Theme 1

• What is economics?

  Economics is deciding how to best allocate scarce resources amongst competing uses. Economics is a social science as it is not exact and not always possible to test something as true or false
• What does ceteris paribus mean?

  All other factors held constant
• Positive and normative statements

  Positive statements can be proven true or false Normative statements are more opinion based and subjective and cannot be proven true or false
• What is the basic economic problem? What is opportunity cost?

  Infinite wants but finite resources. Wants are things we desire but are not essential to our survival. Opportnity cost is the next best alternative forgone.
• Samuelson's three key questions

  What should be produced? How should it be produced? Who should it be produced for? These questions are used to solve the basic economic problem
• Renewable and non renewable resources

  Renewable resources can be regenerated and reused again Non-renewable resources cannot be regenerated and reused again
• Consumer and capital goods

  Consumer goods are finished goods Capital goods are the machinery used to make consumer goods
• Unemployed and underemployed

  Unemployed is when a resources is idle Underemployed is when a resources isn't being used to its maximum capacity
• PPF diagrams

  Show the maximum possible combination of goods and services that can be produced using all available resources When operating on the PPF curve there is: 1. 100% employment 2. 100% efficiency This shows the opportunity cost of producing more military goods. When operating inside the PPF there is unemployment/underemployment Anything beyond the PPF is unattainable
• Economic growth and decline on a PPF diagram

  PPF1 to PPF2 is economic growth An inward shift would be economic decline
• Specialisation and division of labour

  Specialisation is when a worker, firm or country specialises in the production of one good/service Division of labour is when the labour is divided to perform a single task as part of the production process
• Economies of scale


  This is when avg cost decreases as output increases Because fixed costs are spread over a larger output
• Specialisation/division of labour benefits and drawbacks

  Benefits: Increased output Increased efficiency and decreased waste Increase in labour productivity Can take advantage of greater economies of scale Decreased costs and increased competitiveness Increased profitability Ability to reduce price if needed Drawbacks: Workers may become bored Increased inneficiency Decreased labour productivity Disruption to production if staff are absent High labour turnover
• Specialisation by a country benefits and drawbacks

  Benefits: Internationally competitive Higher job security if what is produced is highly demanded Higher quality products Drawbacks: Loss of economic growth if over reliant Loss of jobs Inability of the workforce to transfer into alternative industries in the future
• 4 functions of money

  Medium of exchange: Money allows goods and services to be traded without the need for a barter system which relies on a double coincidence of wants. Money allows trade to occur with less friction Store of value: Any asset whose value can be used now or used in the future. People can save now to fund spending at a later date . Facilitates large value purchases in the future affecting wealth creation. Unit of account: Allows the value of something to be expressed in an understandable way and allows the value of items to be compared Standard of deffered payment: Expressing the value of a debt. People can borrow today, then can pay back their loan in the future in a way that is acceptable to the person that made the loan. Enables financial markets to exist.
• Free market economy. Benefits and drawbacks

  This is an economic system where resources are allocated by the market forces (interaction between supply and demand) Benefits: Allocatively efficient Incentivises firms to be efficient Innefficient firms are allowed to fail Taxation is low Zero government intervention High competition = lower prices More firms = more choice for consumers Drawbacks: Firms decrease costs surreptisiously Environmental degredation from a lack of regulation Increased innequality in society Unprofitable goods dissapear which are beneficial to society Consumers increase consumption of de-merit goods Large firms can dominate markets
• Command economy benefits and drawbacks

  This is an economic system where resources are allocate by government Benefits: Decreased inequality in society Fairer distribution of resources All consumers get to consume regardless of income Prevents abuse of power by firms Produces goods beneficial to society Prevents mass unemployment Drawbacks: Govt may not produce what consumers want High degree of bureacracy Lack of innovation with goods and services Overall lower standards of living Consumer dissatisfaction Difficult to attract foreign investment
• Mixed economies


  Most economies operate in a mixed way with both govt intervention and free market traits The govt will intervene where necessary and it is dependant on: Current standards of living (SoL) and poverty level Health of population Ability of markets to operate without government intervention Financial constraints Tax revenue collected by the government is spent on: Benefits to poorest Direct provision of services to the poorest in society
• Rational behaviour


  This is making a logical choice All economic agents want to maximise their utility Consumers maximise their utility by consuming goods and services Firms maximise profit by selling goods and services Marginal utility is the satisfaction gained from consuming one additonal good or service
• Demand curve and factors of demand

  The D curve is drawn downward sloping as we expect demand to increase as price decreases Changes in price cause movements along the D curve (Contractions or extensions) Changes in the factors of demand cause shifts of the D curve Shows an outward shift of D Population size Advertisements Substitutes Income Fashion/trends Interest rates Complements
• Marginal utility and the D curve

  Marginal utility decreases with every additional unit consumed Marginal utility eventually goes negative and total utility falls This explains why the D curve is downward sloping because firms must sell a product at a lower price to incentivise consumers to buy due to decreasing marginal utility
• PED and factors affecting PED

  PED is the responsiveness of demand to a change in price It is calculated by doing % change in quantity demanded (QD) / % change in price (P) PED Values: 0= perfectly inelastic 0 to -1 = Inelastic -1 = unit elastic -1 to infinity = elastic Infitinity = Perfectly elastic Factors affecting PED: Availability of substitutes Addictivesness of product Habitualness of product Time Proportion of income the product takes Revenue rules: If inelastic PED, increase P to increase total revenue If elastic PED, decrease price to increase total revenue
• Market conditions of elastic and inelstic PED

  Inelastic: Low degree of competition Few suitable substitutes Need rather than a want Habitual and addictive May take a small proportion of consumer income Consumers are not price sensitive THE OPPOSITE IS TRUE FOR ELASTIC PED Shape of D curve: Perfectly inelastic = Vertical Inelastic = Steep Unit = 45 degree angle Elastic = Shallow Perfectly elastic = Horizontal
• YED


  This is the responsiveness of demand to a change in income It is calculated by doing % change in QD / % change in income (Y) Positive value = normal good Negative value = inferior good 0 to 1 = normal good , income inelastic 1 to infinity = normal good, income elastic
• YED and firms

  Firms will want to know if their good is income elastic or inelastic and whether it is a normal good or an inferior good. This is because it will help firms to forecast future demand based on changes in income This enables firms to ensure adequate supply
• XED


  This is the responsiveness of demand for one product following a change in price of another product It is calculated by doing % change in QD of good A / % change in P of good B Positive value = substitutes Negative value = Complements More positive = closer as substitutes More negative = closer as complements
• Supply curve and factors of supply

  Drawn upward sloping because when price increases, firms will increase supply as they are thought to be profit maximisers Changes in price cause movements along the supply curve Changes in the factors of supply cause shifts of the supply curve Shows an upward shift Productivity Indirect taxes Number of firms Technology Subsidies Weather Costs
• PES


  This is the responsiveness of supply to a change in price It is calculated by doing % change in QS / % change in P Inelastic and elastic numbers work in same way as they did for demand. The steepness of the curve also works in the same as demand
• Factors influencing PES

  Complexity of the good or service Availability of raw materials Length of production process Time period (SR inelastic, LR elastic) Spare capacity Ease of storage SR = When at least one factor of production is fixed so its harder to increase production LR= When all factors of production are variable so its easier to increase production
• Equilibrium


  Where S=D All consumers that are willing and able to buy at market price are supplied by firms Firms only supply as muchas is demanded
• Excess supply


  When S>D Occurs when current price is above equilibrium The market is in disequilibrium
• Excess demand


  When D>S Current price is below equilibrium The market is in disequilibrium
• Market clearance


  If the market is operating in disequilibrium then the market will clear The adjustment brings the market back into equilibrium Excess supply: Contraction in S and extension in D leading to S=D Excess demand: Contraction in D and extension in S leading to S=D
• Market mechanism: Rationing function

  Price is an effective way of rationing goods and services to only those who can afford to pay for the items Excess D or S will be corrected by changes in price to ration resources effectively You can draw an excess S or D diagram returning back into equilibrium to illustrate this. Good analysis
• Market mechanism: Incentive function

  If demand of a good increases, firms will increase supply This is because an increase in demand causes an increase in price, leading to higher supply by firms. This is because a higher price leads to larger profits by firms so they will increase supply Changes in demand resulting in changes in price act as incentives to firms to increase or decrease the quantity supplied to the market Can illustrate this by using a S and D diagram where demand increases, showing the effect it has on supply and price
• Market mechanism: Signalling function

  Changes in price will act as a signal to firms as it informs firms of what they should be producing New firms may join a market in response to higher demand and price This will increase market supply and shift supply down and right When price falls, firms will reduce supply or leave the market all together which will shift supply up and left.
• Consumer surplus and producer surplus

  Consumer surplus is the difference between what consumers are willing to pay and what they actually pay. Producer surplus is the difference between what producers are willing to sell for and what they actually sell for. Following changes in S or D on the diagram, you can work out orignal c.s or p.s. New c.s or p.s and the change in c.s or p.s
• Specific tax


  This is a per unit tax which is a fixed amount per unit Amount paid by consumers is top rectangle Amount paid by producers is bottom rectangle Size of tax is vertical distance between s2 and s1
• Ad valorem tax

  Percentage tax which is a percentage of the price per unit Top rectangle paid by consumers Bottom rectangle paid by producers Size of tax is vertical distance between s2 and s1
• Subsidy

  A financial gift given to firms which doesnt need to be repaid Benefit to producer is top rectangle Benefit to consumer is bottom rectangle (lower price) Size of subsidy is A-B