Microeconomics ECON 101

What are the four principles of economics?

Cost Benefit Principle

Opportunity Cost Principle

Marginal Principle

Interdependence Principle

Define the Cost Benefit Principle

Costs and benefits are the incentives that shape decisions. You should evaluate the full set of costs and benefits of any choice, and only pursue those whose benefits are at least as large as their costs.

Define the willingness to pay

Costs and benefits are the incentives that shape decisions. You should evaluate the full set of costs and benefits of any choice, and only pursue those whose benefits are at least as large as their costs.

Define Economic Surplus

ES = TB - TC, if ES < 0, then it is not a good decision, if ES >= 0, it is.

The total benefits minus total costs flowing from a decision. It measures how much a decision has improved your well-being.

Define the framing effect

When a decision is affected by how a choice is described, or framed. You should avoid framing effects altering your own decisions.

What is the formula of Opportunity Cost?

Costs of her choice - Costs of her next best alternative = Opportunity Cost

Remember Costs of her next best alternative

Losing a wage of a previous job to do something else would be negative since it was a benefit but living expenses stay the same sign. This way losing wages is subtracting a negative ADDING to the opportunity cost.

When calculating opportunity costs, what should you keep in mind when including/excluding?

1. Some out-of-pockets costs, explicit costs and are included in calculating opportunity costs.

2. Opportunity costs include more than the money spent, they also should subtract what you give up when you choose one option over another.

3. Not All Out-of-Pocket Costs Are Opportunity Costs - Not every expense you face counts as an opportunity cost. An expense is only a true opportunity cost if it changes depending on your choice.

4. Some Nonfinancial Costs Are Not Opportunity Costs - Opportunity costs can include nonfinancial factors like time and effort, but they only matter if they differ across alternatives.

Define sunk cost

A cost that has been incurred and cannot be reversed. A sunk cost exists whatever choice you make, and hence it is not an opportunity cost. Good decisions ignore sunk costs.

What is the PPF?

Production Possibility Frontier - Shows the different sets of output that are attainable with your scarce resources.

Describe PPF points, slope, movements

Define the marginal principle

Decisions about quantities are best made incrementally. You should break “how many” questions into a series of smaller, or marginal decisions, weighing marginal benefits and marginal costs.

Define Marginal Benefit and Cost

Benefit/Cost of adding one more unit of something

Define the Rationale Rule

If something is worth doing, keep doing it until your marginal benefits equal your marginal costs. The moment marginal costs is strictly greater than marginal benefits, stop.

Define the Interdependence Principle, what 4 factors affect your choice?

Your best choice depends on:

1. Dependencies between each of your individual choices

2. Dependencies between people or businesses in the same market

3. Dependencies between markets

4. Dependencies through time

Explain the interdependence of choices between your individual choices

You have limited resources, every choice you make affects the resources available for every other decision” E.g. your time, attention, money, etc

Explain the interdependence of choices between people or businesses in the same markets

The choices of others in your market affect the options available to you. Because resources are scarce, what others get often reduces what’s left for you.

• Competing buyers: Businesses or people compete to purchase the same scarce resource (e.g., firms hiring from the same pool of workers, a better firm will get the better workers leaving less for you).

• Competing sellers: People or businesses compete to sell to the same buyers (e.g., job seekers applying for the same job, if someone gets it you have a cant get that job).

  Your outcome depends on their decisions, and their outcomes depend on yours.

Explain the interdependence of choices between markets

Choices in one market depend on conditions in other markets.

• Examples of market links:

  • Credit → Housing: Higher interest rates make mortgages more expensive → fewer home purchases.

  • Housing → Child Care: Lower housing demand → homes converted into child care centres → more child care availability.

  • Child Care → Labour: Easier access to child care → more parents return to work.

  • Labour → Cars: More working family members → higher demand for multiple cars.

• Key Idea: Markets are connected in chains. Ignoring interdependence risks missing how costs/benefits shift across markets.

Explain the interdependence of choices through time

Choices involve a time trade-off: act today vs. act tomorrow.

• Applies to consumers (buy now or later), executives (when to produce/sell), investors, employers, and workers.

• Expectations about the future shift the trade-off and can change the best choice.

• Investments today expand future options:

  • New factory → more production later

  • Education → better job opportunities

  • Fitness → better health

• Key Idea: Future outcomes depend heavily on today’s choices → investment decisions today hinge on expectations about tomorrow.

Define the individual demand curve

A graph, plotting the quantity of an item that someone plans to buy, at each price.

Law of Demand

The tendency for quantity demanded to be higher when the price is lower.

How does the individual demand curve link to marginal benefit and rational rule for buyers?

• Price = Marginal Benefit, each point shows: “For the nth unit, the buyer values it at $X of marginal benefit.”

• Rational Rule for Buyers: Keep buying until the price is greater than the marginal benefit (stop when Price > MB).

• Example: Darren at $1.39 per litre:

  • 1st litre → MB = $1.80

  • 2nd litre → MB = $1.60

  • 3rd litre → MB = $1.40

  • 4th litre → MB = $1.30 (below price, so he stops)

• Therefore, Darren buys 3 litres.

How does diminishing marginal benefit link to the individual demand curve’s downward slope?

It is downward sloping because each additional item is evaluated with a smaller marginal benefit than the previous item, so the price are willing to pay must go down for each successive item.

What is the market demand curve?

A graph plotting the total quantity of an item demanded by the entire market, at each price. (Horizontal sum of quantity demanded by individual demand curves at each price level)

How would you survey the market demand curve?

Steps to Calculate the Market Demand Curve:

1. Survey a representative sample, asking how much each person would buy at each price.

2. Add up the total quantity demanded by the people surveyed at each price.

3. Scale up the survey results to represent the entire market (project to population size).

4. Plot the total quantity demanded at each price to get the market demand curve.

What causes a movement along the demand curve?

A price change causes movement from one point on a fixed demand curve to another point on the same curve.

What factors shift the demand curve?

Things that shift the demand curve are PEPTIC:

1. Preferences

2. Expectations

3. Prices of related goods

4. Type and number of buyers

5. Income

6. Congestion and network effects

Changes in all but type and number of buyers shift individual demand curves, and because the market demand curve is built up from individual demand curves, they shift the market demand curve. The type and number of buyers—only shifts market demand curves.

How does income affect demand?

It depends on the type of good, if it is normal or inferior.

Normal - demand increases with income (everything else)

Inferior - demand decreases with income (instant ramen, making do items, old shit)

Impact of price of related goods on Demand?

Complements

• Goods that are used together (e.g., cars & gas, printers & ink).

• Price ↑ of complement → Demand ↓ for this good (pair becomes more expensive).

• Price ↓ of complement → Demand ↑ for this good (pair becomes cheaper).

• Example: If cars get cheaper, demand for gas rises.

Substitutes

• Goods that replace each other (e.g., tea & coffee, bus & subway).

• Price ↑ of substitute → Demand ↑ for this good (this looks cheaper).

• Price ↓ of substitute → Demand ↓ for this good (you buy the cheaper substitute instead).

• Example: If tea gets cheaper, demand for coffee falls.

How do expectations of the future affect demand?

If you expect future to be cheaper, your demand now will decrease.

If you expect prices to rise in the future, your demand now will increase.

What are congestion and network effects?

• Network Effect: A product becomes more useful as more people use it → increases marginal benefit & demand.

  • Example: Social media platforms (TikTok, Instagram, WeChat).

  • Business implication: Early adopters attract more users → snowball effect → long-run success.

• Congestion Effect: A product becomes less useful as more people use it → decreases marginal benefit & demand.

  • Example: Roads (traffic congestion), fashion (less unique if others wear the same dress).

How do the number and types of buyers impact demand?

• Market demand = sum of individual demand.

• Shifts in demographics (types of buyers) change demand patterns.

  • Example: Baby Boom → baby clothes → schools → houses → healthcare.

  • Millennials → different preferences → new demand shifts.

• Number of buyers matters too:

  • More buyers → demand curve shifts right.

  • Fewer buyers → demand curve shifts left.

• Long-run drivers: population growth, immigration, and access to foreign markets (international trade).

Define perfect competition, what are its characteristics?

Markets in which:

1) all businesses in an industry sell an identical good

2) there are infinitely many sellers and many buyers, each of whom is small relative to the size of the market.

3) No barriers to entry/ free entry and exit of of sellers (FROM LECTURE)

4) Sellers are “price takers” — because with infinitely many sellers offering the same good, no single firm can influence the market price. If a firm charges more, buyers switch instantly to other sellers. If it charges less, it doesn’t gain extra demand, since it could already sell as much as it wanted at the market price, (Infinitely many demand, nothing to gain more)

Individual supply curve

A graph plotting the quantity of an item that a business plans to sell at each price.

Law of supply

The tendency for the quantity supplied to be higher when the price is higher.

Define Price Takers

Someone who decides to charge the dictated market price and whose actions do not affect the market price.