MACROECONOMICS CHAPTER TWO TRADE OFFS COMPARATIVE ADVANTAGE AND THE MARKET SYSTEM Scarcity a situation in which unlimited wants exceed the limited number of resources available to fulfill those wants Requires trade offs Economic resources a k a factors of production are limited as well includes workers capital natural resources and entrepreneurial ability Engaging in trade raises standard of living Production Possibilities Frontier PPF a curve showing the maximum attainable combinations of two products that may be produced with available resources and current technology Points on or within the PPF are attainable Points on the PPF are efficient because all available resources are being fully utilized Points within the PPF are inefficient because maximum output is not being obtained from the available resources Points beyond the PPF are unattainable given the firm s current resources Cannot tell what the best point of production is without more information i e the demand curves for both products Increase in labor capitol stock and technology cause PPF to shift outward Increasing Marginal Opportunity Cost occurs on a bowed PPF curve because some workers machines and other resources are better suited to one use than to another The more resources already devoted to an activity the smaller the payoff to devoting additional resources to that activity Economic Growth the ability of the economy to increase the production of goods and services Trade the act of buying and selling Absolute Advantage the ability of an individual firm or a country to produce more of a good or service than competitors using the same amount of resources Comparative Advantage the ability of an individual firm or country to produce more of a good or service at a lower opportunity cost than competitors Basis of trade because of specialization and opportunity cost Product Market a market for goods or services Factor Market a market for the factors of production Factors of Production the inputs used to make goods and services Labor includes all types of work such as full time and part time employees Capital physical capital used to produce other goods such as computers and machine tools Natural Resources includes land water oil iron ore and other raw materials that are used in producing goods Entrepreneur someone who operates a business entrepreneurial ability the ability to bring together the other factors of production to successfully produce and sell goods and services o Responsible for making new products widely available to consumers Circular Flow Diagram a simplified economic model that illustrates how participants in markets are linked o Can be flawed if The role of government is left out The roles of banks stock bond markets and other parts of the financial system are left out Goods services sold or purchased in foreign markets are not shown Free Market a market with few government restrictions on how a good or service can be produced or sold or how a factor of production can be employed Adam Smith considered the father of modern economics because of his book An Inquiry Into the Nature and Causes of the Wealth of Nations published in 1776 in opposition of the guild systems of Europe o Argued that guild restrictions reduced income and wealth of a country and its people by restricting the quantity of goods produced The Market Mechanism For market mechanism to work in responding to changes in consumers wants prices must be flexible Firms respond individually to changes in prices by making decisions that collectively satisfy wants of consumers The Legal Basis of a Successful Market System Market system requires a degree of government intervention specifically with providing a legal environment that allows market system to succeed Market system won t work unless significant number of people are willing to risk funds by investing in a business Property Rights the rights of individuals or firms to have the exclusive use of their property including the right to buy or sell it Patent government granted right to produce and sell a new product for a period of 20 years from the date the patent was filed used to protect intellectual property i e the right to an idea Copyright government granted right to use a creation during the creator s lifetime used to protect physical property i e books films software o Creator s heirs retain exclusive right for 50 years after death of creator Government is required in order to Provide a stable financial system Prevent monopolies o Monopolies limit competition which means consumers lose Keep unemployment down to a minimum Protect patents Enforce contracts Enforce laws and provide a judiciary system