Transcript Econ Final Review

Final Review!
What is the study of
economics?
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How to meet unlimited wants with
scarce resources
Economists study how to meet
people’s unlimited wants with scarce,
available resources
THE FACT THAT WE MUST DEAL
WITH SCARCITY FORCES US TO
MAKE CHOICES CONSTANTLY
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Trade-off: the choice that one makes
whenever making economic decisions
Opportunity cost: the cost of the next best
alternative when one choice is made, ex)
money, time, resources, etc).
Production Possibilities
Frontier
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A graphical representation of how an
economy makes decisions on what to
produce.
Production Possibilities Curve shows
the choices a country can make with
respect to its available resources.
Production Possibility
Frontier
Production Possibility
Frontier
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The PPF shows all efficient
combinations of output, when the
factors of production are used to their
full potential.
As more of one product is produced,
increasingly larger amounts of the
other product must be given up.
the opportunity cost increases as one
moves toward either extreme on the
curve of production possibilities.
Tools economists use
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Economists demonstrate real-world
relationships using economic models
Economists use the term efficiency to
measure marginal costs, and the term
productivity to measure production
levels.
Know the different
economic systems
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How do these systems answer the
basic economic questions?
1) What to produce
2) How to produce it?
3) For whom to produce?
Traditional Economies
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1) What to produce? Whatever ritual,
habit or custom dictates
2) How to produce? However ritual, habit
or custom dictate
3) For whom to produce? For whomever
ritual, habit or custom dictate
Examples: Australian aborigines, the Mbuti
of Central Africa, The Inuit
Command Economies
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1) What to produce? Whatever the
government says to produce
2) How to produce? However the
government tells you to produce
3) For whom to produce? For whomever the
government tells you to produce (ideally the
entire society)
Examples: Cuba, North Korea
Market Economy
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Basic economic questions answered by
consumers
Dollars=Votes
What to produce? Whatever consumers want
(demand)
How to produce? However business owners
want, usually at maximum efficiency
(production possibility frontier) in order to
maximize profits
For whom to produce? For whomever will buy
it
Examples of market
economies
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The U.S. Canada, U.K., France,
Germany, etc.
Remember these aren’t completely
free market system. There is a level
of government control and regulation,
therefore: these are MIXED
ECONOMIC SYSTEMS.
The 4 factors of production
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Land: Gifts of the earth/Natural resources
(oil, diamonds, etc.)
Labor: people who work
Capital (goods): The things needed to
produce a good or service (sewing
machine, oven, etc.)
Entrepreneur: Risk-taking individual who
organizes the other 3 factors of production
in order to make a profit
Law of Supply
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As Price goes up, quantity will go up
As Price goes down, quantity goes
down
Supply Curve Illustrates
the Law of Supply
Supply Elasticity
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1)
2)
3)
Supply can be:
Elastic
Inelastic
Unit Elastic
Elasticity of Supply
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Elastic: When price rises, quantity supplied rises
considerably. Ex: price rises 20% quantity
supplied rises 50%
Elasticity of Supply
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Inelastic: When price rises, quantity supplied does
not rise considerably. Ex: price rises 20% quantity
supplied rises 5%
Elasticity of Supply
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Unit Elastic: When price rises,
quantity supplied rises
proportionally. Ex: price rises 20%
quantity supplied rises 20%
Law of Demand
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As the price of a product decreases,
the demand for the product will
increase. This is an example of an
inverse relationship.
Demand Curve
Elasticity
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Elastic:
– As the price for a product decreases by
half, the demand for the product
increases 100%. More than proportional!
Elasticity
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Inelastic
– As the price for a product increases by
25%, the demand for the product
decreases by 10%. Less than
proportional!
Elasticity
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Unit Elastic
– As the price of the product triples, the
demand for the product decreases by
300%. Proportional!
 If
prices were to stay the
same, what then could
change demand?
Compliments
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Compliments are goods that are
related. You need to have both in
order to use them
Compliments
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If the price of DVD players goes
down, then the demand for
DVD’s goes up
If the price of Gillette razor
handles goes up, then the
demand for the razor blades
goes down
Substitutes
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The demand for a product tends to
decrease if the price of its substitute
decreases
What are some substitute products?
Substitutes
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If the price of butter
goes up, then the
demand for margarine
will go up.
If the price of sugar
goes up, then the
demand for Splenda©
will go up
Utility & Demand
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Utility: The usefulness or satisfaction
one gets from consuming a good or
service (one slice of pizza is good)
Marginal utility: The extra usefulness
or satisfaction one gets from
consuming a good or service (two
slices of pizza is better)
Diminishing marginal utility: the more
we consume of something, the less
satisfying or useful it becomes (eating
an entire pizza makes one feel sick)
Supply & Demand Curves
S1
e
Price
D1
Quantity
Price
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Who gets to set prices in a market
economy?
– Consumers AND producers – prices are
the result of competition between buyers
and sellers
Circular Flow of Economic Activity
Goods &Services
Product
Market
Goods
&
Services
$$$$$$$
$
$
$
$
$
Producer
Consumer
$
$
$
$
$
$$$$$$$$$
Land, Labor,
Capital
Factor
Market
Land
Labor
Capital
Businesses may be
organized in a variety of
ways
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1) Sole Proprietorship
2) Partnership
3) Corporation
Sole Proprietorships
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The most common form of business
organization in the United States
The most profitable of all business
organizations
This is a business owned and run by
one person
Smallest size of business organization
Partnerships
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Types of partnerships
– General Partnerships:
all partners are
responsible for the
management and
financial obligation of
the business (most
common form of
partnership)
– Limited Partnerships:
at least one partner is
not active in the daily
running of the
business
Corporations
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Corporations
account for 1/5 of
all firms in the U.S.
and 90% of all
sales
A corporation is a
form of business
organization
recognized by law
as a separate legal
entity having all the
rights of an
individual
Forming a Corporation
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People must ask the government for
permission to incorporate
This is done through a corporate
charter which is a government
document giving individuals the right
to incorporate
Corporate
Formation…cont’
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A corporate charter specifies the
number of shares of stock, or
ownership certificates in the firm
These shares are sold to investors who
are called stockholders or shareholders
If the company is successful, it will
issue a dividend a check representing
a portion of corporate earnings to
each stockholder
The Company
$$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
(Stock ownership) $ 1/100th →
$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
$$$$$$$$$$
If a corporation has a total of 100 shares of stock,
and if you could somehow divide the corporation
into 100 equal parts, the owner of a single share of
stock would own 1/100th of the corporation. A
stockholder is someone who owns part of a
company’s plant and equipment, and has a say in
how the business is run
The Owners (The Shareholders)
elect the…
Board of Directors who select the…
President who hires…
Vice President (Sales)
Domestic
International
Vice President (Production)
Quality Control
Research & Development
Vice President (Finance)
Payroll
The Role of Government
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1) To protect the consumer from dangerous
products and unscrupulous businesspeople
(USDA, FDA, OSHA, etc.)
2) To provide the consumer with goods and
services and to consume goods and services
from producers.
Provider: streets, parks, education, buses,
garbage pickup, etc.
Consumer: the government is now the second
largest consuming sector of society, second
only to the actual consumer sector
Promoter of National
Goals
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The government modifies the
economic systems to promote its
goals. Social security, child labor laws,
minimum wage laws, etc.
We live in a modified
economic system
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People carry on their
economic activity freely, but
are subject to some
government intervention and
regulation
This is not a laissez-faire
economy
One form of government regulation
is the Securities and Exchange
Commission (SEC)
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SEC: The federal agency that regulates
activity in the securities markets, and
protects the public against malpractice
by broker-dealers.
They regulate the stock market
Consumer vs. Capital
Goods
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Consumer good: A good intended for
use by consumers, ex: car or
telephone
Capital good: A good used by
businesses to produce other goods,
ex: robotic arm for car factory,
microchip for phone
Public Goods
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An economic good that is consumed
by the public or collectively
1) National defense
2)
3)
4)
Public Goods
– Public goods are products everyone
consumes
– The market does not supply such
goods because it produces only
items that can be withheld if people
refuse to pay for them
– If public goods are to be supplied,
the government usually has to
provide them.
Privatization
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Taking things that were public goods
and selling them to private companies
Market Structures
Perfect
Monopolistic
Competition
Competition
Competition
Relatively Elastic
Demand
Relatively Elastic
Demand
Elastic
Demand
Oligopolistic
Monopoly
Inelastic
Demand
Perfect Competition
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A large number of informed,
independent buyers and sellers who
exchange identical products
– Ex) beef, oranges, apples
Monopolistic Competition
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many small firms, products
differentiated by brand names, easy
entry and exit, some price control
through brand loyalty, much
advertising.
– Ex) shampoos, make-up
Oligopoly
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few large firms, more complex
products, entry difficult due to high
capital costs, significant price control,
much advertising.
– Ex) McDonald’s, Burger King, Pepsi, Coca
Cola
Monopoly
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single large firm,
unique product,
blocked entry,
absolute price
control.
– Ex) utility companies:
National Fuel, National
Grid
Natural Monopolies
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Natural monopolies are legal in the
United States, and are apparent in all
areas of the country. Some examples
include National Fuel and other utility
companies.
Natural monopolies only work where
the good involved has an inelastic
demand where people have to buy
even if prices go up!
What are the causes of
Market Failures?
1)
2)
3)
4)
Inadequate information
Inadequate competition
Immobile resources
Prices do not reflect the costs of
production
What are externalities?
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An unintended side effect that either
benefits or harms a third party
Negative externality
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An unintended side
effect that harms a
third party
Example new
airport built, people
who live near that
airport are bothered
by the noise and
traffic
Positive externality
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An unintended side
effect that benefits
a third party
Example new
airport built,
restaurants and
hotels near that
airport see an
increase in business
The cost of doing business
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Fixed costs/overhead: The costs
businesses incur even when not
producing anything
Examples: Rent, executive salaries,
taxes and depreciation (wear and tear
on capital goods used in production)
Variable cost
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A cost that changes with business
output, labor, raw materials, utilities
A factory wants to increase
production, so they add a third shift.
How will their variable costs
increase?
The stages of production
Three Stages of Production
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How many workers do
you need to operate at
maximum efficiency?
Stage I – Increasing
returns: first, there are
more resources than
workers (inefficient), as
more workers are hired,
production becomes
more and more efficient
(more workers are
added, output
increases)
Three Stages of Production
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How many workers
do you need to
operate at maximum
efficiency?
Stage II –
Diminishing marginal
returns: More
workers are added,
output continues to
increase, but in
smaller increments
Three Stages of Production
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How many workers do
you need to operate at
maximum efficiency?
Stage III – Diminishing
returns: In stage III
too many workers have
been hired and they
are no longer working
at maximum efficiency
(more workers than
resources)
# of
Workers
0
1
2
3
4
5
6
7
8
9
10
Total
Product
0
5
12
21
32
40
46
50
52
50
47
Marginal
Product
0
5
7
9
11
8
6
4
2
-2
-3
Stage of
Production
Stage 1
Total Output
Rises
Stage 2
Total Output
Slows
Stage 3
Output
The Business Cycle
Inflation
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Rise in
general price
levels
Recession
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Decline in Gross
Domestic Product
lasting at least 6
months. Production
slows down, workers
are laid off, etc.
How does the FED try to control
inflation and recession?
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1) Discount interest rate
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2) Fractional reserve requirement
Monetary policy
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Actions by the
FED to expand
or contract the
money supply
Monetary =
money
Discount Interest rate
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The FED loans money to banks at a
percentage of interest, the bank then
loans consumers money at a higher
percentage to consumers. Example
FED loans M&T money at 4%, M&T
loans consumers money at 6%.
Discount Interest Rate
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So, when times are bad (recession,
not enough money in circulation), the
FED lowers the discount interest rate.
That way, the bank lowers their
interest rate, then people borrow and
spend more money
Discount Interest Rate
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When times are too good (inflation,
too much money in circulation) the
FED raises the discount interest rate.
That way, the bank raises their interest
rate, then people borrow and spend
less money
Fractional Reserve
Requirement
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The FED requires banks to keep a
portion of their deposits on reserve.
For example, The Fed may require
banks to keep 10% of their total
deposits on reserve.
That means the bank can loan out
90% of their money
Fractional Reserve
Requirement
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During inflationary periods, there is too
much money in circulation, so the FED
raises the Fractional reserve requirement so
that banks have less money to lend out
During a recessionary period, there is too
little money in circulation, so the FED lowers
the fractional reserve requirement so that
banks have more money to lend out.
To freely trade or not to
freely trade?
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Free trader
There should be no
barriers to trade
between nations
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Protectionist
Countries should
use tools like tariffs
and quotas to
protect their
farmers and
producers from
cheap, foreign
goods
Protectionism

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Tariff: A tax on foreign goods
Quota: A limit on the number of a
particular foreign good that can be
imported
Comparative Advantage
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International trade is based on the
idea of comparative advantage.
Comparative advantage is the idea
that some places are better at
producing particular things than other
places
How much is the dollar
worth?
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When the US dollar is compared to
other countries’ currency, that is called
the foreign exchange rate.
For example, one Euro (€) is currently
worth $1.4877