[MICROECON] PRELIMS

Economics

Economics

• Comes from the Greek word oikonomos, which means “one who manages a household.”

• The study how individuals and societies

  choose to allocate scarce resources to produce and distribute goods and services.

Scarcity

• the limited nature of society’s resources (kakapusan).

• It leads to inflation, poverty, inequality, unemployment, and economic crisis.

Shortage

quantity demanded > quantity supplied (kakulangan).

Effeciency

• Refers to the ability to maximize the use of available resources to produce the maximum amount of output possible.

• An economy is like this when it produces the greatest amount of goods and services using the least amount of inputs, such as labor, capital, and natural resources.

• An economy like this is able to create more wealth and improve living standards for its citizens.

Equality

• Refers to the fair distribution of resources, opportunities, and benefits among members of society.

• It implies that all individuals are entitled to the same basic rights and opportunities, regardless of their background and circumstances.

• Inequality arises when some individuals or groups have access to more resources, opportunities, and benefits than others, leading to disparities in income, education, healthcare, and other areas.

Opportunity Cost

• Refers to the potential benefits or opportunities that are given up when choosing one option over another.

• When you choose to do something, you also choose not to do something else, and the benefits of that other option represent the opportunity cost of your decision.

• Needs > Wants

Rational Person

• Someone who makes decisions based on systematic and logical evaluation of the costs and benefits of different options with the aim of maximizing their own self-interest.

• Assumed to have well-defined preferences, and they choose the option that they perceive to be the most beneficial, given their constraints and available information.

• Not motivated by emotions, biases, or social norms, but rather by a desire to optimize their own well-being.

Incentive

• A reward or benefit that is offered to encourage a particular behavior.

• Designed to motivate people to act in a certain way by offering them something they value.

Disincentive

• A penalty or punishment that is imposed to discourage a particular behavior.

• Designed to discourage people from acting in a certain way by making the consequences of their action less desirable.

Specialization

• Refers to the concept of countries or individuals focusing their production on a narrow range of goods or services in which they have a comparative advantage.

Comparative Advantage

• Refers to the ability of the country or an individual to produce a good or service at a lower opportunity cost than other countries or individuals.

• When countries specialize in producing goods or services in which they have a comparative advantage, they can trade with other countries for the goods and services they do not produce efficiently.

• This leads to increased efficiency and productivity, as each country can focus on producing the goods and services they are most efficient at, and trade for others.

Market Economy

• It is an economic system in which the production and distribution of goods and services is primarily driven by supply and demand in the marketplace.

• Individuals and businesses own and control the factors of production, such as land, labor, capital, and are free to produce and sell goods and services in a competitive environment.

Property Rights

• Refer to the legal and social rights that individuals or firms have to use, control, and dispose of resources and assets, such as land, buildings, intellectual property, and other forms of capital.

• They are crucial aspect of a market economy, as they provide incentives for individuals and firms to invest in and use resources in productive ways.

• They enable individuals and firms to make investments and take risks, knowing that they will be able to enjoy the benefits of their investments and retain control over their assets.

Market Failure

• Refers to a situation in which the market mechanism fails to allocate resources efficiently, resulting in an efficient or suboptimal outcome for society as a whole.

• Occurs when the market fails to produce the socially optimal level of goods or services, or when the distribution of these goods or services is not equitable.

Externalities

• They occur when the production or consumption of a good or service imposes costs or benefits on others who are not involved in the transaction.

  • For example, pollution from a factory can impose costs on nearby residents, while a vaccination program can produce benefits for the entire community.

Market Power

• Refers to the ability of a firm or group of firms to influence the price or quantity of goods and services in a market.

• Arises when a firm has the ability to influence market prices and output by manipulating the supply or demand for its products.

Productivity

• Refers to the amount of output that is produced per unit of input, such as labor, capital, or time.

• It is a key driver of economic growth and is often used as a measure of the efficiency of an economy or a firm.

Inflation

• Refers to a sustained increase in the general level of prices of goods and services in an economy over time.

• The purchasing power of money decreases over time.

• It is typically measured using an inflation rate, which is the percentage increase in the price level from one period to another.

Philips Curve

• A graphical representation of the inverse relationship between unemployment and inflation.

• It shows that as unemployment falls, inflation tends to rise, and vice versa.

• When the unemployment rate is low, employers may need to offer higher wages to attract workers, which can lead to higher production costs and higher prices for goods and services.

• Conversely, when the unemployment rate is high, employers may be able to keep wages low, which can help to keep production costs and prices down.

Market

• Where buyers and sellers trade specific goods or services.

• Buyers create the demand, and sellers provide the supply

• Can be very organized, like those for wheat and corn where buyers and sellers meet at a set time and place, and an auctioneer helps find the right price.

• However, most are less structured.

• There’s no auctioneer set prices; buyers decide how much to buy from each seller, just display their prices, and shop.

Competition

• Like many others in the economy, there’s a lot of competition.

• Since there are many sellers, and each one’s product is similar to others, neither a single buyer nor a single seller can control the price or quantity of ice cream sold.

• Instead, these are determined by the collective actions of all buyers and sellers in the market.

Competitive Market

• It is where so many buyers and sellers exist that each one has a very small effect on the overall market price.

• A seller can easily change the price, as buyers will go elsewhere if it’s too high, and there’s a little benefit in setting it lower than others.

• Similarly, a single buyer can’t influence the price since they only purchase a small amount.

Quantity Demanded

• Of any good is how much of that good buyers are willing and able to buy.

• This inverse relationship between price and quantity demanded is a fundamental economic concept that applies to most goods.

Law of Demand

• Economists refer to this, which states that all else being equal, when the price of a good increases, the quantity demanded decreases, and when the price decreases, the quantity demanded increases.

• A decrease in the price of a good leads to an increase in the quantity demanded.

Demand Schedule

• It is a table that shows the quantity demanded at each price.

Demand Curve

• It is a graph that shows the relationship between the price of a good and the quantity demanded.

Shift in the Demand Curve

• Any change that raises the quantity that buyers wish to purchase at any given price shifts the demand.

Income

• If you lose your job and your income decreases, you’ll likely buy less goods and services.

Normal Good

• YED > 0

• Increased income leads to higher demand.

Luxury Good

• YED > 1

• Increased income leads to bigger percentage increase in demand.

Inferior Good

• YED < 0

• Increased income leads to fall in demand.

Prize of Related Goods

• If a certain product becomes cheaper, you might buy more of it and less of another product as they are similar treats (yogurt and ice cream).

Substitutes

• Used in place of each other.

Complements

• goods used together like gasoline and automobiles or peanut butter and jelly.

Taste and Preferences

• Your demand for any good or service is significantly influenced by your personal tastes.

Expectations

• Your expectations about the future also play a role in your current demand.

Numbers of Buyers

• The total market demand for a product is affected by the number of buyers.

Quantity Supply

• Amount that sellers are willing and able to sell, with price being a primary determinant.

• When the price of a product,  like ice cream, is high, it becomes more profitable to sell,  leading to larger this.

• Sellers might work longer hours, invest in more equipment, and hire additional staff to meet this demand. 

• Conversely,  when the price is low, the business becomes less profitable, reducing this.

• Sellers might sometimes cease production entirely, reducing this to zero.

Supply Schedule

• It is a table that shows the quantity supplied at each price.

Supply Curve

• It illustrates how the quantity supplied of the good changes as its price varies.

• Because a higher price increases the quantity supplied, the supply curve slopes upward.

Individual Supply

• Reflects the supply decisions of a single producer or seller.

Market Supply

• Aggregates the supply of all producers in the market.

Shifts in the Supply Curve

• Any change that raises the quantity that sellers wish to produce at any given price shifts the supply curve to the right.

• Any change that lowers the quantity that sellers wish to produce at any given price shifts the supply curve to the left.

Input Prices

• When the cost of any inputs increases, making the product less profitable, leading to a decrease in the supply of the product.

• In cases where the prices of inputs rise significantly, it may even cause a firm to cease operation entirely, resulting in no supply of a product.

• Therefore, the supply of a good like ice cream is inversely related to the costs of its inputs.

Technology

• Technological advancements can produce production costs..

• Less labor is needed with these technologies.

• This reduction in costs leads to an increase in the supply of a product because firms can produce more at a lower cost.

Expectations about the Future

• A firm’s current supply of ice cream can be influenced by its expectations of future market conditions.

• For instance, if a firm anticipates that the price of a product will increase in the future, it may store some of its current production and supply less to the market now, expecting to sell more for higher prices later.

Number of Sellers

• The overall market supply is affected by the number of sellers in the market.

• If the number of sellers decrease (such as if a major producer like Ben or Jerry retires), the market supply of ice cream would decrease, assuming other producers don’t compensate for this reduction.

Equilibrium

• Intersection of the market supply and demand curve.

• This in a market is like a state of balance.

• It is found where the supply and demand curves intersect.

• Represent a point where supply and demand are in perfect balance, and there is no excess supply or demand at the equilibrium price.

Equilibrium Price

• The quantity of products buyers are willing and able to purchase is exactly equal to the quantity sellers are willing and able to sell.

• This is also referred to as the market-clearing price.

• At the price, the market reaches a state of satisfaction where:

  • Buyers have purchased all the products they want.

  • Sellers have sold all the products they wish to sell.

Disequilibrium

• The market naturally moves towards the equilibrium price of supply and demand, driven by the actions of buyers and sellers.

Elasticity

• How consumers react to changes in these factors (like price, income, and prices of related goods).

Elasticity of Demand

• It was explained that consumers tend to buy more of a product when its prices decrease, their income increases, the prices of substitute goods increase, or the prices of complementary goods decrease.

• It focuses on the direction of change in the quantity demanded, but not on how significant this change is.

Price Elasticity of Demand

• A measure of how much the quantity demanded changes in response to a change in price.

• Shows how willing consumers are to reduce their purchases of a good when its price goes up.

Availability of Close Substitutes

• Goods with close substitutes tend to have more elastic demand.

Necessities

• Inelastic Demand

Luxuries

Elastic Demand

Definition of the Market

• How a market is defined affects the elasticity of demand.

• Narrowly defined markets usually have more elastic demand because it’s easier to find substitutes.

Time Horizon

• The elasticity of demand for a good is generally higher over a longer time period.

Total Revenue

• It is the a total amount of money a firm receives from selling its goods or services. It is calculated as the price of the good multiplied by the quantity of the good sold.

• Changes in this are influenced by changes in the price of the good and the quantity of the good sold.

Inelastic Demand

• < 1

• Raising the price makes people buy a bit less, so the seller earns more money.

• Lowering the price makes people buy only a bit more, so the seller earns less money.

Elastic Demand

• > 1

• Raising the price makes people buy much less, so the seller earns less money.

• Lowering the price makes people buy much more, so the seller earns more money.

Unit Elastic Demand

• = 1

• Changing the price doesn’t change how much money the seller makes.

• This happens because the amount people buy changes exactly in line with the price change.

Price Elasticity of Supply

• Measures the extent to which the quantity supplied responds to a change in price.

• Largely influenced by how easily sellers can adjust the amount of the good they produce.

Law of Supply

• An increase in price typically leads to an increase in the quantity supplied.

Elastic Supply

• It means that the quantity supplied changes significantly in response to price changes.

Inelastic Supply

• The quantity supplied changes only a little when the price changes.

Short Run

• Firms are limited in their ability to change the size of their production facilities, meaning that the quantity supplied tends to be less responsive to price changes.

Long Run

• Over long periods, the quantity supplied can be much more responsive to prices.

• Firms have time to expand or reduce their production capacity, build new factories, or even exit or enter the market.

Impact of Taxes

• Taxes are used by policymakers to generate revenue and influence market outcomes.

• However, the effects of taxes may not be immediately apparent.

  • For instance, when the government imposes a tax on the wages forms pay to their workers, it is unclear whether the firms or the workers bear the tax burden.

  • This ambiguity can be resolved by applying the principles of Supply and Demand.

Price Ceiling

• A legal maximum on the price at which a good can be sold.

• This leads to a shortage.

  • Example: rent control, gasoline price caps

Price Floor

• A legal minimum on the price at which a good can be sold.

  • Examples: minimum wage, agricultural price supports

Taxes

• Governments use this for public projects.

• Debate arises on who should pay this - consumers or sellers.

Health

• This is the state of complete physical, mental, and social well-being and not merely the absence of disease or infirmity.

Physical Health

• Defined as the condition of the body, with normal status being without disease or serious illness.

Mental Health

• A state of mental well-being that enables people to cope with the stresses of life, realize their abilities, learn well and work well, and contribute to their community.

Healthcare

• Refers to those resources society uses on people in ill health in an attempt to cure them or to care for them.

Health Economics

• A branch or economics that studies the production and consumption of health and healthcare.

• A commonly regarded as an applied field of economics. “It draw its theoretical inspiration principally from four traditional areas of economics:

  • Finance and Insurance

  • Industrial Organization

  • Labour

  • Public Finance

Kenneth Arrow

• (1921 to 2017)

• Nobel Prize in Economics (1972) for “pioneering contributions to general equilibrium theory and welfare theory.”

Moral Hazard

• Refers to the tendency for individuals to consume more healthcare services when they are insured, leading to higher costs and inefficiencies.

Welfare Economics

• Can be used to evaluate different healthcare financing models and determine the most efficient and equitable system.

Inaccessibility to Healthcare

• Many individuals, particularly those in low-income communities, lack access to affordable and quality healthcare.

Cost Containment

• The cost of healthcare is rising rapidly, putting a strain on individuals, businesses, and governments.

Inefficient Allocation of Resources

• Healthcare resources are often not used in the most efficient manner, leading to waste and inefficiencies in the system.

Inequities in Health Outcomes

• Disadvantaged populations often have worse health outcomes than more affluent populations, due to a lack of access to healthcare and other social determinants of health.

Advancements in Medical Technology

• New medical technologies and treatments are developed and introduced to the market, however, it is difficult to determine the most cost-effective way to use them.

Moral Hazard

• When individuals have insurance, they may be more likely to use healthcare services, leading to overconsumption and higher costs.

The Role of Government

• The government plays a large role in healthcare, through funding and regulation, which leads to various debates on the best way to structure the healthcare system.

Health Economist

• A professional who applies economic theories, concepts, and methods, to the study of healthcare and the healthcare system.

• Strong analytical and quantitative skills, as well as the ability to use statistical software and other tools to analyze the data.

• Able to communicate effectively with a wide range of audiences, including policymakers, healthcare professionals, and the general public.

Good Health

• Important for a high quality of life and for maintaining productivity and earning potential.

• Extensive research has been conducted to understand what factors influence health.

Marginal Efficiency of Capital

• The concept of this is used to measure how much extra health is produced with additional investment.

• This curve shows diminishing returns: each additional unit of investment yields smaller health improvements.

• The cost of producing any level of health includes offsetting depreciation and the cost of additional health units.

Wage Effect

• In the context of Grossman’s model, the change in this is considered a shift in the MEC schedule.

• This is because the wage rate influences the return on the ‘stock’ of health.

• Elimination of Trade-off (Hypothetically)

  • If the increase in earnings due to better health is significant enough, it might be possible to spend more on health care without reducing consumption of other goods.

  • In this scenario, the usual trade-off between spending on health and other consumer goods could be minimized or even eliminated.

The Consumption Model

• The model described here shifts focus to how individuals allocate their budget between investing in health and spending on consumer goods at a given time.

Budget Line

• It shows the trade-off between spending on health and opther consumer goods based on the budget.

Indifference Curves (U)

• Each indifference curve represents different combinations of health and consumer goods that provide an indivdual the same level of satisfaction or utility.

• Higher indifference curves indicate a higher level of total utility.

• These curves are typically convex to the origin, reflecting the principle of diminishing marginal utility- the more you have of something, the less additional value you get from having even more of it.

Normal Good

• A good for which income elasticity is positive but less than one.

• This means that if income increases by a given percentage the quantity of the good consumed increases, but the lower percentage that associated with the income increase.

Superior Good

• The percentage increase in the quantity consumed is greater than the associated percentage increase in income the good.

Inferior Good

• The percentage increase in the quantity consumed is less than the associated percentage increase in income.

Experience Rating

• Involves insurance companies in setting premiums based on payout levels, commonly used in auto auto or homeowners’ insurance where rates may increase for drivers with accident history.

Community Rating

• Entails all members of an insurance pool paying the same premium,  irrespective of individual risk factors.

Moral Hazard

• Refers to changes in behavior due to insurance coverage, present across all insurance markets.

• For instance, insured individuals may exhibit carelessness with insured property.

• In health insurance, this manifests through increased demand for healthcare services due to reduced cost barriers.