Midterm 1 - Anders F. CSU Spring 2019

true or false: Economists increasingly use lab experiments to test their theories

true

social preferences

- People generally do not care only about what happens to themselves, but also what happens to others. -Altruism is an example -Spite and envy are also

public good

-Contributing to the irrigation project -when one individual bears a cost to provide the good, everyone receives a benefit.

Public goods

-one of 4 types of goods. - are susceptible to free riding. -Self-interested people tend to under-contribute

Before 1800, the annual growth rate of GDP per capita was

0%

The notion that self interest sometimes promotes the public good is often contributed to

Adam Smith

What are some examples of social Preferences?

Altruism, Reciprocity, Inequality, aversion, Spite

opportunity cost

Another way of expressing this is to say that free time to get more free time, Alexei has to forgo the opportunity of getting a higher grade.

diminishing average product of labour

As more farmers work on a fixed amount of land, the average product of labour falls. one of the two foundations of Malthus' model.

Higher indifference curves correspond to higher utility levels:

As we move up and to the right in the diagram, further away from the origin, we move to combinations with more of both goods.

Ceteris paribus

Ceteris paribus and other simplifications help us focus on the variables of interest. We see more by looking at less.

What is economics?

Economics is the study of how people interact with each other and with their natural surroundings in producing their livelihoods, and how this changes over time

innovation

In a capitalist economy, innovation creates temporary rewards for the innovator, which provide incentives for improvements in technology that reduce costs. These rewards are destroyed by competition once the innovation diffuses throughout the economy.

In our example, both free time and points in the exam are scarce for Alexei because:

Free time and grades are goods: Alexei values both of them. And Each has an opportunity cost: More of one good means less of the other.

Which of the following variables have followed the so-called 'hockey-stick' trajectory—that is, little to no growth for most of history followed by a sudden and sharp change to a positive growth rate?

GDP per capita, labour productivity, and atmospheric CO2

marginal rate of substitution (MRS)

If he is at A, with 15 hours of free time and a grade of 84, he would be willing to sacrifice 9 percentage points for an extra hour of free time, taking him to E (remember that he is indifferent between A and E). We say that his marginal rate of substitution (MRS) between grade points and free time at A is nine; it is the reduction in his grade that would keep Alexei's utility constant following a one-hour increase of free time

budget constraint

If we write w for the wage, and you have t hours of free time per day, then you work for (24 − t) hours, and your maximum level of consumption, c, is given by: 𝑐=𝑤(24−𝑡) what you can afford to buy

Indifference curves slope downward due to trade-offs:

If you are indifferent between two combinations, the combination that has more of one good must have less of the other good.

concave

In Figure 3.5, output increases as the input increases, but the marginal product falls—the function becomes gradually flatter. A production function with this shape is described as

Nash equilibrium

In the US, everyone driving on the right is an equilibrium, in the sense that no one would want to change their strategy given what others are doing. In game theory, if everyone is playing their best response to the strategies of everyone else, these strategies are termed a

Incentives

Incentives matter, because they affect the benefits and costs of taking one action as opposed to another.

What spiked the hockey stick curve?

Industrial revolution

The slope of the indifference curve is the MRS:

It is the trade-off he is willing to make between free time and percentage points.

The slope of the frontier is the MRT

It is the trade-off that he is constrained to make between free time and percentage points because it is not possible to go beyond the feasible frontier.

factors of production

Labour and land (and the other inputs that we are ignoring) meaning inputs into the production process. In the model of technological change above, the factors of production are energy and labour.

two effects of a wage increase

More income for every hour worked: For each level of free time you can have more consumption, and your MRS is higher: you are now more willing to sacrifice consumption for extra free time. This is the income effect we saw in Figure 3.17—you respond to additional income by taking more free time as well as increasing consumption. The budget constraint is steeper: The opportunity cost of free time is now higher. In other words, the marginal rate at which you can transform time into income (the MRT) has increased. And that means you have an incentive to work more—to decrease your free time. This is called the substitution effect

tangent

More precisely, the marginal product is the rate at which the grade increases, per hour of additional study. In Figure 3.5 the true marginal product is the slope of the

Public goods Are:

Non-excludable because everyone benefits from them Non-rival because one person's use of the good does not diminish the benefit to others

A firm is a way of organizing production with the following characteristics:

One or more individuals own a set of capital goods that are used in production, They pay wages and salaries to employees, They direct the employees (through the managers they also employ) in the production of goods and services, The goods and services are the property of the owners, The owners sell the goods and services on markets with the intention of making a profit.

Elinor Ostrom (1933-2012)

Ostrom trained as a political scientist but won the Nobel Prize in economics in 2009 "for her analysis of economic governance, especially the commons". She studied how communities can use common resources without succumbing to Hardin's tragedy of the commons. Ostrom distinguished between: •Common-pool resources (rival, non-excludable goods) •Common property resources (goods managed by communities) Ostrom is famous for her "law" that "a resource arrangement that works in practice can work in theory". Her research addresses how communities (sometimes) succeed in getting individuals to cooperate, or participate in a common project that generates mutual benefits.

Economics experiments investigate social Dilemmas.

Public goods game Ultimatum game

Indifference curves are usually smooth:

Small changes in the amounts of goods don't cause big jumps in utility.

These experiment shed light on how social dilemmas can be resolved by:

Social preferences Repetition Institutions

reservation option

The alternative action with the next greatest net benefit (action B), is often called the 'next best alternative', your 'reservation position', or the term we use: reservation option

What is the marginal rate of substitution (MRS)?

The amount of one good that the consumer is willing to trade for one unit of the other. And The slope of the indifference curve.

indifference curve

The combinations in the table are plotted in Figure 3.6, and joined together to form a downward-sloping curve, called an: which joins together all of the combinations that provide equal utility or 'satisfaction'.

You are a taxi driver in Melbourne who earns A$50 for a day's work. You have been offered a one-day ticket to the Australian Open for A$40. As a tennis fan, you value the experience at A$100. With this information, what can we say?

The economic rent of the day at the Open is A$10.

income effect

The effect of additional (unearned) income on the choice of free time . We assume that for most goods the income effect will be either positive or zero, but not negative: if your income increased, you would not choose to have less of something that you valued.

Free time per day is given by 24 hours minus the hours of study per day. Consider Alexei's feasible set of combinations of final grade and hours of free time per day. What can we conclude?

The feasible frontier is a mirror image of the production function above and The marginal product of labour at 10 hours of study equals the marginal rate of transformation at 14 hours of free time.

the cost of any combination of inputs

The firm can calculate the cost of any combination of inputs that it might use by multiplying the number of workers by the wage and the tonnes of coal by the price of coal. We use the symbol w for the wage, L for the number of workers, p for the price of coal and R for the tonnes of coal: cost=(wage×workers)+(price of a tonne of coal×number of tonnes)=(𝑤×𝐿)+(𝑝×𝑅)

entrepreneur

The first adopter

Markets differ from these in three respects:

They are reciprocated: unlike gifts and theft, one person's transfer of a good or service to another is directly reciprocated by a transfer in the other direction (either of another good or service as in barter exchange, or money, or a promise of a later transfer when one buys on credit). They are voluntary: Both transfers—by the buyer and the seller—are voluntary because the things being exchanged are private property. So the exchange must be beneficial in the opinion of both parties. In this, markets differ from theft, and also from the transfers of goods and services in a centrally planned economy.

True or False- GDP per capita is a better measure of living standards than disposable income.

True

True or false: The substitution effect captures the idea that when a good becomes more expensive relative to another good, you choose to substitute some of the other good for it. It is the effect that a change in the opportunity cost would have on its own, for a given utility level.

True

True or False: Indifference curves do not cross

True As you move to the right along an indifference curve, it becomes flatter.

constrained choice problem

a decision-maker (Alexei) pursues an objective (utility maximization in this case) subject to a constraint (his feasible frontier).

conspicuous consumption

many people of lesser means tried to mimic the consumption habits of the rich, a habit known as

a public good

a good that is both non-excludable and non-rivalrous in that individuals cannot be effectively excluded from use and where use by one individual does not reduce availability to others. This is in contrast to a common good which is non-excludable but is rivalrous to a certain degree. - good or service is called excludable if it is possible to prevent people (consumers) who have not paid for it from having access to it. By comparison, a good or service is non-excludable if non-paying consumers cannot be prevented from accessing it.

In Malthus' model, technological progress will result in ________ in the long run

a larger population and a constant average product

In economics, technology is

a process that takes a set of materials and other inputs—including the work of people and machines—and creates an output. For example, a technology for making a cake can be described by the recipe that specifies the combination of inputs (ingredients such as flour, and labour activities such as stirring) needed to create the output (the cake). Another technology for making cakes uses large-scale machinery, ingredients and labour (machine operators).

equilibrium

a situation that is self-perpetuating, meaning that something of interest does not change unless an outside or external force for change is introduced that alters the model's description of the situation. Note that equilibrium means that one or more things in the model are constant. It does not need to mean that nothing changes. For example, we might see an equilibrium in which GDP or prices are increasing, but at a constant rate.

Anil and Bala's choice between IPC and Terminator pesticide demonstrates

a social dilemma

income at subsistence level is

an equilibrium because, just like differences in the water levels in the various cisterns in Fisher's machine, movements away from subsistence income are self-correcting: they automatically lead back to subsistence income as population rises.

economic interactions involve

flows of goods (for example when you buy a washing machine), services (when you purchase haircuts or bus rides), and also people (when you spend a day working for an employer).

growth rate

change in income/original level of income

The industrial revolution first began in Britain due to

cheap coal and expensive labour

'tragedy of the commons'

conomists believed that resources could not be used efficiently and sustainably under a common property regime. Thanks to Elinor Ostrom this is no longer a dominant view.

consumption goods

curves we have drawn capture our typical assumptions about people's preferences between two goods. In other models, these will often be _____ such as food or clothing, and we refer to the person as a consumer. In our model of a student's preferences, the goods are 'final grade' and 'free time'.

Employers =

demand side of of the labour market (they 'demand' employees), while the workers are the supply side, offering to work under the direction of the owners and managers who hire them.

Sometimes self-interested individuals generate good outcomes

ex: invisible hand

The discovery of a new plow shifts Angela's

feasible frontier out.

We see an upward turn, like the kink in our hockey stick, repeated for:

gross domestic product per capita, productivity of labour (light per hour of work), connectivity of the various parts of the world (the speed at which news travels), impact of the economy on the global environment (carbon emissions and climate change

Malthus

held that a sustained increase in income per capita would be impossible.

Relative prices

help us compare alternatives. Relative prices are simply the price of one option relative to another. We often express relative price as the ratio of two prices.

Common property

involves a well-defined community of users who are able in practice, if not under the law, to prevent outsiders from exploiting the resource. Inshore fisheries, grazing lands, or forest areas are examples.

Capitalism

is an economic system characterized by a particular combination of institutions An economic system is a way of organizing the production and distribution of goods and services in an entire economy. And by institutions, we mean the different sets of laws and social customs regulating production and distribution in different ways in families, private businesses, and government bodies.

we said that if an action brings greater net benefits than the next best alternative, it yields an economic rent and you will do it. Another way of saying this is

is that you receive an economic rent from taking an action when it results in a benefit greater than its economic cost (the sum of out-of-pocket and opportunity costs).

Nash Equilibrium is an outcome of which

no player has an incentive to change their strategy

MRS = MRT=𝑤

our optimal combination of consumption and free time is the point on the budget constraint where:

Marginal rate of substitutions describes

preferences

Capitalism is an economic system based on

private property, markets, and firms

The kinds of firms that make up a capitalist economy include

restaurants, banks, large farms that pay others to work there, industrial establishments, supermarkets, and internet service providers. Other productive organizations that are not firms and which play a lesser role in a capitalist economy include family businesses, in which most or all of the people working are family members, non-profit organizations, employee-owned cooperatives, and government-owned entities (such as railways and power or water companies). These are not firms, either because they do not make a profit, or because the owners are not private individuals who own the assets of the firm and employ others to work there. Note: a firm pays wages or salaries to employees but, if it takes on unpaid student interns, it is still a firm.

technological progress

revolutionized production because the amount of time required for producing most products fell generation after generation.

what leads people to consistently make large contributions in public goods games?

social preferences, reputation, and peer punishment

Open-access resources

such as ocean fisheries or the atmosphere as a carbon sink, can be exploited without restrictions, other than those imposed by states acting alone or through international agreements.

Disposable income

the amount of wages or salaries, profit, rent, interest and transfer payments from the government (such as unemployment or disability benefits) or from others (for example, gifts) received over a given period such as a year, minus any transfers the individual made to others (including taxes paid to the government).

Dividing by the population gives GDP per capita

the average income of people in a country.

if he works for 4 hours per day, he achieves a grade of 50. The average product is:

the average number of percentage points per hour of study—is 50 / 4 = 12.5. (also slope)

In Malthus' model (1) population grows when the average product exceeds subsistence and (2)

the average product decreases with population

Economic rent

the basis of how people make choices economic rent=benefit from option taken−benefit from next best option an economic rent is something you would like to get, not something you have to pay.

economic cost

the economic cost of concert A is $25 + $15 = $40. If the pleasure you anticipate from being at concert A is greater than the economic cost, say $50, then you will forego concert B and buy a ticket to the theatre. On the other hand, if you anticipate $35 worth of pleasure from concert A, then the economic cost of $40 means you will not choose to go to the theatre. In simple terms, given that you have to pay $25 for the ticket, you will instead opt for concert B, pocketing the $25 to spend on other things and enjoying $15 worth of benefit from the free park concert.

In a capitalist economy, an important type of private property is:

the equipment, buildings, raw materials, and other inputs used in producing goods and services. These are called capital goods

An upward-sloping straight line on a ratio scale graph means

the growth rate of the GDP per capita is constant. An upward-sloping convex curve on a linear scale graph means that the GDP per capita increases by a greater and greater amount in absolute terms over time, consistent with a positive constant growth rate.

feasible frontier

the highest grade he can achieve given the amount of free time he takes. a constraint on Alexei's choices. It represents the trade-off he must make between grade and free time. At any point on the frontier, taking more free time has an opportunity cost in terms of grade points foregone, corresponding to the slope of the frontier.

marginal product

the increase in output that arises from an additional unit of input Alexei's marginal product is the increase in his grade from increasing study time by one hour. Alexei's production function in Figure 3.5 gets flatter the more hours he studies, so the marginal product of an additional hour falls as we move along the curve. The marginal product is diminishing

index of the average real wage

the money wage in each year, adjusted for changes in prices

marginal rate of transformation

the rate at which Alexei can transform free time into grade points.

The variables that stay constant in this equilibrium are:

the size of the population and the income level of the people

Since each animal has less food to eat, the antelopes will have fewer offspring and die younger so population growth will slow down. Eventually, living standards will fall to the point where the herd is no longer increasing in size. The antelopes have filled up the plain. At this point, each animal will be eating an amount of food that we will define as

the subsistence level

preferences

the things that he cares about. If he cared only about grades, he should study for 15 hours a day. But, like other people, Alexei also cares about his free time—he likes to sleep, go out or watch TV. So he faces a trade-off: how many percentage points is he willing to give up in order to spend time on things other than study?

What does UK GDP per capita measure?

the total output of the UK's economy, divided by the country's population

average product of a farmer's labour

total product (TP) divided by the total quantity of labor. It is the average amount of output each worker can produce. The average product curve and marginal product (MP) curve intersect at the maximum average product.

true or false: Economists generally cannot (and should not) perform experiments on entire economies.

true

true or false: If antelopes eat less than the subsistence level, the herd starts to get smaller. And when consumption exceeds the subsistence level, the herd grows

true

true or false: Individual self-interest generates a social dilemma in the tragedy of the commons and the prisoners' dilemma

true

true or false: Individual self-interest generates an efficient solution in the Invisible hAnd game

true

true or false: Social preferences can help people solve social dilemmas.

true

A wage increase leads workers to choose more free time

when the income effect dominates the substitution effect.