2.1 - demand and supply, surplus, traditional economic theory

demand

quantity of a good/ service that consumers are willing and able to purchase at various prices during a specific period.

demand curve

A graphical representation of the relationship between the price of a good or service and the quantity demanded by consumers.

law of demand

price ↑= quality demanded ↓

non-price determinants of demand

• income ↑ = quality demanded ↑ (D → D1)

• good preference↑ = quantity demanded ↑ (D → D1)

• price of substitute↑ = quantity demanded↑ (D → D1)

• number of consumers ↑ = quantity demanded ↑ (D→ D1)

• price of complementary goods ↑ = quantity demanded ↓ (D → D2)

supply

amount of a good or service that producers are willing and able to sell at various prices over a specific time period.

supply curve

a graphical representation of the relationship between quantity supplied and price

law of supply

price ↑ = quantity demanded ↑

non price determinants of supply

• subsidies ↑ = supply ↑ (S→ S2)

• new technology ↑ = supply ↑ (S→ S2)

• competitors ↑ = supply ↑ (S→ S2)

• cost of production ↑ = supply ↓ (S→ S1)

• taxes ↑ = supply ↓ (S→ S1)

• weather disaster = supply ↓ (S→ S1)

• opportunity cost of related products ↑ = supply ↓ (S→ S1)

consumer surplus

• difference between the amount the consumer is willing to pay for a product and the price they have actually paid

• benefit gained by the consumer for purchasing the product at a lower price.

producer surplus

• difference between the price producer is willing to sell a product for and the price they actually do

• benefit to producers from selling at a higher price than their minimum acceptable price.

producer and consumer surplus graph

supply ↑ = producer/consumer surplus ↑

demand ↑ = producer/consumer surplus ↑

allocative efficiency/ equilibrium

• resources are distributed in a way that maximizes total societal welfare

• quantity of a good produced is equal to the quantity demanded.

productive efficiency

• at minimum average total cost

• all resources are utilized effectively.

traditional economic theory

Focuses on supply and demand to determine prices and allocation of resources in a market.

• consumer rationality

• utility maximization

• perfect information

limitations of the assumptions of rational consumer choice

• biases

• bounded rationality

• bounded self-control

• bounded selfishness

• imperfect information

forms of biases

• based on experience

• framing ‘20% fat vs 80% fat free’

• anchoring (seller suggest a higher price than the real value)

• availability bias

bounded rationality theory

individuals make decisions based on the limited information available to them, leading to less-than-optimal choices.

bounded self control

the tendency to struggle with making choices that align with long-term goals due to immediate temptations and distractions.

bounded selfishness

the tendency of individuals to prioritize their own interests over the collective good, often leading to suboptimal outcomes for the group.

imperfect information

the situation where all relevant information is not available to consumers or producers, leading to suboptimal decision-making in markets.

types of choice

• default

• restricted

• mandated

nudge theory EAST

using reinforcement and indirect suggestions can influence the motivation and decision-making of individuals.

• E - easy → simplify

• A - attractive → gain people’s attention

• S - social → individuals may be influenced by others doing said thing

• T - timely → identify when people are most responsive

advantages of nudge theory

• cost effective

• preserves freedom of choice

• improves public health

• improves decision making

• improves sustainability

• encourages positive behavior change.