AP Macroeconomics Vocabulary Terms

Economics

the study of how people, firms and societies use their scarce productive resources to best satisfy their unlimited material wants

Resources

called factors of production, these are commonly grouped into the 4 categories of labor, physical capital, land or natural resources, and entrepreneurial ability

Scarcity

the imbalance between limited productive resources and unlimited human wants. Because economic resources are scarce, the goods and services a society can produce are also scarce

Trade Offs

scarce resources imply that individuals, firms, and governments are constantly faced with difficult choices that involve benefits and costs

Opportunity Cost

the value of the sacrifice made to pursue a course of action

Maringal

the next unit or increment of an action

Maringal Benefit

the additional benefit received from the consumption of the next unit of a good or service

Marginal Cost

the additional benefit received from the consumption of the next unit of a good or service

Marginal Analysis

making decisions based upon weighing the marginal benefits and costs of that action. The rational decision maker chooses an action if the MB is greater than or equal to marginal cost

Production Possibilities

different quantities of goods that an economy can produce with a given amount of scarce resources. Graphically, the trade-off between the production of two goods is portrayed as a production possibility curve or frontier (PPF)

Production Possibility Frontier

a graphical illustration that shows the maximum quantity of one good that can be produced, given the quantity of the other good being produced

Law of Increasing Costs

the more of a good that is produced, the greater the opportunity cost of producing the next unit of the good

Absolute Advantage

this exists if a producer can produce more of a good than all other producers

Comparative Advantage

a producer has comparative advantage if he can produce a good at lower opportunity cost than all other producers

Specialize

when firms focus their resources on production of goods for which they have comparative advantage, they are said to be specializing

Productive Efficiency

Production of maximum output for a given level of technology and resources. All points on the PPF are productively efficient

Allocative Efficiency

Production of the combination of goods and services that provides the most net benefit to society. The optimal quantity of a good is achieved when the MB = MC of the next unit. This only occurs at one point on the PPF

Economic Growth

this occurs when an economy's production possibilities increase. It can be a result of more resources, better resources, or improvements in technology

Market Economy (Capitalism)

An economic system based upon the fundamentals of private property, freedom, self-interest, and prices

Law of Demand

Holding all else equal, when the price of a good rises, consumers decrease their quantity demanded for that good.

All Else Equal

to predict how a change in one variable affects a second, we hold all other variables constant. This is also referred to as the ceteris ceteris paribus assumption

Absolute (Money) Prices

The price of a good measured in units of currency

Relative Prices

the number of units of any other good Y that must be sacrificed to acquire the first good X. Only relative prices matter

Substitution Effect

the change in quantity demanded because of a change in the price of one good relative to the price of other goods.

Income Effect

the change in quantity demanded that results from a change in the consumer's purchasing power (or real income)

Demand Schedule

a graphical depiction of the demand schedule. The demand curve downward sloping, reflecting the law of the demand.

Determinants of Demand

Consumer Income

Price of Substitutes

Price of Complements

Consumer Tastes and Preferences

Consumer Expectations and Preferences

Number of Buyers in the Market

Law of Supply

Holding all else equal, when the price of a good rises, suppliers increase their quantity supplied for that good.

Supply Schedule

a graphical depiction of the supply schedule. The supply curve is upward sloping, reflecting the law of supply

Determinants of Supply

Cost of an Input

Technology and Productivity

Taxes and Subsidies

Producer Expectations

Price of Other Goods

Number of Suppliers

Market Equilibrium

exists at the only price where the quantity supplied equals the quantity demanded. It is the only quantity where the price consumers are willing to pay is exactly the price producers are willing to accept

Shortage

also known as excess demand; a shortage exists at a market price when the quantity demanded exceeds the quantity supplied. The price rises to eliminate a shortage

Disequilibrium

Any price where quantity demanded is not equal to quantity supplied

Surplus

also known as excess supply, a surplus exists at a market price when the quantity supplied exceeds the quantity demanded. The price falls to eliminate a surplus

Total Welfare

The sum of consumer surplus and producer surplus. The free market equilibrium provides maximum combined gain to society

Consumer Surplus

the difference between your willingness to pay and the price you actually pay. It is the area below the demand curve and above the price

Producer Surplus

the difference between the price received and the marginal cost of producing the good. it is the area above the supply curve and under the price

Circular Flow of Economic Activity

a model the shows how households and firms circulate resources, goods, and incomes through the economy. This basic model is expanded to include the government and the foreign sector

Closed Economy

a model that assumes there is no foreign sector (imports and exports)

Aggregation

the process of summing the microeconomic activity of households and firms into a more macroeconomic measure of economic activity

Gross Domestic Product

The market value of the final goods and services produced within a nation in a given period of time

Final Goods

goods that are ready for their final use by consumers and firms, for example, a new Harley-Davidson motorcycle

Intermediate Goods

goods that require further modification before they are ready for final use, eg steel used to produce the new Harley

Double Counting

the mistake of including the value of intermediate stages of production in GDP on top of the value of the final good

Second-Hand Sales

Final goods and services that are resold. Even if they are resold many times, final goods and services are only counted once, in the year in which they were produced

Nonmarket Transactions

household work or do-it yourself jobs are missed by GDP accounting. The same is true of government transfer payments and purely financial transactions like the purchase of a share of IBM stock

Underground Economy

these include unreported illegal activity, bartering, or informal exchange of cash

Aggregate Spending (GDP)

The sum of all spending from four sectors of the economy; GDP = Consumer Spending + Investment + Government Spending + (Exports - Imports)

Aggregate Income

The sum of all income - Wages + Rents + Interest + Profit - earned by suppliers of resources in the economy. With some accounting adjustments, aggregate spending equals aggregate income

Nominal GDP

the value of current production at the current prices. Valuing 2003 production with 2003 prices creates nominal GDP in 2003

Real GDP

the value of current production, but using prices from a fixed point in time. Valuing 2003 production at 2002 prices creates real GDP in 2003 and allows us to compare it back to 2002

Base Year

the year that serves as a reference point for constructing a price index and comparing real values over time

Price Index

a measure of the average level of prices in a market basket for a given year, when compared to the prices in a reference (or base) year. You can interpret the price index as the current price level as a percentage of the level in the base year

Market Basket

a collection of goods and services used to represent what is consumed in the economy

Price GDP Deflator

the price index that measures the average price level of the goods and services that make up GDP

Real Rate of Interest

the percentage increase in purchasing power that a borrower pays a lender

Expected (Anticipated Inflation)

the inflation expected in a future time period. This expected inflation is added to the real interest rate to compensate for lost purchasing power

Nominal Rate of Interest

the percentage increase in money that the borrower pays the lender and is equal to the real rate plus the expected inflation

Business Cycle

the periodic rise and fall (in 4 phases) of economic activity

Expansion

a period where real GDP is growing

Peak

the top of a business cycle where and expansion has ended

Contraction

a period where GDP is falling

Recession

unofficially defined as two consecutive quarters of falling REAL GDP

Trough

the bottom of the cycle where a contraction has stopped

Depression

a prolonged, deep contraction in the business cycle

Consumer Price Index (CPI)

the price index that measures the average price level of the items in the base year market basket. This is the main measure of consumer inflation

Inflation

the percentage change in the CPE from one period to the next

Nominal Income

today's income measured in today's dollars. These are dollars unadjusted by inflation

Employed

a person is employed if she has worked for pay at least one hour per week

Unemployed

a person is unemployed if he is not currently working but is actively seeking work

Labor Force

the sum of all individuals 16 years and older who are either currently employed or unemployed

Out of the Labor Force

a person is classified as out of the labor force if he has chosen to not seek employment

Unemployment Rate

the percentage of the labor force that falls into the unemployed category. Sometimes called the jobless rate

Discouraged Workers

citizens who have been without work for so long that they become tired of looking for work and drop out of the labor force. Because these citizens are not counted in the ranks of the unemployed, the reported unemployment rate is understated

Frictional Unemployment

a type of unemployment that occurs when someone new enters the labor market or switches jobs. This is a relatively harmless form of unemployment and not expected to last long

Seasonal Unemployment

a type of unemployment that is periodic, predictable, and follows the calendar. Workers and employers alike anticipate these changes in employment and plan accordingly, thus the damage is minimal

Structural Unemployment

a type of unemployment that is the result of fundamental underlying changes in the economy such that some job skills are no longer in demand

Cyclical Unemployment

a type of unemployment that rises and falls with the business cycle. This form of unemployment is felt economy-wide, which makes it the focus of macroeconomic policy

Full Employment

exists when the economy is experiencing no cyclical unemployment

Natural Rate of Unemployment

the unemployment rate associated with full employment, somewhere between 4 to 6 percent in the US

Disposable Income

the income a consumer has left over to spend or save once he or she has paid out net taxes. DI = Y - T

Consumption and Saving Schedules

Tables that show the direct relationships between disposable income and consumption and saving. As DI increases for a typical household, C and S both increase

Consumption Function

a linear relationship showing how increases in disposable income cause increases in consumption

Autonomous Consumption

The amount of consumption that occurs no matter the level of disposable income. In a linear consumption function, this shows up as a constant and graphically it appears as the y intercept

Saving Function

a linear relationship showing how increases in disposable income cause increases in saving

Dissaving

another way of saying that saving is less than zero. This can occur at low levels of disposable income when the consumer must liquidate assets or borrow to maintain consumption

Autonomous Saving

the amount of saving that occurs no matter the level of disposable income. In a linear saving function, this shows up as a constant and graphically it appears as the y intercept

Marginal Propensity to Consume

the change in consumption caused by a change in disposable income, or the slope of the consumption function: MPC = ∆C/∆DI

Maringal Propensity to Save

The change in saving caused by a change in disposable income, or the slope of the saving function: MPS = ∆S/∆DI

Determinants of Consumption and Saving

Factors that shift the consumption and saving functions in the opposite direction are wealth, expectations, and household debt. The factors that change consumption and saving functions in the same direction are taxes and transfers

Expected Real Rate of Return

the rate of real profit the firm anticipates receiving on investment expenditures. This is the marginal benefit of an investment project

Real Rate of Interest (i)

The cost of borrowing to fund and investment. This can be thought of as the marginal cost of an investment project

Decision to Invest

A firm invests in projects so long as r≥i

Investment Demand

the inverse relationship between the real interest rate and the cumulative dollars invested. Like any demand curve, this is drawn with a negative slope

Autonomous Investment

the level of investment determined by investment demand is autonomous because it is assumed to be constant at all levels of GDP

Market for Loanable Funds

the market for dollars that are available to be borrowed for investment projects. Equilibrium in this market is determined at the real interest rate where the dollars saved (supply is equal to the dollars borrowed (demand)

Demand for Loanable Funds

the negative relationship between the real interest rate and the dollars invested and borrowed by firms and by the government

Private Saving

saving conducted by households and equal to the difference between the disposable income and consumption

Supply of Loanable Funds

the positive relationship between the dollars saved and the real interest rate

Multiplier Effect

describes how a change in any component of aggregate expenditures creates a larger change in GDP