Ad Valorem Tax. An indirect tax, levied as a percentage of the price of a good. Asymmetric Information. Agents have asymmetric information when some agents have more information than others. Buffer Stock Scheme. Used by the government to reduce price fluctuations by...
Agents have symmetric information when all agents have the same information. Agents have asymmetric information when some agents have more information than others. Asymmetric information can cause market failure. Examples of asymmetric information leading to market...
Markets may fail to allocate resources efficiently, for example in the case of externalities, a monopoly, public goods and/or asymmetric information. Market failure means the government must intervene to correct the market failure. However, government failure could...
An externality is a side-effect on third parties not directly involved in a market transaction. An externality causes market failure because too much/little of a good is produced so there is a welfare loss. Assume there are two producers near a river, a...
Monopolies are Pareto inefficient because they cause a welfare loss. Market failure happens because the price mechanism breaks down and resources are allocated by the monopoly and not free markets. The monopoly restricts output to raise price and maximize profit....
Market failure occurs when the price mechanism allocates resources inefficiently. Market failure means there is allocative and Pareto inefficiency. Allocative efficiency occurs when resources are used to produce what consumers want and in the quantities demanded....
Rivalry and Excludability Private goods are excludable and rival. Excludable means the good can only be used by the consumer who buys it. The buyer owns the property rights over the good. A Milky Way is excludable because if consumer A buys it and eats it, no one else...
A severe problem in commodity markets concerns the wild fluctuation of prices. Commodities include raw materials like metals (copper), minerals (oil) and agricultural output (wheat, sugar, tea and bananas). Causes of Price Fluctuations Many factors cause commodity...
Labour markets are markets for workers. Firms demand labour because labour is part of the production process. Workers supply labour to earn an income. The price of labour is the wage rate. At equilibrium, labour demand equals labour supply, the wage rate is W* and L*...
Maximum Price A maximum price is a price ceiling, the market price cannot rise above it. A maximum price causes price to fall to P’, quantity demanded to rise to Qd and quantity supplied to fall to Qs. Resultantly there is excess demand . A minimum price could be set...
A subsidy is a grant given by the government to producers to encourage the production of a good. A subsidy lowers a producer’s costs and causes an increase in supply so the supply curve shifts right. A subsidy causes price to fall and output to rise. Prices do not...
An indirect tax is a tax levied on the sale of goods. An indirect tax increases a producer’s costs and causes a decrease in supply so the supply curve shifts left. A specific tax is levied as a fixed amount per unit of a good bought/sold. For example, a tax of £10 per...
A government may need to intervene in a market (if there is market failure for example). A government can use indirect taxes, subsidies, minimum and maximum prices to affect price and output.
Producer surplus is a measure of the benefit or welfare that producers derive from selling output. Producer surplus is the difference between what producers are willing (and able) to supply at and what they actually receive. Producer surplus is the area between the...
Consumer surplus is a measure of the benefit or welfare that consumers derive from consumption. Consumer surplus is the difference between what consumers are willing (and able) to pay and what they actually pay. Consumer surplus is the area between the demand curve...
Market equilibrium occurs when demand equals supply. At market equilibrium, the market-clearing (or equilibrium) price P* is charged and output Q* produced and consumed. Markets clear at P* because all the goods on sale by producers are bought by consumers. At...
Adam Smith posits that an ‘invisible hand’ operates in free markets. As long as economic agents (consumers and producers) act in self-interest in a competitive market with perfect information, the ‘invisible hand’ will allocate resources in society’s best interest....
Supply is perfectly elastic if any change in price causes quantity supplied to fall to zero. At the market price P* producers are willing and able to sell an infinite amount of the good. The supply curve is horizontal. Many factors determine PES: 1) Availability of...
Supply is the quantity supplied of a good or service that a producer is willing and able to sell at the market price for a given time period. Movement Along the Supply Curve A supply curve shows the price a producer is willing and able to sell at for each quantity...
Goods that are weak substitutes have a positive , a rise in the price of Y causes a less than proportionate rise in demand for X. For example, tea and coffee. Complements are goods that are bought (usually) to be used together. Assume goods X and Y are complements....
A demand curve for a good shifts if income changes, but the direction and extent of the shift depends on the income elasticity of demand for that good. Income elasticity of demand (YED) measures the responsiveness of demand to a change in income. A normal good has a...
As price falls, ceteris paribus, quantity demanded rises. So demand responds to price changes. If quantity demanded rises a lot when price changes then demand is responsive to price changes. An economist would say demand is therefore elastic. An elastic band can be...
Demand is the quantity of a good or service that a consumer is willing and able to buy at the market price in a given time period. Moving Along the Demand Curve A demand curve shows the price a consumer is willing and able to pay for each quantity demanded. Market...
An economic system is the way an economy produces and allocates resources. There are three economic systems: A free market economy, a mixed economy and a command economy. Free Market A free market economy is an economic system which resolves the basic economic problem...
A way to increase efficiency and output is to specialize. Specialization occurs when a factor of production is devoted to a specific role in the production process. Adam Smith coined the phrase ‘division of labour’ to refer to labour specialization. The division of...
A Production Possibility Frontier (PPF) shows all the different combination of goods an economy can produce if all resources are fully and efficiently employed. The PPF shows the productive capacity of the economy (how much the economy can produce). At point A,...
Man’s infinite wants, his innate desire to have more, leads to scarcity. Scarcity is a situation in which there are only a limited number of resources available to produce goods and services. Resources are known as the factors of production (the inputs used in the...
Microeconomics looks at the decisions of individuals (consumers and producers) in the economy. At the heart of economics is scarcity and choices. Consumers, firms and the government must all make choices over scarce resources. For example, a consumer must choose how...
An economist must distinguish between the sort-run and long-run because a change in a variable can have different effects depending on the time period. The short-run is that period of time in which at least one factor of production is fixed (usually land and/or...
An economist is concerned with the opportunity cost of decisions. Opportunity cost is the next best alternative foregone. Let’s say you have £1 to spend on a chocolate bar and you have the choice of buying a Milky Way for £1 or a Lion bar for £1. You only have enough...
A positive statement can be proved right or wrong by real world data for example, a fact. - “The U.S. has a higher GDP than Spain.” A normative statement is a value judgement or view about what should happen. It usually contains the words ought or should. - “The...