Microeconomics (C718)

The study of how humans make decisions in the face of scarcity.

The human wants for goods, services and resources exceed what is available.

The study of how households and firms make choices, how they interact in markets, and how the government attempts to influence their choices.

An exchange- giving up one thing to get something else.

• Land
• Labor
• Capital
• Entrepreneurship

What must be given up to obtain something that is desired.

• What to produce?
• How to produce?
• For whom to produce?

When additional units of a variable input are added to fixed inputs after a certain point, the marginal product of the variable input declines.

The ability of a country to produce a good at a LOWER COST than another country can.

The ability to produce a good USING FEWER INPUTS than another producer.

Microeconomics is the study of economics at an individual, group or company level.

Macroeconomics, on the other hand, is the study of a national economy as a whole.

A statement of fact or a hypothesis.

A factual claim about how the world actually works

Ex:
- It is raining outside.
- Microsoft is the largest producer of operating systems for personal computers in the world.

A statement that makes a value judgment.

Ex:
- We ought to do more to help the poor.
- People in the USA should save more.
- Corporate profits are too high.

Opportunity cost of what get = Productivity give up / Productivity get

When calculating opportunity cost, always put the other good in the numerator.

Ex:
- Opportunity cost of Onions? (Number of potatoes/number of onions).
- Opportunity cost of Potatoes? (Number of Onions/Number of Potatoes).

An economic system in which the government controls a country's economy.

Economic decisions are made by individuals or the open market.

An economy based on farming, or earning most of its money from farming

An economy in which production is based on customs and traditions and economic roles are typically passed down from one generation to the next.

The incorrect assumption that one event causes another because the two events tend to occur together.

When the mix of goods being produced represents the allocation that society most desires.

The production of any particular good in the least costly way.

- discovery of more resources
- investment in new capital goods
- technical progress increase productivity
- increase in size and skill of workforce
- relocating scarce resources

• It makes people more physically productive
• It makes people wealthier even without increasing their physical productivity

Consumers buy more of a good when its price decreases and less when its price increases.

Price and quantity demanded move in opposite directions.

The quantity buyers are willing and able to buy at a particular price during a particular period.

• Price of good or service

• Preferences
• Prices of related goods and services
• Income
• Demographic Characteristics
• Buyer expectations

Producers offer more of a good as its price increases and less as its price falls.

Price and quantity supplied move in the same direction.

Changes in the price of a product affect the quantity demanded per period. Changes in any other factor, such as income or preferences, affect demand.

The amount a seller is wiling and able to sell at a given price.

1. Input Prices (resource prices cream for ice cream)

2. Prices of other goods (substitution in production - pants vs. shirts)

3. Producers Expectations (>future price = >future supply = <current supply)

4. Technology (improves productivity and >supply)

5. Number of sellers

Shifts in the supply curve due to changes in the determinants of supply (influences on selling plans).

A situation in which quantity demanded equals quantity supplied.

The initial effect of an increase in demand is a shortage.

The initial effect of a decrease in demand is a surplus.

During Valentine's Day, the demand for candy increases and the cost of producing candy also increases because of special packaging for the holiday.

What is the net effect on the equilibrium price and quantity of candy due to these changes?

A price higher than the equilibrium price increases the quantity supplied and reduces the quantity demanded, causing a surplus --> (>price = >surplus).

A price lower than the equilibrium price increases the quantity demanded and reduces the quantity supplied, causing a shortage --> (<price = >demand).

a measure of how much the quantity demanded of a good responds to a change in the price of that good, computed as the percentage change in quantity demanded divided by the percentage change in price

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

• Availability of substitutes
• Importance of the item in household budgets
• Time

A situation in which the price elasticity of demand is zero.

A situation in which the price elasticity of demand is infinite.

A measure of how much the quantity demanded of a good responds to a change in consumers' income, computed as the percentage change in quantity demanded divided by the percentage change in income

A measure of how consumers react to a change in price.

A measure of how much the demand for a product changes when there is a change in the price of another product.

a measure of how much the quantity supplied of a good responds to a change in the price of that good, computed as the percentage change in quantity supplied divided by the percentage change in price

Analysis that involves comparing marginal benefits and marginal costs.

The change in the total benefit that occurs when a person consumes another unit of the good.

The cost of producing one more unit of a good.

When a market is capable of producing output high enough to meet consumer demand.

The reduction in total surplus that occurs as a result of market inefficiency.

The difference between the maximum amount a person is willing to pay for a good and its current market price.

Below the demand curve and above the price.

The difference between the current market price and the cost of production for the firm.

Below the price and above the supply curve.

The sum of consumer surplus and producer surplus.

A legal maximum on the price at which a good can be sold.

They prevent a price from rising above a certain level. When a price ceiling is set below the equilibrium price, quantity demanded will exceed quantity supplied, and excess demand or shortages will result.

Ex:
- Price ceiling on apartment rents.
- Gas

A legal minimum on the price at which a good can be sold.

They prevent a price from falling below a certain level. When a price floor is set above the equilibrium price, quantity supplied will exceed quantity demanded, and excess supply or surpluses will result.

Ex:
- Minimum wage

Government-imposed limits on the prices that producers may charge in the market.

Neither price ceilings nor price floors cause demand or supply to change. They simply set a price that limits what can be legally charged in the market. Remember, changes in price do not cause demand or supply to change. Price ceilings and price floors can cause a different choice of quantity demanded along a demand curve, but they do not move the demand curve. Price controls can cause a different choice of quantity supplied along a supply curve, but they do not shift the supply curve.

The imposition of a price floor or a price ceiling will prevent a market from adjusting to its equilibrium price and quantity, and thus will create an inefficient outcome. But there is an additional twist here. Along with creating inefficiency, price floors and ceilings will also either transfer some consumer surplus to producers or some producer surplus to consumers.

The effect of a market exchange on a third party who is outside or "external" to the exchange.

Ex:
- Building a concert venue near neighborhood for country music.
- They can be negative or positive. If you hate country music, then having it waft into your house every night would be a negative ________. If you love country music, then what amounts to a series of free concerts would be a positive ________.

when people have insurance against a certain event, they are less likely to guard against that event occurring.

A problem that arises when people don't have to bear the negative consequences of their actions.

When groups with inherently higher risks than the average person seek out insurance, thus straining the insurance system.

The buyers of insurance have more information about whether they are high-risk or low-risk than the insurance company does.

This creates an asymmetric information problem for the insurance company because buyers who are high-risk tend to want to buy more insurance, without letting the insurance company know about their higher risk.

The amount by which total utility rises with consumption of an additional unit of a good, service, or activity, all other things unchanged; alternately, the additional utility a consumer receives from consuming one more unit of a good, service, or activity, all other things unchanged.

Ex:
- The first movie Henry Higgins sees increases his total utility by 36 units. Therefore, the marginal utility of the first movie is 36. The second increases his total utility by 28 units; its marginal utility is 28. The seventh movie does not increase his total utility; its marginal utility is zero.

The number of units of utility that a consumer gains from consuming a given quantity of a good, service, or activity during a particular time period.

The higher a consumer's ______ ______, the greater that consumer's level of satisfaction.

Ex:
- The total utility curve shows that when Henry attends no movies during a month, his total utility from attending movies is zero. As he increases the number of movies he sees, his total utility rises. When he consumes one movie, he obtains 36 units of utility. When he consumes four movies, his total utility is 101. He achieves the maximum level of utility possible, 115, by seeing six movies per month. Seeing the seventh movie adds nothing to his total utility.

The tendency of marginal utility to decline beyond some level of consumption during a period.

This law implies that all goods and services eventually will have downward-sloping marginal utility curves. It is the law that lies behind the negatively sloped marginal benefit curve for consumer choices.

A restriction that the total spending cannot exceed the budget available.

Ex:
- Suppose that in addition to movies, Henry enjoys concerts, and the average price of a concert ticket is $10. He must select the number of movies he sees and concerts he attends so that his monthly spending on the two goods does not exceed his budget.

The ______ ______ rule states that an activity should be expanded if its marginal benefit exceeds its marginal cost. The marginal benefit of this activity is the utility gained by spending an additional $1 on the good. The marginal cost is the utility lost by spending $1 less on another good.

Ex:
- Because consumers can be expected to spend the budget they have, utility maximization is a matter of arranging that spending to achieve the highest total utility possible. If a consumer decides to spend more on one good, he or she must spend less on another in order to satisfy the budget constraint.

Total revenue minus total cost, including both explicit and implicit costs.

(Total Revenue - Explicit Cost - Implicit Cost)

A cash concept. It means total revenue minus explicit costs—the difference between dollars brought in and dollars paid out.


(Total Revenue - Explicit Cost)

All the costs the firm is legally obligated to pay.

Wages that a firm pays its employees or rent that a firm pays for its office are explicit costs.

They represent the opportunity cost of using resources already owned by the firm. Often for small businesses, they are resources contributed by the owners; for example, working in the business while not getting a formal salary, or using the ground floor of a home as a retail store.

______ ______ also allow for the depreciation of goods, materials, and equipment that are necessary for a company to operate.

All the goods and services produced by a business during a given period of time with a given amount of input.

The amount by which output rises with an additional unit of a variable factor.

The average amount produced by each unit of a variable factor of production.

A level of production in which the marginal product of labor increases as the number of workers increases.

A level of production in which the marginal product of labor decreases as the number of workers increases.

The cost of producing one more unit of a good.

Total costs / output

Total variable costs divided by quantity of output.

Price is determined by the interaction of demand and supply; buyers and sellers are price takers.

A market with a large number of firms producing identical (homogeneous) goods or services, a large number of buyers and sellers, easy entry and exit in the industry, and complete information about prices in the market.

The increase in total revenue from a 1-unit increase in quantity.

Total revenue divided by the quantity of the product sold.

• Barriers to entry

Characteristic of a particular market that blocks the entry of new firms in a monopoly market.

• Economies of scale
• Special advantages of location
• High sunk costs
• Dominant position in the ownership of inputs
• Government restrictions

A cost that has already been committed and cannot be recovered.

The business practice of selling the same good at different prices to different customers.

Market with only one buyer

The amount by which the efficient scale exceeds the quantity that the firm produces.

A market structure in which a few large firms dominate a market.

• High barriers to entry.

• High concentration ratio - small number of large firms dominate the market.

• Firms are interdependent (face a kinked demand curve).

• Product differentiation.

• Non-price competition.

The square of the percentage of the firm's market share, sometimes limited to the largest 50 firms in the market.

The output of the four largest firms / total output in the industry

Secret agreement or cooperation

When firms openly agree on price, output, and other decisions aimed at achieving monopoly profits.

Cartels - restrict output to increase price.

A group of firms that coordinate their activities through overt collusion and by forming collusive coordinating mechanisms.

An unwritten, unspoken understanding through which firms agree to limit their competition.

Ex:
Firms may begin following the price leadership of a particular firm, raising or lowering their prices when the leader makes such a change. The price leader may be the largest firm in the industry, or it may be a firm that has been particularly good at assessing changes in demand or cost.

When each player (firm) takes the best possible action given the action(s) of the other player(s).

A game in which there is a dominant strategy for each player.

The same strategy regardless of the strategies of other players.

Evaluates alternate strategies when the outcome depends not only on each individual's strategy but also that of others.

(%▲Qd)/(%▲P)

Take the absolute value (the answer is always positive).

(%▲Q)/(%▲I)

Normal Goods:
• Income increase, Qd increases.
• Income elasticity has a positive sign.

Inferior Goods:
• Income increases, Qd decreases.
• Income elasticity has a negative sign.

(%▲Qx)/(%▲Oy)

Substitute Goods:
• Pcoke increases, Qd pepsi increases.
• Same direction
• Cross elasticity has a positive sign

Complementary Goods:
• Phot dogs ^ Qd buns decreases.
• Opposite direction.
• Cross elasticity has a negative sign.

(%▲ Qs)/ (%▲P)

Short Run:
• Inelastic

Long Run:
• Elastic

willingness to pay / price

...

The maximum price that people are willing to pay for another unit of a good.

The increasing marginal cost.

Exclusive and transferable.

The sum of consumer surplus and producer surplus is maximized.

The sum of consumer surplus and producer surplus.

Buyers' responsiveness to changes in the price of a product.

Measure how responsive consumers are to a change in price.

People substantially decrease the quantity demanded if the price rises by a small amount.

B. Is larger than 10 percent.

D. Availability of substitutes.
E. Proportion of income spent on good.

D. Decreases; 20

Zero cherries are sold at this stand.

No change in quantity demand.

The demand for movie tickets is elastic because of many substitutes.

It decreases.

Substitutes and the cross price elasticity equals 1/2.

Negative because they are complements.

A normal good.

-1/2; an inferior.

The extent to which the quantity supplied of a good changes when the price of a good changes, other things remaining the same.

The buyers and/or sellers don't have all the information for the exchange.

Ex: Buying a new car that's a lemon.

When one of the parties has more information about the quality or price of the good than the other.

Ex: Selling your car that you know is a lemon.

• Service contracts
• Money-back guarantees
• Warranties
• 90-day trial contract

• CarFax
• Collateral/cosigners
• Professional licenses

• Cost sharing:
- Coinsurance
- Co-payments
- Deductibles (high = more cost sharing)

An external cost.

Unregulated competitive market produces more output than is efficient.

Marginal external cost of producing a ton of cement is $500.

400 tons

300 tons

1, 2, and 3.

an external benefit.

Produce some research, but less than the efficient amount.

Either the buyer has information that the seller does not have or the seller has information that the buyer does not have.

imperfect information.

insured people adopt an unhealthy lifestyle.

Buyers cannot determine the quality of a used car.

The term used to define Happiness.

(MUx/Px) = (MUy/Py)

All combinations of goods/services that a person is ______ to.

Equally satisfied with any choice on the curve.

An imaginary exercise in which we assume that when the price of a good or service changes, the consumer's income is adjusted so that he or she has just enough to purchase the original combination of goods and services at the new set of prices.

To determine how much money is in your account.

To determine whether or not you are satisfied with the return in this industry.

The marginal product of labor will eventually decline when additional units of labor are added to a fixed amount of capital.

As long as the marginal product of labor is positive, the total product will increase.

The increase in output that arises from an additional unit of input.

(▲Q\▲L) = (MP)

• Total cost
• Marginal cost
• Average

TC = Total Fixed Cost + Total Variable Cost

The cost of a firm's factors of production (land, capital, and entrepreneurship).

Does not change as output changes.

The cost of the variable factor of production used by a firm - The cost of labor.

The point at which the costs of producing a product equal the revenue made from selling the product.

The minimum point on a firm's average variable cost curve; if the price falls below this point, the firm shuts down production in the short run.

P<AVC

Short-run = At least one input is fixed.
° Only having one oven

Long-run = All inputs are variable.
° Having more than one oven

Cost per unit of output incurred when all factors of production or inputs can be varied.

The firm's total cost per unit of output when it has one or more fixed inputs.

Average costs decrease as output increases.

Average costs increase as output increases.

The larger you are, the more managers have to hold pointless meetings to show you what you are working on while your work is sitting at your desk.

Average costs are constant as output increases.

The total output from employing one more worker.

The change in total output from using one more unit of capital.

Total cost - Total variable cost

variable cost / quantity of output

fixed cost divided by the quantity of output produced

Can the individual firms in the market for a product have any control over the price they charge?

A buyer or seller that is unable to affect the market price.

No price setting power.

Ex:
Potatoes - Lots of buyers, sellers, easy entry/exit, identical product, and plenty of price information.

1. The Total Method
2. The Marginal Method

Choose the Q where the difference between Total Revenue and Total Cost is the greatest.

Choose the Q where Marginal Revenue is equal to Marginal Cost.

Price x Quantity

TC = TFC + TVC

The change in total revenue that results from a one-unit increases in the quantity sold.

° Price Taker
° Maximize profits by choosing output level
° Produce where MR = MC
° Short-run: May have profit or loss
° Long-run: Zero economic profit

Total revenue minus total cost, including both explicit and implicit costs

Covering all my costs.
Not a bad place to be.
Usually making an accounting profit.

° Market demand is the same as the firm demand.
° Firm has price setting power.

WHY?:
° Single firms
° Unique product.
° Barriers to entry

A market in which there are many buyers but only one seller.

° No close substitutes
° Barriers to entry

° Price Maker
° Maximize profit by choosing output and price level
° Produce where MR = MC
° May have profit or loss
° Profits can be sustained in the long run b/c of barriers to entry

An ______ barrier to entry occurs if one firm owns a significant portion of a key resource

A market that runs most efficiently when one large firm supplies all of the output.

The exclusive right to sell a particular good for some period of time.

° Large number of firms.
° Differentiated products (substitutes, but not perfect substitutes).
° Compete on price, quality and marketing.
° Free entry and exit.

° Few firms.
- Each firm has a large market share.
- Interdependent.
- Incentive to collude.

° Barriers to entry.

Ex:
Breakfast cereal (Kellogg, General Mills, Post & Quaker = 78% of market).

° There are substitutes available, but not perfect subs.
° Consumers will not immediately switch products if price increases.
° Firm has price setting power.
° Demand is downward sloping.

1. Profit is maximized when MR = MC
2. The profit-maximizing output is 125 pairs of Tommy jeans per day.
3. The profit-maximizing price is $75 per pair
4. ATC is $25 per pair
5. The firm makes an economic profit of $6250 a day

a particular "game" between two captured prisoners that illustrates why cooperation is difficult to maintain even when it is mutually beneficial.

Each player chooses the best possible strategy, given the other players action.

________ is not the vest outcome for either player.

Collusion is difficult to achieve b/c there is always incentive to cheat.

The % of total industry revenue accounted for by the four largest firms.

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