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Summary Principles of economics + key terms
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Economics for IB Midterm Summary
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EconomieChapter 1: Thinking like an economist
Economics: Studying choice in a world of scarcity. (Economie is een maatschappijleer)
The scarcity principle: Although we have boundless needs and wants, the resources available
to us are limited. So having more of one good thing usually means having less of another.
Cost-benefit principle: An individual should take an action if, and only if, the extra benefits
from taking the action are at least as great as the extra costs.
o The rationality assumption: People have goals & try to fulfill them as best they can.
The incentive principle: When you want to predict people’s behavior, you best start by
researching their incentives (stimulansen, aansporingen). Een persoon zal namelijk eerder
actie ondernemen als de baten stijgen, niet als de kosten stijgen.
o Economic naturalism: Using insights of the economy to explain people’s behavior.
Pitfalls for decision makers:
Pitfalls #1.: Measuring costs and benefits as proportions rather than as
absolute dollar amounts.
Pitfalls #2.: Ignoring opportunity costs.
If doing activity x means not being able to do activity y, then the
value to you of doing y is an opportunity cost of doing x.
Dit wilt dus zeggen dat kosten worden gedefinieerd als de waarde
van het beste alternatief dat niet wordt gekozen. Dit alternatief
wordt dus opgeofferd. Men spreekt dan van alternatieve kosten
(opportunity cost / schaduwprijzen).
Pitfalls #3.: Failure to ignore sunk costs
These are costs that are beyond recovery at the moment a decision
is made. These costs should be ignored.
Pitfalls #4.: Failure to understand the average-marginal distinction.
Marginal cost: increase in total cost resulting from doing one
additional unit of an activity
Average cost: total cost of doing n units of an activity, divided by n.
, Key terms chapter 1
Economics The study of how people make choices under conditions of scarcity
and of the results of those choices for society.
Rational person Someone with well-defined goals, who fulfils those goals as best
she can.
Economic surplus The economic surplus from taking any action is the benefit of
taking that action minus its cost.
Opportunity cost The opportunity cost of an activity is the value of the next best
alternative that must be forgone in order to undertake the activity.
Sunk cost A cost that is beyond recovery at the moment a decision must be
made.
Marginal cost The increase in total cost that results from carrying out one
additional unit of an activity.
Marginal benefit The increase in total benefit that results from carrying out one
additional unit of an activity.
Average cost The total cost of undertaking n units of an activity divided by n.
Average benefit The total benefit of undertaking n units of an activity divided by n.
Microeconomics The study of individual choice under scarcity, and its implications
for the behavior of prices and quantities in individual markets.
Macroeconomics The study of the performance of national economies and the
policies that governments use to try to improve that performance.
Chapter 2: Markets, specialization and economic efficiency
Why do people exchange goods and services?
o We can all have more of every good and service if we specialize in the activities at
which we are relatively most efficient.
Exchange and opportunity cost
o Absolute advantage: One person has an absolute advantage over another if he takes
fewer hours to perform a task than the other person.
o Comparative advantage: One person has a comparative advantage over another if
his opportunity cost of performing a task is lower than the other person’s
opportunity cost.
o The principle of comparative advantage: Everyone does best when each person (or
each country) concentrates on the activities for which his or her opportunity cost is
lowest.
Comparative advantage and production possibilities
o The principle of increasing opportunity cost (the low-hanging-fruit principle): By
producing certain goods, goods with the lowest opportunity cost have to be
produced before producing goods with higher opportunity costs.
Factors that shift the economy’s production possibility curve
o The quantity of productive resources can grow through:
Investment in new factories and equipment
Population growth
Improvement in knowledge and technology
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