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ECON 1BB3 Study Guide - Final Guide: Structural Unemployment, Investment Goods, Greeting Card

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Bridget O' Shaughnessy
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Macroeconomics Study Notes
Chapter 1
Scarcity means that society has limited resources and therefore cannot produce all
the goods and services people wish to have
Economics is the study of how society manages its scarce resources
Principle #1: People Face Tradeoffs
“There is no such thing as a free lunch.
Making decisions requires trading off one goal against another
For example, someone who decides to study economics take away the time that
they can study for physics- a trade off
Efficiency means that society is getting the most it can from its scarce resources
Equity means that the benefits of those resources are distributed fairly among
society’s members
in other words, efficiency refers to the size of the economic pie, and equity refers to
how the pie is divided
Principle #2: The Cost of Something is What You Give Up to Get It
because people face tradeoffs, making decisions requires comparing the costs and
benefits of alternative courses of actions
the opportunity costs of an item is what you give up to get that item
while you attend university earning a degree you could be working at a full-time
Principle #3: Rational People Think at the Margin
rational people are people who systematically and purposefully do the best they
can to achieve their objectives
marginal changes are small incremental adjustments to a plan of actions
a rational decision maker takes an action is and only if the marginal benefit of the
action exceeds the marginal cost
Principle #4: People Respond to Incentives
an incentive is something (such as the prospect of a punishment or a reward) that
induces a person to act
Principle #5: Trade CAN Make Everyone Better Off
trade between two countries can make each country better off
for example, your family would not be better off isolated- it would have to grow its
own food, make its own clothing, and build its own home
your family gains much from its ability to trade with others
trade allows each person to specialize in the activities he or she does best

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by trading with others, people can buy a greater variety of goods and services at
lower cost
Principle #6: Markets Are Usually a Good Way to Organize Economic Activity
communist countries worked on the premise that central planners in the government
were in the best position to guide economic activity
these planners decided what goods and services were produced, how much was
produced, and who produced and consumed these goods and services
in a market economy, the decisions of a central planner are replaced by the
decisions of millions of firms and households
firms decide whom to hire and what to make
households decide which firms to work for and what to buy with their incomes
Adam Smith proposed the invisible hand” is households and firms interacting in
markets act as if they are guided by an invisible hand
Principle #7: Governments Can Sometimes Improve Market Outcomes
the magic hand can work its magic if only if the government enforces the rules and
maintains the institutions that are key to a market economy
property rights are the ability of an individual to own and exercise control over
scarce resources
there are two broad reasons for a government to intervene in the economy and
change the allocation of resources:
oto promote efficiency and
oto promote equity
market failure is a situation in which a market left on its own fails to allocate
resources efficiently
externality is the impact of one person’s actions on the well-beg of a bystander
market power is the ability of a single economic actor (or small group of actors) to
have a substantial influence on market prices
the government can improve on market outcomes at times does not mean that it
always will
Principle #8: A Country’s Standard of Living Depends on Its Ability to Produce
Goods and Services
productivity is the quantity of goods and services produced from each hour of a
worker’s time
if productivity is the primary determinant of living standard, other explanations
must be of secondary importance
to boost living standards, policymakers need to raise productivity by ensuring that
workers are well educated, have the tools needed to produce goods and services,
and have access to the best available technology
Principle #9: Prices Rise When the Government Prints Too Much Money
inflation is an increase in the overall level of prices in the economy

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when a government creates large quantities of the nation’s money, the value of the
money falls
high inflation is associated with rapid growth in the quantity of money and low
inflation is associated with slow growth in the quantity of money
Principle #10: Society Faces a Short-Run Tradeoff between Inflation and
a higher level of prices is, in the long run, the primary effect of increasing the
quantiy of money
the short run effects of economic injections is as follows:
oincreasing the amount of money in the economy stimulates the overall level
of spending and thus the demand for goods and services
ohigher demand may, over time, cause firms to raise their prices, but in the
meantime, it also encourages them to increase the quantity of goods and
services they produce and to hire more workers to produce those goods and
omore hiring means lower employment
there is a short run trade between inflation and unemployment
this simply means, that over a period of a year or two, many economic policies
push inflation and unemployment in opposite directions
for example, if inflation was low then unemployment is high (they are inversely
Chapter 2
The Circular Flow Diagram
the circular-flow diagram is a visual model of the economy that shows how
dollars flow through markets among households and firms
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