Econ Exam 1 Answers to Study Guide Chapter 1 1 Economics is the study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided the study of choice under the condition of scarcity we need economics because our resources are scarce social science 2 The difference between microeconomics and macroeconomics is that micro focuses on household individuals and firms while macro focuses on the economic behavior of aggregates on a national scale 3 The difference between positive and normative economics is that positive seeks to understand behavior and the operation of systems without making judgments and it describes what exists and how it should work Normative analyzes outcomes of economic behavior evaluates them as good or bad and may prescribe courses of action Postive address how the world is can be refuted with empirical evidence Normative address how the world should be based on the values and the criteria determined by the speaker 4 Marginalism The process of analyzing the additional or incremental costs or benefits arising from a choice or decision what is the effect of one more or one less key for maximizing the outcome for the decision maker marginal benefit vs marginal cost Opportunity Cost The best alternative that we give up when we make a choice Efficient Markets A market in which profit opportunities are eliminated almost instantaneously because they are quickly seized upon there are large rewards for being the first to discover an opportunity but competition will drive returns down to normal levels with efficient markets 5 Cetris Paribus The best alternative we give up when we make a choice everything outside the model is held constant all else equal Chapter 2 1 PPF Production Possibilities Frontier a graph that shows the maximum quantities of two different goods than an economic entity can produce PPF Endpoint Point that is on the ppf where all resources are being employed and used efficiently the preferred outcome for the point depends on society s preferences for the goods being produced Points inside the PPF Resources are either idle or used inefficiently represents a recession What shifts the PPF outward Economic growth an increase in resources land labor capital or an increase in technology Why would a realistic PPF for society be bowed outward or concave Some resources are not perfectly transferable substitutable between Guns and Butter some resources are better at making guns while others are better at making butter What is the law of increasing opportunity costs Economic reality of the increasing costs of production caused by the inefficiency of reallocating specialized resources for the production of additional goods for which they are not well suited the opportunity cost of producing a good increases with more production of that good 2 Absolute Advantage A producer has an absolute advantage over another in the production of a good or service if he or she can produce that product using fewer resources a lower absolute cost per unit ability to produce more with the same or fewer resources Comparative Advantage A producer has a comparative advantage over another in the production of a good or service if he or she can produce at a lower opportunity cost Desk over chair for opportunity cost of chair Chair over desk for opportunity cost of desk the smallest number is the less opportunity cost which gives that person the comparative advantage you can t have comparative advantage in all goods 3 Command Economy A central government either directly or indirectly sets output targets incomes and prices determines what is produced how it s produced and who consumes it North Korea Free Market Economy Individuals make decisions in decentralized markets for their own self interest solves better than command hands off from the government Laissez fair allow them to be Chapter 3 1 Product Market Goods and services are exchanged output revenue and consumption input household money and firm output Factor Market Resources used to produce goods and services are exchanged output household income and firm income input labor and capital and costs from the firms Who demands or supplies either type of market Households and firms 2 Demand The relationship between quantity demanded and price Quantity Demanded The amount number of units of a product that a household would buy in a given period if it could buy all it wanted at the current market price qd is an individual quantity demanded Qd is a market quantity demanded Law of Demand Negative relationship between price and quantity demanded as price rises quantity demanded decreases as price falls quantity demanded increases What happens when price changes It will cause quantity demand to change but not demand itself DEMAND CURVE DOES NOT SHIFT How do you find a market demand curve Take the horizontal sum of each individual demand curve 3 How does income wealth affect demand curves for normal or inferior goods For normal goods If income increases then demand increases if income decreases then demand decreases For inferior goods If income increases then demand decreases if income decreases then demand increases example is getting a raise and buying steak instead of ramen noodles or getting fired and having to by ramen noodles 4 How does a change in the price of a substitute affect the demand curve If coke price increases then the demand for pepsi increases if coke price decreases then the demand for pepsi decreases 5 How does a change in the price of a complement affect the demand curve If the price for a phone increases then the demand for a phone case decreases if the price for a phone decreases then the demand for a phone case increases the good s own price does not shift it s demand curve but the price of a substitute or a complement can shift the good s demand curve 6 What are the 5 Determinants of Demand Income wealth price of related goods taste and preferences of buyers future expectations of buyers and number of buyers 7 Supply The relationship between quantity supplied and price Quantity Supplied The amount of a particular product that a firm would be willing and able to offer for sale at a particular price during a given time period qs is the individual quantity supplied Qs is the market quantity supplied Law of Supply The positive relationship between price and quantity of a good supplied an increase in market price will lead to an increase in quantity supplied and a