The Basic Economic Problem

What is a positive statement?

An objective statement that’s based on facts. It can be supported with evidence.

What is a normative statement?

A subjective statement, based off of personal opinion. A value judgement that is based on opinion.

Define scarcity

Scarcity is the limited availability of resources relative to unlimited wants, leading to trade-offs and the need to make choices.

What are the four factors of production?

• capital

• land

• labour

• enterprise

Define ‘Capital’

man-made inputs in the production process (e.g. machinery)

Define ‘Land’

The underlying space where the goods are produced, including the raw materials within the land.

Define ‘labour’

Human workers in the production process

Define ‘enterprise’

The organisation of the other factors of production to produce goods and services to sell to consumers.

What are the rewards for the factors of production?

• capital - interest

• land - rent

• labour - wages

• enterprise - profit

What are the three economic agents?

• consumers / households

• producers / firms

• government

What are the maximisation objectives for each economic agent?

• consumers - utility maximisation (subject to their budget constraint)

• producers - profit maximisation

• governments - welfare maximisation

Why may households not act rationally?

1. Information failure

   • may lack information on different goods/services that will inc. their utility OR may lack information on pricing and thus won’t maximise their utility

2. Time Orientation

   • may focus on inc. their short term utility (myopia) resulting in households buying lower quality items in the short term because they’re cheaper BUT it is more useful to buy higher price goods as they are higher quality.

3. Emotions and Impulses

4. Inertia

   • tendency for the same consumption behaviour to continue as it is inconvenient to change (e.g. changing WiFi provider) OR brand loyalty

5. Societal Norms

6. Loss Aversion

Why may firms not act rationally?

1. Social objectives

   • environmental, ethical objectives etc.

2. Profit satisficing

   • making sufficient profit to satisfy all stakeholder groups (e.g. employees, pressure groups, government, the public etc.)

3. Survival

4. Managerial objectives

5. Lack of information

6. Lifestyle

   • some companies may be born out of passion/lifestyle companies

7. Loss aversion

Why may governments not act rationally?

• political cycle

• unclear information about the future

• incentive problems

Define ‘free goods’

A good with zero opportunity cost

Define ‘economic goods’

A good that has opportunity cost involved with consumption or production

What is specialisatin?

When an individual, firm or country focuses on a specific task or product

What is 'division of labour?

When the production of a good or service is split into many tasks and each worker focuses on one or a few tasks.