economics theme 1

• Basic economic problem


  Resources are finite and needs/wants are infinite, so resources must be used optimally
• Scarcity


  When there is a shortage of resources in relation to the quantity of needs/wants
• Opportunity cost


  The value of the next best alternative foregone
• Things to consider when producing a good

  • What to produce
  • How to produce it
  • Who to produce it for
• Business objectives


  • Profit maximising
  • Sales maximising
  • Survival
  • Market share maximising
  • Customer satisfaction
• Profit satisficing


  • Occurs when a firm earns just enough profits to keep shareholders happy
  • Occurs when there is a divorce of ownership and control, whereby managers will make enough profits to keep shareholders happy, whilst still maintaining their own objectives
• Profit maximising


  Marginal Cost = Marginal Revenue (MC=MR)
• Sales maximising


  Average Cost = Average Revenue (AC=AR)
• Corporate Social Responsibility (CSR)

  A form of self-regulation, whereby firms take responsibility for their actions that harm the environment, and aim to maximise social welfare
• Corporate Social Responsibility (CSR)

  • Firms could attempt to reduce their carbon footprint by investing in green energy
• Stakeholders (economic agents)


  • Shareholders
  • Employees
  • Consumers
  • Managers
  • Government
  • Suppliers
• Principal-agent problem


  • Describes how the agent - who makes decisions for the principal - acts in their own best interests, linked to the theory of asymmetric information
  • Occurs when the owners of the firm sell their shares, thereby partially losing control of its day-to-day operations
• Creative Destruction


  Proposed by Schumpeter, this is the idea that new entrepreneurs are innovative and grow more productive than old, idle firms who are eventually forced out of the market
• Creative Destruction


  • Technological advancements have led to the creation of DVDs, to the introduction of Blu-Ray, to the expansion of downloadable films, which has now triggered the downfall of DVDs
• Entrepreneur's main incentive


  Taking risks for profit
• How entrepreneurs make a profit

  By bringing together all 4 factors of production: Land, Labour, Capital, Enterprise
• Non-financial motives for entrepreneurs

  • Ethical stance and social entrepreneurship
  • Independence and working from home
• Land


  Natural resources such as oil and coal
• Labour


  Human capital
• Capital


  Goods which can be used in the production process
• Enterprise


  The innovator and risk-taker
• Specialisation


  Each worker completes a specific task in the production process, aimed at improving efficiency and thus the average cost of production
• Benefits of specialisation


  • Higher output
  • Opportunities for greater economies of scale
• Drawbacks of specialisation


  • Work becomes monotonous and demotivating
  • Give rise to structural unemployment, as some skills may not be transferable
• Higher interest rates


  Implies getting a loan is more expensive, which raises the cost of production for firms. It also encourages more saving and less spending on the consumer side, which results in less profits for firms
• Tax diagram of Supply and Demand with a perfectly inelastic level of Demand


  • Whereby the shaded area represents the level of tax
• High exchange rate


  Imports cheap, Exports dear
• Low exchange rate


  Imports dear, Exports cheap
• High rate of unemployment


  Gives firms bargaining power and the ability to reduce wages, thus lowering overall costs of production
• Unpredictable inflation


  Reduces overall business confidence, as it is difficult to anticipate future interest rates, unemployment rates, economic growth, etc. Therefore, firms cut down on their investment and wait for calmer economic conditions
• Effective demand


  The quantity that consumers are willing to buy at the current market price
• Individual demand


  The demand of an individual or firm
• Market demand


  The sum of all individual demands in the market
• Draw an individual demand curve and show what would happen to quantity given an increase in demand

  As shown, an increase in demand leads to an increase in quantity, whilst maintaining price level 'P1'.
• Prices cause movements along the demand and supply curves. Prices do not cause shifts in the demand and supply curves.
• PIRATES mnemonic

  • Population
  • Income
  • Related Goods
  • Advertising
  • Tastes and Fashions
  • Expectations
  • Seasons
• Types of supply

  • Joint supply
  • Composite supply
  • Competitive supply
• Reasons why the supply curve is upward sloping

  • If price increases, it's more profitable for firms to supply the good
  • High prices encourage new firms to enter the market
  • Larger output increases costs, which are passed onto consumers in the form of higher prices
• PINTSWC mnemonic

  • Productivity
  • Indirect Taxes
  • Number of Firms
  • Technology
  • Subsidies
  • Weather
  • Costs of Production
• A decrease in the exchange rate


  Boosts the costs of imports (raw materials), which increase the cost of production for firms, thus shifting the supply curve to the left