Microeconomics Chapter 3

Market System

A form of economic organization in which resource allocation decisions are left to individual producers and consumers acting in their own best interests without central direction

Economists define efficiency as the absence of waste.

An efficient economy wastes none of its available resources and produces the maximum amount of output that its technology permits.

Opportunity cost

Any decision is the value of the next best alternative that the decision fores the decision maker to forgo.

Second decision

Decide which of the possible combinations of goods to produce-how many missiles, automobiles, and so on; that is, it must select one specific point on the production possibilities frontier among all of the points (i.e., all of the output combinations) on the frontier.

If the market functions well, goods that have high opportunity costs will also have high money costs.

In turn, goods that have low opportunity costs will also have low money costs.

First Decision to allocate its scarce resources

It must figure out how to utilize its resources efficiently; that is, it must find a way to reach its production possibilities frontier.

Division of Labor

Means breaking up a task into a smaller, more specialized tasks so that each worker can become more adept at a particular job.

Third Decision

Must decide how much of the total output of each good to distribute to each person, doing so in a sensible way that does not assign meat to vegetarians and wine to teetotalers.

Comparative advantage

One country is said to have a comparative advantage over another in the production of a particular good relative to other goods if it produces that good less inefficiently than it produces other goods, as compared with the other country.

Optimal decision

One that best serves the objectives of the decision maker, whatever those objectives may be. It is selected by explicit or implicit comparison with the possible alternative choices. The term optimal does not mean that we, the observers or analysts, approve or disapprove of the objective itself.

Allocation of scarce resources

Refers to society's decisions on how to divide its scarce input resources among the different outputs produced int he economy and among the different firms or other organizations that produce those outputs.

Production possibilities frontier

Shows the different combinations of various goods, any one of which a producer can turn out, given the available resources and existing technology.

Society has many important goals.

Some of them, such as producing goods and services with maximum efficiency (minimum waste), can be achieved extraordinarily well by letting markets operate more or less freely.

Principle of increasing costs

States that as the production of a good expands, the opportunity cost of producing another unit generally increases.

The downward slope of society's production possibilities frontier implies that hard choices must be made. Civilian consumption (automobiles) can be increased only by decreasing military expenditure, not by rhetoric or wishing.

The curvature of the production possibilities frontier implies that as defense spending increases, it becomes progressively more expensive to "buy" additional military strength ("missiles") in terms of the resulting sacrifice of civilian consumption.

More typically, however, as a firm concentrates more of its productive capacity on one commodity, it is forced to employ inputs that are better suited to making another commodity.

The firm is forced to vary the proportions in which it uses inputs because of the limited quantities of some of those inputs. This fact also explains the typical curvature of the firm's production possibilities frontier.

Resources

The instruments provided by nature or by people that are used to create goods and services. Natural resources include minerals, soil, water, and air. Labor is a scarce resource, partly because of time limitations (the day has only 24 hours) and partly because the number of skilled workers is limited. Factories and machines are resources made by people. These three types of resources are often referred to as land, labor, and capital. They are also called inputs or factors of production.

Virtually all resources are scarce, meaning that people have less of them than they would like.

Therefore, choices must be made among a limited set of possibilities, in full recognition of the inescapable fact that a decision to have more of one thing means that people will have less of something else.

A set of outputs is said to be produced efficiently

if, given current technological knowledge, there is no way one can produce larger amounts of any output without using larger input amounts or giving up some quantity of another output.

The positions and shape of the production possibilities frontier that constrains society's choices are determined by the economy's physical resources,

its skills and technology, its willingness to work, and how much it has devoted in the past to to the construction of factories, research, and innovation.

Outputs

of a firm or an economy are the goods and services it produces

Inputs

used by a firm or an economy are the labor, raw materials, electricity, and other resources it uses to produce its outputs.