Year 11 Introduction Economics

Notes
Chapter 1
1.1 The economic problem and the role of Choices

The Economic Problem: our wants are limited, resources are scarce and thus
we cannot satisfy our wants. We must choose between them by ranking our
preferences, forgoing some choices.
Opportunity Cost: represents the alternative use of resources. Often referred to
as the real cost or economic cost, it represents the cost of satisfying one want
over an alternative want.

Wants: Materialist goods desired by individuals or the community. Provide

pleasure or satisfaction (utility).
- Needs
Basic wants essential for human survival i.e. food, water
- Individual Wants- desires of each person dependent on personal preferences,
ability to purchase goods, level of income
- Collective Wants- wants of the whole community, usually provided by
government such as parks, libraries, local supporting facilities, defence force
- Wants change over time by changes of age, income, technology and fashion.
Income increases mean that you can afford more luxury goods and technology
alters what people can satisfy.

Key Economic Questions

1. What to produce?
2. How much to produce?
3. How to produce? (allocate resources in the production process efficienty)
4. How to distribute production? (income determines how much goods and
services people can by- economies must decide between equitable or inequitable
(which is usually more efficient) distribution)

Production Possibility Frontier

- is a graphical representation of all possible combinations of two goods or
services that the economy can produce at any given time.
- Some resources are better suited to one type of production and we can't simply
expect to move resources from one production without any loss of productive
capacity, thus in the real world it is a curve concave to origin.
WILL PIVOT UP ON THE VERT OR HORIZONTAL AXIS IF: A new technology arises
which can provide more efficient production of one good at a cheaper cost.
MOVE UPWARDS TOGETHER IF: New resources are found, or an expansion of the
population through immigration occurs. As a result would be able to produce
more of both goods.
BE UNDER THE FRONTIER: Resources are unemployed, economy is not operating

at full capacity, less wants are satisfied and there is inefficient allocation of
resources.

1.3. The future implications of choices

Consumer Goods and Services: items produced for the immediate satisfaction
of individual and community needs and wants
Capital Goods: items that have been produced for immediate consumption but
will be used for the production of other goods.
If a country chooses to forgo some consumer goods for capital goods, in the short
term less immediate wants will be satisfied but in the long run the country will be
able to produce at a higher capacity.
Individual forgo present want by saving-> savings to satisfy future wants
e.g. sacrifice pleasurable lifestyle now, financial security in future
Business limited resources -> focus on products likely to have future success
e.g. invested in communications technology 10 years ago more successful than
those who didnt
Government satisfy immediate wants (popularity) - > long term lower
economic growth e.g. increase welfare benefits and health care -> less funding
for education, infrastructure

1.4 The economic factors underlying choices

Individuals
- Age, income, expectations, future plans, family circumstances, personality
factors, how much they want to save and spend, plans in relation to education,
work, family and retirement.
E.g. A couple planning to have a baby will save more. To retire involves adjusting
to a lower income at a time when free leisure time may give an individual more
opportunity to consume. Some more willing to take risks
- Voting- economic issues have been key factors in electoral process.
Businesses
- Pricing decisions are based on market strategy, whether they are trying to sell
to mass market (lower price) or exclusive group (higher price).
- Will seek to minimise costs, but need to strike balance between quality over
cost.
- Generally choose cheapest available resources, but if not reliable may choose
higher priced.
- Ethical issues play a role for example the role of the natural environmentwhether the company is willing to pay more for recycled paper. I
- Industrial relations issue- choosing to employ on wage levels set by industrial
awards, negotiate wage agreements with whole workforce or individual contracts
or whether to encourage union representation and involvement in decision
making.

Government
- has a significant influence on choices e.g. making it less or more expensive to
make some choices such as taxing cigarettes heavily. May also prohibit certain
activites and impose heavy penalties to those who break together such as
companies meeting to set prices for whole industry. May also provide incentives
to encourage certain economic activities i.e. 30% tax rebate on private health
insurance and Medicare Levy Surcharge on non-insured high income earners.

Chapter 2
2.1 The production of goods and services

Factors of Production: any resources used in production of g+s; abundant,

high- quality resources -> higher standard of living
Public sector: The government sector
Private sector: individuals, businesses and financial institutions.
Income derived from ownership or control of natural resources in production
process = rent
Income derived from ownership of labour = wage
Supply of labour depends on:

Income derived from capital, derived from the borrowing of loans = Interest
Infrastructure/ social overhead: capital owned by community as a whole e.g.
roads, railways, bridges, schools, telecommunication levels
Capital - increases productivity i.e. how much output per factor of production/ unit
of time Investment: purchase of capital goods
Income as a return of enterprise = Profit
(includes revenue minus expenses, wages, interest, rent. Is earned because
entrepreneur sets up and runs a successful business despite considerable risk of
failure. Uses different combinations of resources)
Entrepreneur:

size of population
school leaving age
level of education
retirement age
role of women

combines land, labour, capital -> produces a product, earns remaining

profit
makes management decisions of all aspects of production
bears risk of making right/ wrong decisions, success/ failure

Problem of scarcity in resources

1
2
3

limits to land fossil fuels, clean air, water

labour- population size, labour market skills, willingness
capital- governments+ private sector+ domestic willing to invest
(savings)

size of population, ability and willingness of individuals to innovate and

take risks

(How scarce resources are allocated in production is largely determined by

consumers spending patterns- efficient industries that face growing
consumer demand will be able to attract resources, or if they are cheaper
they are more attractive to profit-maximising firms.)

2.2 The distribution and exchange of goods and services

GDP (Gross Domestic Product): total value of goods and services produced in
an economy in a period of time
Distribution and exchange of G&S in an economy is through income, which
individuals can then exchange with other to obtain G&S. (medium for exchanging
goods and services)
In market economies it is a reward for their contribution to the production
process- as workers, owners or entrepreneurs.
This income is dependent on how scarce or highly in demand their resources are.
E.g. rent of land in the city or labour of highly skilled manager would involve a
larger sum of money. Workers income levels are influenced by how much they
work, their skill and expertise, educational qualifications and bargaining power in
wage negotiations.
Benefit of the system is that it provides incentives for people to obtain better
skills, work harder, develop entrepreneurial skills, and start a business. This will
improve resource base and encourage innovation and technological
advancement.
Disadvantages are that it can cause inequality as those who are unable to
contribute to production (elderly, disabled, ill) and those with less bargaining
power may be unable to secure a fair return for their labour input.

2.3 The Business Cycle.

The Business Cycle: periodic fluctuations of level of growth in an

economy
Real GDP: GDP+ effect of inflation
Economy Growth: measure of increase in g+s produced from one year to next
Recession: the stage where there is decreasing economic activity, defined by
two consecutive quarters (6 months) of negative economic growth i.e. fall in GDP

Impacts of a recession

Firms usually postpone planes for new investment, reduce their production and
reduce their demand for labour
Employment falls which causes: Families to rely on social security payments and
savings, as they reduce consumption the economy contracts further and put
more people out of work.
More people fall below the poverty line, living standards fall, health problems can
rise, educational opportunities may be disrupted and social problems such as
crime and suicide increase.
LOWER QUALITY OF LIFE

Impacts of a Boom

Increased investment, production and labour (job opportunities) leading to more

disposable income for consumers to spend and thus economy expands and
poverty levels fall.

Impacts of the
Business Cycle
Recession

Boom

Falling production of goods and

services

Increasing production of goods

and services

Falling levels of consumption

and investment

Rising levels of consumption and

investment

Falling quality of life

Rising quality of life

Falling income levels

Rising income levels

Rising unemployment

Falling unemployment

Cycle:

upswing/ recovery, prosperity/boom/peak: rapid growth of output

downswing/ contraction, recession: stagnation or decline
governments main role- smooth out, reduce fluctuations

John Maynard Keynes

General Theory: cause and solution for the depression

scared to spend+invest-> lack of demand-> unemployment; so better spend
rather than save
Government has to step in and spend (borrow if not enough, pay back later) +
encourage spending

Free Markets

Spending and borrowing by consumers+ businesses (No government)

Keynes thinks this is BS, should be up to government
Spend too much -> public/sovereign debt
Hayek said should let economy contract

Leakage: Removes money from circular flow. Decreases total income & general level of
economic activity
Injection: Adds money to circular flow. Increases aggregate income and general level
of economic activity

2.4 Circular Flow of Income

Individuals
owners of resources

 income goes to spending on consumption of locally produced goods,

savings, paying tax or purchasing imports

Businesses
depend on individuals to supply resources and consume g+s
individuals depends on business to produce g+s, income to buy
Financial institutions
savings from individuals, lend this out to businesses for investment
e.g. banks, finance companies, credit unions
leakage as money is put aside -> fall in expenditure of g+s, fall in
production, fall in demand of resources (workers), fall in income
investment- leads to rising expenditure of capital, production, employment,
income
Governments
taxes on individuals and businesses
uses tax revenue for government expenditure
taxation: reduces money to spend on g+s, reduces funds for resources
falling income, output, employment
spends revenue on collective g+s -> income to government employees+
private employees who provide g+s
on transfer payments- pensions, unemployment benefits
International trade and financial flows
International money flows- financial transactions between Aus and world
import: money withdrawn from Aus economy and paid to businesses
overseas
export: money paid to Aus business by overseas
Disequilibrium
leakages > injections -> decrease in economic activity -> leakages fall as
consumers have less income to save, spend on imports, pay tax
leakages and injections will eventually be equal but at lower level of
income
injections > leakages -> increase in economy activity -> leakages increase
as consumers have more to spend, spend on imports, pay tax
eventually be equal but at higher level of income

Chapter 3
Methods of measurement

GDP per capita: not an accurate measure of living standards- GDP divided by
population
(Aus 13, US 1, China 2)
Quality of life: measure of welfare based on GDP, quality of health care,
educational opportunities, climate (Aus is among highest in world)
(Aus 5, Luxemburg 1, US 15, China 90)
Human Development Index (HDI): narrow measure of quality of life based on
account income (GDP per capita), life expectancy, adult literacy, educational

levels
(Aus 2, Norway 1, USA 4, China 101)

GNI: Gross National Income = GDP

3.1 Market Economy

Economic decisions made by individuals and private firms without government

intervention
Also known as capitalist, free market, laissez-faire
weakness:
those who controlled means of production became extremely wealthy
Those who make decisions are motivated by self-interest
majority exploited, poverty
vulnerable to volatile cycle of boom and bust
Market: network of buyers and sellers, seeking to exchange a product at a
certain price
Product market: market for g+s
buyers- constitute demand, want to buy at lowest possible price to satisfy
more wants
businesses output decisions make up supply, want to sell at highest price to
make more profit
Allocation or resources determined by Price mechanism: the interaction
between the forces to determine the price of each g+s
i.e. the invisible hand
Demand > supply = shortage/ excess demand -> increase price (inflation)
Therefore, income is worth less, want higher wages
Supply > demand = surplus/ excess supply -> lower price
Settles on equilibrium where there is no tendency to change
Consumers will want to buy at the lowest price possible while sellers want
to sell at highest prices possible to make a profit.
Economy: any organisation/ nation which attempts to solve the economic
problem of scarcity by deciding what to produce, how to produce, how much
to produce, how to distribute
Factor market: market for factors of production are bought and sold
Private ownership: right to own and sell resources, derive income from this
Consumer sovereignty: consumers determine what to produce and how
much should be produced
Freedom of enterprise: right to use resources as choose
e.g. entrepreneurs can set up businesses, and sell g+s
workers free to choose occupations, work or not
Competition: the pressure on firms in a market economy to lower prices or
improve the quality of output to increase their sales. Ensures no one business
has great influence.

Planned Economy

Characterized by governmental control over economic decisions

Little input or influence by individuals thus inefficient in following economic, little

innovation as no 'reward', standard of life doesn't grow as fast.
Public ownership of factors of production, with government playing a central role
in allocating resources.

3.2 Why does the Australian economy choose to intervene in the free
market?

Resource allocation
- social welfare/ transfer payments, progressive income tax
- provide important things that would not otherwise be provided by private
sector (not profitable) such as merit goods (education, health, art)
- restrict production of harmful goods
- regulations to prevent producers from exploiting consumers e.g. safety
standards
- Income distribution- Progressive Tax, Social Welfare Benefits
create a fairer society and look after people
- social welfare/ transfer payments, progressive income tax
Economic stability*
- smooth out sharp fluctuations in the economic cycle
- ensure stability in the economy and financial system
By Macro-economic policies
- Fiscal Policy involves government using its budget (tax revenue,
government spending) to affect demand. In times of recession government
can increase spending or reduce taxes to stimulate demand. In times of
high inflation government will reduce spending or increase taxes to soften
demand.
- Monetary Policy influences cost of credit or interest. Implemented by
Reserve Bank of Australia (RBA). In times of high inflation caused by excess
demand RBA raise interest rates to discourage borrowing and spending and
encourage saving. (tightening or contractionary policies) During times of
recession RVA will lower interest rates to encourage borrowing and increase
level of demand and thus increase economic activity (loosening or
expansionary policies).
How a mixed economy aims to solve the economic problem
What to produce?
- can be producer itself
- can provide collective goods and services e.g. schools, roads, bridges,
defence force
- can compete with private enterprise, provide g+s
- can limit/ prohibit production of undesirable g+s e.g. illicit drugs
How much to produce?
- can limit production of some goods/ delivery of some services e.g. regulate
no. of taxi drivers
- can encourage greater provision of desirable g+s, but would otherwise be
under- provided i.e. merit goods, e.g. gov. subsidies for arts, education, art
gallery, museum

How
-

can encourage Aus producers to compete with foreigners to increase

output e.g. tariff, subsidies
to produce?
influence cost of factors of production e.g. min. wage levels, working
conditions, laws regulating behaviour of firms
How to distribute production?
higher income earners pay more of their income in tax -> this goes to
lower income as welfare
intervene in factor markets e.g. min. wage in labour market
intervene in factor markets e.g. min. wage in labour market