Economics Reviewer
the economic behavior and asks if they are good
Economics - is the branch of knowledge of goods &
services.
- Is first and foremost the study of human
behavior in making choices.
- Proper and efficient production, distribution,
allocation, utilization of goods and services
and to satisfy the unlimited wants and needs
of the society.
Malthusian Theory - according to this theory there is a
gap between food production and population growth.
Thomas Malthus- he stated that “As food production
grows arithmetically, population grows geometrically.”
Abraham Maslow- Hierarchy of needs.
Scarcity- means that the society’s resources have less to
offer that the people wish to have.
Foundations of Economics:
 Unlimited wants and needs
 Scarcity of resources
Methodology in Economics:
 Economic Theory – these are the theories and
principles.
- is an attempt to find
explanations for observed
economic phenomena.
 Economic Model – formal / mathematical
statement of a presumed relationship between
two or more variables.
Controlled Variable – can be manipulated.
Uncontrolled Variable – cannot be manipulated.
Divisions of Economics:
 Microeconomics – individual decision making
units (household and business firm).
 Macroeconomics – function, behavior and
operation of aggregate economic variables.
e.g. production & output
Employment
Investment
Income
General level of prices/pricing
Examples of Macroeconomics:
 Gross National Product (GNP)
 Gross Domestic Product (GDP)
Two types of Market:
 Good
 Resource
Two kinds of questions that economist attempt to
answer:
 Positive Economics – seeks to understand the
behavior and the operation of the economic
system without making judgments.
- It answers the questions: What exists?
And how it works?
 Normative Economics - looks at the outcomes of
or bad whether they can be made better.
- Case to case basis
|prescriptions/suggestions +
judgments
- Elaborative/ essay type
Two Subtypes of Positive Economics:
 Descriptive economics – is simply the gathering /
collection and presentation of data that describes
phenomena and facts. E.g. NSO, NEDA.
 Economic Theory – is a statement of a set or sets
of related statements about cause and effect,
action and reaction.
Criteria for judging economic outcomes
1. Efficiency (Allocative Efficiency) - production at a
least possible cost.
- Least input to produce better output.
2. Equity – equal distribution of wealth and income.
3. Growth – increase in the total output of an
economy.
4. Stability – there is no changes / minimal changes
“Trickledown effect” –the fruits of development must be
realized not only on the top but trickle down also on poor
people.
GIR – Gross International Reserves
Four Categories of Economic Resources:
1. Land – includes all natural resources.
- Income received from these resources is
rent/rental income.
2. Labor – refers to all the physical and mental
talents of individuals available and usable in
producing goods and services.
- Income received: wages/ salaries.
3. Capital – includes all produced goods used again
to produce consumer goods and services.
- income received: interest.
4. Entrepreneur- an individual who combine land,
capital and labor to produce goods and services.
- Income received: profits.
Economic system – is a set of institutional arrangements
and a group of coordinating mechanisms that respond to
the economizing problem.
Three Types of Economic System:
1. Market Economy (Capitalism) - there is a private
ownership of economic resources and the use of
market and prices to coordinate and direct
economic activity.
2. Command Economy (Communism) –
government owns most property resources and
there is central economic planning.
- Goods are allocated base from the needs of
the people.
- “service oriented”
 3. Mixed Economy (Socialism) – an economic
system wherein the basic or key industries are
either owned or controlled by the government or
by the people collectively.
Circular Flow Diagram – a visual model of the
economy shows the income received and payments
made by each sector of the economy.
Economy’s two types of Decision Makers:
1. Households
2. Firms
Two types of market:
1. Good / Product market
2. Resource Market
PDI- Personal Disposable Income
PI- Personal Income
Savings – unspent income.
- Leakage in the two sector model.
Investment – remedy for the two sector model leakage.
Three Sector Model
Government + Household + Business
Tax – leakage in the three sector model.
Government Expenditures – remedy.
Four Sector Model
+ Foreign Countries (Rest of the World)
Import – leakage
Export – remedy.
Production Possibility Frontier – a graph that shows the
various combinations of two commodities that the
economy can possibly produce……
Direct Relationship – implies that two variables change in
the same direction.
Inverse Relationship – implies that two variables change
in the opposite direction.
Independent Variable – is the cause or source and the
one that changes first.
Dependent Variable – the effect/outcome when
independent variable changes.
Demand – is a schedule of the different quantities of a
good that the buyers are willing and able to buy at
different prices at a given time.
Quantity Demanded – is the amount of goods that the
buyers are willing and able to buy at some particular
price.
Law of Demand – indicates that as price increases, a
smaller quantity will be bought; as price decreases, a
larger quantity will be bought.
Other explanation of Law of Demand:
 Income Effect – means that a decrease in the
price of a product will increase the purchasing
power of one’s money income.
 Substitution Effect – indicates that at a lower
price one has the incentive to substitute the
cheaper good for similar goods, which are now
relatively expensive.
Types of Demand:
1. Primary or Consumer Demand – is the demand
for final goods.
a. Individual Demand – is the demand of an
individual consumer for a given
commodity.
b. Market Demand / Collective Demand –
it is the sum total of individual demand.
2. Derived Demand or Producer Demand – is the
demand for the factors of production.
o Demand for the factors of production like
bakers, oven, yeast, flour and other
depends on the desire and income level of
the consumers for the final goods like
bread, cakes, pastries and other bakery
products.
Factors affecting Demand (Determinants of Demand):
1. Numbers of Sellers
2. Consumer’s Income(Superior/Norma Good l &
Inferior Good)
3. Consumer’s Tastes and preferences
4. Prices of related goods
5. Expectations
Two Types of Consumer’s Income:
1. Superior or Normal Good – is a good which
demand increases as consumer income increases.
2. Inferior Good – is a good which demand
decrease as consumer income increases.
Substitute Goods (competing goods) – are goods which
are used in place of other goods.
Complementary Goods – are goods that go together.
Supply – is a schedule of the different quantities of goods
that are sellers are willing and able to sell at different
prices at a given time.
Quantity Supplied – is the amount of goods that the
sellers are willing and able to sell at some particular price.
Law of Supply - indicates that as price increases a larger
quantity will be sold, as price decreases, a smaller
quantity will be sold.
Types of Supply
1. Individual Supply – is the supply of an individual
seller of a given commodity.
2. Market / Collective Supply – is the sum total of
individual supply.
Determinants of Supply
1. Number of Sellers
2. Change in technology / method of production
3. Change in cost production
4. Expectations
Market Equilibrium – the quantity that the buyers are
willing to buy will be equal to the quantity that the sellers
are willing to offer for sale.
- No surplus / no shortage exist.
- No pressure for the price to change.
Equilibrium Price – is the price at which quantity
demanded is equal to quantity supplied.
Equilibrium Quantity – is the quantity exchanged at
equilibrium price.
Surplus – is a situation wherein quantity supplied is
greater than quantity demanded.
Shortage – is a situation wherein quantity demanded is
greater than quantity supplied.
Gross National Product (GNP) – is the market value of all
final goods and services produced in the economy during
a given period of time.
Final Goods – are goods which are final consumption by
the end user.
Intermediate Goods – are goods which are to be
processed further into other goods.
Consumer Price Index (CPI) – is a tool used to measure
the changes in price of the commodities.
Items that are not included/reflected in GNP:
1. Quality of goods and services produced
2. Leisure Time
3. Housewives’ Services
4. Resale
5. Transfer Payments
6. Security
Methods used to measure GNP:
1. Expenditure method/flow of product approach
– this method measures all the money spent on
goods and services by the following sectors:
a. Personal Consumption Expenditures (C)
– spending of consumers on final goods
and services.
b. Gross Private Domestic Investment (Ig)
– spending of business for new capital
goods (investment).
c. Government purchases of goods and
services (G)- spending of all levels of
government.
d. Net Exports of goods and services(Xn)
- are the value of the goods sold outside
the country (exports) less the value of
the goods sold in the country that are
made abroad (imports).
2. Income method or Earnings and cost approach –
this method accounts for all the money received
for the production of goods and services.
3. Industrial Origin method – this method measures
the value of goods and services produced by the
following industries:
a. Agriculture, Fishery and Forestry
b. Industrial Sector
c. Service Sector
4. Value Added Method – this method measures
the value of the goods and services produced
based on the value added at each stage of
production of distribution and included in the
cost to the ultimate consumer.
Value Added – is the difference between the cost of
materials/goods and the value of sales of goods.
Net National Product (NNP) – is gross national
product less capital consumption allowances
(depreciation).
NNP = GNP – Depreciation
National Income – payments of income to the factors
of production.
NI = NNP – Indirect business taxes
Personal Income (PI) – refers to payments of income
to individuals such as rents paid to the owner of the
land, wages paid to the laborers & interests paid to
the owners of capital.
Personal Disposable Income (DI) – refers to the
income left after deducting personal income taxes,
which the individual has at his disposal to spend or to
save.
Personal Savings (S) – refers to income not spent for
consumption.
Consumption Function – is an equation showing the
relationship between the level of consumption and
the level of disposable income.
Consumption Schedule – is a schedule showing the
amounts of household plan to spend for consumer
goods at different levels of disposable income.
Savings – unspent income.
Average and Marginal Propensities – fraction of total
income that is consumed is the average propensity to
consume.
Non-Income Determinant of Consumption – amount
of disposable income is the central factor
determining a household’s consumption and saving.
 Amount of wealth owned by household
 Expectations
 Real interest rates
 Consumer indebtedness
 Tax levels
Investment – second major component of aggregate
expenditure.
- Refers to purchases of machinery, equipment
and tools, all construction and changes in
inventories.
o Firms invest to earn profits.
Aggregate Demand – refers to the quantity of goods and
services that consumers and firms would be willing to buy
at any given price level.
Aggregate Supply – describes what output businesses
would be willing to produce and sell given prices, costs
and market conditions.
Multiplier Effect – shows the number of times in which
the ultimate income exceeds the initial increase in
investment spending.
Business Cycle – the recurrent but non periodic up and
down movement in the level of economic activity, which
extend over a period of several years.
Phases of Business Cycle:
1. Recession – a decline in the Real GDP that occurs
for at least two or more quarters.
2. Low Point or Depression – state of economy
where there are large unemployment rates and a
decline in annual income.
3. Expansion and Recovery – a period in which the
real GDP grows a recovery from recession.
4. Peak – the point at which the real GDP stops
increasing and begins its decline.
Cause of Business Cycle:
1. Change in capital expenditures
2. Inventory adjustments
3. Innovation and imitation
4. Credit and loan policies
5. External shocks
Inflation – is the general increase in prices across the
economy.
Basic Types of Inflation
1. Hyper Inflation – the most extreme inflation
phenomenon with yearly increases of three digit
percentage points and an explosive acceleration.
2. Extremely High Inflation – it ranges anywhere
between 50% and 100%.
3. Moderate Inflation – can be characterized from
1% to 5%.
Other Types of Inflation:
1. Demand Pull Inflation – is caused by an increase
in total spending, which are not accompanied by
increases in total amount of goods and services
sold.
2. Cost Rush Inflation – is caused by increase in the
costs of production, which causes firms to raise
prices.
Unemployment – a situation in which people in the labor
force cannot find jobs within specific period.
- People lose their jobs when production in the
economy decline.
Possible reasons for the decline in production:
 less spending (too much saving)
 technological improvement
Types of Unemployment:
1. Demand Deficit/Cyclical Unemployment – it
occurs when there is not enough demand to
employ all those who want to work.
2. Frictional/Search Unemployment – when
somebody loses their job (or chooses to leave it),
they will have to look for another one.
3. Structural Unemployment – it occur when the
structure of the industry changes.
4. Seasonal Unemployment – it is caused by
seasonal shifts in the labor and demand during
the year.
Working age population – this refer to those aged 15
years old and above and below 65.
Labor Force = Employed + Unemployed
Underemployment – situation where workers have
neither the complimentary resources nor the
opportunities to increase what they perceive as their very
low level of income.
Employment – is a situation where a person 15 years old
or older:
 Who works for pay either for somebody or in
his own enterprise for one or more hours per
week.
 Who works without pay for 15 hours or more
per week in a family enterprise.
 Who has a job but has been temporarily
absent with or without pay.
Labor Force Participation Rate – is the ratio of the labor
force to the total population 15 years old or older.
Full Employment – is something less than 100%
employment of labor force.
 Economists say that is at “full employment”
when it is experiencing only frictional or structural
unemployment. That is, full employment occurs
when there is no cyclical unemployment.
Arthur Okun – was the first to quantify the relationship
between the unemployment rate and GDP gap.
Okun’s Law – states that for every one percentage point
by which the actual unemployment rate exceeds the
natural rate, a negative GDP gap of above 2 percent
occurs.
Theories of Employment:
1. Classical Theory of Employment – states that at
lower wages, employment increases. This implies
that wage is determined by the interplay of
demand and supply of labor in the market.
2. Keynesian Theory of Employment – states that
employment is determined by aggregate demand
for goods and services.
John Maynard Keynes – according to him wage could not
be the primary cause of unemployment because if there
is a greater demand for goods and services in the
economy, the market is good inducing more production
and higher employment.