Economics Unit 2

Microeconomics

the study of individual markets and sections of the economy, rather than the economy as a whole

What falls under Microeconomics?

The factors that influence the choices of individuals, households, and firms, how their decisions affect the price, demand and supply of goods/services in a market, and how Governments influence consumption and production.

Macroeconomics

the study of economic behaviour and decision making in the entire economy, rather than just an individual market

What falls under macroeconomics?

role of the government in achieving economic growth and development through the implementation of specific government policies and the interaction of the economy with the rest of the world through international trade.

What is a Market?

Any set of arrangement that brings together all the producers and consumers of a good or service,

What is demand?

the quantity of goods and services consumers are willing and able to buy at a given price over a given period of time.

What is effective demand

Demand where the willingness to buy is backed by the ability to pay.

What is the law of demand?

that an increase in price leads to a decrease in quantity demanded, and a decrease in price leads to an increase in quantity demanded.

What factors cause shifts in a demand curve?

Consumer incomes, taxes on incomes, price of substitutes, price of compliments, changes in consumer tastes and fashion, degree of advertising, and change in population.

What is supply?

the willingness and the ability of producers to supply a good or services at a given price.

What is market supply?

the amount of goods and services all producers supplying that particular product are willing to supply or the sum of individual supplies of all producers.

What is the law of supply?

that an increase in price leads to a increase in quantity supply, and a decrease in price leads to an decrease in quantity supply.

What factors cause shifts in the supply curve?

Changes in costs of production, Changes in the quantity of resources available, technological changes, and the profitability of other products.

What is PED?

the responsiveness of the quantity demanded to changes in its price.

Formula for PED

% change in quantity demanded / % change in price

What factors affect PED?

Number and closeness of substitutes, time period, and proportion of income spent on commodity.

What is PES?

the responsiveness of its quantity supplied it to changes in its price.

PES formula?

%change in quantity supplied / %change in price

What affects PES?

Time of production and availability of resources.

What are public goods?

goods that can be used by the general public, from which they will benefit.

What are merit goods?

goods which create a positive effect on the community and ought to be consumed more.

What are subsidies?

financial grants made to firms to lower their cost of production in order to lower prices for their products.

Who allocates resources in a market economic system?

Private producers and consumers, through the market.

How much government involvement exists in a market economy?

Very little or none in resource allocation.

Who owns resources in a market economic system?

Private individuals.

How does the government behave in a market economy?

It avoids regulation and mainly protects property rights, creating business-friendly conditions.

What determines prices in a market economy?

Supply and demand through the price mechanism.

What is the price mechanism

The process through which prices are determined by demand and supply, guiding how resources are allocated in a market economy without government intervention. Rising prices signal producers to increase supply, while falling prices reduce production.

Why does a market economy produce a variety of quality goods?

Competition encourages firms to innovate and improve quality to attract buyers.

How do firms respond to changes in demand in a market system?

Quickly, they reallocate resources to meet consumer needs and maintain profit.

Why is efficiency high in a market economy?

Firms aim to maximize profit, so they minimize waste and use resources efficiently.

Why is it easy to start businesses in a free market economy?

Low government intervention means fewer regulations, fees, and restrictions.

Advantages of a free market economy.

wide variety of quality goods and services, firms will respond quickly to consumer changes in demand, and high efficiency.

Disadvantages of a free market economy

Demerit goods may be produced, duplication of products may take place, and only profitable resources will be employed.

What are demerit goods?

Goods that are over produced hence over consumed when left to the forces of demand and supply eg alcohol and cigarettes.

What are external costs (negative externalities)?

the negative impacts on society due to production or consumption of goods and services.

What are external benefits (postiive externalities)?

the positive impacts on society due to production or consumption of goods and services.

What are private costs?

the costs to the producer and consumer due to production and consumption respectively.

What are private benefits?

the benefits to the producer or consumer due to production and consumption respectively.

Social costs formula

External costs + Private Costs

Social benefits formula

External benefits + Private benefits

What are causes of market failure?

When social costs exceed social benefits, over provision of demerit goods, under provision of merit goods, lack of public goods, immobility of resources, and abuse of monopoly powers.

What are drawbacks to government intervention in an economy?

Political incentives, lack of incentives, time lags and information failure, and welfare effects of policies.

What are features of a mixed economic system?

both the public and the private sector exists planning and final decisions are made by the govt. while the market system can determine allocation of resources owned by it, along with the public organizations.

Advantages of a mixed economic system?

The govt provides public goods and merit goods, the govt will keep harmful goods and externalites in control, the govt can provide jobs in the private sector, and the govt will provide financial help to falling private orgs, so jobs will be secure.

Disadvantages of a mixed economic system?

Taxes will be imposed, which will raise prices and also reduce work incentive. Laws and regulations can increase production costs and reduce production in the economy. Public sector organizations will still be inefficient and will produce low quality goods and services.

What are ways in which the government of a mixed economic system can correct market failures of the market?

Legislation and regulation, direct provision of public and merit goods, taxation, subsidies, tradable permits, extension of property rights, and international cooperation.

How does legislation help correct market failure in a mixed economy?

The government creates laws to regulate harmful activities such as banning smoking in public to reduce negative externalities.

What are price controls?

Government-set limits on prices to prevent them from being too high or too low.

What is a minimum price (price floor)?

A legally set price above equilibrium to prevent prices from falling too low.

What is a consequence of minimum wage being set above equilibrium?

Labour demand contracts, labour supply increases leading to unemployment caused by excess supply of labour.

What is a maximum price (price ceiling)?

A legally set price below equilibrium to prevent prices from rising too high.

What problems arise from a maximum price (rent control)?

Lower rent discourages landlords (reducing supply) while demand increases leading to shortages.

Why does the government directly provide merit/public goods?

Because market mechanism has little incentive to supply them profitably.

What is nationalisation and why is it used?

Government takes over essential industries to ensure affordable public access.

How does taxation reduce negative externalities?

It raises the cost of harmful goods which discourages production & consumption.

What effect does a tax have on supply?

Causes a left ward shift in the price curve, price increases, and quantity falls.

What effect does a subsidy have on supply?

Supply shifts right (S to S1) and price falls (P to P1) & quantity rises

Why is international cooperation needed for market failure?

Some problems, like climate change, require joint action between nations.