Economics Final Review: Price Controls, Externalities, and Perfect Competition

What is the impact of a price ceiling set below equilibrium?

It causes a shortage, as quantity demanded exceeds quantity supplied.

How is deadweight loss (DWL) from a price ceiling calculated?

It is the triangular area between the demand and supply curves between the equilibrium quantity and the quantity actually traded under the ceiling.

When is a price ceiling considered binding?

When it is set below the equilibrium price.

Does a binding price ceiling have any impact if set above equilibrium?

No, it has no impact.

What factors determine the fairness of a binding price ceiling?

Allocative fairness (helping buyers with lower incomes) versus inefficiency and shortages.

Who bears the tax burden in a market?

It depends on elasticity; the burden falls more on the side of the market that is less elastic.

Why do taxes create deadweight loss?

Because they reduce the quantity traded below the efficient level.

What are the two principles of fairness regarding taxes?

Benefits principle and ability-to-pay principle.

What are the two dimensions used to classify goods?

Excludability and rivalry.

What is a private good?

A good that is excludable and rival, such as clothing or food.

What is a public good?

A good that is non-excludable and non-rival, such as national defense.

What are mixed goods?

Goods that have both private and public characteristics, like education and health care.

What is the free-rider problem?

It occurs when people benefit from a good without paying for it.

What is the socially optimal production level in the presence of externalities?

It is where marginal social benefit (MSB) equals marginal social cost (MSC).

What happens when MSB is greater than MPB in the presence of a positive externality?

The market under-produces the good.

What are some government solutions for positive externalities?

Subsidies, public provision, and vouchers/financial aid.

What are negative externalities?

Costs that affect third parties, such as pollution or congestion.

What is the result of negative externalities in the market?

Private markets produce too much, where marginal social cost (MSC) exceeds marginal private cost (MPC).

What are some government solutions for negative externalities?

Pigovian taxes, cap-and-trade systems, and regulations/standards.

What distinguishes the short run from the long run in production?

In the short run, at least one input is fixed; in the long run, all inputs are variable.

What happens to marginal product (MP) in the short run?

MP rises initially due to specialization and eventually falls due to diminishing marginal returns.

How do firms adjust output in the short run?

By changing the variable input, typically labor.

What is the formula for economic profit?

Profit = Total Revenue (TR) - Total Cost (TC), where TR = Price (P) × Quantity (Q).

What is the profit maximization condition for firms?

Marginal Revenue (MR) equals Marginal Cost (MC).

When should a firm shut down in the short run?

If the price (P) is less than average variable cost (AVC).