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DP Economics Part 1
What is Economics? & Microeconomics vocabulary
| Term | Definition |
|---|---|
| Adverse selection | A type of market failure involving asymmetric information, where the party with the incomplete information is induced to withdraw from the market. (cont'd) |
| Allocative efficiency | Achieved when just the right amount of goods and services are produced from society’s point of view so that scarce resources are allocated in the best possible way (cont'd) |
| Allocative inefficiency | When either more or less than the socially optimal amount is produced and consumed so that misallocation of resources results. MSB ≠ MSC. |
| Anchoring | Refers to situations when people rely on a piece of information that is not necessarily relevant as a reference point when making a decision. |
| Appropriate technology | Technology that relies mostly on the relatively abundant factor an economy is endowed with. |
| Asymmetric information | A type of market failure where one party in an economic transaction has access to more or better information than the other party. |
| Average costs | Total costs per unit of output produced. |
| Average revenue | Revenue earned per unit sold; average revenue is thus equal to the price of the good. |
| Average tax rate | The ratio of the tax paid by an individual over their income expressed as a percentage. |
| Barriers to entry | Anything that deters entry of new firms into a market, for example, licenses or patents. |
| Behavioural economics | A subdiscipline of economics that relies on elements of cognitive psychology to better understand decision-making by economic agents. (cont'd) |
| Biases | Systematic deviations from rational choice decision-making. |
| Bounded rationality | A term suggesting consumers and businesses have neither the information nor the cognitive abilities required to maximize with respect to some objectives (such as utility), and thus choose to satisfice. They therefore are rational only within limits. |
| Bounded self-control | The idea that individuals, even when they know what they want, may not be able to act in their interests. This includes evidence of procrastination that may result in self-harm, and submitting to temptation (for example, dieters). |
| Bounded selfishness | The idea that people do not always maximize self-interest but also have concern for the well-being of others as shown by volunteer work and charity contributions. |
| Business confidence | A measure of the degree of optimism that businesses have about the economic future. |
| Business tax | Tax levied on the income of a business or corporation. |
| Physical capital | refers to means of production that include machines, tools, equipment and factories; the term may also refer to the infrastructure of a country. |
| Human capital | refers to the education, training, skills and experience embodied in the labour force of a country. |
| Carbon (emissions) taxes | Taxes levied on the carbon content of fuel. They are a type of Pigouvian tax. |
| Ceteris paribus | A Latin expression meaning “other things being equal”. |
| Choice architecture | The design of environments based on the idea that the layout, sequencing, and range of choices available affect the decisions made by consumers. |
| Circular economy | An economic system that looks beyond the linear take-make-dispose model and aims to redefine growth, focusing on society-wide benefits. It is based on three principles: design out waste, keep products and materials in use, and regenerate natural systems. |
| Circular flow of income | A simplified illustration that shows the flows of income and expenditures in an economy. |
| Collective self governance | In the case of a common pool resource, such as a fishery, users solve the problem of overuse by devising rules concerning the obligations of the users, the monitoring of the use of the resource, penalties of abuse, and conflict resolution. |
| Common pool resources | A diverse group of natural resources that are non-excludable, but their use is rivalrous, for example, fisheries. |
| Competitive market | A market with many firms acting independently where no firm has the ability to control the price. |
| Competitive market equilibrium | Occurs if in a free competitive market, quantity demanded is equal to quantity supplied. |
| Competitive supply | When goods that a firm is producing use the same resources in their production process. The goods thus compete with each other for the use of the same resources. |
| Complements | Goods that are jointly consumed, for example, coffee and sugar. |
| Consumer surplus | The difference between how much a consumer is at most willing to pay for a good and how much they actually pay. |
| Default choice | When a choice is made by default, meaning that when given a choice it is the option that is selected when one does not do anything. |
| Demand | The relationship between possible prices of a good or service and the quantities that individuals are willing and able to buy over some time period, ceteris |
| paribus. | |
| Demand curve | A curve illustrating the relationship between possible prices of a good or service and the quantities that individuals are willing and able to buy over some time period, ceteris paribus. It is normally downward sloping. |
| Demerit goods | Goods or services that not only harm the individuals who consume these but also society at large, and that tend to be overconsumed. Usually they are due to negative consumption externalities. |
| Direct taxes | Taxes on income, profits or wealth paid directly to the government. |
| Economics | Economics is the study of how to make the best possible use of scarce or limited resources to satisfy unlimited human needs and wants. |
| Economies of scale | Falling average costs that a firm experiences when it increases its scale of operations. |
| Efficiency | In general, involves making the best use of scarce resources. May refer to producing at the lowest possible cost or to allocative efficiency where marginal social costs are equal to marginal social benefits or where social surplus is maximum. |
| Elasticity | A measure of the responsiveness of an economic variable (such as the quantity demanded of a product) to a change in another economic variable (such as its price or income). |
| Elasticity of demand for exports | A measure of the responsiveness of the volume of exports to a change in their price. |
| Elasticity of demand for imports | A measure of the responsiveness of the volume of imports to a change in their price. |
| Engel curve | A curve showing the relationship between consumers’ income and quantity demanded of a good. It indicates whether a good is normal or inferior. |
| Entrepreneurship | Refers to the ability of certain individuals to organize the other factors of production (land, labour, capital) and their willingness to take risks. |
| Equilibrium | A state of balance that is self-perpetuating in the absence of any outside disturbance. |
| Equity | The concept or idea of fairness. |
| Excess demand | Occurs when quantity demanded at some price is greater than quantity supplied. |
| Excess supply | Occurs when quantity supplied at some price is greater than quantity demanded. |
| Excludable | A characteristic that most goods have that refers to the ability of producers to charge a price and thus exclude whoever is not willing or able to pay for it from enjoying it. |
| Exports | Goods and services produced in one country and purchased by consumers in another country. |
| Export revenue | The revenues collected by exporting firms. |
| Export subsidy | Payments made by the government to exporting firms on the basis of the number of units exported. |
| Externalities | External costs or benefits to third parties when a good or service is produced or consumed. An externality arises when an economic activity imposes costs or creates benefits on third parties |
| Factors of production | Resources used in the production of goods and services; include land (natural resources), labour, capital and entrepreneurship. |
| Firm | An entity such as a business that uses factors of production in order to produce and sell goods and services and earn profits. It is an important decision maker in a market economy. |
| Foreign sector | In an open economy the term refers to exports and imports. |
| Free goods | Goods such as air or sea water that are not considered scarce and thus do not have an opportunity cost. |
| Free market economy | An economy where the means of production are privately owned and where market forces determine the answers to the fundamental questions (what/how much, how and for whom) that all economies face. |
| Free rider problem | Arises when individuals consume a good or service without paying for it because they cannot be excluded from enjoying it. |
| Growth in production possibilities | When the production possibilities of a country increase because of more/better resources and/or better technology becoming available; illustrated by a shift outwards of the PPC. |
| Homogeneous product | Goods that are considered identical across firms in the eyes of consumers; examples include mostly primary sector goods like corn, wheat or copper. |
| Households | Groups of individuals in the economy who share the same living accommodation, who pool their income and jointly decide the set of goods and services to consume. |
| Human capital | The education, training, skills, experience and good health embodied in the labour force of a country. |
| Imperfect information | When the information about a market or a transaction is incomplete. |
| Imports | The value of goods and services purchased domestically that are produced abroad. |
| Incentive-related policies | Policies that aim at improving economic incentives of individuals and firms. |
| Incentive role of prices | Prices provide producers and consumers the incentive to respond to price changes. Given a price change, producers have the incentive to change the quantity supplied in accordance with the law of supply, (cont'd) |
| Income | A flow of earnings from using factors of production to produce goods and services. Wages and salaries are the factor reward to labour and interest is the flow of income for the ownership of capital. |
| Income effect | The law of demand is explained by the substitution and the income effect. The income effect states that if the price of a good increases then the real income of consumers decreases and, typically. (cont'd) |
| Income elasticity of demand (YED) | The responsiveness of demand for a good or service to a change in income. |
| Indirect taxes | Taxes on expenditure to buy goods and services. |
| Inferior goods | Lower quality goods for which higher quality substitutes exist; if incomes rise, demand for the lower quality goods decreases. |
| Infrastructure | Physical capital typically financed by governments that is essential for economic activity to take place, including roads, power, telecommunications and sanitation, generating significant positive externalities. |
| Injections | Within the circular flow model these refer to spending on domestic output that does not originate from households and thus includes investment spending by firms, government expenditures and exports. |
| Joint supply | Goods jointly produced, for example beef and cattle hides; producing one automatically leads to the production of the other. |
| Labour | One of the four factors of production that refers to the physical and mental contribution of workers to the production process. |
| Laissez faire | The view that if market forces are left alone unimpeded by government intervention the outcome will be efficient. |
| Land | One of the four factors of production that refers to the natural resources with which an economy is endowed; also referred to as “gifts of nature”. |
| Land rights | Property (ownership) legal rights over land holdings that include rights to possess, occupy and use the land. |
| Law of demand | A law stating that as the price of a good falls, the quantity demanded will increase over a certain period of time, ceteris paribus. |
| Law of diminishing marginal returns | A short-run law of production stating that as more units of the variable factor are added to a fixed factor there is a point beyond which total product continues to rise but at a diminishing rate or, equivalently, marginal product starts to decrease. |
| Law of diminishing marginal utility | The idea that as an individual consumes additional units of a good, the additional satisfaction enjoyed decreases. |
| Law of supply | A law stating that as the price of a good rises, the quantity supplied will rise over a certain period of time, ceteris paribus. |
| Leakages | Income not spent on domestic goods and services. It includes savings, taxes and import expenditure. |
| Long run in microeconomics | The period of time when all factors of production are variable. |
| Loss (economic) | Occurs when total costs of a firm are greater than total revenues. It is equal to total cost minus total revenue. |
| Luxury goods | Goods that are not considered essential by consumers therefore they have a price elastic demand (PED > 1), or income elastic demand (YED > 1). |
| Mandated choices | Choices made by consumers who are required to state whether or not they wish to take part in an action. |
| Manufactured products | Products or goods that have been produced by workers often working with capital goods. |
| Marginal benefit | The extra or additional benefit enjoyed by consumers that arises from consuming one more unit of output. |
| Marginal costs | The extra or additional costs of producing one more unit of output. |
| Marginal revenue | The extra or additional revenue that arises for a firm when it sells one more unit of output. |
| Marginal social benefit (MSB) | The extra or additional benefit/utility to society of consuming an additional unit of output, including both the private benefit and the external benefit. |
| Marginal social cost (MSC) | The extra or additional cost to society of producing an additional unit of output, including both the private cost and the external costs. |
| Marginal tax rate | The proportion of a person’s extra or additional income that is paid in tax, usually expressed as a percentage. |
| Marginal utility | The extra or additional utility derived from consuming one more unit of a good or service. |
| Market | Any arrangement where buyers and sellers interact to carry out an economic transaction. |
| Market demand | The sum of the individual demand curves for a product of all the consumers in a market. |
| Market equilibrium | In a market this occurs at the price where the quantity of a product demanded is equal to the quantity supplied. This is the market clearing price since there is no excess demand or excess supply. |
| Market failure | The failure of markets to achieve allocative efficiency. Markets fail to produce the output at which marginal social benefits are equal to marginal social costs; social or community surplus (consumer surplus + producer surplus) is not maximized. |
| Market mechanism | The system in which the forces of demand and supply determine the prices of products. Also known as the price mechanism. |
| Market-oriented approaches | Approaches or policies that are based on the actions of private decision-makers operating in markets with a minimum amount of government intervention. |
| Market power | The ability of a firm (or group of firms) to raise and maintain price above the level that would prevail under perfect competition (or P > MC). |
| Market share | The percentage of total sales in a market accounted for by one firm. |
| Market supply | The horizontal sum of the individual supply curves for a product of all the producers in a market. |
| Maximum price | A price set by a government or other authority that is below the market equilibrium price of a good or service, also known as a price ceiling. |
| Merit goods | Goods or services considered to be beneficial for people that are underprovided by the market and so under-consumed, mainly due to positive consumption externalities. |
| Microeconomics | The study of the behaviour of individual consumers, firms, and markets and the determination of market prices and quantities of goods, services, and factors of production. |
| Minimum price | A price set by a government or other authority above the market equilibrium price of a good or service, also known as a price floor. |
| Mixed economy | An economy that has elements of a planned economy and elements of a free market economy. In reality, all economies are mixed. What is different is the degree of the mix from country to country. |
| Monetarist/new classical counter revolution | An economic school of thought arguing that the price mechanism along with well-functioning competitive markets are sufficient to lead the economy to full employment. (cont'd) |
| Monopoly | A market structure where there is only one firm in the industry, so the firm is the industry. There are high barriers to entry. |
| Moral hazard | A type of market failure involving asymmetric information where a party takes risks but does not face their full costs by changing behaviour after a transaction has taken place. It is very common in insurance markets. |
| Necessity | The degree to which a good is necessary or essential. If the increase in demand for a necessity good is less than proportional to the |
| rise in income; then the necessity good is income elastic. If the change in quantity demanded for a necessity good is less than proportional to a change in price; then the necessity good is price inelastic. | |
| Negative externalities of consumption | Negative effects suffered by a third party whose interests are not considered when a good or service is consumed, so the third party are therefore not compensated. |
| Negative externalities of production | Negative effects suffered by a third party whose interests are not considered when a good or service is produced, so the third party are therefore not compensated. |
| Non-rivalrous | A characteristic of some goods such that their consumption by one individual does not reduce the ability of others to consume them. It is a characteristic of public goods. |
| Normal goods | A good where the demand for it increases as income increases. |
| Normal profit | The minimum return that must be received by a firm in order to stay in business. A firm earns normal profit when total revenue is equal to total cost, or when average revenue or price is equal to average cost. |
| Normative economics | Deals with areas of the subject that are open to personal opinion and belief, thus not subject to refutation. |
| Opportunity cost | The next best alternative foregone when an economic decision is made. |
| Perfect information | Where all stakeholders in an economic transaction have access to the same information. |
| Perfectly elastic demand | Occurs with a horizontal demand curve signifying that any amount can be bought at a particular price. (PED is infinite.) |
| Perfectly elastic supply | Occurs with a horizontal supply curve signifying that any amount can be offered at a particular price. (PES is infinite.) |
| Perfectly inelastic demand | Where a change in the price of a good or service leads to no change in the quantity demanded of the good or service. (PED is equal to zero.) |
| Perfectly inelastic supply | Where a change in the price of a good or service leads to no change in the quantity supplied of the good or service. (PES is equal to zero.) |
| Pigouvian taxes | An indirect tax that is imposed to eliminate the external costs of production or consumption. |
| Planned economy | An economy where the means of production (land and capital) are owned by the state. The state determines what/how much to produce, how to produce, and for whom to produce. |
| Positive economics | Deals with areas of the subject that are capable of being falsified, or shown to be correct or not. |
| Positive externalities of consumption | The beneficial effects that are enjoyed by third parties whose interests are not accounted for when a good or service is consumed, therefore they do not pay for the benefits they receive. |
| Positive externalities of production | The beneficial effects that are enjoyed by third parties whose interests are not accounted for when a good or service is produced, therefore they do not pay fo the benefits they receive. |
| Price ceiling (maximum price) | A price imposed by an authority and set below the equilibrium price. Prices cannot rise above this price. |
| Price controls | Prices imposed by an authority, set above or below the equilibrium market price. |
| (Price) elastic demand | Where a change in the price of a good or service leads to a proportionately larger change in the quantity demanded of the good or service in the opposite direction. (PED is greater than one.) |
| Price elasticity of demand (PED) | A measure of the responsiveness of the quantity demanded of a good or service to a change in its price. |
| Price elasticity of supply (PES) | A measure of the responsiveness of the quantity supplied of a good or service to a change in its price. |
| (Price) elastic supply | Where a change in the price of a good or service leads to a proportionately larger change in the quantity supplied of the good or service in the same direction. (PES is greater than one.) |
| Price expectations | The forecasts or views that consumers or firms hold about future price movements that play a role in determining demand. |
| Price floor (minimum price) | A price imposed by an authority and set above the market price. Prices cannot fall below this price. |
| (Price) inelastic demand | Where a change in the price of a good or service leads to a proportionately smaller change in the quantity demanded of the good or service in the opposite direction. (PED is less than one.) |
| (Price) inelastic supply | Where a change in the price of a good or service leads to a proportionately smaller change in the quantity supplied of the good or service in the same direction. (PES is less than one.) |
| Price mechanism | The system where the forces of demand and supply determine the prices of products. Also known as the market mechanism. |
| Primary commodities | Raw materials that are produced in the primary sector. Examples include agricultural products, metals and minerals. |
| Primary sector | Anything derived from the factor of production land. Includes agricultural products, metals and minerals. |
| Producer surplus | The benefit enjoyed by producers by receiving a price that is higher than the price they were willing to receive. |
| Product differentiation | The process by which firms try to make their products different from the products of other firms in an effort to increase their sales. Differences involve product quality, appearance, services offered and many others. |
| Production possibilities curve (PPC) | A curve showing the maximum combinations of goods or services that can be produced by an economy in a given time period, if all the resources in the economy are being used fully and efficiently and the state of technology is fixed. |
| Profit maximization | A possible objective of firms that involves producing the level of output where profits are greatest: where total revenue minus total cost is greatest or where marginal revenue equals marginal cost. |
| Property rights | The exclusive, legal, authority to own property and determine how that property is used, whether it is owned by the government or by private individuals. |
| Public goods | Goods or services that have the characteristics of non-rivalry and nonexcludability, for example, flood barriers. |
| Quantity demanded | The quantity of a good or service demanded at a particular price over a given time period, ceteris paribus. |
| Quantity supplied | The quantity of a good or service supplied at a particular price over a given time period, ceteris paribus. |
| Rational consumer choice | Occurs when consumers make choices based on the following assumptions: they have consistent tastes and preferences, they have perfect information and |
| they arrange their purchases so as to make their utility as great as possible (maximize it). It is assumed in standard microeconomic theory. | |
| Rational producer behaviour | Occurs when firms try to maximize profit. This is an assumption in standard microeconomic theory. |
| Rationing | A method used to divide or apportion goods and services or resources among the various interested parties. |
| Refutation | A method used in the natural sciences and social sciences where any proposition must be subjected to an empirical test in order to see if it can be disproven or refuted. If it is disproven or refuted, then the proposition must be rejected. |
| Resource allocation | Apportioning available resources or factors of production to particular uses for production purposes. |
| Restricted choices | This is when the choice of a consumer is restricted by the government or other authority. |
| Revenues | Payments received by firms when they sell their output. |
| Rivalrous | Goods and services are considered to be rivalrous when the consumption by one person, or group of people, reduces the amount available for others. |
| Rules of thumb | Rules of thumb are mental shortcuts (heuristics) for decision-making to help people make a quick, satisfactory, but often not perfect, decision to a complex choice. |
| Satisficing | A business or firm objective to achieve a satisfactory outcome with respect to one or several objectives, rather than to pursue any one objective at the possible expense of others by optimizing (maximizing), for example, profit, revenue or growth. (cont’d |
| Say’s Law | A proposition stating that the supply of goods creates its own demand. |
| Scarcity | The limited availability of economic resources relative to society’s unlimited needs and wants of goods and services. |
| Screening | In asymmetric information, the use of a screening process by the participant with less information to gain more information regarding a transaction, and so reduce adverse selection. |
| Shortage | Arises when the quantity demanded of a good or services is more than the quantity supplied at some particular price. |
| Short run in microeconomics | The period of time when at least one factor of production is fixed. |
| Signalling | In asymmetric information, the participant with more information sending a signal revealing relevant information about a transaction to the participant with less information, to reduce adverse selection. |
| Social/community surplus | The sum combination of consumer surplus and producer surplus. |
| Social enterprise | A company whose objective is to have a social impact rather than to make a profit. It operates by providing goods and services for the market in an entrepreneurial fashion and uses its profits primarily to achieve social objectives. |
| Socially optimum output | This occurs where there is allocative efficiency, or where the marginal social cost of producing a good is equal to the marginal social benefit of the good to society. |
| Social sciences | Academic studies of human societies and how people in society interact with each other. |
| Specialization | Refers to when a firm or country focuses on the production of one or a few goods or services. This forms the basis of the theory of comparative advantage in international trade. |
| Stakeholder | An individual or group of individuals who have an interest, or stake, in an economic activity or outcome. |
| Subsidies | An amount of money paid by the government to a firm, per unit of output, to encourage production and lower the price to consumers. |
| Substitutes | Goods that can be used in place of each other, as they satisfy a similar need. |
| Substitution effect | When the price of a product falls relative to other product prices, consumers purchase more of the product as it is now relatively less expensive. This forms part of an explanation of the law of demand. |
| Supply | Quantities of a good that firms are willing and able to supply at different possible prices, over a given time period, ceteris paribus. |
| Supply curve | A curve showing the relationship between the price of a good or service and the quantity supplied, ceteris paribus. It is normally upward sloping. |
| Surplus | An excess of something over something else. It occurs: • when quantity supplied is greater than quantity demanded at a particular price |
| Sustainability | Refers to the preserving the environment so that it can continue to satisfy needs and wants into the future. Relates to the concept of “sustainable development”. |
| Total costs | All the costs of a firm incurred for the use of resources to produce something. |
| Total revenue | The amount of revenue received by a firm from the sale of a particular quantity of output (equal to price times quantity sold). |
| Tradable permits | Permits to pollute, issued by a governing body, that sets a maximum amount of pollution allowable. These permits may be traded (bought or sold) in a market for such permits. |
| Tragedy of commons | A situation with common pool resources, where individual users acting independently, according to their own self-interest, go against the common good of all users by depleting or spoiling that resource through their collective action. |
| Unitary elastic demand | Occurs when a change in the price of a good or service leads to an equal and opposite proportional change in the quantity demanded of the good or service (PED = 1). |
| Unitary elastic supply | Occurs when a change in the price of a good or service leads to an equal proportional change in the quantity supplied of the good or service (PES = 1). |
| Universal basic income | A regular cash payment given to all persons in an economy that is independent of any other source of income they may have. It is intended to reduce poverty and income inequality. |
| Sustainable development goals (SDGs) | The UN set out 17 global goals including those that aim to end all forms of poverty, fight inequalities and tackle climate change. |
| Utility | A measure of the satisfaction derived from consuming a good or service. |
| Wage | Payment received by the factor of production labour, which is a certain amount per unit of time. |
| Wealth | The total value of all assets owned by a person, firm, community, or country minus what is owed to banks or other financial institutions. |
| Welfare loss | A loss of a part of social surplus (consumer plus producer surplus) that occurs when there is market failure so that marginal social benefits are not equal to marginal private benefits |
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