Macro Study guide exam 1 1 Chapter 1 a Economics is the study of how we make choices under scarcity i Scarcity 1 the state of being scarce or in short supply shortage b 8 guideposts to economic thinking the DO list i Resources are scarce so tradeoffs must be made Know the concept of opportunity cost 1 The cost of an alternative that must be forgone in order to pursue a certain action Put another way the benefits you could have received by taking an alternative action Individuals are rational They try to get the most from their limited resources Incentives matter Individuals make decisions at the margin Information helps us make better choices but is costly ii iii iv v vi Beware of secondary effects vii The value of a good or service is subjective viii The test of a theory is its ability to predict c Positive vs normative economic statements i Positive economics is objective and fact based while normative economics is subjective and value based Positive economic statements do not have to be correct but they must be able to be tested and proved or disproved Normative economic statements are opinion based so they cannot be proved or disproved d 4 pitfalls to avoid in economic thinking The do NOT do list i Violation of the ceteris paribus principle 1 Ceteris paribus means all other things remaining equal a Important because in economics the real world is usually hard to isolate all the different variables ii The belief that good intentions equal desirable outcomes 1 Good intentions can easily lead to bad outcomes in an economic or business standpoint iii The belief that association is causation 1 Things can be associated with each other but actually not be caused by one another another variable may be at play iv The fallacy of composition 1 when one infers that something is true of the whole from the fact that it is true of some part of the whole a Voluntary trade creates value and ultimately leads to economic progress i The candy game ii One perception of value for a specific good may differ from another s thus the value for each may be perceived as different Allowing people to trade for what they want leaves everyone significantly happier than if trade barriers were in place or were forced to trade 2 Chapter 2 b Characteristics and 4 incentives of private property rights i ii iii iv Incentive to use resources in ways that other people value Incentive to care for and manage what you own Incentive to conserve for the future Incentive to make sure your property does not damage someone else s property c Production possibility curve PPC Inefficient under the line within the original line i Efficient on the line ii iii Unattainable over the line iv Only have a specific number of resources so giving more to one specific good will reduce the amount given in another Only have so many resources to use d 4 factors that shift the PPC i Change In resource base ii Change in technology iii Change in rules laws under which an economy operates iv Change in work habits e The law of comparative advantage and calculation of opportunity cost i Law of comparative advantage 1 The ability of a firm or individual to produce goods and or services at a lower opportunity cost than other firms or individuals 2 Choosing one thing or another but not both We must choose one ii Calculating opportunity cost 1 Can produce 1 pound of rice vs producing 2 pounds of corn a Which is better it s for you to decide b But producing 2 pounds of corn has an opportunity cost of 1 pound of rice in this hypothetical situation f 3 questions every economy faces i What are we going to produce ii How we are going to produce it iii For whom will it be produced who gets it once it s made g Socialism vs capitalism i Socialism 1 Redistribution from rich to poor used to ensure equality within opportunities and outcomes 2 Government intertwined in businesses 3 Argued that this leads to inefficiencies because workers and managers lack any incentives to be innovative or do anything to cut costs 4 Employment is almost guaranteed even if workers are not doing anything productive ii Capitalism 1 Argues that inequality is essential to encourage innovation and 2 Private businesses will be owned by private individuals and government economic development has very little role in economy 3 Profit incentives encourages businesses to be more efficient cut costs and innovate new products that people want In times of recession employment rates tend to be high 4 5 Prices are determined by market forces and not by government iii Capitalism works better at creating economic growth and prosperity due to its innovative and driving nature 1 Continuously striving to be better and not complacent 3 Chapter 3 a Law of demand b Consumer surplus i States that all else being equal as the price of a product increases quantity demanded falls likewise as the price of a product decreases quantity demanded increases i Is the difference between the total amount that consumers are willing and able to pay for a good or service indicated by the demand curve and the total amount that they actually do pay i e the market price 1 Calculated by a Form a triangle with the maximum quantity desired as your triangle base the maximum price limit as the triangle height and the demand equation as the triangle hypotenuse Calculate the area of your triangle using the formula 1 2 x height x base This calculates the total consumer surplus from your equation c Difference between the change in quantity demand vs a change in demand 1 a movement along the curve caused by a change in the price of the i Quantity demanded good in question ii change in demand 1 a shift of the curve caused by anything other than the change in price of d shifters In demand P price D demand I income the good in question i Change in Consumer Income 1 Normal Goods I D normal 2 Inferior Goods I D inferior ii Change in the Number of Consumers Consumers D iii Change in the Price of a Related Good 1 Substitutes P substitutive D 2 Compliments P compliments D iv Change in Expectations 1 Expected Price P future D current 2 Expected Income I future D current v Change in Consumer Tastes and Preferences Tastes and Preferences D e Law of supply i Fundamental principle of economic theory which states that all else equal an increase in price results in an increase in quantity supplied In other words there is a direct relationship between price and quantity quantities respond in the same direction as price changes f Producer surplus
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