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UM / Economics / ECO 211 / How does the market equilibrate itself in monopolistic competition?

How does the market equilibrate itself in monopolistic competition?

How does the market equilibrate itself in monopolistic competition?

Description

School: University of Miami
Department: Economics
Course: Principles of Microeconomics
Professor: David spigelman
Term: Spring 2016
Tags: Microeconomics, Cartels, and wage
Cost: 50
Name: ECO 211 Final Study Guide
Description: This includes notes from all the classes and review sessions. There are example problems, test questions, tables, and graphs to fully explain concepts that will be on the exam.
Uploaded: 04/23/2016
11 Pages 222 Views 18 Unlocks
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ECO 211


How does the market equilibrate itself in monopolistic competition?



Cartels, Consumer Theory

- 2 Cartels (only need to know one)

• Economic Cartels: businesses that get together to act like a cartel  - Cartels are illegal in the US (illegal to collude, firms can’t get together to set price and  output)

- 2 Characteristics for cartels to form

1. When you have a small number of firms (few players in the market)

2. homogeneous product (example: ebooks: only about 3 big companies for this  product

- If a cartel is successful, businesses will restrict output, raise the price, and there will  be a welfare's along with homogenous products with no innovation.

•Point A: successful cartel (not operating  


What are the two characteristics for cartels to form?



at the Point of Beauty (POB) We also discuss several other topics like What was democritus hypothesis?

•At point A, quantity of output (Q2) is  

lower and price is higher (P2)

•welfare loss, efficiency loss  

- How does the market equilibrate itself in a monopolistic competition?  • if Average Cost curve is too low, firms will enter the market (demand goes down) • if Average Cost curve is too high, firms will drop out (demand goes up)

- Consumer Theory

• 3 Assumptions

- More is better

- People can rank their preferences  

- Preferences are transitive or consistent (A >B, B >C, then A >C)

- Budget Constraint Example

-Y intercept: 5 (if you spend all your  


How do you find the consumer’s optimum if the indifference curve is a straight line?



We also discuss several other topics like What is an allergen?

money on burritos) (Budget/Price of  

burrito)

-X intercept: 4 (if you spend all your  

money on hamburgers) (Budget/Price  We also discuss several other topics like What is intertextuality?
If you want to learn more check out The populations that differ in one or more traits is called what?

of hamburger)

-Find the slope of the Budget  

constraint (BC)/ Marginal Rate of  

transformation (MRT)

•(-Px/Py)=Slope of BC or MRT

•-Price of Hamburger/Price of Burrito:  

(-5/4)

- Indifference Curve: all combinations of two goods  

which give consumer the same level of utility  

(utility is held constant)  

- convex to the origin  

- customer tries to be as far to the north-east but  

with subject to budget constraint  

* If there’s a unique point of tangency between the consumer budget constraint  and the indifference, then the consumer’s optimum and condition that holds at  that optimum is MRS=MRT*

Example Test Questions

-Can the indifference curve be upward sloping?

-No Don't forget about the age old question of Mashing is a process of what?
Don't forget about the age old question of How can we define biodiversity?

- D is at the north-east of C, which means it’s  

preferred  

-D can’t be indifferent to C if it is preferred  

- Can the indifference curve be thick?  

- No

- D is in the north east of C, which means it’s  

preferred  

- D can’t be indifferent to C if it is preferred

- Consumer’s Optimum  

- customer tries to be as far to the north-east but with subject to budget constraint  - How do you find the consumer’s optimum if the indifference curve is a straight line? - Find where the utility is highest at the  

origin through the two corners (dotted  

lines), the one at/ closer to the north-east  

is the optimum  

- Income Substitution Effect  

- Rules:

- 1) always on the initial indifference curve

- 2) always go towards the thing that’s getting cheaper

Example Problem

- What happens when price of cheese goes down

- Price of cheese decreases =  

budget constraint goes up (Y0 to  

Y1)  

-Substitution effect: goes to the  

thing that’s getting cheaper  

(cheese is cheeper) (Point A to  

Point B)

-Income effect: can afford more  

cheese so parallel shift of  

indifference curve (Point A to Point  

C)

- What happens when price of cheese goes  

up?  

- Price of cheese increases= budget  

constraint comes in (Y0 to Y1)

- Substitution effect: moving towards beet  

because it’s cheaper (A to B)

- Income effect: can’t afford more cheese so  

parallel shift inwards of indifference curve (A  

to C)

- Different Kinds of Indifferent curves

-C: Normal good  

(parallel shift of indifference curve)

- C’: Inferior good (shift upwards between A and B)

- C’’: Giffen good (way on top or way on bottom at the Y1 curve)

Labor/Leisure, Bond Math

- 4 things that shift the budget constraint

- Shifts up: getting a raise, cutting tax rate

- Shifts down: a demotion, raising tax rate

- Raise taxes: flattens the slope of budget constraint/ shifts it down (Y0 to Y1)

Example Test Question

- Under what condition would people work harder after raising taxes? - The income effect needs to be greater than the substitution effect (Needs to be on  the left of Point A)

- What happens when you win a lottery/ get a inheritance? When would you work  harder?

- There will be a parallel shift of the budget constraint to the right. You will work  harder if leisure was inferior.

- Value of a bond

- Face value/ Principle: amount you expect to be paid back when bond matures

- Coupon: promise of return (% of the face amount)

- C: Value of coupon  

- P: principle amount

- I: interest rate

- n: number of years

Example Bond Problem

- Principle: $1000

- interest rate= 5%

- Coupon: 50 (5% of $1000)

- What will the present value be after 3 years?

Important terms - Moral hazard: incentive to do the wrong thing (contrary to the interest of the firm or  society)

- Adverse Selection: when people you had selected include people you don’t want  (example: Insurance companies: if they accept everyone, people with preexisting  conditions will join and it’ll be costly)

- Conflict of interest: divided loyalties

Decisions Under Uncertainty, Types of Auctions  

- Types of Risk takers  

• Risk Adverse: Needs high percentage of certainty to take the risk • Risk Neutral: Neither high or low percentage of certainty  

• Risk Loving: Takes risk even with low percentage of certainty

• A: Risk Adverse

•B: Risk Neutral

•C: Risk Loving

Example Test Questions

- You have an initial wealth of $5. You’re planning to buy a guitar that costs $2. There is  a chance that the guitar could be Taylor Swift’s guitar and will cost $4. There’s also a  chance that it could be fake and cost $1.  

• Identify if the person is risk adverse, risk neutral, or risk loving under these three  conditions.  

- Condition 1

Wealth

Utility

1

4

2

7

3

9

4

10

5

11

6

11.5

7

11.5

*Good State of the World (GSW): (Initial wealth+ Cost of guitar + If real price) *Bad State of the World (BSW): (Initial wealth+ Cost of guitar+ If fake price) *Wealth and Utility of BSW

*Initial wealth and Utility

*Wealth and Utility of GSW

Initial wealth: $5

Cost of Guitar: $2

If real Taylor Swift’s guitar: $4

If fake Taylor Swift’s guitar: $1

Good State of the World (GSW): 7 —> (5-2+4)

Bad State of the World (BSW): 4 —> (5-2+1)

Initial utility: 11

Utility of GSW: 11.5

Utility of BSW: 10

• The person needs 57% certainty to buy the guitar. The person is risk adverse because they need a high % certainty to take there risk.  

- Condition 2 (Refer to bolded numbers from Condition 1)  

u(w) = 2w (translated as) Utility= 2 x Wealth  

Initial Utility: 10 (2 x 5)  

GSW Utility: 14 (2 x 7)  

BSW Utility: 8 (2 x 4)

-The person needs 33% certainty to buy the  

guitar. The person is risk neutral because they  

don’t need a high % or want a low % of  

certainty.  

- Condition 3 (Refer to bolded numbers from Condition 1)

u(w) = w2 (translated as) Utility= Wealth2 

Initial Utility: 25 (52)

GSW Utility: 49 (72)

BSW Utility: 16 (42)

-The person only needs 27% certainty to buy the  

guitar. The person is risk loving because they

are will to take the chance even with a low % of certainty.  

4 Types of Auction

1. English: Open outcry, price increases until highest bidder wins, the person with the  highest private value win

2. Dutch: Open outcry, price starts high until bidder stops the auction (should bid below  your private value so that you don’t pay more than you could have)

3. Sealed Bid 1st price: put bid in privately in an envelope and highest bid wins (should  bid below private value)

4. Sealed Bid 2nd price: put in bid privately, highest bidder wins and gets the product  with the price of the 2nd highest bidding rice (should bid your private value)

Private value: how much the product is worth to you.

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