Markets in Action

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Economic Problem

The economic problem is how to allocate scarce resourses amongst alternative uses.

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Factors of Production

Land: All natural resources on, above or below the planet surface; eg. raw materials, the site for an office/shop.

Labour: The quantity and quality of human beings; eg. workers.

Capital: Man made means of production; eg. buildings and machines/capital goods - goods bought by firms so they can be used to produce other goods/services.

Enterprise: The factor of production that organises the other factores of production and takes risks; eg. managers.

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Opportunity Cost

The cost, or value, of the next best alternative forgone/given up.

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Demand

The quantity of a product which consumers are willing and able to buy at various prices over a given period of time(under current conditions).

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Supply

The quantity of a product wich producers are willing and able to supply at various prices over a given period of time.

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Price Elasticity of Demand (PED)

A measure of responsiveness of the quantity demanded of a good to a change in the price of the good.

PED = % change in quantity demanded / % change in price

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Income Elasticity of Demand (YED)

A measure of the responsiveness of the quantity demanded of a good to a change in income.

YED = % change in quantity demanded / % change in income

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Cross Elasticity of Demand (XED)

A measure of the responsiveness of demand for one good to a change in the price of another good.

XED = % change in quantity demanded of one good(good A) / % change in price of another good(good B)

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Price Elasticity of Supply (PES)

A measure of the responsiveness of the quantity supplied(not supply) of a good to a change in the price of the good.

PES = % change in quantity supplied / % change in price

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Consumer Surplus

The extra amount a consumer is willing to pay for a product above the price that is actually paid.

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Producer Surplus

The difference between the price a producer would supply a good for and the price they actually receive(the market price).

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Allocative Efficiency

Where scarce resources are used to produce the products most wanted/demanded by consumers.

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Productive Efficiency

Where any output is produced using the least possible amount of scarce resources.

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Economic Efficiency

Where both allocative and productive efficiency occure in a market as scarce resources are being used in the most efficient way from consumers point of view.

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Economic Inefficiency

Where scarce reources are not being used in the best possible way. No allocative and productive efficiency.

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Market Failure

When the free market mechanism leads to a missallocation of scarce resources and so fails to achieve the optimum allocation of resources.

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Externality

When an action taken by one party has an effect on the third parties not involved in the transaction.

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Social Cost

The total cost to society of a particular action.

Social Cost = Private Cost + External Cost

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Private Cost

The costs directly incurred by an individual or firm engaging in an activity.

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Negative Externality

Where a third party suffers from a negative side effect imposed on them from the spillover effect of an economic decision in which they are not involved.

Social Cost > Private Cost

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Social Benefit

The total benefit to society of a particular action.

Social Benefit = Private Benefit + External Benefit

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Private Benefit

The benefits directly gained by an individual/firm engaging in an activity.

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Positive Externality

Where a third party benefits from the positive side effect from the spillover effect of an economic decision which they are not involved.

Social Benefit > Private Benefit

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Merit Goods

Goods which are better for consumers than they realise (due to information failure) and which generate external benefits for third parties.

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Demerit Goods

Goods that are worse for consumers than they realise when they consume it due to information failure.

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Public Goods

Goods that are both non-excludable and non-rival wih consumption.

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Private Goods

Goods that are both excludable and rival/diminish wih consumption.

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Non-Excludable

Once it is provided to one person, it is provided for all.

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Non-Rival

If one person is consuming the product, there isn't less for others.

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Regulation

Passing laws and/or setting controls on the quality or quantity of what is produced and consumed in the markets or on the information that must be provided for consumers.

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Tradable/Pollition Permits

A system aiming to create incentives for firms to reduce the amount of negative externalities they produce, E.g. the polluter pays principle.

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Indirect Taxes

A levy by the government on the production of a good.

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Subsidies

A payment by the government to a business for producing a product/service.

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