Economics Flashcards
What is a market? A market is where there are sellers and buyers. In order to sell something, you have to find a market for it. The same goes for buying goods and services (220). Simple. Wanna sell your old phone? Go online and find a market. Wanna buy new appliances for your kitchen. Go to the supermarket or again just go online. We have different types of market. Vegetable market, phone market, stock market, bond market, commodity market, etc.
Goods and services = products
These are all examples of a market as a broader term, not limited to the market you are thinking, which might be the one that your mom goes buy food every day.
There are THREE BIG TYPES of market.
- FACTOR MARKETS (221) - are markets for factors of production (222). Factors of production are things that are used for producing goods and services. For example, land, labor, or capital. In order to produce iPhones, Apple needs a lot of labor-workers. It needs a lot of land to place its factories. It needs a lot of component parts from a variety of vendors (223). It needs a ton of capital-equipment to transform those to a complete sleek iPhone. If you want to produce something, you need to BUY factors of production from factor markets.
- GOODS AND SERVICES MARKETS (224) - are markets for output or final goods produced by companies. Unlike the previous one, these are all final goods. Food, drinks, clothes, milk or even legal services ready for consumption are considered belonging to goods and services markets.
- CAPITAL MARKETS (225) - are markets for long-term financial capital (debt and equity). Ok, so you want to open a business. But you don’t have the money. What are you gonna do? You have to raise capital. There are many ways to do it. You can either borrow money or ask others to invest in your business. When you borrow or lend money, you are taking your part in the debt market. When you invest you money in the stock market, you are getting involved in the equity market. Equity means stock. Capital markets are places where people who have spare money to invest meet with those who need money. Everyone is happy
THREE TYPES OF MARKET
- Factor market
- Goods and services market
- Capital market
Now, I am going to introduce you TEN principles in economics that you must know to get smarter and more rational.
PRINCIPLE 1. People face tradeoffs (226)
All decisions involve tradeoffs. What the hell is a tradeoff? A tradeoff means that if we WANT something, we must GIVE UP something else. Oops. Really? Sadly yeah. Food and money do not automatically fall from above to you. You have to work for it. There is no free lunch. Nothing is free and we can’t have everything at once. If you go to a party at night before your midterm, you have less time studying. Having more money to buy stuff requires working longer hours, which leaves less time for leisure.
Protecting the environment requires resources that could otherwise be used to produce consumer goods. So we all face tradeoffs in every decision. We have to choose.
PRINCIPLE 2. The cost of something is what you give up to get it.
Here, we are talking about the opportunity cost (227). This principle is based off of the previous one, meaning we can’t have everything. Resources are scarce (228). The real cost of going to see a movie might not be limited to just the ticket price but also the time that you could have studied for your midterm. When you fail the midterm, you might have to pay $100 to retake the test. This is the opportunity cost added to the ticket price, not to mention the stress and sorrow you have to go through because of the midterm failure. Think carefully. A movie might conspicuously (229) cost you 5 bucks. But when factoring in the opportunity cost, the real price tag for a movie is more than $105 (at least in this case).
PRINCIPLE 3. Rational people think at the margin.
What does it mean? It means you are rational if you make decision based on marginal changes.For example, you are willing to pay 25,000 VND for a bowl of Pho. Sounds fair? YEP. “It’s sooooo delicious”, you said. After finishing the first bowl, you say “OMG, I’m so full now”.
Do you want to order the NEXT bowl of Pho with the price of 25,000 VND? Most likely not, you are already full. The second bowl will not appear attractive to you anymore. “That’s enough”, you yelled. Ok so, the benefit you get from the second bowl is clearly much less than the first one. So you said “NO”.
The restaurant owner understood that, he came to you and said “This is FOR FREE”. You responded with suspicion “What? ok, if it’s free, then. I think I can handle that”. After much struggling, you finished the second bowl, now you can’t even walk. Holy crap. Do you think it’s delicious? NO. It was a torture. But still it was free so why not?
The restaurant came to you one more time and asked you to eat the third one. It’s free, too. But guess what? you declined and said “Even if you pay me to eat it, I would not eat it”. The cost is now much much higher than the benefit. You are reacting rationally. It’s not that it’s FREE that makes it looks attractive. It’s the real benefit GET and the cost you incurred when you are AT MARGIN.
PRINCIPLE 4. People respond to incentives (230).
When cigarette taxes increase, teen smoking falls. When prices of apple increase, we switch to oranges. We have different responses to different incentives.
PRINCIPLE 5. Trade can make everyone better off.
Rather than being self-sufficient, people can specialize in producing one good or service and exchange it for other goods. I don’t have to spend time learning a thousand languages in the world to travel. I can just spend money on interpretation services. In fact, we CANNOT do everything at the same time. Instead, we specialize and trade.
Canada produces oil and trade food with the US. Japan produces appliances and trade Tulip flowers with Netherland. Your mom sells fish to my mom. My mom sells beef to yours. We specialize and we trade. Those specializations and trades make us better off overall.
PRINCIPLE 6. Markets are usually a good way to organize economic activity.
In a market economy, these decisions result from the interactions of many households and firms. Buyers and sellers DECIDE prices rather than do governments. Prices then guide self-interested (231) households and firms to make decisions that, in many cases, maximize society’s economic wellbeing.
PRINCIPLE 7: Governments Can Sometimes Improve Market Outcomes
Sometimes, public policies are carried out to improve market outcomes, thanks to the governments. Sometimes, governments’ interferences do more harm than good.
PRINCIPLE 8: A country’s standard of living depends on its ability to produce goods & services.
Vietnam has to produce more goods and services to raise standard of living. As simple as that. Average income in rich countries is more than ten times average income in poor countries. The U.S. standard of living today is about eight times larger than 100 years ago. If you want to be better off, you have to produce in one way or another.
PRINCIPLE 9: Prices rise when the government prints too much money.
And it’s called inflation, as you already knew it.
PRINCIPLE 10. Society faces a short-run tradeoff between inflation and unemployment.
If you dive deeper into economics. You will learn that we cannot avoid inflation and unemployment at the same time. It’s a tradeoff. If we succeed in achieving a desirable unemployment rate, we will compromise our goal in inflation and vice versa. It’s tricky. Other factors can make this tradeoff more or less favorable, but the tradeoff is always present.
You need to learn deeply these principles because they are, well, principles, residing in deepest layer of economics.
Now, let’s learn more about supply and demand. As you have probably guessed, buyers constitute demand and sellers constitute supply. The law of demand states that, other things equal, the quantity demanded of a good falls when the price of the good rises (obviously). The law of supply states that, other things equal, the quantity supplied of a good rises when the price of the good rises.(If Apple knows that you are willing to buy an iPhone for $10000 dollars, it is willing to produce more).
scare (resources) : limited rare
conspicuous: clearly visible
incentive: A thing that can motivate others
What influences demand?
Income, the higher your income is, the higher the demand. You will buy more if you earn more money.
Prices of related good. There are two kinds of good. Substitutes (232) and complements (233). PS is the substitute of Colgate. iPhone is the substitute of Samsung. You are happy using one thing or another. Totally fine. But what is complement? iPhone case, for example, is a complement of iPhone. If the demand for iPhone is high, this will also pull the demand for iPhone case up. If demand for houses increases, meaning more people are buying house, the demand for appliances and furniture will also increase. You also need to buy those right? All in all, we have an inverse relationship (234) of two substitute goods and a direct relationship (235) of two complementary goods.
substitute: acting in place of another
complement: acting to complete another
inverse (relationship): opposite
direct (relationship): direct (A increases, B also increases)
Substitute goods: similar goods, inverse relationship
Complementary goods: interdependent goods, direct relationship
What else influences demand? Tastes. If you change your taste, demand may increase or decrease accordingly.
What influences supply? Input prices (236) (aka. Prices of factors of production). Input prices are the sum labor cost, material cost, etc. Technology also influences supply. Thanks to technology advancements, I can now produce (supply) more Radio Kien Tran. Anyway.
When demand is higher than supply, we can say we have “excess supply” or a surplus (237).** Suppliers will then reduce prices to increase sales. When demand is lower than supply, we can say we have “excess demand” or **a shortage (238). Suppliers can increase prices. (easy right?)
Surplus - supply is higher than demand
Shortage - supply is less than demand.
If we are a firm and produce stuff, we care about a whole host of different things. One most important things is Profit. I need to clarify you something.
Profit (net income)= Revenue - Expenses (costs).
So profit is NOT revenue. Revenue is the total amount of money you collect from selling your products to customers. Profit is what left after you take away all the costs to run your business. In many cases, revenue can be a billion dollars, but a firm can have a loss due to higher costs. We have different types of costs.
Fixed costs (239) - cost you HAVE TO PAY no matter what
Variable costs (240) - cost you ONLY PAY when you CHOOSE to PRODUCE MORE.
Let’s say if you run a clothing business, you have to pay fixed costs which are utilities (241), meaning electricity or water bills. You may have to pay rent every month. Whether you produce anything or not, you still have to pay these fixed costs. You also have to pay variable costs like wages to your employees or materials or shipping expenses. The more you produce or sell, the more you have to pay. So variable costs vary with your activity. Fixed costs do not.
Again. Profit is what we care about, it’s calculated as
Revenue - Fixed costs - Variable costs = Profit.
When you mass produce something, you will have economies of scale (242). Economies of scale mean that let’s say, producing 10,000 shirts is better than 100. Why? Because whether you choose to produce 10,000 or only 100 shirts, you still have to pay the same amount of rent or utilities (Fixed costs). Therefore, why not produce more if you can sell more? Mass production saves you fixed costs. It’s pretty simple to understand. That’s why Toyota’s cars are way cheaper than Roll-Royce’s.
There is another cost that you might face a lot in real life - sunk cost (243). Sunk cost is a cost that has already been committed and cannot be recovered. What does it mean? Let’s say you attend University and major in Nursing. After committing three years there and you only have one year left, you learn that the unemployment rate for Nursing graduates is 90%. In other words, there is absolutely no future if you study nursing. You feel like you have wasted three years. Do you continue to study the last year or switch to another major?
The three years lost here is a sunk cost. It cannot be recovered. The most rational decision you can make is to switch to another program. However, some people cannot let go the feeling of the waste, making them continue the last shitty year knowing their future is doomed. My advice to you is whenever you realize there is a sunk cost, get over it and move on with your life.
If you are worrying about unemployment, let’s learn a few words about it.
There are three kinds of unemployment
- Frictional unemployment (244)
- Structural unemployment (245)
- Cyclical unemployment (246)
Frictional unemployment is the least dangerous. It’s totally normal. You just graduated and are finding job. Or you just quit a company to move to a better one. You are only frictionally unemployed. Not too bad.
Structural unemployment is a little more dangerous. Your job is no longer valuable. Let’s say you are a factory worker. Nice. But your boss just bought a few pieces of robots that can do the job a thousand times better than you. Geez. You are fired. Now you have to look for another type of job. You need some other education and training.
Cyclical unemployment is the most dangerous. When the economy is in recession (247)**, companies **lay off (248) people to save money in order to stay afloat (249). The effects of cyclical unemployment can be devastating to not only you but the society as a whole. There will be more crimes following income decrease.
in recession: period of economic decline
lay off: cut staff to reduce labor cost
stay afloat: stay in business and make money
Three types of unemployment
- Frictional unemployment (least serious)
- Structural unemployment (moderately serious)
- Cyclical unemployment (most serious)
Sometimes, the unemployment rate does not paint the right picture. There have been a lot of criticisms on the unemployment rate. Even if the unemployment rate is low, most of the jobs created can be part-time or seasonal, which does not necessarily link to better economic and social wellbeing. Another problem is the rate does not account for discouraged worker (250). Even if you are employed, you are discouraged about your wages or the nature of the job.
There are many ways to help workers. YAY. One is that unions (251) can help negotiate salary and protect you from a whole host of issues from your job. You may not be able to have your voice heard. But unions do. They can sometimes hold a lot of power. Another is that you have to pay a portion of your salary as unemployment insurance collected by the government. If you are employed your entire life, then that’s good. But let’s say one day the recession comes and blows your job away, the unemployment insurance will protect you during that period to cover your day-to-day expenses.
In economics, the unemployment rate and inflation are usually inversely related (negatively correlated). If we have a favorable unemployment rate, we will have a problem with inflation. If we have low inflation rate, we will have a problem with unemployment. Inflation and unemployment are equally devastating for the economy. Inflation erodes your purchasing power (252), which means you end up buying less and less with the same amount of money you had.
We have no choice but to strike a balance between inflation and unemployment. As a rule of thumb, 2% inflation rate is considered healthy for the economy.
There are two policies to fix the problems, which are monetary policy (253) and fiscal policy (254).
Monetary policy is carried out by central bank. Fiscal policy is carried out by the government. To put it simply, the central bank will be responsible for stabilize the economy by controlling the money supply. Printing money is one of its job. Adjusting interest rate is another job. The amount of money we hold in our hands is determined by central bank. If we have too much money, prices of goods and services will increase (inflation). If we have too little money, the demand for money will be high. Interest rate will increase. Fewer capital investments will be made. Higher unemployment ensues.
Fiscal policy is carried out by the government. The government can basically do TWO things. It can either adjust taxes or adjust spending. The government has no control over the money supply. It only has power and control over the federal budget. If tax revenues are higher than spending, we will have a budget surplus (255). If the other way around, we will have budget deficit (256). When budget deficit occurs, the government needs to finance (257) the deficit by borrowing money by issuing bonds. If inflation is too high, the government can curb the inflation (258) by raising taxes or reducing government spendings. If unemployment is too high, the government can interfere by reducing taxes to stimulate consumer spending (because we are richer), or making government spendings. Government spendings can stimulate the economy because jobs will be created.
Two policies to help the economy
- Monetary policy - control money (by central bank)
- Fiscal policy - control budget (by the government)
Now let’s talk money.
We all know money is the set of assets in an economy that people regularly use to buy goods and services from other people. Money has three functions in the economy.
- Medium of exchange - (Otherwise we’ll have to trade goods for goods)
- Unit of account - (we can measure the value of goods $3, $4)
- Store of value - (we can store it easily. We cannot store vegetables or meat)
Liquidity (259) is the ease in which an asset can be converted into the economy’s medium of exchange. Let’s break it down. Cash is the most liquid asset or we say it has the highest liquidity. House is not liquid. It’s not easy to sell a house for a short period of time. You will have to do a lot of things and incur tons of costs before it becomes cash. Some assets are very liquid, some are not. Stocks are relatively liquid. Gold might be not. There are two kinds of money. Commodity money (260) and Fiat money (261)
Commodity money has intrinsic value (262), like Gold, silver, or oil.
Fiat money does not have intrinsic value like commodity one. The cash or checks that you have in your wallet is fiat money. They are just paper with little value themselves. But they represents wealth because we all CHOOSE to accept them.
Two kinds of money
- Commodity money: Gold, silver
- Fiat money: Check, cash, coin
