8/2/2019 Fundamentals Cheat Sheet

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apitalism Socialism

Private ownership of mass & production

*Public (gov.) ownership of themeans & production

Free markets *Central planning

de Surplus Exports > Imports Fundamental Questions:

What gets produced? 2) How much? 3) How? 4) Who getst? 5) How do we cope with the change?

suasion is at the heart of what constitutes the economye more important you are, the bigger your rewardthe free market economy, we rely on people buying andng productsWealth of Nations:

minant school at the time was mercantilismeginning of the 16th century to end of 18th centuryminant characteristics:ullionism (gold or silver)

Nations were obsessed with accumulating as much gold ander as possible (to regulate Trade Surplus’) orts of gold/silver > exports of gold/silver creates balance

Smith’s point is that they got this completely wrongith is a philosopher and a humanist 

Deeply concerned about the way people live and the way theyw each other in relation to each otherhen the rate of economic growth exceeds the rate of ulation, the average income increases

More prosperity = higher mortality ratese sustenance of life is physical as well as spiritual

Adam Smith draws a connection between a means to feelpassion in society and the ability to do so

VERTY HEALTH DEATH LIFE

mith argues that gold and silver do not = national wealths the ability to produce the goods and services for a nation’s

essaries and conveniences of lifeonal Wealth: resides in the skill, dexterity, and spirit of 

ustriousness of that nation’s labor at Causes National Wealth? 

e measure of labor productivity is the amount of output/timee single most important cause of National Wealth isrovements in the social division of labor

thmits improvement in division of labor: extent of the market xistence of opportunities for people to exchange in mutuallyeficial exchangesuses improvement: non-interferencessez-faire: Let people trade freely

Money is NOT National Wealth

o money barter economy (has never existed in specializednomy) – aka goods exchanged directly for goodsoney as a medium of exchange

Reduces transaction costss cheaper to go t hrough the middle-man”  pter Seven: The “Invisible Hand” of the market  

wo prices in connection with goods:m = Market price of a goodn = Natural price of a good

A price that is just barely high enough to cover the cost of ducing a thing, it can be higher or lower than market priceoductive resources are necessary to produce thingsut they are scarce – THINGS < WANTSr everything that gets produced, something does NOT get 

duced – everything we do entails cost in a world of scarcitye cost of producing a thing reflects the value of the resources

d to produce it in their next best alternative useaccounting professors vs. English professorshe market places a very low value on intelligence and a very

h value on sociability – If Pm > Pn:rovides people with informationrovides people with incentivesm decreases and Pn increases until Pm = Pnroductive resources are relocated toward increased

duction of the thingitrage: attempting to take advantage of an opportunity toize greater than “normal” gains, and in doing so, reducing thes to others engaging in the same actionLines in a checkout grocery storee only way you can do better than everybody else, is bywing something they don’t know e invisible hand of the market process is constantly

cating productive resources away from less valuable uses and

ards more valuable uses

Market: Some sort of institutional mechanism inwhich people are buying and selling things interms of a mutually agreeable trade* Markets allocate productive resources in away that maximizes individual well-being as theindividuals themselves perceive it to best beservedMarkets work better than any otherinstitutional mechanism that people havedevised to answer the 5 basic economic Q’s  Do a good job of ensuring human freedomSmiths Distinction Between Productive and 

Unproductive Labor 

Productive Labor: That part of the labor forcethat is directly involved in producing thecommunity’s means of subsistence

Unproductive Labor: That part of the labor forcethat is directly involved in producing thingsother than community’s means of subsistence  Smith talks about how this is important forthe “Arts of Civilization”: they produce things

that are enjoyable to societyNot unproductive, just different * The problem is that those who are involved inproductive labor must produce more thanenough to support themselves in order tosustain unproductive workersMathus’ Law: Population tends to growarithmetically : 1, 2, 3, 4, … BUT REALLYPopulation grows geometrically: 1, 2, 4, 8, … * This is because we have a natural tendency tooutdo the rate that nature can produce

resources* Therefore, Mathus’ Law is not a law at all * Montaigne’s advice is to be intellectuallyhumble; every age has taken something forgranted which is false* Mathus is wrong because he did not foreseehuman ingenuity and the technological progress Our ability to support an enormous amount of unproductive workersCAPITAL THEORY: very murky concept Three main sources:1) Labor 2) Land 3) Capital: produced goodsthat are used to produce other goods for sale* Capital and improvements in the division of labor go hand in hand with this economy* The problem is that it is hard to acquire and

accumulate capital – what has to happen??GDP  Two options: 1) consume it 2) save it  Capital cannot exist unless SAVING is aprerequisite – saving gives rise to capitalismAppreciation: Capital being used up slowly* The biggest industry that consumes far morethan it saves is GOVERNMENT Problem of current consumerist economyModern Economic Theory: Peter Heyne’s The

Economic Way of Thinking (Bias = Libertarian) Authors are spelling out basic principles* Keyne’s wrote that there is some factualcontent to economics, but that’s not all  It is a method rather than a doctrine* The approach to economic involves aparticular way of thinking using MethodologicalIndividualism: In trying to understand socialeconomic phenomenon, the individual humanperson is the ultimate unit of exploration* All social phenomenon result from thecalculated choices and actions of individuals(The actions that people take after makingcalculations based on expected benefits orlosses to themselves)* Cannot locate a distinct point of consciousness(mind) in society w/o disregarding the otherpoints (people) that make up the whole thing  society cannot want something

Property Rights: The rules of the game that govern what you can and cannot do with thingsand yourself  private property rights aregenerally acknowledged by everybodyBiases of Economic Theory: Tends to

favor/exclude certain systems (theories)

* Estimator is biased if it tends to give rissystematic error – also applies to hard scPro-Market Bias: In terms of market progCommon Economic Fallacy:1) Ad Hoc Ergo Prompter Hoc Fallacy 99.8% all heroin addicts drank milk aschildren – therefore, we should ban milk  Correlation is not the same thing as ca2) Fallacy of Composition Assuming that what’s true for the one

for the whole3) Man on the Street Fallacy Unqualified authoritative pronouncemon the economyFundamental Principles of Economic The

* We live in a world of SCARCITY! The condition that makes economics pScarcity: The stuff that we use to satisfy isin number than the wants that those goodcould be used to satisfy* Scarcity DOES NOT = rarity Scarcity ia relationship between stuff and wantsThe Law of Demand: When the cost of anyactivity increases, people tend to engage iof the activity. There is a negative relationbetween the cost of doing something, andamount of the thing people will want to dEX: If everyone were armed, would deathincrease or decrease? More people wouldhandguns to settle disputes than currentlMarginalism: Implies that people make

calculated choices on the basis of a compaof the MB’s & MC’s of different courses of * MB’s are the values we expect to realizegain as a result of engaging in some yet toundertaken action* MC’s are the values we expect to give upresult of engaging in some yet to be undeaction To claim that costs don’t matterclaim that there is only one good* People make calculated choices on the ba comparison of the MB’s and MC’s of diff

courses of action* Value the importance we attach to someas a result of our awareness that it can beto satisfyProduction Possibilities Frontier:

* In order to get to point D, we must cons1) An economy’s supply of resources2) The state of production technology3) The state of economic organizationChapter 2: The Economic Way of ThinkinWe must judge by EFFICIENCY Energy output/ energy input * Positive Statement – What IS* Normative Statement – What OUGHT to Efficiency: Is a measure of how well thingworking to achieve maximum benefits wiminimum costs Has to do with subjective value Simply the ratio of MB’s/ MC’s The Relationship btw Exchange and EfficiTHREE GAINS – 1) + Sum: Gains to Winner > Losses to Lo2) 0 Sum: Losses to Loser = Gains to Winn3) - Sum: Losses to Loser > Gains to WinnPursuit of Comparative Advantage: You csomething at a lower cost than someone e1) More efficient resource, use and alloca2) Explains the pattern of the social divisilaborEX: Jane is accountant – gets paid $100/hWould take 10 hrs to paint her house George offers to paint for $10/hr in 30 George has a comparative advantage* Example of Comparative Advantage toInternational Trade: US has CA in producing wheat, Brazil hin producing coffee – Brazil offers 1 ½ C f In a move from anarchy to free trade, t

gains to the winners outweigh the losses losers

8/2/2019 Fundamentals Cheat Sheet

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mand for Donuts:hen price falls from $0.75 to $0.50, the demand foes not nge, but rather the Qd changes  A change in the good’s own

e does not change the demand, only the Qd increase in demand means at every price, Qd goes up and at 

ry Qd, price goes up Demand curve shifts out decrease in demand means at every price, Qd goes down andvery Qd, price goes down Demand curve shifts in

w of Demand: When a good’s price increases, people will buy

of it and when its price decreases, people will buy more of it ess of it (decrease of quantity demanded)

More of it (increase of quantity demanded)e demand for a good is the specific relationship that exists

r a certain time period between a good’s own price and theount of that good that people are willing and able to buy (Qs)

mand Theory: Has to do with the side of the market that dealsh (Substitutes for nearly everything)ngs Held Constant:opulation

ncomes:Normal goods – When income goes up, demand goes upnferior goods – When income goes up, demand goes downechnologyransactions Costseople’s tastes, preferences, perceptions of a good’s quality xpected Future Prices: Expected future goes up, D: Now goes up: Expected future goes down, D: now goes downhe Price of Other Goodsonsider goods A and B – One of three possible relationships:O RELATIONSHIP b. SUBSTITUTES c. COMPLEMENTS

e Elasticity of Demand:e availability of substitutes: The more substitutes = the moree elastic demand will be (Ed = higher); the fewer substitutese less price elastic demand will be (Ed = lower)onger time period, the higher the price elasticity of demandply: A behavioral relationship between P and Qs over aain time periodhen S goes up, at every P, Qs go up and at every Qs, P goes

wn Supply curve shifts out and downhen S goes down, at every P, Qs go down and at every Qs, Ps up Supply curve shifts up and inply and Demand: How markets determine prices and howes provide people with information and incentives that erally enable efficient coordination of a complex socialsion of laborsons Supply Curves are Upward Sloping:

igher prices attract resources away from alternate resourcesigher prices increase the opportunity costs of not producingthing whose price has risen, therefore, people tend toduce more of the thing

nything that causes production costs to increase at all levels of duction will CAUSE a decrease in supply – Three Causes:n increase in the monetary costs of productive resourcesdecrease in productivityn increase in the opportunity cost of producing something

ministered Prices: Government interferes in price settinglegislated maximum price is called a price ceilinglegislated minimum price is called a price flooregislated maximum price is above market equilibrium price,ill have NO effect e Ceiling: If price is set below market equilibrium price therebe a shortage

arcity entails rationing Rationing entails discrimination

e Floor: Minimum WageAt Pf, Qs > Qd (Pf = minimum price to keep the small guy in)

mpetition involves people striving to fulfill the criteria that ers are causing to ration the scarce goods that they ownket Efficiency:uyers and sellers must be price takers

f one seller than monopoly – Q* will be too low & P* too highm the standpoint of efficiency

erfect Information (transparency of markets)o externalitieshe condition that all wants and values must be solvent Princeton – criteria is not only $ but grades and qualificationsmpetition takes place between sellers; not buyers and sellersmpetition takes place between buyers; not buyers and sellers

ernalities: Spill-over costs and benefits that are taken intoount by neither suppliers nor demanders in market progress

egative Externalities: Spill-over costsositive Externalities: Spill-over benefits

Market Failure: Market fails to provide theefficient outcome* Goods that generate negative externalities* As you pursue an activity, marginal costs (mc)increase and marginal benefits (mb) decreaseEliminating Negative Externalities:* Tax vs. Command-&-Control (four industries) 10k tax revenue distribute as 2.5k tax rebateElastic: Price/Expenditures = oppositedirection; Inelastic: Price/Expenditures – same

Positive ExternalitiesSmb > Pmb at all Q’s Government Intervention1) Subsidize Demand  – this persuadespeople to buy more of the thing in question

than they otherwise would => D increase2) Subsidize Supply  – this occurs whenpayments are made to producers to offsetproduction costs => S increase (P increase &Q decrease)Free-Rider Problem – a free rider is someonewho thinks they will get a good whether theypay for it or not -> this problem likely to bemost evident in the case of goods that aredifficult to exclude non-payers fromconsumingPrisoner Dilemma Problem – people think they will not get the good, whether they payfor it or not*coercion works by threatening to reduceoptions*persuasion works by offering to increaseoptionsPrinciple-Agent Problem – interests beingserved-principle is those who are being served-agent is those who are doing the servingGovernment Failure – governmentintervention in the market results in lesseffective outcomes than non-intervention*government has power to legally coerceadultsProblem: rent-seeking behavior  – seek toget govern’t to impose restrictions so theycan get more benefits than they would getthru the free marketASSUMPTION: govern’t sees public asrationally ignorant, free-riders, and rationally

apathetic2 Cases Requiring Government Intervention1) any business that is too big to fail, must beregulated to prevent its failure2) anytime upside gains are privatized andlosses are socialized, institutions will take onfar more risk than is socially optimalMACROECONOMICSSymbols: GDP = Y UnemploymentRate = M

Price Level = P %changeP =Nominal Interest Rate = i Real Interest Rate= rGDP –  all the goods and services that are

 produced in a country’s borders in a calendar 

year measured at current market prices*Real GDP – found when the GDP deflator

filters out adjustments to price changes-> GDP is best measure of economicperformance but does not include everything

 –  does include some things that don’t makeus better off (storm cleanup)Rate of Economic Growth = %changeGDPExpansion = %change Y > 0 and eitherincreaseSlowdown = %change Y > 0 and decreasingRecession = %change Y < 0Per Capita GDP = Y/populationUnemployment Rate = MM = labor force – employed / labor force*Full Employment is the desiredunemployment being achieved (varies,currently 4.5% and %.5%)

Frictional Unemployment – people who arechanging jobs

Structural Unemployment – results ftechnological change or change in the Cyclical Unemployment – those wholayed off Inflation => %changeP > 0Deflation => %changeP < 0Interest Rate is the premium one mustthe future to borrowPositive Time Preference = things are valuable in the present than the future people discount futureFunctions of Money1) medium of exchange 2) store of val3) unit of account 4) standard of defepayment

*central bank controls the money supp(Fed)*Msupply increase => when Fed buyssecurities*Msupply decrease => when Fed sellssecuritiesReserve Requirement: Fed controls Mthru forcing banks to maintain a minimreserveMv = velocity of money-how fast $ mthru the economyIncrease Msupply = decrease i = increPbond = increase Dstock = increase PsD(houses) increase => P(houses)Fiscal Policy –  refers to the governt’s

spending policiesTrade Deficit = net export < 0

Net Exports = exports-importsENCYCLICALSocialism is based on a lie, and anyeconomic system based on a lie cannoendure*consumerism  –  an emphasis on “hav

rather than “being” Obligations – obligated to individual (person) and society*negative rights –  entail obligations to

do” something *positive rights –  entail obligations to

somethingPope says supply and demand take effinto account, but not justice