Microeconomics Chapter 1: The foundations of Economics
Capital Good: Good that is used for the production of other goods and services.
Capital: Refers to non-natural (manufactured) products such as machinery, tools and
equipment that are used in the production process.
Change: The act of being different in the study of economic theory and in real world
events.
Choice: To select among alternatives due to the scarcity of resources.
Circular flow of income model: This model shows how income flows in an economy
between the different economic agents such as firms, households and the government
and the foreign sector.
Consumer Good: Good whose end purpose is consumption.
Distribution of income: The spread of an economy’s total income across different
individuals or different groups in the population.
Economic Good: Good that is of limited supply thus having an opportunity cost.
Economic system: System of production, resource allocation and distribution of goods
and services within a society.
Economic well-being: The level of prosperity, economic satisfaction and standards of
living among the members of a society.
Efficiency: The best possible use of scarce resources to avoid waste while producing
goods and services.
Entrepreneurship: Type of resource involving human ability to innovate, take business
risks, and organise other factors of production to produce goods and services.
Equity: Normative concept of fairness based on an individual's perspective and beliefs.
Factors of production: All resources such as land, labour, capital and
entrepreneurship which are used for the production of goods and services.
Free Good: Good that is not scarce and thus has a zero opportunity cost.
Free market economy: An economic system that relies on the market forces of
demand and supply to allocate scarce resources in the economy.
Goods: Tangible products that satisfy human needs and wants.
Human Capital: The skills, abilities and knowledge acquired by people and the level of
health enabling humans to be more productive.
Injections: Refers to an inflow of income in the economy, including government
spending, export and investment.
Interdependence: This refers to the growing interaction and reliance on others in order
to achieve economic goals, because individuals and societies are not self-sufficient in a
rapidly changing world.
Intervention: This refers to the roles and responsibilities of governments in terms of
monitoring and regulating the behaviour of the workings of different markets in the
private sector.
Labour: Type of resource including the physical and mental effort that people contribute
to the production of goods and services.
Land: Type of resource including all natural resources that are used in the production
process.
Leakages/Withdrawals: Refers to an outflow of income from the economy, including
savings, taxation and imports.
Macroeconomics: The branch of economics that examines the economy as a whole by
use of aggregates, which are wholes or collections of many individual units, such as the
sum of consumer behaviours and the sum of firm behaviours, total income and output of
the entire economy.
Microeconomics: The branch of economics that examines the behaviour of individual
decision- making units, consumers and firms; is concerned with consumer and firm
behaviour and how their interactions in markets determine price in goods markets and
resource markets.
Mixed economy: An economic system that features aspects of both a planned and
market economic system, with some resources being owned and controlled by private
individuals while others are owned and controlled by the government.
Needs: Goods and services that are essential for survival.
Normative economics: The body of economics based on statements which involve
beliefs, or value judgements about what ought to be.
Opportunity cost: Value of the next best alternative that must be sacrificed to obtain
something else.
Planned economy: System where all economic decision-making is carried out by
government planning.
Private sector: Parts of the economy that are under the ownership of private individuals
or groups of individuals.
Production possibilities curve (or frontier): Model that represents all combinations of
the maximum amount of two goods that can be produced by an economy, given its
resources and technology.
Public sector: Parts of the economy that are under the ownership of the government.
Resource allocation: Assigning available resources to specific uses among many
possible and competing alternatives.
Scarcity: Condition in which available resources are limited which is not enough to
satisfy unlimited wants.
Services: Intangible products that satisfy human needs and wants.
Sustainability: Maintaining the ability of the environment and the economy to continue
to produce and satisfy the needs and wants of the future generations.
Wants: Desires for goods and services that are not necessary for human survival but
are demanded to fulfil wishes of the consumer.
Chapter 2: Competitive markets: Demand and Supply
Allocative efficiency: Allocation of resources that results in producing the combination
and quantity of goods and services mostly preferred by society.
Competitive market: A situation where buyers and sellers act independently, so that no
one has the ability to influence the price at which the product is sold in the market.
Competitive supply: Two goods that compete with each other for the same resources
for production.
Complements: Are products that are jointly demanded.
Consumer surplus: Difference between the highest prices consumers are willing to pay
and the price that consumers actually pay.
Demand: The willingness and ability of consumers to buy a certain quantity at different
prices during a particular time period, ceteris paribus.
Excess demand/Shortage: Occurs when the quantity demanded is greater than the
quantity supplied at a particular price.
Excess supply/Surplus: Occurs when the quantity demanded is smaller than the
quantity supplied at a particular price.
Growth maximisation: Objective of firms to increase their size and operational scale.
Incentive function: An aspect of the price mechanism which encourages producers
and consumers to change their behaviour in order to maximize their benefits.
Income effect: The change of the demand for a good or service caused by a change in
a consumer's purchasing power due to a change in real income.
Inferior good: A good whose demand varies inversely to changes in income.
Joint supply: Two goods that are derived from the same resource so that it is not
possible to produce more of one without producing more of the other.
Law of demand: States that there is a negative relationship between the price of a
good and its quantity demanded over a particular time period, ceteris paribus
Law of diminishing marginal returns: Theory that states that as more units of a
variable input are added to fixed inputs, the marginal product begins to decrease.
Law of diminishing marginal utility: Theory that states that as the consumption of a
good increases, marginal utility decreases with each additional unit consumed.
Law of supply: State that there is a positive relationship between the quantity supplied
and prices in a particular time period.
Marginal benefit: The amount of additional benefit gained from consuming an
additional unit of a product.
Marginal cost: The amount of additional cost incurred from the production of an
additional unit of a product.
Marginal Product: The additional output produced by one additional unit of variable
input.
Marginal utility: The additional amount of utility gained from consumption of an
additional unit of product.
Market demand: The horizontal sum of all individual demand for a good.
Market disequilibrium: Occurs when the quantity demanded for a product is either
higher or lower than the quantity supplied in the market, leading to either a surplus or a
shortage.
Market equilibrium: Occurs when the quantity demanded is equal to the quantity
supplied in the market, that is, there are no shortages or surpluses.
Market share: Percentage of total sales in a market that is earned by a single firm.
Market supply: The sum of all individual firms’ supplies for a good or service.
Market: Any kind of arrangement where buyers and sellers of a particular good, service
or resource are linked together to carry out an exchange.
Non-price determinants of demand: Variables other than price that can influence
demand for a particular good or service.
Normal good: A good whose demand varies positively to changes in income.
Price mechanism: System where market forces of demand and supply determine the
allocation of resources through prices.
Producer surplus: Difference between the price at which a producer actually sells a
good and the lowest price they are willing to accept to produce and sell the good.
Quantity demanded: The number of units of products in the market that consumers are
willing and able to buy at a particular price, ceteris paribus.
Rational consumer choice: Theory of consumer behaviour which involves making
decisions based on the maximization of total utility under certain sets of assumptions.
Rational producer behaviour: Theory of firms making decisions to optimize their level
of benefit.
Rationing: An aspect of the price mechanism that serves to limit or preserve resources
and goods through prices, that is, higher prices lower the quantity demanded.
Revenue maximisation: Objective of firms to achieve the highest level of revenue
generated by the sale of goods and services.
Signalling function: Is an aspect of the price mechanism that signifies to producers
and consumers where resources are required (in markets where prices are rising) and
where they are not (in markets where prices are falling).
Social surplus: The sum of consumer and producer surplus in a specific market.
Substitutes: Are products in competitive demand, that is, they can be used instead of
each other.
Substitution effect: The change of demand for a product that can be attributed to
consumers switching to cheaper alternatives when its price increases
Supply: The willingness and ability of individual firms to produce and supply to the
market for sale at different prices during a time period, ceteris paribus.
Utility maximisation: Refers to the assumption that consumers aim to maximise their
utility when making decisions concerning the combination of goods and services to
consume.
Utility: Refers to the level of consumer satisfaction from the consumption or use of a
good or service.
Welfare loss/deadweight loss: Loss of a portion of social surplus that arises when
marginal social benefit is not equal to marginal social cost.
Chapter 3: Elasticities
Engel curve: Curve that shows the relationship between consumer income and
demand for a product to determine if it's an inferior or normal good.
Income elastic demand: Occurs when the percentage change in quantity demanded of
a product is greater than the percentage change in income.
Income elasticity of demand: Measure of responsiveness of quantity demanded to
changes in income.
Income inelastic demand: Occurs when the percentage change in the quantity
demanded of a product is less than the percentage change in income.
Luxuries: Goods or services that provide a more comfortable lifestyle.
Mobility of factors of production: The flexibility of substituting factors of production in
the production process.
Necessities: Essential goods or services that consumers buy to meet their needs.
Normal goods: Are goods with a positive income elasticity of demand. Hence,
consumers tend to buy more as their real income level increases.
Inferior goods: Are products with negative income elasticity of demand. The demand
for these products tends to fall when consumer’s income rises.
Perfectly elastic demand: The change in prices results in an infinitely large change in
quantity demanded with a PED value of infinity.
Perfectly elastic supply: The change in price results in an infinitely large change in
quantity supplied with a PES value of infinity.
Perfectly inelastic demand: The change in prices results in zero change in quantity
demanded with a PED value of zero.
Perfectly inelastic supply: The change in prices results in zero change in quantity
supplied with a PES value of zero.
Price elastic demand: Relatively high responsiveness of quantity demanded to
changes in price where the PED value is greater than one implying that there is greater
proportional change of quantity demanded than the proportional change in prices.
Price elastic supply: Relatively high responsiveness of quantity supplied to changes in
price where the PES value is greater than one, implying that there is greater
proportional change of quantity supplied than the proportional change in prices.
Price elasticity of demand: Measure of responsiveness of the quantity demanded of a
good to changes in its price.
Price elasticity of supply: Measures the responsiveness of the quantity supplied of a
good to the change in price.
Price inelastic demand: Relatively low responsiveness of quantity demanded to
changes in prices where the PED value is less than one implying that there is lesser
proportional change of quantity demanded than the proportional change in prices.
Price inelastic supply: Relatively low responsiveness of quantity supplied to changes
in price where the PES value is less than one, implying that there is lesser proportional
change of quantity supplied than the proportional change in prices.
Unitary PED: The proportional change in quantity demanded is equal to the
proportional change in prices with PED value equal to one.
Unitary PES: The proportional change in quantity supplied is equal to the proportional
change in prices with PES value equal to one.
Chapter 4: Government Intervention
Ad valorem tax: Fixed percentage of tax based on the price of the good or service.
Indirect tax: Tax imposed on the spending of goods and services.
Minimum wage: The lowest rate of pay that firms must pay to their employees per time
period, as stipulated by the law.
Price ceiling: A legally set maximum price below the market equilibrium price to
encourage consumption.
Price controls: Are government regulations establishing a maximum and minimum
price to be charged for certain goods and services.
Price floor: A legally set minimum price above the market equilibrium price. Specific
tax: Fixed amount of tax per unit of the good or service sold.
Subsidy: A grant from the government to firms to lower cost of production and
encourage production.
Chapter 5: Market Failure (Negative externalities)
Carbon tax: Tax per unit of carbon emissions due to the use of fossil fuels.
Common pool resources: Resources that are not owned by anyone and do not have a
price and are available for anyone to use without payment.
Excludable: Means that it is possible to prevent those who are unwilling or unable to
pay from benefitting once the resource has been provided.
Externalities: The negative or positive spill-over effects on third parties, who are not
directly involved in the action of consuming or producing the product.
Marginal private benefits (MPB): Additional benefits to consumers from consuming
one more unit of a product.
Marginal private costs (MPC): Additional costs to producers following the production
of one more unit of a product.
Marginal social benefits (MSB): Additional benefits to society from consuming one
more unit of a product.
Marginal social costs (MSC): Additional costs to society from the production of one
additional unit of a product.
Market Failure: Failure of the market to allocate resources efficiently as too much or
little goods or services are produced or consumed from the socially desirable point of
view.
Negative consumption externalities: Negative spillover effects by consumption
activities leading to a situation where MSB is smaller than MPB.
Negative production externalities: Negative spillover effects by production activities
leading to a situation where MSC is larger than MPC.
Pigouvian tax: Indirect tax designed to correct negative externalities of production or
consumption.
Rivalrous: Consumption of the good by one individual reduces the amount available to
others.
Socially optimal output: The level of output where allocative efficiency is achieved
such that MSB is equal to MSC.
Tradable permits: Permits that can be issued to firms by government authority, which
can also be traded in markets that aim to limit the amount of pollutant emissions of
firms.
Chapter 6: Market failure (Positive externalities and Asymmetric
information)
Free rider problem: Individuals enjoy the use of a product without paying for it.
Positive consumption externalities: Positive spillover effects by consumption
activities leading to a situation where MSB is larger than MPB.
Positive production externalities: Positive spillover effects by production activities
leading to a situation where MSC is smaller than MPC.
Public Goods: Goods that have the characteristics of being non-rivalrous and
non-excludable.
Signalling: Method used by the more informed party to provide information to tackle the
problem of asymmetric information.
Chapter 7: Market Failure (Market Power)
Allocative efficiency: Is the socially optimal situation which occurs when resources are
allocated to their best uses. The condition is P=MC.
Average fixed cost: Fixed cost per unit of output.
Average product: Total quantity of output per unit of input.
Average revenue: Revenue per unit of output.
Average total cost: Total cost per unit of output.
Interdependence: Is a situation which occurs when firms consider the behaviour and
decision of their competitors when determining pricing and non-pricing strategies.
Marginal cost: The additional cost incurred from producing an additional unit of output.
Marginal product: additional amount of output produced by an additional unit of input.
Marginal revenue: Additional revenue of a firm arising from the sale of an additional
unit of output.
Perfect competition: Is a market structure where there is intense competition, with no
individual firm being large enough to have any market power to influence the price.
Total cost: The sum of fixed cost and variable cost.
Total fixed cost: The cost arises from using fixed inputs, which does not change as
output changes.
Total product: Total quantity of output produced by a firm.
Total revenue: Total earnings of a firm from the sale of its output.
Total variable cost: The cost arises from using variable inputs, which changes as
output changes.
Macroeconomics Unit 8: Level of economic activity
Business Cycle: comprises economic fluctuations in the growth of real output,
consisting of alternating periods of expansion (increasing real output) and contraction
(decreasing real output)
Circular flow of income model: Model which shows the flow of resources, product and
income between firms and households in a macroeconomy over a given time period.
Consumption: Total expenditure by households on consumer goods and services over
a period of time.
Contraction: occurs when the economy begins to experience falling real GDP. If the
contraction lasts at least six months (two consecutive quarters), it is termed a recession,
characterized by falling real GDP and growing unemployment of resources.
Expansion: occurs when there is a positive growth in the real GDP. During expansion,
employment of resources increases, and the general price level of the economy usually
begins to rise more rapidly.
Export revenue: Total revenue earned from the sale of domestically produced goods
and services to foreign buyers over a period of time.
Full employment: The maximum use of resources in the economy to produce the
maximum level of output in an economy.
GDP per capita: Value of all final goods and services produced in a country over a
period of time per person in the population.
Government spending: Total expenditure by the government on both consumer and
capital goods over a period of time.
Gross domestic product (GDP): Market value of all final goods and services produced
in a country over a period of time, usually a year.
Gross national income (GNI): Measure of the total income received by residents of a
country equal to the value of all final goods and services produced by factors of
production supplied by the country’s residents regardless of where those factors are
located.
Import expenditure: Total expenditure on foreign-produced consumer and capital
goods over a period of time.
Investment: Total expenditure by firms on capital goods as well as spending on all new
construction over a period of time.
Leakages: Income that flows out of an economy corresponding to savings, taxes and
imports.
Macroeconomics: The branch of economics that examines the economy as a whole by
use of aggregates instead of individual markets.
National income: Total income of an economy, consisting of factor payments or the
sum of wages, interest, rent and profit.
Natural rate of unemployment: Unemployment that occurs when the economy is
producing at its potential level of output.
Net exports: Export revenue minus import expenditure.
Nominal GDP: Value of all final goods and services produced in a country over a period
of time, measured in terms of prevailing prices at the time of measurement.
Peak: represents the cycle’s maximum real GDP, and marks the end of the expansion.
When the economy reaches a peak, unemployment of resources has fallen
substantially, and the general price level may be rising quite rapidly.
Potential output (GDP): Level of output that can be produced when there is full
employment of resources.
Real GDP: Value of all final goods and services produced in a country over a period of
time, measured in terms of base year prices.
Trough: represents the cycle’s minimum level of GDP, or the end of the contraction. A
trough is followed by a new period of expansion (also known as a recovery).
Unit 9: Aggregate Demand and Aggregate Supply
Aggregate Demand: is the total amount of real output that all buyers in the economy
(consumers, firms, the government and foreigners) want to buy at each possible price
level, over a particular time period.
Aggregate Supply: is the total quantity of goods and services produced in an economy
over a particular time period at different price levels.
Inflationary gap: refers to a situation where real GDP is greater than potential GDP
and unemployment is smaller than the natural rate of unemployment due to excess
aggregate demand.
Keynesian Multiplier: Is the change in real GDP divided by the initial change in
expenditure. It shows that whenever there is a change in a component of AD, there is
likely to be a multiplied effect on real GDP.
Long run (Macro): Period of time when prices of resources are flexible.
Recessionary gap: refers to a situation where real GDP is less than potential GDP and
unemployment is greater than the natural rate of unemployment due to insufficient
aggregate demand.
Short run (Macro): Period of time when prices of resources are roughly constant or
inflexible in spite of changes in price levels.
Short-run Aggregate supply curve: is a curve that shows the relationship between the
price level and the quantity of real output produced by firms when resource prices
(especially wages) do not change.
Unit 10: Macroeconomic objectives (Unemployment)
Cyclical unemployment: occurs from declining or low aggregate demand and is also
known as demand-deficient unemployment.
Frictional unemployment: occurs when workers are between jobs. Workers may leave
their job because they have been fired, or because their employer went out of business,
or because they are in search of a better job, or they may be willing to start a new job.
Labour market: rigidities are factors preventing the forces of supply and demand from
operating in the labour market.
Seasonal unemployment: occurs when the demand for labour in certain industries
changes on a seasonal basis because of variation in needs.
Structural unemployment: Type of unemployment that occurs as a result of
technological changes, changing patterns of demand for particular labour skills,
changes to geographical location of industries and labour market rigidities.
Underemployed: Individuals employed in paid work that do not make full use of their
skills or abilities.
