Scarcity: limited nature of society’s resourcesEconomics: the study of how society manages its scarce resourcesPrinciple 1: People Face Trade-offs:The more a society spends on national defense to protect its shores from foreign aggressors, the less it can spend on consumer goods to raise the standard of living at homeGuns vs. butter exampleAnother tradeoff society faces is between efficiency and equalityEfficiency: the property of society getting the most it can from its scarce resourcesEquality: the property of distributing economic prosperity uniformly among the members of societyPrinciple 2: The Cost of Something is What you Give up to Get itOpportunity cost: whatever must be given up to obtain some itemPrinciple 3: Rational People Think at the MarginRational People: people who systematically and purposefully do the best they can to achieve their objectivesMarginal change: a small incremental adjustment to a plan of actionPrinciple 4: People Respond to IncentivesIncentive: something that induces a person to act, such as the prospect of a punishment or rewardPrinciple 5: Trade Can Make Everyone Better OffTrade between two countries can make each country better offTrade allow countries to specialize in what they do best and enjoy a greater variety of goods and servicesPrinciple 6: Markets are Usually a Good Way to Organize Economic EconomyA market economy is an economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and servicesFirms decide whom to hire and what to make and households decide which firms to work for and what to buy with their incomesThe firms and households interact in the marketplace, where prices and self-interest guide their decisionPrinciple 7: Governments Can Sometimes Improve Market Outcomesproperty rights: the ability of an individual to own and exercise control over scarce resourcesmarket failure: a situation in which a market left on its own fails to allocate resources efficientlyexternality: the impact of one person’s actions on the well-being of a bystandermarket power: the ability of a single economic actor (or small group of actors) to have a substantial influence on market pricesPrinciple 8: A Country’s Standard of Living Depends on Its Ability to Produce Goods and ServicesAlmost all variation in living standards is attributable to differences in countries productivity: the quantity of goods and services produced from each unit of labor inputPrinciple 9: Prices Rise When the Government Prints too Much MoneyInflation: an increase in the overall level of prices in the economy-when the worth of the dollar bill decreasesthe growth in the quantity of money is the culprit of inflationPrinciple 10: Society Faces a Short-Run Trade-off between Inflation and UnemploymentMore hiring mean lower unemploymentOver a period of a year or two, many economic policies push inflation and unemployment in opposite directionsBusiness cycle: fluctuations in economic activity, such as employment and production, the irregular and largely unpredictable fluctuations in economic activityEconomists make assumptions for the same reason: Assumptions can simplify the complex world and make it easier to understandWhen studying the effects of international trade, we might assume that the world consists of only two countries and that each country produces only two goodsEconomic Models:Economists use models to learn about the world, they are most often composed of diagrams and equationsFirst Model: The Circular Flow Diagram:Circular flow diagram: a visual model of the economy that shows how dollars flow through markets among households and firmsFirms produce goods and services using inputs, such as labor, land, and capital and these inputs are called factors of productionHouseholds own the factors of production and consume all the goods and services that the firms produceHouseholds and Firms interact in two types of markets:Markets for goods and services households are buyers, and firms are sellers (households buy the output of goods and services that firms produce)Markets for the factors of production households are sellers are firms are buyers (households provide the inputs that firms use to produce goods and services)Second Model: The Production Possibilities FrontierA graph that shows the combinations of output that the economy can possibly produce given the available production technologyAn outcome is considered efficient if the economy is getting all it can from the scarce resources it has availableMicroeconomics the study of how households and firms make decisions and how they interact in marketsMacroeconomics the study of economy wide phenomena, including inflation, unemployment, and economic growthPositive statements: claims that attempt to describe the world as it isNormative statements: claims that attempt to prescribe how the world should beEconomists may disagree about the validity of alternative positive theories about how the world worksEconomists may have different values and therefore different normative views about what policy should try to accomplishComparative Advantage: the riving force of specializationAbsolute Advantage: the ability to produce a good using fewer inputs than another producerEconomists use this terms when comparing the productivity of one person, firms or nation to that of anotherThe producer than requires a smaller quantity of inputs to produce a good is said to have an absolute advantageOpportunity Cost and Comparative AdvantageOpportunity cost: whatever must be given up to obtain some itemComparative Advantage: the ability to produce a good at a lower opportunity cost than another producerThe producer who gives up less of other goods to produce Good X has the smaller opportunity cost of producing Good X and is said to have comparative advantage in producing itComparative Advantage and Trade:The gains from specialization and trade are based not on absolute advantage but on comparative advantage. When each person specializes in producing the good for which he or she has a comparative advantage, total production in the economy risesTrade can benefit everyone in society because it allows people to specialize in activities in which they have a comparative advantage.The Price of TradeFor both parties to gain from trade, the price at which they trade must lie between the two opportunity costsSupply and Demand are the forces that make market economics workThey
View Full Document
Unlocking...