Principles chapter 1
1.1
Economics seeks to understand and address the problem of scarcity, which is when human
wants for goods and services exceed the available supply. A modern economy displays a
division of labor, in which people earn income by specializing in what they produce and then
use that income to purchase the products they need or want. The division of labor allows
individuals and firms to specialize and to produce more for several reasons: a) It allows the
agents to focus on areas of advantage due to natural factors and skill levels; b) It encourages
the agents to learn and invent; c) It allows agents to take advantage of economies of scale.
Division and specialization of labor only work when individuals can purchase what they do
not produce in markets. Learning about economics helps you understand the major
problems facing the world today, prepares you to be a good citizen, and helps you become a
well-rounded thinker.
Division of Labor: the way in which the work required to produce a good or service is divided
into tasks performed by different workers
Economics: the study of how humans make choices under conditions of scarcity
Economies of Scale: when the average cost of producing each individual unit declines as
total output increases
Scarcity: when human wants for goods and services exceed the available supply
Specialization: when workers or firms focus on particular tasks for which they are well-
suited within the overall production process
1.2
Explicit Costs the direct cost of an action, usually involves a cash transaction or a physical
transfer of resources.
Implicit Costs the indirect cost of an action, includes the cost of forgoing the next best
option Opportunity Cost all costs associated with an action, both explicit and implicit
Sunk Costs costs that have been paid that cannot be recovered
Trade-Offs a sacrifice of resources (time, money etc.) to achieve a certain benefit
Willingness to Pay the maximum amount of resources a consumer is willing to lose to
achieve a certain benefit
1.3
Marginal analysis is an essential concept for everything we learn in economics, because it
lies at the core of why we make decisions. We have just scratched the surface of it now, but
will go more in depth in Topic 3. For now, we will turn our attention to a slightly different
topic – trade.
Marginal Analysis The examination of the additional benefits of an activity compared to the
additional costs incurred by that same activity
Marginal Benefit The additional satisfaction one gains from an additional unit of an activity
Marginal Cost The additional costs from an additional unit of an activity
Marginal Net Benefit The difference between the marginal benefits and marginal costs of an
action
, Principles chapter 2
2.2
Autarky A state of economic independence or self-sufficiency.
Economic Model A simplified framework that is designed to illustrate complex processes.
Marginal Opportunity Cost A solution that is ethically or legally just and fair, but may not be
wholly satisfactory to any or all the involved parties.
Preferences The ordering of alternatives based on their relative utility, a process which
results in an optimal choice.
Production Possibilities Frontier (PPF) A diagram that shows the productively efficient
combinations of two products that an economy can produce given the resources it has
available.
2.3
In summary, the PPF is a model we can use to represent the production of one or more
parties. Trade allows parties to consume at points outside their PPF when they maximize
comparative advantage. The party with the lower opportunity cost will have the comparative
advantage in the production of a good. Even though a party might have the absolute
advantage in the production of both goods, since comparative advantage is based on
opportunity costs, other parties can still retain comparative advantage. Parties can achieve
gains from trade by specializing in the good they are comparably good at, to the extent that
consumers want that good.
Absolute Advantage when one country can use fewer resources to produce a good
compared to another country; when a country is more productive compared to another
country
Comparative Advantage when a country can produce a good at a lower cost in terms of
other goods; or, when a country has a lower opportunity cost of production
Gains from Trade a country that can consume more than it can produce as a result of
specialization and trade
Law of Diminishing Returns as additional increments of resources are added to producing a
good or service, the marginal benefit from those additional increments will decline
Principles chapter 3
3.1
The model to examine supply and demand is called the competitive market model. In the
competitive market, we assume products are homogeneous, and there is no supplier or
buyer power.
3.2
In this section, we examined the market from the eyes of the consumer and introduced
consumer surplus to explain how a consumer reacts to price changes. In section 3.4, we will
examine the market from the eyes of the producer and introduce the concept of producer
surplus. With a strong understanding of consumer and producer surplus, we can examine
1.1
Economics seeks to understand and address the problem of scarcity, which is when human
wants for goods and services exceed the available supply. A modern economy displays a
division of labor, in which people earn income by specializing in what they produce and then
use that income to purchase the products they need or want. The division of labor allows
individuals and firms to specialize and to produce more for several reasons: a) It allows the
agents to focus on areas of advantage due to natural factors and skill levels; b) It encourages
the agents to learn and invent; c) It allows agents to take advantage of economies of scale.
Division and specialization of labor only work when individuals can purchase what they do
not produce in markets. Learning about economics helps you understand the major
problems facing the world today, prepares you to be a good citizen, and helps you become a
well-rounded thinker.
Division of Labor: the way in which the work required to produce a good or service is divided
into tasks performed by different workers
Economics: the study of how humans make choices under conditions of scarcity
Economies of Scale: when the average cost of producing each individual unit declines as
total output increases
Scarcity: when human wants for goods and services exceed the available supply
Specialization: when workers or firms focus on particular tasks for which they are well-
suited within the overall production process
1.2
Explicit Costs the direct cost of an action, usually involves a cash transaction or a physical
transfer of resources.
Implicit Costs the indirect cost of an action, includes the cost of forgoing the next best
option Opportunity Cost all costs associated with an action, both explicit and implicit
Sunk Costs costs that have been paid that cannot be recovered
Trade-Offs a sacrifice of resources (time, money etc.) to achieve a certain benefit
Willingness to Pay the maximum amount of resources a consumer is willing to lose to
achieve a certain benefit
1.3
Marginal analysis is an essential concept for everything we learn in economics, because it
lies at the core of why we make decisions. We have just scratched the surface of it now, but
will go more in depth in Topic 3. For now, we will turn our attention to a slightly different
topic – trade.
Marginal Analysis The examination of the additional benefits of an activity compared to the
additional costs incurred by that same activity
Marginal Benefit The additional satisfaction one gains from an additional unit of an activity
Marginal Cost The additional costs from an additional unit of an activity
Marginal Net Benefit The difference between the marginal benefits and marginal costs of an
action
, Principles chapter 2
2.2
Autarky A state of economic independence or self-sufficiency.
Economic Model A simplified framework that is designed to illustrate complex processes.
Marginal Opportunity Cost A solution that is ethically or legally just and fair, but may not be
wholly satisfactory to any or all the involved parties.
Preferences The ordering of alternatives based on their relative utility, a process which
results in an optimal choice.
Production Possibilities Frontier (PPF) A diagram that shows the productively efficient
combinations of two products that an economy can produce given the resources it has
available.
2.3
In summary, the PPF is a model we can use to represent the production of one or more
parties. Trade allows parties to consume at points outside their PPF when they maximize
comparative advantage. The party with the lower opportunity cost will have the comparative
advantage in the production of a good. Even though a party might have the absolute
advantage in the production of both goods, since comparative advantage is based on
opportunity costs, other parties can still retain comparative advantage. Parties can achieve
gains from trade by specializing in the good they are comparably good at, to the extent that
consumers want that good.
Absolute Advantage when one country can use fewer resources to produce a good
compared to another country; when a country is more productive compared to another
country
Comparative Advantage when a country can produce a good at a lower cost in terms of
other goods; or, when a country has a lower opportunity cost of production
Gains from Trade a country that can consume more than it can produce as a result of
specialization and trade
Law of Diminishing Returns as additional increments of resources are added to producing a
good or service, the marginal benefit from those additional increments will decline
Principles chapter 3
3.1
The model to examine supply and demand is called the competitive market model. In the
competitive market, we assume products are homogeneous, and there is no supplier or
buyer power.
3.2
In this section, we examined the market from the eyes of the consumer and introduced
consumer surplus to explain how a consumer reacts to price changes. In section 3.4, we will
examine the market from the eyes of the producer and introduce the concept of producer
surplus. With a strong understanding of consumer and producer surplus, we can examine
