Markets in Action —
WEC11 notes

The foundations of economic thinking: economics as a social science, positive and normative statements, scarcity and opportunity cost, the production possibility frontier, specialisation and the role of money and financial markets, and how free market, mixed and command economies allocate resources.

• aThe Nature of EconomicsSocial science · models and assumptions · ceteris paribus
• bPositive & Normative EconomicsPositive statements · value judgements · decision making and policy
• cScarcity & Opportunity CostUnlimited wants · finite resources · renewable and non-renewable · free and economic goods
• dProduction Possibility FrontiersEfficient allocation · marginal opportunity cost · movements and shifts · capital and consumer goods
• eSpecialisation, Money & Financial MarketsDivision of labour · Adam Smith · functions of money · role of financial markets
• fFree Market, Mixed & Command EconomiesThe three systems · advantages and disadvantages · role of the state

How consumers make decisions and what drives the demand curve: rational decision making and the habits and biases that bend it, diminishing marginal utility, price, income and cross elasticity of demand, and why elasticities matter to firms, consumers and government.

• aRational Decision MakingEconomic agents · utility maximisation · herding, habit and inertia · framing
• bThe Demand CurveDiminishing marginal utility · movements along a demand curve · related goods · real income · advertising
• cPrice Elasticity of Demand (PED)Calculating price elasticity of demand · interpreting PED values · factors influencing PED
• dTotal Revenue & Pricing DecisionsCalculating total revenue · PED and total revenue
• eIncome & Cross Elasticity of DemandNormal and inferior goods · substitutes · complements · XED
• fThe Significance of ElasticitiesSignificance for firms · significance for consumers · significance for government

What drives the supply of goods: why the supply curve slopes upward, what shifts it, price elasticity of supply and what determines it, and why supply is more elastic in the long run than in the short run.

• aThe Supply CurveWhat supply means · willing and able · movements along the curve · shifts of the curve
• bWhat Shifts SupplyCosts of production · new technology · specific tax · ad valorem tax · government subsidies · natural disasters
• cPrice Elasticity of Supply (PES)Calculating PES · elastic and inelastic supply · unitary elastic supply · the two extremes
• dWhat Determines PESTime period · perishability · mobility of factors · legal constraints · capacity
• eThe Short Run & the Long RunWhat the short run means · what the long run means · one price rise, two time horizons

How prices are set in competitive markets: finding the equilibrium, excess demand and excess supply, consumer and producer surplus, the rationing, incentive and signalling functions of the price mechanism, and what indirect taxes and subsidies do to price and quantity.

• aFinding the EquilibriumWhat equilibrium means · reading it off a schedule · reading it off a diagram
• bOut of Equilibrium, and Moved Out of ItExcess demand · excess supply · market forces · a shift in demand · when both curves shift
• cConsumer & Producer SurplusConsumer surplus · producer surplus · the two triangles together
• dThe Price MechanismRationing function · incentive function · signalling function · local, national and global markets
• eIndirect TaxesSpecific and ad valorem taxes · incidence · elasticity decides the split · the impact on the government
• fSubsidiesPrice and quantity · who gains from a subsidy · the cost to the government · weighing a subsidy

Why free markets misallocate resources: the five sources of market failure, private, external and social costs and benefits, welfare loss on a marginal diagram, public goods and the free-rider problem, imperfect market information, moral hazard, and speculation and market bubbles.

• aWhy Markets FailWhat market failure means · the five sources · misallocation, not collapse
• bPrivate, External & SocialPrivate, external and social costs · external benefits · production or consumption
• cMarginal Analysis & Externalities in Five ContextsMarginal diagram · welfare loss · social optimum · transport · environment
• dPublic Goods & the Free-Rider ProblemRival and excludable · non-rival · non-excludable · free-rider problem
• eImperfect Market Information & Moral HazardAsymmetric information · information gaps · healthcare and insurance · moral hazard in banking
• fSpeculation & Market BubblesHow a bubble arises · bubbles in housing · stocks and shares · when it bursts

How governments correct market failure: indirect taxation and subsidies, maximum and minimum prices, permits, property rights and regulation, state provision and information, where each tool is used, and the risk of government failure.

• aWhy Governments InterveneWhat intervention is for · the eight methods · judging an intervention
• bIndirect Taxation & SubsidiesSpecific and ad valorem · two prices, and the revenue · who gains · evaluating a subsidy
• cMaximum & Minimum PricesMaximum price · guaranteed price · evaluating price controls
• dPermits, Property Rights & RegulationPermit scheme · property right · regulation
• eState Provision, Information & Where Governments InterveneState provision · provision of information · health, education and housing · agriculture and commodities
• fGovernment FailureInformation gaps · lack of incentives · unintended consequences · excessive administrative costs · moral hazard