GMU Econ 104 Exam 1 - Dr. Rustici – Questions and
Answers (A+ Graded)
Spontaneous Order - -Economics is the bridge between two worlds; the inner subjective
consciousness (mind, values, wants/needs, etc.) and social order (economy, market,
institution, etc.)
-Microeconomics - -"Price theory"; observing the details of the consumers behavior, why
are prices what they are, price of specific product, number of employees in a firm, etc.
-Macroeconomics - -"The Whole Economy"; coordination of everything, examines the
performance and behavior of the economy as a whole, focuses on economic growth,
interest rates, and inflation
-Types of Spontaneous Orders - -1. Price system (Information System)
2. Money (Medium of Exchange)
3. Financial Intermediaries (Banks)
4. Stock & Bond Markets (Exchange of Ownership)
5. Speculation & Future Markets (Information)
6. Accounting (Information)
-Innovation - -Stems from a division of labor and division of knowledge; No one person is
able to produce a pencil. It comes from a long line of varied skills and knowledge from
harvesting raw materials to producing the final product.
-Theory - -Abstraction away from reality; We simplify reality to find causation (like a
roadmap), and derive future predictions. This is why theories can be disputed or lead to
disagreements.
-Normative Questions - -Questions of "what ought to be". In Economics these are value
judgments about what the economy should be like or what particular policy actions should
be recommended to achieve a desirable goal, "what we should do", an opinion
-Positive Questions - -Questions about "what is", answers that can be proven, on facts and
cause/effect relationships. In Economics this includes description, theory, development &
testing, avoids value judgements
-Basic Assumption 1: Scarcity Forces Choice - -Scarcity always exists because all needs are
not fulfilled by scarcity. Prices are evidence of scarcity, if something has a price it is scarce.
-Basic Assumption 2: Only Individuals Choose (Methodological Individualism) - -"We are
the economy" because the choice-maker is the unit of analysis. There is no greater mind
making decisions for us.
, -Basic Assumption 3: Rational Choice - -There is purpose and intent in our choices; we are
aiming for some objective (a means to an end). One can make mistakes and still be rational.
-Basic Assumption 4: Unlimited Wants & Desires - -Humans are hardwired to imagine and
want. Satisfaction just leads to "what's next?"
-Aristotle Coins "Economics" ~300 BCE - -Posed the "Equality of the Exchange" idea in
which people make trades of equal values which sets the price.
The problem with this is no trade is possible with equal values. Trade must be beneficial,
thus prices arise from unequal values.
-St. Thomas Aquinas' Scholasticism 1300 AD - -The "Just-Price" Doctrine was inherently
flawed because it was a normative theory in search of a positive answer. Instead of
questioning a price it was judged on fairness.
The problem is that one "just price" does not exist. The Salamanca's come to this conclusion
in the 1600's
-Mercantilism (Colbertism) 1500's-1776 (Thomas Mun, John Law, and Jean Colbert) - -4
Fatal Flaws:
1. All social order was "planned" by king/govt. (Need spontaneous order).
2. Money wasn't wealth for the nation. (Goods & Services are real, money isn't (nominal
variable)).
3. Trade was a "zero-sum" game. (Trade should produce positive gains).
4. People were separated from the economy (King was taking 80% income, people were
poor and suffering)
-Ossification (from Mercantilism) - -Planning that ends up resulting in complete chaos
-Adam Smith's Classical School 1776 - -Found Mercantilism ethically and scientifically
false, says markets are driven by self-interest and greed, the dialogue of the marketplace is
mutual reciprocity, and there is an invisible hand to move economic forces.
-Mutual Reciprocity - -Both parties receive positive gain
-Invisible Hand - -A phrase coined by Adam Smith to describe the process that turns self-
directed gain into social and economic benefits for all
-Classical Price Theory Mistakes - -1: Logic of an infinite regress in value; explaining prices
with prices.
2: Labor was the source of value; labor is not a source of value.
3: Intrinsic and Objective view of value. Value is subjective. Subject attaches value to an
item. (Water-Diamonds Paradox)
Answers (A+ Graded)
Spontaneous Order - -Economics is the bridge between two worlds; the inner subjective
consciousness (mind, values, wants/needs, etc.) and social order (economy, market,
institution, etc.)
-Microeconomics - -"Price theory"; observing the details of the consumers behavior, why
are prices what they are, price of specific product, number of employees in a firm, etc.
-Macroeconomics - -"The Whole Economy"; coordination of everything, examines the
performance and behavior of the economy as a whole, focuses on economic growth,
interest rates, and inflation
-Types of Spontaneous Orders - -1. Price system (Information System)
2. Money (Medium of Exchange)
3. Financial Intermediaries (Banks)
4. Stock & Bond Markets (Exchange of Ownership)
5. Speculation & Future Markets (Information)
6. Accounting (Information)
-Innovation - -Stems from a division of labor and division of knowledge; No one person is
able to produce a pencil. It comes from a long line of varied skills and knowledge from
harvesting raw materials to producing the final product.
-Theory - -Abstraction away from reality; We simplify reality to find causation (like a
roadmap), and derive future predictions. This is why theories can be disputed or lead to
disagreements.
-Normative Questions - -Questions of "what ought to be". In Economics these are value
judgments about what the economy should be like or what particular policy actions should
be recommended to achieve a desirable goal, "what we should do", an opinion
-Positive Questions - -Questions about "what is", answers that can be proven, on facts and
cause/effect relationships. In Economics this includes description, theory, development &
testing, avoids value judgements
-Basic Assumption 1: Scarcity Forces Choice - -Scarcity always exists because all needs are
not fulfilled by scarcity. Prices are evidence of scarcity, if something has a price it is scarce.
-Basic Assumption 2: Only Individuals Choose (Methodological Individualism) - -"We are
the economy" because the choice-maker is the unit of analysis. There is no greater mind
making decisions for us.
, -Basic Assumption 3: Rational Choice - -There is purpose and intent in our choices; we are
aiming for some objective (a means to an end). One can make mistakes and still be rational.
-Basic Assumption 4: Unlimited Wants & Desires - -Humans are hardwired to imagine and
want. Satisfaction just leads to "what's next?"
-Aristotle Coins "Economics" ~300 BCE - -Posed the "Equality of the Exchange" idea in
which people make trades of equal values which sets the price.
The problem with this is no trade is possible with equal values. Trade must be beneficial,
thus prices arise from unequal values.
-St. Thomas Aquinas' Scholasticism 1300 AD - -The "Just-Price" Doctrine was inherently
flawed because it was a normative theory in search of a positive answer. Instead of
questioning a price it was judged on fairness.
The problem is that one "just price" does not exist. The Salamanca's come to this conclusion
in the 1600's
-Mercantilism (Colbertism) 1500's-1776 (Thomas Mun, John Law, and Jean Colbert) - -4
Fatal Flaws:
1. All social order was "planned" by king/govt. (Need spontaneous order).
2. Money wasn't wealth for the nation. (Goods & Services are real, money isn't (nominal
variable)).
3. Trade was a "zero-sum" game. (Trade should produce positive gains).
4. People were separated from the economy (King was taking 80% income, people were
poor and suffering)
-Ossification (from Mercantilism) - -Planning that ends up resulting in complete chaos
-Adam Smith's Classical School 1776 - -Found Mercantilism ethically and scientifically
false, says markets are driven by self-interest and greed, the dialogue of the marketplace is
mutual reciprocity, and there is an invisible hand to move economic forces.
-Mutual Reciprocity - -Both parties receive positive gain
-Invisible Hand - -A phrase coined by Adam Smith to describe the process that turns self-
directed gain into social and economic benefits for all
-Classical Price Theory Mistakes - -1: Logic of an infinite regress in value; explaining prices
with prices.
2: Labor was the source of value; labor is not a source of value.
3: Intrinsic and Objective view of value. Value is subjective. Subject attaches value to an
item. (Water-Diamonds Paradox)
