Ch2 Microeconomics Year 2 Term 1

Every society has some system or process that transforms its scarce resources into useful goods and services. In doing so, it must decide…

1. what to produce (what gets produced),

2. how to produce (how it is produced), and

3. for whom to produce (who gets what is produced).

The primary resources that must be allocated are

land, labor, and capital and these resources are finite

Factors of production

are the resources used in the process of producing goods and services

FOP

the inputs into the process of production. It is another term for resources - includes mainly Land, Labour, Capital and Entrepreneur.

Production

The process that transforms scarce resources into useful goods and services.

The rewards for each of the FOP are

Rent for Land;

Wages and Salaries for Labour;

Interest for Capital;

Profit for Entrepreneur

inputs or resources

Anything provided by nature or previous generations that can be used directly or indirectly to satisfy human wants.

Outputs

Goods and services of value to households.

Opportunity cost

The best alternative that we give up, or forgo, when we make a choice or decision.

These concepts are central to the discipline of economics

constrained choice and scarcity

Weighing Present and Expected Future Costs and Benefits

We trade off present and future benefits in small ways all the time.

Consumer goods

Goods produced for present consumption e.g chocolates.

Capital goods

goods that are produced in order to produce another goods e.g machinery, equipment e.t.c

Investment

The process of using resources to produce new capital.

Production possibility frontier (ppf)

A graph that shows all the combinations of goods and services that can be produced if all of society’s resources are used efficiently. + A curve that shows the maximum combinations of two goods and services that can be produced efficiently given fixed resources and technology.

Marginal rate of transformation

The slope of the production possibility frontier (ppf).

Basic assumptions underlying the PPF are

i. Only two outputs can be produced in the country or organization

ii. Resources are fixed

iii. Technology is fixed

iv. Efficiency

v. Opportunity cost

vi. Scarcity

Unemployment

During economic downturns or recessions, industrial plants run at less than their total capacity. When there is unemployment of labor and capital, we are not producing all that we can.

Inefficiency

Waste and mismanagement are the results of a firm operating below its potential. Sometimes ____ results from mismanagement of the economy instead of mismanagement of individual private firms.

The Efficient Mix of Output

To be efficient, an economy must produce what people want.

economic growth

An increase in the total output of an economy. Growth occurs when a society acquires new resources or when it learns to produce more using existing resources.

Factors that influence growth or upward shifts in PPF are

increase in resources, increase in productivity and improvement in technology or new technology

theory of comparative advantage

Ricardo’s theory that specialization and free trade will benefit all trading parties, even those that may be “absolutely” more efficient producers.

Absolute Advantage

A producer has an absolute advantage over another in the production of a good or service if he or she can produce that product using fewer resources (a lower absolute cost per unit).

Comparative Advantage

A producer has a comparative advantage over another in the production of a good or service if he or she can produce that product at a lower opportunity cost.

Recall the three basic questions facing all economic systems

(1) What gets produced?

(2) How is it produced?

(3) Who gets it?

Command Economy

An economy in which a central government either directly or indirectly sets output targets, incomes, and prices.

Laissez-Faire Economies: The Free Market

Literally from the French: “allow [them] to do.” An economy in which individual people and firms pursue their own self-interest without any central direction or regulation.

Market

The institution through which buyers and sellers interact and engage in exchange.

The behavior of buyers and sellers in a laissez-faire economy

determines what gets produced, how it is produced, and who gets it.

Consumer Sovereignty

The idea that consumers ultimately dictate what will be produced (or not produced) by choosing what to purchase (and what not to purchase).

Individual Production Decisions: Free Enterprise

The freedom of individuals to start and operate private businesses in search of profits.

Distribution of output

The amount that any one household gets depends on its income and wealth

Income

is the amount that a household earns each year. It comes in a number of forms: wages, salaries, interest, and the like.

Wealth

is the amount that households have accumulated out of past income through saving or inheritance.

Price Theory

In a free market system, the basic economic questions are answered without

the help of a central government plan or directives. This is what the “free” in

free market means—the system is left to operate on its own with no outside

interference. Individuals pursuing their own self-interest will go into business

and produce the products and services that people want. Other individuals will

decide whether to acquire skills; whether to work; and whether to buy, sell,

invest, or save the income that they earn.

The basic coordinating mechanism is price.

Mixed systems

is actually the combinations of the characteristics of a market economy and command economy

Saving

trading present benefits for future benefits