Economics Study Guide: Key Concepts and Definitions

Economics Study Guide

Fundamental Economic Concepts

Scarcity

Limited amount of resources to fulfill unlimited wants. Law of Diminishing Returns: As a company maximizes its factors of production, production becomes more difficult.

Opportunity Cost

The next best alternative sacrificed when making a choice.

Thinking at the Margin (T@M)

Making decisions based on the next unit or increment.

Production Possibilities Frontier (PPF)

A graph showing the possible combinations of two goods or services that can be produced with given resources and technology. Guns vs. Butter: A classic example of a simple PPF illustrating the trade-off between producing consumer goods and military goods.

Market Systems

Product Market

Where goods and services are bought and sold by households.

Factor Market

Where factors of production (land, labor, capital) are bought and sold by firms.

Principles of a Free Market Economy

• Laissez-faire: Transactions between private parties are free from government interference.
• Profit Motive: The motivation of firms to maximize profit.
• Open Opportunity: Everyone can compete in the market.
• Legal Equality: Everyone has the same legal rights to compete.
• Private Property: The right to control one's possessions.
• Voluntary Exchange: People can buy and sell what they want.

Economic Actors

• Firms: Producers of goods and services.
• Households: Consumers of goods and services.

Government Roles

• Safety Net: Collection of services provided by the state to support vulnerable populations.
• Welfare: Financial aid provided to individuals who cannot support themselves.

Macroeconomic Concepts

Fiscal Policy

Government adjusts spending levels and tax rates to monitor and influence a nation's economy.

Monetary Policy

The monetary authority controls the supply of money, targeting inflation and interest rates to ensure price stability and general trust in the currency.

Consumer Behavior

Substitution Effect

Consumers substitute a product with a cheaper alternative when prices increase.

Income Effect

If a product becomes too expensive, consumers may reduce consumption or sacrifice other goods to afford it.

Inferior Goods

Goods for which demand decreases as income increases.

Complements

Goods that are consumed together (e.g., cars and gasoline).

Substitutes

Goods that can be used in place of each other (e.g., Coke and Pepsi).

Elasticity

A measurement of how responsive an economic variable is to a change in another.

Production and Costs

Marginal Product of Labor

The change in output resulting from employing an additional unit of labor.

Increasing Marginal Returns

Output increases at an increasing rate as additional units of a resource are employed.

Decreasing Marginal Returns

As more of a variable resource is added to a fixed resource, the marginal product of the variable resource eventually decreases.

Government Intervention

Subsidies

Benefits given by the government to groups or individuals, often in the form of cash or tax breaks.

Excise Tax

Taxes paid when purchases are made on specific goods, such as gasoline or cigarettes.

Regulation

Rules imposed by the government, backed by penalties, intended to modify economic behavior.

Market Equilibrium and Disequilibrium

Equilibrium

The point where supply and demand are equal, determining the market price and quantity.

Price Ceiling

A government-imposed price control that limits how high a price can be charged for a product.

Price Floor

A government-imposed price control that sets a minimum price at which a product can be sold.

Market Structures

Natural Monopoly

Arises when there are extremely high fixed costs of distribution, such as large-scale infrastructure requirements.

Government Monopoly

A government corporation is the sole provider of a particular good or service, and competition is prohibited by law.

Trusts

Fiduciary arrangements that allow a third party to hold assets on behalf of a beneficiary.

Economic Models

Circular Flow Model

A diagram used to represent monetary transactions in an economy.

Circular Flow Model of a Mixed Economy

Illustrates the flow of goods, services, and payments between households, firms, and the government.

Circular Flow Model of a Free Market Economy

Shows the flow of goods, services, and payments between households and firms without government intervention.

Business Organization

Mergers

Combining two or more companies into one to enhance financial and operational strengths.

Franchises

Agreements that allow a party to sell a product or provide a service under an established business's name.

Economic Challenges

Supply Shock

An event that suddenly increases or decreases the supply of a good or service, affecting equilibrium price.

Rationing

Artificial control on the distribution of scarce resources, often implemented during emergencies.

Black Market

A market where goods and services are traded illegally.

Labor Market

Unemployed Person

An individual who is temporarily without work but actively seeking employment.

Learning Effect

The idea that education and experience lead to higher wages.

Screening Effect

Employers use higher education levels as a signal of potential employee efficiency.

Outsourcing

Contracting with another company to perform a specific job or function.

Offshoring

company's operation to another country (overseas) Commodity$objects have value in themselves Representative$ something that represents intent to pay the money (check) Fiat$ physical money (paper&coins). Backed by the government.