Econ1101 Definitions
Economics
the study of how people make choices under conditions of scarcity and of the results of those choices for society.
Choice
compromise between two wants/desires.
Scarcity (of resources)
a fundamental fact in life. The lack of resources leads to choices and tradeoffs (e.g. Catan – road or settlement).
Macroeconomics
the study of the aggregate economy (i.e. it’s the big picture, composed of the sum of all the microeconomies)
Microeconomics
the study of all the little bits (i.e. it’s whether the farmer will grow bananas or apples, it’s whether the shirts industry will use 80% or 90% cotton, it’s the examination of one individual facet).
Opportunity Cost
the value of the next-best alternative choice/action. (i.e. when making a choice we lose the option of taking the alternative)/
Explicit Cost
What you give/spend (e.g. spend $10 seeing a movie) Implicit Cost what you lose (of your own resources) (e.g. lose 2 hours of time and 10 marks for not studying) Average Cost (The total cost/benefit for n things)/n. It’s how much we’ve made. Marginal Cost Essentially synonymous with ‘extra’. It’s the total cost/benefit increase in relation to the increase in some activity. It’s how many we should make/sell. Cost-Benefit Principle we should only take action if the extra benefits outweigh the extra (opportunity) costs. Sunk Cost Fallacy The cognitive bias where people feel invested in spent money, rather than realizing rationally that it is irrelevant in any current decision. (e.g. spending$100 (non-refundable etc) on a plane ticket to see a show, before deciding to do a more fun activity back home. The $100 is spent either way, which would you prefer to see?) Low Hanging Fruit Principle It is Economically Efficient to pursue activity with the lowest opportunity cost first. Rationality Assumption all people are rational people, they have well-defined goals and they try to fulfill these as best as they can. Ceteris Paribus Assumption ‘All else equal’. Essentially ignore the ripple effect comparing two scenarios, and imagine that all other variables are fixed. Economic Surplus benefit – cost • (e.g. save$10, but lose $9 of pay = :)) • (e.g. save$10, but lose $11 of pay = :() Absolute Advantage Bob being able to perform a task/produce a good or service with fewer resources than Mary Comparative Advantage Mary’s opportunity cost of performing a task/producing a good or service is less than Bob’s opportunity cost. Production Possibilities Curve (PPC) A graph that has the maximum amount of good x at every amount of good y produced. Closed Economy One that doesn’t trade with the rest of the world • Consumption possibilities == Production possibilities Open Economy No trade barriers, trades with everyone • Consumption possibilities > Production possibilities (usually) The Law of Diminishing Returns Progressive decrease in marginal benefits as production increases more and more Market (of a good or service) All buyers (demanders) and sellers (suppliers) of a particular good or service. Central Planning/Regulated Market All economic decisions are made by an individual or small group of small individuals • (examples are communist countries) • This often leads to a mismatch between things like the number of gearsticks for tractors and the number of wheels for tractors. Free Market Individuals interact in private markets and make production and distribution decisions. • If consumers want it, producers make it. Demand Intention to buy, i.e. willingness and ability to buy a G/S at the offered price. (Is **not*: desire). Demand Curve Graphical representation of a relationship between the amount of a good or service that buyers want to purchase in and at a given time and price. Quantity Demand Changes in the point along the Demand Curve based on a change in price. Buyer's Reservation Price The value the buyer attributes to the good/service (e.g. the most they're willing to pay for it). Supply Curve Graphical representation of the relationship between the amount of goods and services that a seller wants to supply in and at a given time frame and price. Seller's Reservation Price Smallest amount a seller is willing to sell each additional unit for (usually the marginal cost) Market Demand The sum of a bunch of individual people's demand curves. Purchasing Power The financial ability to buy goods or services. Substitution Effect The less substitutes there are, the steeper the curve (define substitutes) Real Income Effect Purchasing power changes with price change (i.e. you can buy more or less for the same amount) Compliments Two products that are linked. E.g. cars and petrol, tennis courts and tennis balls, etc Substitutes An alternative product (often inferior) that can be purchased instead of a 'normal' good. Equilibrium When the system is at rest, with no tendencies for either Demand or Supply Quantities to change. • The price and quantity co-ordinates for the Supply and the Demand curve are equal • E.g. the point the two curves meet Excess Supply (Surplus) The amount by which Supply Quantity exceeds Demand Quantity when the Price exceeds the Equilibrium Price. Price Ceiling The maximum allowable price for a G/S, set by law Price Floor The minimum allowable price for a G/S, set by law Socially Optimal Quantity The quantity of G/S that results in the maximum possible difference between the total cost/benefit of producing said G/S. Price Elasticity A measure of how a quantity demanded of a good responds to a change in price of said good. Income Elasticity of Demand Percentage change in quantity demand in response to a 1% change in income. Cross Price Elasticity The percentage by which quantity demand of a good changes in response to a 1 percent change in the price of the second good. Perfectly Elastic Demand The point at which you can sell as much of your product as you like, at the market price. Perfectly Inelastic Demand The point at which you can sell a certain amount of your product at whatever price you like Utility The satisfaction derived from people's consumption activities. Utility Maximisation Assumption The assumption that people try to allocate their incomes so as to maximise their satisfaction. Marginal Utility The additional utility gained from consuming an additional unit of a good in a given period of time. Law of Diminishing Marginal Utility The tendency for the marginal utility to diminish as consumption increases beyond a certain point. Marginal Product The additional output from the addition of an extra unit of a resource; e.g. workers Total Product The total output of a good produced by a firm. Average Product The total product produced divided by the number of workers. Rational Spending Rule Spending should be allocated across goods and services so that the marginal utility per dollar is the same for each good. Consumer Surplus The difference between a buyer's reservation price for a good and the market price (the price they actually pay for it). Variable Factors Factors in supply that are affected proportional to the output. They can be changed in the short run. Fixed Factors Factors in supply that are needed regardless of the output. They cannot be change in the short run. Short Run A period of time defined as being too short to change fixed factors but long enough to change variable factors (however it can change their use intensity). Long Run A period of time defined as being long enough to change all factors, and hence everything is variable. Explicit (Economic) Cost Payments made to outsiders for inputs used by a firm Implicit (Opportunity) Cost Potential Earnings lost by not renting resources out to someone else. Profit TR (total revenue) – EC (explicit cost of production) - IC (implicit cost of production) Normal Profit Amount needed to stay in business; break even (i.e. where average revenue and average cost are equal) Economic Profit Profit – Normal Profit Fixed Costs steady throughout the whole production cycle. Variable Costs increasing throughout production cycle (diminishing returns requires more input to achieve the same result). Average Fixed Cost (AFC)$\frac{Total Fixed Cost}{Quantity}$Average Variable Cost (AVC)$\frac{Total Variable Cost}{Quantity}\$
Average Total Cost (ATC)
AFC + AV
Price Taker
A firm that cannot influence the market price of a good or service.
Marginal Analysis
The process of identifying benefits and costs of various alternatives by examining the incremental effect on the total cost/revenue of a one-unit change in the input/output of each alternative.
The Long Run Average Cost Curve
Relationship between the lowest attainable Average Total Cost and the output when both Plant Size and Labor are varied :
Loss from the marginal price being below the equilibrium (i.e. marginal cost not equaling marginal benefit)
Price Subsidy
When the government pays part of the supply cost, meaning market price can be lowered.
Tax Incidence
Analysis of effect of a particular tax on economic welfare.
Monopoly
A market in which one firm supplies all of one product, meaning they control the price absolutely.
Oligopoly
A market in which only a couple of rival firms supply goods that are very close substitutes.
Monopolistic Competition
A market where a large number of firms produce slightly different products that are very close substitutes for each other.
Price Discrimination
Charging different buyers different prices for the same good/service.
Perfect Price Discrimination
Every buyer is charged their reservation price.
Group Pricing
Certain groups are given a discount (e.g. charities or big businesses etc)
Hurdle Pricing/Versioning
All buyers who overcome a certain obstacle (hurdle) are given a discount.
page revision: 30, last edited: 27 Sep 2011 12:33