Micro Unit 2

2.1- Demand

perfectly competitive market

a market in which there are many buyers and sellers of the same good or service. The key feature of a perfectly competitive market is that no individual’s actions have a noticeable effect on the price at which the good or service is sold.

supply and demand model

a model of how a competitive market works

1. The demand curve

2. The set of factors that cause the demand curve to shift

3. The supply curve

4. The set of factors that cause the supply curve to shift

5. The market equilibrium, which includes the equilibrium price and equilibrium quantity

6. The way the market equilibrium changes when the supply curve or demand curve shifts

demand schedule

a table that shows how much of a good or service consumers will be willing and able to buy at different prices

quantity demanded

the actual amount of a good or service consumers are willing and able to buy at some specific price; shown as a single point in the demand schedule or along a demand curve

demand curve

a graphical representation of the demand schedule; shows the relationship between quantity demanded and price

law of demand

says that a higher price for a good or service, all other things being equal, leads people to demand a smaller quantity of that good or service

-downward sloping because of the substitution effect, income effect, and the law of diminishing marginal utility

change in demand

a shift of the demand curve, which changes the quantity demanded at any given price

movements along the demand curve

a change in the quantity demanded of a good that is the result of a change in that good’s price

5 Shifters of the Demand Curve

T.R.I.B.E

1. Tastes and Preferences: changes in demand due to fads, beliefs, or cultural shifts

2. Related Goods- substitutes and complements: the price of a substitute or a complement changes

3. Income- normal goods and inferior goods: a change in household income changes buying habits

4. Buyers/consumers (number of): the size of the market changes

5. Expectations of future price: beliefs about changes in the price in the future

substitutes

two goods for which a rise in the price of one of the goods leads to an increase in the demand for the other good

complements

two goods (often consumed together) for which a rise in the price of one of the goods leads to a decrease in the demand for the other good

normal goods

describes a good for which a rise in income increases the demand for the good

inferior goods

describes a good for which a rise in income decreases the demand for the good

individual demand curve

illustrates the relationship between quantity demanded and price for an individual consumer

market demand curve

illustrates the relationship between quantity demanded and price for all the consumers of a good combined

2.2- Supply

quanitity supplied

the actual amount of a good or service people are willing to sell at some specific price

supply schedule

shows how much of a good or service producers would supply at different prices

supply curve

shows the relationship bewteen the quantity supplied and the price

law of supply

says that, other things being equal, the price and quantity supplied of a good are positively related

change in supply

a shift of the supply curve, which indicates a change in the quantity supplied at any given price

movements along the supply curve

a change in the quantity supplied of a good arising from a change in the good’s price

6 Shifters of Supply Curve

1. Actions of the government (taxes and subsidies)

2. Resource price and availability

3. Related goods in supply/production

4. Expectations of future profit

5. Sellers (number of)

6. Technology

input

a good or service that is used to produce another good or service

substitutes in production

describes two goods for which producers can use the same inputs to make either.

complements in production

describes two goods for which increased production of either good creates more of the other

individual supply curve

illustrates the relationship between quantity supplied and price for an individual producer

market supply curve

shows how the combined total quantity supplied by all individual producers in the market depends on the market price of that good

2.6- Market Equilibrium and Consumer/Producer Surplus

willingness to pay

the maximum price at which a consumer would buy a good

consumer surplus

the difference between the amount paid for a good and the consumer’s (or consumers’) willingness to pay for the units purchased; can be used to refer to both individual consumer surplus and total consumer surplus

inidividual consumer surplus

the net gain a buyer achieves from the purchase of a good

total consumer surplus

the sum of the individual consumer surpluses achieved by all the buyers of a good

(seller’s) cost

the lowest price at which a seller is willing to sell a good

producer surplus

the difference between the price received and the seller’s (or sellers’) cost; refers to both individual and total producer surplus

individual producer surplus

the net gain a producer achieves from the selling of a good

total producer surplus

the sum of the individual producer surpluses achieved by all the producers of a good

equilibrium

an economic situation in which no individual would be better off doing something different; a competitive market is in equilibrium when the supply and demand curves intersect

equilibrium price

in a competitive market, the price of a good at which the quantity demanded of that good equals the quantity supplied of that good; also known as the market-clearing price

equilbrium quantity

the quantity of a good bought and sold at its equilibrium price

Topic 2.7: Market Disequilibrium and Changing Market Conditions

market price

current, actual amount of money a buyer pays and a seller accepts to complete a trade for a product, service, or security in an open market

disequilibrium

when the market price is above or below the price that equates the quantity demanded with the quantity supplied

surplus

when the quantity supplied of a good or service exceeds the quantity demanded; occurs when the price is above its equilibrium level; also known as excess supply

shortage

when the quantity demanded of a good or service exceeds the quantity supplied; occurs when the price is below its equilibrium level; also known as excess demand

double shifter

if there is a simultaneous shift in demand and supply, one variable will shift in the same direction for both shifts, the other variable will shift one direction and then the other

indeterminant

the variable in a double shift that shifts in one direction and then the other, it cannot be determined where the point will end up without specific data on the size of the shifts

2.3- Price Elasticity of Demand

substitution effect

(of a change in the price of a good) the change in the quantity of a good demanded as the consumer substitutes the good that has become relatively cheaper for the good that has become relatively more expensive

income effect

(of a change in the price of a good) the change in the quantity of a good demanded that results from a change in the consumer’s purchasing power when the price of the good changes

price of elasticity of demand

the ratio of the percentage change in the quantity demanded to the percentage change in the price as we move along the demand curve (dropping the minus sign)

perfectly inelastic demand

when the quantity demanded does not respond at all to changes in the price; when demand is perfectly inelastic, the demand curve is a vertical line

inelastic demand

when the price elasticity of demand is less than 1

unit-elastic demand

when the price elasticity of demand is exactly 1

elastic demand

when the price elasticity of demand is greater than 1

perfectly elastic demand

when any price increase will cause the quantity demanded to drop to zero; when demand is perfectly elastic, the demand curve is a horizontal line

total revenue

the total value of sales of a good or service; equal to the price multiplied by the quantity sold

charactersitics of inelastic demand

1. few substitutes

2. necessities

3. small portion of income

4. required now, rather than later

5. coeefficient is less than 1

characteristics of elastic demand

1. many substitutes

2. luxuries

3. large portion of income

4. plenty of time to decide

5. coefficient is greater than 1

total revenue

overall income a business generates from selling goods or services before subtracting any expense (price x quantity sold)

2.4- Price Elasticity of Supply

price elasticity of supply

a measure of the responsiveness of the quantity of a good supplied to changes in the price of that good; the ratio of the percentage change in the quantity supplied to the percentage change in the price as we move along the supply curve

perfectly inelastic supply

when the price elasticity of supply is zero, so that changes in the price of the good have no effect on the quantity supplied; a perfectly inelastic supply curve is a vertical line

inelastic supply

when the price elasticity of supply is less than 1

unit-elastic supply

when the price elasticity of supply is exactly 1

elastic supply

when the price elasticity of supply is greater than 1

perfectly elastic supply

when the quantity supplied is zero below some price and approaches infinity above that price; a perfectly elastic supply curve is a horizontal line

characteristics of inelastic supply

1. hard to produce

2. high barriers to entry (few firms)

3. high cost or specialized inputs

4. hard to switch from producing alternative goods

5. coefficient is less than 1

characteristics of elastic supply

1. easier to produce

2. low barriers to entry (many firms)

3. low cost or generic inputs

4. easy to switch from producing alternative goods

5. coefficient greater than 1

2.5- Other Elasticities

cross-price elasticity of demand

(between two goods) measures the effect of the change in one good’s price on the quantity demanded of another good; is equal to the percentage change in the quantity demanded of one good divided by the percentage change in the other good’s price

positive cross-price elasticity of demand

substitute goods

negative cross-price elasticity of demand

complement goods

income elasticity of demand

the percentage change in the quantity of a good demanded when a consumer’s income changes divided by the percentage change in the consumer’s income; it measures how changes in income affect the demand for a good

positive income elasticity of demand

normal good

negative income elasticity of demand

inferior good

income elastic demand

when the income elasticity of demand for a good is greater than 1

income inelastic demand

when the income elasticity of demand for a good is positive but less than 1

2.8A - Government Intervention: Taxes, Subsidies, and Market Efficiency

total surplus

the total net gain to consumers and producers from trading in a market; the sum of consumer surplus and producer surplus

distributive efficiency

A market that distributes goods and services to buyers who value them most, as indicated by the fact that they have the highest willingness to pay

productive efficiency

A market allocates sales to the potential sellers who most value the right to sell the good, as indicated by the fact that they have the lowest cost (producing goods at the lowest possible cost)

allocative effciency

happens when an economy produces a mix of goods and services that matches what society wants and values most, allocate resources to the production of all of those units of a good — and only those units — whose value to consumers exceeds the cost of making them

regressive tax

a tax that rises less than in proportion to income (any tax that has high-income taxpayers pay a smaller percentage of their income than low-income taxpayers)

proportional tax

a tax that rises in proportion to income (any tax that has all taxpayers pay the same percentage of their income)

progressive tax

a tax that rises more than in proportion to income (tax that has high-income taxpayers pay a larger percentage of their income than low-income taxpayers)

excise tax

a tax on sales of a particular good or service

tax incidence

the distribution of the tax burden

deadweight loss (DWL)

the net loss to society resulting from an inefficient quantity of output; when quantity is inefficiently low, that loss is the total surplus forgone on the transactions that would provide a net gain to society but did not occur

lump-sum tax

a tax of a fixed amount paid by all taxpayers

administrative costs

(of a tax) the resources used by the government to collect the tax, and by taxpayers to pay (or to evade) it, over and above the amount collected

subsidy

a government payment made to assist or incentivize producers or consumers

2.8B- Government Intervention: Price and Quantity

price controls

legal restrictions on how high or low a market price may go; typically take the form of either a price ceiling or a price floor

price ceiling

a maximum price that sellers are allowed to charge for a good or service (e.g. rent)

black market

a market in which goods or services are bought and sold illegally — either because it is illegal to sell them at all or because the prices charged are legally prohibited by a price ceiling

price floor

a minimum price that buyers are required to pay for a good or service (e.g. minimum wage)

minimum wage

a legal floor on the hourly wage rate paid for a worker’s labor

quantity control/quota

an upper limit on the quantity of some good that can be bought or sold; also known as a quota