Micro definitions (Themes 1 and 3)

Allocative Efficiency

This occurs when the available economic resources are used to produce the combination of goods and services that best matches peoples' tastes and preferences. P=MC

Ceteris Paribus

All else being equal

Division of Labour

The specialisation of individuals through the separation of tasks in the production process.

Economics

The allocation of scarce resources to provide for unlimited human wants.

Factors of production

Inputs into the production process namely land, labour, capital and enterprise.

Non-Renewable resources

A resource whose stock level decreases over time as it is consumed.

Normative statement

A statement that includes a value judgement, is subjective and therefore cannot be refuted just by looking at the evidence.

Opportunity Cost

The next best alternative foregone whenever an economic decision is made. It is also the gradient of the PPF.

Positive Statement

A statement which is value free, objective and can be tested to see if it is true or false.

Productive Efficiency

This occurs when it is impossible for an economy to produce more of one good without producing less of another. The economy would be operating somewhere on its PPF.

Production Possibility Frontier

A curve showing the maximum combinations of two goods (or types of good) that an economy can produce when all the available resources are fully and efficiently employed.

Productivity

Output per unit of input per time period.

Renewable resource

A resource whose stock level can be replenished naturally over a period of time.

Scarcity

Linked to the fundamental economic problem scarcity is the result of finite resources in the economy being unable to produce enough goods and services to fulfil society's infinite wants.

Specialisation

When an individual, firm, region or country concentrates on the production of a limited range of goods and services.

Capital good

A good which is used in the production of other goods or services. Also known as a producer good.

Command economy

Where there is public ownership of resources and these are allocated by the government.

Complementary good

A good which is in joint demand or is demanded at the same time as the other good e.g. hot dog and bun.

Competing supply

Raw materials that are used to produce one good cannot be used to produce another good e.g. wheat for flour or for biofuel.

Condition of demand

A determinant of demand, other than price, that shifts the demand curve.

Condition of supply

A determinant of supply, other than price, that shifts the supply curve.

Consumer good

A good which is consumed by individuals and households to satisfy their wants and needs.

Consumer surplus

The difference between the maximum price which a consumer is willing and able to pay for a good and the actual price they have to pay in the market. It is the area below the demand curve and above the equilibrium price line.

Contraction of demand or supply

A movement along the demand or supply curve.

Cross elasticity of demand

The percentage change in the quantity demanded of Good A divided by the percentage change in the price of Good B.

Derived demand

An indirect demand for a good or service (e.g. labour) which is an input into the production of another good (e.g. cars).

Demand (effective demand)

The quantity of a good or service that consumers are willing and able to buy at given prices in a given time period.

Elasticity

The proportionate responsiveness of one variable (e.g. quantity demanded) with respect to a proportionate change in another variable (e.g. price).

Equilibrium price

The price at which planned demand for a good or service exactly equals planned supply for that good or service.

Expansion of demand or supply

A movement along the demand or supply curve.

Free market economy

Where all resources are privately owned and allocated via the price mechanism. There is minimal government intervention.

Income elasticity of demand

The responsiveness of demand for a good or service to a change in real income.

Inferior good

A good for which demand rises as income falls and demand falls as income rises.

Joint supply

When one good is produced another good is also produced from the same raw materials e.g. beef and leather.

Law of Demand

The inverse relationship between price and quantity demanded.

Law of Supply

The positive correlation between price and quantity supplied.

Market

A voluntary meeting of buyers and sellers where both parties are willing to participate in an exchange.

Mixed economy

Where some resources are owned and allocated by the private sector and some by the public sector.

Normal good

A good for which demand increases when income rises and demand falls when income falls.

Price elasticity of demand

The responsiveness of demand for a good or service to a change in its price.

Price elasticity of supply

The responsiveness of supply for a good or service to a change in its price.

Price (market) mechanism

This is the means by which millions of decisions taken by consumers and businesses interact to determine the allocation of scarce resources between competing uses.

Privatisation

The transfer of assets, including firms and industries, from the public sector to the private sector.

Producer surplus

The difference between the minimum price for which a firm is willing and able to sell a good or service and the actual price which they receive in the market. It is the area above the supply curve and below the equilibrium price line.

Substitute good

A good in competing demand i.e. which can be purchased instead of another good e.g. butter and margarine.

Supply

The quantity of a good or service that firms are willing to sell at given prices in a given time period.

Sustainable development

A pattern of resource use that aims to meet human needs now and in the future whilst preserving the environment.

Utility

The amount of satisfaction obtained from consuming a good or service.

Adverse selection

A situation in which people who buy insurance often have a better idea of the risks they face than do the sellers of insurance.

Asymmetric information

When one party to a transaction possesses more information than the other.

Demerit good

A good, such as tobacco, for which the social benefit of consumption is less than the private benefit of consumption.

Externality

A third party spill-over effect felt outside the market mechanism. Externalities can be positive or negative. They are the difference between marginal private costs and benefits and marginal social costs and benefits.

Government failure

This occurs when government intervention reduces economic welfare leading to an allocation of resources that is worse than the free-market outcome.

Imperfect information

This occurs when consumers misunderstand the true costs and benefits of consumption.

Information gaps

Where consumers, producers or the government have insufficient knowledge to make rational economic decisions.

Incidence of tax

The distribution of the tax paid between producers and consumers.

Market equilibrium

Where marginal private benefit equals marginal private cost.

Market failure

When the price mechanism causes an inefficient allocation of resources, leading to a net welfare loss.

Merit good

A good, such as healthcare, for which the social benefit of consumption is greater than the private benefit of consumption.

Missing market

A situation in which there is no market because the functions of prices have broken down e.g. public goods. This is an example of complete market failure.

Moral hazard

The tendency of individuals and firms, once insured against some contingency, to behave so as to make that contingency more likely.

Partial market failure

When the market produces a quantity of output which fails to maximise social welfare e.g. too few merit goods or too many demerit goods.

Private good

A good that is excludable and rival in consumption.

Property rights

The exclusive authority to determine how a resource is used.

Public good

A good that is non-excludable and non-rival. It is not provided by the free market and is an example of a missing market.

Regulation

Rules and legal constraints that restrict the freedom of economic agents by setting standards for the consumption or production of goods or their externalities.

Social optimum

Where marginal social benefit equals marginal social cost.

Subsidy

A payment made by the government to a firm to reduce the variable cost of production hence to increase supply and lower the price to consumers to increase market quantity.

Tax

A compulsory levy imposed by the government to pay for its activities. Direct tax is levied on individuals and firms and targets income, wealth and profits. Indirect tax is levied on the producer and targets expenditure.

Tragedy of the commons

The overuse and subsequent destruction of common property attributed to the lack of private property rights e.g. ozone layer and overfishing.

Government failure

When government intervention leads to an inefficient allocation of resources and a net welfare loss.

Maximum price

A ceiling price set by the government on a good or service, above which it cannot rise. It may be enforced through government legislation.

Minimum price

A floor price set by the government on a good or service, below which it cannot fall. It may be enforced through government legislation.

Regulation

Government rules in markets to influence the behaviour of consumers and producers.

Tradable pollution permit

Pollution permits that can be bought and sold in a market. They are an attempt to solve the problem of pollution by creating a market for it.

Conglomerate merger

Merger between firms in unrelated industries.

Demerger

The separation of a larger firm into two or more smaller organisations, often as the reversal of an earlier merger.

Horizontal integration

Merger of two firms in the same industry and at the same stage of production.

Merger

The joining together of at least two firms to form one entity.

Organic growth

Internal growth by expanding the scale of operations.

Vertical integration

Merger of two firms in the same industry and at different stages of production.

Abnormal profit

Also known as supernormal or economic profit this is producer surplus i.e. the profit above normal profit.

Allocative efficiency

For a firm this means producing where AR (P) = MC because price represents utility of consumption and MC represents the cost of producing the last unit.

Average (total) cost

Total cost of output divided by quantity of output.

ATC = TC ÷ Q

ATC = AFC + AVC

Average fixed cost

Total fixed cost divided by the quantity of output.

AFC = TFC ÷ Q

Average revenue

Total revenue divided by quantity of output.

Total revenue per unit of output.

AR = TR ÷ Q

Average variable cost

Total variable cost divided by the quantity of output.

AVC = TVC ÷ Q

Barriers to entry

Factors which prevent the free access of firms to an industry.

Creative destruction

Capitalism evolving and renewing itself over time through new technologies and innovations replacing older ones.

Diseconomies of scale

Rising LRATCs as output rises.

Dynamic efficiency

This occurs in the long run and leads to the development of new products and more efficient processes that improve productive efficiency and lowers production costs.

Economies of scales

Falling LRATCs as output rises.

Fixed cost

A short run cost of production which is unrelated to the quantity of output produced.

Innovation

This converts the results of invention into marketable products or services.