Theme 1: introduction to markets & market failure

ad valorem tax

An indirect tax placed on a good where the value of the tax is dependent on the value of the good

Scientific method

a method which subjects theories or hypotheses to falsification by empirical evidence

Asymmetric information

where one party has more information than the other leading to market failure

Capital

one of the four factors of production; goods which can be used in the production process

Capital goods

goods produced in order to maintain production of consumer goods in the future

Ceterus parabis

All other things remain the same

Command economy

All factors of production are allocated by the state so they decide what, how and for whom to produce goods

Complementary goods

negative xed; if good b becomes more expensive demand for good a falls

Consumer goods

goods bought and demanded by households and individuals

Consumer surplus

The difference between the price the consumer is willing to pay and the price they actually pay

Cross elasticity of demand XED

The responsiveness of demand for one good to a change in the price of another good

Demand

The quantity of a good/ service that consumers are willing and able to buy at a given price at a given moment in time

Diminishing marginal utility

The extra benefit gained from consumption of a good generally declines as extra units are consumed; explains why the demand curve is downward sloping

Division of labour

When labour becomes specialised during the production process so do a specific task in cooperation with other workers

The economic problem

The problem of scarcity; wants are unlimited but resources are finite so choices have to be made

Efficiency

When resources are allocated optimally so every consumer benefits and waste is minimised

Enterprise

One of the four factors of production; the willingness and ability to take risks and combine the other 3 factors of production

Equilibrium price/ quantity

Where demand = supply so there are no more market changes bringing about change to price out quantity sold

Excess demand

When price is set too low so demand is greater than supply

Excess supply

when price is set too high so supply is greater than demand

Externalities

The cost of benefit a third party receives from an economic transaction outside of the market mechanism

External cost/ benefit

The cost/ benefit to a third party not involved in the economic activity; the difference between social cost/ benefit and private cost/ benefit

Free market

an economy where the market mechanism allocates resources so consumers and producers make decisions about what is produced, how to produce it and for whom

Free rider principle

People who do not pay for a public good still receive benefit from it so the private sector will under-provide this good as they cannot make a profit

Government failure

when government intervention leads to a net welfare loss in society

Habitual behaviour

A cause of irrational behaviour; when consumers are in the habit of making certain decisions

Incidence of tax

the tax burden on the taxpayer

Income elasticity of demand

The responsiveness of demand to a change in income

Indirect tax

tax levied on goods and services which increase production and leads to a fall in supply, although this is often partially, or fully, passed onto consumers

Inferior goods

YED<0; goods which see a fall in demand as income increases

Information gaps

When the economic agent lacks information needed to make a rational, informed decision

Labour

one of the four factors of production; human capital

Land

One of the four factors of production; natural resources such as oil coal wheat, physical space

Luxury goods

YED>1 ; an increase in income causes an even bigger increase in demand

Market failure

when the free market fails to allocate resources to the best interest of society, so there is an inefficient allocation of scarce resources

Market forces

Forces in the free market which act to reduce prices when there is excess supply And increase them where there is excess demand

Minimum price

a floor price which firms cannot charge below

Mixed economy

Both the free market mechanism and the government allocate resources

Model

a hypothesis that can be proven or tested by evidence; tends to be mathematical where a theory is in words

Negative externalities of production

The social cost of producing a good are greater than the private costs of producing a good

Non-excludability

A characteristic of public goods; someone cannot be prevented from using the good

Non-renewable resources

Resources which cannot be readily replenished or replaced at a level equal to consumption, the stock level decreases over time as they are consumed

Non-rivalry

characteristic of public goods, one persons use of the good does not prevent the other person from using it

Normal good

YED>0, demand increases as income increases

Normative statements

Subjective statements based on value judgements and opinions; cannot be proven or disproven

Opportunity cost

the value of the next best alternative forgone

Perfectly price elastic good

PED/ PES = INFINITY; quantity demanded/ supplied falls to 0 when price changes

Perfectly price inelastic good

PED/ PES = 0; quantity demanded/ supplied does not change when price changes

Positive externalities of consumption

Where the social benefit of consuming a good are larger than the private benefit of consuming the good

Positive statements

Objective statements that can be tested with factual evidence to be proven or unproven

PPF Possibility Production Frontier

Depicts the maximum potential of an economy using a combination of 2 goods or services

Price elasticity of demand

The response of a demand to a change in price

Price elasticity of supply

The responsiveness of supply to a change in price

Price mechanism

System of recourse allocation based on the free market movement of prices determined by the demand and supply curves

Private cost/ benefit

The cost/ benefit to the individual participating in the economic activity

Private goods

goods that are excludable and rivalry

Producer surplus

The difference between the price the producer is willing to charge and the price they actually charge

Public good

goods that are non-excludable, non-rivalry, non-reject able and have zero marginal cost

Rationality

Decision making that leads to economic agents maximising their utility

Regulation

Laws to address market failure and promote competition between firms

Relatively price elastic good

PED/ PES > 1; demand/ supply is relatively responsible to a change in price, so a small change in price leads to a large change in quantity demanded/ supplied

Relatively inelastic good

PED/ PES< 1; demand/ supply is relatively unresponsive to a change in price so a large change in price leads to a large change in quantity demanded/ supplied

Renewable resources

Resources which can be replenished, stock of resources can be maintained over a period of time

Scarcity

The shortage of resources in relation to the quantity of human wants

Social cost/ benefit

The cost/ benefit to society as a whole due to economic activity

Social optimisation position

Where social costs = social benefits; the amount that should be produced/ consumed in order to maximise social welfare

Social science

the study of societies and human behaviour

Specialisation

The production of a limited range of goods by a company/ country/ individual so they aren’t self sufficient and have to trade with others

Specific tax

a tax imposed on a good where the value of the tax is dependent on the quantity that is bought

State provision

When the government provides public/ merit goods which are under-provided in the free market

Subsidy

Government payments to a producer to lower their costs of production and encourage them to produce more

substitutes

Positive XED, if good b becomes more expensive then demand for good a increases

Supply

the ability and willingness to provide a particular good/ service at a given price at a given moment in time

Symmetric information

Where buyers and sellers both have access to the same information

Trade pollution permits

Licences which allow business to pollute up to a certain amount. The government controls the number of licences and so can control the amount of pollution, businesses are allowed to sell and buy the permits so there may be an incentive to reduce the amount they pollute

Unitary price elastic good

PED/ PES = 1, a change in price leads to a change in output by the same proportion

Utility

the satisfaction derived from consuming a good

Weakness at computation

A cause of irrational behaviour, when consumers are bad at making decisions, estimating probabilities and working out future benefits/ costs