Microeconomics Exam 1 Study Guide Test Questions – Flashcards
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What is economics?
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the study of how people use their scarce resources to satisfy their unlimited wants
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What is Land and what is the payment for it?
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Land is also known as natural resources, and the payment is either rent or gift of nature
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What is Labor and it's payment?
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the physical and mental effort of people in production, the payment is wages
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What is Capital and it's payment?
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Depending on the type, either the human made aides to production or the education and skills acquired by people, the payment is interest
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What are the two types of capital and their definitions?
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Physical Capital - Human made aides to production Human Capital - the education and skills acquired by people
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What is Entrepreneurial Ability and it's payment?
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the organizing and management of production along with the willingness to take risk, the price of this is profit
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_________ get combined to produce goods and services
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Resources
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What is the difference between a good and a service?
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A good is a tangible item used to satisfy human wants while a service is some intangible good or activity used to satisfy human wants
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What is scarcity?
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the amount desired exceeds the amount available at a zero price
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What is the difference between microeconomics and macroeconomics?
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Macroeconomics looks at the economy as a whole while microeconomics looks at individual markets of an economy
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What is the rational self-interest assumption?
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Each individual tries to maximize the expected benefit achieved with a given cost to minimize the expected cost of achieving a given benefit
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Explain the scientific method
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1. Identify the question and define the relevant variables 2. Specify the assumptions 3. Formulate the hypotheses 4. Test the hypothesis
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What is the difference between a normative economic statement and a positive economic statement?
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A positive statement is a statement of opinion while a normative statement is a statement which be proved or disproved by facts
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What is the association-causation fallacy?
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the incorrect idea that because two variables are associated in time, one must necessarily cause the other
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What is the fallacy of composition?
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the incorrect idea that what is true for the part is true for the whole
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What is an opportunity cost?
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the value of the best alternative forgone when an item or activity is chosen
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What is a sunk cost?
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A cost which has already been incurred and cannot be recovered and thus is irrelevant to economic decisions
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What is the Law of Comparative Advantage?
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The ability to produce something at lower opportunity costs than other producers
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What is the difference between absolute advantage and comparative advantage?
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Absolute advantage is the ability to produce something using fewer resources than other producers while Comparative advantage is the ability to produce something at lower opportunity costs than other producers
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What is the production possibilities frontier?
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A curve showing alternative combinations of goods that can be produced when available resources are used efficiently; a boundary line between inefficient and unattainable combinations
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What question does the PPF answer?
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The types of goods that can be produced when all resources are used efficiently
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Why is the PPF usually bowed out from the origin?
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Because resources are not perfect substitutes for one another
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What is the law of increasing opportunity costs?
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To produce more of one good, a successively larger amount of the other good must be sacrificed
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What shifts a PPF?
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Changes in resource availability, increases in capital stock, technological change, and improvements in rules of the game
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How do changes in resource availability, technological change, and improvements in rules of the game shift a PPF?
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If there is an increase in resources, the PPF will expand outward. If there is a decrease in resources, the PPF will shift inward. If the change in resource availability benefits consumer goods, there will be an upward shift. If the change in resource availability benefits capital goods, there will be a right-ward shift.
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What are the two axis's of a PPF and which axis do they correlate with?
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Capital goods is found on the X-axis while consumer goods is found on the y-axis
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What are the three basic economic questions?
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What goods and services are to be produced, How are goods and services to be produced, For whom are the goods and services to be produced?
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What are the different economic systems?
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Pure capitalism, Pure Command, and Mixed Economy
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Who answers the question of what combination of goods to produce?
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The consumers by what they're buying
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Who answers the question of how are the goods produced?
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The producers by looking at the prices of goods, resources, and technology
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Who answers the question of for whom are the goods produced?
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Whoever has the purchasing power to buy them
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What are the sources of U.S. personal income?
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Wages and salaries, proprietor's income (income of unincorporated busiensses), transfer payments (cash or in-kind grant from the government to the people), personal interest, dividends (money people receive from holding stock), and rental income
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Over ___ of income in the U.S. is earned by providing labor to someone or your own business
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2/3
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What categories of goods and services do households purchase?
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Services, Durable Goods (goods that last 3 or more years), Non-durable goods (goods that last less than 3 years), taxes, and savings
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Which categories of goods and services are most important?
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Services (57% of income), Durable goods (9% of income), and Non-durable goods (18% of income)
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Why does household production of goods and services exist?
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The household production of goods and services exist because there are times when the market price is greater than the opportunity cost of performing the task, which means the household performs it
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What is a firm?
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an organization formed by a profit-seeking entrepreneur to combine resources and produce marketable output
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What are the three types of firms?
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Sole Proprietorship, Partnership, and Corporation
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What is a Sole Proprietorship?
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71% of businesses but only account for 4% of business sales, one owner, no legal distinction between firm and owner
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What is a Partnership?
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2 or more owners, account for 10% of businesses and 13% of business sales, unlimited liability for the owners, may be somewhat easier to acquire capital and transfer ownership
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What is a Corporation?
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19% of businesses and accounts for 83% of business sales, corporations recognized as a legal entity, limited liability for the owners/stockholders, easier to raise capital
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What are the economic roles of government?
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1. To establish and enforce the rules of the game (protection of private property rights and contract enforcement) 2. Promote competition (ex. antitrust laws) 3. Regulate natural monopolies (when there is a lower opportunity cost for one company to produce a product instead of trying to promote competition) 4. Promote public goods (a good that is non-rival in consumption and not subject to exclusion, such as fire and police protection) 5. Deal with externalities (either a benefit or cost imposed on a third party) 6. Provide a more equal distribution of income 7. Promote full employment, economic growth, price stability, and other macroeconomic objectives
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What is a positive externality?
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There is some benefit to a third party
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What is a negative externality?
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There is some cost imposed on a third party
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Describe the size and growth of government and its sources of revenue
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In the past, total government spending by all levels of government was equal to about 10% of GDP. Of that 10%, roughly 2/3 of it was State and Local spending, the other third Federal Spending. Today, government spending is roughly 40% of GDP. Of that 40%, roughly 2/3 of it is Federal and the other third is state and local.
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What is tax incidence?
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The distribution of tax burden among taxpayers; who ultimately pays the tax
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What is a proportional tax and what is it also known as?
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Tax as a percentage of income is constant (ex. income tax), also known as a flat rate tax
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What is a progressive tax?
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The tax as a percentage of income increases, as income increases (ex. federal income tax)
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What is a regressive tax?
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The tax as a percentage of income increases, as income decreases (Ex. Social Security Tax, sales tax)
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Which tax is based on the ability to pay principle?
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Proportional tax/ Flat Rate Tax
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What is the Merchandise Trade Balance?
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The value of a country's exported goods minus the value of its imported goods during a given time period
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What is the Balance of Payments?
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a record of all economic transactions between the residents of one country and the rest of the world during a given time period
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What is a tariff?
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A tax on imports
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What is a quota?
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a legal limitation on the amount of a good imported or exported
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What is demand?
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a relationship between the price of a good and the quantity consumers are willing and able to purchase during a given time period, ceteris paribus
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The quantity demanded of a good or service is the _______ ________ of its price
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inverse function
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What are the demand shifters?
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Income, Prices of Other Goods, Tastes or Preferences, Group Size or Composition, Price Expectation
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A change in anything other than the _____ of the good results in a change in demand
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price
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What is the substitution effect?
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as the price of a good falls, it will be used as a substitute for other goods, where possible
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What is the income effect?
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as the price of a good falls, the consumers real income increases and more normal goods will be purchased
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What is a demand curve?
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A curve showing the relation between the price of a good and the quantity consumers are willing and able to buy per period, other things constant
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What is a "normal" good?
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a good where income and demand move in the same direction (as income rises, the demand for this good rises)
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What is an "inferior" good?
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a good where income and demand move in opposite directions (as income decreases, the demand for this good rises)
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What is a substitute?
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goods that can be used in place of each other
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What is a complement?
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goods that are consumed together
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If consumer income increases, then the demand for a normal good will (increase/decrease)
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increase
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If consumer income increases, then the demand for an inferior good will (increase/derease)
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decrease
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If consumer income decreases, then the demand for a normal good will (increase/decrease)
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decrease
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If consumer income decreases, then the demand for an inferior good will (increase/decrease)
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increase
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The price of Pepsi increases, the quantity demanded for Pepsi will (increase/decrease) while the quantity demanded for its substitute Coke will (increase/decrease)
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decrease, increase
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The price of Peanut Butter increases, the quantity demanded of Peanut Butter will (increase/decrease). The quantity demanded of its complement, Jelly, will (increase/decrease)
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decrease, decrease
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If there is a change of tastes against the good, there will be a (increase/decrease) in demand
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decrease
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If there is an increase in group size, there will be a (increase/decrease) in demand
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increase
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What is market demand?
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sum of all individual demands
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If the price of a good is expected to be higher in the future, there will be a (increase/decrease) in the current demand for the good
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increase
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What is supply?
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The relationship between the price of a good and the quantity producers are willing and able to sell during a given time period, ceteris paribus
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The quantity supplied of a good or service is a ________ ________ of its price, ceteris paribus
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positive function
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Change in the price of the good results in a change in the ________ ________
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quantity supplied
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What is a supply curve?
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A curve showing the relation between the price of a good and the quantity producers are willing and able to sell per period other things constant
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What are the Supply Shifters?
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Prices of resources, Prices of Other Goods, Number of Producers, Technology, and Price Expectations
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Any ________ shift in a supply graph is a decrease in supply
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leftward
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A change in anything other than the price of a good results in a change of ______
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supply
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The price of crude oil increases, which causes the supply of gas to (increase/decrease)
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decrease
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When we talk about the price of other goods, it is not referring to substitutes or complements. It is referring to goods that use some of the same _________.
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resources
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Everyday, a refinery receives 100,000 barrels of crude oil a day. Given current gas and diesel prices, 70,000 are used for gas and 30,000 are used for diesel. The price of gas increases, which means the quantity supplied will (increase/decrease). This means that more barrels of oil will be used in the production of gas which means there will be a (increase/decrease) in the production of diesel fuel.
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increase, decrease
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What is market supply?
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The sum of all individual supplies
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When there is an increase in the number of producers, the price of supply will (increase/decrease)
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decrease
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A technological advance will (increase/decrease) the cost of production (producing supply)
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decrease
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If the price of a good is expected to be higher in the future, the current supply with (increase/decrease)
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decrease
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What is the difference between movement along a supply curve and a shift of the supply curve?
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A movement along a supply curve is caused by a change in quantity supplied resulting from a change in the price of the good while a shift of the supply curve results from a change in one of the determinants of supply other than the price of the good
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What is the difference between movement along a demand curve and a shift of the demand curve?
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A movement along a demand curve results from a change in the price of the good while a shift of the demand curve is movement of a demand curve right or left resulting from a change in one of the determinants of demand other than the price of the good
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What is market equlibrium?
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The condition that exists in a market when the plans of buyers match those of sellers, so quantity demanded equals quantity supplied and market clears (aka market clearing price)
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When the quantity demanded is greater than the quantity supplied, a _________ occurs
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shortage
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When the quantity supplied is greater than the quantity demanded, there is a _______
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surplus
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When there is a shift in the same direction in both the supply and demand curves, we (know/do not know) whether the equilibrium quantity will shift to the left or the right, but we (do/do not) know if the equilibrium price will shift up or down
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know, do not
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What is a price floor?
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a minimum legal price set for a good
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What is a price ceiling?
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a maximum legal price set for a good
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An effective price floor has to be ______ the equilibrium price, it creates a _______
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above, surplus
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An effective price ceiling has to be _____ the equilibrium price, it creates a ________
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below, shortage
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How can an effective price floor be enforced?
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The government buys the surplus and keeps it out of the domestic market in some way (could do this by exporting it)
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What is the Price Elasticity of Demand (Ed)?
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A measure of the responsiveness of quantity demanded to a change in price of a good
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How is Ed calculated?
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The percent change in quantity demanded divided by the percent change in the price of the good (change in quantity demanded/average quantity demanded/change in price/average price)
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What is the terminology for when Ed or Es = 0?
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perfectly priced inelastic
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What is the terminology for when 0 < Ed/Es < 1?
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price inelastic
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What is the terminology for when Ed/Es = 1?
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Unit elastic
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What is the terminology for when 1 < Ed/Es < infinity?
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price elastic
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What is the equation for total revenue?
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Price times Quantity demanded
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If demand is price inelastic, then price and total revenue will move in ____ directions
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same
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What are the characteristics of a perfectly elastic demand curve?
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Consumers demand all that is offered for sale at the give price.The elasticity value is infinity. If there is any price increase, the quantity demanded drops to zero because consumers are so sensitive to price changes that they tolerate no price increase. (graph is straight horizontal line)
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What are the characteristics of a perfectly inelastic demand curve?
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A vertical line reflecting a situation in which any price change has no effect on the quantity demanded; the elasticity value is zero. (graph is a straight vertical line)
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What are the characteristics of a unit elastic demand curve?
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Everywhere along the demand curve, the percentage change in price causes an equal but offsetting percentage change in quantity demanded, so total revenue remains the same; the elasticity has an absolute value of 1 (graph looks like an inverse exponential growth graph)
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What are the determinants of Ed?
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1. The number of substitutes - the fewer the number of substitutes the more price inelastic is demand 2. Adjustment Period - the longer the adjustment period, the more price elastic is demand 3. Proportion of the budget - the larger the proportion of the budget, the more price elastic is demand
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What is the Price Elasticity of Supply?
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a measure of the responsiveness of quantity supplied to a change in the price of the good
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What are the characteristics of a perfectly elastic supply curve?
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A horizontal line reflecting a situation in which any price decrease drops the quantity supplied to zero; the elasticity value is infinity
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What are the characteristics of a perfectly inelastic supply curve?
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A vertical line reflecting a situation in which a price change has no effect on the quantity supplied; the elasticity value is zero
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What are the characteristics of a unit-elastic supply curve?
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A percentage change in price causes an identical percentage change in quantity supplied; depicted by a supply curve that is a straight line from the origin; the elasticity value equals 1
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What determines the price elasticity of supply?
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1. Adjustment period - the longer the adjustment period, the more price elastic is supply 2. Cost structure - the more slowly the costs of production increase as output is increased the more price elastic is supply
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What is the equation for the Cross Price Elasticity of Demand?
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Percent change of quantity demanded of X divided by the percent change in price of Y
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When E_xy_ is greater than zero, it indicates that these goods are ___________
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substitutes
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When E_xy_ is less than zero, it indicates that these goods are ____________
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complements
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What is the cross-price elasticity of demand?
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The percentage change in the demand of one good divided by the percentage change in the price of another good; it's positive for substitutes, negative for complements, and zero for unrelated goods
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What is the income elasticity of demand?
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The percentage change in demand divided by the percentage change in consumer income; the value is positive for normal goods and negative for inferior goods
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If the value for the income elasticity of demand is positive, then the good is ______
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normal
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If the value for the income elasticity of demand is negative, then the good is _________
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inferior
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The more price _________ is demand, the greater the burden of the tax borne by the consumer
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inelastic
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The more price ______ is supply, the greater the burden is borne by the consumer
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elastic
