Economics Key Terms: Opportunity Cost, Elasticity, Externalities & Market Structures

Accounting Profit

Total Revenue - Explicit Costs.

Nash Equilibrium

A set of strategies where no player has an incentive to deviate given the other player's choice.

Opportunity Cost

The value of the next best alternative foregone when making a choice.

Thinking on the Margin

Evaluating whether the benefit of one more unit of something is greater than its cost.

Normal Good

A good for which demand increases when income rises.

Inferior Good

A good for which demand decreases when income rises.

Complements

Goods where an increase in the price of one leads to a decrease in demand for the other.

Perfectly Inelastic

Elasticity is 0; the quantity demanded does not change regardless of price (Vertical line).

Perfectly Elastic

Elasticity is infinity; any price increase drops demand to zero (Horizontal line).

Adverse Selection

When sellers have information that buyers do not, or vice versa, leading to "bad" types dominating the market.

Marginal Tax Rate

The tax rate paid on the "next" dollar of income earned.

Positive Externality

A benefit that enjoyed by a third party; often results in under-consumption by the market.

Substitutes

Goods where an increase in the price of one leads to an increase in demand for the other.

Equilibrium

The price level where Quantity Supplied equals Quantity Demanded.

Price Elasticity of Demand

Measures how much quantity demanded responds to a change in price.

Midpoint Method Formula

Used to calculate elasticity

Income Elasticity of Demand

Percentage change in quantity demanded divided by percentage change in income.

Unit Elastic

When the price elasticity of demand is exactly 1.

Consumer Surplus (CS)

(Willingness to Pay) - (Price Paid). Graphically, the area below demand and above price.

Producer Surplus (PS)

(Price Received) - (Cost of Production). Graphically, the area above supply and below price.

Deadweight Loss (DWL)

The fall in total surplus that results from a market distortion like a tax (The "missing" transactions).

Tax Incidence

The manner in which the burden of a tax is shared between buyers and sellers, which depends on elasticity.

Price Floor

A legal minimum on the price at which a good can be sold (e.g., Minimum Wage).

Price Ceiling

A legal maximum on the price at which a good can be sold.

Comparative Advantage

The ability to produce a good at a lower opportunity cost than another producer.

Autarky

A situation in which a country does not trade with others.

Negative Externality

A cost that is imposed on a third party (e.g., pollution); requires a Pigouvian tax to fix.

Public Goods

Goods that are both Non-rival and Non-excludable.

Common Resources

Goods that are Rival but Non-excludable (leads to "Tragedy of the Commons").

Profit Maximization Rule

Produce the quantity where Marginal Revenue ($MR$) = Marginal Cost ($MC$).

Economic Profit

Total Revenue - (Explicit + Implicit Costs). In the long run with free entry, this is zero.

Natural Monopoly

When a single firm can provide a good to the whole market at a lower cost than multiple firms.

Price Discrimination

Selling the same good at different prices to different customers based on willingness to pay.

Prisoner's Dilemma

A "game" where two rational individuals might not cooperate, even if it appears in their best interest.

Derived Demand

Labor demand is "derived" from the demand for the goods the labor produces.

Compensating Differential

A difference in wages that arises to offset the non-monetary characteristics of different jobs.

Human Capital

The accumulation of investments in people, such as education and on-the-job training.

Moral Hazard

When an agent who is not perfectly monitored engages in risky behavior because they don't bear the full cost.

Veil of Ignorance

A normative framework for designing a fair society without knowing your own place in it.