Studied by 6 people3 basic economic problems
What to produce, how to produce, for whom to produce
Planned economy
Based on a centralized govt’s public ownership of resources
Gov’t decision-making and planning to coordinate choices that allocate resources and distribute income / output
Characteristics of a planned economy
Public ownership of productive resources
Centralized decision-making
Non-price rationing
Merits of a planned economy
Some objectives (eg. rapid economic growth and development) can be achieved more easily through direct administration and centralized govt planning
Easier to achieve a more equal distribution of income
Social services provided by govt can ease problem of poverty
Demerits of a planned economy
Inefficiency in production and resource allocation
Incentives tend to be distorted
Consumers’ preferences unlikely to be addressed
Limited freedom of choice for consumers and producers
Demerits of a planned economy - inefficiency in production and resource allocation
Large no. of decisions, information to be collected and analysed, factors of production to be allocated lead to difficulty in central planning
Production, investment, trade, consumption too complicated to plan efficiently
Difficulty of forecasting future changes in the economy / world
Bureaucracy implies inefficient use of resources
Free market economy
Based on private ownership of resources and decision making
Relies on price systems to allocate resources and distribute income / output
Features of free market economy
Private ownership of resources (institution of private property established and enforced by govt)
Decentralized decision-making
Reliance on price system (free competition, prices determined by demand and supply - rationing signal and incentive to distribute to those who can afford)
Private property rights
Exclusive right to use the property
Exclusive right to the income generated from the property
Right to transfer ownership
Merits of market economy
Invisible hand (coordination of resource and product markets is achieved by individual decisions based on self-interest)
Productive efficiency
Allocative efficiency
Economic growth (pursuit of self-interest)
Drawbacks of a pure market economy
Market may not provide or under-provide merit goods
Market may provide or over-provide demerit goods
Resources may be depleted and the environment may be polluted due to firms aiming at profit and cost minimization
Monopolies may arise and limit competition
Lack of social security net to protect some members of society, eg. long-term unemployed
Cannot operate effectively without govt’s definition of private property rights and legal framework
Assumptions for PPC
Only 2 goods or services
Resources employed fully and efficiently
Technology given
Points on the PPC
Maximum amounts of the 2 goods that can be produced with current resources and technology
Points outside the PPC
Unattainable with current resources and technology
Points inside the PPC
Under-utilisation of resources
Underemployment of resources and/or inefficient production
Scarcity on a PPC
Limited resources and state of technology available → production points outside the PPC are unattainable
Choice on a PPC
Many points exist along the PPC → economy has to make a choice on the combination of goods to be produced
Opportunity cost
Slope of the PPC represents the opportunity cost of producing one more unit of X in terms of Y
Increasing opportunity cost as more X is produced
PPC is concave to the origin
Increasing |m| as more X is produced
Resources will be diverted from the production of Y when the production of X increases. However, the resources more suited to the production of X will be used first, while the resources more suited to the production of Y will be used later.
Causes of economic growth
Increase in quality, eg. worker productivity
Increase in quantity of factors of production, eg. land, capital, labour (manpower)
Causes of potential economic growth
Improvement in quality/quantity of resources/technology (eg. labour, capital goods, natural resources - discovery of precious metal deposits)
Potential economic growth without actual economic growth
Discovery of new resources, technology etc. that is not utilised by the economy to increase output
Actual economic growth without potential economic growth
An economy that initially doesn’t fully utilise its resources utilises its resources more fully
Simple division of labour
A worker specializes in providing one particular product or service
Complex division of labour
Different workers specialize in a particular production stage of a good or service
Regional/territorial division of labour
A region or country specializes in producing a good or a particular production stage
Advantages of division of labour
Increases labour productivity
Practice makes perfect
Choosing the most suitable person for a job
Economy of time
Stimulus to mechanization
Economy in the use of capital, if capital saved is devoted to the production of other capital goods
Wider choice of goods and services
Disadvantages of division of labour
Work becomes dull and monotonous
Greater degree of interdependence between production stages
Greater risk of unemployment
Decline in quality of craftsmanship
Limitations of division of labour
Nature of production - cannot be applied to work requiring individuality
Size of the market - if the market is small and demand is low enough, division of labour is not needed
Possibility of trade - trade barriers limit division of labour
Factors affecting total supply of labour
Size of population
Proportion of population that works
No. of working hours (eg. less public holidays)
Factors leading to a higher proportion of the population that works
Higher legal retirement age
Lower minimum working age
More childcare services
Factors affecting productivity of labour
Education and training
Quantity and quality of labour
Methods of organizing labour
Working conditions and other welfare measures
Health conditions of labour
Factors affecting occupational mobility
Monetary rewards
Non-monetary rewards
Skills of workers
Restrictions of trade unions and professional associations
Age of workers
Availbility of market information
Factors affecting geographical mobility
Transport
Political status of home country
Economic status of home country
Economic status of foreign countries
Social factors (racial discrimination, differences in culture, customs, and language)
Restrictions on immigration and emigration
Availability of market information
Costs of capital
Tradeoff between production of capital and consumer goods (present and future consumption) due to scarcity
Economic roles of an entrepeneur
Risk-bearing (face uncertainties about returns due to owning business)
Decision-making (3 economic problems, ability to innovate, seek new opportunities)
Management (organize other factors of production, take on risks of success/failure)
Effects of profit as return for entrepeneurship
Encourages entrepeneurs to take risks to invest
Provides additional fund for investment and innovation
Encourages efficient use of available resources
Product-output curves
MP is the slope of TP
At TP’s inflection point, MP is at maximum
At max TP, MP is 0
MP cuts AP from above at its maximum
Cost-output curves
TC and TFC start at the same nonzero point. TFC remains constant
TC and TVC are “parallel”, with TC above TVC, which starts at 0
MC first decreases, the n increases, cutting AVC and AFC at their minima
ATC is the vertical sum of AVC and AFC
The gap between ATC and AVC, AFC, gradually decreases
AFC decreases steadily, approaching 0 as Q approaches infinity
Cost curves and product curves
Maximum MC = minimum MP
Maximum AP = minimum AVC, ATC
Economies of scale (list only)
Specialisation of labour and management
Indivisibilities of capital equipment and efficient processes
Marketing
Purchasing
R&D
Financial
Economies of scale
Specialisation of labour and management (possibility for wider scope of division of labour, more experts in management can be hired for more efficient management)
Indivisibilities of capital equipment and efficient processes (machines used more fully, mass production assembly lines: all inputs used in proportionately smaller quantities)
Marketing (advertising costs shared among larger outputs)
Purchasing (bulk purchase, discounts)
R&D (shared over larger outputs, can afford to spend on R&D, new cost-saving production techniques)
Financial (easier to raise capital with lower interest rate due to goodwill, big size)
Diseconomies of scale (list only)
Management
Poor motivation of workers
Marketing
Diseconomies of scale
Management (difficulty of coordination and monitoring, communication becomes a time-consuming process, leading to growing inefficiency)
Poor motivation of workers (lose sense of belongingand become unmotivated leading to lower efficiency)
Marketing (saturated market, cannot find sufficient demand, advertising costs have limited effects on sales)
Reasons for vertical supply curve
Not enough time to produce more
Impossible to produce more
Functions of price in a market (list only)
Price rationing and resource allocation
Price as a signal
Price as an incentive
Functions of price in a market
Price rationing and resource allocation (to those who can pay, invisible hand)
Price as a signal (communicate information to decision-makers; reflect consumer preference and ability, supply of goods in a market)
Price as an incentive (respond to information communicated, address economic problems for highest profit, find best product with lowest prices, make choices on what and how much to buy)
Factors affecting demand
Availability and closeness of substitutes - competitive demand
Complements - joint demand
Change in consumer taste/preference
Superior goods
Inferior goods
Changes in price expectation of consumers
Change in no. of consumers/size of population
Derived demand
Factors affecting supply
Change in no. of firms
Change in seller’s expectation of price movement
Price of goods in joint supply (Qs of A, S of B)
Price of goods in competitive supply (Qs of A, S of B)
Change in technology
Change in prices of inputs/factors of production
Supply shocks (adverse/beneficial)
Supply and demand both increase
Price indeterminate, Qt increases
D inc > S inc, P inc
D inc = S inc, P unchanged
D inc < S inc, P dec
Supply and demand both decrease
Price indeterminate, Qt decreases
D dec > S dec, P dec
D dec = S dec, P unchanged
D dec < S dec, P inc
Supply decreases, demand increases
Price increases, Qt indeterminate
D inc > S dec, Qt inc
D inc = S dec, Qt unchanged
D inc < S dec, Qt dec
Supply increases, demand decreases
Price decreases, Qt indeterminate
D dec > S inc, Qt dec
D dec = S inc, Qt unchanged
D dec < S inc, Qt inc
Elastic demand
PED > 1
Qd > P
Increase TR by lowering P
Inelastic demand
PED < 1
Qd < P
Increase TR by increasing P
Factors affecting PED
Availability and closeness of substitutes - elastic
Degree of necessity - inelastic
Proportion of expenditure in total expenditure - elastic
Length of time required to make the purchase - elastic
Primary commodities and PED
Tend to have lower PED, high price fluctuation from supply fluctuation
Manufactured products
High PED, low price fluctuation from supply fluctuation
Scarcity (of choice)
Inadequate supply of resources to satisfy unlimited human wants
Choice
People consider what to buy and what to give up on an individual level; a firm or society decides based on the 3 basic economic problems
Study of economics
Study of how human beings make decisions to solve the problem of scarcity and how people in a society interact with each other, and the study of rationing systems
Rationing systems
How scarce resources are allocated to fulfill the unlimited wants of human beings
Opportunity cost
Cost expressed in terms of the next best alternative foregone
Time cost
Next best alternative use of time
Implicit cost
Costs that involve no explicit outlay, but there are genuine opportunities to be foregone
Explicit cost
Costs that involve a transfer of funds from one to other parties
Interest
Cost of earlier availability of goods or resources to the borrower and the compensation for deferring consumption of goods or the use of resources to the lender
Firm
Basic unit of production that employs factors of production, responsible for making decisions concerning production
Household
Basic unit of consumption that supplies the firm with their factors of production for an imcome, responsible for making decisions concerning consumption
Microeconomics
Study of the behaviour of individual markets
Macroeconomics
Study of how the economy as a whole works using aggregates
Positive economics
Descriptive statements, propositions and predictions about the world with no value judgement
Normative economics
Statements of what ought to be that involve value judgement and cannot be proved
Productive efficiency
Output is produced by the use of the least/lowest possible resources/costs
Allocative efficiency
Making the best possible use of scarce resources to produce the combination of goods and services that are optimum for society
PPC
Shows the maximum combinations of goods and services that can be produced by an economy in a given period of time if all the resources in the economy are being employed fully and efficiently and the state of technology is fixed
Economic growth
An increase in the volume of output produced (per person)
Potential economic growth
An economy has a greater production capacity
Actual economic growth
An economy produces a greater output
Economic development
Improvements in the general living standard of the people
Production
The process of combining inputs for creating outputs
Primary production
All activities that directly utilize natural resources in production or the extraction of resources from nature
Secondary production
The process of turning raw materials into semi-finished and finished goods
Tertiary production
Provision of services
Good
Anything providing utility to at least one person; also used in a general sense to include goods, services, and resources
Utility
A measure of usefulness and pleasure that can be derived from goods
Free goods
Goods available in sufficient quantity to satisfy all our wants, hence it is not scarce and more is not preferred. There is no opportunity cost involved, so the price is zero.
Economic goods
Goods with inadequate quantity to satisfy all our wants, hence it is scarce and more is preferred. There is opportunity cost involved in its production or usage, so the price is nonzero.
Capital goods or producer goods
Goods produced for the production of other goods
Consumer goods or final goods
Goods produced for direct consumption
Private good
A good that is rivalrous and excludable in consumption
Public good
A good that is non-rivalrous and non-excludable in consumption
Quasi- or impure public goods
Goods whose nature is between public and private goods
Merit goods
Goods considered desirable for people (society), but are underprovided by the free market and so underconsumed
Demerit goods
Goods considered to be undesirable for people (society), but are overprovided by the free market and so overconsumed
Bad
Less of it is preferred
Division of labour
The separation of production processes into a number of sub-processes, where each is performed by different persons or production units
Specialization
Division of labour that also refers to other factors of production instead of only labour
Factors of production
Resources or inputs used to produce goods or services
Labour
Human effort, mental and physical, used in production
Note
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