Econ microeconomic important terms

Allocative efficiency

Achieved when just the right amount of goods and services are produced from society’s point of view so that scarce resources are allocated in the best possible way. It is achieved when, for the last unit produced, price (P) is equal to marginal cost (MC), or more generally, if marginal social benefit (MSB) is equal to marginal social cost (MSC)

Allocative inefficiency

When either more or less than the socially optimal amount is produced and consumed so that misallocation of resources results. MSB MSC.

Anchoring

Refers to situations when people rely on a piece of information that is not necessarily relevant as a reference point when making a decision.

Asymmetric information

A type of market failure where one party in an economic transaction has access to more or better information than the other party.

Average costs

Total costs per unit of output produced.

Average revenue

Revenue earned per unit sold; average revenue is thus equal to the price of the good.

Behavioral economics

A subdiscipline of economics that relies on elements of cognitive psychology to better understand decision-making by economic agents. It challenges the assumption that economic agents (consumers or firms) will always make rational choices with the aim of maximizing with respect to some objective.

Biases

Systematic deviations from rational choice decision-making.

Bounded rationality

A term introduced by Herbert Simon that suggests consumers and businesses have neither the necessary information nor the cognitive abilities required to maximize with respect to some objectives (such as utility), and thus choose to satisfice. They therefore are rational only within limits.

Bounded self-control

The idea that individuals, even when they know what they want, may not be able to act in their interests. Findings of bounded self-control include evidence of procrastination

Bounded selfishness

The idea that people do not always maximize self-interest but also have concern for the well- being of others as shown by volunteer work and charity contributions.

Capital

Physical capital refers to means of production that include machines, tools, equipment and factories; the term may also refer to the infrastructure of a country. Human capital refers to the education, training, skills and experience embodied in the labor force of a country.

Ceteris paribus

A Latin expression meaning “other things being equal”.

Choice architecture

The design of environments based on the idea that the layout, sequencing, and range of choices available affect the decisions made by consumers.

Circular economy

An economic system that looks beyond the linear take-make-dispose model and aims to redefine growth, focusing on society-wide benefits. It is based on three principles: design out waste, keep products and materials in use, and regenerate natural systems.

Competitive market

A market with many firms acting independently where no firm has the ability to control the price.

Competitive market equilibrium

Occurs if in a free competitive market, quantity demanded is equal to quantity supplied.

Complements

Goods that are jointly consumed, for example, coffee and sugar.

Complements

Goods that are jointly consumed, for example, coffee and sugar.

Consumer nudges

Small design changes that include positive reinforcement and indirect suggestions that can influence the behavior of consumers

Consumer surplus

The difference between how much a consumer is at most willing to pay for a good and how much they actually pay.

Corporate social responsibility

A corporate goal adopted by many firms that aims to create and maintain an ethical and environmentally responsible image.

Demand

The relationship between possible prices of a good or service and the quantities that individuals are willing and able to buy over some time period, ceteris paribus.

Demerit goods

Goods or services that not only harm the individuals who consume these but also society at large, and that tend to be overconsumed. Usually they are due to negative consumption externalities.

Economic growth

Refers to increases in real GDP over time.

Economics

Economics is the study of how to make the best possible use of scarce or limited resources to satisfy unlimited human needs and wants.

Efficiency

In general, involves making the best use of scarce resources. May refer to producing at the lowest possible cost or to allocative efficiency where marginal social costs are equal to marginal social benefits or where social surplus is maximum.

Elasticity

A measure of the responsiveness of an economic variable (such as the quantity demanded of a product) to a change in another economic variable (such as its price or income).

Excess demand

Occurs when quantity demanded at some price is greater than quantity supplied.

Excess supply

Occurs when quantity supplied at some price is greater than quantity demanded.

Firm

An entity such as a business that uses factors of production in order to produce and sell goods and services and earn profits. It is an important decision maker in a market economy.

Free market economy

An economy where the means of production are privately owned and where market forces determine the answers to the fundamental questions (what/how much, how and for whom) that all economies face.

Imperfect competition

A market structure where firms have a degree of market power as they face a negatively sloped demand curve and can thus set price.

Imperfect information

When the information about a market or a transaction is incomplete.

Incentive role of prices

Prices provide producers and consumers the incentive to respond to price changes. Given a price change, producers have the incentive to change the quantity supplied in accordance with the law of supply, while consumers have the incentive to change the quantity demanded based on the law of demand.

Income effect

The law of demand is explained by the substitution and the income effect. The income effect states that if the price of a good increases then the real income of consumers decreases and, typically, they will tend to buy less of the good—thus working in the same direction as the substitution effect.

Income elasticity of demand (YED)

The responsiveness of demand for a good or service to a change in income.

Indirect taxes

Taxes on expenditure to buy goods and services.

Inferior goods

Lower quality goods for which higher quality substitutes exist; if incomes rise, demand for the lower quality goods decreases.

Injections

Within the circular flow model these refer to spending on domestic output that does not originate from households and thus includes investment spending by firms, government expenditures and exports.

Joint supply

Goods jointly produced, for example beef and cattle hides; producing one automatically leads to the production of the other.

Labor

One of the four factors of production that refers to the physical and mental contribution of workers to the production process.

Land

One of the four factors of production that refers to the natural resources with which an economy is endowed; also referred to as “gifts of nature”.

Law of demand

A law stating that as the price of a good falls, the quantity demanded will increase over a certain period of time, ceteris paribus.

Law of diminishing marginal returns

A short-run law of production stating that as more and more units of the variable factor (usually labor) are added to a fixed factor (usually capital) there is a point beyond which total product continues to rise but at a diminishing rate or, equivalently, marginal product starts to decrease.

Law of diminishing marginal utility

The idea that as an individual consumes additional units of a good, the additional satisfaction enjoyed decreases.

Law of supply

A law stating that as the price of a good rises, the quantity supplied will rise over a certain period of time, ceteris paribus.

Leakages

Income not spent on domestic goods and services. It includes savings, taxes and import expenditure.

Loss

Occurs when total costs of a firm are greater than total revenues. It is equal to total cost minus total revenue.

Luxury goods

Goods that are not considered essential by consumers therefore they have a price elastic demand (PED > 1), or income elastic demand (YED > 1).

Manufactured products

Products or goods that have been produced by workers often working with capital goods.

Marginal benefit

The extra or additional benefit enjoyed by consumers that arises from consuming one more unit of output.

Marginal costs

the extra or additional costs of producing one more unit of output

Marginal revenue

the extra or additional revenue that arise when selling an additional unit of output

Marginal social benefit (MSB)

The extra or additional benefit/utility to society of consuming an additional unit of output, including both the private benefit and the external benefit.

Marginal social cost (MSC)

The extra or additional cost to society of producing an additional unit of output, including both the private cost and the external costs.

Marginal utility

The extra or additional utility derived from consuming one more unit of a good or service.

Market equilibrium

In a market this occurs at the price where the quantity of a product demanded is equal to the quantity supplied. This is the market clearing price since there is no excess demand or excess supply.

Market failure

The failure of markets to achieve allocative efficiency. Markets fail to produce the output at which marginal social benefits are equal to marginal social costs; social or community surplus (consumer surplus + producer surplus) is not maximized.

Merit goods

goods or service considered to be beneficial for people that are under-provided by the market and so underconsumed, mainly due to positive consumption externalities

Moral hazard

A type of market failure involving asymmetric information where a party takes risks but does not face their full costs by changing behavior after a transaction has taken place. It is very common in insurance markets.

Normal goods

a good where the demand for it increases as income increases

Normative

open to personal opinion or belief

Nudge theory

nudges are used to influence the choices made by consumers in order to improve the well-being of people and society

Opportunity cost

The next best alternative foregone when an economic decision is made.

Perfectly elastic demand

Occurs with a horizontal demand curve signifying that any amount can be bought at a particular price. (PED is infinite.)

Perfectly elastic supply

Occurs with a horizontal supply curve signifying that any amount can be offered at a particular price. (PES is infinite.)

Perfectly inelastic supply

Where a change in the price of a good or service leads to no change in the quantity supplied of the good or service. (PES is equal to zero.)

Positive economics

capable of being falsified/ right and wrong answer

Price elasticity of demand (PED)

A measure of the responsiveness of the quantity demanded of a good or service to a change in its price.

Price elasticity of supply (PES)

A measure of the responsiveness of the quantity supplied of a good or service to a change in its price.

(Price) elastic supply

Where a change in the price of a good or service leads to a proportionately larger change in the quantity supplied of the good or service in the same direction. (PES is greater than one.)

Price controls

Prices imposed by an authority, set above or below the equilibrium market price.

Price expectations

The forecasts or views that consumers or firms hold about future price movements that play a role in determining demand.

(Price) inelastic demand

Where a change in the price of a good or service leads to a proportionately smaller change in the quantity demanded of the good or service in the opposite direction. (PED is less than one.)

Price) inelastic supply

Where a change in the price of a good or service leads to a proportionately smaller change in the quantity supplied of the good or service in the same direction. (PES is less than one.)

Price mechanism

The system where the forces of demand and supply determine the prices of products. Also known as the market mechanism.

Primary commodities

Raw materials that are produced in the primary sector. Examples include agricultural products, metals and minerals.

Primary sector

Anything derived from the factor of production land. Includes agricultural products, metals and minerals.

Producer surplus

The benefit enjoyed by producers by receiving a price that is higher than the price they were willing to receive.

Production possibilities curve (PPC)

A curve showing the maximum combinations of goods or services that can be produced by an economy in a given time period, if all the resources in the economy are being used fully and efficiently and the state of technology is fixed.

Profit maximization

A possible objective of firms that involves producing the level of output where profits are greatest: where total revenue minus total cost is greatest or where marginal revenue equals marginal cost.

Quantity demanded

The quantity of a good or service demanded at a particular price over a given time period, ceteris paribus.

Quantity supplied

The quantity of a good or service supplied at a particular price over a given time period, ceteris paribus.

Rational consumer choice

when consumers make choices based on the following assumptions consistent tastes and preferences, perfect information, maximize utility

Rational producer behavior

Occurs when firms try to maximize profit. This is an assumption in standard microeconomic theory.

Rules of thumb

Rules of thumb are mental shortcuts (heuristics) for decision-making to help people make a quick, satisfactory, but often not perfect, decision to a complex choice.

Satisficing

A business or firm objective to achieve a satisfactory outcome with respect to one or several objectives, rather than to pursue any one objective at the possible expense of others by optimizing (maximizing), for example, profit, revenue or growth. It is essentially a mix of the words “satisfy” and “suffice”.

Say’s Law

A proposition stating that the supply of goods creates its own demand.

Shortage

Arises when the quantity demanded of a good or services is more than the quantity supplied at some particular price.

Social enterprise

A company whose main objective is to have a social impact rather than to make a profit for their owners or shareholders. It operates by providing goods and services for the market in an entrepreneurial and innovative fashion and uses its profits primarily to achieve social objectives.

Socially optimum output

This occurs where there is allocative efficiency, or where the marginal social cost of producing a good is equal to the marginal social benefit of the good to society. Alternatively, it occurs where the marginal cost of producing a good (including any external costs) is equal to the price that is charged to consumers (P

Subsidies

An amount of money paid by the government to a firm, per unit of output, to encourage production and lower the price to consumers.

Substitutes

Goods that can be used in place of each other, as they satisfy a similar need.

Substitution effect

When the price of a product falls relative to other product prices, consumers purchase more of the product as it is now relatively less expensive. This forms part of an explanation of the law of demand.

Supply

Quantities of a good that firms are willing and able to supply at different possible prices, over a given time period, ceteris paribus.

Supply curve

A curve showing the relationship between the price of a good or service and the quantity supplied, ceteris paribus. It is normally upward sloping.

Total revenue

The amount of revenue received by a firm from the sale of a particular quantity of output (equal to price times quantity sold).

Transfer payments

Payments made by the government to vulnerable groups in a society, including older people, low income people, unemployed and many more. The objective is to transfer money from taxpayers to those who cannot work, to prevent them from falling into poverty.

Unitary elastic demand

Occurs when a change in the price of a good or service leads to an equal and opposite proportional change in the quantity demanded of the good or service (PED