Micro-Economics (- TOF)

A basic assumption of all economic models that states that all other factors remain the same. Eg, when examining demand, we assume all factors of supply don't change.

The next best alternative that is sacrificed when an economic decision is made
eg. If you buy grapes, can no longer buy strawberries

The quantity of a good that consumers are willing and able to buy at a given price over a given period of time. As the price increases for a normal good, the demand decreases

Changes in income (disposable)

Prices of related goods

Change in price of complimentary goods

Changes in preferences/taste/fashion

demographic changes (structure of populations) eg. majority young or old

The quantity of goods that a firm is willing and able to sell at any given price over a given period of time.

An increase in price will lead to an increase in supply (production)

Changes in costs of a firms factors of production. increase will result in a decrease in supply and curve will shift left
eg. Incr. in cost of raw materials

Technology - advances lead to increased productivity, S curve shifts right

Prices of related goods. If price of beef goes up, firms will provide that as opposed to corn.

Government intervention - indirect taxes or subsidies

Expectations

Number of firms in the industry or market

These can both be plotted using linear equations.
Qs = eP+c
Qd = eP+c

e = elasticity (responsiveness of demand to a change in price)
P = Price
c = a change will cause shift in either curve

Changes in 'e' or 'c' represents the non-price determinants of demand and supply and can cause shifts

This is where D=S, also known as market clearing price.
Find it by equating the equations of demand and supply
Qd = 5p + 3
Qs = 10p + 2

10p + 2 = 5p + 3
5p = 1
p(equilibrium) = 1/5

Plug into equation to find Q(equilibrium)

If the price was above equilibrium --> Excess Supply
If price was below equilibrium --> Excess demand

Consumer - The difference between the price a consumer actually pays for a good and the higher price that they would have been willing to pay

Producer - The difference between the price a producer willing to sell his product for and the higher price that he is actually willing to sell it for.

Measures the responsiveness of the quantity demanded for a good, following a change in price for that good.
ie. the extent to which an increase in the price of nike trainers will result in a decrease in demand.

PED = (% change in quantity demanded)/ (% change in price)

Note, to find percentage change:
(New - Old)/Old x 100 = percentage change

PED = < 1 Demand is price inelastic
PED = 1 Unitary elasticity
PED > 1 Demand is price elastic
PED = 0 Demand is perfectly inelastic

Number and closeness of substitutes (apples have many close substitutes, therefore very elastic)

Degree of necessity - Oil very necessary, therefore price inelastic)

Time period following the change in price - the longer the time following a change in price, the more elastic

Proportion of income spent on good - box of matches very small proportion, so inelastic vs. a car

Addiction

Brand loyalty

Necessity goods are relatively price inelastic, whereas luxury goods tend to be relatively price elastic

Top part is price elastic
Bottom part is price inelastic
Mid-point is where revenue is maximised

1. An understanding of PED can help firms in their pricing decisions
- If PED < 1, firms will increase price to increase revenue
- If PED > 1, firms will decrease price to increase revenue

Show graph (Revenue gained vs revenue lost with a movement along the demand curve)

Primary commodities tend to be price inelastic. Therefore, LEDC's will not experience a great increase in revenue following an increase in prices

Manufactured goods tend to be price elastic.

Measures the responsiveness of the quantity demanded for one good following a change in price of another.
ie. Price of petrol rises, so increase in demand for bikes

(% change in Qd good A)/(% change in P of good B) / 100

A good which can substitute another, eg pink lady apples and golden farm apples

The sign for XED will be positive

because 5% increase in price of pink lady apples, leads to a 5% increase in demand for golden farm apples (+5)/(+5)

A good for which you need another good to function. eg. playstation and fifa are complimentary goods.

Sign will always be negative

Because as price for one goes up, demand for the other goes down

Measures the responsiveness of the quantity demanded for a good, following a change in income.

(% change in Qd) / (% change in income)

example: 2008 -2009 UK was in 6% recession, during that time, demand for vegetable seeds grew 150%
Therefore, YED = -25% --> inferior good

Goods that experience an increase in demand when income increases. eg. houses

Goods that experience a decrease in demand when income increases. eg. Tesco value fruit.

Luxury - acts as a normal good, but is income elastic (YED>1)

Necessity - Demand is income inelastic (YED<1) like water

Measures the responsiveness of the quantity supplied following a change price

PES = (% change in Qs) / (% change in P)

Mobility of the FoP - ease with which firms can transfer resources from one product to another (sainsbury candy)

Unused space/capacity - If Rolls Royce are operating at 100% capacity, supply will be price inelastic

Time period - the longer the time period, the more price elastic supply will be. eg - oil industry

Ability to store stocks

A tax imposed by the government on spending on goods and services

A unit tax, eg 2$ tax per bottle of whiskey
Supply curve shifts left parallel, but by the vertical amount of the tax

A tax as a percentage of the selling price (VAT)
Supply curve shifts left by vertical amount of tax, but supply curve will diverge away from initial supply curve

Consumer:
- pay higher price
- quantity bought decreases
- welfare loss
- loss of consumer surplus
Produce:
- quantity sold decreases
- total revenue decreases (use diagram P, Q and T)
- Decrease in producer surplus
Government:
- gains in tax revenue

Depends on PED and PES.

If demand is price elastic (PED>1), the burden will lie mainly on the producer because they have to take on the tax to maximise revenue. PED>PES

If Demand is price inelastic (PED<1), burden will lie mainly on the consumer because things like addiction can mean the price rises, but product still bought. PED<PES

1. Government revenue
2. Decrease consumption or production
3. Protect domestic industry (tax on imports - tariffs)

Grant given by the government to producers to lower their costs of production.
Imposed in order to:
- Maintain the production of essential goods (milk)
- Protect domestic industries from imported goods
- Encourage increased affordability and consumption of merit goods

Consumer:
-Lower prices --> increased demand & consumptiom
- Increase in consumer surplus
- Opp. Cost of gov. paying subsidy may decrease expenditure on healthcare and education
- Income tax may increase

Producer:
- Increase in producer revenue (blue box)
- Increase supply --> increased employment
- Increase in producer surplus
- However, firm dependency on subsidies
- No incentive increase productivity efficiency
- Inefficient firm enter industries
- Withdrawal of subsidy-->firms cant compete

Government:
- increased consumption of merit goods --> Incr. productivity of workforce --> econ. growth
- Decreased unemployment -> more tax revenue -> less unemployment benefits paid
- Cost to government for financing the subsidy -> opp. Cost of education and healthcare

Government imposition of a legal maximum price that a producer can charge to increase affordability.
Must be set above the equilibrium diagram
eg. Rented apartment in NY

Shortage of goods
Inefficient resource allocation
Underground parallel markets develop
Non-price rationing mechanism (queuing, ballot)

Consumer:
- increased affordability -> incr. quality of life
- Incr. Yd for other goods and services
- Supply of good decreases (shortage)
- Quality of good may fall
Producer:
- Decr. in total rev. -> decr. in income
- low quality apartments rented out
- Producers may benefit if receive gov. benefit
Government
- less revenue from landlords
- cost of providing subsidy
- failure to reduce homelessness -> may incr.

Government imposition of a legal minimum price that a producer can charge
Must be set below the equilibrium point
eg. Minium wage

- Surplus will exists
- inefficient allocation of resources
- may incr. unemployment

The failure of the free market forces of supply and demand to allocate resources efficiently
When MSC (marginal social cost) does not equal MSB (marginal social)

Adverse side effects on third parties not involved in the production or consumption of that good.
Occur when cost to society as a whole (MSC) are great than the costs of the producer (MPC)
Normally centred around pollution, CO2, etc.

-Initial situation at market clearing price P and Q
- However, costs to society are greater than costs to firm due to neg. ext. of production
- MSC curve includes these negative externalities
- Socially optimum quantity of production occurs where MSC = MSB at P1 and Qso

Indirect taxes (show diagram) eg. alcohol
- MPC curve shifts left by the vertical amount of tax
- Gov. Collects tax revenue and can then pay to remove neg. ext.
- however, hard to gauge size of neg. ext.
- producer may just absorb the tax, so not decrease consumption

Pollution permits
- EU sets a limit on total amount of CO2 produced
- firms have to pay for permits, so incentivised to cut emission.

Direct gov. intervention
- quotas, bans, would eradicate the neg. ext.
- however hard to calculate
- black market may develop
- reduction in GDP and incr. employment

Goods that are deemed to be socially undesirable
Goods that have negative externalities involved in their consumption
Goods that are over consumer and over produced by the free market forces

eg cigs and vod

Initial situation, quantity Q is consumed where mpb = mpc, however, doesnt account for neg. ext. of cons.
however, market failure occurs because FMF fail to take into account the fact that benefits to society are less than to individual due to externality
Q-->Qso represents the overconsumption of cigs in free market

Imposing indirect tax (excise tax)
- Incr. cost of production for producers
- mpc = msc curve will shift left
- however, demand may be price inelastic and therefore an indirect tax to incr. price may only result in a relatively lower % of decr. in consumption

Ban consumption
- Illegalisation, but Black market may arise, destroy industries, reduce tax revenue

Minimum price

Negative advertising

When one part in an economic transaction has more information than the other party (consumer + producer)

eg horse meat scandal, too many resources allocated

legislation
transparency laws, etc

Resources that have no price attached to their usage

There is no private ownership of the resource in which
there is incentive for the users of this resource to exploit it to the fullest potential to maximise profits

No regulation of consumption, or preventive measures for over usage

eg fishing

Provides neg. ext of production