HL Economics Notes

HL Economics (to note: 12/3 test UP TO DEMAND, not including circular flow of income; 3. ) 1.1 Factors of Production -Capital (physical capital; man-made factor of production used to product goods and services, eg. buildings (factories), machinery, semi-finished goods) (human capital; education and training) (natural capital; everything included in land + other naturally occurring resources like air, soil quality, ozone layer, climate) (financial capital; investments in financial instruments like stocks and bonds) -Entrepreneurship (organises the other 3 factors of production, risk-taking and decision-making) -Land (natural resources) -Labour (physical and mental human effort) (CELL) *money is not a factor of production Why are resources also called factors of production? -they are necessary for production to take place. 1.12 Scarcity, Choice and Opportunity cost > Opportunity cost is the highest valued alternative forgone Eg. If a piece of state land was used to build a hospital, the opportunity cost might be a school. Free and Economic Goods >free goods are goods that are not scarce (can be consumed in as much quantity as needed without reducing its availability to others) & has zero opportunity cost. >economic goods are goods that are scarce, because they are naturally occurring resources or because they are produced by scarce resources, and have an opportunity cost.

1.2 The three basic economic questions: resource allocation & output / income distribution Basic economic questions: >WHAT to produce (decision on the type of goods to produce) >HOW to produce (concern with the method of production, aim to choose the most efficient method of production to make fullest use of scarce resources) >FOR WHOM to produce (concern with the distribution* of output) *distribution: ability to pay VS needs/equity Market VS Government Intervention >Free Market Economy >Command Economy >Mixed Economy 2. Production Possibilities Curve Model PPC -> shows all combinations of 2 goods that can be produced by an economy using -available resources -available technology (fully utilised) Assumption? -full employment of all resources -all resources are efficiently used (used to full potential) (productive efficiency)

3. Circular flow of income NOT TESTED IN UPCOMING 12/3 WA1 Sectors 1. Households 2. Firms 3. Government 4. Foreign/Trade Sector CFY (circular flow of income) -real flow; flow of goods and services -money flow 1. Households: owners of factors of production 2. Firms: buy the factors of production in resource markets and use them to produce goods and services. They then sell the goods and services to consumers in product markets. > 2-sector circular flow of income model (closed economy and without government)

● Some of the income earned by households must be paid to the government in the form of taxes. Taxes are a form of leakage. ● Government will spend money on a wide range of things - schools, roads, hospitals etc. Government spending is a form of injection. 1.4 The method of economics Positive vs Normative Statements -positive statements - true/false based on facts -normative statements- based on judgements Role of positive economics Use of logic - method of reasoning Use of hypotheses - cause and effect relationship Ceteris Paribus Assumption - all other things are assumed to be constant/no change Use of empirical evidence - real world evidence, observations and data Theories in relation to hypotheses - general explanation of a set of interrelated events, usually based on several hypotheses that have been tested successfully Use of laws - based on theories and are known to be valid given that they have been successfully tested many times Use of models - used to illustrate theories (or laws) Importance of refutation - to be able to refute or disprove a hypothesis or theory must be present Role of normative economics Value judgement in policy-making - opinions/subjective judgements; important for economic policy-making Equity and equality - Equity: being fair or just Equality: being equal with respect to something

1.5 Brief History of Economic Thought The Origin of Economic Ideas 18th century: Adam Smith Adam Smith believes that self-interested behaviour of decision makers without government intervention results in competitive market: - This will give rise to a more efficient allocation of resources and greater output, thus benefiting the society - Invisible hand of the market - Wealth of Nations 19th century: Classical Economics Utility Theory in Classical Economics Jeremy Bentham - founder of utilitarianism; “it is the greatest happiness of the greatest number that is the measure of right and wrong.” John Stuart Mill - furthered Bentham’s ideas by blending them with human rights The Concept of the Margin Concept of Utility - satisfaction derived from consuming a good or service Marginal utility - extra satisfaction derived from consuming an extra unit of the good or service; used as a basis for determining the prices of goods & services (eg. the extra satisfaction derived from drinking the first can of 100 Plus after playing sports is considered as marginal utility) This concept of utility forms from the basis of rational consumer behaviour that is used till today in microeconomics Alfred Marshall - used these ideas to come up with the law of demand & demand curve that is used till today Say’s Law in Classical Economics Jean-Baptiste Say (Say’s Law) - supply creates its own demand, a theory that claims that the economy will more towards full employment in the absence of government intervention

Marxist Critique of Classical Economics Karl Marx - capitalism would eventually be replaced by communism because the free market economic system’s internal contradictions would lead to its collapse 20th century: Keynesian Revolution John Maynard Keynes - government intervention is necessary in order to ensure full employment as an economy left on its own will not necessarily lead to full employment. -> resulted in the emergence of macroeconomic policy Monetarist/New Classical Counter Revolution - government intervention prevents the economy from reaching a state of full employment on its own; instead a free market economy without the government intervention will tend towards full employment Milton Friedman - emphasis the role of money in economy; changes in the money supply have major effects on output in the short run & on the price level in the long run 21st century: Behavioural Economics (psychology) Growing awareness of interdependence between the economic society & the environment & the need to move towards a circular economy Considerations of psycholo