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## Exam 3 Lecture 2-4

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by: Karlee Castleberry

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# Exam 3 Lecture 2-4 Econ 2020

Marketplace > Auburn University > Business > Econ 2020 > Exam 3 Lecture 2 4
Karlee Castleberry
AU
GPA 3.1

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These notes cover Dr. Finck's lectures for exam 3 lectures 2-4!
COURSE
Principles of Economics: Microeconomics
PROF.
William M. Finck
TYPE
Class Notes
PAGES
9
WORDS
KARMA
25 ?

1 review
Becky Falgoust

## Popular in Principles of Economics: Microeconomics

This 9 page Class Notes was uploaded by Karlee Castleberry on Monday March 7, 2016. The Class Notes belongs to Econ 2020 at Auburn University taught by William M. Finck in Spring 2016. Since its upload, it has received 69 views. For similar materials see Principles of Economics: Microeconomics in Business at Auburn University.

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## Reviews for Exam 3 Lecture 2-4

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Date Created: 03/07/16
Econ 2020 Exam 3 Lect. 2-4 [definition formula relationships between variables] {Lecture 2}  Factors that can change the budget line (cont.) o 3. Price of X- a change in the price causes a rotation of the budget line o  Question #3: What do we buy first? o Vacation vs. Cheeseburger  MU of vacation = 50,000 utils  MU of cheeseburger = 20 utils  P of vacation = \$5,000  P of cheeseburger = \$1  MU /vP =v50,000 / 5,000 = 10  MU /cP =c20 / 1 = 20 o Utility maximization rule (aka consumer equilibrium)  For utility max, the consumer must get t he same amount of utility from the last dollar spent on each good  In other words, TU is maximized when….  1. All income is spent  2. MUx/ Px= MU y Py o Were trying to find the optimal consumption bundle  The bundle that maximizes total utility  Find OCB using the following info:  Consumer income = \$24  Px= \$3  Py= \$2 Qy TUy MUy MU yP y 1 30 30 15 2 58 28 14 3 84 26 13 4 108 24 12 5 128 20 10 6 146 18 9 7 162 16 8  Q x TUx MU x MU x Px 1 39 39 13 2 75 36 12 3 108 33 11 4 135 27 9 5 159 24 8 6 180 21 7 2 7 198 18 6  Mux/Px = Marginal utility per dollar  You buy Y first, second, third  You buy X third  Possible optimal bundles  Use the income formula on possible optimal bundles to determine if all \$ is spent  1 X and 3 Y: (1 * 3) + (3 * 2) = \$9  2 X and 4 Y: (2 * 3) + (4 * 2) = \$14  4 X and 6 Y: (4 * 3) + (6 * 2) = \$24  Optimal = 4 units of X and 6 units of Y  TU of bundle = 135 + 146 = 281 utils  He will ask either: What’s in optimal bundle (X & Y)? or How many utils consumed? o Graphing optimal consumption  What happens if prices change?  2 options:  1. rewrite entire table  2. use a graph o Indifference curve  A line that shows the consumption bundles that yield the same amount of total utility 3   Properties of most indifferent curves:  1. Downward sloping: adding one good = taking away from another good  2. farther from the origin represents a greater level of TU (higher utility represented)  3. Parallel  4. Bowed inward: steep  flat (steep gives up a lot of good y, flat: you wont give up any more of Y) first unit of x is not the same to you as the last {Lecture 3}  Calculating the slope of IC’s  Slope = ∆Qy / ∆Qx  Along an IC: o ∆TUx + ∆TUy = 0  more than 1 unit = not the same as formula for marginal utility o this can be rewritten as:  MUx * ∆Qx + MUy * ∆Qy = 0  Or: 4  MUx * ∆Qx = - MUy * ∆Qy o Dividing both sides by Qx and by -MUy:  ∆Qy / ∆Qx = -MUx / MUy o Marginal rate of substitution  The ratio of the marginal utility of one good to the marginal utility of another: MRS = MUx / MUy  Good y Good x  bundle 1: big MUx / tiny MUy = big MRS  bundle 2: tiny MUx / big MUy = tiny MRS o Principle of Diminishing MRS  As you go left to right along the IC, the MRS decreases  The more of good X a person consumes in proportion of good Y, the less Y the consumer is willing to substitute for X; MRS decreases as Qx increases  The MRS changes along an IC because of diminishing marginal utility 5  At 1, the consumer would be willing to give up lots of Y to get another X  At 2, Y is scarce, so the consumer will only give up very little to get another X o Graphing optimal consumption  Let’s add a budget line to the IC graph:   Which is the optimal bundle?  At bundle 2, slope of the IC = slope of the BL o Relative price  The ratio of the price of one good to the price of the other; RP = Px / Py  NOTE: slope of budget line = - Px / Py  Thus, we can find the optimal bundle by setting MRS = RP or MUx/MUy = Px/Py o Relative price rule  At the optimal consumption bundle, MRS = RP Bundle Qx MUx Qy MUy A 2 2500 60 100 6 B 3 2000 40 200 C 5 1000 24 500 D 6 750 20 750  If Px = \$50 and Py = \$5, what is the optimal bundle?  SOLUTION: MRS = RP  MRS = MUx / MUy  RP = Px / Py = 50 / 5 = 10  OPTIMAL BUNDLE = B {Lecture 4}  Special Indifference Curves o perfect substitutes- goods for which the marginal rate of substitution is constant, no matter how much of each is consumed  ex. A consumer has \$55 to spend on bundles containing exxon and chevron gas. Px(exxon) = \$2.75 and Pc(chevron) = \$2.50 exxon 2 1 0 22 chevron  Optimal bundle = income / low P  0 units of X and 22 units of C 7 o perfect complements- goods that a consumer will consume in the same ratio regardless of their relative price  a consumer has \$24 to spend on bundles containing ham and bread. Ph = \$6 and Pb = \$2 ham 4 1 3 bread 3 1 2  Optimal bundle = income / (px + py)  3 units of H and 3 units of B Profit (∏) o ∏ = total revenue – total cost o TR = P * Q o TC can be defined multiple ways:  1. accounting ∏ = TR – explicit cost  2. Economic ∏ = TR – economic cost o economic cost includes the implicit cost, which for a producer is the forgone income from employing resources in their next-best use  ex:  TR = \$15,000  Explicit cost = \$11,000  Implicit cost = \$4,000  Find accounting and economic profits 8  Solution: o Accounting ∏ = 15000 – 11000 = \$4,000 o Economic ∏ = 15000 – (11000+4000) = \$0 Normal profit o 1. The firm is doing just as well as it could in another industry o 2. Accounting profit = Implicit cost o 3. Economic profit = \$0 9

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