Essential Economic Concepts & Market Principles

Essential Economic Concepts

• Scarcity: Limited resources, unlimited wants.

• Economics: The study of choices made due to scarcity.

• Economic Problem: The challenge of allocating scarce resources.

• Goods and Services: Goods are tangible items; services are actions or activities.

• Resources:

  • Natural: Raw materials.

  • Human: Labor.

  • Capital: Tools and machines used in production.

  • Entrepreneur: A risk-taker and innovator.

  • Productive Resources: All the above combined.

• Opportunity Cost: What is given up when choosing one alternative over another.

• Specialization: Focusing on a specific task to achieve greater efficiency.

• Production Possibilities Frontier (PPF): Illustrates trade-offs and efficiency.

Economic Systems

• Traditional Economy: Based on custom and historical practices.

• Command Economy: Government controls economic decisions.

• Market Economy: Driven by individual choices and voluntary exchange.

• Mixed Economy: A combination of traditional, command, and market elements.

Influential Economists

• Karl Marx and Friedrich Engels: Proponents of communism and anti-capitalism, advocating for total government control (Command economy).

• John Maynard Keynes: Advocated for government spending during economic downturns to stabilize the economy (Mixed economy).

• David Ricardo: Known for the theory of comparative advantage, supporting free trade and capitalism (Market-leaning).

• Adam Smith: Championed the free market and the "invisible hand" concept, advocating for limited government intervention (Strong market).

• Friedrich Hayek: Emphasized market freedom and opposed government interference (Pure market).

The Industrial Revolution

• A significant shift from small-scale production in shops to large-scale factory production.

• Led to increased trade, the growth of firms, and enhanced utility.

Rational Self-Interest

• The idea that individuals make decisions to maximize their own benefit.

Types of Goods

• Rival Good: One person's consumption reduces availability for others.

• Non-rival Good: One person's consumption does not diminish another's ability to consume.

• Exclusive Good: It is possible to prevent others from consuming the good.

• Non-exclusive Good: It is difficult or impossible to prevent others from consuming the good.

• Private Good: Both rival and exclusive.

• Public Good: Both non-rival and non-exclusive.

• Quasi-public Good: Possesses characteristics of both private and public goods.

• Open-access Good: Resources with no defined ownership, often leading to overuse.

Externalities

• Negative Externalities: Costs imposed on a third party not involved in the transaction (e.g., pollution).

• Positive Externalities: Benefits conferred on a third party not involved in the transaction (e.g., education).

Social Programs

• Insurance Programs: Social Security (SS), Medicare, Unemployment Insurance, Workers' Compensation.

• Cash Transfers: Direct monetary payments to individuals.

• In-Kind Transfers: Provision of goods or services directly, rather than cash.

• Tax Credit: Directly reduces the amount of tax owed.

• Tax Deduction: Reduces the amount of income subject to tax.

Circular Flow Model

• Illustrates the flow of money, goods, and services between households and firms in an economy.

Demand Concepts

• Law of Demand: As price increases, the quantity demanded decreases, and vice versa.

• Wants vs. Needs: Needs are essential for survival; wants are desires.

• Substitution Effect: Consumers switch to a relatively cheaper alternative when prices change.

• Income Effect: A change in price affects consumers' real buying power.

• Diminishing Marginal Utility: The additional satisfaction from consuming one more unit of a good decreases with each additional unit.

• Demand Curve: A graph showing the relationship between price and quantity demanded, typically downward sloping.

• Quantity Demanded: A specific point on the demand curve, representing the amount demanded at a given price.

• Individual vs. Market Demand: Individual demand refers to one buyer; market demand is the sum of all individual demands.

• Elasticity of Demand:

  • Elastic: Quantity demanded is highly sensitive to price changes.

  • Inelastic: Quantity demanded is not very sensitive to price changes.

• Total Revenue: For elastic goods, a price decrease leads to a total revenue increase; for inelastic goods, a price decrease leads to a total revenue decrease.

• Determinants of Demand: Factors that shift the demand curve, including availability of substitutes, consumer income, preferences, and market size.

Supply Concepts

• Law of Supply: As price increases, the quantity supplied increases, and vice versa.

• Elasticity of Supply: Elastic supply means producers can quickly adjust quantity supplied in response to price changes; inelastic supply means adjustments are slow.

• Supply Curve: A graph showing the relationship between price and quantity supplied, typically upward sloping.

• Quantity Supplied: A specific point on the supply curve, representing the amount supplied at a given price.

• Individual vs. Market Supply: Individual supply refers to one firm; market supply is the sum of all individual firm supplies.

• Profit: The financial gain calculated as total revenue minus total costs.

• Determinants of Supply: Factors that shift the supply curve, including production costs, technology, number of sellers, and producer expectations.

Market Dynamics and Efficiency

• Equilibrium: The point where quantity supplied equals quantity demanded.

• Surplus: A situation where quantity supplied exceeds quantity demanded.

• Shortage: A situation where quantity demanded exceeds quantity supplied.

• Transaction Costs: The expenses (time, money, effort) incurred in making an economic exchange.

• Invisible Hand: Adam Smith's concept that individual self-interest in a free market can lead to overall societal benefit.

• Shifts in Demand and Supply: Movements of the entire demand or supply curve caused by changes in their respective determinants.

• Disequilibrium: A state where market supply and demand are not balanced.

• Price Floor: A legally established minimum price, set above the equilibrium price, often leading to surpluses.

• Price Ceiling: A legally established maximum price, set below the equilibrium price, often leading to shortages.

• Consumer Surplus: The difference between the maximum price a consumer is willing to pay and the actual price paid.

• Productive Efficiency: Producing goods and services at the lowest possible cost.

• Allocative Efficiency: Producing the optimal mix of goods and services most desired by society.