Chapter 2: Choice In A World Of Scarcity

Front 1

Budget Constraint

Back 1

A diagram that shows the possible choices determined by income and prices. Change in prices move the slope of the budget constraint; change in income shift the slope. Personal preferences are represented by a point on the budget constraint.

Front 2

Opportunity Set

Back 2

Another name for the budget constraint.

1.)Labor-Leisure Opportunity set is determined by wage rate and hours available for work.

2.)Changes in wage rate change slope of budget constraint.

3.) Personal preferences are illustrated by a point.

Front 3

Utility

Back 3

The level of satisfaction or pleasure that people receive from their choices. "Maximizing utility," : making choices that provide the highest level of personal satisfaction.

Front 4

Risk-Premium

Back 4

A payment to make up for the risk of not being repaid in full.

Front 5

Inflation

Back 5

The rise in the overall level of prices.

Front 6

Time value of money

Back 6

The cost of having to wait for repayment.

Front 7

Compound Interest

Back 7

When interest payments accumulate, so that in later time periods, the interest rate in paid on the interest that has been earned and reinvested in previous years.

(Present ammount) x (1+Interest Rate)^Number of years = Future amount

Front 8

Opportunity Cost

Back 8

Whatever must be given up to obtain something that is desired. Making the opportunity cost explicit may affect behavior. ie, $5 at lunch, or a "nice vacation." ($5 x 250 days)

Front 9

Marginal Analysis

Back 9

Comparing the benefits and costs of choosing a little more or a little less of a good.

Front 10

Law of diminishing marginal Utility

Back 10

As a person receives more of a good, the marginal utility from each additional unit of good is smaller than the previous unit.

Front 11

Sunk Cost

Back 11

Costs that were incurred in the past and cannot be recovered, and thus should not affect current decisions.

Front 12

Production Possibilities Frontier.

Back 12

A diagram that shows the combinations of output that are possible for an economy to produce. More Investment shifts the PPF out in the future.

Front 13

Law of diminishing returns

Back 13

As additional increments of resources are added to producing a good or service, the marginal benefit from those additional increments will decline. Produces the outward-bending shape of the PPF.

Front 14

Efficiency

Back 14

When it is impossible to get more of something without experiencing a tradeoff of less of something else.

Front 15

Productive efficiency

Back 15

When it is impossible to produce more of one good without decreasing the quantity produced of another good. i.e. Any point on the PPF, any point inside the PPF is productively inefficient.

Front 16

Allocative Efficency

Back 16

When the mix of goods being produced represents the allocation that society most desires. i.e., the specific point along the PPF that society choses.

Front 17

Positive Statements

Back 17

Statements that describe the world as it is.

Front 18

Normative Statements

Back 18

Statements that describe how the world should be.

Front 19

Three broad choices of individuals and households.

Back 19

1.) Which goods to consumer.

2.) How many hours to work.

3. Intertemporal choices about present and future. How much to borrow or save.

Front 20

Intertemporal Choice budget Constraint

Back 20

Trade-off between present consumption and future consumption based on interest rare or rate of return.

1.) Budget constraint is determined by the quantity of income in the present and the interest rate

2.) Changes in interest rate change the slope.

3.) Personal preferences = point on slope.

Front 21

Interest rate

Back 21

Interest Rate = Risk Premium + Expected Rate of Inflation + Time Value of Money