Important Economic i Central Economic Problem the problem of scarcity Scarcity ‘an economic problem that arises due to unlimited wants and limited resources in the world Curve (PPC) / Product Transformation Curve @ curve showcasing the maximum combination of 2 types of goods and services an economy/firm can produce with a fixed amount of resources (Opportunity Cost The next best alternative foregone after a choice is made Factors of production Land: All natural resources Capital: All man-made resources Labour: All human resources Enterprise: Business owners that made use of the other 3 resources to produce goods and services 3 economic questions The 3 questions that every economy/market seeks to answer: 1, What to produce? 2. How to produce? 3. For whom to produce? Economic efficiency A state where resources are allocated in a way where welfare in society is maximised. 2 conditions: a. Productive efficiency ~ attained when firm/economy produces at the output where average production costs is at its minimum b. allocative efficiency (JC2) ~ attained when firm/economy produces at the output where no one else can be made better off without making anyone else worse off i. pareto optimality Note: All points on the PPC are productive efficient but only 1 point on the PPC is allocative efficient. (For JC 1, itis assumed that all points on PPC are economic efficient too) Depreciation/ Capital Consumption Replacement of capital resources due to wear and tear Investment ‘Any production not for present consumption or any production for future consumption Economic Structure The way in which an economy consists of various sectors: Primary Sector ~ extraction and production of primary sources such as agriculture, fishing, mining etc Secondary Sector ~ manufacturing sector Tertiary Sector — Services sector Prepared by Mr Clement TanEconomic System ‘An economic system that decides the allocation of resources: ‘Market economy ~ an economic system where resources and output decisions are allocated according to the price/market mechanism Planned/Command economy ~ an economic systems where resources and output decisions are decided by the government Mixed economy ~ an economic system that combines both the elements of a market and a planned economy Price/market mecha ‘A process in a market where prices change according to differences between demand and supply of the good/service to the point where there is an equilibrium price at an equilibrium output where demand = supply. Equilibrium — a steady state where there is no tendency for change Shortage - where demand is more than supply, leading to upward pressure in price Surplus - where supply is more than demand, leading to downward pressure in price Positive economics Economic statements that are usually descriptive ie. how an economy is. These statements can be tested and is devoid of any value judgement ie. they are objective. They deal with facts (therefore it can be tested to see whether it is right or wrong) Eg. An increase in tourist numbers will create more employment Normative economics Economic statements that are usually prescriptive i.e. how an economy should be. These statements are usually value judgments i.e. they are subje They deal with opinions e.g. Governments should promote tourism to improve the economy (this statement is normative because it cannot be tested. What do you ‘mean by improving the economy? Higher employment, more happiness etc?) ‘The ability of an asset to be sold quickly without much change in price i.e. the more liquid the asset is, the more easily it is to be sold for cash as cash is assumed to be the most liquid Barter ‘A trade system where goods and exchanged based on double coincidence of wants Functions of money (D.U.E.S) Deferred payments (standard of deferred payments: payments can be made in the future such as instalments, credit schemes) Unit of account/ measure of value ( to compare prices) Exchange (medium of exchange: buying and selling of goods and Prepared by Mr Clement Tanservices) Store of value (a store of wealth ie savings and investments) Characteristics of money Durability: how long can it last? Divisibility: whether it can be divided into standardised units? Acceptability: whether it is commonly accepted? Portability: is it easy to carry around? Uniformity: how standardised is it? Limited supply Demand The quantity of a good that consumers are willing and able to buy at any given price ina period of time, holding all other things equal Price elasticity of demand ‘Measures the degree of responsiveness of the change in quantity demand of a good to a change in its price Cross elasticity of demand Measures the degree of responsiveness of the change in quantity demand of good X to a change in price of another good Y Income elasticity of demand Measures the degree of responsiveness of the change in quantity demand of a good to a change in consumers’ income Supply The quantity of a good that producers are willing and able to sell at any given price ina period of time, holding all other things equal Price elasticity of supply ‘Measures the degree of responsiveness of the change in quantity supplied of a good to a change in its price ‘Consumer surplus The difference between the price of what consumers are willing and able to pay and what they actually paid i.e. the area below demand curve and above equilibrium price Producer surplus ‘The difference between the price of what producers are willing and able to sell and what they actually sold i.e. the area above the supply curve and below equilibrium price Market failure (PINE) The failure of the market to achieve an efficient allocation of resources Causes of market failure: «a, Public goods (zero provision by market) b. Imperfect markets (under-provision due to limiting output and setting high prices by firms with monopoly power) c. Natural monopoly (industry where it is better to operate under 1 Prepared by Mr Clement Tanproducer rather than 2 or more producers due to high fixed costs) d. Externalities (merit goods underconsumed and demerit goods overproduced) Public goods Goods that are nor-rivalrous and non-excludable: Non-rivalry- a condition where the consumption of a good by a person will not diminish the satisfaction of another person in consuming the good Non-excludability a condition where it is not possible to prevent anyone from consuming the good i.e. free-rider problem Quasi-public goods: Goods that are either non-rivalrous or non- excludable | Private goods Goods that are rivalrous and excludable Merit goods Goods that have positive externalities: Positive externalities/ External benefit ~a benefit enjoyed by a third party, which is not involved in the transaction of the good, when the transaction takes place Demerit goods ‘Goods that have positive externalities: Negative externalities/ External cost ~ a cost incurred by a third party, which is not involved in the transaction of the good, when the transaction takes place Information failure The lack of information available to consumers leading to a less than ideal decision made in consuming demerit and merit goods Social costs ‘The summation of all costs in society during the transaction of a good i.e. private and external costs | Private costs — the costs incurred by parties directly involved in the exchange of the good i.e. producers and consumers Social benefits ‘The summation of all benefits in society during the transaction of a good i.e. private and external benefits Private benefits - the benefits enjoyed by parties directly involved in the exchange of the good i.e. producers and consumers " Cost-benefit analysis ‘An analysis technique employed by economists/governments to assess the total summation of social costs and social benefits of various projects and to make decisions based on the highest net social benefits enjoyed by a particular project. Shadow prices A technique where economists use a rough estimate of prices to calculate external costs and benefits where no market price is availabl Eg. the time savings when a bridge is built or the lives saved due to a drop in accidents by the construction of the bridge Prepared by Mr Clement TanMoral hazard problem ‘A problem where an agent(seller) has an incentive to hide information from the principal (buyer) to earn more revenues. This arises due to a lack of information available to the buyer Because of the moral hazard problem, it may lead to an adverse selection (bad selection) on the buyer's part Government intervention The process of government stepping in to help correct market failures, governments can do it in three main ways: a. Interventionist (intervene in the market and influence prices and outputs through indirect taxes and producers’ subsidies) b. Provider (government becomes the provider) . Regulation (Government can set laws and regulations) d. Price controls (another form of regulation) Government failure A situation where government intervention actually worsens the effects of market failure instead of correcting them International trade Exchange of goods and services between countries international specialisation The process of an economy focusing on the production of a good and service it has an advantage in terms of production costs or opportunity costs Absolute advantage When a country has an absolute advantage, it means it has lower average production costs in the production of the good, Comparative advantage ‘When a country has a comparative advantage, it means it has lower opportunity costs in the production of the good Competitive advantage hen a country has a competitive advantage, it means it has a niche such as the ability to produce better quality goods Factor endowments ‘The quality and the quantity of factors of production that a country possesses Protectionism Measures adopted by governments to protect their domestic producers from foreign competition by distorting international markets Globalisation ‘The process where the economies of various countries in the world become increasingly integrated and dependent on one another i.e. economic integration. Free trade area (FTA) ‘An area where there is zero tariffs among countries in that area Prepared by Mr Clement TanCustoms union ‘A union where member countries have zero internal tariffs (FTA) and also impose a common external tariff against non-member countries Economic union ‘A union where member countries enjoy the features of custom union and in addition, allows free exchange (zero restriction) of production factors across one another's borders ‘Monetary union ‘A.union where member countries use a common currency Trade creation ‘The process of the generation of new trade between members where member's countries now import goods with lower average production costs from a member country than a non-member country Trade diversion ‘The process of where trade from outside the union is replaced by trade from within, not due to lower production costs (trade creation), but rather due to external trade restrictions i.e. trade diverted from a more efficient non-member to a less efficient member of the union Terms of trade ‘The ratio of a country’s export prices to its’ import prices i.e. measures | the rate of how much a country’s exports can be exchanged for its imports Balance of payments ‘An account that showcases all the transactions of a country’s residents with the rest of the world An outflow of income An inflow of incom | 3 accounts: | a. Current account ~ consists of 3 sections i, Balance of trade in goods and services ii, Current transfers ~ income flows not used directly for the exchange of goods and services lil Factor income payments (profits, dividends, rents) b. Capital account - transfer of ownership of fixed assets (not important) - do note that debt forgiveness is under capital account whereas foreign aid is under current transfers of the current account c. Current account ~ income flows due to investments i, short-term investments (stocks, bonds etc) li, long-term investments (foreign direct investments) Labour force Consists of people in an economy who are willing and able to work Total unemployed + total employed Labour force participation rate ‘The ratio of a country’s labour force size to its working-age population size Working age population ‘The size of a country’s population that is eligible to work usually between 15-64 years old Prepared by Mr Clement TanBirth rate Number of babies per 1000 people Death rate Number of deaths per 1000 people Productivity The number of outputs per unit of input: Labour productivity ~ the amount of output per unit of labour Production measures the amount of output whereas productivity measures the amount of output per unit of input Natural rate of unemployment The rate of unemployment where all labour markets are in equilibrium ina free market economy where there is no involuntary unemployment. Usually about 1-1.5%. Structural unemployment Unemployment caused by a change in economic structure leading to skills being obsolete Frictional unemployment ‘Unemployment caused by a lack of exchange of information between. potential employers and employees Cyclical unemployment/demand — deficient unemployment Unemployment caused by recessions leading to a drop in aggregate demand in an economy Seasonal unemployment ‘Unemployment caused by off-peak seasons Technological ‘A type of structural unemployment where labour is replaced by capital unemployment due to improvements in technology Inflation ‘A persistent rise in the general price level of goods and services| produced within an economy over a period of time, usually a year Demand — pull inflation Inflation caused by an increase in aggregate demand in an economy Monetary inflation - inflation caused by an increase in money supply leading to high disposable income and in turn, higher aggregate demand Cost-push inflation Inflation caused by an increase in production costs in an economy. 2 special types of cost-push inflation: a. Wage push inflation ~ increase in wages bb. Imported inflation - increase in price of imported inputs Consumer price index ‘An index that measures the general price level of goods and services in an economy. Consists of the various items: 2. weights representing the proportion of income spent on an item bb. basket of goods and services representing the consumption pattern Prepared by Mr Clement Tanof an average household c. base year where the CPI = 100 | Aggregate demand The total spending on an economy’s goods and services over a period of time, usually a year 4 kinds of demand/spending/expenditure: a. consumption b. investment ¢. government spending 4. net exports ‘Aggregate supply The total output produced in an economy over a period of time, _ usually a year | Gross Domestic Product The monetary value of all final goods and services produced within an economy in a given period of time, usually a year Real values The values that take inflation into account i.e. nominal value — inflation _ rate Quantity theory of money | A theory that states that increases in money supply only leads to increase in price levels MV = PT where M money supply, V- velocity of money (number of times money changes hands), P -general price level T-total output in an economy ‘Anticipated infiation Inflation that is already expected Unanticipated inflation Inflation that is unexpected. Basically the higher the level of unanticipated inflation, the higher the negative effects of inflation Exchange rate ‘The rate which a country’s currency can be exchanged in terms of | another country | Depreciation of ER—drop in ER Appreciation of ER increase in ER | Devaluation of ER - government policy to depreciate the ER | Revaluation of ER - government policy to appreciate the ER Expenditure switching policies | Government policies that seek to persuade domestic consumers to switch from imports to domestic goods Expenditure reducing policies Government policies that seek to reduce the total level of spending in an economy and in terms reduce the demand for imports Prepared by Mr Clement Tan