ECON1101 Chapter Notes - Chapter 1-7: Demand Curve, Economic Equilibrium, Budget Constraint
Economics Study Revision:
Microeconomics studies the behaviour of individual firms and households or specific markets.
Chapter 1 - The central idea: !
Scarcity and choice for individuals -
Scarcity: the situation in which the quantity of resources is insufficient to meet all wants.
Choice: a selection among the alternative goods, services or actions.
Economic interactions: exchanges of goods and services between people.
Market: an arrangement by which economic exchange between people take place
Opportunity cost: the value of the next-best forgone alternative that was not chosen because
something else was chosen.
Gains from trade: improvements in income production, or satisfaction owing to the exchange of
goods or services.
Specialisation: a concentration of production effort on a single specific task
Division of labour: the division of production into various parts in which different groups of workers
specialise.
Comparative advantage: A situation in which a person or group can produce one good at a lower
opportunity cost than another person or group.
International trade: the exchange of goods and services between people or firms in different
nations.
Review:
• All individuals face scarcity in one form or another. Scarcity forces people to make choices. For
every choice that is made, there is also an opportunity cost of not doing one thing because
another thing has been chosen.
• People benefit from economic interactions - trading goods and services -with other people
• Gains from trade occur because goods and services can be allocated in ways that are more
satisfactory to people.
• Gains from trade also occur because trade permits specialisation through the division of labour.
People should specialise in the production of goods in which they have a comparative
advantage.
Scarcity and choice for the economy as a whole -
Production possibilities:
With a scarcity of resources such as labour and capital, a choice exists between producing some
goods eg computers, movies etc. If the economy produces more of one, then it must produce less
of the other. This is an example of alternative choices or the production possibilities for computers
and movies.
Production possibilities: alternative combinations of production of various goods that are possible,
given the economy’s resources.
Increasing opportunity costs:
The opportunity cost in terms of computer, of producing more movies increases as we produce
more movies. Each extra movie requires a loss of more and more computers. What has just been
described is called increasing opportunity cost.
Increasing opportunity cost: a situation in which producing more of one good requires giving up an
increasing amount of production of another good.
Why do opportunity costs increase? Some of the available resources are better suited for more
movie production then for computer production and vice versa. As more and more resources go
into making movies, we are forced to take resources that are better at computers making and use
them for moviemaking.
Production possibilities curve:
A graphical representation of increasing opportunity costs.
This curve shows the maximum number of computers that can be produced for each quantity of
movies produced. The curve bowed out indicates that the opportunity cost of producing movies
increases as more movies are produced.
Production possibilities curve: a curve showing the maximum combinations of production of two
goods that are possible, given the economy’s resources.
inefficient, efficient of impossible?
The PPC shows the effect of scarcity and choice in the economy as a whole.
The points on the curve are efficient, they represent the maximum amount that can be produced
with available resources. Only way to raise production of one good is to lower production of
another good, the points show a trade-off between on good or another.
Shift in the production possibilities curve:
The PPC can shift out or in. A shift out can signify more workers, more resources etc. A
technological advancement also shifts the curve out. When the PPC shifts out, the economy grows
because more goods and services can be produced. As the PPC shifts out impossibilities become
possibilities.
The PPC only shifts slightly if few resources are devoted investment for the future, with more
emphasis on consumption now. Whereas the more resources devoted to investment and less
consumption leads to a larger PPC shift.
Market economies and price systems:
Market economies: An economy characterised by freely determined prices and the free exchange
of goods and services in markets.
Command economy: An economy in which the govt. determines prices and production; also called
a centrally planned economy.
In a market economy the three essential question of what, how and whom to produce are made by
individual consumers, firms, govt. and other organisation interacting in markets.
Key elements of a market economy:
Freely determined prices:
Are prices that are determined by the individuals and firms interacting in markets.
The freely determined prices are an essential characteristic of a market economy.
Property rights and incentives:
Property rights: rights over the use, sale and proceeds from a good or resource. Property rights are
needed for a market economy because they give people the ability to buy and sell goods, without
property rights people could take whatever they wanted without paying.
Incentive: a device that motivates people to take action, usually to increase economic efficiency.
Property rights provide incentives. eg if an inventor could not get property rights over their
invention, then the incentive to produce the invention would be lower or non-existent.
Freedom to trade at home and abroad:
Economic integration; allowing people to interact freely is thus another necessary component of a
market economy.
A role for government:
Provision of merit goods eg health care, schooling, defence. In certain circumstances called market
failure the market economy does not provide good enough answers to the “what, how and whom”
to produce” questions and the government has a role in improving the market. However if the govt.
does a worse then the market then it is called government failure.
Market failure: any situation in which the market does not lead to an efficient economic outcome
and in which the govt. has a potential role.
Government failure: the situation in which the government fails to improve on the market or even
worse makes things worse.
The price system:
A market economy is said to use the price system to solve the following problems.
1. Prices serve as signals about what should be produced and consumed when there are
changes in tastes or changes un technology.
2. Price provides incentives to people to alter their production or consumption
3. Prices affect the distribution of income or who gets what in the economy
Document Summary
Microeconomics studies the behaviour of individual rms and households or speci c markets. Scarcity: the situation in which the quantity of resources is insuf cient to meet all wants. Choice: a selection among the alternative goods, services or actions. Economic interactions: exchanges of goods and services between people. Market: an arrangement by which economic exchange between people take place. Opportunity cost: the value of the next-best forgone alternative that was not chosen because something else was chosen. Gains from trade: improvements in income production, or satisfaction owing to the exchange of goods or services. Specialisation: a concentration of production effort on a single speci c task. Division of labour: the division of production into various parts in which different groups of workers specialise. Comparative advantage: a situation in which a person or group can produce one good at a lower opportunity cost than another person or group.
