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NCSU ARE 201 - Exam 1 Study Guide

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ARE 201 1st EditionExam # 1 Study GuideChapter 1:1. All economic analysis is based on a list of basic principles that apply to three levels of economic understanding.First: How individuals make choices.Second: How these choices interact.Third: How the economy functions overall.2. The principle of individual choice is the basis of economics. Everyone has to make choices about what to do and what not to do.3. Choices must be made because resources—anything that can be used to produce something else—are scarce. 4. Because you must choose among limited alternatives, the true cost of anything is what you must give up to get it— all costs are opportunity costs.5. Many economic decisions involve questions not of “whether” but of “how much.”Decision makers perform a trade-off at the margin—by comparing the costs and benefits of doing a bit more or a bit less. These are called marginal decisions, and the study of them, marginal analysis, plays a central role in economics.6. The study of how people should make decisions is also a good way to understand actual behavior. Individuals usually exploit opportunities to make themselves better off. If opportunities change, so does behavior: people respond to incentives.7. The property of interaction—how my choices depend on your choices, and vice versa—adds another level to economic understanding. 8. Interaction arise because there are gains from trade. By trading goods and serviceswith one another, members of an economy can all be made better off. Gains from trade come from specialization, in which individuals specialize in the tasks they are good at.9. Economies normally move toward equilibrium—a situation in which no individual can be made better off by taking a different action.10. There is often a trade-off between equity and efficiency. An economy is efficient if all opportunities to make some people better off without making other people worse off are taken. Equity, or fairness, is also desirable. 11. Markets usually lead to efficiency, with some well-defined exceptions.12. When markets fail and do not achieve efficiency government intervention can improve society’s welfare.13. One person’s spending is another person’s income.14. Overall spending in the economy can get out of line with the economy’s productive capacity, leading to recession or inflation.15. Governments have the ability to strongly affect overall spending, an ability they use in an effort to steer the economy between recession and inflation.Chapter 2:1. Almost all economics is based on models. An important assumption in economic models is the other things equal assumption, which allows analysis of the effect ofa change in one factor by holding all other relevant factors unchanged.2. One important economic model is the production possibility frontier. It illustrates opportunity cost, efficiency, and economic growth. There are two basic sources of growth: an increase in factors of production—resources such as land, labor, capital, and human capital, inputs that are not used up in production—and improved technology.3. Another important model is comparative advantage, which explains the source of gains from trade between individuals and countries. Everyone has a comparative advantage in something. Comparative advantage is often confused with absolute advantage, an ability to produce a particular good or service better than anyone else. 4. In the simplest economies, people barter or trade goods and services for one another—rather than trade them for money, as in a modern economy. The circular-flow diagram represents transactions within the economy as flows of goods, services, and money between households and firms. These transactions occur in markets for goods and services and factor markets. 5. Economists use economic models both for positive economics, which describes how the economy works, and for normative economics, which prescribes how the economy should work. Positive economics often involves making forecasts. Economists can determine correct answers for positive questions but typically not for normative questions, which involve value judgments. 6. There are two main reasons economists disagree. One, they may disagree about which simplifications to make in a model. Two, economists may disagree—like everyone else—about values.Chapter 3: 1. The supply and demand model illustrates how a competitive market works.2. The demand schedule shows the quantity demanded at each price and is represented graphically by a demand curve. The law of demand says that demand curves slope downward.3. A movement along the demand curve occurs when a price change leads to a change in the quantity demanded. When economists talk of increasing or decreasing demand, they mean shifts of the demand curve—a change in the quantity demanded at any given price. 4. There are five main factors that shift the demand curve:1. A change in the prices of related goods or services2. A change in income3. A change in tastes4. A change in expectations5. A change in the number of consumers5. The market demand curve for a good or service is the horizontal sum of the individual demand curves of all consumers in the market.6. The supply schedule shows the quantity supplied at each price and is represented graphically by a supply curve. Supply curves usually slope upward.7. A movement along the supply curve occurs when a price change leads to a changein the quantity supplied. When economists discuss increasing or decreasing supply, they mean shifts of the supply curve—a change in the quantity supplied atany given price. 8. There are five main factors that shift the supply curve:1. A change in input prices2. A change in the prices of related goods and services3. A change in technology4. A change in expectations5. A change in the number of producers9. The market supply curve for a good or service is the horizontal sum of the individual supply curves of all producers in the market.10. A movement along the supply curve occurs when a price change leads to a changein the quantity supplied. When economists discuss increasing or decreasing supply, they mean shifts of the supply curve—a change in the quantity supplied atany given price.11. There are five main factors that shift the supply curve:1. A change in input prices2. A change in the prices of related goods and services3. A change in technology4. A change in expectations5. A change in the number of producers12. The market


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