Complete IGCSE Edexcel Economics Notes:
The Economic Problem is that all countries have finite resources, yet we have
unlimited wants. An economist must decide how to allocate these scarce resources
between uses, weighing up the pros and cons of different situations. The three main
questions which are asked are:
1. What to produce?
2. How to produce?
3. For whom to produce?
When making these choices, firms and governments will face a cost called opportunity cost.
The opportunity cost is a sacrifice made when making a choice. This choice can be
graphed on a chart which shows the different combinations of goods an economy can
produce if all resources are used up, called the Production Possibility Curve (aka PPC). It
is assumed that nations can produce capital goods (those purchased by firms to produce
other goods) and consumer goods (those purchased by households with the intention of
using them). When a point moves along the PPC, an opportunity cost occurs because you
could be producing a different amount of something else and get more of it.
Over time, the
PPC shifts
outwards. This is
called economic
growth (an
increase in the
level of output
by a nation).
Reasons for
Economic Growth
● New
Technology: new
technology is
faster and more
reliable in production, thus causing more output
● Improved Efficiency: new production methods developed, increasing output
● Education and Training: economy becomes more productive as the proportion of
educated workers increases as they can comprehend tasks faster and increase
output
● New Resources: some nations may find more resources, so they can produce more,
thus increasing output
When the PPC shifts inwards, it means that there is negative economic growth. This
could happen for a plethora of reasons:
● Resource Depletion: running out of resources, reducing output
● Weather: droughts reduce agricultural capacity, reducing output
● Emigration: large numbers of highly skilled and qualified workers move overseas,
reducing output
● Wars and conflict: less production availability as fewer resources, reducing output
There are a few main economic assumptions. These are that:
1. Consumers aim to maximise benefits
1. They will buy the cheapest product out of products of the same quality
2. They will buy the highest quality product out of products at the same price
2. Businesses aim to maximise their profits
1. They will buy the cheapest resources out of resources at the same price
2. They will choose the highest price that the market can stand to maximise
revenue and profit
,However, in some situations, consumers and producers might not actually maximise their
benefits:
1. Consumers
1. Difficulty in calculating benefits results in less satisfaction
2. Consumers may develop habits, such as brand loyalty
3. Influenced - consumers may be influenced by people such as friends or
parents and adopt their buying habits
4. If consumers do not have access to all of the information, they cannot make
balanced choices
2. Producers
1. Sales managers may attempt to sell as much as possible individually, thus
selling larger quantities and lowering prices, making profits negative
2. Alternative business objectives such as customer care
3. Enterprises operating as charities do not always want profits
4. Social Enterprises want to help the community, not just gain profit
5. If producers do not have access to all of the information, they cannot make
balanced choices
Demand is the amount of a good which is bought at given prices over periods of time.
Effective demand is how much would be bought at any given price. Demand can be
shown graphically, on the demand curve. This is a line drawn on a graph showing how
much of a good will be bought at different prices. Price and quantity demanded have an
inverse relationship.
If the price of a
good changes,
then there is a
movement along
the demand
curve, and if there
is a change in
other factors
(income, etc) then
the demand curve
will shift. This
means that it
moves inwards or
outwards.
There are some
specific factors
affecting demand:
● Demographic Changes: an example of a demographic change is an ageing
population, where there is an increase in demand for retirement homes and holidays
for the elderly. Other changes include geographical demographics and ethnic
demographics; when these things change, demand for goods increases and falls.
● Advertising: firms may attempt to influence demand for their products through
advertising and other forms of promotion. Heavy advertising results in a shift
outwards
● Income: when disposable income rises, demand for goods rises. When income rises,
demand for normal goods (goods which you spend more money on when you have
access to more money) rises. However, when income rises, demand for inferior
goods (goods which are similar to supermarket ‘own goods’ brands) decreases as
consumers move on to more expensive options
● Fashion and tastes: demand rises for things which are more fashionable and
attractive at the time, however, these tastes change over time
, ● Price of substitutes: a substitute good is a good which is bought as an alternative to
another for the same function. When the price of a substitute decreases, demand for
a product falls (the demand curve shifts leftwards). If there are many substitutes,
demand is changed significantly
● Price of complements: a complementary good is a good which is purchased
together with another good because it is consumed with that other good. If the price
of the complement of a good increases, then the demand for the product may
decrease.
The Supply Curve:
Supply is the amount that producers are willing to offer to sell at different prices in a given
period of time. The supply curve is a line drawn on a graph which shows how much of a
good sellers are willing to supply at given prices. There is a proportionate relationship
between price and quantity supplied. This means that when prices increase, supply
increases and vice versa.
If the price of a good changes, then there will be movement along the supply curve. A
change in other factors (ie the FoP) can result in a shift in the supply curve. This is when it
moves inwards or outwards.
Sometimes, the supply can be fixed. This means that there is a vertical supply curve. An
example of this is when it is impossible for supply to be increased, such as for seats at a
sports venue.
Price is the main factor which can affect supply. These include:
● Production costs - These are things such as machinery costs, wages, raw materials
and rent. If the price is fixed and production costs rise, then sellers will reduce supply
as their profits are reduced, and vice versa. This results in the supply curve shifting
inwards.
● Indirect taxes - These are taxes on spending (ie VAT, GST). When they are imposed,
then the supply curve shifts leftwards because firms have to spend more, thus
reducing supply. Governments will implement these taxes to increase revenue and
discourage the consumption of harmful products. When indirect taxes are increased,
the supply curve shifts inwards and vice versa.
● Subsidies - This is where governments give money to firms in the form of a grant.
This encourages them to produce a particular product, thus increasing supply and
shifting the supply curve outwards.
● Changes in technology - Newer technology can decrease the costs of production by
making it more efficient. This can increase yield (the amount of something produced),
causing the supply curve to shift outwards.
● Natural Factors - These include weather, natural disasters, pests and disease. Good
growing conditions increase crop yield, thus increasing supply and shifting the supply
curve outwards, and vice versa.
, Market Equilibrium:
You can put a demand on the supply on the same graph. The point at which they cross can
be referred to as the equilibrium price (this is where supply and demand are equal). This is
also known as market clearing price, which means that the amount supplied in a market
matches the amount demanded, so all goods and services will be bought. Total revenue is
the amount of money generated from the sale of goods calculated by multiplying price by
quantity. It can be shown on a graph by looking at the area below the price shown.
When the demand and supply curves shift, there is a shift in the equilibrium price to the new
intersection between the two, wherever that may be.
If the price charged in a market is below equilibrium, supply and demand are not equal.
There will be either excess demand or excess supply. Excess demand is where demand is
greater than supply, and there are shortages in the market. Excess supply is where supply is
greater than demand and there are unsold goods in the market. With disequilibrium in the
market, producers must change the price of products (if there is excess demand) or adjust
supply (if there is excess supply).
Price Elasticity of Demand:
For some goods, price changes mean that there are large changes in the quantity
demanded, and for others, there will be a smaller change. For a large change, you say that
demand is much more responsive to price. Price Elasticity of Demand (aka PED) is the
responsiveness of demand to a change in price.
Inelastic Demand is where the change in price results in a proportionality smaller change in
the quantity demanded. Elastic demand is where the change in price results in a greater
change in quantity demanded.
The formula to calculate PED is PED = (% change in quantity demanded)/(% change in
price). There are a few different outcomes to this formula:
● If PED<1, demand is inelastic
● If PED>1, demand is elastic
● If PED=0, demand is perfectly inelastic
● If PED=∞, demand is perfectly elastic
● If PED=-1, demand is unitary elastic
Perfectly inelastic is where a change in price will result in no change in quantity demanded.
Perfectly elastic is where an increase in price results in zero demand**. Unitary elastic** is
where the responsiveness of demand is proportionately equal to a change in price.
The value of PED can be affected by these factors:
● Availability of substitutes - goods with many substitutes will have elastic demand
because consumers can easily switch between products. If there are few/no
substitutes, then there will be inelastic demand
● Degree of necessity - essential goods (ie rice, car fuel) will have inelastic demand
because people need to buy them. Inessential goods (ie big-ticket luxury items) have
elastic demand
● Habits - if a product is habit forming, then it may become necessary for consumers,
giving it inelastic demand
● Proportion of income spent on a product - If consumers spend a large proportion of
their income on a product, then demand becomes more elastic because consumers
are more likely to wait for a price drop
● Time - In the short term, goods have inelastic demand as it takes consumers time to
find substitutes when the price rises (for example). In the long run, demand is more
elastic as consumers can spend more time searching for alternatives
When price changes, there is a change in quantity demand and therefore there is a change
in total revenue. Price elasticity will tell us whether revenue rises or falls after price changes
Price Elasticity of supply is the responsiveness of supply to a change in price. Inelastic
supply is where the change in price results in a proportionately smaller change in quantity
supplied, and elastic supply is where the change in price results in a proportionately greater
change to the quantity supplied. The formula for PES is PES = (% change in quantity
supplied) / (% change in price).
