econ exam 1

economics

the social science that studies how people make decisions in the face of scarcity and the resulting impact of such decisions on both society as a whole and the individual members therein

scarcity

a universal phenomenon that arises because resources are limited

tradeoffs

the recognition that in many situations acquiring more of one thing can often only be done at the expense of getting by with less of something else

microeconomics

the study of how individual decision maker behave and interact with each other, often with a focus on how households and firms behave and interact with each other in markets

macroeconomics

the study of the functioning and performance of a society’s economy as a whole, often with a focus on levels of changes in aggregate measures such as the inflation rate, unemployment rate, and gross domestic product gross rate

positive statement

a statement that aims to describe how the world actually is or actually functions

normative statement

a statement that aims to assess the desirability of how the world is or functions, perhaps with suggestions of things that could be done to improve matters

rational decision maker

someone with a well defined goal, who takes actions to achieve the goal as best as possible

total benfits

total sales; the gains that a person realizes from taking an action

total costs

the burdens that a person incurs from taking an action

total economic surplus

profits; the difference between total benefits and total costs

cost benefit principle

a guide to decision making which states that an individual should undertake an activity if and only if the additional benefit of doing so is greater than or equal to the additional cost of doing so

marginal benefit

the change in the value of total benefits as more of an activity is undertaken

marginal cost

the change in the value of total costs as more of an activity is undertaken

incentive principle

a summary of how behavior of a rational decision maker will change as costs or benefits change:

• if the marginal benefit of an activity increases, then a rational person will engage in more of the activity, whereas

• if the marginal cost of an activity increases, then a rational person will engage in less of the activity

self interested individual

someone who makes his own personal assessments of the benefits and costs associated with different outcomes, and who subsequently uses these measures as the basis for decision making

goods and services

outputs of the production process, such as food, clothing, shelter, healthcare, eduction, and entertainment

factors of production

inputs in the production process, broadly categorized as land, labor, and capital

production

the process by which inputs (factors of production) are transformed into an output (goods or services)

households

• the decision making entities whose primary objectives is to obtain benefits from consuming goods and services

• the most fundamental part of any economic system; ultimate consumers of most finished goods/services; primary suppliers of labor

firms

• the decision making entities whose primary role is produce goods and services for consumption by households

• the institutions which transform factors of production into finished goods/services

three fundamental economic questions

when it comes to deciding how to use scare resources, every society must address three fundamental economic questions:

• what to produce? (production decision)

• how to produce it? (resource use decision)

• for whom to produce it? (distributional decision)

production decision

of all the different combinations of goods and services that we could produce, what specific combination will we produce?

resource use decision

which productive resources will be used to produce which goods and services?

distributional decision

who gets to consume the goods and services that we have chosen to produce?

production possibility frontier

a curve that summarizes the limits of production that a society faces by illustrating the maximum amount of one good that can be produced for every possible level of production of another good

attainable output combination

a combination of goods that can possibly be produced by a society with its available productive resources and technology (such combinations are on or below the ppf)

unattainable output combination

a combination of goods that cannot possibly be produced by a society with its available productive resources and technology (such combinations beyond the ppf)

productive efficiency

a situation which is not possible to increase the amount produced of any good, without decreasing the amount produced of some other good (in such cases the society will be producing a combination on its ppf)

productive inefficiency

a situation in which it is possible to increase the amount produced of some good, without decreasing the amount of any other good (in such cases the society will be producing a combination outputs below its ppf)

absolute advantage

a producer has an ________ in the production of a good if they can produce more output than another producer using the same amount of inputs

opportunity cost

a general concept that refers to the cost of giving up the best alternative that must be foregone in order to do or acquire something; it measures the value of the next best use of the resources used to undertake (and provides the truest measure of the cost of engaging in) the activity being considered

comparative advantage

a producer has a __________ in the production of a good if their opportunity cost of producing a good is lower than the __________ of another worker for producing the same good

law of comparative advantage

a guide for allocating scare productive resources to various tasks, which states that when increasing the production of a good, a society should do so by using the available productive resource with the lowest opportunity cost (applying this rule allows a society to achieve productive efficiency)

production possibility frontier/ production possibility curve

provides society with a “menu of available options,” from which society chooses “one particular combination of goods” (the choice obviously depends upon preferences/ priorities of society)

attainable

combination of goods that can possibly be produced with the currently available resources and technology

unattainable

combination of goods that cannot possibility be produced with the currently available resources and technology

inefficient

an attainable combination for which it is possible to increase the production of one good without decreasing the production of any other good

efficient

an attainable combination for which it is not possible to increase the production of any good without decreasing the production of some other good

economic system

the rules and methods put in place by a society to answer the three fundamental economic questions of what to produce, how to produce it, and for whom to produce it?

comparative economic system

the subfield of economic that compares and contrasts the structure and the performance of different types of economic organization (different economic systems)

four primary economic institutions

households, firms, markets, and government

economic resources/ factors of production

the inputs such as factories, farms, stores, trucks, and equipment used to produce goods and services

natural assets

natural resources, including minerals, naturally occurring vegetation, water resources, topographical features, and available agriculturally productive land

produced assets

the currently available machines, factories, and inventories of finished goods available as industrial capital, as well as social capital such as transportation and communications infrastructure, and educational institutions

human capital

the skills, education, and training which individuals in the labor force possess

market

the collection of all potential buyers and all potential sellers of a good or service

government

a decision making institution with legal authority to impose restrictions or mandates on the behavior of other decision makers (the ability to use legal coercion)

contract

a legal document which specifies what different parties must do, whatever the external circumstances, and provides enforcement or compensation for non performance

capitalism

economic system in which the means of production are privately owned and operated for a profit

socialism

economic system in which the means of production are owned by the government

feudalism

economic system in which land ownership is restricted to an aristocratic nobility

three dimensions of private ownership of property

• right to control

• right to transfer

• right to restitution

right to control

the right to decide how to use your property

right to transfer

the right to obtain ownership of property from or relinquish ownership of property another person

right to restitution

the right to be compensated by another person when he damages your property or infringe upon your rights

consumer sovereignty

the freedom for an individual to choose to purchase (or not to purchase) a good or service at a price determined in a free, unfettered market

adam smith

18th century (1721-1790) scottish economist, who wrote “an inquiry into the nature and cause of the wealth of nations,” in which he laid out the central arguments for why private ownership/control of resources and trade in free markets often result in desirable outcomes

invisible hand

smith’s recognition that under certain conditions, the behavior of self interested decision makers interacting in free markets leads to outcomes which are better for all parties

• when the ______ is applicable, any possible alternative to the market outcome would be less desirable for some individuals in society

• “free market forces” are the _______ that leads us to an outcome that is “efficient” (in that “total social surplus” is maximized)

karl marx

19the century (1818-1883) german philosopher, economist, and revolutionary, who wrote “das kapital” and co wrote (with friedrich engels) “the communist manifesto”

bourgeoisie

the term which karl marx used to refer to business owners

proletariat

the term which karl marx used to refer to the working class

communism

economic system in which the means of production are collectively owned by all people in a society (without intervention by a government or state)

• a stateless, classless economic system in which all the factors of production are owned by the workers and people share in production according to their needs

new soviet man

a person motivated primarily by selfless benevolence

economic man/ homo economicus

a person who is both self interested and rational (this is the standard assumption within mainstream economics)

command planning

an environment in which the government directly controls nearly all economic activity, and almost all production takes place within enterprises owned/controlled by the government

indicative planning

an environment in which the government guides the behavior of individuals in regards to economic decisions by establishing policies which alter costs and benefits

three primary types of economic incentives

material rewards, moral suasion, and corecion

material rewards

monetary rewards or direct increases in consumption from engaging in an activity

moral suasion

attempts to convince individuals to behave in a certain manner because doing so is the right thing to do

coercion

the use or threat of force or incarceration in order to obtain compliance

mixed economy

an economic system in which most factors of production are owned and controlled by individuals, while some factors of production are owned and controlled by the state (a system which contains some elements of capitalism and some elements of socialism)