Prepared for June Common Tests 2011 (:

[ECONOMICS]

1. SCARCITY, CHOICE AND OPPORTUNITY COSTS Terms & definitions Terms Economics Scarcity Consumption Production Definition A study of how people and society organize scarce resources to produce goods and services to satisfy unlimited human wants The excess of human wants over what can actually be produced to fulfill these wants The purchase and use of goods and services by people to satisfy their wants The transformation of factors of production into output of goods and services in order to provide consumer goods and personal services to satisfy our wants Goods that do not yield personal satisfaction to consumers but are used to produce consumer goods Tangible items such as food, clothing The inputs into the production of goods and services: labour, land, capital and entrepreneurship An economic resource that includes all the natural resources that go into the production of goods and services All human physical and mental talents that can be used in producing goods and services All inputs into production that have themselves been produced The human resource that combines the other resources to produce a product, make non-routine decisions, innovate and bear risks The highest valued alternation that had to be forgone to satisfy the particular want Goods produced in abundance that no opportunity cost is involved in their use Goods that involve the use of scarce resource to produce such goods; does not involve opportunity cost The weighing-up of marginal costs and marginal benefits of any activity

Producer goods Consumer goods Factors of production Land Labour Capital Entrepreneurial ability Opportunity cost Free goods Economic goods Rational choices

Efficiency

Economic efficiency Equity

Production possibility curve Marginal costs/benefits Comparative advantage Absolute advantage Market Centrally planned/Command economy Free market/free enterprise/laissezfaire/capitalism economy Mixed economy Price mechanism

(i)Productive efficiency: Occurs when resources are fully employed and all firms are producing at minimum average cost. Output is produced at the lowest attainable cost for that level of output. Firms are using the best available least-cost technology and the minimum amount of resources will be used in the production of any given output (ii)Allocative efficiency: A situation where the current combination of goods and services produced and sold gives the maximum satisfaction to each consumer at their current levels of income Achieved when each good is produced at the minimum cost and where individual people and firms get the maximum benefit from their resources A distribution of income that is considered to be fair or just. Note: An equitable distribution is not the same as an equal distribution & different people have different views on what is equitable Shows all the possible combinations of two goods that a country can produce within a specified time period with all its resources fully and efficiently employed The additional cost/benefit of doing a little bit more of an activity The ability to produce a good or service at a lower opportunity cost than other producers One person has the absolute advantage over another if he or she takes fewer hours to perform a task than the other person The interaction between buyers and sellers An economy where all economic decisions are taken by the central authorities An economy where all economic decisions are taken by individual households and firms with no government intervention An economy where economic decisions are made partly by the government and partly through the market The system in a market economy whereby changes in price in response to changes in demand and supply have the effect of making demand equal to supply The price where the quantity demanded equals the quantity supplied: the price where there is no shortage or surplus The amount that a product sells for per unit and it reflects what society is willing to pay A position of balance

Equilibrium price Price Equilibrium

Mixed market economy Relative price

A market economy where there is some government intervention The price of one good compared with the other

2. RESOURCE ALLOCATION IN COMPETITIVE MARKETS Terms & definitions Terms Definition Perfect competition A situation where the consumers and producers of a product are price takers (no power to be able to influence the market price) Law of demand The quantity of a good demanded per period of time will fall as price rises and will rise as price falls, ceteris paribus Demand The willingness and ability of a consumer to pay a specific price for a commodity in a given period of time Effective demand The demand for a good involves an opportunity cost measured by the price of the good in money terms Income effect The effect of a change in price on quantity demanded arising from the consumer becoming better or worse off as a result of the price change Substitution effect The effect of a change in price on quantity demanded arising from the consumer switching to or from alternative products Demand curve A graph showing the relationship between the price of a good and the quantity of the good demanded over a given time period. Substitute goods A pair of goods which are considered by consumers to be alternatives to each other. As the price of one goes up, the demand for the other rises Complementary goods A pair of goods consumed together. As the price of one goes up, the demand for both goods will fall Normal goods A good whose demand rises as peoples incomes rise (Positive YED; luxury goods will have higher YED than basic goods) Inferior goods A good whose demand falls as peoples incomes rise (Negative YED) Change in demand A shift in the demand curve which occurs when a determinant of demand other than price changes Change in the A movement along the demand curve to a new quantity demanded point, occurs when there is a change in price Consumers surplus 1) The difference between the maximum amount a consumer is willing to pay for a given quantity of a good and what he actually pays for it 2) The excess between the actual price paid and that which consumers are willing to pay Supply curve A graph showing the relationship between the price of a good and the quantity of the good supplied over a given period of time Change in quantity A movement along the supply curve to a new point supplied which occurs when there is a change in price Change in supply A shift in the supply curve occurring when a determinant other than price changes Producers surplus 1)The difference between the total amount producers receive for all units sold of a commodity

Elasticity of demand Price elasticity of demand Income elasticity of demand Cross elasticity of demand Elastic demand Inelastic demand Derived demand Unit elasticity of demand Price elasticity of supply Minimum/maximum price (price floor/ceiling) Black markets Mobility of labour Indirect tax Specific tax Ad valorem tax Progressive tax Regressive tax Proportional tax Incidence of tax Tariffs or import levies Buffer stocks

and the minimum they are willing to accept to supply all those units 2)The excess between the price received and the cost of production to producers A measure of the degree of responsiveness of quantity demanded of a good to a change in one of the demand determinants The degree of responsiveness of quantity demanded of a good to a change in price, ceteris paribus How much demand changes as a result of a change in income, ceteris paribus How much demand changes as a result of a change in the price of a related good, ceteris paribus Where quantity demanded changes by a larger percentage than price (value >1) Where quantity demanded changes by a smaller percentage than price (value <1) The demand for a factor of production depends on the demand for the good that uses it Where quantity demanded changes by the same percentage as price (value=1) A measure of the degree of responsiveness of quantity supplied of a good to a change in its price, ceteris paribus A price floor/ceiling set by the government or some other agency. The price is not allowed to fall/rise below/above this level but is allowed to rise/fall above/below it Where people ignore the governments price and/or quantity controls and sell illegally at whatever price equates illegal demand and supply The willingness and ability of labour to move to another job A tax on the expenditure on goods; not paid directly by the consumer, but indirectly via the sellers of the good An indirect tax of a fixed sum per unit sold An indirect tax of a certain percentage of the price of the good A tax whose average rate with respect to income rises as income rises A tax whose average rate with respect to income falls as income rises A tax whose average rate with respect to income stays the same as income rises The distribution of the burden of tax between sellers and buyers Taxes on imported products (customs duties) Stocks of a product used to stabilize its price. In

Cartels

Total producer surplus Total (private) surplus Total consumer surplus plus total producer surplus Total social surplus Total benefits to society from consuming a good minus total costs to society from producing it. In the absence of externalities, total social surplus is the same as total (private) surplus

years of abundance, they are built up. In years of low supply, they are released on to the market An organization of a group of producers working for their own benefit Total revenue minus total variable costs (TR-TVC)

3. MARKET FAILURE AND GOVERNMENT INTERVENTION Terms & definition Terms Pareto optimality Pareto improvement/social efficiency Market failure Externalities Real income Giffen good Definition Situation where it is impossible for someone to be made better off without someone else being made worse off Occurs when changes benefited some people without anyone else being made worse off The best desirable outcome has not been achieved there is either over-or under-allocation of resources, societys welfare is not maximized The spillover effects/impact on third parties arising from the production/consumption of the good Income measured in terms of how much it can buy An inferior good whose demand increases as its price increases as a result of a positive income effect larger than the normal negative substitution effect Doing more of those activities whose marginal benefit exceeds their marginal cost and doing less of those activities whose marginal cost exceeds their marginal benefit Ensures that the self-interest motive automatically and unintentionally furthers the best interests of society Benefits from production (or consumption) experienced by people other than the producer (or consumer) Costs of production (or consumption) borne by people other than the producer (or consumer) Private cost plus externalities in production Private benefit plus externalities in consumption A good or service that has the features of nonrivalry and non-excludability and as a result would not be provided by the free market Where the consumption of a good or service by one person will not prevent others from enjoying it Where it is not possible to provide a good or service to one person without it thereby being available for others to enjoy When it is not possible to exclude other people from consuming a good that someone has bought The loss of consumer plus producer surplus in imperfect markets (when compared with perfect competition) Goods that the government feels people will underconsume and which therefore ought to be subsidized or provided free Given by government to encourage consumption or

Rational economic behaviour Competition External benefits External costs Social cost Social benefit Public good Non-rivalry Non-excludability Free-rider problem Deadweight welfare loss Merit goods Subsidies

Pigovian taxes Taxes Tradable permits

Total ban Coase theorem

Cost-benefit analysis

production to take into account wider benefits to third parties; when taken, producers/consumers are forced to internalize external benefits Refers specifically to taxes enacted to correct effects of negative externalities Compulsory payments forces producers to take into account spillover costs to third parties (forced to internalize external costs) Each firm is given a permit to produce a given level of pollution. If less than the permitted amount is produced, the firm is given a credit. This can then be sold to another firm, allowing it to exceed it original limit In severe cases where the social costs of pollution far exceeds the benefits does the government place a ban on a particular activity altogether By sufferers from externalities doing deals with perpetrators (by levying charges or offering bribes), the externality will be internalised and the socially efficient level of output will be achieved The identification, measurement and weighing-up of the costs and benefits of a project in order to decide whether or not it should go ahead