Luke Smalley Fall 2015 Micro 4 Macrovariables (GPIE) 1. GDP/Output 2. Price levels 3. International sector 4. Employment 4 Factors of Production (LLCM) 1. Land – all natural resources 2. Labor – all human effort Why are you in business? PROFIT
Why are you in business?
3. Capital – manmade resources used to produce other things 4. Management – entrepreneurs & human leadership Nonprice Determinants of Demand (TIREN) 1. Taste 2. Income 3. Related goods (substitutes & complements) prices 4. Expectations about future prices 5. Number of buyers in market Nonprice Determinants of Supply (NAFTE) 1. Number of sellers in market 2. Alternative goods prices 3. Factor prices 4. Technology 5. Expected goods prices Edp > 1 Demand is elastic (Qdx is responsive to ΔP) ↑Price TR Price ↓ ↓ TR (inverse relationship between ↑ ΔP & ΔTR) If you want to increase TR, lower price Edp < 1 Demand is inelastic (Qdx is unresponsive to ΔP) ↑Price TR Price ↑ ↓ TR (direct relationship between ↓ ΔP & ΔTR) If you want to increase TR, increase price o Buyers are not responsive to price, will buy regardless Edp = 1 Unitary elastic ΔP does not change TR Edp = 0 demand = perfectly inelastic (Vertical demand curve) Qd = totally unresponsive to ΔP You have to buy it (Inhaler)Edp = ∞ demand = perfectly elastic (Horizontal demand curve) Any ΔP will cause Qd to drop to zero ↑ Determinants of Price Elasticity of Demand (SNIT) 1. Substitutes (Availability of) 2. Nature of the good (necessity or luxury) 3. Importance in the budget (incidental or major) 4. Timing (little or a lot of time to respond) Determinants of Price Elasticity of Demand (SNIT) 1. Substitutes (Availability of) a. More substitutes enables you to be more responsive to ΔP i. More responsive = higher Edp b. In the case of few substitutes, P , still have to buy it ↑ i. Few substitutes = low Edp c. The way you define a good determines the availability of substitutes i. Broad definition = few substitutes 1. Price of cars Ed ↑ p = low ii. Narrow definition = many substitutes 1. Blue 2 door hybrid hatchbacks P Ed ↑ p = high 2. Nature of the good (necessity or luxury) a. Less responsive to increase of price of necessity (you NEED it) b. Much more responsive to increase of price of luxury i. Can always postpone buying it c. Luxuries = high values of Edp d. Necessities = low values of Edp 3. Importance in the budget (incidental or major) a. Incidental – paper clips, dental floss, rubber bands, toothpaste i. P ↑ no response ii. Low Edp b. Major item i. You can always postpone consumption ii. High Edp 4. Timing (little or a lot of time to respond) a. Broader analysis period = high Edp b. Less time to respond – you still have to buy it (gas) i. Low Edp
Nature of the good
Importance in budget
A lot of time
A little time
Why would domestic price differ from the world price?
Don't forget about the age old question of this manipulator forces cout to print digits in fixed-point notation:
4 Market Structures in order of decreasing competitiveness (PMOP) 1. Perfect Competition 2. Monopolistic competition 3. Oligopoly 4. Pure monopoly 4 points of comparison between market structures (NPEA) 1. Number of firms 2. Product type 3. Ease of entry/exit 4. Availability of informationMatthew Zakowski Intro to Microeconomics Final Exam Review Chapter 11 Key Ideas 1. The three main factors of production are labor, physical capital, and land. 2. Firms derive the demand for labor by determining the value of marginal product of labor. 3. The supply of labor is determining by trading off the marginal benefit from labor given by earnings against the marginal cost, the value of foregone leisure. 4. Wage inequality can be attributed to differences in human capital, differences in compensating wages, and discrimination in the job market. 5. In addition to labor, a producer must derive the demand for physical capital and land to achieve its production objectives. Value of Marginal Product of Labor (VMPL) VMPL is how much each worker contributes to revenue. It is the contribution of an additional worker to a firm’s revenues. VMPL = MP x Output Price Assumptions 1. There is perfect competition in the output market. 2. There is perfect competition in the labor market. Maximizing Profit 1. In choice of how much to produce: MR = MC 2. In choice of how many workers to hire: MP x P = W or VMPL = W Marginal benefit of leisure = Wage Shifts of the Labor Demand Curve 1. Price of the good the firm produces: if the price increases, each worker is worth more to the firm. 2. Technology used in production: the other component is worker productivity. Technology could make workers more productive. Labor and technology could also be substitutes, as technology could replace workers, so the labor demand curve shifts to the left. Shifts of the Labor Supply Curve 1. Population changes: the more people there are, the greater the supply of labor, so the labor supply curve shifts to the right. 2. Changes in worker preferences and tastes. EXAMPLE: A greater proportion of older workers wanting to continue working rather than retire.3. Opportunity costs: if the alternatives to working change overall, or for a particular industry or firm, the labor supply curve will shift. EXAMPLE: The Affordable Care Act could cause some workers to leave the labor force because they can get insurance coverage outside of employment. Why Are Wages Different 1. Differences in human capital Human Capital Human capital is each person’s investment in themself, leading to the ability to be more productive. EXAMPLES: Education, job training, health. Job Training Job training is industry-specific training increases productivity within an entire industry. Firm-specific training increases productivity for just the hiring firm. 2. Differences in compensating wages Compensating Wage Differentials Wage premiums necessary to attract workers into occupations that have unattractive aspects. EXAMPLES: Window washer, garbage collector. 3. The nature and extent of discrimination in the job market Taste Based Taste based discrimination arises due to people’s prejudices against a group of people. Statistical Discrimination Statistical discrimination arises due to expectations about a group of people. -Employers cannot know a potential worker’s productivity with certainty. -Might use characteristics as a proxy for productivity. Physical Capital Physical capital is lasting input into the production process. Land Land includes other natural resources. Value of Marginal Product of Capital (VMPK) VMPK is how much each additional unit of capital contributes to the firm’s revenues. Chapter 9 Key Ideas 1. There are important cases in which free markets fail to maximize social surplus.2. This chapter discusses three such cases: externalities, public goods, and common pool resources. 3. One common link between these three examples is that there is a difference between the private benefits and costs and the social benefits and costs. 4. The government can play a role in improving market outcomes in such cases. Negative Externality A negative externality is an economic activity that has a negative spillover effect. Positive Externality A positive externality is an economic activity that has a positive spillover effect. Social Benefits of Education -Higher individual wages means more tax revenues. -Less reliance on social programs. -Decreased crime. -More innovation. -Better functioning society. Pecuniary Externality A pecuniary externality is when a market exchange affects other people through market prices. Addressing Inefficient Outcomes 1. Private solutions 2. Government solutions: -Command-and-control: direct regulation. -Market-based policies: provide incentives. Coase Theorem Coase theorem states that private bargaining will result in an efficient allocation of resources. Pigouvian Tax A Pigouvian tax is the tax necessary to incentivize a firm to produce the socially optimal level of output. Pigouvian Subsidy A Pigouvian subsidy is the subsidy necessary to make an economic agent increase consumption to the socially optimal level. Rival Goods Rival goods are goods that only one person can consume at a time. Non-Rival Goods Non-rival goods are goods that more than one person at a time can consume. Excludable Goods Excludable goods must be paid for in order to consume them.Non-Excludable Goods Non-excludable goods can be consumed, even if they are not paid for. Free Rider Problem The free rider problem is when an individual does not pay for a good because it is non-excludable. As a solution, the government makes paying for it mandatory. The Problem With Charity -Money may not go to the areas of most critical need -“Too variable” -When economy is in downturn (needed the most), giving decreases Tragedy of the Commons Occurs when common pool resources are overused. Solutions to the tragedy of the commons: -Private ownership (defined by the government) -Government regulation (limits) -Tax on usage Chapter 15 Key Ideas 1. Interest is the payment received for temporarily giving up the use of money. 2. Economists have developed tools to calculate the present value of payments received at different points in the future. 3. Economists have developed tools to calculate the value of risky payments. *To compare costs and benefits of current events with costs and benefits of future events, use factors to weight time and risk. Principal Principal is the amount of an original investment. Interest Interest is the payment received for temporarily giving up the use of money. (Or a payment for the opportunity to temporarily use someone else’s money) Future Value The future value is the sum of principal and interest. Compound Interest Formula Future value = principal x (1 + r) ^T Lending -Depositing money today reduces current spending. -Withdrawing money in the future increases future spending. Borrowing -Borrowing money today enables you to increase your current spending.-Paying back the loan in the future reduces future spending. Present Value The present value of a future payment is the amount of money that would need to be invested today to produce that future payment. It is also called the discounted value of a future payment. Present value = (Payment T periods from now) / (1 + Interest Rate) ^T Net Present Value The net present value is the present value of benefits minus the present value of costs. Utils Utils are individual measures of utility or happiness. Discount Weight Discount weight multiplies future utils to translate them into current utils. Risk Risk is when an outcome is not known with certainty in advance. Probability Probability is the frequency with which something occurs. Expected Value Expected value is a probability-weighted value. Present and future values are weighted by time. Expected values are weighted by probability of occurance, or risk. Expected value = sum of payoffs x probability of occuring Loss Aversion Loss aversion is psychologically weighting a loss more heavily than weighting a gain. Risk Averse Risk averse individuals prefer less risk. Risk Seeking Risk seeking individuals prefer more risk. Risk Neutral Risk neutral individuals do not care about any risk. Chapter 16 Key Ideas 1. In many markets buyers and sellers have different information, which can lead to market inefficiencies. 2. Asymmetry in information is either due to hidden characteristics or hidden actions. 3. In cases with hidden characteristics, agents can use their private information to decide whether to participate in a transaction or a market, causing adverse selection. 4. In cases with hidden actions, an agent can take an action that adversely affects another agent, causing moral hazard.5. There are both private and government solutions to reduce the effects of adverse selection and moral hazard. Asymmetric Information Information available to buyers and sellers differs. Hidden Characteristics One side observes something about the good being transacted that is both relevant for and not by the other party. Hidden Actions One side takes actions that are relevant for, but not observed by, the other party. Adverse Selection One agent in a transaction knows about a hidden characteristic of a good and decides whether to participate in the transaction on the basis of this information. Signaling Signaling is an action that an individual with private information takes in order to convince others about his information. Moral Hazard Moral hazards are actions that are taken by one party but are relevant for and not observed by the other party in the transaction. Principal-Agent Relationship The principal designs a contract specifying the payments to the agent as a function of his or her performance, and the agent takes an action that influences performance and thus the payoff of the principal. *In other words one party (the principal) provides incentives for another party (the agent) to work to the principal’s benefit. Efficiency Wages Efficiency wages are wages above the lowest pay that workers would accept; employers use them to increase motivation and productivity. 1. Deductibles 2. Co-payments 3. CoinsuranceIntro to Microeconomics Exam 1 Chapter 1 Intro to Economics Economics is about how YOU make decisions about everything. It is a field of ideas and principles, which explain and predict how people and businesses go about making decisions: 1. Optimize their needs and wants (utility or profit) in a world of limited resources (scarcity). 2. Rational self-interests and incentives. Microeconomics vs. Macroeconomics Microeconomics has to do with individuals, businesses, and the role of the government. Macroeconomics is aggregate (a national economy or global economy). Positive Economics and Normative Economics Positive economics deals with a scientific approach (the minimum wage is ____). Normative economics deals with a more subjective approach (the minimum wage of ____ is too high). Resources To us they are: -Time -Money To an economist they are: -Land -Labor -Capital -Entrepreneurial ability -Land, labor, capital, and entrepreneurial ability are known as the factors of production. -Money is only a “medium of exchange” to purchase either a good or service or factors of production. Money does not produce anything nor does it provide directly for a need or want. Three Principles of Economics 1. Optimization is making the best feasible choice possible with given information. 2. Equilibrium is when everyone is optimizing; no one would be better off with a different choice. 3. Empiricism is using data to figure out answers to interesting questions. Opportunity Costs You must make trade-offs in the pursuit of your rational self interest. Marginal analysis is comparing benefits and costs. Any decision involves a marginal (extra) benefit versus a marginal (opportunity) cost- the cost arising because we live in a world of limited resources. The “economizing problem” for an individual arises because wants exceed our resources.
SCARCITY AND CHOICE
Resources are scarce
Rational self interest
Choices must be made
Individuals and utility
Firms and profit
Marginal means extra
No "free lunch"
Marginal benefit and marginal cost
Why do governments tax and spend?
Don't forget about the age old question of integrating functions using long division and completing the square
Chapter 2 Key Ideas 1. A model is a simplified description of reality. 2. Economists use data to evaluate the accuracy of models and understand how the world works. 3. Correlation does not imply causation. 4. Experiments help economists to measure cause and effect. 5. Economic research focuses on questions that are important to society and can be answered with models and data. The Scientific Method 1. Developing models that explain some part of the world. 2. Testing those models using data to see hoe closely the model matches what we actually observe. Two Important Features of Models 1. They are not exact. 2. They generate predictions that can be tested with data. Causation vs. Correlation Causation is when one variable directly affects another variable. Correlation is when two variables are related, but correlation does not necessarily imply causation. We cannot mistake correlation for causation because of omitted variables. An omitted variable is a variable that is ignored although it contributes to the cause and effect. - Positive correlation occurs when both variables move in the same direction. - Negative correlation occurs when the variables move in opposite directions. Differentiating Between Causality and Correlation (Experiments) 1. Control: subjects are randomly assigned to treatment and control groups by the researcher. The problem is that it is difficult to do with economic studies.2. Natural: subjects end up in treatment or control groups due to something that is not purposefully determined by the researcher. Good Economic Questions 1. Relevant and important: economic research contributes to social welfare. 2. Have an answer: economic questions can be answered empirically. The Market System The market system is known as capitalism. Characteristics include: 1. Private property 2. Freedom of enterprise and choice 3. Self-interest 4. Competition 5. Markets and prices A market is any arrangement that brings buyers and sellers together and enables them to get information and do business with each other. Good markets are markets in which goods and services are brought and sold. Factor markets are markets in which factors of production are brought and sold. In factor markets: -Households supply factors of production -Firms hire factors of production In good markets: -Firms supply goods and services produced -Households buy goods and services Real Flows-These are
the real flows in the economy Money Flows -Firms pay households incomes for the services of factors of production - Households pay firms for the goods and services they buy -Blue flows are incomes, and red flows are expenditures. Governments We divide governments into two broad levels: -Federal government -State government The federal government’s major expenditures are to provide: 1. Goods and services 2. Social security and welfare benefits 3. Transfers to state and local governments In order to finance its expenditures, the federal government collects taxes such as: 1. Personal income taxes 2. Corporate (business) taxes 3. Social security taxes
Governments in Circular Flow -Households and firms pay taxes and receive transfers -Governments buy goods and services from firms Circular Flows in the Global Economy -Households and firms in the US economy interact with households and firms in other economies in two main ways: They buy and sell goods and services and they borrow and lend 1. International trade 2. International finance Chapter 3 Key Ideas 1. When an economic agent chooses the best feasible option, she is optimizing. 2. Optimization in levels calculates the total net benefit of different alternatives and then chooses the best alternative. 3. Optimization in differences calculates the change in net benefits when a person switches from one alternative to another, and then uses these marginal comparisons to choose the best alternative. 4. Optimization in levels and optimization in differences give identical answers. Difficulty Making Choices -You have limited information -Sorting through information can be complicated -You are inexperienced in dealing with a given situation Making the Choices -Optimization in levels: Look at total benefit – TC (net benefit) -Optimization in differences: Look at the change in the net benefit of one option compared to another. When Does It Cost to Commute -Availability of public transportation -Gasoline -Parking -Wear and tear on car -Opportunity cost of time Optimizing in Levels 1. Express all costs and benefits in the same unit (like money) 2. Calculate total net benefit (benefits – costs) for each option 3. Choose the option with the highest net benefit Principle of Optimization at the Margin If an option is the best choice, you will be made better off as you move toward it, and worse off as you move away from it. Optimizing in Differences 1. Express all costs and benefits in the same unit 2. Calculate how the costs and benefits change as you move from one option to another 3. Apply the principle of optimization at the margin—choose the option that makes you better off by moving toward it, and worse off by moving away from it Chapter 4 Key Ideas 1. In a perfectly competitive market sellers all sell an identical good or service, and any individual buyer or any individual seller isn’t powerful enough on his or her own to affect the market price of that good or service. 2. The demand curve plots the relationship between the market price and the quantity of a good demanded by buyers. 3. The supply curve plots the relationship between the market price and the quantity demanded and the quantity supplied. 4. The competitive equilibrium price equates the quantity demanded and the quantity supplied.5. When prices are not free to fluctuate, markets fail to equate quantity demanded and quantity supplied. Market Price The market price is the price at which buyers and sellers conduct transactions. In a perfectly competitive market every buyer pays and every seller charges the same market price. No buyer is big enough to influence that market price and all sellers sell an identical good or service.
Buyer Behavior Quantity demanded is the amount of a good that buyers are willing to purchase at a given price. A demand schedule is a table that reports the quantity demanded at different prices, holding all else equal. The demand curve plots the quantity demanded at different prices. The market demand curve is the sum of the individual demand curves of all the potential buyers. The market demand curve plots the relationship between the total quantity demanded and the market price, holding all else equal.
Seller Behavior The quantity supplied is the amount of a good that sellers are willing to sell at a given price. A supply schedule is a table that reports the quantity supplied at different prices. The supply curve plots the quantity supplied at different prices. The market supply curve plots the relationship between the total quantity supplied and the market price, holding all else equal.
Shifts of the Demand Curve Occur when one of the following changes: 1. Tastes and Preferences 2. Income and wealth 3. Availability and prices of related goods -Inferior goods are lower price and quality than normal goods 4. Number and scale of buyers -Lowering the price of a complementary good causes the demand of the original good to increase 5. Buyers’ expectations about the future
Shifts in the Supply Curve Occur when one of the following changes: 1. Input prices 2. Technology 3. Number and scale of sellers 4. Sellers’ expectations about the future
If you want to learn more check out ucsc econ major
Supply and Demand in Equilibrium Competitive equilibrium is the point at which the market comes to an agreement about what the price will be (competitive equilibrium price) and how much will be exchanged (competitive equilibrium quantity) at that price. Excess demand occurs when consumers want more than suppliers provide at a given price. This situation results in a shortage. (The gap between the two curves that is below the equilibrium point)Excess supply occurs when suppliers provide more than consumers want at a given price. This situation results in a surplus. (The gap between the two curves that is above the equilibrium point)
Price? Quantity Increase
Price Decrease Quantity?
Price Increase Quantity?
Price? Quantity Decrease
Chapter 5 Key Ideas 1. The buyer’s problem has three parts: what you like, prices, and your budget. 2. An optimizing buyer makes decisions at the margin. 3. An individual’s demand curve reflects and ability and willingness to pay for a good or service. 4. Consumer surplus is the difference between what a buyer is willing to pay for a good and what the buyer actually pays. 5. Elasticity measures a variable’s responsiveness to changes in another variable. Budget A budget set is the set of all possible bundles of goods and services that can be purchased with a consumer’s income. Optimizing With 2 Products (MB / P) = (MB / P) Consumer Surplus Consumer surplus is the difference between the willingness to pay and the price paid for the good. (Consumer surplus is outlined by the market price, the demand curve, and the y-axis.) Elasticity Elasticity is a measure of sensitivity of one variable to a change in another. The arc elasticity is a method of calculating elasticities that measures at the mid-point of the demand range. Demand Elasticity The price elasticity of demand measures the percentage change in quantity demanded of a good due to a percentage change in its price. Ε=Δ Quantity Demanded [%] / Δ Price [%] A very small increase in price causes consumers to stop using goods that have perfectly elastic demand. (Slope=0)Goods that have unit elastic demand have a price elasticity of demand equal to 1. (Slope=1) Goods that have inelastic demand have a price elasticity of demand less than 1. (Slope<1) Quantity demanded is unaffected by prices of goods with perfectly inelastic demand. (Slope is undefined) Factors of Demand Elasticity 1. Closeness of substitutes 2. Budget share spent on the good 3. Available time to adjust Consumers in general, respond much less to price change in the short run than in the long run. Cross-Price Elasticity of Demand The cross-price elasticity of demand measures the percentage change in quantity demanded of a good due to a percentage change in another good’s price. Income Elasticity of Demand The income elasticity of demand measures the percentage change in quantity demanded due to a percentage change in income. Normal Goods vs. Inferior Goods When income rises and consumers buy more of a good, it is a normal good. When income rises and consumers buy less of a good, it is an inferior good. Chapter 6 Key Ideas 1. The seller’s problem has three parts: production, costs, and revenues. 2. An optimizing seller makes decisions at the margin. 3. The supply curve reflects a willingness to sell a good or service at various price levels. 4. Producer surplus is the difference between the market price and the marginal cost curve. 5. Sellers enter and exit markets based on profit opportunities. Sellers in Perfectly Competitive Markets Characterized by three conditions: 1. No seller is big enough to influence the market price. 2. Sellers in the market produce identical goods. 3. There is free entry and exit in the market. Turning Inputs Into Outputs -A firm is any business entity that produces and sells goods or services.-Production is the process by which the transformation of inputs to outputs occurs. -Physical capital is any good, including machines and buildings used for production. -The short run is a period of time when only some of a firm’s inputs can be varied. -The long run is a period of time when all of a firm’s inputs can be varied. -A fixed factor of production is an input that cannot be changed in the short run. -A variable factor of production is an input that can be changed in the short run. Comparing Output vs. Level of Input Marginal product is the change in total output associated with using one more unit of input. Specialization is the result of workers developing a certain skill set in order to increase total productivity. The law of diminishing returns states that successive increases in inputs eventually lead to less additional output. Introducing Cost Curves -The cost of production is what a firm must pay for its inputs. -Total cost is the sum of variable and fixed costs. -A variable cost is the cost of variable factors of production, which change along with a firm’s output. -A fixed cost is the cost of fixed factors of production, which a firm must pay even if it produces zero output. -Average total cost (ATC) is the total cost divided by the total output. -Average variable cost (AVC) is the total variable cost divided by the total output. -Average fixed cost (AFC) is the total fixed cost divided by the total output. -Marginal cost is the change in total cost associated with producing one more unit of output. Introducing Revenue Curves Revenue is the amount of money the firm brings in from the sale of its outputs. Marginal revenue is the change in total revenue associated with producing one more unit of output. Profits -Profit = total revenues – total costs -Accounting profit = total revenue – explicit costs -Economic profit = total revenue – (explicit costs + implicit costs) Supply Elasticity The price elasticity of supply is the measure of how responsive quantity supplied is to price changes. Ε=Δ Quantity Supplied [%] / Δ Price [%] ShutdownShutdown is a short-run decision to not produce anything during a specific period. Sunk Costs are costs that, once committed, can never be recovered and should not affect current and future production decisions. Producer Surplus Producer surplus is the difference between the market price and the marginal cost curve. (Producer surplus is outlined by the market price, the marginal cost curve, and the y-axis.) From the Short Run to the Long Run 1. Economies of scale occur when ATC falls as the quantity produced increases. 2. Constant returns to scale exist when ATC does not change as the quantity produced changes. 3. Diseconomies of scale occur when ATC rises as the quantity produced increases. Exit is a long-run decision to leave the market. Long-Run Competitive Equilibrium There is free entry into an industry when any special legal or technical barriers unfetter entry. There is free exit from an industry when any special legal or technical barriers unfetter exit. Chapter 7 Key Ideas 1. The invisible hand efficiently allocates goods and services to buyers and sellers. 2. The invisible hand leads to efficient production within an industry. 3. The invisible hand allocates resources efficiently across industries. 4. Prices direct the invisible hand. 5. There are trade-offs between making the economic pie as big as possible and dividing the pieces equally. Perfect Competition and Efficiency Reservation value is the price at which a trading partner is indifferent between making the trade and not doing so. Social surplus = consumer surplus + producer surplus An outcome is Pareto efficient if no individual can be made better off without making someone else worse off. Prices Guiding the Invisible Hand A price control is a government restriction on the price of a good or service. Deadweight Loss Deadweight loss is the decrease in social surplus from a market distortion. GDPGross domestic product (GDP) is the market value of final goods and services produced in a country in a given period of time. Problems 1. When the interests of economic agents collide, a coordination problem of bringing the agents together to trade arises. 2. When the optimizing actions of two economic agents are not aligned, these agents face an incentive problem. Resources Equity is concerned with the distribution of resources across society.Intro to Microeconomics Exam 2 Chapter 8 Key Ideas 1. The production possibilities curve tells us how much we can produce from existing resources and technology. 2. The basis for trade is comparative advantage. 3. Specialization is based on comparative, not absolute advantage. 4. There are winners and losers within trading states and countries. 5. The winners from trade can more than compensate the losers. 6. Important arguments against free trade exist. Production Possibilities Curve (PPC) Shows the relationship between the maximum productions of one good for a given level of production of another good. The PPC divides the space into 3 parts: 1. All points on the PPC represent levels of production of the goods that efficiently use resources. 2. All points below the PPC represent a level of production of the goods that can be achieved, but are inefficient because they don’t use all of the resources. 3. All points above the PPC represent a level of production of the goods that cannot be achieved with the current level of resources. Comparative Advantage Comparative advantage is the ability of one economic agent to produce at lower opportunity cost than another. If 2 people specialize and trade, more output can be produced. Absolute Advantage Absolute advantage is the ability of an economic agent to produce more output than another agent with the same resources. Terms of Trade Terms of trade is the “price” of one good in terms of the other; the exchange rate between goods. Export An export is a good produced domestically and shipped to another state or country. Import An import is a good produced in another state or country but is sold domestically. Free Trade Free trade is trade with no government involvement. World Price World price is a price on the world market. Producers gain areas B and C.
Consumers lose area B. Net overall gain is area C. Consumers gain areas C and D.Producers
lose area C. Net overall gain is area D. Whether importing or exporting, both cases are better off trading. The specific winners and losers change, but overall the country or state is winning. Winners can be required to compensate the losers. Why would domestic price differ from the world price? 1. National security concerns- Over-reliance on other countries for needed goods and services. 2. Effects of globalization (The shift toward interdependent economies) on domestic culture- Desire to protect culture from dilution or infringement of other values. 3. Environmental and resource concerns- Countries vary by how stringent their environmental policies are. Free trade can lead to greater pollution and resource depletion in those countries with lax standards because of their increase in demand. 4. Infant industry arguments- When industries are first getting started, they may need some government protection from free trade until they get established. Protectionism is the view that governments should control trade due to harmful effects of free trade. 5. The effects of tariffs-
The loss in consumer surplus is areas E, G, J, and I. Producers get area E. The government gets area I. Areas G and J are a deadweight loss and belong to nobody. Chapter 10 Key Ideas 1. In the United States, governments (federal, state, and local) tax citizens and corporations to correct market failures and externalities, raise revenues, redistribute funds, and finance operations. 2. Through direct regulation and price controls, governments can intervene to influence market outcomes. 3. Although government intervention sometimes creates inefficiencies, it often results in improved social wealth. 4. Weighing the trade-offs between equity and efficiency is one task of an economist. 5. It is up to each individual to decide when and where the government intervention makes the most sense. Budget Surplus Tax revenues are greater than spending.Budget Deficit Spending is greater than tax revenues. Why do governments tax and spend? 1. Raise revenues to pay for public goods. 2. Redistribute income to address fairness issues. -Transfer payments: government payments to individuals or groups. -The tax structure: Average tax rates are the total taxes divided by total income. Marginal tax rates are the rates paid on the last dollar of income. 3. Finance operations of government: paying for the day-to-day running of the government. 4. Correct market failures and externalities: taxes are not usually levied to deal with a specific market failure. Progressive Tax System The system where average and marginal tax rates are higher for higher income levels. Proportional Tax System The system where everyone pays the same proportion of their incomes in taxes, regardless of how much their income is. [For example marginal and average tax rates are the same for everyone] Regressive Tax System The system in which those with lower income pay a higher portion of that income in taxes. [For example marginal and average tax rates fall as income rises] Tax Incidence Tax incidence is who bears the burden of a tax. Types of Regulation 1. Direct Regulation: attempts by the government to control the amount of an activity. Also called command-and-control regulation. 2. Price Controls: attempts by the government to control the price of an activity. A price ceiling is a maximum price set. Government Intervention in Markets can cause: 1. Deadweight loss 2. Increased costs due to bureaucracy: the greater the number of regulations, the greater the number of government workers needed to enforce them. 3. Corruption: misuse of public funds, can be a cost of government activity, not confined to government sector—corruption exists in private sector as well. 4. Black Markets -Equity (allocating resources fairly) vs. efficiency (increasing social surplus)-Consumer sovereignty (consumers know best: unfettered choice) vs. paternalism (consumers may not now best: government can help guide consumer choice) The case for consumer sovereignty 1. Governments can’t know what is best for us. 2. The government can’t be trusted to act in our best interests. 3. If the government intervenes, there are costs. The case for government intervention 1. Some decisions are very complex and individuals don’t have enough information. 2. If an individual behavior benefits the larger society, the government should encourage that behavior. Chapter 12 Key Ideas 1. Monopoly represents an extreme market structure with a single seller. 2. Monopolies arise both naturally and through government protection. 3. Monopolists are price-makers and produce at the point where marginal revenue equals marginal cost. 4. The monopolist maximizes profits by producing a lower quantity and charging a higher price than perfectly competitive sellers. By doing so, deadweight loss results. 5. Efficiency can be established in a monopoly through first-degree price discrimination or government intervention. Price Makers Price makers are sellers that can set the price of a good. Market Power Market power is the ability to set the price. Monopoly A monopoly is when there is one seller of a good or service with no close substitutes. Set P>MR=MC. Barriers to Entry Circumstances that prevent potential competitors form entering the market. 1. Legal market power -Patent: government granted permission to be the only sole producer and seller of a good. -Copyright: government-granted rights to the creator of literary or artistic work. 2. Natural market power: when a single firm obtains market power through barriers to entry created by the firm itself.-Control of key resources: are essential for the production of a good or service. -Economies of scale: emerges because it enjoys economies of scale over a very large range of output. Network Externalities When a product’s value increases as more consumers use it. Monopolist and Perfect Competitors -Produce an output using a production process and inputs. -Incur production costs. P = TR - TC TR = P x Q TC = ATC x Q P = (P x Q) – (ATC x Q) = Q (P – ATC) Price Discrimination Charging different customers different prices for the same good or service when there are no cost differences. 1. First degree (perfect): when each customer is charged the maximum he/she is willing to pay [eBay] 2. Second degree: consumers are charged different prices based on the characteristics of the purchase [last minute hotel rooms] 3. Third degree: consumers are charged different prices based on the characteristics of the customer or location [student discounts] Antitrust Policy Government policies that try to prevent anti-competitive pricing, low quantities, and deadweight loss from emerging and dominating markets. Sherman Act (1890) Prohibited restraint of trade—monopoly markets. Efficient (socially optimal) Price P = MC Fair-Returns Price P = ATC Chapter 13 Key Ideas 1. There are important situations when the behavior of others affects your payoffs. 2. Game theory is the economic framework that describes our optimal actions in such settings.3. Nash equilibrium is a situation where none of the players can do better by choosing a different action or strategy. 4. Nash equilibria are applicable to a wide variety of problems, including zero-sum games, the tragedy of the commons, and the prisoners’ dilemma. Game Theory Game theory is the study of strategic interactions. Elements include: -The players -The strategies -The payoffs Payoff Matrix Represents payoffs for each player for each strategy. Simultaneous Move Game Players pick their strategies at the same time. Dominant Strategy One player’s best response, regardless of what the other person does. Dominant Strategy Equilibrium When a strategy used is a dominant strategy. Nash Equilibrium Each player chooses a strategy that is best, given the strategies of others [Changing strategies does not make anyone better off]. Two requirements include: 1. All players understand the game and the payoffs of each strategy. 2. All players recognize that the other players understand the game and payoffs. Zero-Sum Game When one player wins, the other loses, so the payoffs sum to zero. Pure Strategy Choosing one strategy. Mixed Strategy Randomly choosing different strategies. Two Problems With Game Theory in the Real World 1. What are the payoffs? 2. Players may have different abilities Extensive-Form Games There is an order to play instead of simultaneous play [One player goes first] Game Tree A game tree is a representation of an extensive form game. Backward Induction Considering the last decision and deducing what the previous decisions have been.First-Mover Advantage When the first player in a sequential game benefits from being first. Chapter 14 Key Ideas 1. Two market structures that lie between perfect competition and monopolies are oligopoly and monopolistic competition. 2. In both of these markets the seller must recognize actions of competitors. 3. In oligopolies, economic profits in the long run can be positive. 4. In monopolistically competitive markets, entry and exit drive economic profits to zero in the long run. 5. There are several important variables such as the number of firms in the industry, the degree of product differentiation, entry barrier, and the presence or absence of collusion that determine the competitiveness of a market. Perfect Competition—Monopolistic Competition—Oligopoly—Monopoly Differentiated Products Goods that are similar but not identical. [Cars, cigarettes] Homogeneous Products Goods that are identical, making them perfect substitutes. [Gas, oil] Two Characteristics of Markets 1. The number of firms 2. The degree of product differentiation. Oligopoly 1. Market where there are only a few firms competing. 2. Products can be either homogeneous or differentiated. 3. Significant barriers to entry and exit. 4. Each firm’s decisions are dependent upon other firms actions. 5. Positive economic profits in the long run. Monopolistic Competition 1. Many competing firms. 2. Products are similar but slightly differentiated. 3. No barriers to entry or exit. 4. Zero economic profits in the long run. Oligopolist’s Problems 1. Like a monopolist, has significant barriers to entry, resulting in long-run economic profits.2. High degree of interdependence between the few firms that occupy the market. Duopoly Industry with two firms. Residual Demand The demand not met by the other firm(s) and dependent on the prices of all the firms in the industry. -Long run equilibrium: P = MC -Because products are differentiated, the demand function is all-or nothing -Firms can charge higher prices and not lose all sales because the differentiation creates preferences on the part of consumers. Collusion
Firms conspiring to set the quantity or the market price. (Collusion is not illegal in some other parts of the world) It can work if there is an enforcement mechanism and if the long-run profits associated with not cheating outweigh the short-run gains of cheating. Cartel A formal organization of producers who collude. The government may regulate in the case of market power if: 1. There is suspect collusion
2. The benefits exceed the costs 3. The industry is too concentrated Herfindahl-Hirschman Index (HHI) Measure of market concentration to determine degree of competition. HHI is the sum of square of market share of each firm. The higher HHI, the more concentrated the industry.Luke Smalley Fall 2015 Micro New Topics for Final Exam A. Optimal output – Perfect Competition (MR = MC) a. Don’t go stop short, don’t go beyond it (optimal level of output) i. Produce every unit for which MR is greater than MC ii. Don’t produce any unit for which MC is greater than MR iii. MR = Price = AR b. Profit situation i. @ Opt Output a. TR > TC & AR > AC c. Loss situation i. @ Opt Output a. TC > TR & AC > AR d. Breakeven situation ( = 0) π i. @ Opt Output a. TR = TC & AR = AC e. Long run equilibrium i. In the long run (in PC), the typical firm earns 0 profit a. Settles at breakeven point (AR = AC) ii. In PC, firms don’t need to reduce price to sell more, but the industry does a. Firm = pricetaker (takes price determined by industry) b. Price determined at the industry wide level iii. The entry/exit of firms from the industry drives price to breakeven level iv. Π #of firms↑ Supply↑ Price ↓ π ↓ a. Firms increase efficiency going from profit breakeven f. Short run supply curve i. Firm’s short run supply curve = firm’s marginal cost curve above AVC ii. b) If you know the MC, b) and you know the price, c) then you know the amount the produce is willing/able to sell g. Shutdown rule i. Firms options when not yielding a profit a. Operate at a loss (SR option) b. Shutdown (SR option) c. Exit industry (LR option) ii. If TR < VC shutdown *No change in FC can alter your shutdown decision Shutdown decision only considers TR, VC, Price and AVC*
Don't forget about the age old question of anthropology 201 iowa state
iii. If TR > VC operate at a loss (even if TR < TC) iv. If TR < TC, why not just shut down? a. Even if you are operating at a loss, continue to operate if TR > VC. By operating, you cover all of your VC and some of your FC b. If you shutdown, you will not cover your FC a. Better to pay some, then none at all v. EX1. P = 50 Q =20 FC=600 VC=500 a. Operate b. Shutdown vi. Firms will only produce if P > AVC, hence MC curve is the supply curve above the AVC B. Pure Monopoly a. 4 points of comparison i. Number of firms = 1 ii. Product type = heterogeneous a. No other product like it & no close substitutes iii. Ease of Entry/Exit a. Difficult to enter/exit this industry b. Barriers to entry are significant a. Patents & Copyrights i. Government granted monopoly ii. Gov’t says you are only one allowed to produce this good iii. Patent – gives inventor temporary monopoly in use/sale of invention (usually lasts 1620 years) 1. Used as incentive for research and development (R&D) iv. Copyright – gives creator of literary/artistic work the sole right to profit from that work b. Capital requirement i. Typically the amount of money to enter is extremely large c. Resource ownership – has a lock on resources (all aluminum) d. Natural monopoly – arises when a single firm can supply a good/service to an entire market at a lower per unit cost than could two or more firms i. ALCOA (Aluminum Company of America) natural monopoly e. Technological superiority i. Short term barrier to entry ii. Only lasts until other firms figure out how to catch up iv. Availability of information a. Very little information available; very restricted b. Demand and MR (words, #’s & graph) i. In PC MR = AR = Price a. Industry = pricemaker & firm = pricetaker ii. In PM P = AR and is given by demand curve (MR has separate curve) a. Firm is the industry ∴ firm = pricemaker b. In other words, the firm has to lower price to sell more a. Then MR will decrease faster c. In PC, price doesn’t change. Price = MR = AR d. In PM, price changes & MR changes faster iii. What is relationship between P & MR as output ? ↑ a. Both decreasing, MR decreasing quicker iv. Opt output MR = MCa. It is not the level of output at which AC is minimized (most efficient pt) a. Monopolists will not operate at opt output c. Price Discrimination (PD) i. Only monopolists can engage in PD a. Only monopolists have market power that PD requires b. Requires seller to charge different prices in different market segments ii. Refers to the practice of charging different prices in different markets for the same good iii. The goal of PD = maximize profits by charging higher prices to consumers with the higher WTP and lower prices to consumers with the lower WTP a. 1st task segregate market b. 2nd task calculate each segment’s maximum WTP c. 3rd task charge each segment their maximum WTP iv. Perfect PD means that the monopolist charges each consumer their max WTP a. CS = 0 v. Typical monopolists will charge 1 price to all consumers d. Pure monopoly vs perfect competition i. Where do you want to buy your stuff? PC lowers price to compete
In the LR, average profits = 0 Entry/exit or firms
Positive and persistent profits No entry/exit of firms (significant barriers to entry)
Operate at maximum efficiency (bottom of AC curve)
Rarely operate at most efficient point (Almost never)
We also discuss several other topics like mul2010
ii. What is the curve we use to show efficiency? AC curve a. Firm is at max efficiency if it is at the bottom of AC curve iii. Price a. PM firms charge higher prices than would firms in PC iv. Outputs a. PM firms produce less output than would firms in PCC. Oligopoly a. 4 points of comparison i. Number of firms a. PC – many small firms, no single firm can influence price. Firms = price takers b. Oligopoly Small number of firms so that no single firm can dictate price or output, but each firm influences price/output ii. Product type a. PC – perfectly homogeneous, everyone produces the exact same thing b. Oligopoly – each firm produces same basic product or service but each firm’s output is distinctive (similar but distinctive products) iii. Ease of Entry/Exit a. Bigger barriers than PC but less than PM a. Patents & copyrights (different spins on same product) b. Large capital requirements (car company) c. Resource ownership i. Technological superiority iv. Availability of information a. Limited (between PC and PM) b. Misc i. Perfect competition a. MR curve = horizontal b. Firm = pricetaker & industry = pricemaker c. Operate at minimum of AC curve (max efficiency) d. No long run profit ii. Pure monopoly a. MR curve = declining b. Firm is industry ∴ firm = pricemaker c. Do not operate at minimum of AC curve d. Positive and persistent profits no competition iii. Why is it in PC firms operate at bottom of AC curve? a. Firms enter/exit market, puts pressure on other firms to operate efficiently b. PM firms operate somewhere else besides most efficient point of MC curveiv. ** HerfindahlHerschmann Index (HHI) a. Way of measuring industry concentration b. If it turns out to be more than 1800 oligopoly c. To calculate take each producer’s market share, square it, sum it up v. Oligopolists are the most interdependent firms a. Duopoly = oligopoly with just 2 firms (soda industry) a. Bananas – Chiquita, Dole, Del Monte b. Beer – BuschCoors c. Cars – GM, Ford, Chrysler vi. Demand + MR a. Oligopolists are the most interdependent firms b. Oligopolists have kinked demand curves and discontinuous MR curves (true for all oligopolies) c. Oligopolies can either be a 1) free market or 2) collusive a. Collusion – cooperation among firms intended to raise profits above what the free market will yield b. Cartel – group of colluding firms that agree to restrict output in order to raise profits above what the free market would yield d. OPEC – Organization of Petroleum Exporting Countries a. Algeria, Venezuela, Indonesia, Nigeria & Ecuador b. 2 biggest oil producers in the world right now (USA & RUS) e. Case 1 – Raise price a. Very elastic demand curve, price TR ↑ ↓ b. Demand curve above price point, consumers can just get same product from other producers for cheaper price f. Case 2 – Reduce price a. If I lower my price, they will follow suit, they don’t want to lose consumers or market share i. By lowering price w/ inelastic demand, TR↓ g. Kink point – point of operation (operating point) a. ** Above kink point demand for product = elastic b. ** below king point demand for product = inelastic c. If I want to sell more, have to lower price by a lot d. If you raise price by a little, cuts demand by a lot h. MR curve = discontinuous a. Discontinuous portion is directly below the kink point b. MC curve will intersect discontinuous portion of the MR curve i. It is possible to have change in MC curve, but still have the same opt output. will change however. Πc. Oligopolists tend not to operate at maximum efficiency given the tendency of curves vii. Game Theory (aka Interactive Decision Theory) a. Way of studying oligopolists interdependence and the market consequences of that interdependence b. Studies choices of interdependent agents a. classic case = Prisoner’s Dilemma i. 2 prisoners deliberating costs/benefits of a) confessing and b) not confessing b. You don’t know the other’s decision c. You don’t know the outcome of your decision because it depends on the other’s d. One conclusion reached by “me” One conclusion reached by “us” viii. Prisoner’s Dilemma: OPEC a. One thing that differentiates OPEC members is their R:P ratios b. R:P (Reserves to Production) 100/4 = 25 years a. Nature determines reserves (geographically/ # of barrels in ground) b. Policy determines production c. Saudi Arabia R:P = 200 Ecuador R:P = 15 d. Population is biggest factor in determining RP ix. Misc a. Game Theory is laid out in a decision matrix b. Low R:P ratio = get the oil out and get money for it c. Interdependence means you do not have the last word a. Interplay of each player’s decisions decides outcome D. Taxes a. 2 ways to assess taxes i. Taxes relative to ΔGDP a. Variable taxes – tax revenue changes as GDP changes a. Income tax b. Sales tax b. Fixed taxes – taxes for which gov’t revenues do not change significantly as GDP changes a. Property taxes ii. Taxes relative to the tax burden a. Tax burden – refers to % of income that goes into the tax a. Does not mean the dollar amount that people pay b. Progressive tax – tax is progressive if the tax burden INCREASES as income increasesa. Federal income tax i. 50k/yr – 15% ($7500) ii. 100k/yr – 25% ($25,000) c. Regressive tax – tax is regressive if the tax burden DECREASES as income increase a. Sales tax i. A – 30k/yr can’t save anything – pays everything 5% $1500 ii. B – 200k/yr saves 80k/yr – 3% $6000 iii. Family that pays bigger $ amount B iv. Family that has larger tax burden (%) A d. Proportional tax – everyone has the same tax burden b. Incidence of taxes i. Up until now, we have assumed what they consumer pays, is what the consumer receives. Can only make this assumption in a taxfree world a. In a world with taxes, we get a tax wedge a. Difference between what consumer pays and what producer receives (because of taxes) b. Consumer WTP the produce $10 a. Gov’t enters imposes $1 tax on each bible b. Consumer WTP = $10 i. $9 to producer ii. $1 to gov’t ii. The incidence of the tax (who pays it) is determined not so much by gov’t mandate as by the relative elasticities of the supply & demand curves a. Tax is imposed on buyer (consumer & producer both pay) iii. Incidence and curve elasticities are inversely related a. If compared to the supply curve the demand curve is very elastic, then buyer pays little of the tax b. If compared to the supply curve the demand curve is very inelastic, buyer pays very much of the tax a. Whoever has the elasticity pays less of the taxes iv. WTP indicates a maximum v. WTS indicates a minimum E. Externalities – unintended consequences a. 2 types i. Positive and negative (in terms of production and consumption) a. Positive externality – good thing happened that wasn’t expected a. + externality of production – production makes better for others i. EX: Velcro & internetb. + externality of consumption – someone’s consumption makes someone else better off i. EX: Education, driver’s license, vaccine b. Negative externality – unintended harm done to other people a. Production – when you produce something and it harms someone else i. EX: smoke stack industries b. consumption – when you consume something and it harms someone else i. Alcohol b. In general, society produces too much of goods with negative externalities, and too little of goods with positive externalities Luke Smalley Fall 2015 Micro Final Professor Hilton Old Topics for Final Exam 1) Intro a. PPC – What it is, two different types b. PPS – Production possibility schedule i. Shows various amounts of two commodities a firm or an economy can produce when efficiently utilizing all available resources ii. Constant Cost PPS – opportunity cost does not change as output changes iii. Increasing Cost PPS – opportunity cost increases as output changes 1. Why do we sometimes have increasing costs? a. *We have increasing cost PPC because productive resources are not perfect substitutes for one another iv. Slope of PPC gives you the OC v. Inward shift of PPC indicates reduced ability to produce both goods 1. Natural disaster 2. War 3. Emigration vi. Outward shift of PCC indicates greater ability to produce both goods 1. Immigration 2. Higher population 3. Technological breakthrough c. Opportunity cost – how to state it (1x = 2y etc.) i. We always express opportunity cost in 1 unit of the commodity we are gaining ii. Increasing Opportunity cost 1. At higher levels of output, the good is more expensive to produce 2. As level of output increases, OC increases d. Identify comparative advantage i. Given 2 countries and 2 goods, both countries can be made better off if they specialize in the area of the comparative advantage and trade with each other ii. Country has a comparative advantage in the production of the commodity for which ~relative to the other country~ has the lower OC 2) Supply and Demand a. Determinants of Supply (NAFTE) i. Number of sellers 1. ↑ sellers = greater supply = rightward shift of curve 2. ↓ sellers = decrease in supply = leftward shift of curve ii. Alternate goods prices 1. X and Z are alternative goods if they can be produced from the same resources 2. 3 ways in which two goods can be related a. (D) Complements – used togetherb. (D) Substitutes – used in place of each other c. (S) Alternatives – created from same resources iii. Factor prices 1. ↑ ↓ Supply when factor prices 2. ↓ ↑ Supply when factor prices iv. Technology 1. Technological breakthrough = Supply ↑ 2. 2 reasons why technology is removed from market = Supply ↓ a. Environmental (DDT, leaded gasoline) b. OSHA (Occupational Safety & Health Association v. Expected goods prices 1. S = Expectation price will fall, sell now at higher price ↑ 2. S = Expectation price will rise, wait ↓ cash in b. Determinants of Demand (TIREN) i. Taste 1. ↑D = increased preference for good 2. ↓D = could result in obsolesce ii. Income 1. Inferior goods – inverse relationship b/w income & consumption a. If you make more $, you buy less ramen 2. Normal goods – direct relationship b/w income & consumption a. If you make more money, you buy more cars iii. Related goods (substitutes & complements) prices 1. Complements – goods that are used together a. PJelly ↓ QdJelly ↑ DPB ↑ b. PJelly ↑ QdJelly ↓ DPB ↓ 2. Substitutes – goods that are used in place of each other a. PNutella ↑ QdNutella ↓ DPB ↑ b. PNutella ↓ QdNutella ↑ DPB↓ iv. Expectations of future prices 1. If you expect gas will rise, buy now & save money 2. If you expect gas will fall, hold off & buy later v. Number of buyers in market 1. ↑ ↑ D = in number of buyers 2. ↓ ↓ D = in number of buyers a. Immigration b. ↑ population c. New use of same product 3. Advertising can.. a. Change taste of current buyers in market b. Create taste in new buyersc. Change in Supply vs change in Qs i. ΔS
What causes ΔS?
Change in nonprice determinants
How do we show ΔS?
Shift of the entire curve
What does ΔS mean?
Able/willing to produce same product AAGP, no price change consumption changes
If you want to learn more check out What kind of system is the international system founded on?
What causes ΔQs?
How do we show ΔQs?
Movement along the curve
What does ΔQs mean?
ΔP corresponding change in amount consumer/seller is willing/able to buy/sell
d. Change in Demand vs change in Qd i. ΔD
What causes ΔD?
Change in nonprice determinants
How do we show ΔD?
Shift of the entire curve
What does ΔD mean?
Able/willing to produce same product AAGP No price change, consumption changes
What causes ΔQd?
How do we show ΔQd?
Movement along the curve
What does ΔQd mean?
ΔP corresponding change in amount consumer/seller is willing/able to buy/sell
e. Identify links between changes in world & changes in Supply, Demand, Peq, Qeq
f. Competition and return to equilibrium Shortage (Qd > Qs) Competition among buyers eliminates shortages Competition among buyers = market force that drives price UP to equilibrium Surplus (Qs > Qd) Competition among sellers eliminates shortages Competition among sellers = market force that drives price DOWN to equilibrium 3) Utility (Alfred Marshall – 1890s) a. Utility – level of satisfaction associated with a consumption activity i. WTP – willingness to pay 1. Best way to measure utility 2. If you want to measure satisfaction, just ask “how much would you be willing to pay?” ii. The goal of consumer behavior is to maximize consumer surplus subject to a budget constraint b. Consumer equilibrium – condition in onecommodity & multicommodity worlds i. The goal of consumer behavior is to maximize consumer surplus subject to a budget constraint ii. 1 commodity world a consumer reaches that goal by consuming up to the point at which MU = P (WTP = P) 1. If MU = P, then MU/P = 1 and NMU = 0 iii. Multicommodity world – equalize all MU/P ratios for all commodities 1. Consume in a way so that the MUx/Px = MUy/Py = MUz/Pz 2. Ratio Constraint ↑ iv. How should you alter consumption when ratios are out of whack? 1. MUx/ Px = 3 MUy/Py = 5 2. Buy more of y MU will decrease 3. Buy less of x MU will increase 4. Buy more of good w/ higher ratio & buy less of good w/ lower ratio c. Consumer surplus – definition and graph i. CS – what it’s worth vs what you paid 1. WTP Price 2. Simply allocate your income to various purchases in a way that maximizes consumer surplus 4) Elasticity
a. Calculation of price elasticity of demand i. Interpretation of coefficient of price elasticity of demand 1. If Edp = 1.07, then we say a 1% ΔP yields a 1.07% ΔQd 2. If Edp = 2, then we say a 1% ΔP yields a 2% ΔQd ii. Slope is constant, Edp is not 1. Edp is higher in higher portions of demand curve 2. Edp is lower in lower portions of demand curve iii. Values 1. Low value of Edp = .02 2. High value of Edp = 3 very high value = 10 3. Standard expectation = 05 iv. Calculation of Edp (Midpoint method) b. Interpretations of coefficients for income and cross elasticity i. Cross Elasticity 1. 0 is the dividing line 2. Edxy = % Δ Qdx% Δ Py 3. Signs of the coefficient make all the difference. Sign of coefficient will tell you how responsive & substitutes/complements a. Edxy = positive goods = substitutes b. Edxy = negative goods = complements ii. Income Elasticity 1. 0 is the dividing line 2. Edinc = %ΔQdx %ΔIncome 3. Edinc = positive normal good a. ΔQdx ↑ ↑ ΔIncome 4. Edinc = negative inferior good a. ΔQdx ↓ ↑ ΔIncome iii. Elasticity of Supply – Esp 1. 1 is the dividing line 2. Major determinant of Esp = TIME a. More time higher Esp 5) Optimal output (in every market structure) a. Producers always want to get to the optimal level of output i. Optimal output = level of output that maximizes profit 1. Occurs where MR = MC a. Difference between TR TC = maximized b. M = 0 π b. In PC – marginal and total approaches i. Don’t stop short, don’t go beyond it (Optimal level of output) 1. Produce every unit for which MR is greater than MC 2. Don’t produce any unit for which MC is greater than MR c. Pure monopoly – Optimal output MR = MC i. It is not the level of output at which AC is minimized (most efficient point) Monopolists will not be operating at Optimal level of output d. Oligopoly – Optimal output MR=MC i. It is possible to have change in MC curve, but still have same optimal level of output changes though π ii. Oligopolists will tend not to operate at maximum efficiency given the tendency of curves e. Recognize curves 6) Old Quizzes and exam questions a. Indicate type of market imbalance that is likely to result if lawmakers try to protect sellers from prices lawmakers regard as unreasonably low b. Identify market force that typically drives prices UP to equilibrium c. Name the one group that benefits the most from the imposition of min waged. State the two predominant reasons for the existence of vertical supply curves e. Identify the category of good for which demand curves are frequently vertical f. Identify the branch of economics that focuses on how things should be g. The law of demand refers to the inverse relation between ΔP & ΔQd h. Identify the market force that eliminates i) a shortage ii) a surplus i. Name economist who promoted notion of “utils” j. Name economist who made it possible to resolve the Diamond/Water paradox k. What is # of firms required for market to be considered “perfectly competitive” l. Name the least competitive market structure m. Identify market structure in which firms do NOT need to reduce price to sell more n. name given to the loss of total surplus o. imposition of prices floors always results in a loss of __________ surplus p. imposition of price ceilings always results in a loss of __________ surplus q. when demand is perfectly inelastic demand curve = _________ line r. when demand is perfectly elastic demand curve = __________ line s. Identify the characteristics that would INCREASE the value of Edp i. Number of substitutes _______________ ii. Nature of the good ____________________________ iii. Importance in the budget ________________________ t. Indicate what you know about relationship between goods if Edxy = positive u. The ______________ of a consumer is the measure of the satisfaction the consumer derives from consumption of goods and services. v. The __________________ is the period of time in which all inputs can be varied. w. TPP curve starts to decline when MPP = x. MC = ΔTC y. TC = MC Σ z. FC = TC when ___________________ aa. The portion of the LRATC known as the zone of “economies of scale” is akaab. Indicate what will happen to each of the following when the typical firm in a PC industry is earning a profit. i. Number of firms ______________________________ ii. Equilibrium price in the industry ____________________________ iii. Typical level of output for each firm _____________________________ iv. Location of the MC curve __________________________________ v. The level of profit for the typical firm _________________________