[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

Review and Practice
SUMMARY
1. The basic competitive model consists of rational, selfinterested
individuals and profit-maximizing firms,
interacting in competitive markets.
2. The profit motive and private property provide incentives
for rational individuals and firms to work hard and
efficiently. Ill-defined or restricted property rights can
lead to inefficient behavior.
3. Society often faces choices between efficiency, which
requires incentives that enable people or firms to
receive different benefits depending on their performance,
and equality, which entails people receiving more
or less equal benefits.
4. The price system in a market economy is one way of
allocating goods and services. Other methods include
rationing by queue, by lottery, and by coupon.
5. An opportunity set illustrates what choices are possible.
Budget constraints and time constraints define individuals’
opportunity sets. Both show the trade-offs of how
much of one thing a person must give up to get more
of another.
6. A production possibilities curve defines a firm or society’s
opportunity set, representing the possible combinations
of goods that the firm or society can produce. If
a firm or society is producing below its production possibilities
curve, it is said to be inefficient, since it could
produce more of either good without producing less of
the other.
7. The opportunity cost is the cost of using any resource. It
is measured by looking at the next-best use to which
that resource could be put.
8. A sunk cost is a past expenditure that cannot be recovered,
no matter what choice is made in the present.
Thus, rational decision makers ignore them.
9. Most economic decisions concentrate on choices at the
margin, where the marginal (or extra) cost of a course of
action is compared with its extra benefits.
KEY TERMS
competition
basic competitive model
rational choice
perfect competition
price taker
price system
private property
property rights
tragedy of the commons
rationing systems
opportunity set
budget constraints
time constraints
production possibilities
production possibilities curve
diminishing returns
relative price
opportunity cost
sunk costs
marginal costs
marginal benefits
REVIEW QUESTIONS
1. What are the essential elements of the basic competitive
model?
2. Consider a lake in a state park where everyone is
allowed to fish as much as they want. What outcome do
you predict? Might this problem be averted if the lake
were privately owned and fishing licenses were sold?
3. Why might government policy to make the distribution
of income more equitable lead to less efficiency?
4. List advantages and disadvantages of rationing by
queue, by lottery, and by coupon. If the government
permitted a black market to develop, might some of the
disadvantages of these systems be reduced?
5. What are some of the opportunity costs of going to college?
What are some of the opportunity costs a state
should consider when deciding whether to widen a
highway?
6. Give two examples of a sunk cost, and explain why they
should be irrelevant to current decisions.
7. How is marginal analysis relevant in the decision about
which car to purchase? After deciding the kind of car to
purchase, how is marginal analysis relevant?
REVIEW AND PRACTICE ∂ 45