Econ 101 Midterm #1 Terms

Marginal Decision Making

Rational people compare additional benefits against additional costs

Efficiency

Maximizing productivity given resources

Incentives

Rewards or penalties that change consumer/producer behavior

What is a GOOD economic model?

Should predict cause and effect and state assumptions clearly and describes real world accurately

Positive analysis

How world factually works

Normative analysis

How world SHOULD work

Production Possibilites Frontier

Line on Production Possibilities graph

Determinants of Demand

1. Prices of related goods - substitutes, complements

2. Income - normal good vs. inferior good

3. Number of buyers

4. Consumer preferences

5. Expectations of future prices

Shift in PPF for Supply

1. Prices of related goods - substitutes and complements

2. Expectations of future prices

3. Number of sellers

4. Technology

5. Input prices

Absolute Advantadge

Produce more output given same amount of resources

Comparative Advantadge

Better at producing one good than they are at producing other goods

Specialization

Spending all or most of your time making one good, increases total production

Gains from trade

The increased total production from specialization

Competitive Market

1. Standardized good (every good is same)

2. Full information about the goods (no one knows more than anyone else in the market)

3. No transaction fees

4. Participants in market cannot affect prices (price takers)

Shift

Change in SUPPLY/DEMAND

Movement

Change in QUANTITY DEMANDED or PRICE

Equilibrium

Quantity supplied equals the quantity demanded

How calculate change in equilibrium price and quantity

1. Demand affected + which direction the curve will shift

2. Supply affected + which direction

3. New equilibrium point where the two curves intersect

Price elasticity of demand/supply

Size of the change in the quantity demanded/supplied of a good or service when its price changes.

Determinants of Price Elasticity of Demand

1. Substitutes (inelastic when no close subs)

2. Necessity (inelastic when necessary)

3. Adjustment time (inelastic over short time periods)

4. Cost relative to Income

5. Scope of market

Determinants of Elasticity of Supply

1. Flexibility of Production Process (inelastic when not flexible)

2. Input Availability (inelastic when input hard to get)

3. Adjustment time (inelastic over short time)

Coase Theorem

Individuals can reach an efficient equilibrium through private trades

Social Cost

New supply curve after external cost

Pigovian Tax

Fix externality with beneficial tax

How can problems with public goods be solved?

1. Government provides good as public good or forces individuals to pay

2. Social norms prevent free riding

3. Government could also let individuals buy public good and individuals can make excludable

Tragedy of Commons

Depletion of common resources due to collective ineffecient overconsumption

How to solve tragedy of commons?

Privatize or private property rights