Econ 211 UTK exam 1

Economics

The study of how people make decisions given the scarcity of resources

Incentives

a positive or negative environmental stimulus that motivates behavior

Ceteris Paribus

meaning everything else stays the same

What 3 things can you never have enough of (scarcity and opportunity cost)

time, money, and resources

Microeconomics

the study of how households and firms make decisions and how they interact in markets

Economic model

a simplified version of reality used to analyze real-world economic situations

positive analysis

analysis concerned with what is (can be answered using facts and information)

normative analysis

analysis concerned with what ought to be (based on beliefs and/or opinions

What is equity?

fairness

What are the three main assumptions in economics?

1. People are rational

2. People are self interested (opposite is altruistic)

3. People respond to incentives

Marginal =

additional

Capitalist/ market economy

private individuals and firms own most of the resources, innovation due to competition, government role is to protect property rights

Communist/ Planned economy

Most resources owned by the government

Mixed economy

is a mixture between capitalist/market and communist/planned

What are the four factors of production?

land, labor, capital, entrepreneurship

Investment =

purchase of new capital

Investment DOES NOT mean

investing in the stock market

PPF assumptions

all factors of production go towards the production of 2 goods

Linear PPF

opportunity cost is the slope (constant)

To shift PPF inward...

Destroy capital or other factors of production (natural disasters, war)

To shift PPF outward...

technology, investing in new capital, increase human capital

What's the difference between a curved PPF and a linear PPF?

Curved is more realistic

What is the only thing that will cause us to move on the curve?

Price

What are the 5 demand shifters?

1. Income (normal v. inferior)

2. Prices of related goods (complement vs. substitutes)

3. Preferences

4. Population (# of buyers)

5. Expectations (prices over time)

What are the 6 supply shifters?

1. Input costs (land, labor, etc)

2. Technology

3. Prices of related commodities (production substitutes)

4. Number of sellers

5. Expectations

6. Taxes and Subsidies (for businesses)

shortage

an increase in people buying a product or fewer amounts of places to buy it (increase in $)

surplus

decrease in people buying product or more places to buy the product (decrease in $)

Equilibrium

occurs when quantity supplied = quantity demanded

What happens when price is too high?

Surplus

What happens when price is too low?

Shortage

Producer surplus

when willingness to accept is below the market price

(area above supply curve and below price)

Consumer surplus

Area above price and below demand curve

Economic surplus =

total surplus (consumer surplus + producer surplus)

When producer surplus increases...

consumers are worse off, producers are better off IF the area they took over is greater than their part of dwl, loss of efficiency (total surplus goes down)

When consumer surplus increases...

Producers are worse off, consumers are better off IF the part they took over is greater than their part of dwl, loss of efficiency

How to calculate dwl

1/2bh

Market failure

market fails to produce the optimal amount of goods and services

4 examples of market failure

1. Lack of competition

2. Asymmetric information

3. Externalities

4. Public goods

Price floors

lowest price you can legally charge (must be above equilibrium to be binding)

Price ceilings

highest price you can legally charge (must be below equilibrium to be binding)

What are the 3 predictable effects of price floors?

1. they increase quantity supplied

2. they decrease quantity demanded

3. they create a market surplus

Elasticity

A measure of how much one economic variable responds to changes in another economic variable.

Elasticity of demand

How much quantity demanded changes when there is a change in price.

(Ed < 1 = inelastic, Ed > 1 = elastic)

Elasticity of demand equation

% change in quantity demanded / % change in price

Point elasticity of demand equation

[ (Q2-Q1) / (P2-P1) ] * (P1/Q1)

Midpoint formula

[ (Q2- Q1) / (P2-P1) ] * (Pavg / Q avg)

Total Revenue =

Price x Quantity

Income elasticity of demand formula

% change in quantity demanded / % change in income

If Income elasticity of demand is positive, it's...

normal

If income elasticity of demand is negative, it's...

inferior

If income elasticity of demand is normal and greater than 1, it's...

luxury

If income elasticity of demand is normal and less than one, it's...

necessity

What matters with income elasticity of demand?

Sign and magnitude

Cross price elasticity of demand

need to know goods that compete with yours or used with yours

What matters in cross price elasticity of demand?

Only sign!!

Complements

two goods for which an increase in the price of one leads to a decrease in the demand for the other (two goods that are bought and used together)

Substitutes

two goods for which an increase in the price of one leads to an increase in the demand for the other (goods and services that can be used for the same purpose)

Elasticity of supply formula

% change in quantity supplied / % change in price

what is the main determinant of elasticity of supply?

time

Time periods of elasticity

1. Market period

2. Short run

3. Long run

Market period

output and number of firms are fixed (short)

Short run

number of firms doesn't change, each firm can adjust output levels

Long run

period long enough for firms to enter

Types of tax

Progressive, flat, and regressive

Progressive tax

as income increases, income is taxed at a higher % (ex: federal income tax)

Flat tax

tax is fixed percentage regardless of income (ex: medicare tax = 2.9% for everyone)

Regressive tax

Tax becomes a smaller % as income rises (ex: FICA payroll tax, capped at $118,500.)

Incidence of a tax

describes who bears the economic burden of a tax and is influenced by elasticity

Excise tax

shifts the supply curve to the left, resulting in an increase in price... BUT, the prices rise by less than the full amount of the tax

How can we tell who bears the burden of the tax?

whichever line is more inelastic is who pays more of the tax. Supply = producer, demand = consumer

What determines whether a good is normal or inferior?

a. cross-price elasticity

b. responsiveness to change in income

c. opportunity costs

d. price of inputs

b. The responsiveness to change in income

If the demand for pick up trucks falls during a recession, then pick up trucks are most likely what type of good?

a. substitute

b. normal

c. luxury

d. inferior

b. normal

T or F: a shortage occurs if demand exceeds supply

true

If the government imposes a binding price ceiling on rents in low-income neighborhoods, the result will be an

a. efficient market outcome with a shortage of housing

b. inefficient market outcome with a surplus of housing

c. inefficient market outcome with a shortage of housing

d. efficient market outcome with a surplus of housing

c. inefficient market outcome with a shortage of housing

At what price is total surplus maximized?

a. the lower the better, any price below equilibrium

b. just below the equilibrium price

c. equilibrium price

d. just above a binding price floor

c. equilibrium price