MicroEconomics Exam 1

Markets

Interaction between buyers and sellers

• may be local, national, or international

Price is discovered in the interactions between buyers and sellers

Demand

A schedule or curve that shows the various amounts of a product that consumers are willing and able to purchase at each of a series of possible prices during specified periods of time

Law of Demand

When other things are equal, as price falls, the quantity demanded rises, and as price rises, the quantity of demand falls

The demand curve

Determinants of demand

• Change in consumer tastes and preferences

• Change in number of buyers

• Change in income

• Change in prices of related goods

• Change in consumer expectations

Law of Supply

When other things equal, as the price rises, the quantity supplied rises and as the price falls, the quantity supplied falls.

Supply Curve

Determinants of Supply

• Change in resource prices

• Change in technology

• Change in number of sellers

• Change in taxes and subsidies

• Change in prices of other goods

• Change in producer expectations

Rationing Function of Prices

The ability of the competitive forces of demand and supply to establish a price at which selling and buying decisions are consistent

Price Ceiling

Price cannot raise to where it needs to be

• Set below equilibrium price

• Rationing problem

• Black markets

• Rent control

Price Floor

• Prices set above the market price

• Chronic surpluses

• minimum wage

Price Elasticity of Demand

Measures the buyers’ responsiveness to price changes

• Elastic demand

• Inelastic demand

Elastic Demand

• Sensitive to price changes

• Large change in quantity demanded

Inelastic Demand

Insensitive to price changes

Small change in quantity demanded

Midpoint Formula

Ensures consistent results of Elasticity

• Inelastic: E_d < 1

• Elastic: E_d > 1

• Unit Elastic: E_d = 1

Absolute value

Total Revenue (TR)

Price x Quantity

Total Revenue test wit Elastic Demand

Elastic Demand: P and TR move in opposite directions

Total Revenue Test with Elastic Demand

Inelastic Demand: P and TR move in same Direction

Substitutability

More substitutes, demand is more elastic

Proportion of income

Higher proportion of income, demand is more elastic

Luxuries Vs. Necessities

Luxury goods, demand is more elastic

Time

More time available, demand is more elastic

Law if Diminishing Marginal Utility

As consumption of a good or service increases, the marginal utility obtained from each additional unit of a good or service decreases.

Utility

The satisfaction a buyer will experience when consuming a good or service

Total Utility

Total amount of satisfaction gained

• Sum of all marginal utilities

Marginal Utility

Extra satisfaction from an additional unit of a good or service

Consumer Equilibrium

Consumer allocates his or her income so that the last dollar spent on each product yields the same amount of marginal utility

• Utility maximizing rule

Rational Behavior

Consumers try to use their income to derive the greatest amount of satisfaction, or utility

Preferences

Each consumer has clear-cut preferences for certain goods and services that are available in the market

Budget Constraint

At any point in time the consumer has a fixed, limited amount of income

Prices

Goods are scarce relative to the demand for them, so every good carries a price tag

Income Effect

The impact a price change has on a consumers’ real income

Substitution Effect

The impact a price change has on a product’s relative expensiveness