsidy
1.2.9 - Indirect taxes and subsidies
Payments by the government to suppliers that reduce their costs. The effect of a subsidy is to increase supply and therefore reduce the market equilibrium price.
Tax incidence
1.2.9 - Indirect taxes and subsidies
The manner in which the burden of an indirect tax is shared between participants in the market i.e. consumers and producers.
Unit tax
1.2.9 - Indirect taxes and subsidies
A specific tax per unit sold e.g. the duty on a litre of fuel might be 80 pence.
Behavioural economics
1.2.10 - Alternative views of consumer behaviour
Research that adds elements of psychology to traditional models in an attempt to better understand decision-making by investors, consumers and other economic participants.
Computational weakness
1.2.10 - Alternative views of consumer behaviour
Irrationality arises when consumer’s decisions are dominated by computational weakness. This occurs when consumers find it difficult to calculate the probability of something happening when they make purchasing decisions. For example, people may underestimate the long-term health consequences of eating processed meats or relying heavily on prescription painkillers.
Habitual consumption
1.2.10 - Alternative views of consumer behaviour
Habitual behaviour occurs when people have strong default choices. Repeat choices / purchases often become automatic because default choices don’t involve much mental (cognitive) effort. To get people to change behaviour may require compelling incentives perhaps from government intervention through taxes and subsidies.
Herd behaviour
1.2.10 - Alternative views of consumer behaviour
When individuals in a group act collectively without centralised direction.
Externalities
1.3.1 - Types of market failure
Externalities are third party effects arising from production and consumption of goods and services for which no appropriate compensation is paid.
Information gap
1.3.1 - Types of market failure
Information gaps exist when either the buyer or seller does not have access to the information needed for them to make a fully informed decision. For example, risks from using tanning salons, the complexity of pension schemes, uncertain quality of second-hand products and knowledge of the nutritional content of foods and drinks.
Market failure
1.3.1 - Types of market failure
Market failure exists when the competitive outcome of markets is not efficient from the point of view of the economy as a whole. This is usually because the benefits that the market confers on individuals or firms carrying out a particular activity diverge from the benefits to society as a whole.
Public goods
1.3.1 - Types of market failure
Pure public goods are non-rival – consumption of the good by one person does not reduce the amount available for consumption by another person, and non excludable – where it is not possible to provide a good or service to one person without it being available for others to enjoy.
Deadweight loss
1.3.2 - Externalities
The loss in producer and consumer surplus due to an inefficient level of production perhaps resulting from market failure or government failure.
External benefit
1.3.2 - Externalities
A benefit to a 3rd party agent arising from production and/or consumption.
External cost
1.3.2 - Externalities
External costs are those costs faced by a third party for which no appropriate compensation is forthcoming. Identifying and then estimating a monetary value for air and noise pollution is a difficult exercise - but one that is important for economists concerned with the impact of economic activity on our environment.
Externalities
1.3.2 - Externalities
Externalities are third party effects arising from production and consumption of goods and services for which no appropriate compensation is paid.
Marginal external benefit (MEB)
1.3.2 - Externalities
Benefit to third parties from the consumption of extra unit of output.
Marginal external cost (MEC)
1.3.2 - Externalities
Cost to third parties from the production of an additional unit of output.
Marginal private benefit (MPB)
1.3.2 - Externalities
Benefit to the consumer of consuming an extra unit of output.
Marginal private cost (MPC)
1.3.2 - Externalities
Cost to the producing firm of producing an additional unit of output.
Marginal social
benefit (MSB)
1.3.2 - Externalities
Total benefit to society from consuming an extra unit, MSB = MPB + MEB
Marginal social cost (MSC)
1.3.2 - Externalities
Total cost to society of producing an extra unit of output. MSC = MPC + MEC.
Negative
externality
1.3.2 - Externalities
Negative externalities occur when production and/or consumption impose external costs on third parties outside of the market for which no appropriate compensation is paid. This causes social costs to exceed private costs.
Net social benefit
1.3.2 - Externalities
A measurement of the net impact of an investment project found by estimating the social costs and benefits. Net social benefit may be considered by a government when deciding which project(s) offers the best potential return for society.
Positive externalities
1.3.2 - Externalities
Positive externalities exist when third parties benefit from the spill-over effects of production/consumption e.g. the social returns from investment in education & training or the positive benefits from health care and medical research.
Private benefit
1.3.2 - Externalities
The rewards to individuals, firms or consumers from consuming or producing goods and services. Also known as internal benefit.
Private cost
1.3.2 - Externalities
Costs of an economic activity to individuals and firms. Also known as internal costs
Social benefit
1.3.2 - Externalities
The benefit of production or consumption of a product for society as a whole. Social benefit = private benefit + external benefit.
Social cost
1.3.2 - Externalities
The cost of production or consumption of a product for society as a whole. Social cost = private cost + external cost.
Social efficiency
1.3.2 - Externalities
The socially efficient output is where Social Marginal Cost (SMC) = Social Marginal Benefit (SMB).
Spill-over effects
1.3.2 - Externalities
External effects of economic activity, which have an impact on outsiders who are not producing or consuming a product – these can be negative (creating external costs) or positive (creating external benefits).
Excludability
1.3.3 - Public goods
Property of a good whereby a person can be prevented from using it if they do not pay.
Free rider problem
1.3.3 - Public goods
Because public goods are non-excludable it is difficult to charge people for benefitting once a product is available. The free rider problem leads to under provision of a good and thus causes market failure. Free riders have no incentive to reveal how much they are willing and able to pay for a public good
because they can enjoy benefit without paying.
Global public goods
1.3.3 - Public goods
Global public goods benefit every country, irrespective of which ones provide them – they have become more important recently. Examples might include: Security from war, violence, and crime, the rule of law, property rights, and contract enforcement, eradication of smallpox, Ebola and other diseases.
Missing market
1.3.3 - Public goods
Missing markets are associated with the difficulties that the free market has in providing pure public goods. Public goods are non-excludable meaning that the benefits derived from them cannot be confined solely to those who have paid for it. Non-payers can enjoy the benefits of consumption at no financial cost to themselves (aka free riders).
Non excludability
1.3.3 - Public goods
A characteristic of public goods. Benefits derived from pure public goods cannot be confined solely to those who have paid for it. This gives rise to the free-rider problem.
Non-rival consumption
1.3.3 - Public goods
Non-rivalry means that consumption of a good by one person does not reduce the amount available for others. Non-rivalry is one of the key characteristics of a pure public good.
Public goods
1.3.3 - Public goods
Pure public goods are non-rival – consumption of the good by one person does not reduce the amount available for consumption by another person, and non excludable – where it is not possible to provide a good or service to one person without it being available for others to enjoy.
Quasi-public good
1.3.3 - Public goods
A quasi-public good is a near-public good. It has some of the characteristics of a public good. Quasi-public goods are:
* Semi-non-rival: up to a point, more consumers using a park, beach or road do not reduce the space available for others. But eventually beaches become crowded as do parks/leisure facilities. Open-access Wi-Fi networks become crowded.
* Semi-non-excludable: it is possible but difficult or costly to exclude non-paying consumers. E.g. fencing a park or beach and charging an entrance fee; or building toll booths on congested road routes.
Tragedy of the Commons
1.3.3 - Public goods
When no one owns a resource, it may get over-used, for example fish stocks and deforestation - people use and benefit from a common pool resource such as grazing land without regard to the effects on others. Over-use of a renewable resource can lead to a long-term decline in maximum sustainable yield.
Asymmetric information
1.3.4 - Information gaps
Where parties have unequal access to information in a market.
Information failure
1.3.4 - Information gaps
Information failure occurs when people have inaccurate, incomplete, uncertain or misunderstood data and so make potentially ‘wrong’ choices.
Symmetric information
1.3.4 - Information gaps
For markets to work, there needs to be symmetric information i.e. consumers and producers have the same level of knowledge about the products, and they know everything there is to know about them and the effects of consuming them.
Government information
1.4.1 - Government intervention in markets
Campaigns and sources of information used in order to correct a market failure and/or influence consumer behaviour. An example would be the ‘Don’t drink and drive’ campaigns.
Maximum price
1.4.1 - Government intervention in markets
A legally imposed maximum price in a market that suppliers cannot exceed - in an attempt to prevent the market price from rising above a certain level. To be effective a maximum price has to be set below the free market price.
Minimum price
1.4.1 - Government intervention in markets
A legally imposed price floor below which the normal market price cannot fall. To be effective the minimum price has to be set above the normal equilibrium price.
Polluter pays principle
1.4.1 - Government intervention in markets
The government may choose to intervene in a market to ensure that the firms and consumers who create negative externalities include them when making their decisions e.g. first parties are forced to internalise external costs & benefits through indirect taxes
FF
Pollution permits
1.4.1 - Government intervention in markets
Permits allocated in an emissions trading system, for example each permit in the EU trading scheme allows a business to pollute 1 tonne of CO2.
Price ceiling
1.4.1 - Government intervention in markets
A price ceiling is a regulated maximum price in a market – sellers cannot legally offer the product for sale at a price higher than the ceiling. To be effective, a ceiling must be set below the normal free market equilibrium price.
Price floor
1.4.1 - Government intervention in markets
A price floor is a minimum price for example a minimum wage in the labour market. Sellers cannot legally under-cut the price floor.
Regulated prices
1.4.1 - Government intervention in markets
Not all prices are set by the free-market forces of supply and demand. In Britain, a number of prices are affected by regulators who may impose a pricing formula on suppliers. Good examples are rail fares, the cost of postage stamps and water bills.
Regulation
1.4.1 - Government intervention in markets
Government rules and laws that can control the behaviour of producers or consumers in a market.
State provision
1.4.1 - Government intervention in markets
Government-provided good or services - funded through tax revenue to provide goods which have positive externalities or are public goods.
Government failure
1.4.2 - Government failure
Policies that cause a deeper market failure. Government failure may range from the trivial, when intervention is merely ineffective, to cases where intervention produces new and more serious problems that did not exist before.
Net welfare loss
1.4.2 - Government failure
An overall loss of economic welfare when compared to the starting position.
Regulatory capture
1.4.2 - Government failure
A form of government failure, happens when a government agency operates in favour of producers rather than consumers
Unintended consequences
1.4.2 - Government failure
A cause of government failure whereby the government’s actions result in unexpected effects. For example, in the 1960s the government cut spending on railway infrastructure and built roads instead. This caused a significant rise in car transport, which in turn has led to a rise in the demand for trains because the roads are so congested.
