Claudia Miller ECON 162 A1 Kenny Christianson Midterm One Review Sheet Midterm One Review Sheet Economics the study of how individuals and organizations allocate scarce resources among alternative uses to satisfy unlimited human wants Macroeconomics studies the big picture study of aggregate economic variables such as Gross Domestic Product GDP unemployment and inflation and how these variables affect each other as well as our general standard of living studies choices made by government policy makers Microeconomics studies the smaller picture the study of individual decision making by households and firms and how these households and firms interact in markets studies choices made by individuals Economic goods goods that are scarce have a positive price Free goods abundant have a zero price i e oxygen Positive analysis concerned with what is Positive statements descriptions of fact Normative analysis concerned with what ought to be Normative statements statements of opinion concerned with what ought to be or with what the beholder believes the world should be like Ceteris paribus Latin phrase meaning all other things remaining equal Opportunity cost the benefit foregone from not choosing the next best alternative Production possibilities curve a model that shows the maximum combinations of two goods that can be produced given a certain quantity of resources and state of technology Comparative advantage when one party has a lower opportunity cost than another Absolute advantage when one party has a lower resource cost than another Corollary mutual benefits arise from specialization and trade PPC vs CPC trade PPC shows all of the combinations that can be produced without trade or if a party is self sufficient and only consumes what it produces on its own CPC shows all of the combinations that can be consumed through Free trade the absence of trade barriers such as tariffs quotas or subsidies Quotas restrictions on the quantities of imports from a specific country Subsidies payments provided to suppliers in order to encourage export sales Quantity demanded a particular point on the demand curve that shows the quantity that consumers are willing and able to purchase at a given price Quantity supplied a point on the supply curve that shows the quantity that producers are willing and able to supply at a given price Rational self interest the belief that an action is only rational if it maximizes one s personal self interest Normal goods an increase in income leads to an increase in demand Inferior goods an increase in income leads to a decrease in demand i e ramen noodles fast food etc Determinants of demand 1 Price of a product Px 2 Prices of substitutes and complements of the product Py 3 Income I 4 Tastes and expectations T 5 Population POP Determinants of supply 1 Price of a product Px 2 Price of resources used to produce the product Pr 3 Technology TECH 4 Business expectations EXP 5 The number of firms in the specific market N 6 Prices of other goods that can be produced by the firm Pz Equilibrium price the price at which the quantity supplied is equal to the quantity demanded Surplus when the quantity demanded is less than the quantity supplied Shortage when the quantity demanded is more than the quantity supplied Price ceiling a government imposed price control or limit on how high a price is charged for a product Price floor a government or group imposed price control or limit on how low a price can be charged for a product Public sector the part of the economy concerned with providing various government services Private sector part of the economy sometimes referred to as the citizen sector which is run by private individuals or groups usually as a means of enterprise for profit and is not controlled by the state Traditional economies based on what was done in the past lack of technological progress standard of living is stagnant Central planning economy command and control economic decisions are made by government bureaucrats i e Soviet Union personal security is high everyone is provided for lack of personal freedom Market economies capitalism economic decisions are decentralized through the price mechanism Necessary conditions for the existence of markets 1 Establishing property rights 2 Maintaining law and order 3 Enforcing contracts a Certainty in markets a Consumers feel safe while making economic decisions Monopoly power monopolies restrict output in order to raise prices Information asymmetries one party to a trade may have more information than the other party Adverse selection occurs before a transaction when consumers lack information about the quality of products markets are dominated by low quality products Moral hazard occurs after a transaction incentives change when costs can be passed onto third parties Externalities costs or benefits that accrue to individuals not directly involved in the transaction Ex Positive externality When you consume education you get a private benefit But there are also benefits to the rest of society E g you are able to educate other people and therefore they benefit as a result of your education Ex Negative externality air pollution from vehicles The costs of the air pollution for the rest of society is not compensated for by either the producers or users of motorized transport Resource allocation in markets prices and profits act as signals to firms to guide resources to their most valuable uses firms will produce more in markets where prices and profits are increasing and less in markets where prices and profits are decreasing resources shift from markets where profits are declining to markets where profits are increasing Consumer sovereignty markets respond to changes in consumer preferences markets are relentless in giving consumers what they want 1 comparative advantage specialize where opportunity costs are lowest 2 production possibilities curves slope and concavity 3 demand and supply finding equilibrium graphically and algebraically 4 Price floors lead to surpluses when the mandated price is above the equilibrium price 5 Price ceilings lead to shortages when the mandated price is below the equilibrium price