Economics Cheat Sheet

ECONOMICS CHEAT SHEET METHOOGY 1. Definition of Economics • The science of balancing our needs/wants with limit • The study of how society manages its scarce resources 2. Principle of scarcity • The limited nature of society’s resources • A society cannot give every individual the highest standard of living to which he or she might aspire. • AKA TRADE OFFS!!! 3. Opportunity cost • The slope of rise over run • Whatever must be given up to obtain some item • Input 4. Circular flow diagram • Assume there are only 2 groups in the economy (household and firms) • Assume there are only 2 markets (factors of production, goods/services) • Inner loop: flow of inputs and goods & services • Outer loop: flow of $ 5. PPF diagram • Captures trade off • Captures opportunity costs • Not constant, keeps changing o If it is a straight line then slope is constant • Ppf changes over time o Lose/gain resources Lose/gain technology 6. Pos/normative • Positive – how it is- scientists • Normative – how it should/ought to be – policy advisors GAINS FROM TRADE 1. Ranger and Farmer example 2. Comparative advantage • Ability to produce at a lower OPPORTUNITY COST than another • A country cannot have comparative advantage over everything 3. Absolute advantage • Ability to produce using fewer inputs over another • A country may have an absolute advantage in the production of

everything o Example: rancher is better at everything HOW MARKET WORKS 1. What determines Q a. Quantity Demand – quantity buyers are willing to buy at any given price • If buyers buy more, increase in demand. Shift to right • If buyers buy less, decrease in demand. Shift to left. • Income • Price of related good • Preference or taste • Expectation • Number of buyers b. Quantity Supply – amount sellers are willing or able to sell at any given price • Positive relationship - Qty Supplied and price • Input prices • Technology • Expectation of tomorrow • Number of sellers 2. Law of a. Demand • Other things equal, there is a negative relationship between the quantity demand of a good and the price of that good • INVERSE RELATIONSHIP • If $ of good changes, the Qty Demand will change b. Supply • Positive relationship between Qty supplied and price • Move in same direction • Increase of price = increase of Qty supplied, vice versa 3. differences between moving along the curve and the shift of curves (s&d) a. Demand • If price of the good changes, the Qty D will move along the Demand Curve • If any of the other factors change, then the Demand curve will shift. b. Supply • If there is a change in price, the Qty S will move along the Supply curve • If any of the factors are changed, then Supply curve will shift.

4. normal & inferior goods a. normal good • a good for which, other things equal, an increase in income leads to an increase in demand b. inferior good • a good for which, other things equal, an increase in income leads to a decrease in demand 5. compliments & substitutes a. substitutes • two goods for which an increase in the price of one leads to an increase in the demand for the other b. complements • two goods for which an increase in the price of one leads to a decrease in the demand for the other 6. Difference between Qd Qs at equilibrium • Qty D MUST = Qty S at equilibrium… MUST!!! 7. What happens when there is no equilibrium 8. What happens when there is a shortage/surplus a. Surplus • IF GOING PRICE IS ABOVE EQUILIBRIUM – Qs > Qd • Excess demand • Sellers will decrease price and Qty D go up until you reach the equilibrium b. Shortage • IF GOING PRICE IS BELOW EQUILIBRIUM • Qd > Qs • Excess demand • Price will go up until you reach equilibrium 9. Difference between going price and equilibrium a. Equilibrium • Where Qd is equal to Qs, • Where they intersect on the map b. Going price • What everyone else is selling it as

No change No change

No change in Pe or Qe

SUPPLY Increase

Decrease

Qe  Pe 

Qe  Pe 

Increase

Qe  Pe 

Qe  Pe – Ambiguous

Qe – Ambiguous Pe 

Decrease

Qe  Pe 

Qe – ambiguous Pe 

Qe  Pe – ambiguous

10. What happens when both move (TABLE) ELASTICITY

ED

1. know everything about P 2. Demand – if response is substantial  elastic; if response is less than substantial, demand  inelastic 3. definition • measure how buyers respong to change in price 4. calculations – MIDPOINT FORMULA! • EDP= % QD % P D • % Q = Q2 – Q1 (Q2 + Q1) / 2 • % P = P2 – P1 (P2 + P1) / 2 5. determinates • Availability of substitutes i. More subs  more elastic ii. Less subs  less elastic, INELASTIC • Necessity vs Luxury i. Luxury  more elastic ii. Necessity  less elastic, INELASTIC

•

Market Definition i. More narrowly defined  more elastic ii. More broadly defined  less elastic, INELASTIC • Time Horizon i. Long run  more elastic ii. Short term  less elastic, INELASTIC 6. Interpretation • If EDP > 1 • then %change in Qd > % change in P • Buyers are very responsive • Demand is elastic • D curve is flat b. • • • •

If EDP < 1 Then % change in Qd < % change in P Buyers are not that responsive Demand is inelastic D curve is steep

c. • • •

If EDP = 1 Then the changes = each other Demand is unit elastic D curve is neither flat nor steep

7. what D curve looks like when… • elastic • inelastic • perfectly elastic • perfectly inelastic