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Flashcards · AP® Macroeconomics · Unit 1

Unit 1: Basic Economic Concepts flashcards

39 cards on topics 1.1 to 1.6. Pick a topic or study the whole unit.

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1.1 Scarcity

What is scarcity?
Resources are limited but wants are unlimited, so there is never enough to produce everything people want. Every economy and every person faces it, rich or poor, and time is scarce too.
What are the four economic resources, and what income does each earn?
Land (natural resources used in their natural state) earns rent. Labour (human effort, physical or mental) earns wages. Capital (made by people and used to produce) earns interest. Entrepreneurship (organises resources, takes risk, innovates) earns profit.
Is money capital?
No. Capital means physical capital, such as machines and factories. Money buys resources but produces nothing itself, so a firm's bank balance is not capital.
What is the difference between a free good and a zero-price good?
A free good uses no scarce resources, such as air to breathe. A good with a zero price, such as a free school meal, still uses scarce resources, so it is still scarce.
Is a salaried manager an entrepreneur?
No. A salaried manager supplies labour. The entrepreneur organises the other resources and bears the risk.
How is scarcity different from a shortage?
Scarcity: wants exceed resources, in every economy, permanently. A shortage: in one market, buyers want more than sellers offer at the current price, usually temporarily. A sold-out shop shows a shortage.
Classify the fish in a lake and a fishing boat used by a fishing firm.
The fish in the lake before they are caught are land (a natural resource). The boat is capital: made by people and used to produce.

1.2 Opportunity Cost and the Production Possibilities Curve (PPC)

What is opportunity cost?
The next best alternative given up when a choice is made. Scarcity forces trade-offs, and every trade-off has an opportunity cost.
What does a PPC show, and what do points on, inside and outside it mean?
The maximum combinations of two goods an economy can make with all resources fully and efficiently used and fixed technology. On it: efficient, full employment. Inside: some resources unemployed or badly used. Outside: unattainable now.
How do you calculate the per-unit opportunity cost from a PPC?
Per-unit cost of X = Y given up ÷ extra X gained. Moving from 40 to 50 thousand bicycles while rice falls from 60 to 36 thousand tonnes costs 24 ÷ 10 = 2.4 tonnes of rice per bicycle.
What does a bowed-outward PPC mean?
Increasing opportunity cost, because resources are specialised and not equally suited to both goods (the usual case). A straight line means constant opportunity cost; bowed inward means decreasing.
Graph: a recession leaves many workers unemployed. How does this appear on the PPC?
Axes: the two goods, with units, and the curve labelled PPC. The economy is at a point inside the curve; the PPC itself does not shift. Moving from inside back to the curve has an opportunity cost of zero.
What shifts a PPC?
Outward (growth): more or better land, labour, capital or entrepreneurship, or better technology and productivity. Inward: lost resources or productivity. A change that helps only one good pivots the curve out along that good's axis.
A country can make 80 units of X or 20 units of Y, with constant opportunity cost. What is the opportunity cost of 1 Y?
80 ÷ 20 = 4 units of X. The cost of 1 X is the reciprocal, 0.25 Y.

1.3 Comparative Advantage and Gains from Trade

What is comparative advantage?
The ability to make a good at a lower opportunity cost than another producer. Absolute advantage means making more with the same resources. Specialisation should follow comparative advantage.
Country A can make 50 shirts or 25 bags; B can make 30 shirts or 10 bags. Who should make what?
A's cost of 1 bag = 50 ÷ 25 = 2 shirts; B's = 30 ÷ 10 = 3 shirts. A has the comparative advantage in bags and B in shirts.
What range of terms of trade benefits both sides?
More than the seller's opportunity cost and less than the buyer's. For the shirts and bags example: more than 2 but fewer than 3 shirts per bag. Terms equal to one side's cost give that side no gain.
How do you calculate opportunity cost from input data?
Hours per X ÷ hours per Y, with the same good on top. A potter needing 2 hours per pot and 4 per vase: 1 vase costs 4 ÷ 2 = 2 pots. With output data, use the other good on top: max Y ÷ max X.
Does trade shift the PPC?
No. Specialisation and trade let both sides consume outside their own PPC; trade changes consumption, not production possibilities.
Can a producer have the comparative advantage in both goods?
No, with two goods and two producers. It can have the absolute advantage in both. If opportunity costs are equal, there is no comparative advantage and no gain from trade.

1.4 Demand

What is demand?
The quantity buyers are willing and able to buy at each price in a given period, other things equal. Quantity demanded is the amount at one price.
What is the law of demand?
Price and quantity demanded are inversely related, so the demand curve slopes downward.
What is the difference between a movement along demand and a shift of demand?
A change in the good's own price moves along the curve (quantity demanded changes). A change in a determinant (income, related goods' prices, tastes, expectations, number of buyers) shifts the whole curve.
How does a rise in income affect demand?
For a normal good, demand increases (shift right). For an inferior good, demand decreases (shift left). Higher income does not always raise demand.
Coffee becomes more expensive. What happens to the demand for tea, a substitute?
It increases: the demand curve for tea shifts right. A rise in the price of a complement would shift demand left.
Graph: buyers expect the price of X to rise next month. Describe the demand graph now.
Price on the vertical axis, quantity on the horizontal. Demand for X shifts right now from D₁ to D₂: label both curves and draw an arrow. At every price, buyers want more today.
200 identical buyers each want 4 units at VD 10, and the number of buyers rises to 250. What happens?
Market quantity demanded at VD 10 rises from 800 to 1,000 units. It is a shift right, because the number of buyers is a determinant. Add quantities, never prices.

1.5 Supply

What is the law of supply, and why does the supply curve slope up?
Price and quantity supplied are positively related. A higher price covers the rising cost of extra output (increasing opportunity cost) and draws resources into making the good.
What shifts supply left and what shifts it right?
Left: higher input prices, a higher price of an alternative product, an expected future price rise, a per-unit tax, costlier regulation. Right: better technology, more sellers, a per-unit subsidy. Higher cost per unit means left.
Is an upward shift of the supply curve an increase or a decrease?
A decrease. A rightward shift sits lower on the graph and is an increase; an upward shift is the same as a leftward shift, a decrease.
Market supply is Qs = 20P − 10. The price rises from VD 4 to VD 6. What happens?
Quantity supplied rises from 70 to 110 units: a movement along the curve, not a shift.
Graph: farm workers' wages rise. Describe the supply graph.
Price on the vertical axis, quantity on the horizontal. Supply shifts left from S₁ to S₂, labelled with an arrow: at every price, less is supplied. Demand factors such as income never shift supply.
How do you find market supply?
Add all producers' quantities supplied at each price. Firms supplying 30 and 45 units at VD 8 give a market quantity supplied of 75. Never add prices.

1.6 Market Equilibrium, Disequilibrium, and Changes in Equilibrium

What is market equilibrium?
The price at which quantity demanded equals quantity supplied, where the demand and supply curves cross. At any other price the market is in disequilibrium.
What happens at a price above or below equilibrium?
Above: a surplus (Qs exceeds Qd), so sellers cut the price. Below: a shortage (Qd exceeds Qs), so the price is bid up. Buyers and sellers move along the curves; neither curve shifts.
At VD 5, Qd = 90 units and Qs = 130 units. What is happening?
A surplus of 130 − 90 = 40 units, so the price falls. Measure the gap at the given price, not from the equilibrium quantity.
Graph: a new technology cuts production costs. Describe the graph.
Price on the vertical axis, quantity on the horizontal. Supply shifts right from S₁ to S₂; demand does not move. At the old price there is a surplus, so the price falls. New equilibrium: a lower price P₂ and a higher quantity Q₂.
What can you predict when both demand and supply shift?
D up and S up: Q rises, P indeterminate. D down and S down: Q falls, P indeterminate. D up and S down: P rises, Q indeterminate. D down and S up: P falls, Q indeterminate.
Does one event usually shift both curves?
No. Ask whether it affects buyers or sellers. When demand shifts, quantity supplied changes along the same supply curve.

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