Microeconomics Final OSU

Economics

is the study of how best to allocate scarce resources among competing uses.

Scarcity

is the lack of enough resources to satisfy all desired uses of those resources

Core issue WHAT

to produce with our limited resources.

Core issue HOW

to produce the goods and services we select.

Core issue FOR WHOM

goods and services are produced; that is, who should get them.

Purposeful behavior

People make decisions with some desired outcome in mind

Marginal costs

change in costs between products added

Positive Economics

Focuses on facts and cause-and-effect relationships (WHAT IS)

Normative economics

Looks at the desirability of certain aspects of the economy (WHAT SHOULD BE)

Scarce resources

Land, Labor, Capital, Entrepreneurial ability

-Land

All natural resources such as crude oil, water, air, and minerals

-Labor

Refers to the skills and abilities to produce goods and services

-Capital (goods)

Final goods produced for use in production of other goods

-Entrepreneurial ability

Assembling of resources to produce new or improved products and technologies

Production possibilities

The alternative combination of final goods and services that could be produced in a given period of time with all available resources and technology

Production possibilities model

-Full employment All available resources are being used

-Full production

-Fixed resources Quantity and quality are fixed

-Fixed technology State of technology is constant

-Two goods Only two items being produced (Pizza vs. robots)

Law of Increasing Opportunity Costs

Resources do not transfer perfectly from the production of one good to another. Sacrifice ever-increasing quantities of other goods

Optimal allocation

Where marginal benefit (MB) equals marginal cost (MC)

Economic growth

Increase in production of goods and services. More resources, better quality, technological advances. Shifts curve OUTWARD allowing more to be attainable.

Markets

Interaction between buyers and sellers. Exists wherever exchanges takes place. Can be: Local, National, International

Supply and Demand

There must be a buyer and seller in every market transaction

S&D: Seller

is the supply side of the market

S&D: Buyer

is on the demand side of the market

Opportunity cost

The most desired goods or services that are forgone in order to obtain something else

Demand Schedule

Table showing the quantities of a good a consumer is willing and able to buy at alternative prices in a given time period. Ceteris Paribus.

Demand Curve

Curve that shows the demand schedule

Demand

An expression of consumer buying intentions

Law of Demand

Other things equal, as price falls, the quantity demanded rises and as price rises, quantity demanded falls

Market Demand

Sum of individual demands

Determinants of Demand

Tastes, Income, Other goods, Expectations, Number of buyers

Normal goods

When income increases, demand for normal goods increases

Inferior goods

When income increases the demand for inferior goods falls

Substitute goods

Substitute for each other. Price of good X increases, demand of good Y increases

Complementary goods

Frequently consumed in combination. Price of good X increases, demand for good Y falls

Change in quantity demanded

Movements along a demand curve, in response to price change

Change in demand

Shifts of demand curve in response to taste, income, etc.

Market supply

is the total quantities of a good that sellers are willing and able to sell at alternative prices in a given time period, ceteris paribus.

Determinants of Supply

Resource price, technology, #ofsellers, taxes, producer expect.

Equilibrium price

Price at which the quantity of a good in a given time period equals the quantity supplied

Market mechanism

Use of market prices and sales to signal desired outputs

Productive efficiency

Producing goods in least costly way

Allocative efficiency

Producing right mix of goods

Price ceiling

Maximum legal price a seller may charge for a product or service. Set below equilibrium price.

Price floor

Minimum price fixed by government. Set below market price.

Elasticity of demand

Measures buyers responsiveness to price changes

Elastic demand

Sensitive to price changes and large change in quantity

Inelastic demand

Insensitive to price changes. Small change in quantity.

Formula for ED

Ed = % change in Quantity demanded of X / % change in Price of X. USE MIDPOINT FORMULA (Change in quantity/sum of quantities over 2 + Change in price/sum of prices over 2

Elasticity

Ed > 1 = Elastic, Ed = 1 = Unit elastic, Ed < 1 = inelastic

Total Revenue

Price x Quantity = TR

Determinants of Elasticity of Demand

Substitutability, Proportion of income, Luxuries vs. Necessities, Time

Elasticity of supply

Measures sellers' responsiveness to price change

Time periods

Market period, short run, and long run

Cross elasticity of demand

Measures responsiveness of sales to change in price of another good

Elasticity and pricing power

Charge different prices based on elasticities

Market failures

Market fails to produce the right amount of product. Over-allocated or under-allocated

Demand side failures

Impossible to charge customers what they are willing to pay for the product. Some can enjoy benefits without paying

Supply side failures

Occurs when a firm does not pay the full cost of producing its output. External costs are not reflected in supply

Efficiently functioning markets

Demand curve must reflect the willingness to pay. Supply curve must reflect all costs of production.

Producer surplus

Difference between actual price a producer receives and the minimum price they would accept. Extra benefit for receiving higher price.

Private goods

Offered for sale, excludable, rivalry

Public goods

Provided by government, free, non-excludable, free-rider problem

Cost-Benefit analysis (for public goods)

Cost Resources diverted from private good production Benefit Extra satisfaction from output of more public goods

Reallocation process

Taxes individuals and businesses. Takes money and spends on production of public goods.

Quasi-Public goods

Because of positive externalities, government provides. Ex. Education, streets, libraries

Externalities

Cost of benefit of accruing to third party, external to the transaction. "Spills over to."

Government intervention

Correct negative externalities through direct controls or specific taxes. Correct positive externalities through subsidies and government provision.

Economic costs

Payment that must be made to obtain and retain the services of a resource

Explicit costs

Monetary payments

Implicit costs

Value of next best use, self-owned resource, includes normal profit

Accounting profit

Revenue - explicit costs

Economic profit

Accounting profit - implicit costs or TR - (Explicit costs + Implicit costs)

Factors of production

Resource inputs used to produce goods and services, such as land, labor, capital, and entrepreneurship

Short run

Some variable inputs, fixed plant

Long run

All inputs are variable, variable plant, firms enter and exit

Total Product (TP)

Total quantity

Marginal product (MP)

Extra output or added product associated with adding a unit

Average product (AP)

Output per unit of labor

Law of diminishing returns

Assumes resources are equal, technology is fixed. Variable resources are added to fixed resources. At some point, marginal product will fall.

Relationship between MP and AP

Where MP exceeds AP, AP rises, and vice versa. MP intersects AP where average product is at maximum.

Resource costs

Most desirable rate of output is the one that maximizes total profit

Fixed costs (TFC)

Costs do not vary with output Ex. Rent

Variable costs (TVC)

Costs vary with output. Ex. Fuel, power, labor

Total Costs (TC)

Sum of TFC and TVC

Average Fixed Costs

AFC = TFC/Q

Average Variable Costs

AVC = TVC/Q

Average Total Costs

ATC = TC/Q

Marginal Costs

MC = ΔTC/ΔQ

Relationship between MC and AC

Where MC is less than AC, AC declines. Where exceeds, rises. MC intersects AC where average cost is at a minimum.

Long run production costs

Choose your plant size, Minimize ATC, Different ATC curves (short run), Long run ATC (envelope of short run ATC)

Economies of scale

Reductions in minimum AC that come about through increases in size of plant/equipment.

Diseconomies of scale

Occur when an increase in plant size results in reducing operating efficiency

Minimum efficiency scales

Smallest level of output at which a firm can minimize long run average costs

Market Structure

Number and relative size of firms in an industry

Perfect competition

Market in which no buyer or seller has market power.

Characteristics

Many firms, Identical products, Low entry barrier, Price takers Firms cannot change market price

Monopoly

Firm that produces the entire market supply of a particular goods

Market demand curve

Always sloping downward. In perfectly competitive firm, always horizontal.

Production decision

Selection of the short-run rate of output

Profit maximization

Two approaches. 1. Total revenue - total cost approach 2. Marginal revenue - Marginal cost approach