Economics IB unit 1

Economics =

-The study of scarcity

The 3 questions of economics

What to produce for?, How to produce?, and For whom to produce for?

9 Key elements

Scarcity, Choice, Efficiency, Equity, Economic well-being, sustainability, change, interdependence, and intervention

Scarcity

resources are limited, but wants, needs and desires are more or less unlimited.

Choice

Selecting one option from a set of available alternatives, necessitated by the fundamental problem of scarcity. Links closely with Opportunity cost

Opportunity cost

The loss of another opportunity when the other is chosen.

Efficiency

to do things using the least amount of resources.

Equity

being fair (ie: fairness in distribution of goods and services)

Economic well-being

The overall quality of life of individuals and societies, measured by their ability to meet their material needs and have a sustainable financial foundation to prosper.

Sustainability

leaving resources for future generations to make use of. Doesn’t just mean conserving resources but finding ways to be more efficient like advancement in technology.

Change

Shifts or modifications in economic factors such as demand, supply, prices or structure, which influences economic outcomes like market equilibrium or growth over time.

Interdependence

Mutual reliance of economic actors (individuals, businesses, or nations) on each other, where the actions of one party affect the other and vice versa

Intervention

The overwhelming majority of people (extreme anarchists excluded) see the need for some government intervention.

The 4 resources of economics

Land, labor, capital, entrepreneurship

Free Market

An economic system that is based on supply and demand with no government intervention

Command Market

Economic system where a central authority (usually government) controls all economic decisions, including what to produce, how to produce and who to produce for.

Mixed market

An economic system that blends traits from both a free market and command market.

PPC (Production possibilities curve or frontier)

A graphic representation of the maximum possible production combinations of 2 goods given its fixed resource and technology

Human capital

The sum total of health, education, enterprise, and training in a person's workforce.

Merit goods

goods that are underconsumed in a free market and are encouraged (ie: fruits, smoke alarms etc.)

Demerit goods

Goods that are overconsumed and discouraged through restrictions (ie: cigarettes, fried chicken, alcohol)

Free goods

Stuff that is abundant and will not realistically run out (ie: salt in the sea, wind, etc.)

Economic goods

a product or service that can command a price when sold.

Public goods

A commodity, product, or service that is both non-excludable (very hard to prevent people from using it) and non-rivalous (one person’s consumption doesn’t harm others) like a public lamp post.

Free-rider problem

Where people benefit from public goods without paying, private firms will then underprovide public goods, leading the government to supply and spend through taxation.

Leakages

taxes, savings, imports (more leakages than injections will make economy shrink)

Injections

investments, Government spending, exports (more injections than leakages will make economy grow)

Flows

the quantity that can be measured over a period of time

Say’s law

principle which states that the production of goods and services creates its own demand

Adam Smith

lived from 1723-1790, ‘the father of economics’, wrote “The wealth of nations” (1776) and emphasized the importance of government, self-interest and social goods. Stressed the danger of monopoly and the creator of the “invisible hand” which states that individuals and businesses pursuing their own self interest in a free market can, without intending to, promote the public good and efficiently allocate resources.

Karl Marx

1818-1883 (Germany) Wrote the Communist Manifesto (1848), Das Kapital (1867). Considered the father of communism by showing the fatal contradictions in capitalism. Idea of surplus value.

John Maynard Keynes

1883-1946 (England) creator of Keynesianism (left wing) which is a theory that proposes that the government should actively intervene in an economy through fiscal policy, (gov. Influence on the economy through tax or public spending) to stabilize aggregate demand, boost economic output, and reduce unemployment during economic downturns.

Milton Friedman

1912-2006 (USA) The father of monetarism (right wing). Controversial for his great faith in free markets and rejection of Keynesianism. He was active in policy arguments (e.g. drug decriminalisation) and libertarianism. Author of Capitalism end freedom (1962)

‘’We can have a big pizza shared unevenly, or we can have a smaller pizza shared equally’’. Relate this to an important debate in economics

This relates to the debate on inequality and equity. Inequality naturally arises in any economy. Some people get rich through luck and some people get rich because of their entrepreneurial skills or some other God-given talent. If too much is taken away from those who are wealthy, incentives to become wealthy are diminished. Some of a nation’s talent might decide to go abroad, or some might not work as hard.

Why might economic growth endanger sustainability? On the other hand, why might economic growth help sustainability?

Growth means more goods and services are being produced. This means more cars, airplanes, coffee from the high street, hair dryers, fast fashion, steaks etc. There comes a point when a high percentage of the adult population can afford a car. Obviously, this means more scarce resources being used up. On the other hand, growth through competitive markets

In the simple circular flow of income model, why does expenditure equal income?

Every time money is spent, that same amount of money becomes income for someone (note that income is not the same as profit). In the simple model, there are no leakages or injections. All income is spent, and thus becomes income for someone.

Carefully explain the difference between a positive and normative statement.

A positive statement can be shown to be true or false whereas normative statements remain matters of opinion. ‘Inflation is currently at 10%’, is a positive statement, whilst ‘The government should do more to tackle inflation’ is a normative statement

Why do you think a command economy is so difficult to organise? Give an example to illustrate your answer.

In a population of millions (or even dozens!), it is impossible to correctly second-guess the needs and wants of people. Moreover, a command economy needs to commit more resources to the economic question than private entrepreneurs would (think back to the sandwich sellers of Lima, and how organizing them centrally would a level of bureaucracy which previously neither existed nor was needed). In any given economy, billions of economic decisions are made every day. Trying to make all these decisions is a mammoth task which takes up many resources to do so

What are some of the economic concepts which are illustrated by the PPC?

Scarcity, Efficiency, Opportunity cost, Economic growth/economic contractions, Choice

Explain the concept of allocative efficiency. Does allocative efficiency ever happen in the real world? If not, why do we bother with it as a concept?

Allocative efficiency is essentially a normative concept which refers to productive efficiency combined with producing what consumers desire. It is useful as a concept because producing efficiently is essential as we face scarcity and also sustainability issues in society. It is also imperative to ask questions as to whether we are producing the right goods and services.

What type of rationing does a free-market economy use?

Price rationing. What is produced is decided by producers chasing the rewards on offer. They will produce the goods and services which will make them a profit. Note that no fully free-market economy exists.

In a mixed economy, how is the economic question answered?

Via a mixture of price signals and non-price signals. Private companies produce those goods and services they see as potentially profitable. These are bought by those willing and able to do so. The government produces those goods and services which private producers might not make in the necessary quantities.

How is physical capital different to a consumer good?

Physical capital is a means to an end. It exists to produce other goods and services. Consumer goods are the end of the line. They serve no other purpose beyond the utility they give in the act of consumption.

Explain why economists utter the phrase ceteris paribus so often?

Lots of things are happening in an economy at any one time. Ceteris paribus means ‘all other things being equal’. By this, we do thought experiments looking at what would happen if we were to tweak just one economic variable at a time when nothing else changes.