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Terms in this set (106)
Study of how individuals allocate scarce resources, study of people and the choices they make due to scarce resources.
deals with individual households and markets. examines economy at small-scale level, Concerned with individual markets.
examines economy at large-scale level, focuses on entire economy. Aggregate measures of economy.
any item that is used to produce goods and services: Land, Labor, Capital, Entrepreneurial Ability
all natural resources used in production, gifts of nature
all physical and mental activity devoted to produce
everything that is created to increase productivity. Tools, machinery, infrastructure, human knowledge. Physical and human capital.
talent to organize land, labor, and capital into productive processes assuming all risks.
Unlimited wants can't be satisfied by limited resources, you can't have everything you want without incurring costs. Scarcity necessitates trade-offs.
Comparison of scarcity of one resource to another
process of assigning a resource to one use rather than another.
value of next best alternative foregone
self-interest, marginal decision-making, optimization
people choose to do the things that interest them
Marginal Benefits compared with marginal costs, each choice includes smaller choices.
people will do something as long as marginal benefit is greater than or equal to marginal cost. Maximize benefit of an object subject to its cost.
MB>/=MC: do more!
MC>MB: do less!
comparing marginal benefits and marginal costs
additional benefit derived from one more unit, additional satisfaction derived from doing something. Falls as output increases.
additional cost derived from one more unit, additional cost associated with expanding an economic activity. Rises as output increases.
Diminishing Marginal Benefit
Negative relationship between marginal benefit and quantity consumed. The more consumed, the lower the marginal benefit associated with each additional unit. Marginal benefit falls as consumption rises. as you do more of something, you enjoy each successive unit less.
Law of Increasing Opportunity Costs
Positive relationship between marginal cost and quantity produced, the more produced the higher the MC associated with each additional unit, costs rise as economic activity increases. As more goods are produced, the cost of producing each unit rises. Not all resources are the same. Best resources used up in early production, so resources become more costly as output expands.
level at which MB=MC (equilibrium) No more incentive to increase/ decrease level of activity.
Production Possibilities schedule
table that shows possible combinations of two different goods that can be produced with FIXED resources and FIXED technology. Increase in production of one good causes decrease in production of other good.
Graph that shows possible combos of 2 goods that can be produced with fixed resources and technology. Shows production combos that are attainable and efficient, shows levels of production that is efficient and full utilization of available resources. Use all scarce resources in most effective way. Marks boundary between what's possible and impossible to produce. Slope of PPF=opportunity cost.
efficient allocation of resources
allocation in such a way that increase in production of one good can only occur when decrease in production of another good occurs
Comparative Advantage (David Ricardo)
ability to produce at lower relative opportunity cost than other producers.
Specialization by Trade (Adam Smith)
Result of low cost producers focusing all efforts on producing the one good for which they have lowest opportunity cost. As long as people have different opportunity costs, people can gain from specialization and trade. If workers specialize in the production of the good for which they have a comparative advantage, they will increase productivity and standards of living. Harmful if demand for your one good falls.
Terms of Trade/Price
seller's opportunity cost<price<buyer's opportunity cost
Gains from trade
benefit/wealth that accrues to a buyer/ seller as a result of trading one good for another. As long as terms of trade are between seller and buyer's op costs, both parties are better off. Trade make the impossible (outside PPF) possible. Can have combos that were impossible when self-sufficient.
Circular Flow Model
households and firms interact in resource and product markets.
dollar value of all final goods and services produced within an economy in one year. Only final goods and services included to avoid double counting. Quantities produced valued at current year prices. Measures current dollar value of production
goods and services sold to final users. Not used to produce other products for subsequent sale
Goods used to produce other products that will be subsequently sold, good that is used to make other goods that will also be sold (NOT included in GDP)
NOT included in GDP, second hand sales don't represent new production
financial assets (stocks and bonds)
NOT included in GDP, represents transfer of wealth, not production of new goods and services
durables + nondurables + services: purchases made by households (largest component of nominal GDP)
business fixed investment+residential investment+inventory investment: purchases of capital goods made by firms and expansion of inventories (most volatile component of GDP)
purchases of final goods made by local, state, and federal governments and purchases of final services from labor resources (2nd largest component)
NOT included in GDP, payments made by governments that does NOT require exchange of economic activity in return.
nominal GDP (expenditure approach)
GDP=C+I+G+X: categorizes production by who purchased it
goods that have useful life of three+ years
goods that have useful life of less than 3 years
outputs of direct activity of another person; intangible outputs of the activities of another person.
formation of new productive capital or expansion of inventories within an economy. When firms use funds to buy goods/ services that will enhance productivity and increase output or to increase inventories
Business fixed investment
purchases by firms of new capital goods
when firms build houses and sell them to consumers
changes in inventories that firms hold on hand (add if increase, subtract if decrease)
Gross investment-Depreciation: measures net change in capital stock in a year.
consumption of physical capital, amount of capital that is worn out/ used up in a year
goods produced domestically but sold abroad. Added to GDP
goods produced abroad but sold domestically. Subtracted from GDP
GDP (income approach)
national income+indirect business taxes+net foreign factor income + depreciation: measures value of all final goods and services produced in an economy in a year using the income they generate. Tells us who earned what.
payment for land resources
payment for labor resources (largest component)
payments for capital and to agents that lend or save $, fee for use of $ over time
payments for entrepreneurial ability (2nd largest)
rent+wages+interest+profits/losses: total payment to owners of resources plus profits/losses.
indirect business taxes
taxes paid by businesses, paid by firms and passed on to consumers as part of price of g/s
net foreign factor income
payments from resources owned in countries - income earned by foreigners who own resources domestically
measure of CONSTANT $ value of all final goods and services. Used to compare output over time and measure how fast output is changing, designates a base year and uses price from base year to calculate RGDP. measures CONSTANT dollar value of final goods and services produced within a country in a year. Uses single set of prices from base year to measure output in all years.
Real GDP per capita
RGDP/population: measures standards of living, measures average level of output per person. Masks distribution of wealth. how much output average person produces.
GDP Price Index (GDP Deflator)
nominal GDP/ Real GDP x 100: ratio of prices. Measures overall price level from year to year. Compares how fast wages are rising with how fast prices are rising. Price index based on all goods and services that are counted as part of GDP. Measures broadest possible range of prices in an economy.
general increase in prices of goods and services
goods and services produced by a household and not exchanged in a market
Goods and services exchanged for payment but NOT counted as GDP. Not formal market. Involves unreported economic activity.
markets that exchange illegal goods or engage in illegal transactions
increase in RGDP or RGDP/capita: sustained economic growth since 1750 has limited poverty so that it's no longer the norm. Lessens burden of scarcity.
opportunity cost of economic growth
less consumption today
Economic Growth (PPF)
Outward Shift in PPF
1. Additional Resources-outward parallel shift
2. Existing resources become more productive/ using existing resources more efficiently (increase in quality of resources)-PPF rotates out, one intercept changes while other moves
3. New technologies improve productivity (only change that can cause INDEFINITE economic growth)
goods consumed in present, directly satisfy immediate wants and needs. NO increase in productive capacity.
used to produce other goods and services, increase future productivity. The more capital goods, the more productivity in future (the further the PPF shifts outward). op cost of more capital goods and future productivity is less consumption today.
Percent Change Formula
Economic Growth Rate
new RGDP - old RGDP/ old RGDP x 100
Rule of 72
estimates how long it'll take for an amount to double in size given a constant rate of growth
Years to Double
standard of living
level of overall well-being enjoyed by a society. Determined by anything that affects an individual's well-being
RGDP/capita growth rate
depends positively on RGDP growth and negatively on population growth
Douglass North: Institutional Economics
Social Institutions/Rules of Game determine economic growth. Institutions shape incentives within a society. Four key institutions: property rights, rule of law, competitive markets, and entrepreneurship. Economies with more ECONOMIC FREEDOM have more economic growth. Good social institutions allow economic growth. Direct correlation between social institutions and economic growth. Economic freedom drives prosperity.
short term fluctuations experienced in economy due to changes in level of economic activity
maximum economic activity, RGDP near full capacity, price increases due to intense economic activity, full employment, end of expansion and beginning of recession
decline in RGDP for at least 2 consecutive quarters, rising unemployment, prices fall
lowest level of economic activity, RGDP at lowest level in cycle, end of recession, beginning of expansion
times of recovery, RGDP growing toward full capacity, unemployment falling
unemployed+employed: individuals 16 years and older who are not institutionalized and who are either employed or are unemployed but actively seeking job: at least 16 years of age, not institutionalized, full or part time employment, unemployed and actively searching for job
hold full or part time position in economy
have not had job for at least 1 week but have been actively searching for job in last 4 weeks
Labor Force Participation Rate
labor force/ population over 16 x 100: fraction of population over 16 who is willing to supply labor
searching and waiting for jobs, minimal hardship, little gov action
occurs when skills workers have don't match skills that firms need. Specific gov intervention (job retraining, college)
results from fluctuations in business cycle (macroeconomic policies that avoid recessions or help economy recover, unemployment benefits)
wants to work but not actively searching for job, NOT included in labor force or in any type of unemployment. Gave up searching.
type of frictional unemployment, seasonal fluctuation in demand for certain types of workers
unemployed/labor force= unemployed/ employed + unemployed : % of workers in labor force who are unemployed
economy is operating at natural rate of unemployment (no cyclical unemployment). Does NOT mean 100% of labor force is employed. Structural and frictional unavoidable. Actual rate=natural rate.
Natural Rate of unemployment
Frictional + Structural / Labor Force x 100
Frictional Rate + Structural Rate
general increase in prices of goods and services. Consumers can buy less goods and services with the same amount of money. Purchasing power of money falls.
Causes of Inflation
1. economy wide changes in demand and supply
2. Changes in $ supply
Consumer Price Index (CPI)
measures average price of typical market basket of goods and services purchased by typical consumer, economic indicator used to measure average price of market basket of goods and services of typical household over time.
CPI 8 groups
food and beverage (3), housing (1) , apparel, transportation (2), medical care, recreation, education and communication, other goods and services
[value of market basket in year t] / [value of market basket in base year] x 100
Inflation Rate (CPI)
[(CPI new - CPI old) / CPI old] x 100: growth rate of CPI over time. % change in overall prices of goods and services in economy from one period to another.
actual number of dollars exchanged for different resources in an economy
= Nominal Income/ CPI (in hundredths): amount of goods and services that can be purchased with nominal income. Measures purchasing power of nominal Income. Inflation adjusted measure of income.
Percent Change in Real Income
[percent change in nominal income] - [percent change in prices]
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