IB HL Economics – Core Notes

Introduction to Economics (Chapter 1)

  • Factors of Production

    • Land: Natural resources (natural capital).

    • Labour: Human capital (workforce).

    • Capital: Man-made items (e.g. buildings, tools).

    • Entrepreneurship: Skill in managing production and risk-taking.

  • Approaches to Economics

    • Positive Economics: Based on evidence and data (scientific method).

    • Normative Economics: Involves value judgments and opinions about economic policy.

  • Production Possibilities Curve (PPC)

    • Depicts scarcity, choice, opportunity cost, and efficiency.

    • Represents maximum output possibilities with limited resources and fixed technology.

    • Assumptions: Only two goods, fixed resources/technology, all resources used.

  • PPC and Key Concepts

    • Scarcity: Limits production due to resource constraints.

    • Choice: Need to allocate resources between competing goods.

    • Opportunity Cost: Cost of forgoing alternate goods when making a choice.

    • Efficiency: Achieved when production operates on the PPC.

  • Non-linear PPC

    • The PPC is typically concave due to increasing opportunity costs, as different resources are better suited for specific outputs.

    • Shifts in the curve can occur due to changes in technology or resources.

  • Circular Flow of Income Model

    • Two main sectors: Households and Firms.

    • Households provide factors of production to firms for wages, rent, etc.

    • Expanded model includes Government, Financial Sector, and Foreign Sector, with INJECTIONS (e.g., government spending) and LEAKAGES (e.g., taxes, savings, imports).

    • Equilibrium: Achieved when leakages equal injections.

  • Rationing Systems

    • Planned Economy: Central authority makes production decisions (disadvantages: misallocation of resources, lack of incentives).

    • Free Market Economy: Decisions made by supply and demand (disadvantages: overproduction of demerit goods, underproduction of merit goods, quick resource depletion, absence of social security, potential for monopolies).

The Evolution of Economic Thinking (Chapter 2)

  • Classical Economics (18th Century)

    • Wealth measured by gold/silver accumulation (mercantilism).

    • Adam Smith proposed that wealth is measured by goods/services production (GNP).

    • Advocated for free markets and division of labor (invisible hand concept).

  • Development of Classical Economics (19th Century)

    • David Ricardo formulated theories on comparative advantage (specialization in trade).

    • Jean-Baptiste Say: Supply creates its own demand (Say’s Law).

  • Neoclassical School

    • Shifted focus to mathematical models; value determined by consumer utility (Marginal Revolution).

  • Keynesian Macroeconomics

    • John Maynard Keynes emphasized demand management; advocated government intervention during recessions.

  • Monetarism

    • Focus on money supply control to manage inflation; argued against expansionary fiscal policies.

  • Behavioral Economics

    • Integrates psychology with economic modeling; recognizes irrational behaviors in decision-making.

  • Circular Economy

    • Focus on sustainability; aims to reuse resources rather than following a linear 'produce-use-dispose' model.

Demand – Microeconomics (Chapter 3)

  • Demand Definition

    • Quantity of goods/services consumers are willing and able to purchase at various price levels.

  • Law of Demand

    • As product price decreases, quantity demanded generally increases (ceteris paribus).

  • Determinants of Demand

    • Income: Increased income increases demand for normal goods, decreases for inferior goods.

    • Related Goods:

    • Substitutes: Price drop of one reduces demand for another.

    • Complements: Price drop of one increases demand for the other.

    • Tastes and Preferences: Changes in consumer preferences affect demand.

    • Future Price Expectations: Expected price increases can boost current demand.

    • Number of Consumers: More consumers increase overall market demand.

  • Movement vs Shifts

    • Movement along the demand curve: Changes due to price.

    • Shift of the demand curve: Changes due to non-price factors.

  • Market Demand vs Individual Consumer Demand

    • Total market demand equates to summation of individual consumer demands at given prices.

  • Explaining Law of Demand

    • Bounded rationality—consumers often lack perfect information.

    • Dual System Model: System 1 (automatic/premeditated) vs. System 2 (reflective).

  • Cognitive Biases

    • Influences decision-making: availability bias, loss aversion, framing effect, etc.

  • Behavioral Economics and Decision Making

    • Strategies like choice architecture and nudge theory aim to influence better consumer choices while respecting autonomy.

Elasticity of Demand – Microeconomics (Chapter 4)

  • Concept of Elasticity

    • Measures responsiveness of demand to changes in factors like price.

  • Price Elasticity of Demand (PED)

    • PED = (% Change in Demand) / (% Change in Price).

    • Ranges from perfectly inelastic (0) to perfectly elastic (∞).

  • Determinants of Price Elasticity

    • Availability of substitutes, necessity vs luxury distinction, proportion of income spent on the good, time frames considered, and ability to store stock.

  • Significance of Understanding PED

    • Helps governments understand potential impacts of taxation/incentives. Different demand elasticities (inelastic vs elastic) may influence sales and revenue differently.

  • Income Elasticity of Demand (YED)

    • Indicates demand responsiveness to income changes—separates normal goods (positive YED) from inferior goods (negative YED).

    • Normal goods can further be subcategorized into necessity (0 < YED < 1) and luxury goods (YED > 1).

  • Importance of YED for Businesses

    • Crucial for market entry/exit strategies based on economic conditions and consumer behavior.

Supply – Microeconomics (Chapter 5)

  • Supply Definition

    • Quantity producers are willing and able to sell at various price levels.

  • Law of Supply

    • Firm supply increases as price increases (ceteris paribus).

  • Non-Price Determinants of Supply

    • Differences in costs of factors of production, price of related goods, government regulations (tax/subsidy effects) and technological changes.

  • Explanations of Law of Supply

    • Short-run considerations (fixed factors); firms adjust labor utilization to manage changes in supply.

  • Market Supply Construction

    • Total market supply derived by horizontally summing all individual producers’ supplies.

Price Elasticity of Supply – Microeconomics (Chapter 6)

  • Price Elasticity of Supply (PES)

    • PES = (% Change in Quantity Supplied) / (% Change in Price).

    • Values range from perfectly inelastic (0) to perfectly elastic (∞).

  • Determining PES

    • Factors affecting PES include production costs, availability of inputs, time period considered, and storage capability.

  • Market Implications of PES

    • Necessary for decision making regarding production adjustments, pricing strategies, etc. This understanding helps firms respond effectively to market changes.

Market Equilibrium, Price Mechanism & Market Efficiency – Microeconomics (Chapter 7)

  • Market Equilibrium

    • Where quantity demanded equals quantity supplied; market transitions towards this state through price adjustments.

  • Price Mechanism Functions

    • Signals information to consumers/producers, rations scarce resources, and provides incentives related to consumption and production.

  • Market Efficiency

    • Consumer surplus (extra value enjoyed from paying below price willing to pay) and producer surplus (extra earnings from output sold above minimum required price) contribute to total community surplus, denoting overall market efficiency.

Methods of Government Intervention in Markets – Microeconomics (Chapter 8)

  • Indirect Taxes

    • Increase production costs; applied to discourage consumption (e.g. 'sin taxes').

    • Tax effects: shifts supply left, alters equilibrium price, and can lead consumers to pay higher prices while reducing quantity demanded.

  • Subsidies

    • Financial support to firms to lower production costs, can shift supply right thereby lowering prices for consumers.

Market Failure – Microeconomics (Chapter 9)

  • Market Failure Definition

    • Occurs when allocated resources lead to a decrease in social welfare (community surplus can't be maximized).

  • Externalities

    • Effects of production/consumption on third parties (positive/negative).

  • Types of Market Failure

    • Externalities, public goods, and information asymmetries; the latter includes adverse selection and moral hazard.

  • Positive vs Negative Externalities

    • Positive externalities lead to societal benefits (e.g., education).

    • Negative externalities impose costs on society (e.g., pollution).

Rational Producer Behavior – Microeconomics (Chapter 10)

  • Rational Behavior

    • Producers aim to maximize profit, guided by economic principles.

  • Cost Measurement

    • Economic vs Accounting costs; includes implicit/explicit costs assessment.

The Level of Overall Economic Activity

  • The performance of the economy measured by the total output of goods and services produced.

Aggregate Demand

  • The total demand for all goods and services in an economy at a given overall price level during a specific time period.

Aggregate Supply

  • The total supply of goods and services that firms in an economy are willing to sell at different price levels over a specific time period.

Macroeconomic Equilibrium

  • The point where aggregate demand equals aggregate supply, leading to a stable price level and output in the economy.

Demand Management – Demand-side Policies

  • Strategies aimed at influencing overall demand in the economy to achieve macroeconomic objectives, often through fiscal and monetary policies.

Supply-side Policies

  • Economic policies aimed at increasing productivity and output by improving the conditions for supply, such as tax incentives and deregulation.

Macroeconomic Objectives: Low Unemployment

  • The aim to achieve a low level of unemployment in the economy, ensuring that as many people as possible are employed.

Macroeconomic Objectives: Low and Stable Inflation – Macroeconomics

  • The goal of maintaining a stable price level and controlling inflationary pressures to preserve purchasing power.

Macroeconomic Objectives: Economic Growth

  • The focus on achieving a sustainable increase in the productive capacity of the economy over time, typically measured by GDP growth rates.

Economics of Inequality and Poverty

  • Analyzing the disparities in income and wealth distribution within an economy and the factors contributing to poverty.