Unit 1: Fundamentals of Economic Analysis

Economics

The social science concerned with the efficient use of scarce resources to achieve maximum satisfaction of economic wants.

Scarcity

Exists because society has unlimited wants but limited resources; it is not the same as poverty.

Trade-off

Giving up one thing to get another when making choices due to scarcity.

CELL

A mnemonic for the factors of production: Capital, Entrepreneurship, Land, Labor.

Land

All natural resources used in production, such as water, oil, and minerals.

Labor

The physical and mental effort used to produce goods and services.

Capital

Human-made resources used to create other goods, which includes physical capital and human capital.

Human Capital

The skills or knowledge gained by a worker through education and experience.

Entrepreneurship

The skill of combining land, labor, and capital to create new goods and services, taking risks for profit.

Money is NOT capital

Money facilitates trade but is not a productive resource itself.

Opportunity Cost

The value of the next best alternative given up when a choice is made.

TINSTAAFL (There Is No Such Thing As A Free Lunch)

Even 'free' items have opportunity costs associated with them.

Production Possibilities Curve (PPC)

A graphical model that shows the alternative combinations of two goods that an economy can produce.

Efficient

Points on the PPC indicate the economy is operating at full potential.

Inefficiency

Points inside the PPC indicate that resources are underutilized.

Unattainable production levels

Points outside the PPC represent levels of production that cannot be achieved with current resources.

Law of Increasing Opportunity Cost

As more of one good is produced, the opportunity cost of the other good increases.

Shifters of the PPC

Factors that can cause the PPC to shift: changes in resource quantity/quality, technology, and trade.

Absolute Advantage

The ability to produce more of a good/service with the same resources or less time than another producer.

Comparative Advantage

The ability to produce a good/service at a lower opportunity cost than another producer.

Terms of Trade

The exchange rate between two trading partners that must fall between their opportunity costs for trade to be beneficial.

Output Method (OOO Rule)

A method to calculate opportunity cost based on the output produced with fixed resources.

Input Method (IOU Rule)

A method used to find opportunity costs based on resources needed to produce a good.

Efficiency vs. Allocative Efficiency

Productive efficiency occurs at any point on the PPC, but only one point is allocatively efficient (most desired by society).

Common Mistakes

Assuming absolute advantage dictates production, thinking money is capital, or miscalculating input/output problems.

Unemployment vs. Shift in PPC

Unemployment represents a point inside the curve, while shifts in the PPC occur due to changes in resources or technology.