GCE A/L Economics cheat sheet

Every economy answers three questions: what to produce, how to produce it, and for whom; markets, planning or a mixture provide the answers.

Opportunity cost is the value of the next best alternative forgone; it exists because resources are scarce and have alternative uses.

Factors of production and their returns: land earns rent, labour earns wages, capital earns interest, enterprise earns profit.

On a production possibility frontier, any point on the curve is productively efficient, a point inside shows unemployed or inefficiently used resources, and points outside are unattainable.

A bowed-out (concave) PPF indicates increasing opportunity cost as production switches, because factors are not equally suited to both goods.

The PPF shifts outward when there are more or better factors of production or improved technology; this is growth of capacity, not a movement along the curve.

Positive statements are testable against evidence; normative statements contain value judgements and cannot be tested as true or false.

The price mechanism performs three functions: rationing scarce goods, signalling information between buyers and sellers, and providing incentives to producers and workers.

Division of labour raises output per worker but depends on the size of the market and creates interdependence, repetition and worker alienation.

PED = percentage change in quantity demanded divided by percentage change in price; demand is elastic when |PED| > 1, inelastic when < 1 and unit elastic at 1.

Total revenue rises when price is cut only if demand is elastic; if demand is inelastic, a price rise increases total revenue.

Determinants of PED: number of close substitutes, proportion of income spent, necessity versus luxury, time period, and habit or addiction.

PES = percentage change in quantity supplied divided by percentage change in price; supply is more elastic with spare capacity, held stocks, a longer time period and mobile factors.

YED = percentage change in quantity demanded divided by percentage change in income: positive for normal goods, above 1 for luxuries, negative for inferior goods.

XED = percentage change in quantity demanded of good A divided by percentage change in price of good B: positive for substitutes, negative for complements, near zero if unrelated.

A maximum price set below equilibrium creates excess demand, queues and black markets; a minimum price set above equilibrium creates a surplus that must be bought or stored.

The more inelastic side of the market bears the larger share of an indirect tax; the tax wedge is the vertical distance between the old and new supply curves.

Consumer surplus is the area below the demand curve and above price; producer surplus is the area above supply and below price; a distortion creates a deadweight loss triangle.

TC = FC + VC; AC = TC divided by Q; MC = change in TC divided by change in Q; the MC curve cuts AC at the minimum point of AC.

Short-run cost curves are shaped by diminishing marginal returns; long-run costs are shaped by returns to scale, with LRAC falling while economies of scale dominate.

Profit is maximised where MC = MR; a firm shuts down in the short run when price falls below minimum average variable cost.

Perfect competition: many firms, homogeneous product, free entry and exit, perfect information; each firm is a price taker, so P = MR = AR.

In long-run perfect competition, entry and exit drive price to minimum AC, so firms earn only normal profit and are both allocatively and productively efficient.

Monopoly: one firm, high barriers to entry, downward-sloping demand and MR below AR, so profit-maximising output is below the allocatively efficient level.

Oligopoly: few large firms with interdependence; the kinked demand curve explains price rigidity, while collusion raises prices and invites competition authority intervention.

Productive efficiency requires output at minimum AC; allocative efficiency requires P = MC; dynamic efficiency concerns innovation and improvement over time.

Revenue: TR = P × Q; for a price maker MR is below P because extra output requires a lower price on all units.

A natural monopoly exists where LRAC falls over the relevant range, so one firm supplies at lower cost than several; average cost pricing or price-cap regulation may then be applied.

Market failure occurs when the free market produces a socially inefficient quantity: externalities, public goods, merit and demerit goods, imperfect information, market power, factor immobility and inequality.

Negative externality of production: MSC exceeds MPC, output is above the social optimum and deadweight loss arises; a tax equal to marginal external cost moves output back toward the optimum.

Positive externality: MSB exceeds MPB, so output is below the social optimum; subsidy, direct provision or information campaigns can raise consumption toward the optimum.

Public goods are non-rival and non-excludable, so the free-rider problem means markets supply none or too little; government provides them through taxation.

Merit goods are under-consumed and demerit goods over-consumed because consumers underestimate costs or benefits, so information failure is the underlying cause.

Policy instruments: taxes, subsidies, tradable permits, regulation, price controls, direct provision, information provision and property rights.

Tradable permits fix the quantity of pollution and let the market set the permit price; a carbon tax fixes the price and lets the quantity of pollution adjust.

Government failure: information gaps, administrative and compliance costs, unintended consequences, regulatory capture and distortion of incentives.

Cost-benefit analysis compares the social costs and benefits of a project but faces difficulties in valuing non-market effects and in choosing a discount rate.

GDP = C + I + G + (X − M); GNP = GDP + net factor income from abroad; NNP = GNP − depreciation.

Real GDP = nominal GDP adjusted by a price index; the GDP deflator = (nominal GDP divided by real GDP) × 100.

GDP per capita ignores income distribution, non-market output, environmental damage and differences in purchasing power between countries.

Inflation is a sustained rise in the general price level, measured by the CPI; demand-pull comes from AD growing faster than capacity, cost-push from rising input costs or wages.

Costs of inflation: uncertainty, menu and shoe-leather costs, erosion of savings and fixed incomes, and loss of export competitiveness; borrowers generally gain and savers lose.

Unemployment types: frictional, structural, cyclical (demand-deficient), seasonal and real-wage; mainly cyclical unemployment responds to demand management.

Unemployment rate = unemployed divided by labour force × 100; the labour force excludes those not actively seeking work.

Money functions: medium of exchange, unit of account, store of value and standard of deferred payment; good money must be acceptable, divisible, durable, portable and scarce.

Simple deposit multiplier = 1 divided by the reserve ratio; credit creation is limited by reserve requirements, cash leakages and willingness to borrow.

Multiplier k = 1 ÷ (1 − MPC) = 1 ÷ (MPS + MPT + MPM); a rise in injections raises national income by k times the initial change.

Expansionary fiscal policy raises government spending or cuts taxes to raise aggregate demand; contractionary policy does the reverse; the size of the effect depends on the multiplier.

Fiscal multiplier = 1 ÷ (1 − MPC); a higher MPC and smaller leakages into tax, saving and imports give a larger effect on national income.

Automatic stabilisers such as progressive taxes and unemployment benefits dampen the cycle without a deliberate decision; discretionary policy requires an explicit change.

A budget deficit occurs when G exceeds T in a year; national debt is the accumulated stock of past deficits; heavy borrowing may crowd out private investment.

Monetary transmission: a lower policy rate lowers market interest rates, raising consumption and investment and weakening the exchange rate, so aggregate demand rises.

Quantitative easing: the central bank creates reserves to buy financial assets, lowering long-term yields when the policy rate is already near zero.

Supply-side measures shift LRAS to the right: education and training, deregulation, privatisation, labour market flexibility, infrastructure and lower marginal tax rates.

Policy conflicts: reducing inflation may raise unemployment, faster growth may worsen the current account, and tax cuts may widen the deficit and increase inequality.

Evaluation criteria: time lags, magnitude of effect, flexibility, certainty, side effects, and whether the problem originates on the demand or the supply side.

Comparative advantage: a country gains from specialising where its opportunity cost of production is lower; absolute advantage means producing more with the same resources.

Terms of trade = (index of export prices ÷ index of import prices) × 100; a rise means a unit of exports now buys more imports.

Tariff effects: higher domestic price, lower imports, loss of consumer surplus, gain in producer surplus, tariff revenue and a deadweight welfare loss.

Protection arguments include infant industries, anti-dumping, strategic industries, employment and food security; costs include higher prices, inefficiency and retaliation.

The balance of payments comprises the current account (goods, services, primary and secondary income) plus the capital and financial accounts, which must sum to zero overall.

A current account deficit must be financed by a financial account surplus: borrowing, selling assets or running down reserves.

Floating rates: appreciation makes imports cheaper and exports dearer (SPICED); depreciation does the opposite and improves competitiveness if elasticities are sufficient.

Marshall-Lerner condition: a devaluation improves the current account only if |PED of exports| + |PED of imports| > 1; the J-curve describes the initial worsening before improvement.

Fixed exchange rates must be defended with reserves or interest rate changes; floating rates adjust automatically but create uncertainty for trade and investment.

Development indicators: GDP per capita, the HDI (income, education, health) and the Gini coefficient; limitations include inequality, subsistence output and environmental costs.