ECON 101: Principles, Supply & Demand, and Equilibrium

Test 1

Economics

The study of how people, institutions, culture, markets, policy, and the wider economy allocate scarce resources.

Cost-Benefit Principle

Make a decision only if the benefits outweigh the costs (Benefit >= Cost), converting financial and non-financial factors into dollar values.

Economic Surplus

The net value created by choices, calculated as Willingness to Pay minus Costs.

Willingness to Pay (WTP)

The maximum price a buyer is willing to pay for a good or service.

Opportunity Cost Principle

The cost of something is the value of the next best alternative given up.

Sunk Costs

Costs already paid that cannot be recovered; they should be ignored in future decision-making.

Production Possibility Frontier (PPF)

A curve showing all attainable output combinations given current resources and technology.

PPF Efficiency

Points on the PPF line use all resources efficiently; points inside are inefficient; points outside are unattainable.

PPF Opportunity Cost Formula

Opportunity cost of x-axis good is |Slope|; opportunity cost of y-axis good is |1/Slope|.

Marginal Principle

Breaking down decisions by evaluating the benefit and cost of one additional unit ("one more?").

Marginal Benefit (MB)

The extra benefit received from producing or buying one more unit.

Marginal Cost (MC)

The additional cost incurred from producing or buying one more unit.

Marginal Decision Rule

Continue an activity (buying/hiring) as long as Marginal Benefit >= Marginal Cost.

Interdependence Principle

Decisions depend on internal choices, choices of others, future expectations, and developments in other markets.

Law of Demand

Inverse relationship between price and quantity demanded; as price increases, quantity demanded decreases.

Ceteris Paribus

Latin phrase meaning "holding all other factors constant."

Rational Rule for Buyers

Buy additional units as long as Marginal Benefit >= Price, stopping where MB = Price (Demand curve = MB curve).

Diminishing Marginal Benefit

The principle that each additional unit consumed provides less extra benefit than the previous one.

Market Demand

The horizontal sum of all individual buyers' demand curves at each price level.

Normal Good

A good whose demand increases when consumer income increases.

Inferior Good

A good whose demand decreases when consumer income increases.

Substitute Goods

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

Complement Goods

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

Perfectly Competitive Market

A market with many buyers and sellers, identical goods, free entry/exit, and price-taking firms.

Law of Supply

Direct relationship between price and quantity supplied; as price increases, quantity supplied increases.

Rational Rule for Sellers

Sell additional units as long as Price >= Marginal Cost, stopping where P = MC (Supply curve = MC curve).

Market Supply

The horizontal sum of all individual sellers' supply curves at each price level.

Market Equilibrium

The price and quantity point where Quantity Supplied equals Quantity Demanded.

Market Surplus

Occurs when Price is above equilibrium (Quantity Supplied > Quantity Demanded), driving prices down.

Market Shortage

Occurs when Price is below equilibrium (Quantity Demanded > Quantity Supplied), driving prices up.

Planned vs Market Economy

Planned economies use central authorities to allocate resources; market economies use decentralized prices and trade.

Price Elasticity of Demand

Measures the percentage change in quantity demanded relative to a percentage change in price (|%ΔQd / %ΔP|).

Elastic Demand

Demand is elastic when elasticity is greater than 1, meaning quantity demanded is very responsive to price changes.

Inelastic Demand

Demand is inelastic when elasticity is less than 1, meaning quantity demanded is relatively unresponsive to price changes.

Midpoint Method

A formula for calculating percentage changes in elasticity to avoid base-effect dependency using average price and quantity.