Foundation of Economics
LEARNING OBJECTIVES:
By the end of this chapter, you should understand:
· that economics is about the allocation of scarce resources.
· that individuals face trade-offs.
· the meaning of opportunity cost.
· how to use marginal reasoning when making decisions.
· how incentives affect people’s behavior.
· why trade among people or nations can be good for everyone.
· why markets are a good, but not perfect, way to allocate resources.
· what determines some trends in the overall economy.
By the end of this chapter, you should understand:
· that economics is about the allocation of scarce resources.
· that individuals face trade-offs.
· the meaning of opportunity cost.
· how to use marginal reasoning when making decisions.
· how incentives affect people’s behavior.
· why trade among people or nations can be good for everyone.
· why markets are a good, but not perfect, way to allocate resources.
· what determines some trends in the overall economy.
econ_ch._1.ppt | |
File Size: | 2539 kb |
File Type: | ppt |
1.1 Competitive markets: Demand and supply
By the end of this section you should be able to:
HL:
- Outline the meaning of the term market.
- Explain the negative causal relationship between price and quantity demanded.
- Describe the relationship between an individual consumer's demand and market demand.
- Explain that a demand curve represents the relationship between the price and the quantity demanded of a product, ceteris paribus.
- Draw a demand curve.
- Explain how factors including changes in income (in the cases of normal and inferior goods), preferences, prices of related goods (in the cases of substitutes and complements) and demographic changes may change demand.
- Distinguish between movements along the demand curve and shifts of the demand curve.
- Draw diagrams to show the difference between movements along the demand curve and shifts of the demand curve.
- Explain the positive causal relationship between price and quantity supplied.
- Describe the relationship between an individual producer's supply and market supply.
- Explain that a supply curve represents the relationship between the price and the quantity supplied of a product, ceteris paribus.
- Draw a supply curve.
- Explain how factors including changes in costs of factors of production (land, labour, capital and entrepreneurship), technology, prices of related goods (joint/competitive supply), expectations, indirect taxes and subsidies and the number of firms in the market can change supply.
- Distinguish between movements along the supply curve and shifts of the supply curve.
- Construct diagrams to show the difference between movements along the supply curve and
HL:
- Explain and plot a demand curve from a linear function
- Identify the slope of the demand curve as the slope of the demand function
- Outline why, if the "a" term changes, there will be a shift of the demand curve.
- Outline how a change in "b" affects the steepness of the demand curve
- Explain and plot a supply curve from a linear function
- Identify the slope of the supply curve as the slope of the supply function
- Outline why, if the "c" term changes, there will be a shift of the supply curve.
- Outline how a change in "d" affects the steepness of the supply curve.
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1.2 Elasticity
In the previous sections we explained markets, the rules of supply and demand, market equilibrium, the price mechanism and market efficiency and how demand and supply are used to calculate market price and plot market equilibrium. In this section we explain the concept of elasticity.
By the end of this section you should be able to:
By the end of this section you should be able to:
- Explain the concept of price elasticity of demand, understanding that it involves responsiveness of quantity demanded to a change in price, along a given demand curve.
- Calculate PED
- State that the PED value is treated as if it were positive although its mathematical value is usually negative.
- Explain, using diagrams and PED values, the concepts of price elastic demand, price inelastic demand, unit elastic demand, perfectly elastic demand and perfectly inelastic demand.
- Explain the determinants of PED, including the number and closeness of substitutes, the degree of necessity, time and the proportion of income spent on the good.
- Calculate PED between two designated points on a demand curve using the PED equation.
- Explain why PED varies along a straight line demand curve and is not represented by the slope of the demand curve.
- Examine the role of PED for firms in making decisions regarding price changes and their effect on total revenue.
- Explain why the PED for many primary commodities is relatively low and the PED for manufactured products is relatively high.
- Examine the significance of PED for government in relation to indirect taxes.
- Outline the concept of cross price elasticity of demand, understanding that it involves responsiveness of demand for one good (and hence a shifting demand curve) to a change in the price of another good.
- Calculate XED
- Show that substitute goods have a positive value of XED and complementary goods have a negative value of XED.
- Explain that the (absolute) value of XED depends on the closeness of the relationship between two goods.
- Examine the implications of XED for businesses if prices of substitutes or complements change.
- Outline the concept of income elasticity of demand, understanding that it involves responsiveness of demand (and hence a shifting demand curve) to a change in income.
- Calculate YED
- Show that normal goods have a positive value of YED and inferior goods have a negative value of YED.
- Distinguish, with reference to YED, between necessity (income inelastic) goods and luxury (income elastic) goods.
- Examine the implications for producers and for the economy of a relatively low YED for primary products, a relatively higher YED for manufactured products and an even higher YED for services.
- Explain the concept of price elasticity of supply, understanding that it involves responsiveness of quantity supplied to a change in price along a given supply curve.
- Calculate PES
- Explain, using diagrams and PES values, the concepts of elastic supply, inelastic supply, unit elastic supply, perfectly elastic supply and perfectly inelastic supply.
- Explain the determinants of PES, including time, mobility of factors of production, unused capacity and ability to store stocks.
- Explain why the PES for primary commodities is relatively low and the PES for manufactured products is relatively high.
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1.3 Government intervention
In the previous sections we explained markets, the rules of supply and demand, market equilibrium, the price mechanism and market efficiency and how demand and supply are used to calculate market price and plot market equilibrium. We then explained the concepts of elasticity. In this section, we consider the role and effects of government intervention in the economy.
By the end of this section you should be able to:
HL:
By the end of this section you should be able to:
- Explain why governments impose indirect (excise) taxes.
- Distinguish between specific and ad valorem taxes.
- Draw diagrams to show specific and ad valorem taxes, and analyse their impacts on market outcomes.
- Discuss the consequences of imposing an indirect tax on the stakeholders in a market, including consumers, producers and the government.
- Explain why governments provide subsidies, and describe examples of subsidies.
- Draw a diagram to show a subsidy, and analyse the impacts of a subsidy on market outcomes.
- Discuss the consequences of providing a subsidy on the stakeholders in a market, including consumers, producers and the government.
- Explain why governments impose price ceilings, and describe examples of price ceilings, including food price controls and rent controls.
- Draw a diagram to show a price ceiling, and analyse the impacts of a price ceiling on market outcomes.
- Examine the possible consequences of a price ceiling, including shortages, inefficient resource allocation, welfare impacts, underground parallel markets and non-price rationing mechanisms.
- Discuss the consequences of imposing a price ceiling on the stakeholders in a market, including consumers, producers and the government.
- Explain why governments impose price floors, and describe examples of price floors, including price support for agricultural products and minimum wages.
- Draw a diagram of a price floor, and analyse the impacts of a price floor on market outcomes.
- Examine the possible consequences of a price floor, including surpluses and government measures to dispose of the surpluses, inefficient resource allocation and welfare impacts.
- Discuss the consequences of imposing a price floor on the stakeholders in a market, including consumers, producers and the government.
HL:
- Explain, using diagrams, how the incidence of indirect taxes on consumers and firms differs, depending on the price elasticity of demand and on the price elasticity of supply.
- Plot demand and supply curves for a product from linear functions and then illustrate and/or calculate the effects of the imposition of a specific tax on the market.
- Plot demand and supply curves for a product from linear functions and then illustrate and/or calculate the effects of the provision of a subsidy on the market.
- Calculate possible effects from the price ceiling diagram, including the resulting shortage and the change in consumer expenditure (which is equal to the change in firm revenue).
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1.4 Market failure
In the previous sections we explained markets, the rules of supply and demand, market equilibrium, the price mechanism and market efficiency and how demand and supply are used to calculate market price and plot market equilibrium. We then explained the concepts of elasticity and considered the role and effects of government intervention in the economy. In this section we examine the concept of market failure.
By the end of this section you should be able to:
HL
By the end of this section you should be able to:
- Analyse the concept of market failure as a failure of the market to achieve allocative efficiency, resulting in an overallocation of resources (overprovision of a good) or an under-allocation of resources (under-provision of a good).
- Describe the concepts of marginal private benefits (MPB), marginal social benefits (MSB), marginal private costs (MPC) and marginal social costs (MSC).
- Describe the meaning of externalities as the failure of the market to achieve a social optimum where MSB = MSC.
- Explain, using diagrams and examples, the concepts of negative externalities of production and consumption, and the welfare loss associated with the production or consumption of a good or service.
- Explain that demerit goods are goods whose consumption creates external costs.
- Evaluate, using diagrams, the use of policy responses, including market-based policies (taxation and tradable permits), and government regulations, to the problem of negative externalities of production and consumption.
- Explain, using diagrams and examples, the concepts of positive externalities of production and consumption, and the welfare loss associated with the production or consumption of a good or service.
- Explain that merit goods are goods whose consumption creates external benefits.
- Evaluate, using diagrams, the use of government responses, including subsidies, legislation, advertising to influence behaviour, and direct provision of goods and services.
- Using the concepts of rivalry and excludability, and providing examples, distinguish between public goods (non-rivalrous and nonexcludable) and private goods (rivalrous and excludable).
- Explain, with reference to the free rider problem, how the lack of public goods indicates market failure.
- Discuss the implications of the direct provision of public goods by government.
- Describe, using examples, common access resources and sustainability.
- Explain that the lack of a pricing mechanism for common access resources means that these goods may be overused/depleted/degraded as a result of activities of producers and consumers who do not pay for the resources that they use, and that this poses a threat to sustainability.
- Explain, using negative externalities diagrams, that economic activity requiring the use of fossil fuels to satisfy demand poses a threat to sustainability.
- Explain that the existence of poverty in economically less developed countries creates negative externalities through over-exploitation of land for agriculture, and that this poses a threat to sustainability.
- Evaluate, using diagrams, possible government responses to threats to sustainability, including legislation, carbon taxes, cap and trade schemes, and funding for clean technologies.
- Explain, using examples, that government responses to threats to sustainability are limited by the global nature of the problems and the lack of ownership of common access resources, and that effective responses require international cooperation.
HL
- Explain, using examples, that market failure may occur when one party in an economic transaction (either the buyer or the seller) possesses more information than the other party.
- Evaluate possible government responses, including legislation, regulation and provision of information.
- Explain how monopoly power can create a welfare loss and is therefore a type of market failure.
- Discuss possible government responses, including legislation, regulation, nationalization and trade liberalization.
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1.5 Theory of the firm and market structures (HL only)
In the previous sections we explained markets, the rules of supply and demand, market equilibrium, the price mechanism and market efficiency and how demand and supply are used to calculate market price and plot market equilibrium. We then explained the concepts of elasticity, considered the role and effects of government intervention in the economy and examined the concept of market failure. In this section we examine the theory of the firm.
By the end of this section you should be able to:
By the end of this section you should be able to:
- Distinguish between the short run and long run in the context of production.
- Define total product, average product and marginal product, and construct diagrams to show their relationship.
- Explain the law of diminishing returns.
- Calculate total, average and marginal product from a set of data and/or diagrams.
- Explain the meaning of economic costs as the opportunity cost of all resources employed by the firm (including entrepreneurship).
- Distinguish between explicit costs and implicit costs as the two components of economic costs.
- Explain the distinction between the short run and the long run, with reference to fixed costs and variable costs.
- Distinguish between total costs, marginal costs and average costs.
- Draw diagrams illustrating the relationship between marginal costs and average costs, and explain the connection with production in the short run.
- Explain the relationship between the product curves (average product and marginal product) and the cost curves (average variable cost and marginal cost), with reference to the law of diminishing returns.
- Calculate total fixed costs, total variable costs, total costs, average fixed costs, average variable costs, average total costs and marginal costs from a set of data and/or diagrams.
- Distinguish between increasing returns to scale, decreasing returns to scale and constant returns to scale.
- Outline the relationship between short-run average costs and long-run average costs.
- Explain, using a diagram, the reason for the shape of the long-run average total cost curve.
- Describe factors giving rise to economies of scale, including specialization, efficiency, marketing and indivisibilities.
- Describe factors giving rise to diseconomies of scale, including problems of coordination and communication.
econ_ch._7.pptx | |
File Size: | 1983 kb |
File Type: | pptx |