Chapter 2 flashcards

Scientific method in economics

A process involving observing phenomena, developing a hypothesis, constructing a model to test the hypothesis, testing the model, and revising or refuting the theory based on evidence.

Positive statement

A statement that can be tested and validated, describing 'what is.' Example: income in the US has been increasing.

Normative statement

An opinion that cannot be tested or validated, describing 'what ought to be.' Example: the US should send foreign aid to other countries.

Economic models

Simplified versions of reality used to understand the complex real-world economy, making assumptions and aiming for simplicity, flexibility, and predictive accuracy.

Ceteris Paribus

Latin for 'other things being equal,' a central assumption in model building that allows economists to study the effect of one variable by holding everything else constant.

Circular-Flow diagram

A visual model of the economy showing how dollars flow through markets among households and firms, involving two decision-makers (firms and households) and two markets (for goods and services, and for factors of production).

Barter

The direct exchange of a good or service for another good or service without the use of money.

Double coincidence of wants

Occurs when each party in an exchange transaction has what the other person desires, a condition eliminated by the use of money.

PPF (Production Possibilities Frontier)

A graph showing the combinations of outputs that an economy can possibly produce given available factors of production and technology. It is typically downward sloping, indicating trade-offs, and its slope represents opportunity cost.

Opportunity cost of PPF

The slope of the PPF, which is equal to the negative value of the opportunity cost of producing good 'Y' in terms of good 'X.' It represents what must be given up to produce more of another good.

Law of increasing opportunity cost

The principle that the opportunity cost of producing a good rises as society produces more of it, due to resources not being perfectly adaptable for producing both goods. This causes the PPF to be bowed outward, and its slope to get steeper as we move left to right.