Essential Economic Concepts: Definitions and Core Terms

Essential Definitions in Economics

Economics

The study of how individuals and societies choose to use the scarce resources that nature and previous generations have provided.

Scarcity

All economic questions arise because we are unable to satisfy all our wants.

Marginalism

The process of analyzing the additional or incremental costs or benefits arising from a choice or decision.

Sunk Costs

Costs that cannot be avoided, regardless of what is done in the future, because they have already been incurred.

Efficient Market

A market in which profit opportunities are eliminated almost instantaneously.

Opportunity Cost

The process of choosing a good or service over another. The item that you don't pick is the opportunity cost.

Specialization

When an individual or a company specializes in doing one part of a task and relies on others to complete the other parts.

Branches of Economic Analysis

Microeconomics

The branch of economics that examines the functioning of industries and the behavior of individual decision-making units (i.e., business firms and households).

Macroeconomics

The branch of economics that examines the economic behavior of aggregates (income, employment, output, and so on) on a national scale.

Economic Approaches and Methodology

Positive Economics

An approach to economics that seeks to understand behavior and the operation of systems without making judgments. It describes what exists and how it works.

Normative Economics

An approach to economics that analyzes outcomes of economic behavior, evaluates them as good or bad, and may prescribe courses of action. Also called Policy Economics.

Descriptive Economics

The compilation of data that describes phenomena and facts.

Factors of Production and Costs

Factors of Production

The resources that businesses use to produce goods and services. They are grouped into four categories:

• Land
• Labor
• Capital
• Entrepreneurship (or business acumen)

Labor

The work time and effort that people devote to produce goods and services.

Human Capital

The quality of labor depends on human capital, which is the knowledge and skill that people obtain from education, on-the-job training, and work experience.

Capital

The tools, machines, instruments, buildings, and other constructions that are used to produce goods.

Entrepreneurship

The human resource that organizes land, labor, and capital.

Efficiency Costs (Accounting Costs)

Out-of-pocket costs or accounting costs.

Implicit Cost

The value of the next best alternative.