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Flashcards in Economics Deck (95):

How does a price increase affect supply?

When the prices of an item increases supply increases- because more sellers are willing to sell.


What is a supply curve shift?

When supply changes due to something other than price.


What are the characteristics of a positive supply curve shift (shift down-right)?

"Supply increases at each price point

Higher Equilibrium GDP

Number of sellers increases - market can get flooded

Examples: Government subsidies or technology improvements that decrease costs for suppliers"

Ultimately as suppliers will supply more and this should help bring the price down.


What are the characteristics of a negative supply curve shift (shift left)?

"Supply decreases at each price point

Lower Equilibrium GDP

Cost of producing item increases

Examples: Shortage of gold- so less gold watches are made; wars or crises in rice-producing countries means there is less rice on the market



How does price affect the demand for an item?

"When the prices of an item increases- demand for it decreases.



What is a Demand Curve Shift?

When demand changes due to something other than price.


What is a Positive Demand Curve Shift (Shift Right)?

"When demand increases at each price point

Price of substitutes go up - price of beef rises- so people buy more chicken

Expectation Future price increase is expected - War in Middle East- people go out and buy gas

Market expands - i.e. people get new free health care plan- demand at clinic rises

Expansion - more spending increases equilibrium GDP"

Another example - positive publicity. e.g. Michael Jordan becomes famous people want his things than before when he was not famous.


What is a Negative Demand Curve Shift (Shift Left)?

"Demand decreases at each price point.

Price of complement goes up - price of beef goes up- less demand for ketchup

Boycott - Company commits social blunder- consumers boycott

Consumer income rises - Demand for inferior goods drops as people have more money to spend

Consumer tastes change

Contraction - less spending decreases equilibrium GDP"


What is the Marginal Propensity to Consume?

"How much you spend when your income increases

Calculate: Change in Spending / Change in Income


What is the Marginal Propensity to Save?

"How much you save when income increases

Calculate: Change in Savings / Change in Income

Also equals 1 - Marginal Propensity to Consume"


How is the multiplier effect calculated?

(1 / 1-MPC) x Change in Spending


How does increased spending by consumers and the government affect the demand curve?

As spending by consumers or the government increases- the demand curve increases (shifts right).


How does spending change due to the multiplier effect?

"The increase in demand ends up being larger than the amount of additional income spent in the economy due to the multiplier effect.

One consumer spends money- which:
*Increases the income of a business
*Increases the income of a vendor
*Increases income of employees
*Increases tax revenue"


How is Price Elasticity of Demand calculated?

% Change in Quantity Demand / % Change in Price


Under elastic demand- how does price affect revenues?

"Price increases- Revenue decreases

Price decreases- Revenue increases



What conditions would indicate Elastic Demand?

"Many substitutes (luxury items)
Considered elastic if elasticity is greater than 1
10% drop in demand / 8% increase in price : 1.25 (Elastic)

Price increases- Revenue decreases
Price decreases- Revenue increases"


How does revenue react to price under Inelastic Demand?

"Price increases- Revenue increases

Price decreases- Revenue decreases"


What conditions would indicate Inelastic Demand?

"Few substitutes (groceries- gasoline)
Considered inelastic if coefficient of elasticity is less than 1
5% drop in demand / 10% increase in price : .5 (inelastic)

Price increases- Revenue increases
Price decreases- Revenue decreases"


What is Unitary Demand?

"Total revenue will remain the same if price is increased

Considered unitary if coefficient of elasticity : 1"


How is Income Elasticity of Demand calculated?

"% Change Quantity Demanded / % Change in Income

Normal goods greater than 1 (demand increases more than income)

Inferior goods less than 1 (demand increases less than income)"


What conditions occur under periods of inflation?

"Interest rates increase
Reduced demand for loans
Reduced demand for houses- autos- etc.
Value of bonds and fixed income securities decrease
Inferior good demand to increase
Foreign goods more affordable than domestic
Demand for domestic goods decrease"


What happens under Demand-Pull inflation?

"Overall spending increases

Demand increases (shifts right)

Market equilibrium price increases"


What happens under Cost-Push inflation?

"Overall production costs increase
Supply decreases (shifts left)
Market equilibrium price increases

Note: Demand-Pull and Cost-Push Inflation BOTH result in market equilibrium price to increase"


What is the Equilibrium Price?

The price where Quantity Supplied : Quantity Demanded


What is Optimal Production?

When Marginal Revenue : Marginal Cost


What is the result of a Price Floor?

Causes a surplus if above equilibrium price.


What is GDP (Gross Domestic Product)?

"The annual value of all goods and services produced domestically at current prices by consumers- businesses- the government- and foreign companies with domestic interests

Included: Foreign company has US Factory

Not included: US company has foreign factory"


What is included under the income approach for calculating GDP?

"Sole Proprietor and Corp Income
Passive Income
Employee Salaries
Foreign Income Adjustments


What is included under the Expenditure Approach for calculating GDP?

"Individual Consumption

Private Investment

Government Purchases

Net Exports"


What is Nominal GDP?

Measures goods/services in current prices.


For what is a GDP Deflator used?

Used to convert GDP to Real GDP


What is Real GDP?

Nominal GDP / GDP Deflator x 100


What is Gross National Product (GNP)?

Like GDP; Swaps foreign production. US Firms overseas are included- Foreign firms domestically are not included


What is the Consumer Price Index (CPI)? How is it applied?

"Price of goods relative to an earlier period of time- which is the benchmark. Year 1 : 1.0

((CPI Current - CPI Last) / CPI Last) * 100"


How is disposable income calculated?

Personal Income - Personal Taxes


How is Return to Scale calculated?

"% Increase in output / % Increase in input

Greater than 1 : Increasing returns to scale

Less than 1 : Decreasing returns to scale"


When is the economy in Recession?

When GDP growth is negative for two consecutive quarters.


What is a Depression?

"A prolonged- severe recession with high unemployment rates

No requisite period of time for the economy to officially be in a depression"


What are the stages of the Economic Cycle?

"Peak (highest)
Recession (decreasing)
Trough (lowest)
Recover (increasing)
Expansion (higher again)"


What are leading indicators?

"Conditions that occur before a recession or before a recovery - they can either be good or bad indicators.

Example: Stock Market or New Housing Starts"

Building Permits

increase or decrease in Average hours worked


What are lagging indicators?

"Conditions that occur after a recession or after a recovery

Examples: Prime Interest Rates- Unemployment



What are coincident indicators?

"Conditions that occur during a recession or during a recovery

Example: Manufacturing output"


Which people are included in the calculation of unemployment?

Only people looking for jobs


What is Cyclical Unemployment?

"GDP doesn't grow fast enough to employ all people who are looking for work

Example: People are unemployed in 2010 because there aren't enough jobs available due to the economy"


What is Frictional Unemployment?

"People are changing jobs or entering the work force. This is a normal aspect of full employment.

Example: A recent college graduate is looking for a job"


What is Structural Unemployment?

"A worker's job skills do not match those necessary to get a job so they need education or training

Example: A construction worker wants to work in an office- so they quit their job and get computer training"


How does inflation relate to unemployment?

High Unemployment : Low Inflation (Vice Versa)


What is the Discount Rate?

The rate a bank pays to borrow from the Fed.


What is the Prime Rate?

The rate a bank charges their best customers on short-term borrowings.


What is the Real Interest Rate?

Inflation-adjusted interest rate


What is the Nominal Rate?

Rate that uses current prices


What is the Risk-Free Rate?

"Rate for a loan with 100% certainty of payback.

Usually results in a lower rate.

US Treasuries are an example."


What is included in the M1 money supply?

Currency- Coins- and Deposits


What is included in the M2 money supply?

Highly liquid assets other than currency- coins or deposits


What is Deficit Spending?

"Increased spending levels without increased tax revenue.

Lower taxes without decrease in spending

Gamble that the multiplier effect will take over and boost economy"


How can the Fed control the money supply?

By buying and selling the government's securities.


How does the Fed control economy-wide interest rates?

By adjusting the discount rate charged to banks


What is a Tariff?

A tax on imported goods


What is a quota?

A limit on the number of goods that can be imported


How do international trade restrictions affect domestic producers?

"They are good for domestic producers.

Demand curve shifts right

Fewer substitutes

They can charge higher prices"


How to international trade restrictions affect foreign producers?

"They are bad for foreign producers

Demand curve shifts left

Fewer buyers

They must charge lower prices


How do international trade restrictions affect foreign consumers?

"They are good for foreign consumers

Supply curve shifts right

Goods purchased at lower prices in the foreign markets"


How do international trade restrictions affect domestic consumers?

"They are bad for domestic consumers

Supply curve shifts left

Fewer goods bought due to higher prices"


What is Accounting Cost?

"Explicit (Actual) cost of operating a business

Implicit costs are opportunity costs"


What is Accounting Profit?

Revenue - Accounting Cost


What is Economic Cost?

Explicit + Implicit Cost


What is Economic Profit?

Revenue - Economic Cost


What is 'Perfect (or pure) Competition?

(was on AICPA test)

1) All firms sell an identical product; 2) All firms are price takers - they cannot control the market price of their product; 3) All firms have a relatively small market share; 4) Buyers have complete information about the product being sold and the prices charged by each firm; and 5) The industry is characterized by freedom of entry and exit. Perfect competition is sometimes referred to as "pure competition".


What is a Monopolistically Competetive Industry?

(was on AICPA test)

Monopolistic competition is a type of imperfect competition such that many producers sell products that are differentiated from one another (e.g. by branding or quality) and hence are not perfect substitutes.

Produces a greater variety of products at higher cost per unit


What is 'Derived Demand'

(was on AICPA test)

Derived demand is a term used in economic analysis that describes the demand placed on one good or service as a result of changes in the price for some other related good or service. It is a demand for some physical or intangible thing where a market exists for both related goods and services in question. The derived demand can have a significant impact on the derived good's market price.

BREAKING DOWN 'Derived Demand'
The demand that is derived from the demand from another good can be an excellent investing strategy. Think about a "pick and axe" strategy. During the gold rush, the demand for gold prompted prospectors to search for gold. These prospectors needed picks and axes (and other supplies) to mine for gold. It is arguable that on average, those who were in the business of selling supplies to these prospectors faired better during the gold rush than the prospectors did. The demand for picks and axes was derived, to a large degree, from the demand for gold at that time.


What are key components of aggregate expenditure and the acronym CIG XM? and related GDP formula?

C which is personal Consumption
I which is business Investment
G which is Government expenditures
X exports
M imports

Formula: GDP = C + I + G + (X-M)



Balance of payments is used to refer to a system of accounts that catalogs the flow of goods between the residents of two countries. If country X is a net exporter of goods and therefore has a surplus balance of trade, countries purchasing the goods must use country X’s currency. This increases the demand of the currency and therefore its relative value.


Basic Principle of Monetary Policy?

Decrease in interest rates stimulates economy
Increase in interest rates will slow the economy.

since Lower interest rates tend to encourage consumer and business spending because finance charges are lower. Higher interest rates tend to discourage spending because finance charges are higher. It also encourages saving because the return on savings is higher.


Deflation and how this is best corrected?

Deflation is a decrease in the general price level of goods and services.[1] Deflation occurs when the inflation rate falls below 0% (a negative inflation rate).
Inflation reduces the real value of money over time; conversely, deflation increases the real value of money – the currency of a national or regional economy. This allows one to buy more goods and services than before with the same amount of money. INCREASE MONEY SUPPLY. Inflation is the opposite decrease money supply. with Deflation Increasing the Money Supply the government wants to encourage borrowing and investment to promote economic growth.

In a period of deflation interest rates are often near zero or even negative. Reducing interest rates is not as effective as increasing the money supply.


Inflation, how is this best corrected?

Increasing Interest Interest or Reducing the money supply is a preventive measure for a period of inflation.


Controlling the money supply does what?

Helps to reduce inflation when is it reduced.
Helps to increase deflation when it is increased.

Increasing money supply encourages borrowing and investment to promote economic growth - best cure for deflation but not the only remedy.



SELLING SECURITIES REDUCES MONEY SUPPLY If a central bank is selling government securities it is said to be pursuing a contractionary open-market operation, because this reduces the money supply.



Buying Govt securities increases money supply.
Selling Govt securities decreases money supply.


What is an Oligopoly?

Oligopoly is a form of market in which there are few (generally large) sellers of a product. Because there are few sellers the actions of one affect the others. An example of an oligopoly is the automobile industry. Other examples are found in the production of steel, aluminum, cigarettes, personal computers, and many electrical appliances. Oligopolists often attempt to engage in nonprice competition (e.g., by product differentiation or providing high levels of service). However, during economic downturns and periods of overcapacity, price competition in an oligopolistic market can turn fierce. The kinked-demand-curve model seeks to explain the price rigidity in oligopolistic markets. This model holds that the demand curve is kinked down at the market price because other oligopolists will not match price increases but will match price decreases. Generally, in the oligopolistic market there is a price leader that determines the pricing policy for the other producers. Horizontal mergers could create oligopolies..Horizontal is a business merger of similar business type.


What is meant by "maximizing utility" in Economics?

Increasing satisfaction. Utility involves maximizing satisfaction


What is the market rate of interest on a one-year U.S. Treasury bill?

risk-free rate plus the expected rate of inflation


Similarities and Differences between

Monopolistically competitive market

Purely competitive market,

both have large numbers of sellers but their product out put differs:

Monopolistically competitive market - "produce differentiated products".

Purely competitive market, "produce a standardized product".


Formula for marginal cost of producing the next unit

(additional unit x additional average cost) subtract (previous units x previous average cost)

If asked what is the marginal cost to product the 9th unit:

Total units Average FC Average VC Average TC
6 $15.00 $25.00 $40.00
7 12.86 24.00 36.86
8 11.25 23.50 34.75
9 10.00 23.75 33.75
The marginal cost of producing the ninth unit is

$25.75 = ($33.75 × 9) – ($34.75 × 8)


Key assumptions of perfect competition

Firms sell a homogeneous product.

Customers are indifferent about which firm they buy from.

The level of a firm’s output is small relative to the industry’s total output.

Firm must sell the price at the equilibrium price. It will sell no products at a higher price.


What is the effect when a foreign competitor’s currency becomes weaker compared to the U.S. dollar?

The foreign company will have an advantage in the U.S. market. Its products become cheaper for purchasers in another country.


Structural unemployment rate.

rate of unemployment caused by changes in the composition of employment opportunities over time is referred to as the unemployment resulting from industrial reorganization, typically due to technological change, rather than fluctuations in supply or demand.


Full employment unemployment rate.

sum of frictional and structural unemployment. Full employment does not mean zero unemployment.


Cyclical unemployment rate.

Cyclical unemployment is caused by the recession phase of the business cycle, that is, by a deficiency of aggregate spending.

unemployment that relates to the cyclical trends in growth and production that occur within the business cycle. When business cycles are at their peak, cyclical unemployment will be low because total economic output is being maximized.


Frictional unemployment rate.

is due to imperfections in the labor market and relates to

Frictional unemployment is workers searching for jobs or waiting to take jobs in the near future.


Compute change in percentage of expenditures as adjusted for inflation

A hospital is comparing last year's emergency rescue services expenditures to those from 10 years ago. Last year's expenditures were $100,500. Ten years ago, the expenditures were $72,800. The CPI for last year is 168.5 as compared to 121.3 ten years ago. After adjusting for inflation, what percentage change occurred in expenditures for emergency rescue services?

expenses decreased by 0.6% after adjusting for inflation. The cost 10 years ago adjusted for inflation is equal to $101,127 [$72,800 × (168.5 ÷ 121.3)]. This year's cost of $100,500 is 0.6% less than $101,127.


An expansionary "Fiscal" policy will have "negative" effect on net exports. Why?

An increase in governmental spending causes an increase in domestic interest rates and international capital inflows. These capital inflows cause the domestic currency to appreciate, which has a negative effect on net exports.


price elasticity of demand?

Change in Qty/Change in Price


Supply curve shift to the left.

typically this will be less supplied and the price will go up and people will buy less.


Monopolistic Competition

Many buyers, few suppliers. e.g. hamburgers JIB, Wendys. ..etc.



Change in Quantity Demanded/Change in Price =