Exam 1 Notes
U of M
Popular in Principles of Microeconomics
verified elite notetaker
Popular in Economcs
This 13 page Study Guide was uploaded by Emma Norden on Thursday October 8, 2015. The Study Guide belongs to Econ 1101 at University of Minnesota taught by Thomas Holmes in Fall 2015. Since its upload, it has received 1046 views. For similar materials see Principles of Microeconomics in Economcs at University of Minnesota.
Reviews for Exam 1 Notes
very detailed notes
notes are good, if she had maybe had some examples of charts or some of the math portions it would have been awesome
Notes were average at best - did not go into depth enough on several key topics for the midterm.
Report this Material
What is Karma?
Karma is the currency of StudySoup.
You can buy or earn more Karma at anytime and redeem it for class notes, study guides, flashcards, and more!
Date Created: 10/08/15
Week 1 Chapter 1 Ten Principles of Economics Economics The study of how society manages its resources Economists study how people make decisions How people interact with each other ie how equilibrium in auction is reached Patterns and forces that may affect economy ie rate that prices increase Ten Principles of Economics 1 People face tradeoffs Everything comes with a price in order to get something you have to give something ex if you choose to go to bed to rest before an exam you re giving up time that you could spend studying for it and vice versa Tradeoffs between efficiency society gets maximum benefits from resources and equality benefits are distributed evenly among members of society 2 The Cost of Something is What You Give Up to Get It Every decision you make has benefits and downsides Opportunity cost what you give up in order to acquire certain item 3 Rational People Think at the Margin Assumed that people are rational and therefore make rational choices Marginal Change slight adjustment to a plan or course of action Rational people weigh marginal benefits and costs when making a decision ex not should I eat ice cream or not but should I have an extra spoonful Rational people only take an action if the marginal benefit outweighs the cost 4 People Respond to Incentives Incentive Something that induces someone to take act punishment or reward Rational people respond to incentives ex higher tax on gasoline may result in people driving less 5 Trade Can Make Everyone Better Off Competition between countries in making goods may seem bad however it also allows countries to specialize in what they do best giving everyone access to variety of goods and services for lower cost 6 Markets are Usually a Good Way to Organize Economic Activity Instead of central planning where the government oversees market actions market economy is better Market economy the millions and millions of people make the decisions prices adjust accordingly to buyers and consumers actions invisible hand 7 Governments can Sometimes Improve Market Outcomes Government is needed to set policies so people can own and control resources Also needed to promote efficiency size of economic pie or equality how pie is divided Market failure market fails to produce efficient allocation of good One cause is an externaility One person s actions affect wellbeing of a bystander Market power One person or firm can control prices of good 8 A Country s Standard of Living Depends on Its Ability to Produce Goods and Services Almost all disparities in living standards can be described by a country s productivity how much is produces for each person producing it With higher productivity comes higher standard of living 9 Prices Rise when the Government Prints Too Much Money In ation increase in prices overall Often caused by growth in quantity of money value of money falls when there is more of it 10 Society Faces a ShortRun TradeOff between In ation and Unemployment In the longterm increase in money rises prices In the shortterm increase of money can increase spending thus creating greater demand for goods and a need to hire more workers in order to produce more policymakers can exploit this short term tradeoff by changing government spending taxes and amount of money printed How these strategies are used is up for debate Chapter 2 Thinking Like an Economist Theory and observation are used in economics Experiments are usually inappropriate cannot in uence market economy study natural trends and economic events in history Use different assumptions when studying short and longterm effects of a change in quantity of money C ircularF low Diagram Shows how pieces of economy fit together and interact page 23 The Production Possibilities Frontier Various combinations of goods that economy can produce given available factors of production and technology Ex If you have enough resources to make 200 cars and 400 computers you could also produce 0 cars and 800 computers or 100 cars and 600 computer etc This is also an example of tradeoff ie if you make more of one you have to make less of another page 24 0 Because resources are scarce some outcomes will be better than others 0 An outcome is considered e icient if economy maximizes all it can get from available resources Microeconomics Study of how households and firms interact and make decisions in market Macroeconomics Study of economywide phenomena 0 Two different roles in economics Scientist and policy adviser Positive statement states how the world is Negative statement states how world should be 0 Positive and negative statements are intertwined Majority of economics revolves around positive statements economists figure out how economy works scientist This can effect what normative policies are desired policy adviser Week 2 Chapter 4 The Market Forces of Supply and Demand Supply and demand are the forces that determine the quantity of good produced and price it is sold Market group of buyers and sellers who determine the demand of a good and supply of good Competitive market instance where there are so many buyers and sellers that each has little impact on market price Perfectly competitive 1 Goods for sale are all the same 2 Large number of buyers and sellers so no single person has great in uence on price In this situation buyers and sellers are price takers because they must accept market price Monopoly One seller sets the price 0 There are different variations of markets that fall between the two extremes Demand Quantity demanded amount of good consumers are willing and able to buy Law of Demand Assuming all other factors that in uence demand are held constant when price of good rises demand falls and when price of good decreases demand increases Demand schedule table that shows relationships between price of good and quantity demanded 0 Price is on y axis quantity is on X axis On a graph demand curve slopes downward lower the price the greater the demand When curve is shifted right there is an increase in demand When there is a decrease in demand curve is shifted left Variables that shift demand curve Income 0 If demand of good falls when income does good is called a normal good 0 If demand for good rises when income falls it is called an inferior good ex Bus rides Prices of related goods 0 Substitutes When decrease in price of one good causes a decrease in demand for another the two goods are called substitutes ie Goods used in place of each other such as hotdogs and hamburgers 0 Complements When decrease in price of one good causes increases in demand for another good the two goods are called complements ie Goods used together such as cars and gas Tastes o Economists study what happens when tastes change Expectations 0 Expectations about future may affect today s decisions ex Expectation of higher income later on may lead you to save less now Number of Buyers 0 Greater number of buyers means greater demand Page 6772 Supply Quantity supplied amount that sellers are willing and able to sell Law of Supply when price of good rises the quantity supplied of that good rises and when price of good falls the quantity supplied falls Supply schedule table that shows relationship between price of good and quantity supplied On a graph supply curve slopes upward because higher price means more quantity supplied Supply curve shifts right if there s an increase in supply Supply curve shifts left if there s a decrease in supply Variables that shift supply curve Input Prices 0 When input costs rise that is anything that goes into production such as labor cost machines ingredients etc less product is sold Technology 0 Advancement in technology reduces costs and therefore increase supply Expectation o If a firm expects the price of a good to rise in the future they may decide to sell less today and save more to sell later Number of sellers 0 More sellers more supply Page 7376 Equilibrium where the supply and demand curves intersect Quantity of good that buyers are willing and able to buy is exactly equal to the quantity sellers are willing and able to sell also called the marketclearing price Equilibrium price is the price for the good at this point and equilibrium quantity is the quantity demanded at this point Equilibrium is reached naturally 0 Ex If market price is above equilibrium there is excess supply and sellers cut prices until market reaches equilibrium movement along curves o If market is below equilibrium there is a shortage of the good and there is excess demand Sellers raise prices until equilibrium is reached Law of Supply and Demand In free markets price of good changes so that quantity supplied and quantity demanded are in equilibrium Examples given on page 7982 Week 3 Chapter 5 Elasticitv and its Application Elasticity How much buyers and sellers respond to changes in market conditions Price elasticity of demand measures how much quantity demanded responds to change in price Demand is elastic if quantity demanded responds substantially Demand is inelastic if quantity demanded changes only slightly Some variables that in uence price elasticity Availability of close substitutes 0 Goods With close substitutes have great elasticity because consumers can replace that good With another one ex Margarine and butter Necessities vs Luxuries 0 Necessities have inelastic demand ex If costs of doctor visits rise people Will probably still go to the doctor Definition of the Market 0 Narrowly defined markets are more elastic than broadly defined markets because substitutes are easier to nd ex Food is a broad category that can t be replaced and has an inelastic demand Whereas ice cream is more specific and thus can be substituted Time Horizon 0 Goods have more elastic demand over longer period of time Price elasticity of demand change in Quantity Demanded change in price Midpoint Method Price elasticity of demand Q2Q1Q2Q12 P2P1P2P12 Elastic demand elasticitygt1 quantity moves proportionately more than price Inelastic demand elasticitylt1 quantity move proportionately less than price Unit elasticity elasticity1 percentage change in quantity is equal to change in price Perfectly Inelastic elasticity0 vertical line Perfectly elastic elasticity0 Page 93 Total revenue amount paid by buyers and received by sellers PQ price of good times quantity sold If demand is inelastic increase in price causes increase in total revenue If demand is elastic increase in price causes decrease in total revenue If demand is unit elastic total revenue remains constant 0 Elasticity is the ratio of percentage changes of two variables On a graph at points on a demand curve where there is low price and high quantity it is inelastic At points where there is high price and low quantity the demand curve is elastic Page 96 Income elasticity of demand measures how quantity demanded changes as consumer income changes IED change in quantity demanded change in income Normal goods have positive income elasticities Inferior goods have negative income elasticities Cross Price Elasticity of Demand measures how quantity demanded of one good responds to change in the price of another good change in quantity demanded for good 1 change in quantity demanded for good 2 0 For substitutes the cross price elasticity is positive 0 For complements the cross price elasticity is negative Price elasticity of supply measures how much quantity supplied responds to changes in price Supply is elastic if quantity supplied responds greatly to changes in price Supply is inelastic if quantity supplied responds only slightly to changes in price Depends on whether or not sellers change the amount of good they produce ex Amount of beachfront land cannot be increased so it s inelastic books cars etc are elastic Supply is usually more elastic in the long run allows producers to build new factories hire workers etc Price elasticity of supply change in quantity supplied change in in price Elastic demand elasticitygtl quantity moves proportionately more than price Inelastic demand elasticityltl quantity move proportionately less than price Unity elasticity elasticityl percentage change in quantity is equal to change in price Perfectly Inelastic elasticity0 vertical line Perfectly elastic elasticity0 Page 100 Examples of demand supply and elasticity page 102107 Chapter 7 Markets and Welfare Welfare economics study of how allocation of resources affects economic wellbeing Willingness to pay maximum amount buyer is willing to pay for a good Consumer surplus amount buyer is willing to pay minus amount actually pay EX John is willing to pay 100 for an item but winds up paying 80 His consumer surplus is 20 Marginal buyer At any quantity demand curve shows the willingness to pay of the marginal buyer the buyer who would leave market if price was any higher On a graph consumer surplus is shown by the area below the demand curve and above the price Consumer surplus measures benefit that buyers receive from a good Page 138139 Cost Lowest amount that producer is willing to sell his good for Producer surplus amount producer is paid minus cost of production Ex If someone has a cost of 500 but gets paid 600 producer surplus is 100 On a graph at any quantity price given by supply curve shows cost of marginal seller seller who would leave market if price was any lower Area below price and above supply curve measures producer surplus Producer surplus is the benefit producers receive Page 142143 Total surplus sum of producer and consumer surplus Total surplusValue to buyers cost to sellers 0 Allocation is e icient when allocation of resources maximizes total surplus if economic pie is as big as possible 0 Equality is when buyers and sellers in the market have similar level of economic well being how pie is distributed In free markets supply of goods are allocated to buyers who values them most and demand for goods are allocated to sellers who can produce them at the lowest cost Free markets produce quantity of goods that maximizes total surplus In free markets the equilibrium is an efficient allocation of resources Week 4 Chapter 6 Supply Demand and Government Policies Price controls are often put in place when policymakers find price of good to be unfair to buyers or sellers Price ceiling legal maximum on the price of a good Ex If there s a price ceiling of 3 on ice cream price cannot rise above it o If price ceiling is above equilibrium of market it is not binding because economy will stay at equilibrium 0 If price ceiling is below equilibrium the ceiling is a binding constraint so new equilibrium becomes the price ceiling If there is a binding price ceiling in market there is a shortage of goods and sellers must distribute goods among buyers This usually is inefficient Examples given on page 114115 Price floor legal minimum on price Ex Price cannot fall below this 0 In the case of price oors if it is below the market equilibrium price price oor is not binding o If price oor is above equilibrium price it is binding Market price cannot go below price oor so the new equilibrium is now the price oor This causes a surplus of goods Biases can affect who is able to sell goods and who isn t Example on page 117 When policymakers set prices for goods they are often trying to make things fair but sometimes this can have ill effects Ex Low rent is intended to make housing affordable but may cause landlords to not maintain buildings Altemative to controlling prices is through a subsidy which is when government pays a portion of the cost of a good such as a rent subsidy These require higher taxes Taxes Used to raise revenue to pay for services Tax levied on sellers of a good 0 Demand curve does not change because consumers are not affected by tax 0 Tax affects sellers which makes them less profitable therefore supply curve is shifted to left quantity of good reduced Curve is shifted upward the exact amount of the tax Tax levied on buyers of a good 0 Demand curve shifts to the left because buyers have to pay for cost of ice cream plus tax to government so demand decreases Demand curve shifts downward exact amount of tax In both cases tax puts a wedge between what buyers pay and sellers receive When market reaches its new equilibrium with the tax in place buyers and sellers share the burden of tax regardless of who the tax is levied on Sellers receive less profit and buyers pay more How are elasticity and tax related Distribution of tax burden depends on elasticity Elastic supply and relatively inelastic demand 0 Sellers are responsive to changes in price of good so supply curve is relatively at 0 Buyers are less responsive so demand curve is steep Most of the tax burden falls on buyers Inelastic supply and elastic demand 0 Sellers are not responsive to changes in market price so supply curve is steeper 0 Producers are more responsive so demand curve is atter Seller deals with majority of tax burden The side of the market that is least elastic is the side that takes a greater burden of tax Ex Small elasticity of demand indicates not very many substitutes for buyers so they are less willing to leave marketplace Chapter 8 Application The Costs of Taxation How does tax a ect economic wellbeing of participants 0 Taxes on buyers demand curve shifts downward by tax amount 0 Taxes on sellers supply curve shifts upward by that amount When there is a tax price paid by buyers increases and price seller receives decreases TaX on an item causes a reduction in how much is sold which leads to deadweight loss total surplus that is lost TaX in uences buyers to consume less and producers to produce less so the market falls beneath its potential equilibrium Consumer surplusamount buyers are willing to pay amount actually paid Producer surplusamount sellers receivecost of good TQ total tax revenue T size of tax Qquantity of good sold Total surplus consumer surplus producer surplus tax revenue Page 157159 Inelastic supply curve quantity supplied only changes slightly to change in price deadweight loss is small Elastic supply curve quantity supplied responds substantially to change in price deadweight loss is larger Inelastic demand curve deadweight loss is small Elastic demand curve deadweight loss is larger TaX rarely stays the same for longer periods of time At first increase in tax causes an increase in revenue but as tax continues to increase revenue starts to fall this is because with too high a tax people would stop buying selling altogether Page 164 Week 5 Chapter 10 Externalities Externality when a person s actions affect wellbeing of bystander but does not pay for or receive compensation for that impact If effect on bystander is good it is a positive externality If it is bad it is a negative externality 0 When it comes to extemalities in a market this does not solely include buyers and sellers but those who are affected indirectly 0 When there are externalities the market allocation is not e icient because usually buyers and sellers do not acknowledge this outside impacts thus society as a whole is not benefiting EX Aluminum production emits pollution which affects society who breathes in the air Due to this extemality the cost to society is larger than the cost to the producers Social cost includes cost to producers and cost to society therefore social cost curve is above supply curve Optimal quantity is where social cost curve intersect demand curve which is smaller than the equilibrium quantity This is the optimal amount of aluminum from perspective of society producers do not make more than this amount because social cost would exceed the value of aluminum to consumers page 198 0 Market equilibrium without social cost is greater than socially optimal quantity 0 In order to achieve optimal amount of aluminum a tax could be placed so that equilibrium would mirror this Internalizing the externality when such a tax is placed it is called internalizing the externality because it gives buyers and sellers an incentive to take into account outside affects Page 198199 Positive externalities Ex Extemalities on education might include less crime higher productivity etc Social value curve lies above demand curve because social value is greater than the private value Optimal quantity is where social value and supply curve intersect which is larger than the equilibrium quantity Page 199 To move market equilibrium closer to social optimum a subsidy is put into place Negative externalities lead markets to produce a larger quantity than is socially desirable Positive externalities lead markets to produce a smaller quantity than is socially desirable To remedy the problem the government can internalize the externality by taxing goods that have negative externalities and subsidizing goods that have positive externalities Page 201 0 Extemalities make allocation of resources inefficient policies are put into place to move allocation closer to social optimum Govemments can respond in two ways Command and control policies government regulates people s behavior directly prohibit certain actions etc Market based policies align private incentives with social efficiency taxes or subsidies Policy 1 Corrective taxes and subsidies taxes meant to deal with effects of negative externalities Also called Pigovian taxes An ideal corrective tax would equal the external cost and an ideal corrective subsidy would equal external benefit from activity with positive externalities When it comes to pollution corrective tax is better than regulation If factories are taxed they have incentive to use cleaner technology in order to reduce the tax whereas a regulation would just cap the amount of pollution that can be emitted Page 203 Usually taxes move allocation of resources away from social optimum but in the presence of externalities they raise revenue of government and enhance economic efficiency moving it closer to social optimum Policy 2 Pollution permits If two firms have to reduce emission of pollution to 300 tons of glop a year regulation policy pollution permits allow firms to trade one firm can sell 100 tons of its allotted glop to the other firm in exchange for 5 million A market for pollution permits among firms would be governed by supply and demand with the firms that value permits more highly getting them Page 205 Types of Private Solution to externalities Moral codes and social sanctions ie it s the wrong thing to do Charities Selfinterest of relevant parties Contracts Page 208209 Coase Theorem If private parties can bargain over allocation without cost they can find solution to externalities on their own The bargain reached will make everyone better off and be efficient Private solutions don t always work Transaction costs Costs that incur during process of bargaining ex Lawyers Failing to reach an agreement There are a large number of parties involved coordinating with everyone is costly Monday 92815 Market allocation everything that happens in the economy ie who gets the money who gets what widgets etc General notion of efficiency of the market An allocation is Pareto Ef cient if it is feasible That is it is efficient If professor and student have 6 moon pies and each get 3 that s pareto efficient If professor gets 4 and student gets 2 that is NOT pareto efficient But if professor gets all 6 that IS efficient Unless the professor gives student 1 of his moon pies Student would be better off but professor would be worse off 0 You cannot make someone better off without someone else being worse of o The market economy is like a big pie If one person gets a bigger slice of the pie someone else will have to get a smaller piece That is not pareto efficient Ef cient allocation of Consumption In an efficient allocation consumers with highest reservation price price willing to pay will consume If this does not work consumer does not get a widget consumer can buy from another consumer with a lower reservation price Ef cient Allocation of Production In any efficient allocation producers with lowest cost produce Wednesday 93 0 1 5 First Welfare Theorem Adam Smith Theorem or Invisible Hand Theorem 0 Assumptions Market structure is perfectly competitive No externalities Realize that your action will either hurt or benefit someone else but this impact is not taken into account Therefore unregulated market allocation is Pareto efficient maximizes size of pie however market does not work towards equity but efficiency Taxes distort decision making in market place 0 Tax is a wedge between price consumer pays and price producer receive PDtaxPS top of tax line hits demand curve 0 Widget subsidy PSPDsubsidy top of subsidy line hits supply curve because consumers are paying less and sellers are getting more 0 Burden of tax depends on elasticity of supply and demand If supply is perfectly elastic horizontal line consumers pay entire tax If supply is perfectly inelastic vertical line suppliers pay entire tax 10515 Marginal tax rate 0 Rate paid on last dollar earned 0 Key rate used in decision making about how much to work Name tax policies give tax breaks at the margin tax break that allows business to open that wouldn t have otherwise 0 Tax on earned income has the highest marginal rate 20 high income capital gains starts business owns it sells business etc 4 obamacare 6 New York tax 20 Spurs job creators spur investment 0 Tax is lower on capital gain than earned income 40 federal tax 6 state tax 3 medicare 49 percent Tax cuts would require raising taxes elsewhere or cut federal spending Price Controls Price ceiling no prices can be higher than ceiling ex Rent control Price floor no price can be lower than this minimum wage M has a usual fare for an area surge pricing Normal price 20 During busy hours price rises to 40 0 If surge price is banned there is excess demand 0 Demand curve shifts right but price stays the same so does not maximize the market price 0 Price ceiling excess demand not everyone who wants a widget will get one Perfectly Efficient Rationing highest paying consumers get widget at price ceiling cost consumers are better off similar to tax but tax revenue goes to consumers who pay Perfectly inefficient rationing lowest value consumers that want widget get it Uniform rationing consumers between consumers who are willing to pay the lowest and highest amount
Are you sure you want to buy this material for
You're already Subscribed!
Looks like you've already subscribed to StudySoup, you won't need to purchase another subscription to get this material. To access this material simply click 'View Full Document'