Unit 1.2 The Economic Problem

Question 1

What is resource allocation?

Answer 1

How the factors of production are shared out amongst different uses.

Question 2

Capitalism

Answer 2

A system of production where there is private ownership of productive resources. Individuals can pursue their preferences. Government doesn’t interfere.

Also known as the free-market economy.

Question 3

Adam Smith

1723-1790

Answer 3

Economist and Philisopher known as the father of Economics. He wrote the Wealth of Nations in 1776 and is seen as the founder of classical economics.

Question 4

‘Invisible hand’

Answer 4

Concept introduced by Adam Smith that by acting in self interest, agents help to allocate resource efficiently through the amrket mechanism.

Question 5

Free market economy

Answer 5

Market forces between consumers and firms guide the allocation within a society. Government has role of protecting property rights.

Question 6

Command Economy

Also known as a centrally planned economy

Answer 6

Where the government decided what is produced, how much is produced and the price. Government departments set targets for firms.

Communist Russia (USSR) is an example of this between 1920s and 1990.

Question 7

Karl Marx

Historian 1818-1883

Answer 7

Historian who developed the idea of Communism. He criticsed private ownership of productive resources. His ideas resulted in centrally planned economies.

Question 8

Mixed economy

Answer 8

An economy which has some free market forces and government intervention.

Question 9

Government intervention

Answer 9

When the government passes laws to tax or spend to provide goods, influence a market or regulate behaviours.

Question 10

Behavioural Economics

Answer 10

A field of economics which has developed since the 1970s looking at the psychology of decision making.

Question 11

Rational agent

Answer 11

This is the belief in classical economics that agents will make decisions to maximise utility, profit or social welfare.

Question 12

Rational decision making

Answer 12

based on perfect information, stable preferences, independent choices, maximising objectives.

Question 13

Bounded rationality

Answer 13

Economic agents are restricted by bias, lack of information, heuristics, cognitive processes so make the best decision they can.

Question 14

Heuristics

Answer 14

Short cuts economic agents use to find the ‘good enough’ outcome.

Question 15

Advantages of free market systems

Answer 15

Efficient allocation of resources, high quality goods, range of goods, innovation.

Question 16

Disadvantages of free market systems

Answer 16

Underprovision of some goods e.g. health care, education and inequality.

Question 17

Advantages of Command Economies

Answer 17

Socially optimal provision of education, health care. More equal distribution of wealth.

Question 18

Disadvantages of Command Economies

Answer 18

Inefficient allocation of resources, lack of innovation, low freedom.