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U of M ECON 1101 - Definitions of Key Concepts

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Definitions of Key ConceptsEcon 1101 Section 042Konstantin GolyaevDepartment of Economics, University of MinnesotaDecember 12, 2007AbstractThis document contains the most important definitions for the concepts we usethroughout the course. I plan to update it periodically as we move along. You areassumed to know the definitions in this document.Some extra comments that are inside might help to clarify those definitions thatare not quite obvious.1Contents1 General Terms 32 Trade 43 Consumer Problem 53.1 Indifference Curves and Budget Lines . . . . . . . . . . . . . . . . . . . . . 53.2 Demand . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73.3 Elasticity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 84 Producer Choice 94.1 Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94.2 Profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 115 Supply and Demand Equilibrium 125.1 Supply . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125.2 Equilibrium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125.3 Government Policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 135.4 Welfare Measurement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 146 Perfect Competition 157 Monopoly 168 Monopolistic Competition and Oligopoly 179 Game Theory 1810 The Limitations of the Markets 2021 General TermsDefinition 1 Economics – a social science that studies the choices a society makes whenresources are scarce.For this definition to make sense we should know what are resources and what does itmean for resources to be scarce. Which brings us to the following definitions.Definition 2 Resources – the instruments provided by nature or by people that are usedto create goods and services. We also refer to those as inputs or factors of production.Economists usually group all resources into three groups:1. Land (and other natural resources like soil, minerals, water)2. Labor (i.e. human labor)3. Capital (mostly things created by people like factories and machines)Definition 3 Scarcity – means that resources are limited (wants are greater than theresources available to satisfy those wants).Now the definition of Economics should make sense, but this a very broad definition.As you probably already know, there are two subfields in economics, Microeconomics andMacroeconomics. Micro like microscope, focuses on small details individual units. Macro– larger scale, focuses on many individuals acting together, as aggregate units.Definition 4 Microeconomics – the study of how individual households (or consumers)and firms make decisions.Definition 5 Macroeconomics – the study of the behavior of the overall economy (eco-nomic aggregates).Aggregating means many things are all added together.Definition 6 Economic model – a simplified, small-scale version of some aspect of theeconomy. Usually expressed in equations, graphs or just words.3Definition 7 Opportunity costs – the value of the next best alternative that must be givenup because of the decision.Definition 8 Output – the goods and services a firm (or economy in general) produces.Definition 9 Optimal decision – one that best serves the objectives of the decision maker,whatever those could be. This optimal decision is selected by comparison with the possiblealternative choices.Some people tend to make a mistake and interpret the word ”optimal” as a synonymof ”good”. This is in general a mistake, because in economics optimality bears no con-notation of good and evil – it is just a term that means what the definition states, andnothing more than that.Definition 10 Efficiency – a term that refers to a situation that is efficient. A set ofoutputs is efficient if, given the technology available, there is no way to produce largeramounts of any output without giving up some quantity of any other output.Again, like in the case with the word ”optimal”, there is no connotation with this word.In particular, efficiency and equality are two completely different terms – see Homework1 for a problem that explores this issue.Definition 11 Allocation of resources – decision on how to divide up the scarce resources(inputs) among the different outputs that are produced.2 TradeDefinition 12 Production Possibilities Frontier – a curve that shows the different com-binations of various goods that a producer can turn out, given the available resources andtechnology.Definition 13 Absolute advantage (AA) – country X has AA over country Y if bothcountries X and Y can produce the same good and X can produce more of this good thanY can.4Definition 14 Comparative advantage (CA) – country X has CA over country Y if bothcountries X and Y can produce the same good and X can produce this good less inefficiently(i.e. with lower opportunity costs) than Y can.A good example that illustrates this principle would be me and some hypothetical ladycalled Linda, who is a very gifted doctor. Maybe she is also good as a lecturer in ourclass, but the idea behind the principle of comparative advantage is that Linda shouldnot try to teach the class, because I would be a terrible doctor, so I am less inefficient inteaching than Linda.3 Consumer Problem3.1 Indifference Curves and Budget LinesDefinition 15 Total utility – (from given quantity of good X, measured in money terms)– the maximum amount of money that consumer is willing to give up to exchange for thisquantity of good X.Definition 16 Marginal utility – (from extra unit of good X, measured in money terms)– the maximum amount of money that consumer is willing to give up to get this extra unitof good X.Definition 17 Law of diminishing marginal utility – additional units of a commodity areworth less and less to the consumer in money terms. An equivalent way to say this is tosay that as the quantity of a commodity consumed by the consumer goes up, the marginalutility of each additional unit of this good decreases.Definition 18 Marginal analysis – method for calculating optimal choices (i.e. choicesthat best promote the decision-maker’s objectives). It works by testing whether, and byhow much, a small change in a decision will move things towards or away from the goal.Definition 19 Bundle – a term we use as a shorthand for the possible combination ofcommodities.5Definition 20 Budget Line – graphical representation …


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