L2 - Thinking like an Economist Flashcards
What is the role of an economist?
- In short, economists seek to understand how well the market economy works and identify where governments may need to intervene to correct specific aspects of market failure
What makes a good theory?
- it can explain the evidence
- it makes predictions that can be tested
What are the main characteristics of market economies?
- Individuals pursue their own self-interest, buying and selling what seems best for themselves and their families
- People respond to incentives other things being equal, sellers seek high prices while buyers seek low prices
- Most prices are set in open markets in which suppliers compete to sell to potential buyers
- People earn their incomes by selling their services to those who wish to use them - their labour services - or by selling things they have produced, or by selling the services of the property that they own
- All of these activities are governed by a legal framework largely created, administered, and enforced by the state
What are the different types of Resources?
- An economy’s resources can be divided into four main categories:
- Land
- Labour
- Capital
- Entrepreneurs
- Traditionally these resources have been called factors of production
What are the two roles of Economists?
1 - Scientist –> Explain the causes of economic events
2 - Policy Advisor –> Explain what to do to improve events
What are the two types of Statements made by Economists?
1 - Positive Statements –> describe causes and effects –> they describe how the world e.g. more people will attend university if tuition fees were lower
2 - Normative statements –> embody value judgements –> They describe how the world ought to be e.g. all individuals who attend university should have free tuition
What is the concept of Opportunity Costs?
- A fundamental tool for understanding how rational people choices are, is the
cost-benefit principle. - Take an action if the: benefits are greater than the costs!
- Important factor for costs how you would spend your time & money
otherwise - Opportunity Costs - measures the cost of doing anything in terms of the most highly valued alternative that could have been chosen instead
- IMPLICATION: The cost of an action is not just how much money you spent
on it
What is the Production- Possibility Boundary?
- its a graph that can be used to demonstrate how nation’s could divide productive resources between two sectors
- So with Quantity of private sectors goods on the x-axis and Quantity of public sectors goods on the y-axis
- there is a quarter circle showing all the combinations of public and private goods that can be produced if all the nation’s resources are fully employed
- Points outside the boundary show combinations that cannot be obtained because there are not enough resources to produce them
- Points on the boundary are just obtainable, they are the combinations that can just be produced using all the available supplies of resources
What does a steeping slope of the Production-possibility Boundary indicate?
- Increasing Opportunity Cost as more and more private goods have to be given up for each additional unit of public goods
What is thinking at the margin?
- Naive thinking would be just to compare the costs and benefits
- However an economist would compare the marginal benefit and the marginal cost of the outcome
- So even though it could be argued that;
2 hospitals should be built because
the benefit of 2 hospitals (£30m) > as the costs of 2 hospitals (£24m) - By comparing the marginal benefits and cost you get
- Marginal costs of 1 hospital is £12m
- Marginal benefit of 1st hospital is £20m = £20m – £0m
- Marginal benefit of 2nd hospital is £10m = £30m – £20m
- Build 1st hospital (£20m > £12m), but not the 2nd (£10m < £12m)
What are the three different production Choices?
- Specialisation
- Division of Labour
- Globalisation
What is Specialisation in microeconomics?
- Specialisation means concentrating the production on a chosen good or service for which a production unit(individual, firm or a country) is more able as far as resources of production are concerned. In other words, it means producing what we produce best.
- Specialisation is the production of a limited range of goods, and services by an individual firm or a country, in co-operation with others so that, together, a complete range of products can be produced.
- Specialisation also means that the resources are being distributed among small and competing uses at a particular industry or a nation.
- For example, Maldives specialises in tourism and fishing products, Sri Lanka and India specialises in the production of tea.
- This is specialisation at national level. The specialisation of Thoddoo island for watermelons and Dhiggaru island for rihaakuru is an example of regional specialisation.
What is Division of Labour?
- The division of labour occurs where production is broken down into many separate tasks
- Division of labour can raise output per person as people become proficient through constant repetition of a task
- This is called “learning by doing”
- This gain in labour productivity helps to lower the supply cost per unit
- Reduced supply costs in theory will lead to lower prices for consumers of goods and services causing gains in economic welfare e.g. through an increase in consumer surplus
What is examples of specialisation and divisions of labour?
In the process of producing cars, there will be a high degree of labour specialisation.
- Some workers will design the cars
- Some will work on testing cars
- Some will work on marketing.
- Some workers will work on different sections of the assembly line. Their job may be highly specific such as putting on tyres e.t.c.
What is Comparative Advantages?
- Comparative advantage occurs when one country can produce a good or service at a lower opportunity cost than another. This means a country can produce a good relatively cheaper than other countries
- The theory of comparative advantage states that if countries specialise in producing goods where they have a lower opportunity cost – then there will be an increase in economic welfare.
- Note this is different to absolute advantage which looks at the monetary cost of producing a good.
- Even if one country is more efficient in the production of all goods (absolute advantage) than the other, both countries will still gain by trading with each other, as long as they have different relative efficiencies.