Unit 1 - Introduction to markets and market failure
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Summary Theme/Unit 1-Intro to Market Failure- A Level Economics Edexcel A- Revision Notes
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Unit 1 - Introduction to markets and market failure
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Unit 1 - Introduction to markets and market failure
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YOUR NOTES
A Level Economics A Edexcel
1. Introduction to Markets & Market Failure
CONTENTS
1.1 Nature of Economics
1.1.1 Economics as a Social Science
1.1.2 Positive & Normative Economic Statements
1.1.3 The Economic Problem
1.1.4 Production Possibility Frontiers
1.1.5 Specialisation & the Division of Labour
1.1.6 Free Market Economies, Mixed Economy and Command Economy
1.2 How Markets Work
1.2.1 Rational Decision Making
1.2.2 Demand
1.2.3 Price, Income & Cross Elasticities of Demand
1.2.4 Supply
1.2.5 Elasticity of Supply
1.2.6 Price Determination
1.2.7 Price Mechanism
1.2.8 Producer & Consumer Surplus
1.2.9 Indirect Taxes and Subsidies
1.2.10 Alternative Views of Consumer Behaviour
1.3 Market Failure
1.3.1 Types of Market Failure
1.3.2 Externalities
1.3.3 Public Goods
1.3.4 Information Gaps
1.4 Government Intervention
1.4.1 Government Intervention in Markets
1.4.2 Government Failure
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1.1 Nature of Economics YOUR NOTES
1.1.1 Economics as a Social Science
The Process of Developing Models
Economics is a social science
It studies societies and the human interactions within those societies
Human interactions are complex and are influenced by many variables
Social sciences also include subjects such as Psychology, Politics, Geography and
Business Studies
Due to the complexities within societies, economists build models so as to better
understand certain interactions
A model is a simplified version of reality
Some models are more complex than others. For example, the Circular Flow of
Income model seeks to demonstrate the interactions of all economic agents (firms,
households, government, banks, international trade) within an entire economy
All models make a range of assumptions. These are often generalisations about
behaviour, choices and likely outcomes
These assumptions are necessary so as to account for complex human behaviour and
constantly changing variables
When evaluating different models, the underlying assumptions should always be
considered
To think like an economist involves identifying which variables will be studied and which
ones will be excluded
It considers the type of relationship between variables (causal or correlation). For
example, data shows that when ice cream sales increase, so do car thefts. Correlation,
yes. Causation, no
Some economists will build an argument to include certain variables in a study and
others will argue to exclude them. They will each provide a justification for their
decision
Two economists analysing the same data may end up with vastly different
interpretations. This is often due to the different variables that each economist
chooses to focus on. This is the complexity found within social sciences
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The Use of Ceteris Paribus YOUR NOTES
Due to the large number of variables that can influence any particular economic
interaction in society, economists create models using the principle of ceteris paribus
Translated from Latin, ceteris paribus means 'all other variables remain constant'
It allows economists to simplify and explain causes and effects, even if the
explanation is somewhat limited by the assumptions
For example, there are many factors that affect the level of unemployment in an
economy (interest rates, consumer confidence, firms investment, government
policies etc.). However, using ceteris paribus, economists can simplify the economic
model to analyse just two variables (unemployment and interest rates). The analysis
is conducted ceteris paribus. The analysis is conducted ceteris paribus. All the other
variables remain constant, even when they are highly likely to have changed
The Inability to Make Scientific Experiments
The natural sciences use the scientific method to prove a relationship between two
variables
Briefly explained, the scientific method includes the following steps
Define a question to investigate
Develop a hypothesis (make a prediction)
Conduct a test
Gather data
Analyse the data
Report the conclusions
If the relationship between two variables is proven, then as long as the test conditions
are replicated, the conclusions to that experiment should be the same anywhere in the
world.
The social sciences use a variation of this method called the social scientific method as
there is an inability to make scientific experiments the results of which can be proven time
and time again
This is due to the complexity of human nature and the significant number of social
interactions that are taking place in any economy at any given point in time
The steps in the social scientific method are similar but there is a key difference
Define a question to investigate
Develop a hypothesis using ceteris paribus (make a prediction)
Conduct empirical research
Gather data
Analyse the data
Report the conclusions
Empirical research is collected through observations, surveys, opinion polls etc.
The results of the same hypothesis can vary significantly when conducted by
different researchers at different time periods and between different places and
cultures
Economic models are developed by economists once a hypothesis has been repeatedly
proven or rejected in different circumstances.
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1.1.2 Positive & Normative Economic Statements YOUR NOTES
Positive & Normative Statements
Positive economics is concerned with objective statements of how a market or an
economy works
These positive economic statements are based on empirical evidence and tend to be
statements of fact
They can be proven to be true or false
These are examples of positive economic statements
The UK unemployment rate has fallen from 4% to 3.7% in the past three months
Increasing the minimum wage last year in the UK resulted in improvements to
wage inequality
Prices in the UK have risen dramatically, partly due to the 20% increase in the
price of oil
Normative economics focuses on value judgements. These judgements are built around
opinions and beliefs as to what the best economic policies or solutions may be
These judgements are called normative economic statements
Normative economic statements are what separate political parties and the different
economic agendas they put forward
These are examples of normative economic statements
Every economy should aim to provide free healthcare for its citizens
Corporation taxes in an economy should be higher than personal income taxes
The best way to deal with a rise in crime is to employ more police
Exam Tip
Examiners will often assess your understanding of positive and normative economic
statements in the MCQ questions. They do this by asking you to identify either the
positive or negative statement in the list.
Normative statements often have the word 'should' in them (but not always).
Positive statements usually include data that is hard to challenge. Any use of
concrete data points towards the statement being a positive statement.
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