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Unit 1 Vocabulary
Economics – the social science concerned with the efficient use of scarce resources to achieve
the maximum satisfaction of economic wants
Economic perspective – economic way of thinking
Marginal analysis – comparisons of marginal benefits and marginal costs
Scientific method – used to test a hypothesis and evolve it into a theory
Theoretical economics – the role of economic theorizing is to systematically arrange facts,
interpret them, and generalize from them
Principles – statements about economic behavior or the economy that enable prediction of the
probable effects of certain actions
Generalizations – economic principles are expressed as the tendencies of typical or average
consumers, workers, or business firms
Other things-equal assumption – all other variables except those under immediate
consideration are held constant for a particular analysis (ceteris paribus)
Policy economics – the use of theories and data to formulate policies to solve economic
problems or further economic goals
Tradeoffs – to achieve one we must sacrifice another
Macroeconomics – examines the economy as a whole or its basic subdivisions or aggregates,
such as the government, household, and business sectors
Aggregate – a collection of specific economic units treated as if they were one unit
Microeconomics – examines specific economic units such as an individual industry, firm, or
household
Positive economics – examines facts and cause-and-effect relationships, including description,
theory development, and theory testing (what is)
Normative economics – examines the desirability of certain aspects of the economy (what
ought to be)
Fallacy of composition – the assumption that what is true for one individual or part of a whole
is necessarily true for a group of individuals or the whole
“After this, therefore because of this,” fallacy – (post hoc, ergo propter hoc) the assumption
that because event A precedes event B, A is the cause of B
Horizontal axis – represents income, the determining factor
Vertical axis – represents consumption, determined by income
Direct relationship – (positive relationship) two variables change in the same direction
Inverse relationship – (negative relationship) two variables change in the opposite direction
Independent variable – the cause or source, the variable that changes first
Dependent variable – the effect or outcome, the variable that changes because of the change
in the independent variable
Slope of a straight line – the ratio of the vertical change to the horizontal change between any
two points of the line
Vertical intercept – the point where the line meets the vertical axis
Economizing problem – society’s economic wants are unlimited, while our economic resources
are limited
Utility – pleasure or satisfaction
Economic resources – all natural, human, and manufactured resources that go into the
production of goods and services
Land – all natural resources used in the production process, such as arable land, forests,
mineral and oil deposits, and water resources
Capital – all manufactured aids used in producing consumer goods and services, which is all
tools, machinery, equipment, factory, storage, transportation, and distribution facilities
Investment – the process of producing and purchasing capital goods
Labor – all the physical and mental talents of individuals available and usable in producing
goods and services
Entrepreneurial ability – a human resource that takes initiative, makes basic business-policy
decisions, innovates, and bears risks
Factors of production – the four resources that combine to produce goods and services (land,
labor, capital, and entrepreneurial ability)
Full employment – the use of all available resources
Full production – all employed resources should be used so that they provide the maximum
possible satisfaction of our material wants
Productive efficiency – production of any particular mix of goods and services in the least costly
way
Allocative efficiency – production of that particular mix of goods and services most wanted by
society
Consumer goods – products that satisfy our wants directly
Capital goods – products that satisfy our wants indirectly by making possible more efficient
production of consumer goods
Production possibilities table – lists the different combinations of two products that can be
produced with a specific set of resources (and with full employment and productive efficiency)
Production possibilities curve – data presented in a production possibilities table shown
graphically, shows the limit of attainable outputs
Opportunity cost – the amount of other products that must be forgone or sacrificed to obtain 1
unit of a specific good
Law of increasing opportunity costs – the more of a product that is produced, the greater is its
opportunity cost
Economic growth – the ability to produce a larger total output
Economic system – a particular set of institutional arrangements and a coordinating
mechanism
Market system – the private ownership of resources and the use of markets and prices to
coordinate and direct economic activity (capitalism)
Command system – government owns most property resources and economic decision making
occurs through a central economic plan (socialism or communism)
Resource market – the place where resources or the services of resource suppliers are bought
and sold
Product market – the place where goods and services produced by businesses are bought and
sold
Circular flow model – an interrelated web of decision making and economic activity involving
businesses and households
Market – an institution or mechanism that brings together buyers (demanders) and sellers
(suppliers) of particular goods, services, or resources
Demand – a schedule or a curve that shows the various amounts of a product that consumers
are willing and able to purchase at each of a series of possible prices during a specified period
of time
Law of demand – all else is equal, as price falls, the quantity demanded rises, and as price rises,
the quantity of demanded falls
Diminishing marginal utility – in any specific time period, each buyer of a product will derive
less satisfaction (or benefit, or utility) from each successive unit of the product consumed
Income effect – indicates that a lower price increases the purchasing power of a buyer’s money
income, enabling the buyer to purchase more of the product than she or he could buy before
Substitution effect – at a lower price, buyers have the incentive to substitute what is now a less
expensive product for similar products that are now relatively more expensive
Demand curve – the downward slope on a graph that reflects the law of demand and the
inverse relationship between price and quantity demanded
Determinants of demand – factors that are assumed to be constant when a demand curve is
drawn, when changed, the curve will shift to the right or left
Normal goods – products whose demand varies directly with money income (superior goods)
Inferior goods – goods whose demand varies inversely with money income
Substitute good – a good that can be used in place of another good
Complementary good – a good that is used together with another good
Change in demand – a shift of the entire demand curve to the right (increase in demand) or the
left (decrease in demand), caused by consumers changing their minds
Change in quantity demanded – a movement from one point to another point on a fixed
demand schedule or demand curve, caused by change in the price of product
Supply – a schedule or curve showing the amounts of a product that producers are willing and
able to make available for sale at each of a series of possible prices during the specific period
Supply schedule – shows quantities of product that will be supplied at various prices, other
things equal
Law of supply – as price rises, the quantity supplied raises; as price falls, and the quantity
supplied falls
Supply curve – shows relationship between price and quantity supplied
Determinants of supply – resource prices, technology, taxes and subsidies, prices of other
goods, price expectations, and the number of sellers in the market, will move supply curve left
or right
Change in supply – change in the entire schedule and a shift of the entire curve, caused by
determinants
Change in quantity supplied – movement from one point to another on a fixed supply curve,
caused by change in price of product
Surplus – excess of quantity supplied over quantity demanded
Shortage – excess in demand of product over quantity supplied, increases prices
Equilibrium price – price of product with no shortage or surplus
Equilibrium quantity – quantity supplied and quantity demanded are in balance
Rationing function of prices – the ability of the competitive forces of supply and demand to
establish a price at which selling and buying decisions are consistent
Private property – private ownership of capital
Freedom of enterprise – ensures that entrepreneurs and private businesses are free to obtain
and use economic resources to produce their choice of goods and services and sell them in
their chosen markets
Freedom of choice – enables owners to employ or dispose of their property and money as they
see fit, it also allows workers to enter any line of work for which they are qualified, and ensures
that consumers are free to buy the goods and services that best satisfy their wants
Self-interest – the motivating force of all the various economic units as they express their free
choices, each economic unit tries to do what is best for itself
Competition – independently acting sellers and buyers operating in a particular product or
resource market, freedom of choice exercised in pursuit of a monetary return
Roundabout production – and indirect, more efficient production derived from creating and
using tools of production for a more abundant output
Specialization – most consumers produce virtually none of the goods and services they
consume, and they consume little or nothing of what they produce
Division of labor – human specialization
Medium of exchange – money, makes trade easier
Barter – swapping goods for goods
Money – convenient social invention to facilitate exchanges of goods and services
Four fundamental questions – highlight the economic choices underlying the production
possibilities curve
Economic costs – payments that must be made to secure and retain the needed amounts of
those resources
Normal profit – the payment for (cost of) the entrepreneur’s contributions
Economic profit – the remainder of when the total revenue from product sales exceeds the
economic costs, above-normal profit
Expanding industries – new firms, attracted by the above-normal profits, are formed or shift
from less profitable industries
Declining industry – unprofitable industry, where firms may go out of business or migrate to
other prosperous industries
Consumer sovereignty – consumers are in command in the market system, they determine the
types and quantities of goods produced
“Dollar votes” – consumers register their wants via the demand side of the product market
Derived demand – derived from the demand for the goods and services that the resources help
produce
Guiding function of prices – the expansion and contraction of industries affect the demand in
resources, guiding them from contracting industries to expanding ones
Creative destruction – the creation of new production methods completely destroys the
market positions of firms that are wedded to existing products and older ways of doing
business
“Invisible hand” – channels the pursuit of self-interest to the good of society
Functional distribution of income – indicates how the nation’s earned income is apportioned
among wages, rents, interest, and profits; according to the function performed by the income
receiver
Personal distribution of income – indicates how the nation’s money income is divided among
individual households
Durable goods - products that have expected lives of 3 years or more
Nondurable goods – products that have lives of less than 3 years
Plant – a physical establishment that performs one or more functions in fabricating and
distributing goods and services (factory, farm, mine, store, or warehouse)
Firm – a business organization that owns and operates plants
Industry – a group of firms that produce the same, or similar, products
Sole proprietorship – a business owned and operated by one person
Partnership – natural outgrowth of the sole proprietorship, two or more individuals agree to
own and operate a business together
Corporation – a legal creation that can acquire resources, own assets, produce and sell
products, incur debts, extend credit, sue and be sued, and perform the functions of any other
type of enterprise
Stocks – shares of ownership of a corporation
Bonds – promises to repay a loan, usually at a set rate of interest
Limited liability – the owners (stockholders) of a corporation risk only what they paid for their
stock
Double taxation – corporate profit that is shared among stockholders as dividends is taxed
twice. Once as corporate profit and again as stockholders’ personal income
Principal-agent problem – conflict of interest developed between stockholders who want
maximum company profit and stock price, while agents want power, prestige, and pay that
usually accompany control over a large enterprise. Independent of its profitability and stock
price
Monopoly – single seller controls an industry, so they can charge a higher-than-competitive
price
Spillover costs – production or consumption costs inflicted on a third party without
compensation
Spillover benefits – production or consumption of certain goods and services may confer
spillover or external benefits on third parties or on the community at large without
compensating payment
Exclusion principle – buyers who are willing and able to pay the equilibrium price of the
product obtain it, but those who are unable or unwilling to pay are excluded from acquiring the
product and its benefits
Public goods – indivisible goods that must be produced in such large units that they cannot
ordinarily be sold to individual buyers (exclusion principle doesn’t apply)
Quasi-public goods – goods and services provided by the government that can be produced
and delivered in such a way that the exclusion principle would apply
Government purchases – the products purchased directly absorb resources and are part of the
domestic output (exhaustive)
Transfer payments – do not directly absorb resources or create output (non-exhaustive)
Personal income tax – a tax levied on the taxable income of individuals, households, and
unincorporated firms
Marginal tax rate – rate at which the tax paid on each additional unit of taxable income
Average tax rate – total tax paid divided by total taxable income
Payroll taxes – taxes based on wages and salaries
Corporate income tax – levied on a corporation’s profit
Sales and excise taxes – taxes on commodities or on purchases
Property taxes – a tax on the value of property owned by firms and households
Fiscal federalism – the system of transfers (grants) by which the Federal government shares its
revenues with state and local governments
Multinational corporations – firms that own production facilities in two or more countries and
produce and sell their products globally
Comparative advantage – a lower relative or comparative cost than that of another producer
Terms of trade – the rate at which units of one product can be exchanged for units of another
product; the price of a good or service/ the amount of one good or service that must be given
up to obtain 1 unit of another good or service
Foreign exchange market – a market in which the money of one nation can be used to
purchase (exchange for) the money of another nation
Exchange rates – the rate of exchange of one nation’s currency for another nation’s currency
Depreciation – a decrease in the value of the dollar relative to another currency, so a dollar
buys a smaller amount of the foreign currency and therefore of foreign goods
Appreciation – an increase in the value of the dollar relative to the currency of another nation,
so a dollar buys a larger amount of the foreign currency and thus of foreign goods
Protective tariffs – tariffs designed to shield domestic producers of a good or service from the
competition of foreign producers
Import quotas – a limit imposed by a nation on the quantity (or total value) of a good that may
be imported during some period of time
Nontariff barriers – all barriers other than the protective tariffs that nations erect to impede
international trade, including import quotas, licensing requirements, unreasonable productquality standards, unnecessary bureaucratic detail in customs procedures, and so on
Export subsidies – government payments to domestic producers to enable them to reduce the
price of a good or service to foreign buyers
Smoot-Hawley Tariff Act – legislation passed in 193- that established very high tariffs to reduce
imports and stimulate the domestic economy, but it only resulted in retaliatory tariffs by other
nations
Reciprocal Trade Agreements Act – a 1934 federal law that authorized the president to
negotiate up to 50% lower tariffs with foreign nations that agreed to reduce their tariffs on U.S.
goods (incorporated most favored nation clause)
Most-favored-nation clauses – an agreement by the United States to allow some other nation’s
exports into the United States at the lowest tariff level levied by the United States, then or at
any other time
General Agreement on Tariffs and Trade (GATT) – the international agreement reached in
1947 in which 23 nations agreed to give equal and nondiscriminatory treatment to one another,
to reduce tariff rates by multinational negotiations, and to eliminate import quotas (became
WTO)
World Trade Organization (WTO) – an organization established in 1994 to replace GATT to
oversee the provisions of the Uruguay Round and resolve any disputes stemming from it
European Union (EU) – an association of 15 European nations that has eliminated tariffs and
import quotas among them, established common tariffs for goods imported from outside the
member nations, allowed the free movement of labor and capital among them, and created
other common economic policies
Trade bloc – a group of nations that lower or abolish trade barriers among members, such as
EU and NAFTA
Euro – the common currency unit used by 12 European nations in the Euro Zone which includes
all the nations of the EU except Great Britain, Denmark, and Sweden
North American Free Trade Agreement (NAFTA) – a 1993 agreement establishing, over a 15year-period, a free-trade zone composed of Canada, Mexico, and the United States