ECO2023 Study Guide For Exam 1 and 2 Chapter 1 Know that Economics is the study of how we make choices under scarcity Understand the concept of scarcity o The concept that there is less of a good freely available in nature than we would like Know the difference between the different kinds of resources that we use to produce economic goods o Resource An input used to produce an economic good Human Resources people that are skilled at doing a job Physical Resources money office apace desks pens used at a Jimbo Fisher company Natural Resources made by natural and not by man Know the 8 guideposts to economic thinking 1 Resources are scarce so decision makers must make tradeoffs Know the concept of opportunity cost Opportunity Cost The highest valued alternative that is and must be sacrificed when making a decision 2 3 4 Individuals are rational They try to get the most from their limited resources Incentives matter people respond in predictable ways to changes in costs and benefits Individuals make decisions at the margin Be able to calculate marginal benefits marginal costs and perform a cost benefit analysis drive or fly example Ex Fly 600 2 hours Bus 200 10 hours 400 difference and 8 hours Divide ANSWER 50 hours 5 Information helps us make better choices but is costly we often make decisions without full information 6 Beware of secondary effects 7 The value of a good or service is subjective NOT OBJECTIVE 8 The test of a theory is its ability to predict Know the difference between positive and normative economic statements Positive economic statements are testable Normative economic statements are not Know the four pitfalls to avoid in economic thinking 1 Violation of the ceteris paribus principle All other things constant 2 The belief that good intentions equal desirable outcomes The Nirvana Fallacy The logical error of comparing the actual situation with its idealized counterpart rather than the actual alternative 3 The belief that association is causation Just because two things happen together they do not cause each other 4 The fallacy of composition The fallacious belief that what is true for one is true for all Standing at a football game Chapter 2 Understand how voluntary trade creates value and leads to economic progress Activity 2 The Candy Game 1 Voluntary You fully agree to make the trade at the agreed terms 2 Because the value of goods is SUBJECTIVE Voluntary trade creates value When individuals engage in voluntary trade both parties are made better off 3 HOW TRADE LEADS TO ECONOMIC PROGRESS Gains from specialization and division of labor Gains from mass production methods Gains from innovation 4 Candy Game middlemen Know what transaction costs are and understand the importance of Transaction Costs The TIME effort and other resources needed to search out and complete on exchange Middleman A person who sells and buys good or sources or arranges trades and reduces transaction costs Know the characteristics of private property rights and four incentives they provide 1 Use resources in ways that other people value 2 Care for and manage what you own 3 Conserve for the future 4 Make sure your property does not damage anybody else s property Understand the concept of the Production Possibilities Curve PPC The PPC outlines all possible combinations of total output that could be produced assuming a Fixed amount of productive resources quiz question 1 Given amount of technical knowledge 2 Full and efficient use of resources The slope of the curve indicates the amount of one good we must give up to produce more of the other good Be able to read a production possibilities curve and identify efficient inefficient and unattainable points as well as what is produced at each point and what is given up and gained when moving from one point to another Inside curve Inefficient On curve Efficient Outside Curve Not attainable Know the four factors that shift the production possibilities curve inward and outward 1 A change in the economy s resource base Increase shift OUTWARD Decrease shift INWARD 2 A change in technology 3 A change in the rules under which an economy functions 4 A change in work habits Understand the law of comparative advantage Law of Comparative Advantage The total output of a group of individuals an entire economy or a group of nations will be greatest when the output of each good is produced by whoever has the LOWEST OPPORTUNTY COST Know the 3 questions that every economy faces 1 What will be produced 2 How will it be produced 3 For whom will it be produced Understand the difference between socialism and capitalism and know why capitalism tends to work better at creating economic growth and progress Socialism Capitalism Ownership and control of the means of production rest with the state Resource allocation is determined by centralized planning Productive resources are owned privately Goods and resources are allocated through market prices Chapter 3 Understand the law of demand and why demand curves are downward sloping o Because there is an inverse negative relationships between the price of a god and the quantity BUYERS are willing to PRODUCE Know that the height of the demand curve is the maximum price consumers are willing to pay for an additional unit Know how to find and calculate consumer surplus involving one or more individuals or on a graph the area below the demand curve but above price o Consumer Surplus The difference between the maximum amount consumers would be willing to pay and the amount they actually pay o How to Calculate Know the difference between a change in quantity demanded a movement along the curve caused by a change in the price of the good in question and a change in demand a shift of the curve caused by anything other than the change in price of the good in question Know the shifters of demand 1 Change in Consumer Income A Normal Goods I DNormal Inferior Goods I DInferior B 2 Change in the Number of Consumers Consumers D 3 Change in the Price of a Related Good A Substitutes Psubstitute D B Compliments Pcompliments D 4 Change in Expectations A Expected Price Pfuture D B Expected Income Ifuture D 5 Change in Consumer Tastes and Preferences Tastes and Preferences D Understand the law of supply and why supply curves are upward sloping Know that the height of the supply curve is the minimum price that sellers are willing to accept to supply an additional unit o There is direct positive relationship between the price of the good or service and
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