Econ Theme 1

What is the difference between micro and macroeconomics?

micro- study of individuals

macro- study of individuals as a whole

Opportunity cost

The benefit of the next best forgone alternative.

Models

They simplify economic processes.

Why do economists make assumptions?

Because you can’t test theories like you can in sciences.

Ceteris Paribus

All else is equal. Using ceteris paribus allows us to make conclusions about the impact of changing a single factor. 

Assumptions made in economics

1. rational behaviour

2. average income

3. Market is competitive

4. Ceteris Paribus 

Positive vs normative statements

positive- do not contain value judgement (opinion) and can be proved right/wrong

normative- contain value judgement and cannot be proved right/wrong

role of value judgements in influencing economic decision making and policy

Subjective opinions/beliefs about what’s desirable/undesirable in an economic context. These shape economic decisions/policies. 

What is the economic problem? Why does it exist?

Humans have scarce resources but infinite wants. This means that resources need to be allocated.

Renewable vs non renewable resources

Renewable: they can be replenished/regenerated

  -over extraction affects long term supply

Non-renewable: they cannot be replenished/regenerated- finite in supply.

  -the rate of extraction depends partly on the current market price

Economic agents 

• producers

• consumers

• government 

Opportunity cost to economic agents

• Producers- potential profit loss when choosing one production method over another.

• Consumers- what is sacrificed by choosing one product over another

• Government- benefit forgone by prioritising the thing that’s best for the public (decided by value judgement)

PPF

Production Possibility Frontier. It’s a curve stating maximum possible output combinations of two goods/services when available resources are used to maximum efficiency.

PPFs are used to depict…

• the max productive potential of an economy 

• opportunity cost (through marginal analysis) 

• economic growth/decline 

• possible and unobtainable production 

• (POEMW)

What is specialisation?

It’s when we concentrate our scarce resources on a specific product/task. 

Advantages of specialisation

• higher output (increased productivity)

• Consumers have access to a greater variety of goods/services

• Higher economies of scale

Disadvantages of specialisation

• Workers may find it difficult to find alternative jobs because they are only good at a specific thing.

• Over reliance on production of specific product- more vulnerable to changes in demand

What is division of labour?

Production process is broken into smaller separate tasks.

Advantages of division of labour 

• Increased output per person (they learn by doing, becoming better at doing that one task)

• Lower supply cost per unit 

Disadvantages of division of labour

• Unrewarding, unmotivating work may lower productivity

• Potential higher rates of absenteeism

• Higher rates of employee turnover

• Injuries

Adam Smith on division of labour

DoL in pin factory led to many more pins being produced.

What is money?

It’s an object that is generally accepted as a means of payment for goods and serivices

Functions of money

• medium of exchange

• measure of value

• store of value (has value over time)

• method of deferred payment (accepted way to settle a debt)

fiat money

has no intrinsic value

only has value because of trust placed in government that issues it 

key characteristics of money

• hard to counterfeit

• durable and portable

• acceptable when making transactions

• holds value over time

• valuable + divisible

Economic System

refers to the structure used to distribute, produce and consume goods/services (within a defined area)

Key functions of economic systems

• production

• distribution

• consumption

• coordination

Three different types of economies

• free market economy

• mixed economy

• command economy

Free market economy

• Capitalist views

• private individuals/companies control resources

• Producers compete with each other for consumers, consumers compete with each other for scarce goods.

Invisible hand

It is driven by individuals’ pursuit of self-interest — producers aiming to maximise profits and consumers seeking to maximise utility. Through competition and the price mechanism, these actions lead to resources being allocated efficiently, as if guided by an invisible hand.

Advantages of free market economy

• consumer sovereignty

• flexibility (can respond to changes in consumer wants quickly)

• increased choice

• no bureaucracy (officials not needed to allocate resources)

• economic/political freedom

Disadvantages of free market economy

• inequality

• trade cycles (may suffer from instability of booms and slumps)

• monopolies (firm may become sole supplier of a good/service and exploit that by charging higher prices than the free market equilibrium)

• Externalities (costs/benefits to third parties) not taken into account when goods/services are produced/consumed)

Command economy

• Socialist views

• Government controls the distribution of the resources

Advantages of command economy

• Greater equality

• Macroeconomic stability (government can smooth out slumps and booms)

• Negative externalities taken into account

• Minimum standard of living provided

Disadvantages of command economy

• Inefficiency

• Lack of choice for consumers

• Restrictions on freedom of choice'

• shortages and surpluses

• stagnant economic growth

• lack of innovation

Mixed economy

• resources partly allocated by government, partly by private individuals/companies

• Government’s role: ensuring the healthy functioning of markets