Microeconomics Final

Opportunity Cost

The value of the next-best alternative given up

Marginal Thinking

Decisions that are made by comparing marginal benefits and marginal costs

Incentives

People respond to changes in costs and benefits

Trade

Trade can make everyone better off when people specialize according to comparative advantage

Opportunity Cost Formula

Total Revenue - Economic Profit

What one Sacrfices / What one Gains

Law of Demand

As prices rise, quantity demanded falls. As price falls, quantity demanded rises.

(Demand Shifter) Income

Normal Goods: Demand Rises when income rises

Inferior Goods: Falls when income rises

(Demand Shifter) Price of Substitutes

If subsitute price rises, demand for good rises

(Demand Shifter) Price of Complements

If Complement Price rises, denabd for this good falls

(Demand Shifter) Tastes/Preferences

More popularity increases demands

(Demand Shifters) Expectations

Expected Future price increases can raise current demand.

(Demand Shifters) Number of Buyers

More Buyers increase demand

Law of Supply

As price rises, qunatity supplied rises. As price falls, quantity supplied falls.

(Supply Shifters) Input Prices

Higher input prices decrease supply

(Supply Shifters) Technology

Better technology increases supply

(Supply Shifters) Taxes/Subsidies

Taxes decrease supply; subsides increase supply

(Supply Shifters) Expectations

Expectations about future prices can affect current supply

(Supply Shifters) Number of Sellers

More sellers increase supply

Market Equilibriu Occurs When

Quantity Demanded = Quantity Supplied

(Effects of Market Shift) Demand Increases

Price Increass, Quantity Rises

(Effects of Market Shift) Demand Decreases

Price Falls, Quantity Falls

(Effects of Market Shift) Supply Increases

Price Falls, Qyantity Rises

(Effects of Market Shift) Supply Decreases

Price Rises, Quantity Falls

Price Ceiling

A Price Ceiling is a legal Maximum Price

Binding Price Ceiling

A price ceiling when it is below equilibrium price

Non-binding price ceiling

A price ceiling is non binding when it is above equilibrium price. No effect

Price Floor

Legal Minimum Price

Binding Price Floor

Price floor is binding when it is above equilibrium price

Taxes

A tax creates a wedge between the price buyers pay and the price sellers receive

Buyers have more tax burden when

demand is more inelastic

Sellers have more tax burden when

Supply is more inelastic

Buyer Burdern Formula

Price buyers pay after tax - original equilibrium price

Seller Burden Formula

Original Equilibrium Price - price sellers receive after tax

Total Tax

Buyer Burden + Seller Burden

Consumer Surplus

The difference between what buyers are willing to pay and what they actually pay

Consumer Surplus Graphically

Area under demand curve and above price

Producer Surplus

Producer surplus is the difference between the proce sellers receive and their minimum willingness to sell

Producer Surplus Graphically

area above supply curve and below price

Total Surplus

Consumer Surplus + Producer Surplus

Price elasticity of demand

Elasticity measures how responsive quantity demanded is to price

Midpoint Formula

Price Elasticity od demand = percentage change in quantity demanded / percentage change in price

Percent change in Q

(Q₂ − Q₁) / [(Q₂ + Q₁) / 2] × 100

% change in P

(P₂ − P₁) / [(P₂ + P₁) / 2] × 100

Elasticity

%ΔQ / %ΔP

Elastic > 1

Quantity responds strongly to price

Inelastic < 1

Quantity responds weakly to price

Unit elastic = 1

Percentage changes are equal

Total Revenue

Price * Quantity

Elastic demand effect on total revenue

When prices rise, quantity falls, TR falls

Inelastic deman effect on total revenue

when prices rise, quantity falls, TR Rises

Unit elastic effect on total revenue

When prices rise changes offset, TR unchanged

Demand is more elastic when:

• There are many substitutes.

• The good is a luxury.

• The market is narrowly defined.

• Consumers have more time to adjust.

Demand is more inelastic When

• There are few substitutes.

• The good is a necessity.

• The market is broadly defined.

• Consumers have little time to adjust.

Cross Price Elasticity

% Change in quanity demanded of good A / % change in price of Good B

Income Elasticity

% Change in quantity demanded / % change in income

Price elasticity of supply

% Change in quantity supplied / % Change in price