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Opportunity Cost
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the value of the next best alternative
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market
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collection of actual and potential buyers/sellers of a product that determine the exchange price
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signaling
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suppliers signal by incurring costs that low productivity types are not willing to engage in because cost are too high for low productivity firms
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screening
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constructing barriers to filter out low productivity people
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market definition
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determining which buyers, sellers, and range of products that should be included in a particular market
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arbitrage
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buying low and selling high—can be across locations, over time, or both
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perfectly competitive market
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market for a single homogeneous product with many buyers and sellers, so that no single buyer or seller can impact price
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demand curve
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the quantity of a good that consumers are willing to buy as a function of the price of the good, for every possible price; marginal willingness to pay
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factors affecting demand
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income
consumer preferences
the number of consumers (market demand)
consumer preferences
the number of consumers (market demand)
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movement along demand curve
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A price change causes movement from one point on a fixed demand curve to another point on the same curve.
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shift of a demand curve
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a change in the quantity demanded at any given price
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budget constraint
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as budget is used up on one thing, willing to pay less for more of it
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diminishing marginal utility
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additional units are worth less, the more units you have
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substitutes
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Two goods for which an increase in the price of one leads to an increase in the quantity demanded of the other.
ex: tea and coffee
ex: tea and coffee
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compliments
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Two goods for which an increase in the price of one leads to a decrease in the quantity demanded of the other.
ex: automobiles and gasoline
ex: automobiles and gasoline
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supply curve
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the quantity of a good that producers are willing to sell as a function of the price of the good
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factors affecting supply
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production costs: wages, interest charges, costs of raw materials, technology for production
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movement along the supply curve
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a change in the quantity supplied of a good arising from a change in the good's price
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shift of a supply curve
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change in production costs that results in an increase/decrease of output
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elasticity
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percentage change in one variable resulting from a one percent increase in another
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consumer surplus
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difference between the total willingness to pay and the amount paid
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producer surplus
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difference between revenue and total costs
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The extent of the excess demand implied by the shortages will depend on
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the elasticities of supply and demand, where the shortages will be larger if both supply and demand are more elastic.
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price floor
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A legal minimum on the price at which a good can be sold
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price ceiling
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A legal maximum on the price at which a good can be sold
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economic incidence
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who actually bears economic burden of the tax
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In a perfectly competitive market in which no market failure occurs and no government policy interferes with the equilibrium price and quantity,
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deadweight loss is zero
the sum of producer and consumer surplus is maximized.
the sum of producer and consumer surplus is maximized.
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consumers act as though they have:
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preferences, constraints, choices to maximize happiness subject to constraints
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indifference curve
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shows all combinations of two goods that provide the consumer with the same level of satisfaction
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optimal point on an indifference curve and budget line diagram
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the marginal rate of substitution between the two goods equals the ratio of their prices.
the consumer spends entire budget on the two goods.
the optimal indifference curve is tangent to the budget line.
the consumer spends entire budget on the two goods.
the optimal indifference curve is tangent to the budget line.
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diminishing returns
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stage where output increases at a decreasing rate as more units of variable input are added
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short run
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period of time in which one or more factors of production are fixed
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returns to scale
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how changing inputs changes outputs: Different production technologies transform inputs into outputs with varying results
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increasing returns to scale
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doubling input more than doubles output; MP increasing
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constant returns to scale
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doubling input exactly doubles output; MP constant
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decreasing returns to scale
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doubling input less than doubles output; MP decreasing
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isoquant
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set of points that generate the same amount of output
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Marginal Rate of Technical Substitution
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tradeoff of one input for another to get the same level of output
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What is the difference between a production function and an isoquant?
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A production function describes the maximum output that can be achieved with any given combination of inputs. An isoquant identifies all of the different combinations of inputs that can be used to produce one particular level of output.
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price takers
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firm that has no influence over market price and thus takes the price as given
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Product Homogeneity
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the products of all of the firms in a market are perfectly substitutable with one another
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a perfectly competitive firm's short-run supply curve is
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the portion of its marginal cost curve that lies above its average variable cost curve.
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a perfectly competitive firm's long-run supply curve is
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the portion of its marginal cost curve that lies above its average total cost curve.
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competitive markets
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uniform product, many buyers/sellers with no pricing power, free entry/exit, perfect info
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negative network externality
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true demand curve is less elastic than it seems
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positive network externalities
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true demand curve is more elastic than it seems
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natural monopoly
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single producer with low marginal cost and high fixed cost
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monopolist markets
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result in a lower quantity and higher consumer price than competitive markets
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elasticity of monopolist
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located along the (relatively) elastic portion of the demand curve
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first degree price discrimination
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individual consumer specific prices
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second degree price discrimination
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volume discounts
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third degree price discrimination
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group discounts
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fourth degree price discrimination
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uniform consumer prices
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group pricing
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charge the higher price for the group with the more inelastic demand.
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dynamic pricing
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change prices over time to account for different levels of demand
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Intemporal Price Discrimination
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changing prices at different points in time; 3rd degree
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peak load pricing
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marginal cost of provision is different at different times; 3rd degree
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price skimming
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The seller starts off with a higher price, but lowers it over time as buyers adopt the product
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two part tariff
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relatively low per unit price coupled with fixed fee
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price discrimination
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intention is to capture consumer surplus to increase firm profit
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cartels
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a collection of (two of more) firms coordinate output decisions in an effort to raise profits
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