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ECON 208 - Practice Test and Answers

Economic Issues and Concepts

Scarcity and Choice

Scarcity is a fundamental concept in economics, referring to the limited nature of resources relative to unlimited human wants. This necessitates choices about how resources are allocated.

Scarcity: The condition that arises because resources are limited while wants are unlimited.
Choice: The need to select among alternatives due to scarcity.
Opportunity Cost: The value of the next best alternative forgone when making a decision.
Example: Choosing to spend time studying economics instead of working a part-time job involves the opportunity cost of lost wages.

Production Possibilities Boundary (PPB)

The PPB illustrates the maximum combinations of goods and services that can be produced with available resources and technology.

Economic Growth: Shown by an outward shift of the PPB, indicating increased productive capacity.
Efficiency: Points on the PPB represent efficient use of resources; points inside are inefficient.
Trade-offs: Moving along the PPB involves shifting resources from one good to another, demonstrating opportunity cost.
Example: A country deciding between producing more consumer goods or capital goods.

Economic Theories, Data, and Graphs

Positive vs. Normative Statements

Economists distinguish between statements that describe the world as it is (positive) and those that prescribe how it should be (normative).

Positive Statements: Objective and fact-based; describe relationships and outcomes.
Normative Statements: Subjective and value-based; express opinions about what ought to be.
Example: "An increase in the minimum wage will lead to higher unemployment" (positive) vs. "The government should increase the minimum wage" (normative).

Endogenous and Exogenous Variables

Economic models use variables to explain relationships. Endogenous variables are determined within the model, while exogenous variables are determined outside the model.

Endogenous Variable: A variable whose value is determined by the relationships specified in the model.
Exogenous Variable: A variable whose value is determined outside the model and is taken as given.
Example: In a demand model, price and quantity demanded are endogenous; consumer income may be exogenous.

Economic Data and Graphs

Economists use various types of data and graphical representations to analyze trends and relationships.

Index Numbers: Used to measure changes in economic variables over time (e.g., Consumer Price Index).
Graphs: Line graphs, bar charts, and scatter plots are common tools for visualizing data.
Example: Calculating the percentage change in CPI to measure inflation.

Demand, Supply, and Price

Demand and Supply Variables

Demand and supply are fundamental concepts describing how much of a good or service consumers and producers are willing to buy and sell at various prices.

Demand: The quantity of a good or service that consumers are willing and able to purchase at different prices.
Supply: The quantity of a good or service that producers are willing and able to offer for sale at different prices.
Stock vs. Flow Variables: Stock variables are measured at a point in time; flow variables are measured over a period of time.
Example: The number of cars produced in a year (flow) vs. the total number of cars in existence (stock).

Shifts vs. Movements Along Curves

Changes in price lead to movements along the demand or supply curve, while changes in other factors (income, tastes, etc.) shift the curves.

Movement Along Curve: Caused by a change in the price of the good itself.
Shift of Curve: Caused by changes in non-price determinants (e.g., income, preferences).
Example: A rise in consumer income shifts the demand curve for normal goods to the right.

Equilibrium Price and Quantity

The equilibrium price is where the quantity demanded equals the quantity supplied. Changes in demand or supply shift the equilibrium.

Equilibrium: The point at which market supply and demand balance each other.
Surplus: Occurs when quantity supplied exceeds quantity demanded at a given price.
Shortage: Occurs when quantity demanded exceeds quantity supplied at a given price.
Example: A simultaneous decrease in demand and increase in supply leads to a lower equilibrium price.

Elasticity

Price Elasticity of Demand

Price elasticity of demand measures how responsive the quantity demanded is to a change in price.

Definition: The percentage change in quantity demanded divided by the percentage change in price.
Formula:
Elastic Demand: Elasticity greater than 1; quantity demanded is sensitive to price changes.
Inelastic Demand: Elasticity less than 1; quantity demanded is less sensitive to price changes.
Unit Elastic: Elasticity equals 1; proportional response.
Example: If a 10% increase in price leads to a 20% decrease in quantity demanded, elasticity is 2 (elastic).

Income Elasticity of Demand

Income elasticity of demand measures how quantity demanded changes as consumer income changes.

Normal Goods: Positive income elasticity; demand increases as income rises.
Inferior Goods: Negative income elasticity; demand decreases as income rises.
Formula:
Example: If income rises by 5% and demand for a good rises by 10%, income elasticity is 2 (normal good).

Additional info:

Some questions reference specific tables and data (e.g., CPI, health care spending) to illustrate economic concepts.
Functional forms of demand curves (e.g., QA = 100 - 2PA) are used to show how price affects quantity demanded.
Normative and positive statements are distinguished to clarify the role of value judgments in economic analysis.