Microeconomics Revision Notes
Consumers = An individual who purchases a good or service.
Producers = An individual or firm that creates and supplies a good or service to consumers.
Microeconomics = The study of the behaviour of consumers and producers in making decisions
regarding resource allocation.
1. Scarcity and Choice
Scarcity = This is when a good or service is limited, meaning it will eventually run out.
• Scarcity leads to high prices, so people miss out.
• It inevitably leads to choices.
• People with a lower income tend to miss out.
Choice = The selection of appropriate alternatives.
Needs = A good or service that we cannot live without, e.g. food and water.
Wants = A good or service that improves our daily lives but is not essential for survival, e.g. cars.
1.1.1. The Economic Problem
The general economic problem is that resources are finite (limited), and our needs and wants are
infinite (unlimited).
There are three key economic questions that we need to consider when producing resources:
1. What to produce?
2. How to produce it?
3. For whom to produce?
1.1.2. Opportunity Cost
Opportunity cost = To use a resource for something means you cannot use it for something else, so
you must give something up.
• For instance, if you choose to watch a film rather than have a nap; the opportunity cost = the
nap.
• However, it is only the next best option, not every option.
Economic goods = must have an opportunity cost.
Free goods = have no opportunity cost; there is only 1 option, e.g. breathing air.
To calculate opportunity cost, we must use this equation:
Amount lost of product 1/Amount gained of product 2.
1.1.3. Resources
Economic resources = The materials used to generate economic goods (physical) and services (not
physical).
Renewable resources = The materials that can be reused after using it once.
Non-renewable resources = The materials that cannot be reused after using it once.
CAI PUGH 1
, 1.1.4. Factors of Production
• To create a good or service, it requires materials, workers, machinery, and money.
• These are called the factors of production because without them, we would not be able to
produce a good or service.
Land = This is natural resources e.g. energy from wind, iron ore, rain.
Labour = This is the people used to turn the materials into finished products e.g. IT specialists, box
fillers, machine programmers.
Capital = This is machinery used to manufacture a product e.g. computers, software, vehicles,
robotics.
Enterprise = This is the people who spend the money that bring the other three resources together e.g.
sole traders, investors, business angels.
1.1.5. Rational Behaviour
Rational behaviour = To do something in your best interest.
Wrong decisions = This is a rational decision that seemed right beforehand but turned out to be
wrong.
Economic agents = These are the consumers, producers, and the government.
• Economists always assume an economic agent with always act rationally.
• When agents do not act in their best interest, they are acting irrationally.
1.2. Production Possibility Frontiers (PPFs)
Production possibility frontier (PPF) = This is a diagram which shows the possible combinations of
two products that can be manufactured with a given set of resources.
Point A = Has all resources being used to make vehicles and none making houses, the
maximum amount of vehicles possible.
Point B = Has all resources being used to make houses and none making vehicles, the
maximum amount of houses possible.
Point C = Has a combination of vehicles and houses being made (V1 vehicles and H1 houses).
Point D = Can be produced but that would mean some resources are not being used so we are able to
make more – all points within the PPF are productively inefficient.
Point E = Cannot be achieved given current resources.
Productive efficiency = This is when the PPF reaches the maximum possible output given current
resources.
CAI PUGH 2
, 1.2.1. Showing Opportunity Cost on a PPF
Initially, we are at point A with 10 houses and 8 vehicles.
To move to point B and increase the number of vehicles by 8, we must decrease the number of
houses by 2.
This means the opportunity cost of 8 vehicles is 2 houses (or 1 vehicle = 0.25 houses).
The opportunity cost of increasing production of one product is the amount of the other product you
must give up.
1.2.2. PPF as a Concave
The PPF is a concave shape because the resources used cannot be perfectly substituted between each
product e.g. the machinery used to make vehicles will not be useful for making houses.
This means that the opportunity cost is not constant along the PPF.
Diminishing returns = When it costs more of good A to produce good B.
Constant returns = When the opportunity cost is consistent between two goods, so the production of
one does not effect the other.
1.2.3. PPF Expansion
Productivity = The level of output produced with a given set of resources.
If there is an increase in the amount of resources available, or an improvement in the productivity of
existing resources, the amount that a country can produce will increase and the PPF will expand
outwards as shown below:
Economic growth = This is when there is an increase in the level of production and/or the number of
resources available.
CAI PUGH 3
