1.2 fr

rational behaviour

assumes that agents will aim to maximise their satisfaction

utility

idea people get a certain level of satisfaction from consuming goods and services

marginal utility

benefit of consuming an extra unit of utility

how do consumers aim to maximise utility

- reasonable quality
- reasonable price

how do firms aim to maximise profits

- maximise profits
- minimise total costs

how do workers aim to maximise welfare

- maximise wages
- maximise working conditions

what do governments aim to maximise

social welfare

marginal analysis for customers

change in total utility by consuming one extra unit of output

demand

quantity of a good or service that consumers are willing and able to buy at any given price in a given period of time

stakeholder

groups of people who are affected by economic activity

non price factors influencing demand

- trends
- advertising
- population
- income
- changes in price of related goods
- speculation

speculation

demand that is influenced by what people assume will happen in the future in regards to future prices or availability

diminishing marginal utility

describes situation where an individual gains less additional utility from consuming a productive more its consumed

law of demand

inverse relationship between quantity demanded and the price of a good or service, ceteries paribus

what is movement along the demand curve related

change in price

extension in demand

increase in quantity demand when price decreases

contraction in demand

decrease in quantity demand when price increases

what is shift in curve related to

change in non price factor

what does a shift to the right on demand curve mean

increase in demand

what does a shift to the left on a demand curve mean

decrease in demand

elastic

describes demand that is very sensitive to a change in price

inelastic

describes demand that is not very sensitive to a change in price

normal good

quantity demanded increases in response to an increase in consumer income

inferior good

quantity demanded decreases in responses to an increase in consumer incomes

substitutes

the demand for one good is likely to rise if the price of the other good rises

complements

an increase of one good causes the demand for the other good to fall

derived demand

demand for a good is dependent on the demand for thee final good

composite demand

goods have more than one use so demand for other good decreases e.g. milk can make butter

elasticity

measure of sensitivity of one variable to changes in another variable

price elasticity of demand (PED)

measure of quantity demanded to a change in the price of a good or service

PED equation

% change in quantity demanded / % change in price

what is a elastic in terms of change in price and quantity demanded

small change in price causes a large change in quantity

what is a inelastic in terms of change in price and quantity demanded

small change in prices causes a small change in quantity demande

how steep is the demand curve for elastic

gentle slope

how steep is the demand curve for inelastic

steep

unitary elastic PED

when price elasticity of demand is = 1

curved graph

elastic demand PED

when the price elasticity of demand is greater than 1

what happens to revenue when there's an increase in price on an inelastic good

increase in revenue

what happens to revenue when there's an increase in price on an elastic good

decrease in revenue

inelastic demand PED

PED = smaller than 1, bigger than 0

perfectly inelastic PED + why

- price elasticity = 0
- quantity demanded does not change in response to a change in the price of the good

perfectly inelastic demand curve

vertical

perfectly elastic PED + why

- price elasticity = infinity
- no firm has an incentive to lower price
- if price rises demand would fall to 0

why is price elasticity of demand important to know for firms

they can anticipate consumer response to its price change

perfectly elastic demand curve

horizontal

what influences the price elasticity of demand BANTA

- availability of substitutes
- necessity or luxury
- time period
- brand image
- addiction

what is the elasticity in the long run

elastic

income elasticity of demand (YED)

responsiveness of quantity demanded to a change in consumer incomes

YED equation

% change in quantity demanded / % change in income

what is the elasticity if YED > 1

elastic

what is the elasticity if YED < 1

inelastic

what are normal goods YED

positive

what YED is a necessity

positive but less than 1

necessity

- good which the YED is positive but less than 1, such that as an income rises consumers spend proportionally less on the good
- inelastic

what YED are inferior goods

negative

luxury good

- income elasticity of demand is positive and greater than 1, so that as income rises consumers spend proportionally more on the good
- elastic

cross elasticity of demand (XED)

responsiveness of demand for good B to a change in prices of good A

XED equation

% change in quantity demanded of good X / % change in price of good Y

XED of complementary good

negative

XED of substitute good

positive

what does 0 XED mean

goods unrelated

why is YED helpful

help forecast changing demand if real incomes are increasing or economy recession

why is XED helpful

helps anticipating changes in demand if the prices of other products are changing

if a PED is unit elastic what happens to total revenue

stays the same

non-price factors that affect supply

- size of industry
- production costs
- imposition of tax / subsidies
- new technology
- disasters

supply

the quantity of a good or service that a producer is willing and able to supply onto the market at a given price and time period

joint supply

a product or process that can produce two or more products at the same time

determinants of price elasticity of supply PETS LL

* level of spare capacity - the greater the spare capacity that a producer has then the more elastic the supply will be
* state of economy- in a recession, there is likely to be high unemployment of FOPS, therefore the supply is likely to be more elastic
* level of stock -  if a product can be mass produced and stockpiled in warehouses until the price rises, the supply = elastic – if a good has to be tailored to the exact needs and wants of the customer supply = inelastic
* perishability - if goods cannot be stockpiled as they are perishable then inelastic
* ease of entry - if new firms find it difficult to enter an industry due to high entry barriers (e.g. lack of access to technology, specialised labour and infrastructure, specialised labour, competitors with high brand loyalty, high advertising costs) then supply is likely to be inelastic
* time period - inelastic in short term as takes time to get more spare capacity

what is the elasticity of agricultural products

inelastic

what is elasticity of minerals / metals and why

inelastic, takes more time to explore and discover, extract and refine it

why does excess supply exist and how do you solve it

* QS > QD
* contraction in supply and extension in demand
* EV: waste if market doesn’t clear excess supply

why does excess demand exist and how do you solve it

* QD > QS
* extension in supply and contraction in demand
* EV: if market doesn’t clear then there could be development of the black market

how do you describe a graph when price is set below equilibrium

* diagram shows there is disequilibrium in the market
* the price is set below the price equilibrium meaning quantity demanded is higher than quantity equilibrium and quantity supplied is lower than quantity equilibrium by (number) units
* this causes excess demand
* in order to eliminate this there must be a contraction in demand and extension in demand

short term

time period when at least one factor of production is fixed

long run

time period when all factors of production are variable

price mechanism

a process where market forces allocate resources through the invisible hand in order to solve economic problems

price signal

price of good that guides the market towards equilibrium and assists resource allocation

marginal cost

the cost of producing an additional unity of output

merti goods

goods that do good but are underconsumed e.g. education (?)

what is the government role in a free economy

- basic framework of property rights
- legal framework
- doesn't intervene with production process
- protect consumer interest if there is market failure

what are the three price mechanisms

- rationing
- incentive
- signalling

rationing

- prices ration scarce resources when demand > supply
- leaves only those that are willing and able to buy
- consumers are unable to afford high prices, so they have to wait for price to decreases so demand decreases

incentive

- through choice consumers send info to produces about their changing nature
- decision making is decentralised
- rising prices act as an incentive to firms to produce more of a good for more profit

signalling

- prices rise and fall to reflect scarcities and surpluses
- if prices rise cos of high demand, the signal is to expand production
- if there is surplus, price mechanism will help eliminate surplus by allowing market price to fall

consumer surplus

- difference between the total amount that consumers are willing and able to pay and the total amount they actually pay
- indicated by area under demand curve and above market price

producer surplus

- difference between market price and what producers are willing and able to supply
- indicated by area above supply curve and below market price

what will in an increase in demand do to surplus

raise surplus

what is tax used for

raise funds to pay for gov spending

indirect taxes

tax imposed on goods or services supplied by business

what are the two types of indirect tax

- specific
- ad valorem

specific tax and what does it do to supply curve

- charged as a fixed amount per unit of good e.g. excise tax
- causes parallel shift in supply curve

ad valorem and what does it do to supply curve

- charged as a percentage of the price of a good e.g. VAT
- causes pivotal rotation of the supply curve

incidence of tax

distribution of tax paid between producers and consumers

draw incidence of tax graph

yh

if there is inelastic demand where does tax burden fall and why

consumer - higher prices - consumers have no substitutes

if there is elastic demand where does tax burden fall

producer - reduction in output and employment

subsidy

grant provided by government which reduces production costs and encourages increase in output, leading to fall in price

subsidy graph

replace benefit to subsidy

what happens if a subsidy is given to an inelastic good

price falls by a large amount

what is the downsides of subsidies

- opportunity cost for government spending
- firms get reliant