Economics First Test

CH. 1 TEN PRINCIPLES OF ECONOMICS:

Economics

What is economics?

The study of how society manages its scarce resources.

Scarcity

Why does society have to make economic choices?

Because society has limited resources but unlimited wants and needs.

Scarcity

What are some examples of scarce resources?

Time, money, labor, land, natural resources, and capital.

Trade-offs

What is a trade-off?

A situation in which getting more of one thing requires giving up something else.

Trade-offs

Why does scarcity create trade-offs?

Because limited resources cannot be used to satisfy every want, so choosing one use means giving up another.

Trade-offs

If a student works more hours to earn more money, what might they have to give up?

They may have less time for studying, sleeping, or leisure.

Trade-offs

What trade-off does society face when deciding how much to spend on national defense?

More resources devoted to the military leave fewer resources available for consumer goods and services.

Trade-offs

If a country increases military spending, what is one possible opportunity cost?

Some consumer goods or services that could have been produced with those resources.

Trade-offs

Why can protecting the environment involve a trade-off?

Resources used to reduce pollution may no longer be available for producing other goods and services.

Opportunity Cost

What is opportunity cost?

Whatever must be given up to obtain something.

Opportunity Cost

What is the most important part of identifying an opportunity cost?

Identifying the next-best alternative that was given up.

Opportunity Cost

If you spend $50 on a concert ticket instead of buying clothes, is the opportunity cost necessarily $50?

No. The opportunity cost is the value of the next-best alternative you gave up, which might be the clothes or another use of the money.

Opportunity Cost

Why should time be included when thinking about opportunity cost?

Time is scarce, so using it for one activity means giving up another activity.

Opportunity Cost

If you spend Saturday studying instead of working, what could be part of the opportunity cost?

The wages you could have earned from working.

Rational People

What does it mean when economists assume people are rational?

People systematically try to do what is best for themselves given the opportunities and information available to them.

Rational People

What two things do rational people generally compare when making decisions?

Costs and benefits.

Marginal Analysis

What does it mean to make a decision "at the margin"?

It means considering the benefits and costs of making a small additional change.

Marginal Analysis

What is marginal benefit?

The additional benefit received from one more unit of an activity.

Marginal Analysis

What is marginal cost?

The additional cost of one more unit of an activity.

Marginal Analysis

What rule should a rational person use when deciding whether to do one more unit of an activity?

Do it if the marginal benefit is greater than the marginal cost.

Marginal Analysis

What should a rational person do when marginal cost exceeds marginal benefit?

They should not take the additional action.

Marginal Analysis

What if marginal benefit equals marginal cost?

The person is indifferent about the additional unit because the extra benefit and extra cost are equal.

Marginal Analysis

Why shouldn't someone decide whether to study based only on how much they have already studied?

The relevant decision is whether the benefit of studying one more hour exceeds the cost of that additional hour.

Marginal Analysis - Disney +

According to the Disney+ example, what is the marginal benefit of watching one more movie?

The enjoyment received from watching that additional movie.

Marginal Analysis - Disney +

In the Disney+ example, what is the monetary cost of watching one more movie?

0$

Marginal Analysis - Disney +

If watching one more Disney+ movie costs $0, does that mean watching it has no cost?

No. There can still be an opportunity cost because the time could have been used for another activity.

Marginal Analysis - Disney +

When should you watch one more movie according to the Disney+ example?

When the marginal benefit of watching it exceeds its marginal cost, including the opportunity cost of your time.

Marginal Analysis - Cashier

A manager is considering hiring one additional cashier who would increase sales revenue by $600 per week and cost $400 per week. Should the manager hire the cashier?

Yes. The marginal benefit ($600) exceeds the marginal cost ($400).

Marginal Analysis - Cashier

If the additional cashier would generate $400 in additional revenue but cost $600 per week, should the manager hire them?

No. The marginal cost exceeds the marginal benefit.

Incentives

What is an incentive?

Something that induces a person to act.

Incentives

Why do people respond to incentives?

Because rational people make decisions by comparing costs and benefits.

Incentives

Can incentives have unintended consequences?

Yes. People may change their behavior in ways policymakers or businesses did not expect.

Incentives - Doughnuts

If the price of doughnuts increases, how might consumers respond?

Consumers will generally buy fewer doughnuts.

Incentives - Doughnuts

If the price of doughnuts increases, how might sellers respond?

Sellers have an incentive to produce more doughnuts because the higher price makes production more attractive.

Incentives

Why can the same price increase affect buyers and sellers differently?

A higher price makes the good more expensive for buyers but makes producing and selling it more profitable for sellers.

Gasoline Incentives

If the government increases the gasoline tax, what incentive does this create for consumers?

It gives consumers an incentive to reduce gasoline use.

Gasoline Incentives

What are some ways consumers might respond to higher gasoline costs?

They might buy more fuel-efficient cars, carpool, ride bikes, use public transportation, or drive less.

Incentives

Why is understanding incentives important when predicting human behavior?

Changes in costs or benefits can cause people to change their choices.

Trade

What is the main idea behind the principle "Trade Can Make Everyone Better Off"?

Trade allows people and countries to specialize and obtain a greater variety of goods and services.

Trade

Why can two people both benefit from trading with each other?

Each person can specialize in something they do relatively well and trade for something the other person produces more efficiently.

Trade

Does trade have to be a situation where one person's gain is another person's loss?

No. Voluntary trade can make both sides better off.

International Trade

How can countries benefit from international trade?

Countries can specialize in what they do best and trade for other goods and services.

International Trade

How can trade give consumers a greater variety of products?

Consumers can buy goods produced by other countries in addition to goods produced domestically.

Specialization

Why does specialization make trade more beneficial?

Specialization allows people or countries to focus resources on activities where they have a relative advantage

Markets

Why are markets usually a good way to organize economic activity?

Markets allow buyers and sellers to coordinate decisions through prices.

Prices

How are prices determined in a market?

Prices are determined by the interaction of buyers and sellers.

Prices

What information can a market price communicate to consumers?

It can communicate information about the value and scarcity of a good.

Prices

What information can prices communicate to producers?

They provide information about what consumers are willing to pay and the potential profitability of producing the good.

Adam Smith / Invisible Hand

What does the "invisible hand" refer to in economics?

The idea that individuals pursuing their own interests can unintentionally help coordinate economic activity through markets and prices.

Government

Why might the government need to intervene in a market?

Government intervention may improve outcomes when there is a market failure or when society wants to promote greater equality.

Market Failure

What is a market failure?

A situation in which the market fails to allocate resources efficiently.

Externalities

What is an externality?

The effect of one person's or firm's actions on the well-being of an outside bystander.

Externalities

Why can pollution be considered a market failure?

Pollution can impose costs on people who were not involved in the transaction that created the pollution

Market Power

What is market power?

The ability of a single economic actor to substantially influence market prices.

Government Intervention

Why might government regulation be necessary when a company has significant market power?

The company may be able to restrict output or raise prices in a way that reduces economic efficiency.

Government — Public Schools

Why might public schools represent government intervention in the economy?

Government provides education using public resources rather than leaving education entirely to private markets.

Government — Workplace Safety

Why might the government regulate workplace safety?

To protect workers and address situations where private market incentives may not provide sufficient safety.

Government — Public Highways

Why might the government provide public highways?

Highways can provide broad benefits to society and may be difficult or inefficient to provide entirely through private markets.

Government — Patents

Why does the government grant patents?

To give inventors temporary exclusive rights that encourage innovation and investment in new products.

patents

Why can patents create a trade-off?

They encourage innovation by giving inventors market power, but that market power can lead to higher prices.

Standard of Living

What is the main determinant of differences in living standards between countries?

Differences in productivity.

Productivity

What is productivity?

The quantity of goods and services produced from each unit of labor input.

Productivity

Why does productivity have such a large effect on living standards?

Higher productivity allows an economy to produce more goods and services per worker, supporting higher incomes and consumption.

Productivity

What factors can affect worker productivity?

Equipment, technology, education, skills, and other resources available to workers.

Productivity

if workers have access to better equipment and technology, what would you generally expect to happen to productivity?

Productivity would generally increase.

Productivity
Why would two countries with similar numbers of workers potentially have very different standards of living?

Their workers may have different levels of productivity because of differences in technology, equipment, education, or other factors.

Productivity

Why does simply having more workers not automatically guarantee a higher standard of living?

The amount each worker produces is also important; productivity determines how much output can be produced per worker.

Inflation

What is inflation?

An increase in the overall level of prices in an economy.

Inflation
How does inflation affect the purchasing power of money?

Higher prices reduce the amount of goods and services that a given amount of money can purchase

Inflation

Why can rapid increases in the money supply contribute to inflation?

If the amount of money grows faster than the economy's production of goods and services, prices can rise.

Unemployment

What does unemployment represent?

People who are willing and able to work but do not have jobs.

Inflation and Unemployment

What short-run trade-off does Principle 10 describe?

In the short run, policies that push inflation down may increase unemployment, while policies that reduce unemployment may increase inflation.

Inflation and Unemployment

Why can inflation and unemployment move in opposite directions in the short run?

Changes in economic activity and policies can increase demand and employment while also putting upward pressure on prices.

Inflation and Unemployment

Does the short-run trade-off mean inflation and unemployment always move in opposite directions?

No. Other factors can affect the relationship, but economists identify a short-run trade-off in many situations.

Ten Principles

why is the principle "People Face Trade-offs" connected to the principle "People Respond to Incentives"?

Because people must choose among alternatives, and changes in the costs and benefits of those choices influence which alternative they select.

Ten Principles

How are opportunity cost and marginal analysis connected?

Marginal decisions require considering the additional opportunity cost of doing one more unit of an activity.

Ten Principles

How do incentives and prices work together in a market economy?

Prices change the costs and benefits faced by buyers and sellers, creating incentives that influence their behavior.

Ten Principles

How are trade and specialization connected?

Trade allows individuals and countries to specialize in activities where they have a relative advantage and exchange for other goods.

Ten Principles

How are productivity and standard of living connected?

Greater productivity allows workers to produce more output, which generally supports higher incomes and living standards.

Ten Principles

Which principles are especially connected to the role of government?

Markets are usually a good way to organize economic activity, but government can potentially improve outcomes when there are market failures or concerns about equality.

CHAPTER 2 — THINKING LIKE AN ECONOMIST:

Topic: Economists as Scientists

Why are economists considered scientists?

They use theories, models, data, and evidence to explain economic events and relationships.

Scientific Method

What is the basic purpose of the scientific method in economics?

To develop and test theories about how the economy works.

Economic Theories

Why do economists develop theories?

To explain economic relationships and make predictions about economic events.

Evidence

How can economists determine whether a theory is useful?

They compare the predictions of the theory with real-world evidence and data.

Economic Models

Why do economists use models?

Models simplify reality so economists can focus on important economic relationships.

Models

Why isn't an economic model supposed to include every detail of the real world?

Including every detail would make the model unnecessarily complicated and make important relationships harder to analyze.

Assumptions

Why do economists make assumptions?

Assumptions simplify complicated situations and allow economists to focus on specific relationships.

Microeconomics

What does microeconomics study?

How individual people, households, and firms make decisions and interact in markets.

Macroeconomics

What does macroeconomics study?

Economy-wide phenomena such as economic growth, inflation, and unemployment.

Micro vs. Macro

If an economist studies how a household decides how much to save, is that microeconomics or macroeconomics?

Microeconomics.

Micro vs. Macro

If an economist studies the national unemployment rate, is that microeconomics or macroeconomics?

Macroeconomics.

Micro vs. Macro
If an economist studies why one company hires more workers, what branch of economics is involved?

Microeconomics.

Micro vs. Macro

If an economist studies the rate at which prices are rising across the entire economy, what branch is involved?

Macroeconomics.

CIRCULAR-FLOW DIAGRAM:

Circular Flow

What is the circular-flow diagram?

A visual model showing how dollars and resources flow through markets between households and firms.

Circular Flow

Who are the two main decision makers in the circular-flow model?

Households and firms.

Circular Flow

What are the two markets in the basic circular-flow model?

The market for goods and services and the market for factors of production.

Goods and Services Market

Who are the buyers in the market for goods and services?

Households

Goods and Services Market

Who are the sellers in the market for goods and services?

Firms.

Factor Markets

Who sells factors of production in the factor market?

Households.

Factor Markets

Who buys factors of production in the factor market?

Firms.