A Level Economics 1.1 - Nature of Economics

Economic Model

Simple representation of economic behaviors of economic agents

Why are economic models used?

To explain and predict their behavior, or the impact of and on them, given changes in certain parameters.

Ceteris Paribus, and why it is important.

All else remains the same. Important as it allows us to isolate impacts of a change in a variable

Optimization Assumption

All economic agents aim to maximize their utility, Consumers maximizing satisfaction, Firms maximizing profits, Govts maximizing the welfare of their citizens

Positive Statements

Statements that seek to explain what is observed. Can be proven/disproven through scientific testing. Not influenced by opinion of people.

Normative Statements

Focuses on what should be done, influenced by value judgements.

Value Judgements

Statement put forward that can’t be factually verified and is based on beliefs and prejudices

Basic Economic Problem

Scarcity

Scarcity

Unlimited wants, but limited resources

Opportunity cost

Next best alternative forgone when a decision is made

Opportunity Cost applying to economic agents

Consumers: Helps them make rational choices to get the most value from their money

Producers: Helps firms allocate resources to the most profitable option

Govts: Ensures resources are allocated towards areas with the highest social benefit

Factors of Production

Capital, Enterprise, Land, Labor

Capital

Goods used in the manufacturing of other goods

Enterprise

Ability to organize the other factors of production, task risks, and innovate

Land

All natural resources used to produce products

Labor

Human effort, both physical and mental, used in production

Production Possibility Frontier

Combination of two goods which could be produced by an economy if all of its resources are fully employed

Specialisation

Economic agents concentrating on producing specific goods/services

Specialization Pros and Cons

Pros: Worker becomes more skilled through experience. Time is saved. Advancements in machinery. Fewer errors and improved quality

Division of Labour

Process by which production of a product is broken down into separate tasks, each worker specializing in one/few related tasks.

Division of Labor Pros & Cons

Pros: Higher productivity and efficiency, Lower unit costs, Improved quality, Innovation

Cons: Boredom/Low motivation, Overdependence, Lack of transferrable skills, Quality control issues

Barter

When goods and services are exchanged between two parties

Money

Any item used to exchange goods and services

Functions of Money

Medium of Exchange, Store of Value, Measure of Value, Standard of Deferred Payment.

Medium of Exchange

Money is used to buy and sell goods. Eliminates inefficiencies of barter (coincidence of wants)

Store of Value

Money can be saved and used in the future without losing value significantly

Measure of Value

Money provides a common standard to measure and compare the value of goods and services. Expressing prices in money allows economic agents to make informed decisions

Standard of deferred payment

Money is used to settle debts or obligations in the future, allowing borrowing and lending as money is accepted in the future at a known value

Economic System

Method or structure a society uses to allocate its scarce resources and decide what, how, and for whom to produce good and services.

Types of Economic Systems

Free Market, Planned, Mixed Economy

Free Market Economy and Pros & Cons

Resource Allocation determined by market forces. Private ownership of resources and businesses. Profit-driven competition, minimal govt intervention

Pros: Efficient allocation of resources, Encourages innovation and entrepreneurship, Consumers have a wider choice.

Cons: Income and wealth inequality, Essential goods may be underprovided

Planned Economy and Pros & Cons

Resource allocation controlled by the government, the state owns all resources, central planning, production targets, prices set by state

Pros: Reduces inequality, Can provide essential goods and services for all

Cons: Can be inefficient, Lack of incentives for innovation, Risk of over/underproduction

Mixed Economy and Pros & Cons

Resource allocation determined by market forces and government intervention, resources owned by private and public sectors, government regulates markets to correct market failures while private firms drive efficiency

Pros: Balances efficiency with social welfare, govt can provide public goods and reduce inequality

Cons: Can involve high taxes, risk of govt failure if regulation is inefficient

Traditional Economy and Pros & Cons

Resource allocation based on customs traditions and beliefs, resources owned by communities or families, work is passed down through generations, with low use of technology.

Pros: Stable and predictable, communities are self-sufficient

Cons: Low productivity, little innovation or economic growth

Public Sector

Organizations owned, funded and run by the government, providing goods/services for the benefit of society, not profit

Private Sector

Organizations owned by individuals providing products to maximize profit