ECON202 Week 5 Notes
ECON202 Week 5 Notes Econ202
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This 5 page Class Notes was uploaded by Sydney Dingman on Thursday February 18, 2016. The Class Notes belongs to Econ202 at Colorado State University taught by Professor Christopher Blake in Winter 2016. Since its upload, it has received 29 views. For similar materials see Principles of Microeconomics in Economcs at Colorado State University.
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Date Created: 02/18/16
ECON 202, Week 5 2/16/16, Module 13 Total surplus- Welfare o Sum of consumer surplus (CS) and producer surplus (PS) Module 13: Price Controls o Intervention in a market to change price o Two types of price controls: Price Ceiling: maximum price that can be charged in a market (aimed at forcing prices down) Price Floor: minimum price for a market (aimed at forcing prices up) Price Ceiling o Maximum price for a market o Goal is to force prices down o In order to be in effect, the ceiling must be set below equilibrium (Pstar) o Quantity supplied is lower than quantity demanded o Before: CS: A+B PS: C+D+E TS: A+B+C+D+E o Restricted quantity: The quantity being exchanged in the market when the price ceiling is established o Price ceiling prevents otherwise beneficial transactions from existing in the market o After: CS: A+C PS: E TS: A+C+E Deadweight loss (DWL)= B+D Is a general term that represents the loss to total surplus because potentially beneficial transactions don’t occur Rent control: o What does B represent? The people who are no longer renting due to the shortage, they are worse off o What does D represent? The producers of rent who do not participate in the market anymore, they are worse off o What does C represent? C transfers from producers to consumers, prices being forced down is good for consumers because they pay lower rent prices Natural disasters, oil, war products in WWII, Price Floors o Minimum price for a market o Goal is to raise prices o In order to be in effect, it must be above equilibrium o Labor market (minimum wage), agricultural product, international air flights (historically) o Firms demand labor, labor is the supply o Price floor is the same as minimum wage o We have a surplus which is unemployment o Before: CS: A+B+C PS: D+E TS: A+B+C+D+E o After: CS: A PS: B+D TS: A+B+D DWL: C+E 2 2/16/16, Module 14, Quantity Controls Quota: maximum quantity that we impose on a market Example: NYC taxi cab market o 1930s: Government issued 12,000 medallions to be able to drive a taxi in NYC ($10) o 1995: 12,000 medallions still exist 65 years later o Today: just over 13,000 medallions ($1M) o For a quota to be binding must be set below Qstar 2/18/16, Module 8: Price Elasticity of Demand Elasticity: measure of responsiveness Law of Demand: if price rises for a market, all else equal, demand should drop because the more money you have to pay, the less you want Elasticity of demand tells us how responsive we are to a price change o Ed=%changeQd/%changeP Shows how much our quantity demanded changes if price changes by a given percentage o Use midpoint method to calculate elasticity demand Estimate the percent change of quantity demanded which equals (q2-q1) /(Q1+Q2)/2 Same for price but with the price number Keys to Elasticity of Demand o Should always be negative Focus on absolute value, not the negative number o Number itself tells us how responsive we are to a change in price From our example: if price rises by 10 percent quantity demanded is going to fall by 18%. Module 9: Interpreting Price Elasticity of Demand Price elasticity of demand is valuable information to firms o they can tell how much loss or gain they would have if they raise or lower prices o Help them determine how a price change impacts total revenue 3 o Total revenue: price*quantity o For any given price change, there is a price effect and a quantity effect on the total revenue a firm is going to be able to generate. Goods and services can generally be categorized in three ways: o Elastic good or service: absolute value is greater than 1 Tells us that the percent change in quantity demanded is larger than the percent price change We are very responsive in this situation Remember “Drastic Elastic” Quantity effect outweighs the price effect If price rises, all else equal, the price effect on total revenue will be positive, but quantity demanded also falls which tells us that quantity effect is negative. This means firms do not want to raise prices because it would mean a fall in total revenue o Unit Elastic Good or Service Elasticity demand equals 1 Percent change in quantity demanded equals percent change in price o Inelastic Good or Service Elasticity of demand is lower than 1 (0-1) % change in quantity demanded < % change in price Type of good or service where our response to price changes is minimal, we do not react extremely Gasoline (0.5) (half a percent), milk, eggs (necessities) Price effect outweighs quantity effect If price rises, total revenue rises Firms have an incentive to raise prices o Example: Flights The price will rise if we continue to rise because they will see it as an inelastic good or service, by tracking how often you search for a flight and begin raising the price. Determinants of Elasticity of Demand 4 o What is going to impact how responsive you are to a given price change o Availability of substitute goods or services The more substitutes that there are, the more elastic the good or service tends to be. o Luxury or necessity Necessities are more inelastic Luxury items are more elastic o Share of income spent on the goods or services Small share of income is more inelastic Salt prices Large share of income is more elastic Rent prices o Passage of time As more time passes, our demand tends to be more elastic Gas prices rising likely won’t change your behavior today, but maybe a year from now they will. Extreme Cases: o Generally, don’t happen in real life o Perfectly inelastic good or service: Completely unresponsive to a price change Corresponds to an Ed equal to 0 Creates a vertical demand curve o Perfectly elastic good or service Infinitely responsive to price changes Corresponds to an Ed equal to infinite Creates a horizontal demand curve o At P1 we buy as much of the product as available, but when price changes, we don’t buy any and our quantity demanded goes to 0. o 5
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