Macroeconomics ECO2013 Comprehensive Final Exam Study Guide Chapter 1 The Economic Approach 1 What is economics a Economic is the study of how we make choices under scarcity b Choice the act of selecting among alternatives c Scarcity the concept that there is more of a good freely available in nature than people would like i Not the same as poverty scarcity is subjective ii Scarcity necessitates rationing 2 Resource an input that can be used to produce an economic good a Human Resource b Physical Resources c Natural Resources 3 The Economic Way of Thinking a Resources are scarce so decision makers must make trade offs i Opportunity Cost the highest valued alternative that must be sacrificed when making a decision b Individuals are rational they try to get the most from their limited resources ex The greatest benefit from the least possible cost c Incentives matter choice is influenced in a predictable way by changing incentives d Individuals make decisions at the margin i Marginal describes the effect of a change in the current situation ii Cost Benefit Analysis one will undergo an action when the marginal benefits exceed the marginal cost e Information helps us to make better choices but is costly f Beware of secondary effects Example of item D Olive Garden All you can eat soup salad and breadsticks 6 00 OR Chicken Parmesan soup salad and breadsticks 15 00 Should I get the 15 00 meal Marginal Cost MC 9 00 Marginal Benefit MB Chicken Parmesan economic actions generate both direct and indirect effects i Secondary Effects the indirect impact of an event or policy that Cost Benefit Analysis says you will purchase the larger meal if the MBs exceed the MCs may not be easily and immediately observable 1 g The value of a good or service is subjective because of this voluntary trade creates value h The test of a theory is it s ability to predict 4 Positive vs Normative Economics a Positive the scientific study of what is testable b Normative judgments about what people think out to be not testable 5 The Four Pitfalls of Economic Thinking a Violation of the ceteris paribus principle i Ceteris Paribus all other things constant b Good intentions do not lead to desirable outcomes c Association is not causation d The Fallacy of Composition the belief that what is good for one might be good for everyone 6 Microeconomics vs Macroeconomics a Microeconomics focuses on how human behavior affects the conduct of affairs within individually defined units as households or firms the individual trees in the forest b Macroeconomics focuses on how human behavior affects outcomes in highly aggregated markets the overview of the entire forest Chapter 2 Tools of the Economist 1 How Trade Creates Value better off a When individuals engage in voluntary trade both parties are made b Channeling goods and resources to those who value them most increases the wealth created by a society s resources 2 The Importance of Property Rights a Example rights that all property owners have The right to exclusive use of the property Legal protection against invasion from other individuals The right to sell transfer exchange or mortgage the property b Four incentives of private property rights The incentive to use resources in ways that are considered beneficial to others owners bear the cost of ignoring the wishes of others Private owners have an incentive to care for and manage what they own Private owners have an incentive to conserve for the future Private owners have the incentive to make sure that their property foes not damage your own i ii iii i ii iii iv c A lack of property rights leads to a lack of economic progress 3 The Production Possibilities Curve PPC 2 a PPC outlines all the possible combinations of total output that could be produced assuming 1 a fixed amount of productive resources 2 a given amount of technical knowledge and 3 full and efficient use of resources 4 Shifters of PPC a A change in the economy s resource base b Changes in technology i i Investment the purchase construction or development of resources Technology the knowledge available to an economy at any given time c Change in the rules under which the economy functions d A change in work habits 5 The Law of Comparative Advantage a The Law of Comparative Advantage the total output of a group of individuals an entire economy or a group of nations when the output of each good is produced by whoever has the lowest opportunity cost Example Japan vs U S A Who should produce what The Law of Comparative Advantage Corn 50 day 20 day Country U S A Japan Cars 10 day 5 day U S A should produce corn Japan should produce cars both have the lowest opportunity cost 3 6 Economic Organization a Every economic faces 3 questions i What will be produces ii How will it be produces iii For whom will it be produced b Capitalism a system of economic organization where i Productive resources are owned privately ii Goods and resources are allocated through market prices iii Market Organization a method of organization in which private parties make their own plans and decisions with the guidance of market prices c Socialism a system of economic organization where i Ownership and means of production rest with the state central planning ii Resource allocation is determined by central planning iii Collective Decision Making the method of organization that relies on public sector decision making to resolve economic questions Example Economic Organization Scale North Korea U S A Hong Kong Socialism Socialism Economic Growth Capitalism d Why capitalism tends to work i ii Capitalism is similar to natural selection concept of market efficiency Socialism suffers from an informative person 4 Chapter 3 Supply Demand The Market Process 1 The Demand Curve a The Law of Demand there is an inverse negative relationship between the price of a good and how much an individual will purchase downward sloping demand curve b Consumer Surplus the difference between the maximum amount consumers would be willing to pay and the amount they actually pay 2 Shifters of the Demand Curve a A change in consumer income i Normal Goods Demand increases if income increases ii Inferior Goods Demand decreases if income increases b A change in the number of customers i Demand goes up if the number of customers goes up c A change in the price of a related good i Demand goes up when the price of a complement good goes down d Change in expectations ii Demand goes up when the price of a substitute goes up 5 i If
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