Economics Key Concepts: Market Structures, Efficiency, and Decision-Making

Allocative efficiency

A state of the economy where production aligns with consumer preferences, meaning goods and services are produced up to the point where price equals marginal cost of production.

Centrally planned economy

An economy in which the government makes most decisions about what goods and services are produced, how they are produced, and who receives them.

Economic model

A simplified representation of reality that economists use to analyze how individuals, firms, markets, or the economy behave.

Economic variable

A measurable value that can change, such as price, income, quantity demanded, unemployment, or GDP.

Economics

The study of how people make choices to satisfy unlimited wants with limited resources.

Equity

The fair distribution of economic benefits.

Macroeconomics

The study of the economy as a whole, including topics such as inflation, unemployment, and economic growth.

Marginal analysis

Comparing the additional benefits and additional costs of an action. A decision should generally be made when marginal benefit equals marginal cost.

Market

A group of buyers and sellers who exchange goods, services, or resources.

Market economy

An economy in which decisions about production and consumption are made largely by individuals and firms interacting in markets.

Microeconomics

The study of how households and firms make decisions, how they interact in markets, and how the government attempts to influence their choices.

Mixed economy

An economy that combines private markets with government involvement in economic decisions.

Normative analysis

Analysis concerned with what ought to be; it involves opinions or judgments about what should happen.

Opportunity cost

The highest-valued alternative that must be given up to engage in an activity.

Positive analysis

Analysis concerned with what is; it is based on facts and statements that can be tested.

Productive efficiency

A state of the economy where every good or service is produced at the lowest possible cost.

Scarcity

A situation in which unlimited wants exceed the limited resources available to fulfill those wants.

Trade-off

The idea that by producing more of one good, you cannot produce more of another good because resources are limited.

Voluntary exchange

A situation in which buyers and sellers freely agree to exchange a good or service because both expect to benefit.

Absolute advantage

The ability of an individual, firm, or country to produce more of a good or service than competitors using the same amount of resources.

Circular-flow diagram

A model that illustrates how participants in markets are linked, including households and firms, and how goods, services, and payments flow between them.

Comparative advantage

The ability of an individual, firm, or country to produce a good or service at a lower opportunity cost than competitors.

Economic growth

The ability of an economy to produce increasing amounts of goods and services over time.

Entrepreneur

A person who brings together the other factors of production to successfully produce and sell goods and services while taking on the risks of operating a business.

Factor market

A market for the factors of production, including labor, capital, natural resources, and entrepreneurial ability.

Factors of production

The resources used to produce goods and services: labor, capital, natural resources, and entrepreneurial ability.

Free market

A market in which decisions about production and consumption are made primarily by individuals and firms, with prices determined by supply and demand.

Product market

A market for goods and services, such as computers, food, and medical treatment.

Production possibilities frontier (PPF)

A curve that shows the maximum attainable combinations of two goods that can be produced with available resources and technology.

Property rights

The rights individuals or firms have to the exclusive use of their property, including the right to buy or sell it. Property may be tangible or intangible.

Trade

The voluntary exchange of goods and services between individuals, firms, or countries.

Ceteris paribus ("all else equal") condition

The assumption that all other relevant factors remain unchanged when examining the relationship between two variables.

Competitive market equilibrium

A situation in which the quantity demanded equals the quantity supplied in a competitive market, determining the equilibrium price and quantity.

Complements

Goods or services that are typically used together. When the price of one increases, the demand for the other generally decreases.

Demand curve

A curve showing the relationship between the price of a good or service and the quantity demanded, holding other factors constant.

Demand schedule

A table showing the relationship between the price of a good or service and the quantity demanded.

Demographics

Characteristics of a population, such as age, gender, income, and population size, that can affect market demand.

Income effect

The change in the quantity of a good demanded that results from a change in a consumer's purchasing power caused by a change in price.

Inferior good

A good for which demand decreases when consumer income increases and increases when consumer income decreases.

Law of demand

The rule that, holding other factors constant, the quantity demanded of a good or service decreases when its price increases and increases when its price decreases.

Law of supply

The rule that, holding other factors constant, the quantity supplied of a good or service increases when its price increases and decreases when its price decreases.

Market demand

The total quantity of a good or service that all consumers in a market are willing and able to purchase at a given price.

Market equilibrium

A situation in which quantity supplied equals quantity demanded.

Natural disaster

An event such as a hurricane, earthquake, flood, or wildfire that can disrupt production, reduce supply, or change consumer demand.

Normal good

A good for which demand increases when consumer income increases and decreases when consumer income decreases.

Pandemic

A widespread disease outbreak that can affect economic activity by changing consumer behavior, disrupting production, and shifting demand and supply.

Perfectly competitive market

A market with many buyers and sellers, where no individual buyer or seller has the ability to influence the market price.

Quantity demanded

The amount of a good or service that a consumer is willing and able to purchase at a particular price.

Quantity supplied

The amount of a good or service that producers are willing and able to sell at a particular price.

Shortage

A situation in which the quantity demanded is greater than the quantity supplied at a particular price.

Substitutes

Goods or services that can be used in place of one another. When the price of one increases, the demand for the other generally increases.

Substitution effect

The change in the quantity demanded of a good caused by a change in its price that makes the good relatively more or less expensive compared with other goods.

Supply curve

A curve showing the relationship between the price of a good or service and the quantity supplied, holding other factors constant.

Supply schedule

A table showing the relationship between the price of a product and the quantity of the product supplied.

Surplus

A situation in which the quantity supplied is greater than the quantity demanded at a particular price.

Technological change

A change in the process a firm uses to produce goods and services that can increase productivity or reduce the cost of production.

Labor

All types of work, from part-time labor to senior management, that contribute to producing goods and services.

Capital

Physical resources such as computers, office buildings, and machine tools that are used to produce goods and services.

Natural resources

Resources such as land, water, oil, iron ore, and other raw materials used in producing goods and services.

Entrepreneurial ability

The ability to bring together the other factors of production to successfully produce and sell goods and services.

Product markets

Markets for goods and services, such as computers and medical treatment.

Factor markets

Markets for the factors of production, such as labor, capital, natural resources, and entrepreneurial ability.

Quantity demanded

The amount of a good or service that a consumer is willing and able to purchase at a particular price.

Variables that shift market demand

Income, prices of related goods and services, tastes, population and demographics, expected future prices, natural disasters, and pandemics.

Variables that shift market supply

Prices of inputs, technological change, prices of related goods in production, number of firms in the market, and expected future prices.

Income and demand

An increase in income increases demand for a normal good and decreases demand for an inferior good.

Demand increase

An increase in consumer demand at every price causes the demand curve to shift to the right.

Surplus

Quantity supplied is greater than quantity demanded.

Shortage

Quantity demanded is greater than quantity supplied.

Equilibrium

Quantity supplied equals quantity demanded.

Normal good

Income increases → demand increases.

Inferior good

Income increases → demand decreases.

Substitute goods

Goods that can be used in place of one another.

Complementary goods

Goods that are typically used together.

Percentage change

(Value in the second period − Value in the first period) ÷ Value in the first period.

GDP

The total market value of all final goods and services produced within a country's borders during a specific time period.

GDP formula

GDP = Consumption + Investment + Government Purchases + Net Exports, or Y = C + I + G + NX.

Consumption

Spending by households on goods and services.

Investment

Spending by firms on new factories, office buildings, machinery, and additions to inventories, plus spending by households and firms on new houses.

Business fixed investment

Spending by firms on new factories, office buildings, machinery, and other physical capital.

Residential investment

Spending by households and firms on new houses.

Changes in business inventories

Changes in the amount of goods that firms have produced but have not yet sold.

Government purchases

Spending by federal, state, and local governments on goods and services.

Net exports

The value of exports minus the value of imports.

Exports

Goods and services produced domestically and sold to foreigners.

Imports

Goods and services produced by foreigners and purchased by domestic consumers, firms, or governments.

Real GDP

The value of final goods and services evaluated at base-year prices.

Nominal GDP

The value of final goods and services evaluated at current-year prices.

GDP deflator

A measure of the price level calculated by dividing nominal GDP by real GDP and multiplying by 100.

National Income and Product Accounts (NIPA)

The computations published by the Bureau of Economic Analysis each quarter that measure national economic activity and income.

Gross national product (GNP)

The value of production performed by a nation's citizens, including production that occurs overseas.

National income

GDP minus the consumption of fixed capital, also known as depreciation.

Personal income

Income received by households, including transfer payments but excluding firms' retained earnings.

Disposable personal income

Personal income minus personal tax payments; it measures the amount households are able to spend or save.

Labor force

The sum of employed and unemployed workers in the economy.

Unemployment rate

The percentage of the labor force that is unemployed.

Discouraged workers

People who are available for work but have not looked for a job during the previous four weeks because they believe no jobs are available for them.

Employment-population ratio

The percentage of the working-age population that is employed.

Frictional unemployment

Short-term unemployment that arises from the process of matching workers with jobs.

Structural unemployment

Unemployment that arises from a persistent mismatch between the skills or attributes of workers and the requirements of available jobs.