AP MACRO/MICRO ECON CHAPTER ONE

TEN PRINCIPLES OF ECON

 What is a market economy?

System where people make choices about using scarce resources like time, money, and stuff. like a big household for a whole country.

 Where does the word “economy” come from?

From Greek “oikonomos,” meaning “one who manages a household.” Societies manage resources like households do.

What does scarcity mean?

There isn’t enough of everything for everyone, so choices must be made.

What is economics?

The study of how society manages its scarce resources.

 What is a trade-off?

Choosing one thing means giving up something else. Example: Study more = play less.

 What is the “guns vs. butter” trade-off?

 Society chooses between spending on defense (guns) or consumer goods (butter). More of one = less of the other.

What’s the difference between Efficiency vs. Equality?

 Efficiency = biggest total benefit from resources. Equality = making sure everyone gets a fair share of the pie.

What is opportunity cost?

What you give up to get something. Example: Going to college costs tuition AND the money you could have earned working.

Who are rational people?

People who systematically try to do the best with their available resources.

What is marginal thinking?

Making small adjustments and comparing the extra benefit vs. extra cost. Example: Eat one more cookie or not?

When do rational people act?

When the marginal benefit > marginal cost. Example: A 10-min phone call costs $5 more, gives $7 benefit → do it!

What is an incentive?

 Something that motivates a person to act, like rewards or punishments.

How do prices act as incentives?

Higher prices → people buy less, producers make more. Example: Apples get expensive → eat less, produce more.

How can incentives backfire?

 Seat belts make accidents less dangerous → people drive faster → more accidents.

Why is trade good?

Specialization → people/countries do what they’re best at → everyone gets more stuff.

What is a market economy?

 An economy where prices and choices are made by many buyers and sellers, not the government.

What is the “invisible hand”?

Self-interest in a market can lead to good outcomes for society, even if people don’t mean it.

What do prices do?

Show the value of goods and the cost to produce them → guide people to make good decisions.

 Why does government exist in a market economy?

To enforce rules, protect property, and make sure markets work fairly.

Why else does government intervene?

To fix market failures (efficiency) or make things more equal (equality).

 What is market failure?

When markets alone don’t allocate resources efficiently.

 What is an externality?

When one person’s actions affect someone else. Example: Pollution from factories.

What is market power?

When a person or company can control prices because there’s no competition

What is productivity?

How much stuff a worker produces in a certain amount of time. More productivity = higher standard of living

What determines living standards?

 Productivity! The more goods and services workers make, the richer people are.

 What is inflation?

 When the overall price of things rises.

What usually causes inflation?

Printing too much money → money loses value → prices rise.

What is the business cycle?

Ups and downs in the economy, like jobs, production, and spending.

What’s the short-run trade-off?

 Policies that reduce unemployment can increase inflation, and vice versa.

How did policymakers respond to a recession?

 Cut taxes, spend more, and increase money supply → goal: reduce unemployment, but risked inflation.

What are the 10 principles in simple terms?

1. People face trade-offs.
   
   

2. Cost = what you give up.
   
   

3. Rational people think at the margin.
   
   

4. People respond to incentives.
   
   

5. Trade can make everyone better off.
   
   

6. Markets are usually good.
   
   

7. Governments can help sometimes.
   
   

8. A country’s living standard depends on productivity.
   
   

9. Prices rise when the government prints too much money.
   
   

10. Society faces a short-run trade-off between inflation and unemployment.