Microeconomics Exam One Review

CIS Microeconomics Exam One Review What is Economics? Economics is the battle between limited resources and unlimited wants.

Five Goals of an Economic System: Growth  Full Employment  Price Stability  Economic Freedom   “Fair” Distribution of Wealth Nine Big Ideas: Idea 1: How much does it really cost? Opportunity Costs: The true costs of decisions are not the number of dollars spent, but the value of what must be given up in order to acquire the item. These decisions represent the opportunities the individual, firm, or government must forgo to make the desired expenditure. e xpenditure. Rational decision making is based on this. Ex. Going to college vs. skipping college and begin working. Idea 2: Attempts to Repeal the Laws of Supply and Demand —The Market Strikes Back When something is in short supply, the price usually goes up. When something has an abundant supply, prices  usually reduce. Falling prices make producers unhappy and often pursue legislation to impose price floors. However, price floors  on certain objects, such as agriculture, are not helpful because it usually causes a surplus in a particular item. Idea 3: The Surprise Principle of Comparative C omparative Advantage extr eme cases in international trade, two nations can still benefit by Law of Comparative Advantage: States that even in extreme trading and each can still gain as a result. Ex. If one country is more efficient in everything, both countries can gain by producing the things they do best comparatively. Idea 4: Trade is a Win-Win Situation We use our resources efficiently  Costs are cheaper  Both parties must expect to gain something in a voluntary exchange.  - Ticket Scalping - Minimum wages Idea 5: The Importance of Thinking at the Margin Ex. Outsourcing manufacturing to reduce labor costs or hiring illegal immigrants to reduce costs  Idea 6: Externalities: A Shortcoming of the Market Cured by Market Methods Externalities: Social costs that affect parties external to the economic transactions that cause them. Markets are adept to producing goods that consumers want in the correct quantities they desire by rewar ding  those who respond to what consumers want and who produce these products economically. The market flushes out waste and inefficiency by seeing to it that inefficient producers lose money. This only  works as long as each exchange only involves the buyer and the seller and no one else. Idea 7: Why the Costs C osts of Education and Medical Care Keep Growing The growth in technology causes workers to be m ore productive at their jobs. Therefore, wage s for employees  also rise to avoid the risk of e mployees leaving their jobs for higher paying ones.  When wages rise, the cost of these services goes up. This phenomenon is called “cost disease.” Ex. Teachers are a cost disease because t hey require an increase in pay to continue te aching. 

Idea 8: The Trade-Off Between Efficiency and Equality The American solution to deal with unemployment and low wages is to let markets work to promoted efficiency  with minimal government interferences to reduce economic inequalities. In Europe, they promote high minimum wages and substantial benefits to their employees. However, their taxes  are higher than the U .S. and they have a higher unemployment rate than t he U.S. Idea 9: Productivity Growth is (Almost) Everything in the Long Run Productivity is referred to as the o utputs per hour of work of a certain mate rial/thing  Productivity has increased by about seven times in the past 100 ye ars 

International Internation al Trade & Statistics / Closed vs. Open Economics: Open Economy: Exports and imports constitute a large share of its GDP . Usually countries who do not have many of the factors of production  Ex. Netherlands is an open economy with about 56% of the economy being open  Closed Economy: A country that does not trade with other nations in goods or assets Have the available resources to keep goods that are produced by country  GDP does not rely on imports and exports  US is a relatively closed economy because only 13% are imports. US mainly imports oil and manufactured goods  from other countries. US is also closed because we have a large population. International Trade United States is the most productive because we have a high population of working people.  US becomes  wealthy because we are productive in our services Japan is close but they are not as efficient as the US  Germany & Switzerland are rich countries but have low populations  India & China have large populations but are not efficient 

Factors of Production: Factors of Production: Resources that are used to produce goo ds and services  Land:: The things created by the acts of nature such as land, water, mineral oil, gas deposits, renewable and Land nonrenewable resources. Ex. MN has coal, fresh water, timber, and wood Labor:: The human effort, physical and mental, used by workers in the production of goods and services. Labor  White collar  “mental worker” Blue/Brown collar  manual labor (immigrants) Capital:: Capital  Physical Capital: All the machines, buildings, equipment, roads, and other objects made by human beings, to produce and distribute goods.  Ex. Airports, highways, schools Human Capital: The knowledge and skills acquired by a worker through education and experience  Technology:: Technology Technology: The effort to coordinate the production and sale of goods/services.  – 

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Capital Goods vs. Consumption Goods: 

Capital Goods: Used for the production of future goods. Investing in infrastructure, education, and transportation Gives up luxuries now to experience them later Ex. China has an advanced highway and transportation system after investing heavily in their infrastructure for many years Consumption Goods: Things you buy right now to consume in the present. Sacrifice less now Opportunity cost for US is that we are 10 years behind China in infrastructure and public transportation  – 

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Production Possibility Frontier (PPF):

Unattainable Unattainable Region Regio n

Attainable Region

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Inefficient

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Efficient

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PPF shows different combos of output for a specified amount of inputs More of 1 good = less of another Opportunity costs can be calculated using PPF Slope = opportunity cost

The Principles of Increasing Cost: Shape: Concave  Increased production of 1 good = decreased opportunity cost of producing additional units  Reason: Inputs tend to be specialized. Switching production can results in inefficiencies.  Expensive, new labor  to train, etc. Ex. Making shoes to making clothes  – 

The Concept of Efficiency: Efficiency = No Waste  All available resources are utilized  Inefficiency is caused by:  Assigning inputs to the wrong task Unemployment Discrimination Competition usually eliminates inefficiency  Scarcity doesn’t let us reach unattainable level   – 

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How to Attain Unattainable Points on PPF: Advances in technology  Invest in future with capital goods  infrastructure, energy, public transportation, and factors of  production Ex. China and advanced highways and tr ansportation Discover additional natural resources  Increase in population  Investment in capital  Improved education and training  human capital  Trading with other countries   – 

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Gross Domestic Product (GDP): Nominal GDP: Measured without the rate of inflation.  Used by politicians  Real GDP: Measures GDP with inflation  – 

 Absolute vs. Comparative Advantage: Absolute Advantage: Who can produce the MOST with the same given resources Comparative Advantage: Who can produce a good with the LEAST opportunity cost Benefits of Trade/Comparative Advantage  - Specialization Better quality More efficient Increased number of customers/ Profit - More goods and services for both parties (more choices for consumers) - Higher standard of living •

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How to Find Comparative Advantage: Whatever you are comparing goes on t he bottom (denominator) and the thing you are comparing it to goes on top (numerator). The answer equals how much of the other product you are losing. Whichever person loses LESS has the comparative advantage: See example below:

          

       

Ex. John and Jane are on the yearbook committee and they have to take pictures and write captions. Jane Pictures Captions 0 60 20 30 40 0

John Pictures Captions 0 50 15 25 30 0

a.) Who has the absolute advantage for taking pictures and writing captions? b.) Who has the comparative advantage for taking pictures and writing captions?

a.) Jane has the absolute advantage at wr iting captions and taking pictures since she can take the most pictures and write the most captions. Highest # of captions 

b.) Comparative Advantage for Pictures for John:



   captions lost

Highest # of pictures

Comparative Advantage for Pictures for Jane:

 

   captions lost

Jane has the comparative advantage for pictures because she doesn’t sacrifice as many captions as John would.

-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------Comparative Advantage for Captions for John:

Comparative Advantage for Captions for Jane:

 

 

  

  

John has the comparative advantage for captions because he doesn’t sacrifice as many pictures as Jane would.

Adam Smith and Capitalist Goods: Adam Smith: Founder of free market and pure capitalism  Believed that a free market = free people  Background to Smith’s ideas were:  Enlightenment Mercantilism  Only set amount of wealth = Increased competition Believed in the “invisible hand.” Means that by pursing their own self -interest, people in a market system are  “led by an invisible hand” to promote societal wellbeing. Government is the devil. Laissez Faire  Self interest   – 

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Basic Capitalist Principles: 1) Goods and Services Are produced for a profitable exchange  2) Human Labor Is a commodity for sale  Labor is a source of value  3) The Invisible Hand Self-interested individuals  Greed  Market is self-regulatory due to competition and a self-interest of bot her sellers and buyers  4) Law of Supply and Demand Individuals who are free to pursue their self-interest will produce goods and se rvices that others want,  at prices others are willing to pay 5) Competitive Market System Producers are compelled to be increasingly efficient, and to respond to the desires of consumers  (outputs) 6) Societal Division of Labor It will maximize the satisfaction of individual wants and needs, given scarce resources (comparative  advantage) 7) Government Should interfere with the Free and Efficient Workings of the Market Laissez-faire  Leave things alone! 