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Exam 1 Study Guide

by: Abi Johnson

Exam 1 Study Guide Econ 261 macroeconomics

Abi Johnson
Batson,Tammy Renee

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Complete Study Guide for Exam 1 of Macroeconomics
Batson,Tammy Renee
Study Guide
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This 9 page Study Guide was uploaded by Abi Johnson on Monday October 5, 2015. The Study Guide belongs to Econ 261 macroeconomics at Northern Illinois University taught by Batson,Tammy Renee in Fall 2015. Since its upload, it has received 166 views. For similar materials see Macroeconomics in Economcs at Northern Illinois University.


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Date Created: 10/05/15
STUDY GUIDEMACROECONOMICS TEST ONE CHAPTER ONE 1 Scarcity means that society has limited resources and therefore cannot produce all the goods and services people wish to have 2 Economicsthe study of how society manages its scarce resources 3 Economists therefore study how people make decisions how much they work what they buy what they save etc 4 PEOPLE FACE TRADEOFFS a To get something that we like we have to give up something else we also like b GUNS VS BUTTERWhen society spends more at war it spends less on consumer goods to raise the standard of living at home c Efficiencythe property of society getting the most it can from its scarce resources d Equalitythe property of distributing economic prosperity uniformly among the members of society 5 THE COST OF SOMETHING IS WHAT YOU GIVE UP TO GET a Because people face tradeoffs making decisions requires comparing the costs and benefits of alternative courses of action b Considering going to collegebooks tuition room and board c Opportunity costwhatever you must be given up to obtain some item d GIVE UPGET 6 RATIONAL PEOPLE THINK AT THE MARGIN a Rational peoplepeople who systematically and purposefully do the best they can to achieve their objectives b Marginal changea small incremental adjustment to a plan of action c Marginal cost of cell phone billPG 6 d WATER VS DIAMONDSWater has a smaller marginal benefit because it is so plentiful 7 PEOPLE RESPOND TO INCENTIVES a Incentivesomething that induces a person to act b A higher price in a market provides an incentive for buyers to consume less and an incentive for sellers to produce c A tax on gasoline encourages people to drive smaller more fuelefficient cars d Seatbelts cause for an incentive to drive faster 8 TRADE OFF CAN MAKE EVERYONE BETTER a Trade between two countries can make each country better off b Trade allows each person to specialize in the activities she does best whether it is farming sewing or home buildingby trading with others it allows people to buy a greater variety of goods and services 9 MARKETS ARE USUALLY A GOOD WAY TO ORGANIZE ECONOMIC ACTIVITY a Market economyan economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and services b Invisible handbuyers and sellers use selfinterest but in overall it helps the economy 10 GOVERNMENTS CAN SOMETIMES IMPROVE MARKET OUTCOMES a Government can enforce the rules and maintains the institutions that are key to a market economy b Property rightsthe ability of an individual to own and exercise control over scarce resourcesexample farmer owning land and planting corn without worrying that it will be stolen c Market failurea situation in which a market left on its own fails to allocate resources efficiently d Externalitythe impact of one person s actions on the wellbeing of a bystanderexample would be a person driving a car for pollution reasons e Market powerthe ability of a single economic actor to have a substantial in uence on market pricessay a woman owns a single water place and knows that there is no one that can sell water so she ups the prices 11 A COUNTRY S STANDARD OF LIVING DEPENDS ON ITS ABILITY TO PRODUCE GOODS AND SERVICES a Productivitythe quantity of goods and services produced from each unit of labor i Higher productivityis usually correlated with a higher standard of living 12 WHEN THE GOVERNMENT PRINTS TOO MUCH MONEY a In ationan increase in the overall level of prices in the economy i Is caused when the government prints too much money 13 SOCIETY FACES A SHORTRUN TRADEOFF BETWEEN INFLATION AND UNEMPLOYMENT a Most accept the idea that society faces a shortrun tradeoff between in ation and unemployment b Business cycle uctuations in the economic activity such as employment and production c Can change this by changing the amount the government spends the amount it taxes and the amount of money it prints SUMMARY A The fundamental lessons about individual decision making are that people face tradeoffs among alternative goals that the cost of any action is measured in terms of forgone opportunities that rational people make decisions by comparing marginal costs and marginal benefits and that people change their behavior in response to the incentives they face B The fundamental lessons about interactions among people are that trade and interdependence can mutually beneficial that markets are usually a good way of coordinating the economic activity people and that the government can potentially improve market out comes by remedying a market failure or by promoting greater economic equality C The fundamental lessons about the economy as a whole are that productivity is the ultimate source of living standards that growth in the quantity of money is the ultimate source of in ation and that society faces shortrun tradeoff between in ation and unemployment CHAPTER TWO 1 SCIENTIFIC MODEL a Economists use data as it appears b Pay close attention to natural experiments in history 2 ROLE OF ASSUMPTIONS a Assumptions can help to simplify the complex world b Use assumptions to answer different questions c Economic Modelsuse models to learn about the world mostly consist of equations and diagrams 3 CIRCULAR FLOW DIAGRAM a Households and firms b Circular ow diagrama visual model for the economy that shows how dollars ow through markets among households and firms c Market for productionHOUSEHOLDS SELL AND FIRMS BUY Market for goods and servicesHOUSEHOLDS BUY AND FIRMS SELL e The households spend money to buy goods and services from the firms and then the firms use some of the revenue from these sales to pay for the factors of production such as the wages of their workers f PG 23 4 PRODUCTION POSSIBILITIES CURVE a Production possibilities frontiera graph that shows the combinations of output that economy can possibly produce given the available factors of production and the available production technology ALL POINTS ON THE CURVE ARE FEASIBLE AND EFFICIENT POINTS OUTSIDE THE CURVE ARE NOT FEASIBLE POINTS INSIDE THE CURVE ARE NOT EFFICIENT Not feasibleno matter how many resources it is still not possible Efficientif the economy is getting all it can from the scarce resources it has available The only way of producing one more good is to produce one less of the other Opportunity costThe cost of something what you give up to get Economists believe that the curve has a bow shape j PG 26 FOR SHIFTS 5 Microeconomicsthe study of how households and firms make decisions and how they interact in markets a The effects of rent control on the housing NYC 6 Macroeconomicsthe study of economy wide phenomena including in ation unemployment and economic growth a Usually involves government 7 Positive statementsclaims that attempt to describe the world as it is a Testable 8 Normative statementsclaims that attempt to prescribe how the world should be SUMMARY A Economists try to address their subject with a scientist s objectivity Like all scientists they make appropriate assumptions and build simplified models to understand the world around them Two simple economic models are the circular ow diagram and the production possibilities curve B The field of economics is divided into two subfields microeconomics and macroeconomics Microeconomics study decision making by households and firms and the interaction among households and firms in the marketplace Macroeconomics study the forces and trends that affect the economy as a whole C A positive statement is an assertion about how the world is A normative is an assertion about how the world out to be When economists make normative statements they are acting morea s policy advisers than as scientists D Economists who advise policymakers sometimes offer con icting advice either because of differences in scientific judgments or because of differences in values At other times economists are united in the advice they offer but policymakers may choose to ignore the advice because of the many forces and constraints imposed by political process 9 ngng CHAPTER THREE 1 PRODUCTION POSSIBILITIES a PG 49REVIEW REVIEW REVIEW b ALONG WITH SPECIALIZATION AND TRADE 2 Absolute advantagethe ability to produce a good using fewer inputs than another producer a Rose has an absolute advantage in producing cars and computers because she produces 2 cars in 4 weeks and 3 computers while Frank only produces 1 car and 2 computers 3 Comparative advantagethe ability to produce a good at a lower opportunity cost than another producer a Opportunity costwhat we give up to get b Rose has a comparative advantage in cars23 c Frank has a comparative advantage in computersl2 4 PRICE OF TRADE a For both parties to gain from trade the price at which they trade must lie between the two opportunity costs i Comparing the two opportunity costs of one object cars or computers in the case of Frank and Rose ii PG 54 5 SHOULD US TRADE WITH OTHER COUNTRIES a Importsgoods produced abroad and sold domestically b Exportsgoods produced domestically and sold abroad c The country with the smaller opportunity cost should produce that good in other words export that good to import a good that they have a higher opportunity cost in SUMMARY A Each person consumes goods and services produced by many other people both in the United States and around the world Interdependence and trade are desirable because they allow everyone to enjoy a greater quantity and variety of goods and services B There are two ways to compare the ability of two people to produce a good The person who can produce the good with the smaller quantity of inputs is said to have an absolute advantage in producing the good The person who has smaller opportunity cost of producing the good is said to have a comparative advantage The gains from trade are based on comparative advantage not absolute advantage C Trade makes everyone better off because it allows people to specialize in those activities in which they have comparative advantage D The principle of comparative advantage applies to countries as well as to people Economists use the principle of comparative advantage to advocate free trade among countries CHAPTER FOUR 1 WHAT IS A MARKET a Marketa group of buyers and sellers of a particular good or service b Competitive marketa market in which there are many buyers and sellers so that each has negligible impact on the market price i Perfectly competitive 1 Many buyers and sellers 2 Similar products c Because buyers and sellers in perfectly competitive markets must accept the price the market determines they are said to be price takers d Some markets only have one seller considered a monopoly in which that sellers sets the price 2 THE DEMAND CURVE a Quantity demandedthe amount of a good that buyers are willing and able to purchase b Law of demandthe claim that other things being equal the quantity demanded of a good falls when the price of a good rises c Demand schedulea table that shows the relationship between the price of a good and the quantity demanded d Demand curvea graph of the relationship between the price of a good and the quantity demanded 3 SHIFTS IN THE DEMAND CURVE a Income i Normal goodif the demand of a good falls when income falls ii Inferior goodif the demand of a good rises when income falls b Prices of related goods i SubstitutesWhen a fall in the price of one good reduces the demand for another good ii ComplementsWhen a fall in the price of one good increases the demand for another good Tastes Expectations Number of buyers INCREASE IN DEMANDSHIFT TO RIGHT DECREASE IN DEMANDSHIFT TO LEFT 4 THE SUPPLY CURVE a Quantity suppliedthe amount of a good that sellers are willing and able to sell b Law of supplythe claim that all other things being equal the quantity supplied of a good rises when the price of the good rises c Supply schedulea table that shows the relationship between the price of a good and the quantity supplied d Supply curvea graph of the relationship between the price of a good and the quantity supplied 5 SHIFTS IN THE SUPPLY CURVE Input prices Technology Expectations Number of Sellers DECREASE IN SUPPLY SHIFT TO THE LEFT f INCREASE IN SUPPLY SHIFT TO THE RIGHT 6 EQUILIBRIUM a Equilibriuma situation in which the market price has reached the level at which the quantity supplied equals the quantity demanded b Equilibrium pricethe price that balances quantity supplied and quantity demanded c Equilibrium quantitythe quantity supplied and the quantity demanded at the equilibrium price d Surplusa situation in which quantity supplied is greater than quantity demanded e Shortagea situation in which quantity demanded is greater than quantity supplied SUMMARY Got99 99062 A Economists use the model of supply and demand to analyze competitive markets IN a competitive market there are many buyers and sellers each of whom has little or no in uence on the market price B The demand curve shows how the quantity of a good demanded depends on the price According to the law of demand as the price of a good falls the quantity demanded rises Therefore the demand curve slopes downward C IN addition to price other determinants of how much consumers want to buy included income the prices of substitutes and complements expectations and number of buyers If one of the factors changes the demand curve shifts D The supply curve shows the quantity of a good supplied depends on the price According to the law of supply as the price of a good rises the quantity supplied rises Therefore the supply curve slopes upward E In addition to price other determinants of how much producers want to sell include input prices technology expectations and the number of sellers If one of these factors changes the supply curve shifts F The intersection of the supply and demand curves determines the market equilibrium At the equilibrium price the quantity demanded equals the quantity supplied G The behavior of buyers and sellers naturally drives markets toward their equilibrium When the market price is above the equilibrium price there is surplus of the good which causes the market price to fall When the market price is below the equilibrium price there is a shortage which causes the market price to rise H To analyze how any event in uences a market we use the supply and demand diagram to examine how the event affects the equilibrium price and quantity To do this we follow three steps First we decide whether the event shifts the supply curve or demand curve or both Second we decide in which direction the curve shifts Third we compare the new equilibrium with the initial equilibrium 1 In market economies prices are the signals that guide economic decisions and thereby allocate scarce resources For every good in the economy the price ensures that supply and demand are in balance The equilibrium price then determines how much of the good buyers choose to consume and how much sellers choose to produce CHAPTER SIX 7 CONTROLS ON PRICES a Price ceilinga legal maximum on the price at which a good can be sold b Price oora maximum on the price at which a good can be sold 8 PRICE CELININGS a NOT BINDING WHEN THE PRICE CEILING IS ABOVE THE EQUILIBRIUM PRICE b BINDING WHEN THE PRICE CEILING IN BELOW THE EQUILIBRIUM PRICE AND IT CREATES A SHORTAGE 9 RENT CONTROL a Common example of price ceiling b Landlords respond to low rents by not building new apartments and by failing to maintain existing ones c Low rents on the demand side encourage people to find their own apartments creating both supply and demand to be more elastic 10 PRICE FLOORS a BINDING WHEN PRICE FLOOR IS ABOVE THE EQUILIBRIUM PRICE b NOT BINDING WHEN PRICE FLOOR IS BELOW THE EQUILIBRIUM PRICE 11 MINIMUM WAGE a Minimum wage is more binding to teenagers because there is a labor surplusmore teenagers want to work but there isn t enough jobs 12 TAX INCIDENCE a Tax incidencethe manner in which the burden of a tax is shared among participants in a market b WHEN SUPPLY IS MORE ELASTIC THEN DEMANDTAX FALLS ON CONSUMERS c WHEN DEMAND IS MORE ELASTIC THEN SUPPLYTAX FALLS ON PRODUCERS SUMMARY A A price ceiling is a legal maximum on the price of a good or service An example is rent control If the price ceiling is below the equilibrium price then the price ceiling is binding and the quantity demanded exceeds the quantity supplied Because of the resulting shortage sellers must in some way rations the good or service among buyers A price oor is a legal minimum on the price of a good or service A n example is the minimum wage If the price oors is above the market equilibrium it is binding and the quantity supplied exceeds the quantity demanded Because of the resulting surplus buyers demands for the good or service must in some way be rationed among sellers When the government levies a tax on a good the equilibrium quantity of the good falls That is a tax on a market shrinks the size of the market A tax on a good places a wedge between the price paid by buyers and the price received by sellers When the market moves to the new equilibrium buyers pay more for the good and sellers receive less for it In this sense buyers and sellers share the tax burden The incidence of a tax does not depend on whether the tax is levied on buyers and sellers The incidence of a tax depends on the price elasticities if supply and demand Most of the burden falls on the side of the market that is less elastic because that side of the market cannot respond as easily to the tax by changing the quantity bought or sold THE MORE ELASTIC THE MORE SUBSTITUES CHAPTER FIFTEEN 13 HOW IS UNEMPLOYMENT MEASURED a Employedincludes those who worked as paid employees worked in their own business or worked as unpaid workers in a family member s business full time and part time those who were not working but who had jobs from which they were temporarily removed b Unemployedincludes those who were not employed were available for work and had tried to find employment during the previous weeks and those waiting to be recalled to a job from which they were laid off Labor forcethe total number of workers including both the employed and unemployed Not in the labor forcefull time students homemakers and retirees Unemployment rateUNEMPLOYEDLABOR FORCEquotlt 100 Labor force participation ratethe percentage of the adult population that is in the labor force Labor force participation rateLABOR FORCEADULT POPULATION 100 Natural rate of unemploymentthe normal rate of unemployment around which the unemployment rate uctuates 1bon F90 14 15 16 17 18 19 20 21 i AROUND 5 Cyclical unemploymentthe deviation of unemployment from its natural rate a Booms and recessions Discouraged workersindividuals who would like to work but have given up looking for aj ob Frictional unemploymentunemployment that results because it takes time for workers to search for the jobs that best suit their tastes and skills a Mostly voluntary Structural unemploymentunemployment that results because the number of jobs available in some labor markets is insufficient to provide a job for everyone who wants one a A decrease in demand for typewriters would lead to unemployed workers in the typewriter industry Job searchthe process by which workers find appropriate jobs given their tastes and skills UNEMPLOYMENT INSURANCE a Unemployment insurancea government program that partially protects workers incomes when they become unemployed b It increase the amount of employment because unemployment benefits stop when a worker takes a new job the unemployed worker devotes less effort to job search and are more like to turn down unattractive job offers i Less likely to seek out jobs security when they negotiate with employers over the terms of employment UNIONS AND COLLECTIVE BARGAINING a Unionsa worker association that bargains with employers over wages benefits and working conditions b Collective bargainingthe process by which unions and firms agree on the terms of employment c Strikethe organized withdrawal of labor form a firm by a union THEORY OF EFFICIENCY WAGES a Efficiency wagesaboveequilibrium wages paid by firms to increase worker productivity b Betterpaid workers eat a more nutritious diet and workers who eat a better diet are healthier and more productive c The more a firm pays its workers the less often its workers will choose to leave thus a firm can reduce turnover among is workers d All firms want workers who are talented and they try to pick the best applicants but firms can perfectly gauge the quality so higher wages promote better work quality SUMMARY A The unemployment rate is the percentage of those who would like work who do not have jobs The Bureau of Labor Statistics calculates this statistic monthly based on a survey of thousands of households The unemployment rate is an imperfect measure of joblessness Some people who call themselves unemployed may actually not want to work and some people who would like to work have left the labor force after an unsuccessful search and therefore are not counted as unemployed In the US economy most people who become unemployed find work within a short period of time Nonetheless most unemployment observed at any given time is attributable to the few people who are unemployed for long periods of time One reason for unemployment is the time it takes workers to search for jobs that best suit their tastes and skills This frictional unemployment is increased as a result of unemployment insurance a government policy designed to protect worker s incomes E A second reason our economy always has unemployment is minimumwage laws By raising the wage of unskilled and inexperienced workers above the equilibrium level minimumwage laws raise the quantity of labor supplied and reduce the quantity demanded The resulting surplus of labor represents unemployment F A third reason for unemployment is the market power of unions When unions push the wages in unionized industries above the equilibrium level they create a surplus of labor G A fourth reason for unemployment is suggested by the theory of efficiency wages According to this theory firms find it profitable to pay wages above the equilibrium level High wages can improve worker health lower worker turnover raise worker quality and increase worker effort


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