S-Cool Revision Summary

S-Cool Revision Summary

Allocative efficiency

A firm is allocatively efficient if it produces at the level of output where its price is equal to its marginal cost. For a whole economy to be allocatively efficient, this must occur in all markets.

Barriers to entry and exit

These are measures taken by firms, or factors that occur naturally, that prevent new firms from entering a given industry. Barriers to exit are, in themselves, barriers to entry, because a firm will not be keen to enter an industry if it knows it will be difficult to exit in the unfortunate circumstance that they make losses.

Black economy

Also the informal economy. This refers to any economic activity that is not officially recorded by the government. Those working in the black economy, therefore, avoid paying government taxes. Black markets are markets within the black economy.

Command economy

This is an economic system where the factors of production are owned by the state, everyone is motivated by the 'common good' and the state allocates the resources and sets all prices using a huge national plan.

Competition Commission

Used to be called the Monopolies and Mergers Commission. This is a body whose job is to make sure that the industries in the UK remain competitive. Their main job is to look into mergers and make sure that the combined entity does not become too big and powerful.

Consumer sovereignty

If the consumer is sovereign, then the consumer is king! In a market where the consumer is sovereign, the consumer is in control. Only the products that the consumer wants are produced. The consumer uses his 'money votes' to let the producers know what he wants. The more competitive the market structure, the more power the consumer will have.

Demerit goods

Demerit goods are goods that have negative externalities. If left to the free market, these goods would be over-consumed. This is bad for the economy, so the government steps in and either bans them or taxes them heavily to prevent consumption. Examples include alcohol, cigarettes and illegal drugs.

Economic system

All governments have to decide how to run the economy of the country they govern. Traditionally, the debate is over whether to use a free market system or the planning system of command economies. Most governments end up using a mix of the two systems, and so are mixed economies.

Factors of production

The four factors of production are land, labour, capital and entrepreneurship. They are the inputs into the production process.

Fiscal policy

This refers to any government policy associated with taxation or the spending of the tax revenues.

Free market economy

This is an economic system where the factors of production are privately owned, everyone (consumers and producers) are motivated by self interest, the level of competition in the markets is very high and resources are allocated through the price mechanism.

Gross Domestic Product (GDP)

This is a measure of the size of an economy. It tries to measure the total output of goods and services of an economy. It can also be measured by summing all incomes earned, or counting total expenditure in the economy.

Labour force

Also called the working population. This includes all members of the population of working age (16 - 65 year old men and 16 - 60 year old women) who are either in employment, or unemployed but willing and able to work, and actively seeking work.

Market structure

The structure of a market can range from the most competitive, perfect competition, to the least competitive, monopoly. Other factors that affect the structure of a market include the number of buyers and sellers, the level of barriers to entry and exit, the extent to which the goods produced are similar and the extent to which all the firms in the market share the same knowledge.

Merit goods

Merit goods are goods that are socially beneficial. Although they can, and are, provided privately, they would be under-consumed if left solely to the free market. Governments intervene to make sure that there is a socially optimal level of consumption. Education and health are good examples.

Mixed economy

All economies in the world are effectively mixed. Mixed economies have a system that is a 'mix' of the free market economy and the command economy. Free markets exist for most goods and services, but the government has a vital role in providing defence, health and education services, law and order and a welfare state.

Monetary policy

This refers to government policies associated with the money supply and the rate of interest. There is very little for the government to do these days because the responsibility for the setting of interest rates was handed over to the Monetary Policy Committee (MPC) of the Bank of England in May of 1997.

Monopoly

This is the least competitive form of market structure. A monopolist is the only firm in the industry, and so has total power. Monopolists tend to maximise profits to the detriment of efficiency.

Negative multiplier effect

The multiplier effect often occurs in economies after an initial injection of money (say, an investment in a car factory by Nissan). Those who are employed to build the factory are paid and then they might spend some of their money at the local supermarket. The workers at the supermarket are paid and may spend some of the money at clothes shop, and so on. This process can work in reverse following a withdrawal of money from the economy or an initial shock.

Non-diminish ability

Also known as non-rivalry. This is another characteristic of a public good. The addition of new consumers of a public good does not diminish the amount that the existing consumers can consume. This is also true of defence.

Non-excludability

Public goods have this characteristic. One cannot exclude anyone from consuming a public good, hence the title of the characteristic. Defence is a good example.

Normative economics

A positive economic statement is one that can be backed up with evidence. For instance, one can be fairly positive about the statement, "Significant increases in the rate of interest will reduce the rate of inflation, ceteris paribus". A normative statement is one where a value judgement is required. For instance, the statement, "the NHS should have more funds" is an opinion. The key word is 'should'.

Office of Fair Trading

This is a body independent of the government that looks into sectors of the economy to make sure they are operating competitively and in the public interest. The recent Competition Act (1998) now allows the OFT to fine companies up to 10% of their turnover if they partake in uncompetitive practices.

Opportunity cost

The opportunity cost is the sacrificewhen an individual chooses one set of wants over another in the situation of scarce resources. The production possibility frontier illustrates this concept well. If an economy is on its PPF and wants more non-military goods (for example), it will have to give up the production of some military goods.

Patent

This is one of many barriers to entry. A patent is something that is granted by the government that gives legal protection to an inventor to sell his new product without any competition for a few years.

Perfect competition

This is the most competitive form of market structure. Firms in perfect competition have numerous characteristics (see the topic of 'Market structure' for details). It is felt that this is the most efficient of all the market structures. Unfortunately, it is also the most unrealistic!

Price mechanism

In free markets, this term is often used to describe the mechanism by which resources are allocated. The reason why it is called the 'price' mechanism is because the price acts as a signal and an incentive for producers to act in the required way so as to maximise their gain, which, in turn, optimises the allocation of resources in the whole economy. The price is the key because it acts as a signalling system between firms and consumers.

Privatisation

This is the transfer of assets of economic activity from the public to the private sector. Denationalisation is the form that most people understand (e.g. selling off gas or electricity), but it can include deregulation (the removal of legal barriers to entry in a previously protected market to allow private enterprise to compete) or franchising (where the government allows a private firm to run a previously state run activity for a given period of time).

Production possibility frontier

This is a curve that tends to be convex to the origin and shows all the possible combinations of two mutually exclusive groups of goods (military and non-military goods, for example) where all the economy's resources are being used and in the most efficient way possible. It is important that both of those conditions are fulfilled for an economy to be in a situation on rather than within its PPF.

Productive efficiency

A firm is productively efficient if is producing at a level of output where average costs are at a minimum. This occurs at the bottom of the average cost curve, where the marginal cost curve crosses.

Property rights

If an individual has property rights, then they have certain rights, according the laws of the land, over the property that they legally own. They can get compensation if those rights are violated.

Public goods

Public goods are goods that have the characteristics of non-excludability and non-diminish ability. They tend to be provided by the public sector (i.e. the government) due to the fact that no one can be excluded from consuming them. This means that consumers take a free ride so it is almost impossible for a private firm to get anyone to pay for a public good.

Scarcity

The world's resources are not infinite. They are scarce. It may seem like there's a lot of oil to go around, but relative to the wants of consumers around the world, it is a scarce resource.

Socially optimal level of output

This is the level of output where any external benefits or external costs imposed on society as a result of the good's production/consumption are allowed for. See the topic of 'Market failure' for details.

The economic problem

All economies face the same fundamental problem. Individuals' wants are infinite, and yet the resources needed to produce these wants are scarce. So the problem is, which goods and services should an economy produce and which are less important, and need not be produced.