buss1040

What is economics

Economics is the study of choice under scarcity
* Scarcity is faced by consumers businesses, goveernemnt, countrie setc

Define scarcity

Scarcity \-- resources are limited so that not all wants and needs can be met. Under scarcity individuals must make hoices e.g. what to produce and in waht quantities, how to produce, who should get what is made, where to produce

What is opportunity ost and its equation

Due to scarcity, any choice involves a trade off or opportunity cost

Opportunity costg - the value of the sacrified alternative when a choice is made i.e. the value fo the best alternative forgone

Opportunity cost \= implicit + explicit cost
* explicit \-- costs involving direct payment i.e. costs considered by an accountant
* implicit \-- opportunities that are foregone that do not invovle an explicit cost

This does not include unrecoverable or sunk costs i.e. costs that have been incurred and cannot be recovered no matter what

What is marginal analysis, what it encompasses and why does it exist

Economic agents seek to maximise the benefit of any economic transaction

Economic agents ca solve this maximisation problem by consideraing the addtional benefit or cost of any action i.e. marginal analysis

Marginal benefit \-- the additional benefit from consuming an extra unit of something

Marginal unit \-- the additional cost incurred through buying one or more unit of something


Marginal benefit \> marginal cost \= better to do the activity

What is ceretis paribus

Many things chane at the same time e.g prices, income, tastes etc

Ceretis paribus is isolating the impact of one factor holding everything else constant

* Used in double entry bookkeeping where each transaction is recorded in 2 individual accounts in one separate account (debit and credit)
* Set of financial records using double entry bookkeeping

Define land, labour, capital and entrepreneurship

Land \-- any natural resource provided by nature

Labour \-- mental and physical capacity of workers to produce goods and services

Capital \-- physical plants, machinery and equipment used to produce goods and services. Includes financial capital: the money used to purchase physical capital

Entrepreneurship
The ability of individuals to seek profits by combining resources to produce innovative products

Constraints on indiviudlas and economies are caused by...

Resources e.g. land, labour, capital and entrepreneurship

Technology

What are the gains from exchange

The basic tenant of economics is that trade makes people better off. Through specialisation in production based on comparative advantage extra gains are possible

Gains from exchange \-- helps allocate goods to those who value them. This is improvements income, production and satisfaction owing to the exchange of goods or services

Voluntary trade and pareto improving

Trade can only occur if the seller's valuation of the item doesn't exceed the buyer's valuation. If the trade is voluntary, the seller will not accept a price lower than his valuation and the buyer will not accept a price higher than their valuation

Pareto improving is when both agents are better off
* the exchange is voluntary
* Whether the Pareto improving trade is weak or strong depends on the valuations of each of the parties
* How much individuals benefit will depend on the terms under which trade occurs. A higher price sums the seller and a lower price the buyer

What is gains from specialisation and how can we understnad this graphically

Trade allows people to take advantage of gains from specialisation

Because of resource limitation we face trade offs in terms of what can be produced. We use the PPF to understand this

A country's PPF shows all the possible combinations of goods and services they can produce given its resoures and current state of technology

How to determine efficiency from PPF, what does the slope and shape mean

Any point below the curve is inefficient

Any pont above the curve is unattainable given its current state of technology and resources

Any poiknt on the liine is attainable and the most efficient

SLOPE
* the slope of the PPF measures the opportunity cost of producinga n extra unit of that good in terms of the other for a particular point on the frontier. This depends on the country's productive resources (labour, capital, land) and the current state of technology

SHAPE
* A linear PPF \-- constant opportunity cost i.e. the factors are homogenous
* concave PPF \-- increasing OC i.e. the more of X means the more of Y that needs to be given up
* changes in the shape of teh PPF can only be caused by a change of resources or the state of technology e.g. if one of these improves which improves the production of both the resources then this shifts the curve out however if it only boosts the production in one of them, the shift outwards from the origin in the axis of the resource that is improved
* a complete circular shape quarter means infinite resurces

What is absolute vs comparative advantage

Absolute \-- A has AA if it can produce a greater number of that good than B

Comparative \-- A has AC over B if the OC of producing that good is lower than B's OC of producing the same good

how does trade, OC and specialisation relate

Comparative advantage (differences in opportunity cost of production) create gains from specialiksation and trade. They specailise in the good in whcih they have a comparative advantage
* the total output will increase because trade allows parties to specialise in the good in whcih the have a lower OC
* trade creates an environment for specialisation to be feasible
* the increase in output can be shared so as to make everyone better off than without trade
* THIS PRINCIPLE HOLDS EVEN IF ONE PARTY HAS AA IN THE PRODUCTION OF BOTH GOODS. What matters is OC or CA

Meaning of market, microeconomics, macroeconomics

Market \-- a palce where buyers and sellers of a particular good or service meet

MICRO
Deals with individual households, firms, industries and markets

Focuses on:
* Relative prices
* Allocation of output, employment etc


MACRO
Deals with the economy as a whole, including both the financial and real sides

Focuses on:
* The overall price level
* Aggregate i.e. total output
* Aggregate employment
* Unemployment
* Interest rates and exchange rates

What is factors of production

Economic term that describes the inputs used in the production of goods and services in order to make an economic profit e.g. land, labour, capital and entrepreneurship

Define economic profit and its variables TR and TC

Firms aim to maximise profits where profit \= eonomic profit

Economic profit may differ from accounting profit where accounting profit \= revenue - explicit costs

Economic profits \= revenue - OC

π \= TR - TC
* Total revenue is the amount a firm receives for the sale of is outputs (P x Q)


Total cost
* Total cost is the amount the firm pays to buy the inputs of producetion and the value of the foregone opportunities \= total OC of producing goods and services

OC includes
* explicit costs that are not sunk i.e. direct payments for inputs or factors of production
* implicit costs i.e. value of foregone opportunities e.g. forgone wages, interest earings

Explain long and short run costs of production and why they exist

A firms uses the availabel technology to convert inputs (labour, machinery i.e. capital, natural resources usually land) in the production of goods and services into outputs that are sold in the market plac

A firm will usuallly require more than one input to produce its final input

Thus we use short run and long run of a firm in relation to whether or not the factors of production are fixed
* An input is fixed if it cannot be changed regardless of the output produced


The short run and long run is not defined in relation to a set period of tme but rather in relation to how long it takes for all of the firm's inputs to become variable which wil differ between industries


SHORT RUN
* the period fo time durign which at least one of the factors of production is fixed e.g. the sizde of a fatory may not be able to change

LONG RUN
* All the factors of productino are varfiable i.e. not fixed. Therefroe whent he firm's lease of the factory ends the firm is free to decide whether or not to renew the lease for that factor

What is a production function and why does it exist

A firm requires inputs or factors of production (labour, capital, land etc) in order to produce its final output i.e goods and services

A production function shows the relationship between the quantity of the inputs used and the maximum quantity of output produced given the state of technology

Production function and the short run and example

Once we have a production function we might be interest in how the output changes when we change the quantity of only one of the inputs

MARGINAL PRODUCT
* the marginal produce is the change in output when one more inupt is used
* the slope of the production function is the marginal product i..e differentiate the production function to find the marginal product. E.g. say as if the PF is given by q \= f(L) where q is quantity for a given quantity of labour. When we differentiate then MP \= ∂q/∂L

Note:
* we can differentiate hte MP again. if it is positive then it is increasing marginal product. if it is negative then diminishing marginal product

Diminishing MP
* this is when the MP is becoming progressivel smaller. Whne it is increasing amrginal product is when MP is becoming larger
* diminshing MP is very common because one of the inputs is fixed therefore there is a capacity constraint e.g. the more and more workers you put in the factory the less and less each worker is able to contribute to the output.
* this means that the diminishing MP is a short run concept as it relies on the idea that one of the inputs is fixed. E.g. initially when you increase labour they have a lot of space to do produtive work however if too many are added, the more crowed the space becomes as they do ont have enough space to odo productive work

What is the law of diminishing returns and how does it relate to the AVC curve

The law of diminishing returns states that in all productive processes, adding more of one factor of production, while holding all others constant ("ceteris paribus"), will at some point yield lower incremental per-unit returns. The law of diminishing returns does not imply that adding more of a factor will decrease the total production, a condition known as negative returns, though in fact this is common.



Relates to the average variable cost function. Initially with the AVC curve where the output is 0, everything is fixed. When you start to produce more output, the average costs drop (high cost/many goods \= low average cost) due to e.g. division of labour and specialisation. at some point, adding an additional factor of production results in smaller increases in output and thus the average variable costs will increase

There are bound to be some inputs which cannot be increased indefinitely, at least in the short run. When output is high, shortages of these restrict the efficiency with which such inputs as can be varied contribute to more output. Thus at high levels of output marginal costs tend to be high, leading to increasing average costs.

Describe production in the long run in terms of returns to scale

If you allow all the inputs in the production process to be variable then we are in the long run
* wwe are interested in how the quantity of the output changes when we change the quantity of all the factors of production

production function in the LR: q \= f(L,K)

RETURNS TO SCALE
* this refers to how the quantity of the output changes if we proportionally change the quanityt of inputs
* constant returns to scale means taht the quantity of the output increases by the same proportional changes in inputs e..g a double in all inputs doubles output
* increasing returns to scale means that the output quantities increase by more than the proportional increase in al the inputs
* decreasing returns to scale is if the output increases by less than the proportional icnrease in all inputs

N.B. it is possible that a firm has diminishing MP in the short run and still have increasing returns to scale in the long run

What is the cost function and how does it relate to the production?

Describe what the cost function looks like in relation to short run costs

The cost function is an equation that links the quantity of the output produced to the production costs e.g. TC \= f(q) where TC represents the total cost and q represents the quantity of output
* There is a one-to-one relationship between the production function and the cost function — they 'tell the same story' i.e. two sides of the same coin


* When the output is 0 the total cost is position. This is because in the short run some factors of production are fixed and must be paid for
* The total cost curve rises as the output increases. This is because more inputs are recevied
* the total cost curve rises at an increasing rate due to diminishing MP i.e. more inputs are required to increase outputs by the same amount

Fixed and variable costs in the cost function

In the short run some inputs are fixed and some inputs will be variable. This means a firmw ill have some fixed and variable costs

Fixed \-- costs that do not vary with the output. When output is 0 all the costs are fixed

Varaibles \-- costs that vary with output. All costs that are not fixed are variable

VC \= TC - FC
Therefore FC \= TC when q \= 0
TC \= VC + FC

Slope and shape of the cost function

DEFINE marginal costs

SLOPE AND MARGINAL COSTS

Sometimes a firm is interested in the marginal cost i..el its incrfease in total cost when one more unit of output
* the marginal cost is the slope of the cost functino thus you can take the first derivative of the total cost function with respect to the quantity (q)

MC \= ∂TC/∂q \= ∂VC/∂q

THE SHAPE
* due to the diminishing MP a MC curve wil eventually be increasing in output i.e. positive slope
* thus diminishing MP implies increasing MC

Describe average fixed cost, average variable cost, average total cost and marginal cost, and why the graph has the shapes that it does

A firm may also be interested in the abverage costs per unit

AVERGAE FIXED COST - this is the fixed cost per unit of output
* it is always downward sloping. This is because the more quantity of output, it means the same amount of fixed costs is being spread over a larger quantity of items thus the avg cost per unit is smaller
* AFC \= FC/q

AVERAGE VARIABLE COST \-- variable cost per unit of output
* because of diminishing marginal product the AVC curve will eventually be upward sloping
* it declines initially (i.e. average costs decrease) because as you produce more outputs, the average cost per unit will drop because you are making more units of production (high costs/many costs \= less costs per unit). This is from INTERNAL ECONOMIES
* However by the law of diminishing returns it will start to increase. The law states that at some point, the additional cost incurred to produce one more unit is greater than the additional revenue (or returns) received. At that point, the AVC starts to increase.
\---- the short run cost curve at first falls as increasing marginal returns are enjoyed (from specialisation and division of labour) but then there comes a point when the increased variable factor results in rising costs because productivity is hampered.

AVC \= VC/q

AVERAGE TOTAL COST \-- total cost per unit output
ATC \= TC/q \= AFC + AVC

This means the shape of the average total cost is affected by AFC and AVC
* At low levels of output the ATC is in decline because the AFC dominates AVC but the at higher levels of output it is upward sloping because the increasing AVC dominate
* together this will give the ATC a U shape i.e. intially decreasing but eventually increasing with output


MC
* the marginal costs curve cuts botht eh AVC and ATC at their minimum points
* it is u shaped becuase of diminishing MP. Initially it decreases because the cost of producing one more output decreases as you add more factor of production. But because of the law of diminishing returns where the increase of one unit of input yields a smaller output, the marginal costs increase
* marginal costs increase because of diminishing marginal product
* this is because when MC \> ATC \-- ATC increases, when MC < ATC then ATC falls/decreases and when ATC \= MC, the ATC is at its minimum

Should long run costs be greater or lower than short run and why

Since all the factors are variable in the long run:
* All costs are varaible
* no fixed coss if the firm doesnt want to produce anything its costs will be 0
* the firm can alter its plant capacity or capital
* A firm producing a positive output has more flexibility to adjust all of its inputs so long run costs should not be more than short run costs for a given . level of output
* in the long run the firm will choose the most efficinet method and the cheapest combination of all of the inputs

What is long run marginal costs and compare it to short run marginal coss

The long run MC cannot be greater than the short sun MC
* long run marginal cost is the cost of producing one more unit of output
* it must take into account the fact that all the inputs can be varied to achieve this increase
* thus the long run MC will not be more than the short run MC

For example, suppose the most cost-effective way for a car manufacturer to increase its output is to buy more machinery, but in the short run only labour is variable. Therefore, if the car manufacturer wishes to increase output in the short run, it must hire more workers; however, in the long run, it can buy more machinery, which gives a lower marginal cost in the long run than in the short run

Describe the long run average cost curve and why its shape is the way it is

* The long run ATC shows the lowest per unit cost at which any output can be produced after the firm has had time to make all appropriate adjustments in its plant size
* Depending on the output, firm adjust its plant size and achieve the lowest per unit cost, AND FOR EACH PLANT CAPACITY SIZE, THERE IS A SHORT RUN ATC CURVE AND THERE WILL BE A MINIMUM
* Given the firm's extra flexibility in the long run, long run average cost can be no greater than short run average cost
* As a result of this the long run average cost curve will be the lower envelope of all of the short run average cost curves
* In the graph below the red ones are the short run ATC curves. The blue line is the average long run costs which touches the minimums of all of these curves

* It is u shaped because of the returns to scale. Initially it decreases because the economies of scale is higher (thus lower average costs). The economies of scale is higher because for producing higher levels fo output (this can be for any of the reasons for economies of scale). At a certain point , the average costs increase because of diseconomies of scale (the diseconomies of scale can arise from one of the many factors). This is because the increase in inputs necessary for higher outputs will become e.g. inefficient or more difficult to manage and thus higher costs
* The long run average cost is linear (straight line across) if there is constant returns to scale
* If it is saucer shaped (the one down down below), it means that initially there was economies of scale and then for a large period of time it experienced constant returns to scale before hitting diseconimies of scale

What is economies, diseconomies and constant returns to scale and waht are their causes

ECONOMIES OF SCALE \-- when long run average costs decrease with outptu
* these are the cost advantages a business obtains due to expansion
* they are factors that cause a producer's long run average per unit cost to fall as production increases
* it is the portion on the IRAC curve when LRA is decreasing
As a firm doubles the input (cost of inputs are double), output more than doubles


It arises from:
1. Labour specialisation
* firms producing at a large scale employ a large number of works to allow the firm to practice specialisation by splitting jobs into smaller tasks
* these individual tasks are assigned to separate workers
* in this way workers spend all their work time on the part they know the best and it allows them to perfect their skills

2. Managerial specialisation
* firms might be able to lower avergae costs by improving the management structure within the firm
* the firm might hire better skilled or more experienced managers

3. Efficient capital
* the most efficient machines and equipment are based on cutting edge technology and have high production capacity
* firms with large scale production can afford such equipment and benefit from their full capacity
* at full utilisation such machinery or equipment activities lower production cost per unit
* firms having small scale production either cannot afford such equipment or cannot utilise such machinery to its full capacity

4. Bulk buying product
* with greater buying power a large firm can purchase its factor inputs in bulk at discounted prices
* they can buy more from suppliers at a lower price

Constant returns to scale: ATC constant as plant size increases. Here, if we double all inputs outputs would exactly double hence atc is constant

DISECONOMIES OF SCALE
This is when long run average cost increases with output

Formal definition:
* As the firm increases its scale of output, the long run average costs will increase. Diseconomies of scale is the forces that cause larger firms to produce goods . and services at increased per unit cost

Reasons:
* duplication of efforts \-- when firms grow to thousands of workers it is inevitable that someone or even a team will work on a project that is being handled by some other person or team
* top heavy companies - the more employees a firm has the larger the percentage of the workforce will be management. If the manager does nothing other than manage the workers under them then the productivity of the firm will reduce
* inertia \-- unwillingness to change because 'we've always done it this way'
* cannibalisation \-- a firm only competes with other firms, but larger firms often find their own products are competing against each other
* inelasticity of supply \-- when a compnay is heavily dependent on its resurce supply they will have troble increasing production e.g. a timber comany cannot increase production above the sustainable harvest rate of its land

CONSTANT RETURNS TO SCALE
* when long term average costs are constant as output expands

Relationship between returns to scale and economies of scale

There is a direct relationship between returns to scale and economies of scale
* economies of scale reflect the relationship between the output and costs
* returns to scale represents the relationship between input and output (i.e. __definition fo returns to scale)
* the relationship airses as the production function (inputs and outs) is a mirror image of the cost function (relationship between costs and output)
* when a firm experiences increasing returns to scale i.e. increasing inputs proportionally leads to a more than proportional increase in outputs, it experiences economies of scale or falling average cost of production
* when they increase a decreasing returns to scale i.e. increasing inputs proportionally leads to a less than proportional increase in outputs, it experiences diseconomies of scale or increasing avergae cost of production
* When a firm experiences constant returns to scale (increasing inputs proportionally leads to a proportional increase in outputs) it experiences neither \__ of scale. i.e. taverna cost of production is constant
* Typically firm has regions where it exhibits each of these

What is firms upply

* costs is used to derive a firms supply function and market supply function
* we focus on competitive markets where there are many buyers and suppliers such that no individual buyer or sell has the power to materially affect the price in the market
* as a consequence both selers and buyers in the market are price takers

Meaning of supply

Supply is the number of units of goods or services firms are willing and abel to produce and sell during a period at a particular price

What is the supply curve

The supply curve traces out all combvinations of market price and quantities a firm is willing and able to sell


It is drawn by changing the output of price holding everything else constant (ceteris paribus) and seeing how many units of output a firm is willing and able to sell

What is competitive supply price and marginal revenue and how should a firm use these to determine how much to sell i.e. competitve pricing

COMPETITIVE SUPPLY PRICE \-- this measures the opportunity cost of each marginal unit i.e. the marginal cost. For each additional unit produced the opportunity cost of producing that unit is the marginal cost of producing that unit

MARGINAL REVENUE \-- this is the revenue gained by producing one additional output. The marginal revenue for each unit that the firm sells is the price P where MR \= P in a competitive market. Rememeber, a competitive firm is a price taker, it cannot affect market price. This means price is unchanged regardless as to how much an individual firm sells

If a firm is selling in a quantity where P \> MC (marginal cost) for the last unit sold and this holds true for one additional unit, the firm can icnrease profits by making mroe units. This is because the additional revenue from selling that unit outweights the marginal costs

Likewise, if a firm is producing for P < MC for the last unit made, the firm can increase profits by not selling that unit. This is because the last unit cost the firm more to produce the the price that the firm received for it; therefore the firm lowered its profit by producing at unit


this shows how a firm should sell an extra unit if P \> MC but one fewer if P < MC, thus THE FIRM SHOULD SELL UP TO P \= MC

I.E. THEY WILL MAXIMISE PROFIT IF THEY SELL AT A PRICE WHERE THE MARGINAL COSTS \= MARGINAL REVENUE

What is the law of supply

When there is a positive relationship between the price of a good and the quantity supplied all else constant. If the price increases then it is worth it i.e. more profitable to divert resources to produce more

Th relatively higher price will compensate for the increased opportunity costs of producing more

How do you find the individual supply curve for a firm in the competitive market?

Relate the rule to find this to the law of supply

Since the firm should sell up to P \= MC, in a Price vs Quantity graph, the firm's supply curve is given by its marginal costs curve
* this is because in a competitive market, the buyers are price takers. Since the supply curve maps out MARKET price vs quantity, and a firm should sell up to P\=MC, then the supply curve is given by its marginal costs curve

The marginal costs curve is upward sloping due diminishing margina products

Since the firm's supply curve is given by the MC curve, this gives a positive relationship between the price of the good and the quantity of the good supplied aka the law of supply


As MC is often increasing, the quantity supplied in the market is higher when the price is higher as P\=MC (and the quantity/supply is given by the MC curve)

A movemenet along the supply curve when the output rpices changes is called the change in the quantity demanded

What is the change in quantity supplied vs chagne in supply in terms fo the supply curve

A firms supply curve is derived by assuming that only the price and the quantity supplied of the product can change, and we asume that all other factors other than the price and the quantity of the supplied product are held constant (ceteris paribus)

If the price of the good iteself changes, this is just the change in QUANTITY SUPPLIED. Thus, there is a movement ALONG the curve

If another determinant of the supply chnages, then there is a SHIFT in supply i.e. change in supply. There is either an INCREASE IN SUPPLY or a DECREASE IN SUPPLY which moves the curve left or right
This will be caused such as changes in inputs, technology and expectations about the future

What does the supply of the good depend on

* the price of the good
* the price of other goods:
- substitutes in supply goods \-- substitutes in production are 2 or more goods that are produced using the same resources. Producing one good prevents sellers from using the resources to produce the other. Produce one or the other but not both
- compliments in supply goods \-- compliments in productions are 2 or more goods taht are jointly produced using a given resource. The production of one good automatically triggers the production of the other e.g. beef and leather
* price of intermediate inputs e.g. coffee beans in coffee
* prices of factors of production in labour, land, capital, technology, expected future prices and number of suppliers

Change in quantity supplied vs change in supply in the curve

If the price of the good itself changes then there is a movement along its upply curve and change in quantity supplied i.e. moves up and across CALLED CHANGE IN SUPPLY

If another determinant of supply changes then there is a shift of the supply (left or right to indicate a decrease or increase in supply respectively) i.e. change in quantity supplied

What causes supply to increase or decrease

Supply increases if:
* price of substitutes (Pss) in supply decreases (Pss down)
* price of complimenets in supply incrase (Pcs up)
* price of intermediate inputs decreases (Pi down)
* Wage or rental rate decreases
* technology improves
* expected future prices decrease (Pe down)
* Number of suppliers increase

Supplies decrease if:
* price of substitutes in supply increase
* price of compliments in supply decrease
* price of intermediate inputs increases
* wage or rent rate increases
* technology doesn't improve
* future expected price increases
* number of suppliers decrease

What is market supply curve

Given that an individual firm's supply curve is given by its marginal costs curve, we have derive the market supply curve

The market supply curve is the curve showing the quantity supplied in a market for different market prices holding everythign else constant

Graphically the market supply curve is the horizontal summation of the individual supply curves i.e. That is, the individual MC curves summed horizontally along the q-axis.

Is economies of scale long or short run and why

Economies of scale is a long run concept because in the long run, all of the inputs are variable therefore the firm has the opportunity to find cost advantages

What does capital entail

Plant, machinery and equipment used to produce goods and service

Define marginal cost

Marginal cost is the opportunity cost of producing one more output

What is the market system and what are the building blocks of a market

The market is the basic coordinating mechanism of a pure capitalist economy

So the market is a mechanism or arrangement that brings the buyers and the sellers of goods and service in contact with one another

Changes in price are important signals. For consumers, it is to increase or reduce their expenditure, and for producers its to divert more or less resources to various activities

The building blocks of supply and demand are the market. The first describes the behaviour of the sellers (firms) and the latter describes the behaviours of the consumers. Together, equilirbium provides insight on the nature of interaction between the buyer and the suppliers

demand + supply --\> market equilibrium

In consumer behaviour, what are the consumers trying to maximise

In economics we examine consumer behaviour assuming each consumer tries to maximise their well being or benefit he or she gets from consuming goods and services subject to their budget constraints

In competitive markets, consumers and buyer are price takers, they do not affect the price in the market

What is the willingness to pay

A consumer derives some benefit from consuming a particular good or service. The benefit a consumer gets is also known as their willingness to pay

The maximum price a consuemr is willing to pay for a good is equal to the benefit they anticipate from getting in that item in terms fo monetary terms

What is total vs marginal benefit

Total benefit is the sum of the marginal benefit. Consumer surplus is a measure of the net benefit consumer gains from consuming a certain amount of good (i.e. the difference between what the consumer is willing to pay and what they actually paid)

Marginal benefit \-- this is the maximum amount a consumer is willing to pay for an additional good or service.

How can you find marginal benefit and what is diminishign marginal benefit

We can find the marginal benefit by differentiating the total benefit function with respect to the quantity

The extra benefit a consumer gets from consuming an additional good or service decreases the more they consume

This is known as diminishign amrginal benefit.

When the consumer buys many units of a good, it is typical to have a continuous (smooth) marginal benefit curve

Define demand

Demand is the number of units of a good or service that a consumer is willing and able to purchase during a period under a given set of conditions
* quantity demanded of a good/service is the amoutn that consumers are willing and able to buy in a given period at a particualr price
* if a person demands something, they want it, cant afford it and have made a definite plan to buy it

Individual vs market demand summary

An individual's demand curve is given by his marginal benefit curve. We can use this to derive a market demand curve

The market demand curve traces out all combinations of a) market price and b) quantities that the consuemrs in a market are togehter willing and able to buy

A demand curve answers the question, "if a consumer faces a certain price, what would the quantity they buy be?" for a range of possible prices

Waht is individual demand and how does the law of demand relate to it

We can use an individual's marginal benefit curve to find their individual demand curve

Indiviudal demand is the quantity of a good or service a consumer is willing to and able to buy at a certain price

Hence, and individual demand curve traces out all combinations fo market price and individual demand holding everything else constant i.e. ceteris paribus


The law of the demand: the higher the price of the good, the less quanitty the conusmer will consume. This negative relationship between quantity and price is known as the law of demand

How does individual demand relate to marginal benefit

The maximum price a consumer will and is able for a good or service (WTP) is equal to the marginal benefit they anticipate they will get from the item in terms of monetary terms

A consumer will purchase units of a good up until the point where P\=MB where P is market price
* if P < MB, then the consumer should purchase another unit because their willingness to pay exceeds the price
* if P \> MB then the consumer should not purchase the additional unit
* given diminishing marginal benefit, the consumer should purchase up until P \= MB

Describe the individual demand curve in terms of the shape.

A demand curve represents how much a consumer is willing to pay and abel to buy at different prices

THE SHAPE
* due to the rule that P\=MB, a consumers individual demand curve will be the marginal benefit curve
* due to diminishing marginal benefit the curve is downward sloping
* the law of demand arises as a result of the diminishing marginal benefit

How does a change in quantity demanded vs change in demand affect the demand curve

CHANGE IN QUANTITY DEMANDED
* if there is a change in price/quantity then there will be a movement along the curve which is known as the change in quanitty demanded
* if there is a movement down the curve this is called an increase in the quantity demanded
* if there is a movement upward along the curve this is called a decrease in the quantity demanded


CHANGE IN DEMAND
* The demand curve is dervied assuming that only price and quantity can change holding all else constant (ceteris paribus) for that good itself. These held constant factors include tastes and expectations, income and the price of other related goods
* if any of these factors change then the whole demand curve will shift in or out
* if the curve shifts right this is called an increase in demand
* if it is left, this is called a decrease in demand

What causes an increase and decrease in demand

SHIFTS OF THE CURVE NOT ALONG!!

The demand increases if:
* price of the substitutes increase (ps)
* price of the compliments decrease (pc)
* income increases and the good is normal e.g. clothes, shoes, whole foods (y)
* income decreases and the good is inferior e.g. instant noodles, canned food (y)
* preferences for the good increases (z)
* expected future prices increases (pe up)
* population increases (n up)

The demand decreases if (opposite)
* price of subs decreases
* price of comp increases
* income decreases and the good is normal e.g. clothes, whoel foods, shoes
* income increases and the good is inferior e.g. instant noodles
* expected future prices decreases)
* population decreases
* preference for the good decreases

Describe the factors that influence change in demand

ALL OF THESE FACTORS SHOULD SHIFT THE CURVE INWARD OR OUTWARD

1. INCOME
* when a consumers income increases the demand for many goods increase. For example, demand for normal goods increase e.g. clothes, shoes etc. Demand for inferior goods decrease because they can afford more expensive and desirable alternatives
* when a consumer income decreases, demand falls for these goods. However, for inferior goods such as instant noodles, it will increase

2. RELATED GOODS
* substitute goods \-- these are goods that have similar purposes e.g. laptops for tablets, apples for bananas. For these goods, if the price of the substitute good increases, then the demand for the other good increases
* complements \-- these are goods that are used together e.g. apps and phones, hot dogs for hot dog buns. If the price of the complements increase then the demand for the good will decrease

3. TASTES
* tastes and fashion will affect the demand of the good
* when the product is heavily marketed or becomes trendy then the demand for the good increases and thus the demand curve shifts outward
* seasonal varation


4. POPULATION
* when demographics change, the demand changes
* for example, the older the population, the more demand there is for healthcare services

5. EXPECTED FUTURE PRICES
* when consumers expect the price to fall, we wait e.g. a sale is coming. Thus, demand falls
* if we expect the price to increase e.g. a new tax, then the demand will decrease

Law of demand in relation to the market demand

The law of demand also holds for the market demand curve

If the law of the demand curve holds for all individual demand curves, then it will hold for the market demand curve which is the horizontal summation of the individual demand curve

We can also use the term change in quantity demanded to refer to movements along the market demand curve, and the term change in demand to refer to a shift of the market demand curve itself

How do you find the market demand curve and what happens when for 2 individual demand curves with differnece price intercepts (y intercepts)

The market demand curve is given by the horizontal summmations of the quantity demanded in the individual demand curves holding everything else constant

If the 2 individual demand curves have different P intercepts, then for the range in which curve Y is above curve X to where the P of curve Y is the same as the P intercept of Y, the market demand will be that of curve X. However, below this piont the quantity demanded by the market will be the sum of both fo the curves

What is equilibrium and how does supply and demand relate to this

Equilibrium in a market occurs when the price balances the buying plans of buyers and the selling plans fo sellers i.e. the quantity demanded equals the quantity supplied

The price at which this occurs is called the market clearing price or the equilibrium price

If a market is not in equilibrium there will be a pressure on price and quanitty to move towards the quilibrium price and the equilibrium quantity

Describe what happens if the market price is above equilibrium price

If the market price is above the equilibrium price this means that the quantity supplied exceeds the quantity demanded. This difference is called the excess supply

Sellers cannot find buyers for all their units supplied in the market. Thus, there will be a downward pressure on the price as sellers try to bring in more consumers into the market. At the same time, the quantity supplied will fall in response to the decrease in prices. Due to the decrease in pricde, the quantity demanded will increase

The downward pressure on the prices will continue until the excess supply is eliminated, moving the market towards equilirbiu,

The quantity supplied decreases and the quantity of demand increases until they are equal and in equilibrium

Describe what happens when the market price is below the equilibrium price

When the quantity demanded exceeds the quantity supplied, this is an excess in demand i.e. the sellers cannot produce enough units to meet the customer demand

Thus, there will be an upward pressure on the prices as buyers compete for limited units in the market; this increase in prices will increase the quantity supplied and also decrease the quantity demanded

This upward pressure on the prices continues until the excess of demand is eliminated, moving the market to equilirbium

The quantity supplied increases and the quantity demanded decreases until they are equal in equilibrium

What is comparative static analysis and why does it occur? How do you carry it out

Markets can be affected by a change or an event beyond the control of buyers and sellers in the markets

In such cases, we may want to analyse how this change or event will affect the choices of the firms and consumers in the market and how those choices affect the market outcome

This type of analysis is called comparative static analysis and involves an examination of how the market equilibria is affected by the cahnge or event i.e. a comparison of the old and new market equilibria

HOW TO DEAL WITH IT
1. Assume that the market in question is initially in equilibrium
2. Ascertain whether the change or event will affect the demand or supply curve of the market or both
3. Use the demand and supply diagram to compare prices and quantities traded in the market before and after the change

What is welfare

Markets is one of the main ways that goods and services are distributed

Consumers and firms will only contribute in the markets if it is beneficial to them

We can measure and observe the changes in these benefits to the participants using welfare analysis

One way to measure the welfare of consumers and producers is to look at their benefit when consuming and selling the goods and services

What is consumer surplus and how do we measure it? How does it affect the demand curve e.g. the change in CS when there is a decrease in price

Consumer surplus is the welfare a consumer receives from buying units of goods or services in a market

We can measure consumer surplus by evaluating the value of the good or service as how the consumer perceives it i.e. the consumer surplus is given by their willingness to pay minus the price they actually paid for each unit bought

CS \= WTP - Market price

DEMAND CURVE
* recall that the individual demand curve traces out the marginal benefit or wtp of a consumer
* an individuals CS is given by calculating the area between the price they paid and the individual demand curve
* similarly, we can find the cs of all of the consumers by calculating the area between the price and market demadn curve
* this measures how much the consumer gains from consuming the good or service and therefore the welfare of the buyers

If there is a decrease in price i.e. the price moves downward along the curve:
* the difference between the marginal benefit (remember that the marginal benefit is equal to WTP) and the price is now larger, icnreasing the net benefit from consuming each units of these goods
* the lower price means taht more units are purchased (thus increase in quantity), generating greater benefit to the consumer (thus larger area)

What is producer surplus and which curve does it relate to? Provide an example when there is an increase in price

how does PS realte to profit

Producer surplus is the amount the producers receive above the minimum price required to make them supply the good
* it meaures how much they gain from selling goods in the market, hence can be interpreted as the welfare of the producers
* prodcuer suplus can be seen as the net beenfit of selling a good or service in the market. Thus it can be calculated as the AMOUNT PRODUCER RECIVES - COST OF PRODUCTION for each unit of the god or service bought

THE PS RELATES TO THE SUPPLY CURVE
* recall that a firm's supply curve is given by their marginal cost curve
* a firm's producer surplus can be found by calculating the area between the price line they sold and the firm's supply curve for al units produced or up to the quantity they produced
Similarly we can find the PS of all producers in the market by calculating the area between the price line and the market supply curve


Example with an increase in price
* when the market price increases from P1 to P2, this increase in the price will mean there is an increase in the net benefit of sleling units at that price than the previous
* the increase can be attributed to the extra sale of additional units


NOTE: PS is related to profit but not equal to and this is becauase of fixed costs
* producer surplus only minuses VARIABLE COSTS FROM REVENUES, whislt profit is from BOTH variable and fixed i.e.
PS \= TR - TVC
π \= TR - TVC - TFC
* thus the PS is always greater than the profit
PS \= profit + TFC

What is total welfare

TS \= CS + PS
We can also find the total welfare for al the particpants in the market

With only consumers and producers in the market, Toal surplus is the sum of consumer surplus and producer surplus in the market equilibrium

What are the characteristics of the competitve market in relation to surplus

Via the price mechanism, it allocates goods to the consumers who value them most highly

Via the price mechanism, it alloates demands for goods to sellers who produce them for the least cost

A competitive market maximises total surplus and thus is pareto efficient. It follows that a person who can dictate the price and quantity of a good traded in the market cannot achieve an outcome that is more efficient than the free competitive market

What is pareto efficiency and how does it relate to the competitive market

Pareto efficiecny allow sus to analyse welfare further

An otucome is pareto efficient if it is not possible to make someone better off without making someone else worse off. Conversely, an outcome is not Pareto efficient if it is possible to reallocate reosurces (or do things differently in the market) and make someone better off wihtout making someone worse off

I.e. it maximises total surplus

The competitive market maximises the total gains from trade hence it is Pareto efficient. It is not possible to change the level of output (up or down) and make at least one person better off without making anyone worse off


IN THE COMPETITIVE MARKET
* the out come in a competitive market is pareto efficient
* for all trades up to the competitve market equilibrium given by Q*, MB ≥ MC
* hence the consumers WTP is more than the extra cost required to make them
* trading all units until Q* increases total surplus as it increases CS, PS or both
\-- if fewer than Q* are traded, this outcome is not pareto efficient as the MB \> MC. This means it is possible to increase the number of units traded in order to make the consumer and/or producer better off without making someone worse off
\-- if more than Q* are traded, MC \> MB. All units traded beyond the equilibrium makes someone worse off, either the buyer buys for a price that is greater than the MB or the seller receives a price which is lower than the marginal costs to produce that unit. Therefore, the total surplus wil decrease

In the competitve market equilibrium, all potential gains from trade are exhausted
* there are no consumers left in the market with a WTP higher than the sellers MC to produce an additional unit
* this pricing mechanism ensures that the people with the highest value for the good or service end up with the good and the sellers with the lowest costs are the one who make the good ie. they have a MC lower than market price
* this maximises total surplus and thusis pareto efficient

N.B.
* Pareto efficiency ahs a very strict and specialised defintion
* It does not imply either uniqueness or fairness/equity
* It is possible that there are more than one outcomes n an economy that are Pareto efficient
* Further an outcome that is Pareto efficient is not automatically the most fair or equitable or even most desirable

What is elasticity and why do we have it? Write the formula

Elasticity measures how responsive one variable (y) is to changes in anotehr variable (x) ceteris paribus i..e when we increase x by a certain amount with y change by a big or small amount

e \= %∆Y/%∆X
* the larger the value of e, the more responsive y is to the change in x and vice versa

To calculate proportional change we divide the change by the variable itself
e \= %∆Y/Y /%∆X/X

Why we have this
* we are often interested in measuring how the change in one variable affects the other however one issue wiht measuring quantitive changes is that different markets have idfferent units of measurements
* thus elasticity allows us to compare quantative changes across different situations by looking at proportion or percentage changes

What are the 2 methods in measuring elasticity and how do they work

POINT METHOD
* point methdo measures the elasticity on a specific point of the demand curve

e \= (∆q/q)/(∆p/p) \= dq/dP x P/q

* we use this method when we are interested in elasticity around the particular outcome
* this method is usually used when the changes between 2 points is likely to be very small (responsiveness of quantity demanded to an infinitesimal price change)


ARC (midpoint) elasticity method
* this method measures the elasticity over a region in the demand curve. It measures the percentage change between the average price and the average quantity
* For example, suppose the price of the good changes from P0 to P1 which causes the quantity demanded to change from Q0 to Q1
* Here, it is unclear whether we should measure the change in price or quantity as a percentage of P0 or P1 (or Q0 or Q1)
* The midpoint method solves this as it calculates the proportional change using the average i.e midpoint of P and Q or the variables of interest


The formula where Pm is the midpoint of the prices and qm is the midpoint of the quantities:

e d \= (∆q/q m) / (∆P / Pm ) \= dq/dp * Pm/qm

What is elasticity of demand (price and regular)

The elasticity of demand is a measure of the responsiveness of quantity demanded when one of its determinants x is changed ceteris paribus

e d \= %∆Qd/%∆X

(following is when x is price )

How do you interpret the values you get from the elastiicty of demand

GIVEN THE LAW OF DEMAND THE ELASTICITY OF DEMAND WILL NORMALLY BE NEGATIVE OR NON POSITIVE
e d \= 0 \-- perfectly inelastic
* for a 1 percent change in price, the responsiveness of quantity demanded is 0 i.e. no change in quantity demanded
* %∆Qd \= 0
* the curve is vertical
* e.g. emergency services


-1 < e d < 0 \-- inelasitc
* for a 1 percent change in price, there is a less than one percent change in the quantity demanded
* %∆Qd < %∆P
* the curve is very steep
* e.g. necessities like food and water

e d \= -1 \-- unitary elastic
* for a 1 percent change in price, the change in quantity demanded is 1 percent i.e. proportional change
* %∆Q \= %∆P
* the curve is a rectangular hyperbola

e d < -1 - elastic
* for a 1 percent change in price, there is a more than 1 percent change in quantity demanded i.e. it is very responsive
* e.g. luxury goods like holidays and branded bags
* curve is less steep than an elastic curve
* %∆Q \> %∆P

e d \= -inf \-- perfectly inelastic
* for a smlal increase in price, the quantity demanded will drop to 0
* if a firm raises its prices at all, the customers will go elsewhere to buy the product
* the demand curve is horizontal
* e.g. a particular stock in the stockmarket

Does going along a linear demand curve vary in elasticity? Why or why not?

* elasticity depends on the slope fo the curve i.e. ∆Q/∆P AND the reference point in which you calculate the elasticity e.g. when the price is low and the quantity demanded is high, a given change in quantity is a smaller proportional change
* thus, when you move along the demand curve the elasticity will change
* even though the slope of the curve is constant, the elasticity varies because the proportional change in quantity demanded and price varies depending on the size of quantity or price at a particular point
* for every LINEAR demand curve there is:
- a inelastic point \-- this is when the quantity is high and the price is low i.e. quantity demanded is not very responsive to a change in price. This is on the rhs bottom half of the curve
- a unit elastic point \-- this is when the midpoint of the demand curve
- an elastic piont \-- this is when the quantity is relatively low and the price is high (lhs of the cruve). the quantity demanded is very responsive to a change in price

!!! The price elasticity fo demand ranges from 0 (when it cuts the Q axis) to -inf at the P axis

What is the purpose of understanding the price elasticity of demand

It is useful to have an understanding of the responsiveness of quantity in a change in demand as:
* businesses may be interested in the effect of a price change on quantity sold, revenue and profits e.g. the price of milk
* governments might want to know how consumer or firm behaviour changes when a specific policy is put in place e.g. carbon tax, a chaange in the prie of public transport

Describe what happens when:

You increase supply with a high elasticity of demand

You increase supply with a low elasticity of demand

* understanding this concept facilitates comparative statics
* using the price elasticity of demand we can evaluate the expected effect on price and quantity from a change in supply
* we can measure the diretion and amounts of effect and its effect on revenue


INCREASE IN SUPPLY WITH A HIGH PRICE OF ELASTICITY OF DEMAND (increase in supply meaning the supply curve shifts left)
* the effect of an increase in supply on a elastic demand curve is a large decrease in quantity for a small increase in price that results from the supply curve
* i.e. the supply curve will shift to the left on a price vs quantity DEMANDED graph (SHIFT not along) from a small change in price

INCREASE IN SUPPLY WITH A LOW PRICE OF ELASTICITY OF DEMAND
* the effect of an increase in supply on an inelastic demand curve is a small decrease in quantity for a large increase in price that results from the supply curve shifting

Describe elasticity and revenue and the function

From the elasticity of demand, we can determine how revenue in the market will change as the price changes

From the demand curve, the quantity demanded in the market q depends on the market price P. This means we can write quantity demanded as a function of the price q(P)

TR(P) \= P * q(P)

Differentiating this equation with respect to P we can determine how the total revenue changes in response to a small change in price

dTR/dP \= q + Pxdq/dP
\= q(1 + dq/dP)
\= q(1 + e d)

What is the relationship between price elasticity of demand and change in total revenue

Describe the changes in TR in relation to the elasticity of demand when:
the price decreases and quantity demanded increases

the price increases and the quantity demanded decreases

dTR/dP \= q + Pxdq/dP
\= q(1 + dq/dP)
\= q(1 + e d)

This equation provides a direct link between the price elasticity fo demand and the change in total revenue

In relation to the price elasticity curve:
* on the elastic part of the demand curve, the price needs to be lowered to increase TR because if the TR will fall when the market price increases
* on the inelastic part of the demand curve, the price needs to be increased because an increased to increase TR. The demand is inelastic i.e. when the market pric increases, the TR increases
* thus total revenue is maximised when the demand is unit elastic in the middle fo the demand curve


SCENRIOS
Since TR \= p x q
* if price decreases, then quantity demanded increases. Thus:
- if the demand is elastic (e d < -1), then the TR will increase
- if the demand is unitary (e p \= 1), then the TR is constant
- if the demand is inelastic (-1 < e p < 0), then the TR will decrease

* if p increases, then quantity demanded decreases. Thus:
- if the demand is elastic, then the TR will decrease
- if the demand is unit, then the TR will be constant
- if the demand is inelastic, then the TR will increase


The intuition for the result is:
* TR fall overall: if the demand is elastic, then a 1 perctn increase in price will cause a more than one percent decrease in quantity demandd. This means that the increase in P is more than offset by the decrease in quantity demanded, causing TR to fall overall
* if TR increases overall: if the demand is inelastic, then the 1 percent increase in price will cause quantity demanded to fall but by less than 1 percent. Since the increase in the price of P outwieghs the decrease in quantity demanded, this causes the total revenue to increase

Describe income elasticity, its formulas and how it works

Income elasticity η meausurs how sensitive the quantity demanded of a good Q is to a change in income Y ceteris paribus

MIDPOINT FORMULA
η \= ∆Q/Qm / ∆Y/Ym

POINT ELASTICITY FORMULA
η \= ∆Q/Q / ∆Y/Y
\= dQ/dY x Y/Q

CHARACTERISATION OF THE GOODS
We characterise the good depending on its income elasticity
* inferior good: if η < 0 \= quantity demand decreases when income rises e.g. consumers may substitue away from inferior cuts of meat as their income rises
* neutral: if η \= 0, demand is invariant to income
* normal: if 0 < η ≤ 1 \= income rises by 1 percent then the demand for the good increases by less than one percent e.g. food
* luxury: η \> 1 \= when income rises by 1 percent, demand for the good increases by more than one percent e.g caviar and sports cars

What is cross price elasticity, its formulas and how it works

Cross price elasticity measures how sensitive the quantity demanded of the a good responds to a change in a price of another good B i.e. the relation between the quantity demanded of one good and the price of a related good

POINT METHOD
e ab \= ∆Qa/Qa / ∆Pb/Pb \= dQa/dPb x Pb/Qa


MIDPOINT
∆Qa/Qa m / ∆Pb/Pb m

CHARACTERISATION OF THE GOOD
* complements - when eAB < 0 \= increase in the price of good B is associated with a fall of the quantity deamnded of good A at any given price of A e.g. hotdogs and hot dog buns

* perfect complements - when eAB -\> -inf \= goods which only provide utiity or happiness when they are consumed togehter

* substitute - if eAb \> 0 \= an increase in the price of good B is associated with a rise in the quantity demanded of Good A at any given price of good A e.g. tea and coffee


* perfect substitutes: eAB -\> inf \= goods which are viewed s identical e.g. good from 2 different mines

* indepednent : eAB \= 0 -\> an increase in the price of Good B is not associated with a change in the quantity demanded of Good A at any given price of A

What is elasticity of supply, its formulas and interpretation of the curve

Elasticity of supply measures how sensitive the quantity supplied of a good is to a change in price P

POINT
e s \= ∆q/qs / ∆P/p \= dqs/dp x P/qs

MIDPOINT
e s \= ∆q/qs m / ∆P/Pm \= ∆q/∆P x Pm/qs m

CURVES
0 < e s < 1 \= inelastic
* for a 1 percent change in price there is less than 1 percent change in quantity supplied. Not that responsive to a price change


e s \= 1 \= supply is unit elastic
* for a 1 percent change in price there is a 1 percent change in quantity supplied i.e. same proportion

e s \> 1 \= elastic
* for a 1 percent change in price there is a more than 1 percent change in the quantity supplied. Quite responsive

e s \= 0 -\> perfectly inelastic
* for a 1 percent change in price there is no change in the quantity supplied. The supply curve is vertical

e s \= inf \= perfectly elastic
* for a 1 percent change in price, the quantity supplied will drop to 0. That means if the price of the good falls below a certain price the firms will stop supplyign that good. the supply curve is vertical

What are the characteristics of a perfect competition

Many buyers and sellers \-- the buyers and sellers are a very small part of the market

Homogenous product - consumers are indiffferent to who they purchase from as all firms have the same technology

Price taker \-- no indiviudal buyer or seller has sufficinet market power to influence market prices i.e. everyone is a price taker

Free entry and exit i..e low barriers to entry \-- firms can freely (costlessly) enter and exit the market in the long run

What is the shut down decision of a short sup supply curve under perfect competition


UNDER PERFECT COMPETITION, describe the short run:
* supply curve
* market supply
* profit and loss

THE SHUT DOWN RULL FOR A COMPETITVE FIRM:
P < AVC min

A FIRM WILL SUPPLY POSITIVE QUANTITY IF:
P ≥ AVC

* at least one of the firms factors of production is fixed
* its plant size is usually a given and cannot be altered. Since the firm has a fixed cost of production regardless of the output, the number of the firms in the industry is fixed. In deciding the level of output the firm will ignore the fixed costs as they are sunk and only take into account the variable costs (equation below)
* if a firm produces output, then its supply curve is given by its marginal cost curve
* if they decide not to i.e. q \=0, then the firm shuts down
* this shut down will occur if TR < VC
* to find the shut down formula we divide this by q:
TR/q < VC/q \=\> p < AVC
* if the price falls below AVC then it goes into shut down however if it decides to have positive output it chooses the level of output depeending on its supply curve i.e. the MC curve (remmebr they produce until P \= MC)
* since the MC curve intersects with the AVC at its minimum point, the shut down rule is :
P < AVC min
positive output: P ≥ AVC min

SUPPLY CURVE
* the firms short run supply curve is the MC curve above the min AVC


MARKET SUPPLY
* in the short run there is no exit or entry of firms in the PC
* a firm is prevented from exiting the market due to fixed costs as some inputs are variable
* they cannot enter in the short
* thus, the number of firms in the market in the short run .is fixed
* thus the short run market supply curve results from the horizontal summations of the individual supply curve


PROFIT AND LOSS
* in the PC, it is possible for firms to make profits, break even or incur some losses

\> Profit in the short run
Market supply curve:
* a firm in a perfectly competitive market making a profit at the market equilibrium price must have the rule: P* \> ATC*

Firm supply curve:
* for π \> 0, then TR \> TC or (divide through by q) P \> ATC
* size of profit \= (p* - ATC*) x q*

\> Losses in the short run
* Market supply curve: A firm in a perfectly competitve market making a loss at the market equilibrium price: P* < ATC*

Firm supply curve:
* π < 0 --\> TR < TC OR P < ATC
* the size of the loss \= (ATC* - p*) * q*
* a firm will continue to sell in the short run when making a loss provided that P \> AVC
* the firm is better off selling than shutting down because the extra revenue (in excess of its vc) may help pay some of the fixed costs

What is the break even rule in the short run and draw it on the graph

The shut down rule is when the P < AVC min HOWEVER

The break even rule is when AR\=ATC OR TR\=TC

Break even is when the firm is making neither profit or loss

In perfect compeittion and supply in the long run, what is the xit/entry decision and how does it affect the long ru supply curve in the perfect competition
Profit and loss

Since long run, the firm can change the zie of its plants, all the inputs can be varied and firms can enter and exit the industry, thus the number of firms is varibale
* there is free entry and exit of a firm in the long run market ebcause all of the inputs are variable
* this means that all costs are OC (no sunk costs)
* hence a firm deciding its level of output in the long run will take into account the costs of all inputs
* a firm will enter or exit the market depending on tis anticipated level of profit and loss
* the market will reach its long run equilirbium when there is no longer any entry or exit from the market, which occurs when they make 0 economic profits (TR - impliciti - explicit costs)

EXIT CONDITOIN
P < ATC min
* a firm will choose to exit the market if the total revenue is less than the total costs i.e. the profits are less than 0

ENTRY CONDITION
P \> ATC min i.e. if the π \> 0
* a firm will enter the market if the the economic profits are greater than 0

THUS, a firms long run supply curve is the section of its long run MC that lies above the long run ATC minimum
* it is not AVC because in the long run, there is no fixed costs incurred so it is free to enter or exit


ELIMINATION OF PROFITS AND LOSSES
In the long run the firms can enter or exit depending on whether they are going to make a profit or a loss

Potential profits induces entry
* when the firms in th market are profitable (P \> ATC min), firms will want to enter the market because there is profit
* as firms enter this results in an icnreas ein supply shifting the short run market supply curve to the right
* this drives the equilibrium prices down (look at intersection witht he demand curve)

Losses induces exit
* when the market price is below the ATC, P

Describe long run equilibrium in PC

Because of the free exit and entry of firms, the prices decrease when it is above the ATC and decrease when it is below ATC

Thus because the firm supply curve cuts the ATC at its minimum, the long run market price will be p \= ATC min (look at elimination of profit and loss as to why this is the case)

IN a perfectly competiitve market, since P \= ATC min, firms make 0 economic profit
* this means no firm exits or enters because there is no incentive \-- the profits only make enough to just cover the OC

Describe the different cost industry market structures in the long run under PC

Constant Cost Industry
Summary and main points:
* The long run industry supply curve in a constant cost industry: a perfectly elastic horizontal line at P* \= ATCmin
* The long run supply curve is perfectly elastic at ATC min because the market responds to demand via the entry/exit of the firm + price adjusts back to ATCmin in the long run regardless of quantity traded in the market. This ensures firms earn 0 economic profit
* Assumption: A constant cost industry holds if it assumes that all firms have access to the same technology and have the same cost structure. The cost structure does not change as the industry grows


How it works:
Say as if the demand were to increase for whatever reason from D1 to D2
* In the short run:
* Market supply curve: this will shift the market demand curve to the right whilst the market supply curve remains the same. This sets a new equilibrium price and thus a new quantity to be traded from q* to q1 and earn positive economic profits
* Firm supply curve: Since firms should produce up until MC \= MR and there is a higher MR revenue curve as a result of increase demand, they produce at a higher quantity too. The economic profit is the shaded area below
* In the long run:
* Because of positive economic profits and how firms are free to enter and exit the market in the PC market, firms have the incentive to enter the market
* Note: it is the upwards sloping short run market supply curve that shifts when firms enter and exit the market. This shifting is what affects the market price and thus the economic profit level
* This will shift the short run market supply curve from S1 to S2
* Now, the new market price is determined by the intersection between S2 and D2 in the short run market supply curve
* Here, the market price has dropped
* This process of entry and dropping market prices continues until there is no incentive to enter the market i.e. 0 economic profit
* The prices are now forced back down to p*\=ATCmin and each firm sells at q* again
* Note: the market quantity has increased even though the firm quantity is the same
* Thus, the long run supply curve in a constant cost industry of a PC market. Is a horizontal line where P*\=ATCmin





Increasing cost industry
Summary and main points:
* The long run supply curve in an increasing cost industry of a PC market has an equilibrium at P \> ATCmin
* This is an upward sloping curve that is not perfectly elastic
* In this industry firms can earn positive economic profit
* Usually results from increase in production costs as more companies compete

How it works
* While the constant cost industry curve is perfectly elastic, the long run industry supply curve is not always perfectly elastic which can be due to a few reasons:
* If potential entrants have higher costs than incumbents e.g. in the mining industry existing mines usually have more mineral despotic that potential entrants
* Some resources used in production may be available in limited quantities thus costs for all firms rise as more firms enter the market
* Because of these higher production costs, the cost structure for all firms changes (in constant cost industry the cost structure is the same across all firms)

Say as if the demand were to increase then:
* In the short run:
* Firm supply curve:
* More firms will enter the market as a response to an increase in demand because there is the opportunity for positive economic profit
* As more firms enter, the production costs increase because of limited resources
* This will cause the ATC for firms to increase and thus the MC will shift upwards to MC2
* Thus, firms will increase their prices from P1 to P2 and increase their output from q1 to q2
* Market supply curve
* More firms will jump into the market as a response to the increase in price and demand because they can make positive economic profit. This will shift the market supply curve to the right (S1 to S2)
* This will change the market equilibrium price


* In the long run
* Firms will continue to enter the market until the next potential entrant does not anticipate making positive economic profit i.e. P* Because potential entrants have higher input/production costs than exisiting market participants price doesn't fall to ATCmin to prevent entry and the new long run equilirbium occurs at a higher price
* Thus, the long run equilibrium is at P\>ATCmin
* The industry produces more output but only at a higher price needed to compensate for the increase in input costs




Decreasing cost structure
Summary:
* The long run supply curve is downward sloping in a decreasing cost structure with equilibrium at P < ATCmin
* This results because expansion an industry can use lower production costs and resource prices. This driving of price down can be from because the key resource is able to take advantage of economies of scale and thus decrease ATC in production and supply

How it works
Say as if there is an increase in demand
* In the short run:
* Firm supply curve: The firm's ATC shifts downward and thus so does it MC. The firm is now able to sell at a larger quantity but at a lower cost
* Market supply curve: the market supply curve moves to the right as a response to the increase in supply however the market price falls
* In the long run
* With this lower price and lower AC of production this induces a new long run equilibrium with more firms a lower price and more output
* Entry continues until it is no longer profitable
* This results in a long run supply curve that is downward sloping where the new long run equilibrium price is lower than the initial equilibrium price

What is a monopoly and its characteristics

A monopoly is an industry comprised of a single firm
* this is no close substitute to their products
* they are protected from competition by some barrier to entry which prevents or inhibits entry of other firms

In the absence of close competition, a monopolist has market power i.e. the ability to affect price

CHARACTERISTICS
Market with a single seller
* the market is a monopoly and the seller is the monopolist. One seller but many buyers

Price maker
* because the monopolist is the only firm in the market, it has the market power to determine the price in the market i.e. the price maker
* in PC the firms are price takers

Barriers to entry by potential entrants
* this is the cost incurred by new entrants taht incumbents do not bear
* the barriers to entry can be natural or legal constraints that protects the firm from potential competitors


BARRIERS
Legal
* exclusive rights over the goods produciton e.g. patents or copy right,
* examples such as public franchise (Australia Post), government licenses (taxis, practice of medicine)

Natural barriers to entry
* this is exclusive control over essential inputs not available to othe firms e.g. BHP and natural gas fields
* the monopolist may just have lower cost of production which allows them to prevent other firms from entering the market e.g. favourable access to raw materials, favourable geographical location, learning curve advantage
* technoloyg/level of demand

What is a natural monopoly and when does it usually occur

A natural monopoly arises from a situation where the single firm can supply the entire market at a lower cost of production than 2 or more firms could supply the market e.g the telecommunications industry, electricyt transmission, tap water provision

WHY DOES IT OCCUR?
Declining long run average cost implies a natural monopoly
This is because as output increases, the average cost of production increases and thus the monopolist can supply the entire market at a lower cost than 2 individual firms supplying 2 of each

Why?
* a natural monopoly arises because the industry has high fixed costs but relatively low marginal costs
* the monopoly usually has substantial economies of scale which makes them the more efficient producer
* may also arise due to e.g. patents, regulations, sole owner of essential input

What is market power in terms of a monopolist

Market power means they have the ability to affect price. Thus, in a monopoly where the industyr is only comprised of a single firm, the monopolist has market power

A monopolist will use its market power to charge higher prices in order to increase its profits

Describe elasticity of demand for individual firms and monopolist firm

The demand for the monopolist is the market demand. The monopolist faces a downward sloping demand curve and thus P\>MR
* downward sloping demand curve, profit max (MR \= MC) implies restricting the quantity traded below the efficient level i.e. P \> MC, as well as increasing profits, which has implications on overall welfare. There is potential for market failure i.e. DWL

INDIVIDUAL FIRMS
* they are price takers \-- a competitive firm has to take the price as determined in the market i.e. the price taker. This is because they have no market power
* perfectly elastic demand \-- individual firms face a horizontal demand curve i.e. perfectly elastic demand
demand \= avergae revenue \= marginal revenue


FIRM WITH MARKET POWER
* they are price makers \-- a monopolist is a price maker because they have market power
* low price elasticity of demand \-- when a firm has low elasticity fo demand it means they can change the price and not lose all of its customers. Market power captures the idea that if the firm raises it prices above the level that would exist in a perfectly competitive industry and not lose all of its customers

Identify the 2 types of pricing strategies for monopolies

There are 2 pricing strategies
* single price monopolist \-- this is a firm that must sell each unit of output for the same price. Monopolist chooses the quantity and thus the price to maximise its profits

* price discrimination \-- this is the practice of selling different units of a good or service for different prices. Monopolists sets a variety fo prices to maximise profits e.g. haircuts, movies and roll prices

What is a single price monpolist

A single price monopolist is when a firm must sell each unit of output for the same price. The monopolist chooses the quantity and thus must choose the price to maximise profit


As the monopolist is the sole producer, it faces all of the demand in the market
* the market demand curve is downward sloping
* market power \-- the firm has market power or monopoly power. it can raise the price and not have the quantity demanded drop to 0
* since they have market power they are the price maker i.e. they choose the price and thus the quantity outputted


* a monopolist can alter the price in the market by changing q
- if it produces more the price for all units fall
- if they produce less then the price for all units rise
- this causes a trade off for the monopolist \-- sell less q for higher price or sell more q for lower price

Describe the single price monopolist, its demand (and supply?) curve and its marginal revenue

DETERMINING THE PRICE
Recall that the marginal revenue is the additional revenue you earn from selling one extra unit of the good

There is no supply curve for the monopolist as the supply curve is only applicable to competitive curves. This is because the curve is derived assuming that the firm is the price taker and therefore you cannot apply demand-supply framework to determine the price that the monopolist will charge

Instead, the monopolists price will be determined by looking at its marginal revenue curve and seeing where profit maximisation occurs

What effects MR for the monopolist?
Because the monpolist faces a downward sloping demand curve, if it decreases output by one unit the price will fall by some amount. In other words, there are 2 effects:
* output effect \-- as you sell more units you gain additional revenue for the extra units you sell
* price effect \-- as you sell more units the price falls and you lose revenue on the existing units sold

From this we can deduce that for a monopolist, the MR is not the same as the market price as in PC, but instead:
MR < P

* Note, there is no price effect for a competitive firm, only an output effect
* For a competitive firm, price is invariant to the quantity it sells: MR \= P \= AR is constant for any q supplied



DERIVING MR FROM MONOPOLISTS DEMAND CURVE
* MR is the change in total revenue when the firm sells one more unit
* you can obtain MR by differentiating the TR with respect to q


if P \= a-bq (the demand D curve, where P is price and q is the quantity demanded)
and P \= MR, then TR\=P(q)*q \= (a-bq)*q\=(aq-bq^2)
Differentiate TR:
MR \= a - 2bq (i.e. 2 times the gradient of the demand curve)

The MR curve and the demand curve when D is a straight line

* MR curve has the same vertical intercept as the demand curve
* the MR curve is linear and has 2 times the slope of the demand curve. The MR curve has a slope of -2b whereas the demand curve has a slope of -b

Describe monopoly and profit maximisation

Using marginal revenue we can determine the profit maximising price and quantity

Profits will be maximised when a monopolist sells marginal revenue equal to marginal costs

MR \= MC

Why
* first method:
- if MR \> MC then the monopolist can increase its revenue by selling that additional unit
- if MR < MC then profit falls from selling that additional unit therefore they are better off by not selling that additional unit

* second method
- π \= TR - TC. To maximise profit, take the first derivative and make it 0
dπ/dQ \= dTR/dQ - dTC/dQ \= MR-MC \= 0

Rearranging this gives us the profit maximising condition
MR \= MC

For a competitive firm: P \= MR \= MC

For a monopolist: P \> MR \= MC
This means that for a single price monopoly, P \> MC at the optimal quantity supplied (while competitive firms produce until P \= MC)

Show how to find the total profit for a monopoly on a graph

Draw ATC, MC, MR and demand curve


Find where MR\=MC and extend that point to the demand curve

The demand curve shows the price the consumers are willing to pay for each unit and thus the price that the monopolist charges in the market. This is going to be Pm and the quantity is Qm

To find hte profit:
π \= TR-TC
\= (TR/q - TC/q)*q
\= (AR - ATC)*q
\= (P - ATC) * q
where (P - ATC) is the profit per unit sold

Note: it is possible to make a loss even at a profit maximising price where Pm < ATCm

What is a socially efficient level of output and does a monopoly do so? Why or why not?

SOCIALLY EFFICIENT LEVEL OF OUTPUT
* this is where the marginal value/benefit to the consumer MB equals the production MC
MB \= MC: All the gains from trade are exhausted

Welfare (total surplus) maximum, competitive market output Q*

Monopolist produces where MR \= MC (not MB \= MC)
* using its market power, a monopolist can create a wedge, like a tax, between a consumers willingness to way and the producer's costs
* a dead weight loss results

Welfare in a monopoly vs competiton

A socially efficient level of output Q* is found where the demand curve intersects MC curve
At this point the marginal cost to the firm equals the marginal value to the buyer i.e. MC \= MB

WELFARE IN PERFECT COMPETITION
There is maximum welfare in perfect competition
* recall that in producer surplus the consumer surplus is the difference between the willlingness to pay and the P* for all the units up to Q*, and the producuer surplus is the difference between the price received and the cost to produce that unit MC for all units up to Q*

WELFARE IN MONOPOLY
* the efficient quantity is not produced in a monopoly. The efficient quantity in the market is where MB\=MC i.e. where the demand and supply curve meet.

Why
* this is because in a monopoly we use a firm's marginal revenue to determine the monopoly price as opposed to the equilirbium price. We also need to rememeber that the quantity traded in a monopoly is not the equilibrium quantity, so all the untraded units beyond the monopoly quantity output i.e. Qm has no surplus yielded. Thus the area of the producer surplus is the truncated area at Qm and is larger than the consumer surplus

Define deadweight loss and why does it occur

Dead weight loss is the loss of welfare form the over production or under production compared to the competitive market outcome

Monopoly cause deadweight loss because it reduces output from the socially efficient level, not because it earns profit per se

Another cause of deadweight loss besides the one down below is due to the monopolist's rent seeking behaviour e.g. bribging politicians to maintain government monopoly


WHY DOES IT OCCUR
In terms of price
* because in the monopoly they charge a higher price, this causes a transfer of consumer surplus into producer
* since TS \= CS + PS, there is lower TS in mono compared to PC

In terms of quantity
* by charging the higher price, this means that the monopoly restricts the output to below Q* to Qm i.e. below the fficeint quantity
* this reduction in the quantity means that the gains from trade between Q* and Qm are not realised and thus there is a loss of welfare for the units not produced

How it affects TS
* note, that MB \> MC in the production of these units. This means TS would increase if these units were produced however they are not
* this is because the monopolist is not concerned with total surplus but moreso profit maximisation. Thus, instead of stopping at MB \= MC they stop at MR \= MC
* since the MR < MB i.e. lies below MB in the demand curve for every unit sold except the very first, this means that MB \> MC for the profit maximising output for the monopolist
* this ensures QM < Q* for the monpolist, resulting in deadweight loss
* this makes the monopoly inefficient because it does not maximise total surplus
Note: the deadweight loss is not because the monopoly converts the lost CS to PS but mores because this conversion is not perfect and some surplus is lost int he process. By charging the higher price they restrict output to the level below the efficient level and it is this decrease in output that causes the deadweight loss

Compare the perfect competition to the monopoly

PC
- firms are price takers
- firms produce where P \= MC
- P \= MC \= MR
- no barriers to entry
- no economic profits in long run
- maximises welfare in the market

MONOPOLY
- firms influence price (price maker)
- firms produce where MR \= MC
- P \> MC; P \> MR
- barriers to entry
- restricts output, charges a higher price and can earn economic profit
- creates deadweight loss in the market