AP Microeconomics Ultimate Guide

Economics

Economics

in general is a study of how an entity, whether it be an individual or an organization, manages and allocates its resources in the most efficient way possible.

The economic problem

states however that our needs our unlimited and as mentioned earlier, the resources available are scarce.

Scarcity

unlimited wants, limited resources (example : land)

Microeconomics:

filters our scope to individuals in an economy while keeping the overall economy in mind.

Macroeconomics:

we consider the big picture- the nation’s economy as a whole.

Land:

natural resources and raw material. Ex: water, oil, minerals and such.

• Labor:

physical labor, skills, and effort devoted into a task where workers are paid.

Capital:

is usually referred to as the liquid asset, or monetary value

• Entrepreneurship

• : the ability of an individual to coordinate the other categories of resources to produce a good or service

Trade-offs:

The alternative choice which must be given up in order to make a decision. The goods and services which you do not choose are the trade-offs.

• Opportunity costs:

• This is the cost we forgo or sacrifice, to opt for another choice. The next best alternative if your first choice is unavailable.

Positive Economics:

this approach to economics is based on facts and figures.

What goods and services will be produced?

The economy has to decide what goods and services the society needs in order to properly allocate resources.

• How will goods and services be produced?

• This deals with how businesses will go about producing these goods and services.

For whom will the goods and services be produced?

This question decides who will be able to consume these goods and services, to where these resources where will be allocated.

Economic growth

a sustained rise in aggregate output and an increase in standard of living (causes are developments in technology, or an increase in resources)

Productive efficiency

lowest cost possible on the PPC

Allocative efficiency

the economy allocates resources so consumers are well off as possible, producing what is demanded

• Constant opportunity cost

Occurs when OC stays the same as the production of a good increases.

• Increasing opportunity cost

When one good is produced more, you give up more of another good.

Absolute Advantage

Occurs when a firm as the ability to produce a specific amount of goods or services in comparison to the others.

Comparative Advantage:

The ability of a firm to produce a good or service at the lowest possible cost

Terms of Trade

people split up the work, and provide each other with a good in return for another. It is also the rate at which one good can be exchanged for another

Implicit costs:

monetary or non-monetary opportunity costs in terms of making a choice.

Explicit costs:

traditional out of pocket costs which are associated with choosing one course of action.

Utility:

the measure of personal satisfaction (util is a unit of utility)

Marginal utility:

the change in total utility by consumer one additional unit of that good/service

• Principle of diminishing marginal utility :

additional units of a good/service add less total utility than the previous units do

Demand:

the quantity which a consumer/buyer are willing and able to buy at different prices

Law of Demand:

As price increases, demand decreases, and as price decreases, demand increases

• Complements

goods/services that are consumed together (ex. hamburgers and buns)

Income effect:

as income increases, people will buy more of normal goods, and less of inferior goods

Normal good

increase in demand when consumer’s income increases (ex. oreos)

Inferior good :

increase in demand when consumer’s income decreases (ex. off brand oreos)

Diminishing marginal utility:

As more units of a product are consumed, the satisfaction/utility it provides tends to decline

Supply:

different quantities of goods/services which sellers are willing and able to produce at a given price

Law of supply

as price increases, quantity supplied also increases, this is a direct relation.

Elasticity:

how much the Q is affected by P.

Elastic demand

means that the goods are subject to be affected by a change in price.

Inelastic demand

means that goods are not subject to be affected by a change in price.

PES:

measures how sensitive are sellers to price changes on good

• Characteristics of inelastic Supply

Difficult production, high costs, hard to change to alternative, high barriers to entry, <1

• Characteristics of Elastic Supply:

Easy production, low cost, easy to switch to, low barriers to entry, >1

Equilibrium :

occurs when no one is better off doing something else

• Consumer surplus :

price consumers are willing to pay - actual price

Producer surplus :

actual price -price the producer is willing to sell for

Double shift :

either price or quantity will be unknown. This rule states that when there is a simultaneous shift in both demand and supply, either price or quantity would stay indeterminate

Deadweight loss (DWL)

: transactions that should occur, but don’t because of government intervention (calculate the area = triangle formula, ½(base x height)

Price floor :

minimum price a supplier can charge, price is set above equilibrium (causes shortage)

Price ceiling :

maximum price a supplier can charge, price is set below equilibrium (causes surplus)

Quota :

upper limit of a quantity that can be bought or sold (known as quantity control)

• Demand price :

• the price at which consumers will demand that quantity

Supply price :

the price at which producers will supply that quantity

Quota rent :

difference between demand price and supply price

Tariffs :

tax placed on a good that is imported or exported

Import quota :

restriction on the quantity of a good that can be imported

Production function :

relation between the quantity of inputs a firm uses and the quantity of output it produces.

Capital :

goods that are used to produce goods/services

Fixed input

: an input whose quantity doesn’t change

Variable input

: an input whose quantity can change

Economies of scale

: LRATC declines as output increases

Diseconomies of scale :

LRATC increaess as output increases

• Constant returns to scale

output increase directly in proportion to an increase in all inputs (ex. input doubles, output also doubles)

Marginal Revenue:

additional revenue gained by producing one more unit

• The profit Maximising point

• for a firm is where it aims to increase revenue due to costs possibly being high as well.

• Shut down rule

• a firm should not produce unless it can cover its variable costs. If it is not able to do so, firms are better off producing nothing. However, this only tends to happen in perfect competition)

• Firms in this market are price takers,

• who are firms which cannot charge a higher price than the equilibrium price. This means that they have no market power.

Monopoly:

market structure where there is only one firm producing a product

Allocatively efficient

due to them producing at MR=MC

Productively inefficient

because they don’t produce at the minimum of the ATC

• Natural monopoly

• has large fixed costs, and long economies of scale, has downward sloping ATC curve

• Price discrimination

occurs in specific industries as consumers pay a different price for the same good.

Imperfect price discrimination :

charging consumers different prices based on the buyer’s willingness to pay

Perfect price discrimination

charges all consumers the maximum they are willing to pay, no deadweight loss, produce at P=MC

Monopolistic competition:

is another term for imperfect competition, and occurs when many companies offer competing products which are similar but not perfect substitutes.

• Oligopoly Characteristics

Small number of firms, standard or differentiated product

Payoff matrix :

represents the payoff to each player to show combinations of given strategies

Derived demand :

the demand from a resource is derived by product demand

• Marginal revenue product (MRP)

• : the additional revenue that is generated by an additional resource/worker

Market curve

standard supply and demand curve

Monopsonistic Markets

Many sellers, one buyer

Externality :

when external cost/benefit is placed on members of society who did not pay for them

Negative externality

: when someone uses a product, it decreases the benefit of others (ex. smoking), MSC > MPC (correct with per unit tax)

Positive externality

when one uses a product, others benefit  (ex. education) MSC < MPC (correct with subsidy)

Rivalrous good

if someone consumers a product, others cannot

Excludable good

non payers can be prevented from enjoying the benefits

Public goods

underproduced due to freeloader problem

Freeloader problem

people can enjoy the benefit of a good/service without paying

Lump sum subsidy :

gives benefit no matter how many units

Non price regulation

works like taxes, they ensure competition/environmental protection/health and safety

Antitrust policy

promote competition and prevents monopolies

Income distribution

: measures % of income that goes to individuals in different percentiles/brackets

• Lorenz curve

• measures the distribution of income equality  (you want to be as close of possible to the perfect equality line as possible)

• Proportional

everyone pays the same percentage of their income (no impact on income distribution)

• Progressive

taxes are higher % on people earning a higher income (reduces income inequality)

• Regressive