question
equillibrium
answer
the price at which the quantity demanded is equal to the quantity supplied
question
Three things occurs at equilibrium
answer
1. intersection where demand and supply curves
2. price and quantity are the only ones that are stable in a free market.
3. at any other point, economic forces push prices and quantities back toward equilibrium
2. price and quantity are the only ones that are stable in a free market.
3. at any other point, economic forces push prices and quantities back toward equilibrium
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surplus
answer
A situation in which quantity supplied is greater than quantity demanded
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shortage
answer
a situation in which quantity demanded is greater than quantity supplied
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Three conditions a free market maximizes the gains from trade?
answer
1. available goods are bought by buyers with the highest willingness to pay
2. Goods are sold by the sellers with the lowest costs.
3. Between buyers and seller, there are no unexploited gains from trade or any wasteful trades.
2. Goods are sold by the sellers with the lowest costs.
3. Between buyers and seller, there are no unexploited gains from trade or any wasteful trades.
question
Vernon Smith (1956)
answer
1. tested the supply and demand model in a lab
2. model accurately and consistently predicted market behavior
3. 2002 awarded the Nobel prize for establishing laboratory experiments as an important tool in economics.
2. model accurately and consistently predicted market behavior
3. 2002 awarded the Nobel prize for establishing laboratory experiments as an important tool in economics.
question
The difference between demand and quantity demanded
answer
1. a change in the quantity demanded is a movement along a fixed demand curve
2. a change in demand is a shift of the entire demand curve (up and to the right).
2. a change in demand is a shift of the entire demand curve (up and to the right).
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Supply and Quantity supplied
answer
1. change in supply is a shift of the entire supply curve
2. change in quantity supplied is a movement along a fixed supply curve
2. change in quantity supplied is a movement along a fixed supply curve
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market competition
answer
brings about an equilibrium in which the quantity supplied is equal to the quantity demanded
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how many combination is a market equilibrium
answer
one price/quantity combination
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what enforce the market equilibrium
answer
incentives for both buyers and suppliers
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what causes the equilibrium prince and quantity to be maximized
answer
the sum of consumer and producer surplus (the gains from trade)
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what factors will change the equilibrium price and quantity
answer
shift in supply or demand, it shifts the whole curve
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when quantity demanded (supplied) change
answer
there is a move to a different point on the existing curve.
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Elasticity of Demand
answer
measures how responsive the quantity demanded is to a change in price; more responsive equals more elastic.
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Is elasticity the same as slope
answer
no but they are related
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What is elasticity rule
answer
if two linear demand (or supply) curves run through a common point, then the curve that is flatter is ore elastic.
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What are determinants of Elasticity of Demand
answer
1. ease in finding substitutes
*easier to substitute → greater elasticity
2. Time to adjust to price change
*more time → more substitutes → greater elasticity
3. the definition of the commodity
*narrow definition/specific brand → more substitutes → greater elasticity
*easier to substitute → greater elasticity
2. Time to adjust to price change
*more time → more substitutes → greater elasticity
3. the definition of the commodity
*narrow definition/specific brand → more substitutes → greater elasticity
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Determinants of Elasticity of Demand
answer
Necessities vs. Luxuries
*demand for luxuries → greater elasticity
Share of budget devoted to the good
*larger share → greater elasticity
*demand for luxuries → greater elasticity
Share of budget devoted to the good
*larger share → greater elasticity
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Table 5.1 Some factors determining the Elasticity of Demand
answer
less Elastic more elastic
fewer substitutes more substitutes
short run (less time) long run (more time)
categories of product Specific brands
necessities luxuries
small part of budget large part of budget
fewer substitutes more substitutes
short run (less time) long run (more time)
categories of product Specific brands
necessities luxuries
small part of budget large part of budget
question
Calculating Elasticity of Demand
answer
usual interpreted using absolute value
Ed >1 = elastic (greater)
Ed <1 = inelastic (less)
Ed =1 = unit elastic
Ed >1 = elastic (greater)
Ed <1 = inelastic (less)
Ed =1 = unit elastic
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Total Revenues and Elasticity
answer
A firms revenues are equal to price per unit times quantity sold
Revenue = Price x Quantity, or R = P x Q
Elasticity measures how much Q goes down when P goes up
Revenue = Price x Quantity, or R = P x Q
Elasticity measures how much Q goes down when P goes up
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What is the relationship between elasticity and revenue
answer
if the demand curve is inelastic, the revenues increase when price increase
if the demand curve is elastic then revenues decrease when price increase
if the demand curve is elastic then revenues decrease when price increase
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Applications of Demand Elasticity
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Productivity has increased in both farming and computer chips
Farming revenues have declined, while revenues for computer chips have increased
Demand for food is inelastic
*increase in supply → lower price →lower revenues
Demand for computer chips is elastic
*increase in supply → lower price → higher revenues
Farming revenues have declined, while revenues for computer chips have increased
Demand for food is inelastic
*increase in supply → lower price →lower revenues
Demand for computer chips is elastic
*increase in supply → lower price → higher revenues
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Elasticity of Supply
answer
measures how responsive the quantity supplied is to a change in price
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Determinants of Elasticity of Supply
answer
The fundamental determinant is how quickly per-unit costs increase with an increase in production
* if increased production requires much higher per unit cost, then supply will be inelastic
*if production can increase without increasing per unit costs very much, then supply will be elastic.
Supply is more elastic when the industry can be expanded without causing a big increase in the demand for that industry's inputs
The local supply of a good is much more elastic than the global supply
Supply tends to be more elastic in the long run than in the short run
* if increased production requires much higher per unit cost, then supply will be inelastic
*if production can increase without increasing per unit costs very much, then supply will be elastic.
Supply is more elastic when the industry can be expanded without causing a big increase in the demand for that industry's inputs
The local supply of a good is much more elastic than the global supply
Supply tends to be more elastic in the long run than in the short run
question
Gun buyback programs
answer
Several cities in the U.S. have spent millions of dollars buying back guns
The objective is to reduce the number of guns in order to lower crime rates
Principles of economics predict these programs are unlikely to reduce the number of guns on the streets
When police buy guns, the demand for guns increases
since the supply of guns to a local region is very elastic, the street price of guns don't increase
As a result, there is no decrease in the number of guns on the street.
The objective is to reduce the number of guns in order to lower crime rates
Principles of economics predict these programs are unlikely to reduce the number of guns on the streets
When police buy guns, the demand for guns increases
since the supply of guns to a local region is very elastic, the street price of guns don't increase
As a result, there is no decrease in the number of guns on the street.
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Application of supply elasticity
Slave redemption
Slave redemption
answer
the objective is to reduce the total number of slaves
some argue that buying slaves will make matters worse
The solution depends on the elasticity of supply
some argue that buying slaves will make matters worse
The solution depends on the elasticity of supply
question
Two useful price-change formulas
answer
%∆Price from a shift in demand =
%∆Demand
Ed + Es
%∆Price from a shift in supply =
%∆Supply
Ed + Es
%∆Demand
Ed + Es
%∆Price from a shift in supply =
%∆Supply
Ed + Es
question
Take away
answer
Elasticity of demand measures how responsive the quantity demanded is to a change in price.
Elasticity of demand also tells you how revenues respond to changes in price
If the Ed< 1, price and revenue move together
If Ed>1, price and revenue move in opposite directions
Elasticity can be used to explain many real world problems
Elasticity of demand also tells you how revenues respond to changes in price
If the Ed< 1, price and revenue move together
If Ed>1, price and revenue move in opposite directions
Elasticity can be used to explain many real world problems
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