AP Econ Unit 1 Review

economics

the basics: deals with the basic problem of SCARCITY and how people make TRADE OFFs between alternatives

scarcity

the condition that occurs because people's wants and needs are unlimited, while the resources requiered to meet those needs are limited

Does scarcity appy to everything?

no, a good is not scarce if everyone can have all they want of it

allocation

the decision making process about what NEEDS will be satisfied and how resources will be used to satisfy them

opportunity cost

the real cost of an item (the value of the alternative forgone when a decision is made; what you would get if you made the other choice)

opportunity benefit

what you would gain from making a decision

what are resources allocated by?

combined actions of millions of households and firms

Mankiw's Principle 1: People face trade offs (individual)

making decisions requires trading one good against another

efficiency

an economy is efficient if there is no way to make anyone better off without making at least 1 person worse off (no missed opportunities)

equality

increasing benefits are being distributed uniformly

Mankiw's Principle 2: the cost of something is what you give to get it (individual)

requires comparing costs and benefits of alternative courses of action

Mankiw's Principle 3: rational people think at the margin

systematically and purposefully do the best they (rational thinkers) can to achieve their objectives given available opportunities

marginal changes

small incremental adjustments to a plan of action

is the average cost higher or lower than the marginal cost

lower

Mankiw's Principle 4: people respond to incentives

rational people respond to something that induces a person to act

how does a higher market price affect people responding to incentives?

provides incentive for buyers to consume less and an incentive for sellers to produce more

Mankiw's Principle 5: trade can make everyone better off (how people interact with another)

allows buying a greater variety of goods and services at a lower cost

Mankiw's Principle 6: Markets are usually a good way to organize economic activity (how people interact with another)

when the government prevents prices from adjusting naturally to supply and demand, it impedes the invisible hand's ability to coordinate the decisions of what is worth purchasing and what isn't

free market

contain many buyers and sellers of numerous goods and services, all interested in primarily their own well being

market economy

economy that allocates resources through decentralized decisions of many firms and households as they interact in markets for goods and services

Mankiw's Principle 7: Governments can sometimes improve market outcomes (interaction between people)

invisible hand can only work its magic only if the government enforces the rules and maintains institutions that are key to a market economy
-promote efficiency or to promote equality

market failure

a situation in which a market left on its own fails to allocate resources efficiently

Mankiw's Principle 8: A country's standard of living depends on its ability to produce goods and services (economy as a whole)

as productivity increases, standard of living increases

Mankiw's Principle 9: Prices rise when the government prints too much money (economy as a whole)

inflation is due to the increase of money printed

Mankiw's Principle 10: Society faces a short-run trade-off between inflation and unemployment (economy as a whole)

inflation increases, employment decreases (inversely proportional)

productive (PPF)

produces at a point on PPF

PPC/PPF

a model that helps economists think about the trade offs our economy faces: efficiency, opportunity cost, economic growth, scarcity

allocative (PPF)

produces at point along its PPF that makes consumers as well off as possible

increasing opportunity cost (PPF)

more of one resource = more of 2nd resource has to give up

gains from trade

dividing tasks and trading, two people can each get more of what they want than they could get by being self-sufficient

how can the economy produce more?

by having each person specialize in a task and trade with others

comparative advantage

producing something if the opportunity cost of that production is lower for that individual than for other people

absolute advantage

can produce more output with a given amount of input (time & resources)

terms of trade

amount 1 < x < amount 2

productive efficiency is the same as ...?

pareto effiecieny (able to produce as much as they can)

traditional economy

production is done by individuals for themselves (religious groups, tribal groups)

command economy

production is done based on what the government thinks is best (socialism, communism, USSR)

market economy

production is based on individual interactions in the marketplace (capitalism, USA)

Mixed economy

in reality, nearly all economies are mixed

invisible hand

individual does something good for themselves that benefits others in society (money hungry)

public goods rationale (need)

some goods are so important that they are best provided by the government at little or no cost to citizens (public schools, police)

economies of scale (efficiency)

some goods can be provided more efficiently when they are provided on a large scale (roads, wi-fi)

free rider problem

people will try to benefit from a public good without sharing in its cost, decreasing efficiency (not paying taxes, but wanting help of police)

bill of rights issues

people argue some social decisions cross the line of allowing individual freedome/choice (drug laws, public smoking bans)

private sector

part of economy owned by individuals and operated for their benefit (take place only when both sides benefit)

public sector

part of economy that is owned and operated for the benefit of the whole society

5 functions of the public sector

-promote competition
-define and enforce property rights
-provide public goods
-reduce negative externalities
-redistribute income

What does Friedman identify as the most appropriate means in a liberal society?

free discussion and voluntary co-operation

excludable

can be prevented from usage

rivalrous

helps one person from usage and inversely hurts another by same usage

private good

goods that are excludable and rival in consumption (preventable and hurtful)

common good

cannot be prevented from use but hurts one other person's ability to use it

natural monopoly

can be prevented from usage but does not hurt other's ability to use it

public good

neither excludable nor rival in consumption, cannot be prevented and does not reduce other person's ability to use it

negative externality

a loss suffered but are not compensated for it

3 basic economic questions

1. what will be produced
2. how will it be produced
3. from whom will it be produced

what is the study of economics?

the study of how producers and consumers interact to meet their unlimited wants and needs with limited resources

free lunch

no such thing as free, always hidden cost behind something