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Chapter 2

Micro Econ 1B03 chapter 2 summary.docx

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Hannah Holmes

Chapter 2 Summary Micro Economics, Understanding Economic Models course and shall be used as just small summaries to go over what is taught over a chapter. Not all points may be covered but it is done toe the best of the ability of the individual who wrote these notes of summary. Have fun Studying!!!! Thinking like an Economist 1. Before we get to the basic economic models, we have to understand how economics is approached by everyone. Economics like to act like scientists, they like to use the scientific method to deal with everything. Meaning they like to model most economic situations with positive ways of thinking. Thinking positively if you remember from chapter 1, just means that you are stating what is going on, they are objective (they have no opinion). When Economists use their skills to forecast what should happen in the economy, then that is normative thinking. When Economists think normatively, they are acting more like policy advisors rather than "economic scientists". a. Economists think positively and use models to simplify the real world and make it easier to understand. However these models have many assumptions because they cannot account for everything that goes on. b. When Economists think normatively, they are not being objective as they have an opinion; they are acting as policy advisors instead. Circular Flow Diagram 2. The first model that is noted in the textbook is called the circular flow diagram. It is a basic diagram that splits the economy into two basic decision makers; the household and the firms. a. The households are essentially those who consume goods and services from companies, we as individuals are these household. Think of yourself, you are a household because you buy that computer that a company makes; you buy that mysterious meat burger that McDonalds make. The firms are those companies and organizations that make products and services and sell it to people who will buy it. b. However, this model economy isn’t a one way street. Not only are the households buying and firms selling, the households also sell and firms also buy. The households can sell their factors of production, if you remember what the factors of production are (land, labour, capital and Entrepreneurship) , households can sell their time to the companies and work for them to create their products and services. The firms will consume these factors of production and give compensation to the households for making their product. An example would be how you will work at McDonalds and flip burgers, your time spent there to flip McDonalds burgers will be bought by McDonalds and you get 10 bucks and hour for what you did for the firm (McDonalds). c. As you can see there is a cycle in this simple economy. There are two markets in this cycle. The market for products and services like what was explained in bullet (A) above, the firms make something and the households consume what was made. The market for factors of production, is where the households sell their factors of production (ie: time and effort which is labour) and the firms buy their factors of production to create a product. This is a never ending cycle! Production Possibilities Frontier (PPF) 3. The production possibility frontier is a graph that basically simplifies the economy into a world where only 2 goods are produced by one firm. a. If we remember the first and second economic principle, there is a scarce amount of resource available to produce goods. Let’s say a company can produce Digimon cards and Yugioh, the company only has 8 hours a day. It can only spend so much time making Yugioh cards and so much time making Digi cards. The PPF shows the different good output combinations he will have based on how the company uses its time to make each type of card.
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