Adjustment process 2, 4 Path by which a system
moves from a position of disequilibrium to one of
equilibrium. Adverse selection 12 A problem in insurance
markets caused by asymmetric information. Insurance tends to
be purchased most by those who know that they are high
risks. Aggregation A method of simplifying theory by
combining many markets into a large, composite market. Allocation 6 The determination of what goods and
services will be produced from available resources.
Allocation can be done with markets or with hierarchy. Antitrust policy 15 Policy that makes companies
act in a competitive manner by breaking up companies that
are monopolies, prohibiting mergers that would increase
market power, and finding and fining companies that collude
to establish higher prices. Arbitrage 12 Simultaneously buying in a cheap
market and selling in an expensive one. Budget Constraint 2 A line that separates outcomes
that are affordable from outcomes that are not affordable.
Occasionally called a consumption-possibilities
frontier. Change in demand 4 A shift in the demand
curve. Change in quantity demanded 4 A change in the
amount people buy because a change in price moves them along
a stationary demand curve. Change in quantity supplied 4 A change in the
amount sellers sell because a change in price moves them
along a stationary supply curve. Change in supply 4 A shift in the supply
curve. Circular flow model 9 A simplified picture of a
market economy showing the flow of products from businesses
to households and the flow of resources from households to
businesses. Consumer Sovereignty 11 In a market economy, it is
ultimately the wants of the consumers, not the preferences
of the producers, that determine what goods and services are
produced. Consumers' surplus 8, 13 The difference between
the maximum a buyer would pay and the actual price. Consumption-possibilities frontier 2 See budget
constraint. Contingent behavior 2 Behavior that exists when
each person's actions depend on what he expects others to
do. Cross-price elasticity (cross-elasticity) 5 A
measure of whether goods are substitutes or complements. Demand curve 4 The relationship between price and
the amount of a product people want to buy. Derived demand 14 The demand for a resource
depends on, or is derived from, the demand for the things
that the resouce helps produce. Disequilibrium 2, 4 A condition that exists when a
system is not at rest and has a tendency to change. Dollar voting 11, 13 An explanation of how a
market economy determines what goods are produced, made with
an analogy to the political process of voting. Duopoly 15 A market in which there are two
sellers. Economic efficiency 11, 12, 13, 14, 15 A situation
in which value is maximized. Given resources, technology,
and preferences, no changes will increase value. Also called
Pareto optimality. Economic inefficiency 11, 13, 14, 15, 16 A
situation in which there is potential value that no one
captures. Given resources, technology, and preferences,
there is some change which will improve the well-being on
one individual without harming anyone else. Economic Rent 8 See producer surplus. Elasticity 5 A measure of responsiveness. Entrepreneur 12 An individual who creates new a
new organization, market, or product, usually in the quest
for profit. Entrepreneurs are innovators. Equilibrium 2, 4, 8 A condition that exists
when a system is at rest and has no further tendency to
change. Externality 12 A cost or benefit that a decision
maker passes on to a third party. Pollution is an example of
a negative externality. Excise tax 13 A sales tax on a specific item. Fixed cost 10 Cost that does not change as output
changes. Free rider 13, 15 Person who does not pay for good
or service because there is no way to exclude those who do
not pay from using the good or service. Game theory 3 An analysis of interactions in which
the outcome a person faces depends not only on his strategy
of action, but also on the strategies of others. Human capital 10, 12 Peopleís assets in the
form of investment in themselves. Income elasticity of demand 5 A measure of the
responsiveness of people's purchases to changes in
income. Indifference curve 8 In a graphical representation
of a utility function; an indifference curve plots all
combinations of goods and services which provide the same
utility. Occasionally called an isoutility curve. Inferior good 4, 5 A good that people buy less
frequently if their incomes rise. Invisible hand 1, 12 A phrase that expresses the
belief that the best interests of a society can be served
when individual consumers and producers compete to achieve
their own private interests. Isoquant 9 In a graphical representation of a
production function, an isoutility curve shows all ways of
producing a specificlevel of output. Law of demand 4 The principle that there is an
inverse relationship between the price of a good and the
quantity that buyers are willing to purchase. Law of diminishing returns 9 Adding more of one
input while holding other inputs constant eventually results
in smaller and smaller increases in added output. Lorenz Curve 6 A graphical way to illustrate the
equality or inequality of the distribution of income. Marginal cost 7, 10 The change in total cost
caused by a one-unit change in an activity, or the slope of
the total cost curve. In the case of a business, the change
in total cost is caused by a change in output. Marginal rate of substitution 11 The ratio at
which people will trade good B for good A. Marginal rate of transformation 11 Slope of the
production-possibilities frontier, which shows how much of
good B must be given up to produce more of good
A. Marginal resource cost 9 The change in total cost
caused by a one-unit change in an input. Marginal revenue 4, 5, 9 The change in total
revenue resulting from a change in sales; the slope of the
total cost curve. Marginal revenue product 10 The change in total
revenue resulting from a one-unit change in an input. Market failure 11 A situation in which a market
yields a result that is economically inefficient, that is,
there is value that is not captured. Maximization principle 7 The rule that net
benefits are maximized when marginal benefit equals marginal
cost. Monopoly 15 An industry with only one seller. Monopolistic competition 16 An industry that has
easy entry and exit, but in which sellers are price
searchers. Monopsony 9 A market with only one buyer. Moral hazard 12 An insurance problem; when the
cost of a disaster is reduced with insurance, people have
less incentive to avoid the disaster. Negative-sum game 13 In terms of game theory, an
interaction in which losses exceed winnings. Normative analysis 1, 14, 15 An analysis based on
a judgement about what is desirable and what is
undesirable. Oligopoly 15 An industry in which there are few
sellers. Paradox of Value 8 The puzzle of why essential
items such as water are cheap while frivolous items such as
diamonds are expensive. The paradox is easily resolved when
one understands the difference between total value and
marginal value. Pareto optimality 11 See Economic efficiency. Positive analysis 1, 4 An analysis limited to
statements about the actual consequences of an event or
policy, with no judgement about whether the consequences are
desirable or not. Positive-sum game 3, 9, 13 In terms of game
theory, an interaction in winnings exceed losses. Present value 8 Money in the future is less
valuable than an equivalent amount of money now because
money in the future gives fewer options. The comparison of
money in different time periods is made with a present value
computation. Price ceiling 6 Legally established maximum price
a seller can charge. Price-discrimination 15, 16 Charging different
prices for the same good or service. Price floor 6 Legally established minimum price a
seller can be paid. Price elasticity of demand 5 Measures how much
consumers respond to a change in price in their buying
decisions Price elasticity of supply 5 The same formula as
price elasticity of demand, except that the quantity in the
formula refers to the quantity that sellers will sell. Price searcher 4 A seller (buyer) who can
influence price by the amount he sells (buys). Price taker 4 A seller (buyer) who has no control
over price, but sells (buys) at the given price. Principal-agent problem 10 The potential conflict
of interest when a person (the principal) has someone (the
agent) acting on his behalf. Prisonersí dilemma 3, 11, 15 A game theory
illustration that self-interest can lead to group
disaster. Problem of the commons 2, 3, 8, 14 Refers to the
absence of any automatic mechanism or incentive to prevent
the overuse and depletion of commonly-held resources. Producers' surplus 8, 13 The difference between
the lowest price a producer will accept and the actual
price. Also called economic rent. Production function 9 The mathematical way of
stating that output depends on inputs. Production-possibilities frontier 2 , 9, 11, 13, 15,
16 Frontier that separates outcomes that are
possible for an individual (or a group) to produce from
those that cannot be produced. Profit seeking 13 Efforts to obtain value through
exchange by providing a good or service that others consider
valuable. (See rent seeking for the alternative.) Progressive tax 13 A tax that charges a higher
percentage of income as income rises. Proportional tax 13 A tax that charges the same
percentage of income, regardless of the size of income. Public good 13 A good or service that, once
produced, has two properties: Benefits are available to all
and there is no way to bar people who do not pay (free
riders) from consuming the good or service. Quota 3, 13, 16 Limit on the quantity of a good
that may be imported in any time period. Regressive tax 13 A tax that charges a lower
percentage of income as income rises. Rent seeking 13 Efforts to obtain value through
transfer without providing anything in return. Scarcity 1, 2, 3 The condition in which human
wants exceed the available supply of goods, time, and
resources. In a world without scarcity, there would be no
economics. Shortage 4, 6 The market condition existing when
quantity demanded exceeds quantity supplied. Generally an
increase in price will eliminate a shortage. Speculation 12 Attempting to buy when the price is
low and sell when it is high. Sunk cost 15 Cost that cannot be recovered. Supply curve 4 The relationship between the
quantity sellers want to sell during some time period
(quantity supplied) and price. Surplus 4 The market condition existing where the
quantity supplied is greater than the quantity demanded.
Generally a decrease in price will eliminate a surplus. Tariff 13, 16 Excise tax on imported goods. Tax incidence 13 Taxes can be shifted from those
who write the check to the government to others. The study
of tax incidence is the study of who ultimately bears the
burden of the tax. Tournament theory 14 An analysis of conditions
under which small differences in ability result in large
differences in reward. Utility 1, 7 An abstract variable, indicating
goal-attainment or want-satisfaction. Utility function 7 A mathematical way of saying
that utility depends on consumption of goods and
services. Zero-sum game 1, 2, 3, 8, 16 An interaction in
which the sum of winnings and losses equals zero.