Economics Chapter 1 And 2

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economics

Back 1

the study of how society manages its scarce resources. Usually determined by the combined actions of people/businesses. Focuses on how people make decisions, how they interact with other people, analyze forces and trends that affect whole economy.

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scarcity

Back 2

the limited nature of society's resources

Front 3

what is an economy

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a group of people dealing with one another as they go about their lives. Behavior of economy reflect behavior of individuals that make up economy.

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Principle 1

People face trade offs

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"There ain't no such thing as a free lunch" To get one thing we usually have to give up another thing we like.

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Examples of trade offs

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Guns vs butter: how much spent on defense compared to spent on consumer goods (increased standard of living).

Clean environment vs high level of income

efficiency vs equality

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efficiency

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the property of society getting the most it can from its scarce resources

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equality

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the property of distributing economic prosperity uniformly among members of society

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Principle 2

The cost of something is what you give up to get it

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comparing all the costs and benefits of an action compared to other courses of action.

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opportunity cost

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whatever must be give up to obtain some item

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Principle 3

Rational people think at the margin (edge)

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rational choices made in shades of grey not black and white. make decisions by comparing marginal benefits and marginal costs. rational decision maker only takes an action if the marginal benefit exceeds the marginal cost.

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rational people

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people who systematically and purposefully do the best they can to achieve their objectives.

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marginal change

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a small incremental adjustment to a plan of action

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Principle 4

People respond to incentives

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key to understanding how markets wok (price of goods and services), supply and demand

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incentive

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something that induces a person to act

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Principle 5: Trade can make everyone better off

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trade increases specialization to economic activities that countries or individuals do best, thereby increasing economic efficiency.

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Principle 6: Markets are Usually a good way to organize economic activity.

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decisions left to millions of household/firms. price and self interest guide decisions. Adam's smiths ideas on the invisible hand of the market. decentralized

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market economy

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an economy that allocates resources through the decentralized decisions of many firms and household as they interact in markets for goods and services.

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Principle 7: Governments can sometimes improve market outcomes

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enforce rules and maintain key institutions for markets. support property rights,

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property rights

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the ability of an individual to won and exercise control over scarce resources.

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market failure

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a situation in which a market left on its own fails to allocate resources efficiently.

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externality

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the impact of one person's actions on the well-being of a bystander

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market power

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the ability of a single economic actor (or small group of actors) to have a substantial influence on market prices.

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2 broad major reasons governments intervene in market economies

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1. change the allocation of resources to promote either efficiency (enlarge economic pie) or promote equality (divide economic pie).

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Principle 8: A country's standard of living depends on its ability to produce goods and services

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Higher income countries have better standard of living compared to low income. Largely based on productivity of an economy.

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productivity

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The quantity of goods and services produced from each unit of labor input.

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Principle 10: Society faces a short-run trade-off between inflation and unemployment

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increasing money in economy stimulates spending increasing demand

higher demand causes firms to raise prices but also to hire more workers to increase productivity which decreases unemployment.

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business cycle

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fluctuations in economic activity, such as employment and production

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principle 9: Prices rise when governments print too much money.

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increases money quantity leads to inflation. US faced major inflation in the 70's

Hyperinflation examples include Germany in 1920s

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inflation

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an increase in the overall level of prices in the economy

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economics as a social science

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devise theories, collect data, then analyze data to verify or refute theories

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scientific method

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the dispassionate development and testing of theories about how the world works.

requires observation, applying theory, and collecting data when applied in economics.

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why assumptions are made in economics

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assumptions simplify a complex world and make it easier to understand.

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circular flow diagram

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a visual model of the economy that shows how dollars flow through markets among households and firms.

simplifies to include only 2 decision makers: firms and households

https://www.google.com/search?q=circular+flow&rls=com.microsoft:en-US:IE-Address&tbm=isch&tbo=u&source=univ&sa=X&ved=0ahUKEwikvt-v8uDOAhUC6SYKHQuaCcoQ7AkIVQ&biw=1600&bih=784#imgrc=dwjQ4pSSvtuMoM%3A

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production possibilities frontier

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graph that shows the various combinations of output that the economy can possibly produce given the available factors of productions and the available production technology that firms use to turn these factors into output.

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efficient outcome

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economy is getting all it can from the scarce resources it has available. points on (not inside which are inefficient outcomes) the production possibilities frontier are efficient levels of production..

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opportunity cost

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the cost of something you give to gain something, the same as trade off

= to slope of PPF

on the production possibilities frontier, opportunity costs highest at steepest point (one product is being made highly, the other very few)

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economic growth

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increasing production of goods and services without decreasing the production of goods and services in another area. expands production possibilities frontiers

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microeconomics

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the study of how households and firms make decisions an how they interact in markets.

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macroeconomics

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the study of economy wide phenomena, including inflation, unemployment, and economic growth.

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Difference between positive and normative economic statements.

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Positive economics is objective and fact based, while normative economics is subjective and value based. Positive economic statements do not have to be correct, but they must be able to be tested and proved or disproved. Normative economic statements are opinion based, so they cannot be proved or disproved.

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2 reasons why economists disagree

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1. disagree on the validity of alternative positive (scientific/testable) theories on how the world works.

2. differing values and therefore have different normative views

generally economists do agree on broad issues

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economic models

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composed of diagrams and equations, omit many details to help simplify and clarify. Built using assumptions.

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factors of production

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production of goods and services using inputs such as labor, land, and capital (buildings/machines).

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markets for services and goods

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households buyer, firms sellers

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markets for factors of production

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households sellers, firms are buyers

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positive statements

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claims that attempt to describe the world as it is

example: Minimum wage laws cause unemployment

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normative statements

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claims that attempt to prescribe how the world should be

usually policy advisors give normative statements

example: the government should raise the minimum wage

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Council of Economic Advisors

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has advised the president since 1946, writes annual report which analyses policy issues and reports on new economic developments.

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Economics in Washington

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work in executive branch:

1. Office of Management and Budget: formulizes spending and regulatory policies

2. Department of Treasury: design tax policy

3. Department of Labor: analyze workers and those looking for work, make policies affecting them

4. Department of Justice: enforce antitrust law

Legislative:

1. Congressional Budget Office: independent evaluation of executive policy proposals

Federal Reserve completely independent: sets monetary policy

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why leaders don't always listen to their economic advisors

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ideal economic policy can't always be implemented in the real world

making economic policy is messy in a democratic society

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Name the 10 general principals of microeconomics

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1. People face trade offs

2. The cost of something is what you give up to get it

3. Rational people think at the margin (edge)

4. People respond to incentives

5. Trade can make everyone better off

6. Markets are usually a good way to organize economic activity.

7. Governments can sometimes improve market outcomes

8. A country's standard of living depends on its ability to produce goods and services

9. Prices rise when governments print too much money.

10. Society faces a short-run trade-off between inflation and unemployment