ECON Week 5 Notes
ECON Week 5 Notes ECON 2010
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This 16 page Class Notes was uploaded by jared.stein Notetaker on Sunday October 2, 2016. The Class Notes belongs to ECON 2010 at University of Colorado at Boulder taught by Dr. Charles A M de Bartolome in Fall 2016. Since its upload, it has received 3 views. For similar materials see Principles of Microeconomics in Microeconomics at University of Colorado at Boulder.
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Date Created: 10/02/16
9/19/16 Lecture 12: I. Social Evaluation of Market Outcomes A. Up until now: 1. We’ve worked with positive thinking a. Law of Supply and Demand b. Trading between countries with comparative advantages 2. All of these revolve around E, no shortages and no surpluses B. Now: 1. We’ll be looking at normative thinking 2. Is the market outcome good? C. Markets with many buyers and sellers are a good way to organize economic activity 1. Maximizes well being of society II. Individual Evaluation of an Outcome A. Traditional measure of well-being 1. Put “well-being’ on a scale; “utility” for comparison. (What I get out of this vs. what I put in.) a. What would be your increase in well-being if given an iPad? b. Each person has their own scale • Makes it difficult to make comparisons • Scale is not objective like length, temperature, etc. • Cannot be measured by somebody else of verified B. Willingness to pay: use $ 1. If given an iPad... 2. Economist thinks: a. Measure how much well being gained by individual from (iPad) by the dollar gift which gives individual same gain in well being. b. Means.. If individual went up from 12.5 “well-being” to 700 “well- being” from getting an iPad, and an iPad costs $500, then $500 equals the same amount of “well-being” as an iPad. • In this case since you went from 12.5 to 700 from getting the iPad, then the iPad gave you 687.5 “well being”. • Thus, the economist’s approach says that $500 cash, or $500 of anything would give you the same 687.5 increase in “well-being” c. d. Take the expression “I feel like a million dollars!” • My “well-being” is the same as if someone had just given me $1,000,000 e. “The million $ question” • Knowing the answer to this question will give me the same increase in “well-being” as if somebody had just given me $1,000,000 C. Benefit Gained from Buying 1. Benefit: a. “Well-being” gained from something b. Gained from getting a Coke, not from buying a Coke c. measured as cash which would’ve given same joy/”well-being” 2. To get something (buy), you must a price 3. Price a. $ given up to buy a good or service (G/S), also called material good b. However, $ also counts for “well-being” • Money given up means you can’t buy other things with that money, so some “well-being” is given uo • In this case, gaining material possessions and $ both count to increasing “well-being”..however, if you give some up, then you give up some “well-being” 4. Net benefits from buying a. This is the net increase in “well-being” from buying a good b. “Well-being gained from good is dampened because you paid a price • To get the material good that increased your “well-being”, you had to pay a price (giving up $ = giving up “well-being”) c. As long as “well-being” gained from buying G/S exceeds “well-being” lost from giving up $, you are happier. This is called a Consumer Surplus 5. If you buy a Coke a. Your “well-being” will go up as if someone had just given it to you b. However, since you gave up $ for it, your “well-being” goes down a bit c. Net benefit because the “well-being” gained from the coke is higher than the “well-being” lost from giving up $ 6. Willingness to pay: a. If your benefit from a Coke is $1.50, then your “well-being” goes up as if someone just gave you $1.50 • If you pay less than $1.50 for the Coke, the your net benefit is + (you gain “well-being”) • If you pay $1.50 for the Coke, your net benefit is 0 (You neither gain nor lose “well-being”) b. The most you’re willing to pay for the Coke is $1.50. c. benefit = willingness to pay • So your willingness to pay is $1.50 III. Objective/Rational A. Economists believe: 1. Individuals do something when they decide to buy.. a. They don’t think, “any quantity will do” b. Instead they think,”I want to organize my buying so that the increase in my joy (“well-being”/Net benefit/Consumer surplus) is as high as possible.” 2. That is the objective way to organize their activities 3. Two possible date ideas for Saturday night: a. b. Difference between the two: • Benefit: how much better you will feel doing or the other in terms of $ • Price c. Which date would you go on first (you’re paying) B. How Markets Maximize Net Benefit 1. Chris: benefit from a Coke $0.70 Sally: benefit from a Coke $0.90 2. If Chris gets a Coke and keeps it Chris benefit $0.70 Sally benefit $0.00 Net benefit $0.70 3. If Chris sells to Sally for $0.80 Chris benefit $0.80 Sally benefit $0.10 (.9-.8 = .1 so Sally gets $.10 “well-being”) Net benefit $0.90 4. Using the market a. Coke goes to the person who gets the biggest benefit b. Total net benefit (consumer surplus) increases c. Trade is voluntary, everybody is better off 9/21/16 Lecture 13 I. Buyer Concerns A. How much does a person buy 1. Difference between Mankiw and Me a. B. What are the Buyer’s Concerns 1. Can I afford it? 2. How much do I like it? 3. Focus on how much entertainment individual chooses to buy a. Split all goods into “entertainment” and “other things” b. 1 unit of “other things” is what $1 can buy II. What Individual can get A. Budget Line 1. Income: $1000 per month a. Can buy: • Entertainment - Price $5/unit • “Other things” - Price $1/unit b. c. If all income spent on: • Entertainment: 1000/5 = 200 (units/month) • “Other things”: 1000 units per month 2. Draw Line (kind of like PPF) a. Above Line: unaffordable b. On Line: affordable c. Below Line: Possible to buy more of both goods Make yourself feel better Savings are under “other things” Not chosen d. Slope of the line: “other things” given up if buy one extra unit entertainment • Opportunity Cost of entertainment = price, 5 “other things” 3. How it is like the PPF a. For Country: Production Possibility Frontier: shows combination of goods a country can produce. b. For Individual: Purchasing Possibility Frontier (budget line) shows combination of goods which an individual can buy. B. How much does Individual like units of Entertainment 1. Benefit of unit of entertainment differs by circumstances when consumed a. • First, individual puts down possibilities and the well- being/benefit got from each possibilites b. • Since you wants to get as large net benefit as possible, you want to choose units with the largest first. • You order them, with the “best” being on the left • If only get one unit of entertainment, it would be “movie with Bob and Mary” • If getting two units, then would 1st get “movie with Bob and Mary” and then 2nd would be a “CD” C. How does benefit change as you get more 1. Entertainment a. Individual has ordered units so that unit with biggest benefits are chosen first b. If only get 1 unit • 1st unit: movie with Bob and Mary Big increase in well being, benefit $ c. If add 2nd unit, making 2 units in all • 2nd unit: CD, benefit added is less Smaller increase in well-being, benefit $ 2. Benefit Curve a. Upward sloping • Benefit of x units = benefit of 1st unit + 2nd unit + … • As add more units, get more benefit • Curve is upward sloping b. Decreasing steepness • Slope is extra benefit for extra unit • Individual orders their goods • First unit is one which gives the most benefit • Second good is one which gives next most benefit • Decreasing extra benefit • Decreasing slope of line D. Smooth Curve 1. a. Individual not restricted to consuming whole units b. As smaller units allowed, curve gets smoother. • If very small fractional units allowed, curve is smooth 2. Other things a. “Other things” is so diverse that getting extra units does not have the exhaustion property. Extra unit of “other things” always gives $1 benefit III. Choosing how much to buy A. Happiness curves B. Put Curves Together 1. Net Benefit = Benefit - cost 2. To make benefit as large as possible, continue to buy until a. Distance between benefit and cost curves is greatest b. Slope of benefit line equals slope of cost line (price) c. At 70 units C. “Marginal” Terminology 1. Margin = Line which separates two groups: unused paper from used paper a. 2. Margin is line which separates units consumed from units not consumed 3. Marginal benefit a. b. If consuming 3 units of entertainment, the margin is drawn between 3rd and 4th • The “marginal benefit” is the benefit associated with the unit “at the margin” • If getting 4th unit • Marginal benefit is extra benefit gained by moving margin to get 1 more unit: benefit of 4th unit c. • Individual orders goods so that each extra unit gives extra benefit • As margin moved so individual consumes more goods, slope of benefit curve/ benefit of extra unit/ marginal benefit decreases • Law of Diminishing Marginal Benefit d. • Individual not restricted to consuming whole units • As smaller units allowed, points get closer • If very small fractional units allowed, points became a curve e. As fractional units get smaller, units on either side of marginal unit have approx. same MB • Going forwards, this is what we are going to assume IV. Using the Marginal Method A. Making Decisions “One unit at a time” 1. What is individual's decision process by which they decide that 70 units is best a. Not drawing curves b. But “moving the margin” or making the decision “one unit at a time” 2. Point 3: Most decisions can be broken down into marginal decisions 3. Margin is line which separates units bought from units not bought. a. Start with margin at 0 b. Do I want 1 more unit? If yes, buy 1st unit c. Net benefit gained if extra unit bought = benefit from unit - extra other things given = marginal benefit - price 4. Top Curve a. If marginal benefit > price • Slope of benefit curve exceeds slope of other things given up • Buying extra unit increases distance between benefit and cost curve • Move margin 5. Bottom curve a. Marginal benefit > price • Buying extra unit increases net benefit • Move margin: this comparison is more useful 6. Do I want to buy 2nd unit and move the margin a. Top Curve: • If marginal benefit > price • Slope benefit curve exceeds slope of other things given up • Buying extra unit increases distance between benefit and cost curve • Move margin b. Bottom Curve • Marginal Benefit > Price • Buying extra unit increases net benefit • Move margin: This comparison is more useful c. Continue “one unit at a time” until I buy 69 units 7. Do I want to move margin and buy 70th Unit a. Compare how much benefit I gain with how much benefit I give up • Compare marginal benefit with price b. In this case: the marginal benefit I gain equals benefit I give up • Don’t care? We say you buy it 8. Do I want to move the margin and buy 71st unit? a. Compare how much benefit I gain with its price • The marginal benefit I gain is less than benefit I give up - don’t buy it 9/23/16 Lecture 14 I. Choosing How Much to Buy A. Using Marginal Analysis 1. People choose to make well-being as big as possible a. b. If buy 1st unit • Gain benefit MB = $55 • Give up $5 “other things” • Overall, benefit goes up, 55-5 = 50 ($) • So you do it c. Similar for next units up to unit 69 • Margin is at 69, if buy 70th unit • Gain benefit: $5 • Give up benefit: $5 • You don’t mind so you buy it d. Principle: you buy all units for which Benefit >/= Price • So buy 70 units/month 2. Buying cont. a. b. If start by planning to buy more than 70 • If cut back by 1 unit • Lose 1 unit entertainment, give up benefit <$5 (per month) • Gain $5 (per month) to spend on other things for every unit over 70 you give up. • So you do it • Do it so on until Benefit = price, 70 units. Does not matter where you start from 3. For people who buy: 4. For people do not buy: B. Can we Determine Consumer MB Curve 1. How can an economist learn how much an individual benefits from something a. By asking, not likely to think too hard b. By observing the choices that he/she makes and using the thought process which caused him to make that choice. 2. “As I grow older, I pay less attention to what men say. I just watch what they do.” - Andrew Carnegie II. Individual’s MB and Demand curves are same lines A. Smooth Curves 1. Marginal benefit (primitive) 2. Demand Curve 3. To draw S curve a. Buys all units for which MB>Price, or until MB=Price b. If price = 10, buys all units until MB = 10; buys Q=63 units and his MB=10 c. If price = 5, buys all units until MB = 5; buys Q = 70 units and his MB = 5 4. Although D and MB curves different interpretations, lines are the same B. Important Points 1. We can observe D curves 2. So we can learn MB curves III. Evaluating Consumer Gains A. How much better off you are because you can buy entertainment at $5/unit. 1. a. Alternative: Not consuming any entertainment b. From D curve, you buy 70 units • What is your net benefit gained 2. Total Net Benefit = Total Benefit - Total Cost a. Total Benefit = MB of moving margin + MB of moving margin …+ MB 0→1 1→2 69 →70 b. Interpret D curve as MB curve c. Total Benefit = 55 + 53 …+5 = Area of 1st + Area of 2nd + Area of 70th Rectangle Rectangle Rectangle = area of ABCD = ½ (55+5)70 = 2100 ($ per month) d. Total benefit given up = benefit of 5*70 “other things” = area EBCD=350 e. Net benefit (consumer surplus) = 2100-530 = 1750 $/month OR 3. Determine total net benefit “one unit at a time” a. Net Benefit = net benefit + net benefit + … + net benefit of 1st unit of 2nd unit of 70th unit = MB - p + MB - p + … +MB - p of moving margin of moving margin 0 → 1 1 → 2 69 → 70 b. Interpret D as MB curve c. Net benefit = 50 + 48 + … + 5 gained = area of 1st + area of 2nd + … + area of 70th shaded rectangle shaded rectangle shaded rectangle = area ABE = ½(50)70 = 1750 ($/month)
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