HKDSE Economics in Life – Microeconomics 1

Chapter 1 Basic Economic Concepts

Revision Notes

Chapter 1 Basic Economic Concepts

1.1 Nature of Economics

 Economics:
 is a social science;
 examines how individuals, firms and societies make decisions on how to
allocate scarce resources to satisfy their wants under constraints (i.e.
constrained maximisation);
 studies, analyses and predicts human behaviour.
 In economics, we assume that people maximise something they desire within
constraints.
 Economics can be classified into two branches:
 Microeconomics: It analyses the behaviours of individuals and firms.
 Macroeconomics: It analyses the operation of the economy as a whole.

1.2 Wants, Scarcity, Choice and Opportunity Cost

Opportunity
Choice
cost
Unlimited Limited
> Scarcity
wants resources Price competition
Competition
Non-price
competition

 Wants are human desires.

 Scarcity refers to the situation in which the resources available are not enough to
satisfy all people’s wants.
 As people cannot satisfy all their wants with the limited resources available, they
need to make choices.
 Because of scarcity, competition is inevitable.
 Forms of competition
 Price competition: People compete for resources or goods on the basis of
price.
 Non-price competition: People compete for resources or goods on the basis
of things other than price.
 Regardless of what form of competition is used, discrimination is always
implied.
 Opportunity cost of a choice is the value of the highest-valued option forgone.
 If there is only one option available, there is no choice and thus no opportunity
cost.

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HKDSE Economics in Life – Microeconomics 1
Chapter 1 Basic Economic Concepts
Revision Notes

 Full cost = Monetary cost (explicit cost) + Non-monetary cost (implicit cost)
 Changes in opportunity cost
Cases Change in opportunity cost
value of the highest-valued
option forgone increases increases (decreases)
(decreases)
value of the chosen option
remains unchanged
changes
value of other options except the
highest-valued option forgone
remains unchanged
changes (order of preference
remains the same)
 The cost that has been paid in the past and cannot be recovered is not the
opportunity cost of the choice and it does not affect current making.
 Interest is:
 the cost or price of earlier availability of resources;
 the premium paid by the borrower for obtaining goods or resources earlier;
 the premium or compensation received by the lender for deferring
consumption of goods or resources.
 When the interest rate increases (decreases), present consumption will decrease
(increase) and saving will increase (decrease).
 Interest exists in both barter economies and monetary economies. It can be in the
form of goods or money.

1.3 Free Goods and Economic Goods

 Goods are broadly defined as anything, including tangible goods and intangible
services, which can satisfy human wants.
 Goods can be classified into two categories:
 Free goods: They are goods that people do not prefer more of as the
quantity available is sufficient to satisfy all human wants.
 Economic goods: They are goods that people prefer more of as the quantity
available is not sufficient to satisfy all human wants.

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HKDSE Economics in Life – Microeconomics 1
Chapter 1 Basic Economic Concepts
Revision Notes

Free goods Economic goods

Quantity available is
sufficient to satisfy all  
people’s wants
People prefer more  
Scarcity  
People are willing to pay
 
for the goods

1.4 Circular Flow of Economic Activities

 The circular flow model is a simple economic model showing how an economy
is organised, that is how money, goods and services as well as factors of
production flow between the basic economic units (firm and household).
 Types of economic activities
 Production: It is the process of turning inputs, or factors of production, into
goods and services.
 Consumption: It is the process of using goods and services to satisfy human
wants directly.
 Exchange: People get what they want by giving something in return in a
market.

Final goods
and services
Product Real flow
market
Firm’s Household’s Money flow
revenue consumption
expenditure

Firm Household

Cost of Factor
production income
Factor
market
Factors of
production
 Points to note:
 The model assumes money is the medium of exchange;
 Neither the household nor the firm saves, the values of the factor income,
cost of production, firm’s revenue and household’s consumption
expenditure are all the same;
 The same person can perform the role of the firm or the household under

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HKDSE Economics in Life – Microeconomics 1
Chapter 1 Basic Economic Concepts
Revision Notes

different situations.
1.5 Relationship between Specialisation and Exchange
 Production of economic goods incurs opportunity cost.
 Specialisation is a production system in which workers specialise in producing a
good or a stage of production of a good.
 When people specialise in producing the goods or services that they can produce
at a lower opportunity cost, the total output of the economy will be higher than
when no specialisation takes place.
 With specialisation and exchange, people can consume more economic goods
and thus have a higher standard of living.

1.6 Positive Statements and Normative Statements

 Positive statements are statements that describe what it is, with no value
judgement.
 Normative statements are statements that describe what ought to be. They
involve value judgement on what is desirable or the best.

Positive Normative
statements statements
Nature statements that statements that
describe what it is describe what
ought to be
Involve value judgement  
Can settle disagreements by referring  
to the facts

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