ECON 20A MIDTERM 1

economy

making decisions to manage resources

scarcity of

money, time, and space

trade-offs

to get one thing we usually have to give up another thing that we like

costs and benefits

making decisions requires comparing costs and benefits

opportunity cost

what you give up to get that item; different from trade-offs because oc is what you could have done with what was given up

marginal changes

small, incremental adjustments made to an existing plan of action; marginal benefit = marginal cost

comparing benefits and costs at the margin

ex: you have a plan for the weekend

- decision is not between big changes (working all day, studying, watching tv, etc)

- decision is between spending an extra hour watching TV instead of studying

inventives

something that induces a person to act; sometimes policymakers fail to consider how policies affect incentives (results they did not expect)

is trade beneficial?

yes, trade can make everyone better off. rather than being self-sufficient, people can specialize in producing one good or service and exchange it for other goods. countries also specialize in what they do best

are markets beneficial?

yes, they are usually a good way to organize economic activity

- market economies allocate resources through decentralized decisions of firms and households

adam smith's "invisible hand"

households and firms act as if they are being guided by an "invisible hand." because prices are being looked at when trading, prices are instruments that determine supply and demand.

- prices adjust to guide buyers and sellers to reach outcomes that max the welfare of the society as a whole

can governments improve market outcomes?

sometimes. the invisible hand can only work if the government enforces the rules and keep the institutions that are necessary

- ex: property rights are the ability to own and exercise control over a scarce resource

the government can also improve market outcomes when the economies face market failures

-ex: externalities: the impact of one person's action affects the wellbeing of others-- "pollution" --> health problems --> increases healthcare costs --> affects production

the government can also intervene to promote equity

because the invisible hand can also fail to ensure that economic prosperity is distributed equitably, government implements tax and welfare policies

productivity

the amount of goods and services produced from each hour of a worker's time

if productivity is high, you will enjoy higher quality life

inflation

increase in the level of prices in an economy; prices rise when the government prints too much money

society faces a short-run trade-off between inflation and unemployment

increasing the quantity of money has the following effects:

- long-run: inflation

- short-run: lower UNemployment

assumptions

allow economists to simplify the world and make it easier to understand

ex: international trade --> 2 countries in the world producing only 2 goods

*impact of monetary policy-- short-run, prices are fixed, but flexible in long-run

1st model: circular-flow diagram

shows how dollars flow through markets among households and firms.

for markets for goods and services, firms ____ and households _____

sell, buy

for markets for factors of of production, firms ___ and households ____

buy, sell

firms

- produce and sell goods and services

- hire and use factors of production (wages, rent, profit)

households

- buy and consume goods and services

- own and sell factors of production (labor, land, capital)

2nd model: the production possibilities frontier

a graph that shows the combinations of output that the economy can possibly produce given the available factors of production and technology

outside the PPF

not feasible

along the PPF

feasible and efficient

below the PPF

feasible but not efficient

straight PPF

opportunity cost is constant

bow-shaped PPF

opportunity cost is increasing

microeconomics

the study of how households and firms make decisions and how they interact in markets (more specific)

macroeconomics

the study of economy wide phenomena, including inflation, unemployment, and economic growth (more broad)

positive statements

attempt to describe based on objectiveness/facts

normative statements

subjective statements about the world based on opinion, values, or belief that can be disproven

why economists disagree?

1. they may disagree about the validity of positive theories about the world

2. they may have different values and therefore different normative views about what policies are better

absolute advantage

the ability to produce a good using FEWER INPUTS than another producer

comparative advantage

the ability to produce a good at a LOWER OPPORTUNITY COST than another producer

market

a group of buyers and sellers of a particular good or service

competitive market

one with so many buyers and sellers that each has a negligible impact on the price

perfectly competitive market

all goods are exactly the same

buyers and sellers are so numerous that no one can influence the market price-- buyers and sellers are "price takers"

demand

buyers determine the demand by looking at the price

quantity demanded

the amount of the good that the buyers are willing and able to purchase

law of demand

other things equal, the quantity demanded of a good falls when the price of good rises

shifts in demand curve

there is an INCREASE in demand when the demand curve shifts to the RIGHT

shifts in demand curve

there is DECREASE in demand when the demand curve shifts LEFT

demand curve

remember that the demand curve shows the relationship between the price and quantity demanded

what shifts the demand curve?

1. number of buyers- market demand depends on individual demands--> more buyers-->bigger demand-->shifts demand right

2. income- the more you have to spend in total, the more you have to spend in MOST (but not all) goods

-normal good- increase in income causes increase in demand

-inferior good- when an increase in income causes a decrease in demand

3. prices of related goods

- substitutes- if an increase in the price of one causes an increase in the demand for other good (ex: hamburgers and pizza)

-complements- if an increase in the price of one cases a fall in the demand for the other (ex: bikes and helmets)

4. Tastes- anything that causes a shift in tastes towards a good will increase the demand for that good

5. expectations- affect consumer's buying decisions

*price of good itself will cause a movement along the demand curve*

supply

sellers determine the supply by looking at the price

the quantity supplied of any good is the amount o the good that sellers are willing and able to sell

law of supply

other things equal, the quantity supplied of a good rises when the price of good rises

market supply

the sum of the supplies of all sellers

shifts in the supply curve

there is an increase in the supply when the supply curve shifts to the right

decrease when the supply shifts left

what shifts the supply curve?

1. input prices- wages, rent, prices of raw materials, etc. A fall in input prices makes production at each price more profitable so firms supply more

2. technology- determines the amount of inputs required to produce a unit of product. An advance in tech may reduce firms' costs and it would raise the supply

3. expectations- if the firm expects the price of its goods to increase in the future, it might decide to put some of its production in storage and sell LESS today. Supply today shifts LEFT

4. # of sellers- an increase in the number of sellers increase the quantity supply at each price supply curve (shifts right)

above equilibrium

quantity supplied is greater than the quantity demanded-- SURPLUS (sellers try to increase sales by cutting their prices Qd rises, Qs falls)

below equilibrium

quantity demanded is greater than quantity supplied-- SHORTAGE (sellers raise their prices, Qs rises, Qd falls)

Midpoint Method =

(Change in Q demand/ avg Q)*100/ (Change in P demand/ avg P)*100

Midpoint Income (I)

(Change in Q demand/ avg Q)*100/ (Change in I demand/ avg I)*100

Principle 1: People face trade-offs include…

balancing factors that are not attainable at the same time

Efficiency vs Eqality

Principle 2: Cost of Something is what you give up to get it include…

• comparing costs and benefits of alternative choices

• opportunity cost (value, money & time) of any item

Principle 3: Rational People Tink at the Margin include…

• economics assume people r rational

• take action only if Marginal benefit > Marginal costs

• Marginal Changes- adjustments to an existing plan

Principle 4: People Respond to Incentives (induces action) include…

• rational people responding

• an incentive (something to induce action: reqard or punishment)

Principle 5: Trade Can Make Everyone Better Off includes…

• instead of self-sufficiency, specialization & exchange for most profitability

• allows most quality from specialization

• imported products

• better prices from abroad

Principle 6: Markets are a Good Way to Organize Economic Activity includes

• interactions between firms & households (market economy)

• Determining goods produced, how, quantity, and who gets them

• decentralized decisions

• invisible hand

Principle 7: Gov can help improve market outcomes include…

• enforce property rights (private property)

• address market failure: fails allocate society resources efficiently

• alter market outcomes to promote equity

Why Market failures occur?

• Externalities- prod or comsump of a good affects bystanders

• Market power- (monopoly) a single buyer/seller has lots of influence on the price

Principle 8: A country’s standard of living depends on ability to prod goods & services includes…

• productivity

• equipment, skills, tech available to workers

• labor unions, competition from abroad

Principle 9: Prices Rise when gov prints too much money

• inflation: making money value go down from too much quantity

• long run: caused by excessive growth in money quantity

Principle 10: Society faces short-run between inflation & unemployment includes…

1-2 years of econonic policies pushing inflation & unemployment in opp directions

Cross Price Elasticity =

E xy = X %^Q demanded / Y %^P demanded

-Exy —>

complements

+Exy —>

substitutes

%^Q =

Q2 - Q1/ (Q2 + Q1/2)

E < 1 -->

—> INelastic (%^P > %^Q)

E > 1 —>

—> Elastic (%^Q > %^P)

E = 1 —>

—> UNIT elastic

E = 0 —>

—> PERFECTLY INelastic

E = Infinity —>

—> PERFECTLY Elastic

Revenue (Expenditure) =

= Price * Quantity

The flatter (lower) the curve, the ______ the elasticity

bigger

The steeper (higher) the curve goes, the _______ the elasticity

smaller

Percentage Change =

((End - Start value)/ start )*100

Elasticity (E)

numerical measure of the quantity demanded responsiveness (Qd)  OR  quantity supplied (Qs) to one of its determinants

above equilibrium —>

—> surplus

below equilibrium —>

—> shortage

Binding

Equilibrium DOESN’T meet price floor/ceiling requirement

NONbinding

Equilibrium meets price floor/ceiling requirement

Price Ceiling + Binding leads to

a shortage (Qd > Qs)

Price Floor + Binding (this is illegal) leads to

a surplus of labor aka unemployment

Rent Control (a price ceiling) helps by making housing _____ but is highly inefficiently way ______

more affordable, to raise standard of living

w tax on buyers, ______curve shifts

DEMAND, LEFT: decreases demand (bc prices increased)

Tax on BUYERS =

= Pbuyers - Psellers *Ps are after tax

w tax on sellers, _____ curve shifts

SUPPLY, LEFT: increasing P & decreasing Q produced

tax burden on BUYERS =

Ptax - Pb4 tax

tax burden on SELLERS =

Pb4 tax - Ptax

Consumer OR Seller Surplus =

= ½ (height) (width)

Consumer surplus is ______

Left Top

seller’s surplus is ______

Left Bottom

Deadweight loss (DWL) is…

The fall in total surplus resulting from market distortion (imposition) of tax

Laffer curve shows relationship between

size of tax and tax revenue

When tax > revenue

Increasing tax causes revenue to fall

When tax small

Increasing tax causes tax revenue to rise