Term
| What is the basic economic problem? |
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Definition
| Unlimited wants vs. Limited Resources |
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Term
| How can the basic economic problem be solved? |
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Definition
| Use all resources; use resources most efficiently; technology; and international specialization and trade |
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Term
| How are resources classified? |
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Definition
| The non-human resources are either natural resources (land) or man-made resources (capital) |
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Term
| How can human resources be broken down? |
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Definition
| Labor – physical and mental efforts—and Entrepreneurship—the ability to combine all resources with existing resource prices, resource productivities, technology, and market demands—to produce a good or service |
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Term
| How do we classify the payments to the owners of economic resources? |
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Definition
| Payments to land-rent; capital-interest; labor-wages and salaries; profits-entrepreneurship |
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Term
| What is the difference between microeconomics and macroeconomics? |
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Definition
| Microeconomics-individual components of the economy (e.g., households and business firms) Macroeconomics-overall performance of the economy, including unemployment, inflation, and economic growth |
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Term
| Distinguish between positive and normative economics. |
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Definition
| Positive economics encompasses both descriptive economics and economic theory. Positive economies focuses on how the economy actually functions. Normative economics involve value judgments and involve economic policy and focuses on what “ought to be.” (When economic policies are introduced, normative economics comes into play because someone is trying to change what is to conform or move to what the policy market believes “ought to be.”) |
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Term
| What is an economic model? |
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Definition
| A mathematical representation of the most fundamental workings or causal forces at work in the economy. Models may be expressed verbally, with algebra (or higher mathematics) or with graphs. In each case, the focus is on cause and effect. Typical models included “independent” variables and “dependent” variables. In Chapters 3 and 4, quantity demanded (the dependent variable) depends on product price (the independent variable) all other things equal.) |
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Term
| For what purposes are economic models developed? |
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Definition
| Models are developed to predict and explain economic behavior. |
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Term
| How are economic models tested? |
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Definition
| Economic models must be tested in the real world. |
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Term
| What are the basic economic questions that every society must answer? |
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Definition
| What to produce; How to produce it, and For Whom the output is produced. |
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Term
| What is a Production Possibilities Schedule? |
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Definition
| This schedule, shows the combinations of X and Y that can be produced under conditions of maximum production. |
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Term
| What determines the position and slope (concave or linear) of the PPS? |
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Definition
| The endpoints of the PPS are determined by the size and quality of the resource base and the level of technology. The slope is determined by the extent to which resources are (or are not) equally adaptable to the production of different goods. |
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Term
| What would the PPS look like if resources were not substitutable at all in the production of two products? |
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Definition
| If some resources could be used only to produce X, while remaining resources could only be used to produce Y, then the only point of maximum production would be at the single point when all resources that could be used to produce X are used for that purpose, and all resources that could be used to produce Y are used for that purpose. The PPS could collapse into a single point. |
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Term
| What is meant by opportunity costs? How are they measured? |
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Definition
| In the most general sense, an opportunity cost is a foregone alternative measured by what is given up if any additional unit of any one product is produced. Opportunity costs of producing X (measured horizontally) are given by the slope of the PPS. ) |
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Term
| What circumstances must exist for an economy to operate on its PPS? |
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Definition
| Full employment, maximum efficiency of resource use, and use of the most appropriate level of technology |
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Term
| What factors could cause an economy to be operating inside its PPS? |
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Definition
| The absence of any one of the three or any combination of the three would cause production to occur inside the PPS. |
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Term
| What factors could cause an economy to operate outside its PPS? |
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Definition
| Nothing can permit an economy to produce outside of its PPS. A country can consume a bundle of goods that it could not itself produce with the given size and quality of its resource base and the prevailing level of technology, by engaging in international specialization and trade. Such international specialization allows a country to consume a bundle of goods that it could not itself produce (that is, the bundle is outside of its PPS because of the benefits of international specialization and trade.) |
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Term
| What factors could cause the PPS to shift outward over time? |
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Definition
| An increase in the number of resources, an increase in the quality of resources, or a change in technology. |
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Term
| What costs must a “growth-oriented” economy be prepared to experience? |
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Definition
| A major growth strategy is to reduce current consumption levels (and hence standards of living) to free up resources for the production of capital goods. Higher standards of living in the future-lower standards of living (consumption goods) today. |
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Term
| Explain how changes in technology can alter the PPS and opportunity costs. |
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Definition
| Shift outwards (economic growth). Could be axis-specific |
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Term
| What determines the pattern of international specialization and trade? |
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Definition
| By comparing the opportunity cost of producing a single good in both countries. A country is said to have a “comparative” advantage in the production of X when that country’s opportunity cost of producing X is less than that of its trading partner. It is important to note that it is comparative opportunity costs, not absolute differences in output that determine the basis for specialization and trade |
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Term
| What are the benefits of specialization and trade? |
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Definition
| The benefits of trade are that the average household in both trading partner countries can enjoy a higher standard of living. That is, total two-country output is greater as a result of specialization in production on the basis of comparative advantage |
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Term
| If specialization and trade increase economic efficiency, why is there resistance to specialization and trade among countries? |
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Definition
| First, not every household benefited necessarily. Second, may cause shift to inside PPS due to allocation of resources. Third, nations less self sufficient and more interdependent. Finally, the concept of comparative advantage is static-does not allow for changes in comparative advantages over time. This is the “infant industry” argument for tariff protection. |
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Term
| Draw the circular flow graph and use it to explain how a market economy answers the basic economic questions of what to produce, how to produce and for whom to produce. |
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Definition
| Households cast dollar votes to determine the composition of output=> business firms choose the least-cost combination of resources required to produce the given output => households that earn their incomes from selling resources which are in high demand will find they enjoy higher incomes, and hence they are able to purchase more of the output produced. |
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Term
| Why are the upper and lower loops of the circular flow identically equal? |
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Definition
| Profits are always calculated as the difference between total revenues and the amounts paid for land, labor and capital. Profits are residually determined in the circular flow. The value of profits is the very last value to be determined in the circular flow. Profits assume whatever value (positive or negative) to equilibrate the values of the upper and lower loops. |
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Term
| What two roles do households and firms play in a market economy? |
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Definition
| In the upper loop, households are buyers of goods and services and business firms are sellers of goods and services. Because households own all of the resources in a market economy, in the lower loop households are the sellers and business firms are the buyers. |
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Term
| List and explain the basic characteristics of a market economy. |
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Definition
(a) private property rights—households own all of the resources;
(b) limited government;
(c) the role of self-interest in economic decision-making;
(d) specialization and division of labor;
(e) the use of money to avoid barter exchange. |
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Term
| Why does the use of money (rather than barter) increase specialization and exchange in a market economy? What impact does specialization have on economic efficiency? |
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Definition
| Barter exchange leads to inefficiency in the use of resources. |
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Term
| What motivations do we assign to the behavior of households and business firms in a market economy? |
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Definition
Household are motivated to get the greatest economic satisfaction (“utility”) from their limited incomes
Business firms are motivated by the goal of maximizing their profits. |
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Term
| Distinguish between normal and inferior goods and provide examples. |
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Definition
| Normal good-if rise in household income causes the demand schedule for that good to shift to the right (and vice versa). Inferior good-if rise in household income causes the demand schedule for that good to shift to the left (and vice versa). |
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Term
| What factors can cause the demand schedule to shift? |
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Definition
“Change in demand” is caused by:
(a) a change in household income;
(b) a change in the price of related goods (complements or substitutes);
(c) a change in expectations about future prices;
(d) a change in tastes and preferences (caused, for example, by an advertising campaign);
(e) for the market demand schedule,, a change in the number of households in the market. |
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Term
| What factor can cause a movement along a given demand schedule? |
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Definition
| Change in the price of the product (or resource) itself. (“change in the quantity demanded”) |
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Term
| List the determinants of supply of a product. |
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Definition
(a) the price of the product “price-determinant”;
(b) the level of technology;
(c) resources prices;
(d) expectations about future prices; (e) a change in the price of another product that uses many of the same resources;
(f) for the market scheduled, the number of suppliers in the market. |
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Term
| What factors can cause the supply schedule to shift ? |
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Definition
| A change in any one of the non-price determinants of supply will cause the supply schedule to shift. This is labeled as a “change in supply.” |
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Term
| Why will a change in the price of corn cause a shift in the supply of wheat? |
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Definition
| There will be a decrease in supply of wheat that is caused by an increase in the profits in corn. |
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Term
| Explain why future price expectations tend to be self-fulfilling in a market economy. |
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Definition
| If buyers and sellers believe that prices next week will be higher than this week, it will cause this week’s demand schedule to shift to the right, and this week’s supply schedule shift to the right. As a result, this week’s product price will rise. |
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Term
| Explain how market demand schedules and supply schedules are derived. |
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Definition
| The market demand schedule may be derived by horizontally adding up all of the individual demand schedules. The market supply schedule may be derived by horizontally adding up the individual supply schedules. This is done by adding up the quantities demanded by all households and the quantities supplied by all firms currently in the market. |
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Term
| How is an equilibrium price determined in the market? |
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Definition
| The equilibrium price is determined at the point at which the market demand and market supply schedules intersect. |
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Term
| What is the unique characteristic of an equilibrium price? |
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Definition
| The equilibrium price is the only price that is sustainable by market forces alone. At any other price, either a surplus or shortage will exist, and the market will respond to the surplus or shortage by causing price to change. |
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Term
| Geometrically illustrate and explain the impact of a price ceiling (or floor). |
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Definition
| With a ceiling, the quantity demanded exceeds the quantity supplied, and so a shortage exists. Price floor (a minimum price) above the equilibrium price-the quantity supplied exceeds the quantity demanded at this legally-established minimum price- artificial surplus. However, the surplus does not lead to a reduction in price because of the governmentally-established price floor. |
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Term
| Distinguish between an effective vs. ineffective price ceiling (or floor). |
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Definition
| An effective price ceiling or floor prevents the market from achieving an equilibrium price. However, a price ceiling set above the equilibrium price, or a price floor set below the equilibrium price are ineffective price controls because they still allow an equilibrium price to be achieved. |
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Term
| Explain the concept of positive and negative externalities? How do they impact the efficiency of resource allocation? |
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Definition
| Externalities affect the well-being of “third parties”—people not directly involved in the purchase or sale of the product. |
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Term
| Explain how government could improve allocative efficiency by levying taxes or subsidies on firms in response to the presence of externalities. |
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Definition
| The government can tax the production of goods that produce negative externalities, and subsidies the production of goods that lead to positive externalities |
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Term
| What are public goods, and why will they not be produced in appropriate quantities by private markets? Through what mechanism are they provided? |
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Definition
| Public goods are consumed in equal amounts by everyone. The classic example is national defense. |
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Term
| Why does monopoly power cause resources to be allocated inefficiently? |
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Definition
| The single seller faces the market demand schedule for the product. The monopolist does not have a “supply function.” Rather, the monopolist choose the point on the demand schedule that maximizes the firm’s profits at the level of production at which the “marginal revenue” to the firm is exactly equal to the marginal (incremental) cost of producing the product. |
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Term
| Calculate GDP from the upper loop and lower loops of the circular flow. |
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Definition
Upper Loop: C + I + G + X – M
Lower Loop: Employee Compensation + Net Interest + Rents + Total Corporate Profits + Proprietor’s Incomes (profits of partnerships and sole proprietorships) + indirect business taxes + depreciation). |
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Term
| Calculate incomes earned by resource owners from GDP. |
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Definition
| GDP – depreciation – indirect business taxes = Incomes Earned |
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Term
| Calculate real GDP from nominal GDP using a price index (PI). |
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Definition
Real GDP = [Nominal GDP / (price index)] * 100.
If Nominal GDP = $800 and the PI = 200, then real GDP = $400.
If Nominal GDP = $600 and the PI = 50, then real GDP = $1200. |
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Term
| Calculate the price index if nominal and real GDP for a given year are known. |
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Definition
Price index = [Nominal GDP / Real GDP] * 100
If nominal GDP = $600 and real GDP = $300, then the value of the PI = 200. If nominal GDP = $400 and the PI = 80, then real GDP = $500. |
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Term
| Which sectors of the economy buy: (a) only final products; (b) both final and intermediate goods? How do final and intermediate goods differ? |
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Definition
| Households, government and the rest of the world can only buy final products. They cannot purchase intermediate goods. The business sector is the only sector that can purchase both intermediate goods and final product |
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Term
| Are changes in nominal GDP values from year to year a good measure of changes in economic well-being? Discuss the issues involved. |
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Definition
| No, nominal GDP can rise simply because of a higher average price level. Nominal GDP does not account for changes in the size of the population, changes in the composition of output or for changes in the distribution of income across all households-not reliable indicators of changes in overall economic well-being. |
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Term
| What is the difference between GNP and GDP? |
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Definition
| GDP is the market value of final products produced by domestically located factors of production. GNP is the market value of final products produced by domestically owned factors of production. The output of a General Motors factory operating in Mexico would not count in GDP but would count in GNP. The output of a Japanese-owned auto production facility in the United States would count in GDP, but not GNP. |
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Term
| Why must saving and dissaving in the economy sum to zero? |
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Definition
| The total amount of final output in our economy each year gives rise to an equal amount of total income of an equal amount. Overexpenditures result in use of resources outside of US |
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Term
| Why are imports subtracted from the total of consumption, gross investment, government spending and exports in calculating the upper loop estimate of GDP? |
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Definition
| GDP is a measure of domestic production. Imports are produced outside the United States. Some of the expenditures by households, business and government include purchases of imported goods and services. As a result, imports must be subtracted to determine total purchases of domestically produced goods and services. |
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Term
| What adjustments must be made to the production possibilities schedule to reflect the fact that, in a market economy, resource owners might not be willing to commit all of the resources they own to the production process in any given year? |
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Definition
| The “physical” production possibilities schedule reflections combinations of X and Y that can be produced if every resource the economy has is used, and most efficiently, in the production of goods and services during the year. The “Institutional” production possibilities schedule lies inside the “physical” production possibilities schedule and reflects the fact that some resource owners may not wish to commit the resources they own or control to the production process during the year. Full time college students who do not work, retirees and stay-at-home moms are examples of individuals who have productive resources but who choose not to use them in market production during a given year. The higher is the labor force participation rate, the close are the “Institutional” and “Physical” production possibilities schedules. |
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Term
Calculate the value of the civilian unemployment rate (from data given).
Non-institutional population aged 16 years or more ……1000
Armed Forces employment………………………………… 200
Civilian employed…………………………………..……….. 400
Civilian unemployed………………………………………….200 |
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Definition
| The civilian unemployment rate is the percentage of the current labor force (E + U) that is unemployed. (U). In this case U /(U + E) = 200 / 600 = 33%. |
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Term
| Calculate the labor force participation rate |
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Definition
| The labor force participation rate is the percentage of the potential civilian labor force that is currently in the labor force |
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Term
| What are the basic categories of unemployment? Which of these will be emphasized in this course? |
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Definition
| The basic categories are frictional, structural, seasonal and cyclical unemployment. Cyclical unemployment is emphasized in this course. |
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Term
| What does a 6% unemployment rate mean? |
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Definition
| A 6% unemployment rate means that 6% of the current or actual labor force is unemployed. |
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Term
| What is meant by “full” employment for the macroeconomic policy purposes? Does “full” employment mean a zero unemployment rate? Explain your answer. |
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Definition
| For macroeconomic policy purposes, “full” employment exists when there no cyclical unemployment. At “full” employment we are still likely to have frictional, structural and some seasonal unemployment. |
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Term
| What are the costs of unemployment: (a) to individuals; and (b) to society? |
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Definition
| Costs of unemployment to individuals include the loss of income and the loss of skills while unemployed. From society’s point of view, unemployment results in fewer goods and services being produced (and hence lower average living standards) and perhaps greater amounts of crime and violence. |
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Term
| Explain how the labor force, those employed, and those unemployed are measured in the Current Population Survey? What factors cause an individual to be classified as: (a) a member of the potential civilian labor force; (b) a member of the current (or actual) civilian labor force; (c) unemployed; (d) employed; (e) a discouraged worker; and (f) out of the current (or actual) labor force? |
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Definition
| An individual is employed if he/she is a member of the potential civilian labor force and works for at least one hour for pay or profit, works for a family business for at least 15 hours in a week for no pay, or has a job but is not at work during the week prior to the BLS survey. An individual is unemployed if he/she is a member of the potential civilian labor force but is not classified as employed but has looked for work during the four week prior to the survey. A discouraged worker is one who is not employed but who has given up active job search because he/she believes that no work is available to justify the costs of search. A person is out of the current civilian labor force if he/she is a member of the potential civilian labor force but is not classified as either employed or unemployed. |
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Term
| What are the four stages of a business cycle? |
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Definition
| Recovery, peak, recession and trough |
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Term
| What are “leading” economic indicators? How do they differ from “coincident” and “lagging” economic indicators? Why, in particular, is the unemployment rate a “lagging” economic indicator? |
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Definition
| Leading economic indicators have turning points that occur in advance of the turning points in the movement of real GDP. Coincident economic indicators are data series that have turning points in the same calendar quarter as the turning points of real GDP. Lagging economic indicators have turning points that occur after turning points in the movement of real GDP are observed. Obviously, the best sets of data to use to forecast movements of real GDP are the leading economic indicators. The unemployment is a lagging economic indicator because firms are initially hesitant to either hire or fire workers until they are convinced that the changes in sales they are observing are likely to continue for the foreseeable future. |
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