Microeconomics Exam Review

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Economics Exam Review
Chapters 2, 3, 4, 5, 6, 7, 8, 13, 14, 15, 16, 17, 21

Chapter 2: Thinking like an economist

Scientific Method- Development and testing of theories about how the world works. This is applicable to studying a nations economy. * Theory and observation, economists collect and analyze data since experiments are often difficult in economics. * Economists make do with whatever data the world happens to give them * Natural experiments offered by history, considering many historical episode and evaluating economy of the past and economic theories of present

-Economists make assumptions; simplify the complex world and make it easy to understand E.g. to study international trade, assume the world consists of only two countries to focus our thinking -Different assumptions answer different questions and using different assumptions when studying the short-run and long run effects of a change -Economists use models composed of diagrams and equations to simplify reality in order to improve our understanding of it

Circular Flow Diagram
-Economy is simplified, Two types of decision makers; households and firms. -Firms produce goods and services using inputs (factors of production) -Households own the factors of production and consume goods/services -They interact in two different markets; Markets for goods and services where households are buyers and firms are sellers. Markets for the factors of production where households are sellers (provide inputs that firms use to produce goods/services) and firms are buyers. -Inner loop of circle reps flows of inputs and outputs

-Outer loop reps corresponding flow of dollars
-More complex circle flow diagram includes roles of government and international trade

Production Possibilities Frontier
-Graph that shows the various combinations of output that the economy can possibly produce given the available factors of production and the available production technology that firms can use to turn these factors into output -Two end points of the PPF reps extreme possibilities but more likely, the economy divides its resources between the two industries. -Because resources are scarce, not every conceivable outcome is feasible (points outside the PPF), not enough factors of production to support those levels of output -Efficient if economy is getting all it can from the scarce resources it has available= Points on the PPF -Inefficient if the economy is producing les than it could from resources it has available= Points inside the PPF -Shows tradeoffs that society faces, only one way of getting more of one good is getting less of the other -Opportunity Cost is what you give up to get something, shown by the PPF slope -Tradeoff can change at anytime, e.g. a technological advance… causing the curve to shift out or inward

-Microeconomics is the study of how households and firms make decisions and how they interact in specific markets -Macroeconomics is the study of economy wide phenomena.
-Both closely intertwined because changes in the overall economy arise from decisions of millions of individuals, both have their own set of models

-Scientists and policy advisers have different goals: use language differently -Positive Statements are descriptive; make a claim about how the world is -Normative Statements are prescriptive and claim how the world ought to be -Evaluate positive statements by examining evidence and evaluating normative statements involves values and facts

Chapter 3: Interdependence and The Gains From Trade

-Gains from trade are less obvious when one person is better at producing every good; however suppose one is better at producing both goods in a trade.

Principle of Comparative Advantage- opportunity cost of two producers; the producer who gives up less of other goods to produce the first good has the smaller opportunity cost of producing it and has the comparative advantage

Absolute Advantage- when comparing the productivity...
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