Unit 1: Markets in action
1.3.1 Introductory concepts
1 The nature of economics
● Economics is a social science as it is the study of human behaviour, and choices we
make
○ Natural science → scientists observe aspects of the universe
○ Social science → observations of human behaviour
● Ceteris paribus → all other influencing factors are held constant (remain the same)
○ Used to isolate the effect of a specific variable while keeping other relevant
factors constant, allowing economists to analyze the relationship between
variables without the complications of other influencing factors
● How theories are formed, e.g. demand theory:
○ Observe consumer behavior
○ Form hypothesis of how consumers spend
○ Make predictions from hypothesis
○ Use evidence to test predictions
■ If evidence does not support predictions, reject hypothesis
■ If evidence supports hypothesis, we have the basis of the theory
2 Positive and Normative economics
● Positive statement → a statement that can be proved or disproved using evidence
(objective)
○ Liked in economics as they can be backed up or falsified by evidence
○ Can always be tested against evidence
● Normative statement → a statement that carries a judgement value of what ought to
be (subjective)
○ Disliked in economics, known as value judgements and opinions
○ Opinions can't be tested
3 Scarcity
● Non renewable resources → finite in supply, e.g. crude oil, coal, natural gas
○ Rate of extraction of finite resources depends in part on the current market price
● Renewable resources → are replaceable if the rate of extraction is less than the nature
rate at which the resource renews, e.g. solar, tidal, biomass
● The basic economic problem → unlimited wants, and finite resources
○ To allocate scarce resources, it forces choices to be made between what to
produce, how to produce and for whom to produce for
● Factors of production → the inputs available to supply goods and services in an
economy
, ○ Land: Any raw materials, e.g. agriculture, mining, forestry, fishing and extraction
of crude oil, i.e. natural resources available for production
○ Labour: The workforce, i.e. the human input/resources into the production
process
○ Capital: the amount of investment in a country's infrastructure, i.e. goods used in
the supply of other products
■ Man made aids to production
○ Enterprise: how the government organises entrepreneurial activity in the country
by organising factors of production and take risks to make profits
● Opportunity cost → the cost of any choice in terms of the next best alternative
foregone (sacrificed)
○ Measures whether the choices made are good or bad
● Free goods → A good that is so abundant there is no opportunity cost when you
consume it
○ i.e. When one person uses it it doesn't stop the other person using it
● Economic goods → A good that is scarce and has an opportunity cost
○ It requires resources to produce and choices must be made about allocation
4 Production possibility frontiers (PPF)
● PPF → shows the maximum potential output in an economy with a given set of
resources
● PPFs illustrate…
○ Scarcity → the limited availability of resources (such as labour, capital, and land)
in relation to the unlimited (and often growing) wants and needs of a society
○ Trade offs → that an economy must make trade-offs when allocating its
resources, i.e. producing more of one good necessitates producing less of
another
○ Opportunity costs → the slope represents the opportunity cost of switching from
producing one good to producing the other
■ Using marginal analysis
○ Efficiency → Points along the PPF represent an efficient use of resources,
where the economy is fully utilising all available resources to produce goods and
services, while points inside the PPF are inefficient, indicating that resources are
not fully employed
○ Constraints and Growth → inwards or outwards shifts are based on changes in
the availability of resources, technological advancements or improvements in
productivity. Outward shifts indicate economic growth
○ Assumptions → fixed resources, given level of technology and full resource
utilisation, assumptions which may not always hold
● A straight line PPF is an indication of perfect factor substitutability of resources
○ The marginal opportunity cost of switching resources between consumer and
capital goods is constant
● If the law of diminishing returns holds true, then the opportunity cost of expanding output
of X measured in terms of lost units of Y is increasing
, ● Reasons for outward shifts in the PPF:
○ Increase in natural resources, e.g. discovering oil
○ Technological advancements, which allows faster output
○ Human capital development, i.e. better educated or more skilled workers
○ Investment in capital, i.e. increased investment in infrastructure, machinery and
technology which enhances an economy’s productive capacity
● Productive efficiency → occurs when an economy is producing goods and services at
the lowest possible cost, given its existing technology and resources
○ Achieved when the economy is operating on the PPF curve
● Allocative efficiency → occurs when an economy is producing a mix of goods and
services that best aligns with consumer preferences and social needs
○ Achieved when the economy is producing at a point on the PPF that matches
society’s preferences
● Dynamic efficiency → refers to an economy’s ability to grow and expand its production
possibilities over time
○ Involves an outward shift of the PPF through technological advancements,
investments, innovations, e.g. an innovation in farming which increases yields of
particular crops each year
● Capital goods → Goods that are used to make consumer goods and services
○ Capital inputs include fixed plant and machinery, hardware, software, new
factories and other buildings
○ Capital goods help provide consumer goods
● Consumer goods (and services) → goods and services which satisfy our needs and
wants directly
○ Consumer durables, products that provide a steady flow of satisfaction/utility of
their working life, e.g. smartphone or washing machine
1.3.1 Introductory concepts
1 The nature of economics
● Economics is a social science as it is the study of human behaviour, and choices we
make
○ Natural science → scientists observe aspects of the universe
○ Social science → observations of human behaviour
● Ceteris paribus → all other influencing factors are held constant (remain the same)
○ Used to isolate the effect of a specific variable while keeping other relevant
factors constant, allowing economists to analyze the relationship between
variables without the complications of other influencing factors
● How theories are formed, e.g. demand theory:
○ Observe consumer behavior
○ Form hypothesis of how consumers spend
○ Make predictions from hypothesis
○ Use evidence to test predictions
■ If evidence does not support predictions, reject hypothesis
■ If evidence supports hypothesis, we have the basis of the theory
2 Positive and Normative economics
● Positive statement → a statement that can be proved or disproved using evidence
(objective)
○ Liked in economics as they can be backed up or falsified by evidence
○ Can always be tested against evidence
● Normative statement → a statement that carries a judgement value of what ought to
be (subjective)
○ Disliked in economics, known as value judgements and opinions
○ Opinions can't be tested
3 Scarcity
● Non renewable resources → finite in supply, e.g. crude oil, coal, natural gas
○ Rate of extraction of finite resources depends in part on the current market price
● Renewable resources → are replaceable if the rate of extraction is less than the nature
rate at which the resource renews, e.g. solar, tidal, biomass
● The basic economic problem → unlimited wants, and finite resources
○ To allocate scarce resources, it forces choices to be made between what to
produce, how to produce and for whom to produce for
● Factors of production → the inputs available to supply goods and services in an
economy
, ○ Land: Any raw materials, e.g. agriculture, mining, forestry, fishing and extraction
of crude oil, i.e. natural resources available for production
○ Labour: The workforce, i.e. the human input/resources into the production
process
○ Capital: the amount of investment in a country's infrastructure, i.e. goods used in
the supply of other products
■ Man made aids to production
○ Enterprise: how the government organises entrepreneurial activity in the country
by organising factors of production and take risks to make profits
● Opportunity cost → the cost of any choice in terms of the next best alternative
foregone (sacrificed)
○ Measures whether the choices made are good or bad
● Free goods → A good that is so abundant there is no opportunity cost when you
consume it
○ i.e. When one person uses it it doesn't stop the other person using it
● Economic goods → A good that is scarce and has an opportunity cost
○ It requires resources to produce and choices must be made about allocation
4 Production possibility frontiers (PPF)
● PPF → shows the maximum potential output in an economy with a given set of
resources
● PPFs illustrate…
○ Scarcity → the limited availability of resources (such as labour, capital, and land)
in relation to the unlimited (and often growing) wants and needs of a society
○ Trade offs → that an economy must make trade-offs when allocating its
resources, i.e. producing more of one good necessitates producing less of
another
○ Opportunity costs → the slope represents the opportunity cost of switching from
producing one good to producing the other
■ Using marginal analysis
○ Efficiency → Points along the PPF represent an efficient use of resources,
where the economy is fully utilising all available resources to produce goods and
services, while points inside the PPF are inefficient, indicating that resources are
not fully employed
○ Constraints and Growth → inwards or outwards shifts are based on changes in
the availability of resources, technological advancements or improvements in
productivity. Outward shifts indicate economic growth
○ Assumptions → fixed resources, given level of technology and full resource
utilisation, assumptions which may not always hold
● A straight line PPF is an indication of perfect factor substitutability of resources
○ The marginal opportunity cost of switching resources between consumer and
capital goods is constant
● If the law of diminishing returns holds true, then the opportunity cost of expanding output
of X measured in terms of lost units of Y is increasing
, ● Reasons for outward shifts in the PPF:
○ Increase in natural resources, e.g. discovering oil
○ Technological advancements, which allows faster output
○ Human capital development, i.e. better educated or more skilled workers
○ Investment in capital, i.e. increased investment in infrastructure, machinery and
technology which enhances an economy’s productive capacity
● Productive efficiency → occurs when an economy is producing goods and services at
the lowest possible cost, given its existing technology and resources
○ Achieved when the economy is operating on the PPF curve
● Allocative efficiency → occurs when an economy is producing a mix of goods and
services that best aligns with consumer preferences and social needs
○ Achieved when the economy is producing at a point on the PPF that matches
society’s preferences
● Dynamic efficiency → refers to an economy’s ability to grow and expand its production
possibilities over time
○ Involves an outward shift of the PPF through technological advancements,
investments, innovations, e.g. an innovation in farming which increases yields of
particular crops each year
● Capital goods → Goods that are used to make consumer goods and services
○ Capital inputs include fixed plant and machinery, hardware, software, new
factories and other buildings
○ Capital goods help provide consumer goods
● Consumer goods (and services) → goods and services which satisfy our needs and
wants directly
○ Consumer durables, products that provide a steady flow of satisfaction/utility of
their working life, e.g. smartphone or washing machine
