Elasticity and Economic Efficiency Concepts

This set of flashcards covers key concepts related to elasticity, consumer and producer surplus, efficiency, externalities, technology in production, and cost structures in economics.

Income elasticity of demand

Measures how the quantity demanded of a good responds to a change in income. Positive but less than 1 for normal necessities, positive and larger than 1 for luxury goods, and negative for inferior goods.

Cross-price elasticity of demand

Measures how the quantity demanded of one good responds to a change in the price of another good. Positive for substitutes, negative for complements, and zero for unrelated goods.

Price elasticity of supply

Measures how the quantity supplied of a good responds to a change in price, with categories including elastic (>1), unit elastic (=1), inelastic (<1), perfectly inelastic (=0), and perfectly elastic (=infinity).

Consumer surplus

The difference between the highest price a consumer is willing to pay for a good and the actual price paid; measures net benefit from participation in a market.

Producer surplus

The difference between the lowest price a firm would be willing to accept for a good and the price it actually receives; measures net benefit received by producers from participation in a market.

Economic efficiency

Achieved when marginal benefit equals marginal cost, maximizing total surplus at market equilibrium.

Deadweight loss

The reduction in economic surplus resulting from a market not being in competitive equilibrium.

Price ceiling

A legally determined maximum price that sellers may charge; affects the market only when set below the equilibrium price.

Price floor

A legally determined minimum price that sellers may receive; affects the market only when set above the equilibrium price.

Tax incidence

The actual division of the burden of tax between buyers and sellers, independent of who is legally responsible for paying the tax.

Externality

A benefit or cost affecting someone not directly involved in the production or consumption of a good or service.

Negative externality

Occurs when external costs are imposed on third parties, leading to overproduction.

Positive externality

Occurs when external benefits are received by third parties, leading to underproduction.

Market failure

A situation where the market fails to produce an efficient level of output, often due to externalities.

Coase Theorem

Suggests that private parties can resolve externalities through bargaining when property rights are assigned and enforceable.

Pigovian taxes

Taxes levied to correct the negative externalities, set equal to the external cost.

Tradable pollution permits

A system allowing firms to buy and sell allowances for pollution emissions, aimed at reducing overall pollution at minimum cost.

Technology

The processes utilized by a firm to transform inputs into outputs of goods and services.

Short run

A period in which at least one of a firm’s inputs is fixed.

Long run

A period where all inputs can be varied and new technology can be adopted.

Marginal cost

The change in total cost from producing one more unit of a good or service.

Average total cost

Total cost divided by the quantity of output produced.

Economies of scale

Long-run average costs falling as output increases due to increased specialization.

Diseconomies of scale

Long-run average costs rising as output increases when a firm becomes too large to manage effectively.

Constant returns to scale

A situation in which long-run average costs remain unchanged as output increases.