ECN 204 Chapter Notes - Chapter 1: Market Failure, Planned Economy, Better Off

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22 Oct 2012

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ECN204 NotesChapter 1
Scarcity – limited nature of society’s resources
Economics – study of how society manages its scarce resources
Principle #1: People Face Tradeoffs
oTo get one thing, we usually have to give up another.
oClassic tradeoff is between “guns and butter.
The more we spend on national defense, the less we can spend
on consumer goods
oAnother tradeoff is efficiency vs. equity
The difference between getting the most out of resources vs.
distributing economic prosperity fairly.
Principle #2: The Cost of Something Is What You Give Up to Get It
oComparing the costs and benefits of alternative courses of action
oOpportunity Cost – whatever must be given up to obtain some item
Principle #3: Rational People Think at the Margin
oRational People – people who systematically and purposefully do the
best they can to achieve their objectives
oMarginal Changes – small incremental adjustments to a plan of action
oMake decisions by comparing marginal benefits and marginal costs
Principle #4: People Respond to Incentives
oIncentive – something that induces a person to act
oIncentives are crucial to analyzing how markets work
oPublic policymakers should never forget about incentives
Many policies change the costs and benefits people face and that
alters their behaviour.
Principle #5: Trade Can Make Everyone Better Off
oTrade between two countries can make each country better off
oTrade allows country to specialize in what they do best and to enjoy a
greater variety of goods and services
Principle #6: Markets Are Usually a Good Way to Organize Economic Activity
oMarket Economy – an economy allocates resources through the
decentralized decisions of many firms and households as they interact in
markets for goods and services
oMost countries that once had centrally planned economies have
abandoned this system and are trying to develop market conditions.
Principle #7: Governments Can Sometimes Improve Market Outcomes
oProperty Rights – the ability of an individual to own and exercise control
over scarce resources
oMarket Failure – a situation in which a market left on its own fails to
allocate resources efficiently (e.g., externalities can cause market
oExternality – the impact of one person’s actions on the well-being of a
bystander (e.g., Pollution)
oMarket Power – the ability of a single economic actor (or a small group of
actors) to have a substantial influence on market prices
oGovernment can work its magic only if it enforces rules and maintains
the institutions that are key to a market economy
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