Principles of Macroeconomics: Unit 1

The set of four questions economists tend to break down problems by:

1. What are the wants and constraints of those involved? 2. What are the trade-offs? 3. How will others respond? 4. Why isn't everyone already doing it?

What is a price taker?

A buyer or seller who cannot affect the market price

What is a normative statement?

A claim about how the world should be Example: The United States was right to use nuclear weapons in

Definition of correlation

A consistently observed relationship between two events or variables

What are explicit costs?

A cost paid in actual dollars and cents (such as the cost of goods or labor) Example: The money spent when going out to eat

What does a left shift of demand demonstrate?

A decrease in demand

What happens to equilibrium price and quantity if demand decreases?

A decrease in demand would cause a leftward shift of the demand curve which would then cause a movement down along the supply curve - Equilibrium price and quantity decrease

What does a movement down the demand curve signify?

A decrease in price, resulting in an increase in quantity demanded

What happens to equilibrium price and quantity if supply decreases?

A decrease in supply would cause a leftward shift of the supply curve which would then cause a movement up the demand curve - Equilibrium price increases and quantity decreases

What is a positive statement?

A factual claim about how the world actually works Example: A nuclear weapon with the explosive power of 10 kilotons of TNT will have a fallout radius of up to 6 miles

What is the law of demand?

A fundamental characteristic of demand which states that, all else equal, quantity demanded rises as price falls - Concept: Remember that the law of demand implies that nothing other than price changes

What is the law of supply?

A fundamental characteristics of supply which states that, all else equal, quantity supplied rises as price rises

What is a standardized good?

A good for which any two units have the same features and are interchangeable Example: Batteries

What is a demand curve?

A graph that shows the quantities of a particular good or service that consumers will demand at various prices - Concept: The demand curve represents consumers' willingness to buy by displaying the highest amount of consumers that will pay for any given quantity

What is a supply curve?

A graph that shows the quantities of a particular good or service that producers will supply at various prices - Concept: The supply curve displays a producer's willingness to sell by showing the minimum price producers must receive to supply any given quantity

What is a production possibilities frontier (PPF)?

A line or curve that shows all the possible combinations of two outputs that can be produced using all available resources

What is a competitive market?

A market in which fully informed, price-taking buyers and sellers easily trade (meaning no transaction costs) a standardized good or service - Concept: In reality, very few markets are truly competitive

Definition of causation

A relationship between two events in which one brings about the other

What is a trade-off?

A sacrifice that must be made to obtain a certain product, service, or experience, rather than others that could be made or obtained by allocating the same, required resources

What is the circular flow model?

A simplified representation of how the economy's transactions work together

What is a model?

A simplified representation of the important parts of a complicated situation - A good model predicts cause and effect, makes clear assumptions, and describes the real world accurately.

What is a shortage?

A situation in which the quantity of a good that is demanded is higher than the quantity supplied - In other words, excess demand

What is a surplus?

A situation in which the quantity of a good that is supplied is higher than the quantity demanded - In other words, excess supply

What are sunk costs?

Costs that have already been incurred and cannot be recovered and refunded

How does the price of related goods influence the shift of the supply curve?

Determines supply because it affects the opportunity cost of production - When you choose to produce Good A, you forgo the profits you would have earned producing something else (For say, Good B) - If the price of Good B were to increase, the amount you forgo in profits also increases

What is a demand schedule?

A table that shows the quantities of a particular good or service that consumers will purchase (demand) at various prices

What is a supply schedule?

A table that shows the quantities of a particular good or service that producers will supply at various prices

Who demands labor?

Firms (Who are buyers in the Market for the Factors of Production)

Who supplies goods/services?

Firms (Who are sellers in the Market for Goods and Services)

What is an example of an inferior good?

For many people, instant noodles and generic store brand items - When their incomes increase, people replace these goods with more expensive products, resulting in a decrease in demand for the inferior goods - When their incomes decrease, the demand for inferior goods increase

What are inferior goods?

Goods for which demand decreases as income increases; whereas, demand increases as income decreases

What are normal goods?

Goods for which demand increases as income increases; whereas, demand decreases as income decreases

What are complements?

Goods that are consumed together, so that purchasing one will make consumers more likely to purchase the other and in some cases, not purchasing one will make consumers less likely to purchase the other

What are substitute goods?

Goods that serve a similar-enough purpose that a consumer might purchase one in place of the other - Concept: Close substitutes are two goods that are greatly similar, such as salmon and trout

What is a market economy?

An economy in which private individuals, rather than a centralized planning authority, make the decisions

What is marginal analysis?

An examination of the additional benefits of an activity compared to the additional costs of that activity - Companies use marginal analysis as a decision-making tool to help them maximize their profits - Individuals unconsciously use marginal analysis to make a host of everyday decisions

What does a right shift of demand demonstrate?

An increase in demand

What happens to equilibrium price and quantity if demand increases?

An increase in demand would cause a rightward shift of the demand curve which would then cause a movement up along the supply curve - Equilibrium price and quantity increase

What does a movement up the demand curve signify?

An increase in price, resulting in a decrease in quantity demanded

What happens to equilibrium price and quantity if supply increases?

An increase in supply would cause a rightward shift of the supply curve which would then cause a movement down along the demand curve - Equilibrium price decreases and quantity increases

What are implicit costs?

An opportunity cost that is incurred even if money does not change hands Example: The value of the amount of time when out eating (In terms of, for say, how much money you could have earned working)

What is an example of a change in the number of buyers (population)?

As the number of teenagers and college students increases, the demand for cell phones increases

How do expectations influence the shift of the demand curve?

Changes in consumers' expectations about the future can influence demand

What is marginal decision making?

Comparison of additional benefits of a choice against the additional costs it would bring, without considering related benefits and costs of past choices

Who demands goods/services?

Households (Who are buyers in the Market for Goods and Services)

Who supplies labor?

Households (Who are sellers in the Market for the Factors of Production)

What does "ceteris paribus" mean?

The Latin for "all other things being the same." 1. Concept: The first requirement for the law of demand 2. Concept: Economists frequently reply on the idea of "ceteris paribus" to isolate the effect of a single change in the economy

What is comparative advantage?

The ability to produce a good or service at a lower opportunity cost than others - Concept: No producer has a comparative advantage at everything, and each producer has a comparative advantage at something

What is absolute advantage?

The ability to produce more of a good or service than others can with a given amount of sources

What is marginal benefit?

The additional benefit received from the consumption of the next unit of a good or service

What is marginal cost?

The additional cost incurred from the consumption of the next unit of a good or service

What is quantity supplied?

The amount of a particular good or service that producers will offer for sale at a given price during a specific period

What is quantity demanded?

The amount of a particular good that buyers will purchase at a given price during a specified period

What is an example of a consumer's expectations?

The anticipation of a price change - An expectation of a decrease in price in the future can influence one to postpone a purchase until a later date, causing current demand to decrease - An expectation of an increase in price in the future can influence on to make a purchase early, causing current demand to increase

What is a market?

The buyers and sellers who trade a particular good or service, not a physical location

What is scarcity?

The condition of wanting more than we can get with available resources

What are transaction costs?

The costs incurred by buyer and seller in agreeing to and executing a sale of goods or services Examples: Communication charges, legal fees, informational cost of finding the price, quality, and durability, may also include transportation costs, etc.

What happens when nonprice factors (that determine supply changes) are not held constant on the supply curve?

The curve will shift either to the right or the left because nonprice determinants affect the quantity supplied at each price

What happens when nonprice factors (that determine demand changes) are not held constant on the demand curve?

The curve will shift, either to the right or the left, because nonprice determinants affect the quantity demanded at each price

What are resources?

The factors used in producing goods or providing services

What are "gains from trade"?

The improvement in outcomes that occurs when producers specialize and exchange goods and services

What are the factors that shift the demand curve?

The non-price determinants of demand: 1. Consumer preferences 2. The prices of related 3. Incomes 4. Expectations of future prices 5. The number of buyers in the market (In other words, population)

What are the factors that shift the supply curve?

The nonprice determinants of supply are: 1.) Prices of related goods 2.) Technology 3.) Prices of Inputs 4.) Expectations 5.) The number of sellers

How can we use the PPF to measure opportunity cost?

The opportunity cost is represented graphically by the slope of the PPF - Moving up the frontier means less of the product on the X-axis and more of the product on the Y-axis - Moving down the frontier means more of X and less of Y

What are consumer preferences?

The personal likes and dislikes that make buyers more or less inclined to purchase a good

Which points on the production possibilities frontier are feasible?

The points inside of the frontier and on the frontier

Which points on the production possibilities frontier are efficient?

The points on the line or curve of the PPF

What is specialization?

The practice of spending all of your resources (capital, labor, land, etc.) on producing a particular good - Concept: Specialization increases total production, using the same amount of resources

What is equilibrium price? (Also known as market-clearing price)

The price at which the quantity supplied equals the quantity demanded

What is equilibrium quantity?

The quantity that is supplied and demanded at the equilibrium price

What is equilibrium?

The situation in a market when the quantity supplied equals the quantity demanded; graphically, this convergence happens where the demand curve intersects the supply curve

What is economics?

The study of how economic units (As individuals- ex. Consumers, or as a group of people- ex. Countries) make decisions under scarcity and the incentives and objectives that influence those decisions

What is microeconomics?

The study of how individuals and firms manage resources

What is macroeconomics?

The study of the economy on a regional, national, or international scale

What is efficiency?

The use of resources in the most productive way possible to produce the goods and services that have the greatest total economic value to society

What is opportunity cost?

The value of what you have to give up in order to get something; the value of your next best alternative

How does the price of related goods influence the shift of the demand curve?

Two kinds of related goods: 1.) Substitutes 2.) Complements Each type of relationship influences the demand of the goods involved

What happens to equilibrium price and quantity if supply and demand both shift?

When both the supply and demand curves shift simultaneously, you can unambiguously find the change in either equilibrium price OR quantity, but the change in the other is ambiguous

What is positive correlation?

When both variables tend to occur at the same time or move in the same direction

What is negative correlation?

When one event, or variable increases while a related event or variable decreases

How does the number of sellers influence the shift of the demand curve?

When the number of sellers increase, the market supply increases; therefore, when the number decreases, so does supply

How does the price of inputs influence the shift of the supply curve?

When the prices of inputs increase, production costs rise, and the quantity of the product that producers are willing to supply at any given price decreases - Conversely, when input prices fall, supply increases

When are variables uncorrelated?

When there is no consistent relationship between variables

What is rational behavior?

Making choices to achieve goals in the most effective way possible

What is an example of a complement relationship?

Peanut butter and Jelly - If the price of Peanut butter were to increase, the demand for Jelly will likely decrease because as consumers purchase less of the first good, they will want less of the other to go with it

A change in what variable causes a movement along the demand curve?

Price

A change in what variable causes a movement along the supply curve?

Price

What terminology signifies a shift of the demand curve?

"Increase in demand" or "Decrease in demand"

What terminology signifies a movement along the demand curve?

"Increase in quantity demanded" or "Decrease in quantity demanded"

What terminology signifies a movement along the supply curve?

"Increase in quantity supplied" or "Decrease in quantity supplied"

What terminology signifies a shift of the supply curve?

"Increase in supply" or "Decrease in supply"

What are the factors and their respective changes that shift the demand curve left?

- A decrease in income (In terms of normal goods) - An increase in income (In terms of inferior goods) - Changes against preferences - A decrease in price of a substitute - An increase in price of a complement - A decrease in number of buyers (population) - A decrease in expected future income - A decrease in expected future price

What are the factors and their respective changes that shift the supply curve right?

- A decrease in price of a substitute in production - An advance in technology - A decrease in price of inputs - A decrease in expected future price - An increase in the number of sellers

What are the factors and their respective changes that shift the demand curve right?

- An increase in income (In terms of normal goods) - A decrease in income (In terms of inferior goods) - Changes in favor of preferences -Increase in price of a substitute - A decrease in price of a complement - An increase in number of buyers (population) - An increase in expected future income - An increase in expected future price

What are the factors and their respective changes that shift the supply curve left?

- An increase in price of a substitute in production - A retrograde in technology - An increase in price of inputs - An increase in expected future price - A decrease in the number of sellers

How does the number of buyers (population) influence the shift of the demand curve?

- An increase in the number of potential buyers in market will increase demand - A decrease in the number of buyers will decrease demand

What happens to equilibrium price and quantity if supply shifts rightward and demand shifts leftward?

- Equilibrium price decreases - Equilibrium quantity is indeterminant

What happens to equilibrium price and quantity if supply shifts leftward and demand shifts rightward?

- Equilibrium price increases - Equilibrium quantity is indeterminant

What happens to equilibrium price and quantity if supply and demand both shift leftward?

- Equilibrium price is indeterminant - Equilibrium quantity decreases

What happens to equilibrium price and quantity if supply and demand both shift rightward?

- Equilibrium price is indeterminant - Equilibrium quantity increases

What is an example of a supply shift due to the price of related goods?

- Say farmers produce two goods: Wheat and Corn (A substitute relationship) - If there were an increase in the price of corn, farmers would allocate more of their resources to the production of corn rather than wheat; thus, the supply of wheat decrease while the supply of corn increases

What does the downward-sloping demand curve represent?

- The inverse relationship between price and quantity demanded with everything else held constant - Reflects the trade-offs that people face between: 1.) The benefit they expect to receive from a good 2.) The opportunity cost they face for buying it

What does the upward-sloping supply curve represent?

- The parallel relationship between price and quantity supplied with everything else held constant - Reflects the trade-offs that producers face between: 1.) The benefit the producer will receive from selling the good 2.) The opportunity cost of the time and resources that go into producing the good

Why is the PPF sometimes a straight line and sometimes bowed out?

- When the PPF is a straight line, it demonstrates a constant opportunity cost - When the PPF is bowed out, it demonstrates a changing opportunity cost

Explain how dollars flow in the circular flow diagram?

Households receive income from the Market for the Factors of Production, who then spend it in the Market for Goods and Services, providing Firms with revenue, who then pays wages, rents, and profit to the Market for Factors of Production (... and repeat) - In short, (flow only accounting for the actors) income payments flow from firms to household and sales revenue flows from households to firms

Explain how goods and services flow in the circular flow diagram?

Households supply labor to the Market for Factors of Production, then Firms demand capital, labor, and labor from the Market for the Factors of Production in order to supply goods and services for the Market for Goods and Services, where Households demand those goods and services (... and repeat) - In short, (flow only accounting for the actors) labor (and other factors of production) flow from households to firms while goods and services flow from firms to households

Why do people, firms, and countries specialize?

If everyone focuses on producing the good for which they have a comparative advantage, total production increases

Illustrate a situation where we have excess supply? Explain why this situation will not persist.

If the price of a good is set above equilibrium, the quantity demanded will be less than quantity supplied - Resulting in excess supply - Leaving suppliers with a surplus of goods

Illustrate a situation where we have excess demand? Explain why this situation will not persist.

If the price of a good is set below equilibrium, the quantity demanded will be greater than quantity supplied - Resulting in excess demand - Leaving consumers with a shortage of goods

How does technology influence the shift of the supply curve?

Improved technology enables firms to produce more efficiently, using the same amount of (or fewer) resources to make a given product - Doing so lowers production costs, increasing the quantity producers are willing to supply at each price

What is an example of a normal good?

In most cases, the cell phone - If someone cannot afford one, that person is more likely to buy one when his/her income rises - If someone already has one, he/she is more likely to upgrade to a newer, fancier cell when his/her income rises

How do incomes influence the shift of the demand curve?

In terms of affordability: -The greater the income, the more money one can afford to spend based on one's choosing -The lesser the income, the more one must cut back in spending

What is an example of a substitute relationship?

Rice and Pasta - If the price of rice were to double while the price of pasta stayed the same, the demand for pasta would increase due to the fact that the opportunity cost of pasta has decreased

How do we find equilibrium price and quantity?

Sellers tend to set prices by trial and error, or by past experience with customers - Concept: The incentives buyers and sellers face will naturally drive the market toward equilibrium, as sellers raise or lower their prices in response to customers' behavior

What is an incentive?

Something that causes people to behave in a certain way by changing the trade-offs they face

How do expectations influence the shift of the supply curve?

Suppliers' expectations about prices in the future also affect quantity supplied - Example: When housing prices are expected to rise, builder increase production thus the supply of houses increases