ECONOMICS FINAL CH 1 9 11 16 18 21 Microeconomics by Karlan and Morduch CH 1 Economics the study of how best to allocate scarce resources among competing uses Micro the study of how individuals and firms manage resources Macro the study of the economy on a regional national or international scale assumes people exhibit rational behavior making choices to achieve goal in the most effective way possible 4 Qs economists use to break down problems 1 What are the wants and constraints of those involved 2 What are the trade offs 3 How will others respond 4 Why isn t everyone already doing it Scarcity the condition of wanting more than we can get with available resources you have a fixed range of possibilities on a collective level as a society we can produce only so many thing and we have to decide how those things are divided among many people Every decision in life involves weighing the trade off between costs and benefits We only choose things in which the benefits costs Opportunity cost the value of what you have to give up in order to get something the value of your next best alternative express in dollar value People make decisions at the margin Marginal Decision Making comparison of additional benefits of a choice against the additional costs it would bring w o considering related benefits and costs of past choices Sunk Cost costs that have already been incurred and cannot be recovered or refunded consider a large scale reaction economists make two assumptions 1 people respond to incentives a incentives something that causes ppl to behave in a certain way by changing the trade offs they face b positive incentive incentive makes ppl more likely to do something c negative incentive disincentive makes ppl less likely to do something a can t change just one thing w o eliciting a response from others 2 about trade offs nothing happens in a vacuum Collateral is a possession pledged by a borrower to a lender like a house or car and if the borrower cannot repay the loan the lender keeps the collateral This threat increases the cost of choosing to not repay the loan giving the borrower a positive incentive to repay Under normal circumstances individuals and firms will act to provide the things ppl want Efficiency use of resources in the most productive way possible to produce the goods services that have the greatest total economic value to society Why isn t everyone already doing it Innovation it s truly never been done before 1 2 Market Failure Intervention when gov t intervenes transactions cannot take place the normally 3 4 Goals other than profit idea won t produce profit Correlation a consistently observed relationship between two events or variables correlation w o causation when there is no plausible cause effect omitted variable common underlying factor or variable behind both observed outcomes reverse causation which caused which Causation a relationship between two events in which one brings about the other Model a simplified rep of the important parts of a complicated sit predict cause and effect makes clear assumptions describes the real world accurately Circular Flow Model a simplified rep of how the economy s transactions work together Households first they supply land and labor to firms and invest capital in firms second they buy the goods and services that firms produce Firms first they buy or rent the land labor and capital supplied by households second they produce and sell goods and services THE CIRCULAR FLOW MODEL NARROWS THE FOCUS TO 2 MARKETS THAT CONNECT HOUSEHOLDS AND FIRMS Market for goods and services it reflects all of the activity involved in the buying and selling of goods and services households spend their wages from labor and their income from land and capital and firms earn revenue from selling their goods and services Market for the factors of production households supply land labor and capital and firms hire and purchase or rent these inputs part of two loops 1 loop of inputs and outputs as they travel throughout the economy inputs land labor and capital firms use to produce goods a b outputs goods and services that firms produce using the FOP 2 loop that rep the flow of dollars a households buy goods services using the money they get from firms for using b their FOP firms get revenues from selling these goods services and in turn firms can then use the money to buy or rent FOP Positive Statement a factual claim about how the world actually works Normative Statement a claim about how the world should be CH2 Production Possibilities Frontier PPF a line curve that shows all the possible combinations of two outputs that can be produced using all available resources the frontier plots all combinations of shirts and wheat that can be produced using all available workers in the U S points inside the frontier are achievable but don t make full use of all available resources rep the constraints on production shows trade offs opportunity cost is rep graphically by the slope of the production possibilities frontier points on the frontier that lie ON it are efficient points within inside are inefficient Shift more workers more ppl available to produce both products Rotate technological advancement which changes the rate of production increases Absolute Advantage when a producer can generate more output than others w a given amount of resources Comparative Advantage when a producer can make a good at a lower opportunity cost than other producers a country can have a comparative advantage w o having an absolute adv the opportunity cost of growing wheat is the inverse of the opportunity cost of producing shirts it is impossible for one producer to have a comparative adv at producing both goods Specialization the practice of spending all of your resources producing a particular good according to its comparative adv total production possibilities are greater than if each produced the exact combination of goods its own consumers want SO TRADING IS GOOD increases total production using the same number of workers and the same technology Gains from trade improvements in outcomes that occurs when producers specialize and exchange goods and services CH 3 Market Economy an economy in which private ind rather than a centralized planning authority make the decisions Market buyers sellers who trade a particular good service Comparative Market a market in which fully informed price taking buyers and sellers easily trade a standardized good service fully informed price taking