AP Microeconomics Unit Review

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==Unit 1== ==: Introduction to Economics==

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@@1.1 : Scarcity@@

• Economics : study of scarcity and choice
• Individual choice : given scarcity, individuals make decisions about what to do and not to do
• Scarcity : unlimited wants, limited resources (example : land)
• Positive statement : true statement (what is)
• Normative statement : opinionated statement  (what should be)

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@@1.2: Resource Allocation and Economic Systems@@

• Market economy : individual producers and consumers decide what/how/and for whom to produce (limited government intervention)
• Command economy : publicly owned, a central authority will make decisions for production and consumption (has government intervention)
• Property rights : establish ownership and grants individuals the right to trade goods/services with each other
• Resources : anything that can be used to produce something else
• Factors of production :
  • land (natural resources),
  • labor (the effort of workers),
  • capital (all manufactured resources),
  • entrepreneurship (risk taking, innovation, and organization)
• Opportunity cost : value of the next-best alternative that you give up to make another choice
• Microeconomics : individuals/households/firms making decisions and how those decisions interact (ex : college vs. a job)
• Macroeconomics : behavior of the economy as a whole (ex: employment)

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@@1.3: Production Possibilities Curve@@

• Production possibilities curve (PPC) : illustrates the trade-offs that faces an economy, compares only two goods

• Trade-offs : giving up something for something else

• If the PPC is linear, it has a constant opportunity cost, if it is curved, it has increasing opportunity costs

• Economic growth : a sustained rise in aggregate output and an increase in standard of living (causes are developments in technology, or an increase in resources)

• Productive efficiency : lowest cost possible on the PPC

• Allocative efficiency : the economy allocates resources so consumers are well off as possible, producing what is demanded

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@@1.4: Comparative Advantage and Trade@@

• Trade : people split up the work, and provide each other with a good in return for another
• Comparative advantage : lower opportunity cost in the production of a good (you cannot have a comparative advantage in both goods)
• Absolute advantage : higher output

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@@1.5: Cost-Benefit Analysis@@

• Terms of Trade : the rate at which one good can be exchanged for another (if the price of a good obtained from trade is less than the opportunity cost of producing it, trade is beneficial)
• Capital goods: goods that make consumer goods (ex. machinery)
• Consumer goods : goods that are consumed (ex. food)

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@@1.6: Marginal Analysis and Consumer Choice@@

• Utility : the measure of personal satisfaction (util is a unit of utility)
• Marginal utility : the change in total utility by consumer one additional unit of that good/service
• Principle of diminishing marginal utility : additional units of a good/service add less total utility than the previous units do
• Marginal utility per dollar : MUgood/Pgood (marginal utility of one unit of the good / price of one unit of the good)
• Optimal consumption rule : to maximize utility, marginal utility per dollar spend on each good = service in consumption bundle, MUc/Pc = MUt/Pt

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==Unit 2==  ==: Supply and Demand==

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@@2.1: Demand@@

• Demand is downwards sloping

• Law of demand : As price increases, demand decreases, and as price decreases, demand increases

• Movement along the curve : change in price

• Shifters of demand :

  • Tastes,
  • related goods (substitutes + complements),
  • income (normal + inferior goods),
  • (# of) buyers,
  • expectation of future prices
  • (TRIBE)

• Substitution effect : as the price of a good increases, consumers substitute the good with another that is cheaper

• Substitutes : good/service that can be used in place of another, when price of one increases, consumers will buy more of the other (ex. coffee and tea)

• Complements : goods/services that are consumed together (ex. hamburgers and buns)

• Income effect : as income increases, people will buy more of normal goods, and less of inferior goods

• Normal good : increase in demand when consumer’s income increases (ex. oreos)

• Inferior good : increase in demand when consumer’s income decreases (ex. off brand oreos)

  

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@@2.2 : Supply@@

• Supply is upwards sloping

• Law of supply : as price increases, quantity supplied also increases

• Movement along the curve : change in price

• Shifters of supply :

  • input prices,
  • (price of) related goods/services,
  • (producer) expectations
  • , number of producers
  • , technology
  • (I-RENT)

  

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@@2.3: Price Elasticity of Demand@@

• Equation : %∆Qd/%∆P

  • 0 = perfectly elastic,

• Midpoint formula : Qd2-Qd1/(Q2d+Qd1)/2 , replace with Qd with price for price

• Inelastic demand : TR correlates direct with price

• Elastic demand = TR correlates inversely with price

  

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@@2.4: Price Elasticity of Supply@@

• Equation : %∆Qs/%∆P

• 0 = perfectly elastic,

• Inelastic : unable to respond to price change

• Elastic : short run

• Extremely elastic : long run

  

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@@2.5: Other Elasticities@@

• Cross price elasticity of demand : %∆Qd of Good A/%∆P of good B
• negative = compliments, positive = substitutes
• Income elasticity of demand : %∆Qd/%∆income
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1 = income elastic, <1 = income inelastic, negative = inferior, positive = normal

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@@2.6: Market Equilibrium and Consumer and Producer Surplus@@

• Equilibrium : occurs when no one is better off doing something else

• Equilibrium = Qs=Qd

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• Price below the equilibrium is shortage

• Consumer surplus : price consumers are willing to pay - actual price

• Producer surplus : actual price -price the producer is willing to sell for

  

• Demand increase : price and quantity increase

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• Demand decrease : price and quantity decrease

  

• Supply increase : price decreases, quantity increases

  

• Supply decrease : price increases, quantity decreases

  

• Double shift : either price or quantity will be unknown

• Deadweight loss (DWL) : transactions that should occur, but don’t because of government intervention (calculate the area = triangle formula, ½(base x height)

  

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@@2.7: Market Disequilibrium and Changes in Equilibrium + 2.8: The Effects of Government Intervention in Markets@@

• Shortage : Qs < Qd, price is lower than equilibrium

• Surplus : Qs > Qd, price is above equilibrium

• Price floor : minimum price a supplier can charge, price is set above equilibrium (causes shortage)

• Price ceiling : maximum price a supplier can charge, price is set below equilibrium (causes surplus)

  

• Double shift rule : when supply and demand both shift, either price or quantity will be unknown

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• Quota : upper limit of a quantity that can be bought or sold (known as quantity control)

• License : gives an owner the right to supply a good/service

• Demand price : the price at which consumers will demand that quantity

• Supply price : the price at which producers will supply that quantity

• Quota rent : difference between demand price and supply price

  

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@@2.9: International Trade and Public Policy@@

• Tariffs : tax placed on a good that is imported or exported

• Import quota : restriction on the quantity of a good that can be imported

  

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==Unit 3:== ==Production, Cost, and the Perfect Competition Model==

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@@3.1: The Production Function@@

• Production function : relation between the quantity of inputs a firm uses and the quantity of output it produces
• Fixed input : an input whose quantity doesn’t change
• Variable input : an input whose quantity can change
• Long run : time period in which all inputs can be variable
• Short run : time period in which at least 1 input is fixed
• Marginal product : change in overall output when input changes
• Marginal product of labor (MPL) : ∆Q/∆L
• Diminishing marginal returns : as input increases, the output of each input will be less than the previous input
• Output : quantity produced
• Rental rate : price of capital
• Capital : goods that are used to produce goods/services

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@@3.2: Short-Run Production Costs@@

• Fixed cost : cost that doesn’t change with amount of output produced (ex. oven)

• Variable cost : cost that changes with amount of output produced

• Total cost : fixed cost + variable cost

• Marginal cost : cost difference of one additional unit of output (∆TC/∆Q)

• Average fixed cost (AFC) : FC/Q

• Average variable cost (AVC) : VC/Q

• Average total cost (ATC) : TC/Q

  

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@@3.3: Long-Run Production Costs@@

• Long run average total cost (LRATC) : same as short run ATC, but bigger

• Economies of scale : LRATC declines as output increases

• Diseconomies of scale : LRATC increaess as output increases

• Constant returns to scale : output increase directly in proportion to an increase in all inputs (ex. input doubles, output also doubles)

  

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@@3.4: Types of Profit@@

• Economic profit : revenue - explicit cost - implicit cost, or accounting profit - implicit cost
• Accounting profit : revenue - explicit cost
• Implicit cost : not an actual cost, a cost that you could’ve been earning (ex. if you own a restaurant, the implicit cost would be the salary you would have earned as being a chef working in a different restaurant)

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@@3.5: Profit Maximization@@

• MR = MC
• If you cannot have MR=MC, MR>MC

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@@3.6: Firms’ Short-Run Decisions to Produce and Long-Run Decisions to Enter or Exit a Market@@

Short Run:

• Shutdown rule : as long as P > AVC, continue to produce
• If AVC > P : shutdown
• Firms can make profit or losses

Long Run :

• Exit rule : if P < ATC, exit the market
• Firms make normal profit ($0), unless monopoly or oligopoly

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@@3.7: Perfect Competition@@

• Many firms, identical products, low/no barriers to advertisement

• Price takers

• Long run will have normal profit

• Short run can have either profit or loss

  

  

==Unit 4:== ==Imperfect Competition==

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@@4.1: Introduction to Imperfectly Competitive Markets@@

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• Common barriers to entry : control of scarce resources, legal barriers, high startup costs

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@@4.2: Monopoly@@

• Only producer of a good, has no close substitutes

• Downwards sloping demand curve

• Quantity is produced : @ MR = MC

• Price is : MR=MC, up to demand

• Supply curve : where MC > AVC

• Allocatively efficient due to them producing at MR=MC

• Productively inefficient because they don’t produce at the minimum of the ATC

• Natural monopoly : has large fixed costs, and long economies of scale, has downward sloping ATC curve

• Natural monopoly production point : MR=MC

• Government will correct by forcing them to set price : @ ATC=D

  

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@@4.3: Price Discrmination@@

• To be able to price discriminate, you need market power

• Imperfect price discrimination : chargine consumers different prices based on the buyer’s willingness to pay

• Perfect price discrimnation : charges all consumers the maximum they are willing to pay, no deadweight loss, produce @ P=MC

• Example : resellers, coupons, bulk buying (costco), etc.

  

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@@4.4: Monopolistic Competition@@

Characteristics

• Combines features of both a monopoly and perfect competition

• Many sellers and differentiated products

• Will use advertising to make demand more inelastic + differentiate product

• Makes profit in short run, normal profit in long run

• Allocatively inefficient (P does not equal MC)

• Productively inefficient (does not produce @ minimum of ATC, until long run)

• Downwards sloping demand curve

• Produce at MR = MC, price is MR = MC up to demand

  

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Long Run

• Normal profit in long run

• Short run profits will attract new firms to join, which decreases the demand until the demand Curve is tangent to ATC, causing normal profits in long run

• In long run, they produce in region where economies of scales exist, because they produce in declining portion of ATC

  

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@@4.5: Oligopoly and Game Theory@@

Oligopoly Characteristics

• Small number of firms, standard or differentiated product
• Interdependent : all the actions that a firm takes will affect the other firms in the oligopoly (if They ask why the market is an oligopoly, say it’s because they’re interdependent)
• Cartels : a group that agrees to control the price and output of a product (often form in oligopoly)
• Collusion : working together to maximize profit
• Graph is almost identical to monopoly (you will never be asked to draw them)
• Also produce same quantity and price of monopoly

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Game Theory

• Payoff matrix : represents the payoff to each player to show combinations of given strategies

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• Dominant strategy : the strategy that has a better payoff regardless of what strategy the opponent chooses
• Nash equilibrium : point where both players can do no better than the other given the choice of their opponent

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==Unit 5: Factor Markets==

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@@5.1: Introduction of Factor Markets@@

• Derived demand : the demand from a resource is derived by product demand
• Marginal revenue product (MRP) : the additional revenue that is generated by an additional resource/worker
• Marginal factor cost (MFC) : the additional cost of an additional resource/worker
• Least cost rule : marginal product of labor/price of labor = marginal product of capital/price of capital (MPL/PL=MPK/PK)
• Buy more of the one with a higher sum, and less of the one with a smaller sum (to explain, as you increase, diminishing marginal returns kicks in)
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@@5.2: Changes in Factor Demand and Factor Supply@@

• Shifters of demand for labor
  • Change in demand for the product
  • Change in the productivity of the resource
  • Change in price of substitutes and complements
• Shifters of supply for labor
  • # of qualified workers (ex. immigrants)
  • Government regulation
  • Leisure (causes supply to shift to left)

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@@5.3: Profit-Maximizing Behavior in Perfectly Competitive Factor Markets@@

• Market curve : standard supply and demand curve

• Equilibrium wage in the market : establishes the wage that firms will pay workers

• MRP=MRC!!!!

• will not hire if MRC>MRP

  

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@@5.4: Monopsonistic Markets@@

• Many sellers, one buyer
• Monopsonies pay a lower wage and hire less than perfect competition
• MRP=MFC
• MFC > supply
• example of imperfect competition
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==Unit 6: Market Failure and the Role of Government==

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@@6.1: Socially Efficient and Inefficient Market Outcomes@@

• Socially efficiency is when resources are allocated effectively
• MSB=MSC !!
• Allocatively Efficient Points
  • Perfectly competitive market : S=D, MB=MC
  • Perfectly competitive firm : P=MC
  • Perfectly competitive labor market : W=MRP (total economic surplus : MSC=MSB)
• Causes of Market Failure
  • Market power (imperfectly competitive markets)
  • Asymmetric information (lack of info provided by buyers and sellers)
  • Positive and negative externalities
  • Insufficient production of public goods
• Government policies used to get rid of DWL
  • Taxes
  • Subsidies
  • Reguations
  • Public prodivions
• Market failure : exists when firms produce @ MPC=MPC, S=D
• The government tries to get them to produce @ MSC =MSB

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@@6.2: Externalities@@

• Externality : when external cost/benefit is placed on members of society who did not pay for them

• MSB does not equal MSC

• Negative externality : when someone uses a product, it decreases the benefit of others (ex. smoking), MSC > MPC (correct with per unit tax)

  

• Positive externality : when one uses a product, others benefit  (ex. education) MSC < MPC (correct with subsidy)

  

@@6.3: Public and Private Goods@@

• Rivalrous good : if someone consumers a product, others cannot
  • Rivalrous : food, shoes, etc
  • Nonrivalrous : national defense, fireworks, etc
  • Somewhere in middle : schools, roads, etc
• Excludable good : non payers can be prevented from enjoying the benefits
  • Excludable : food, school, etc
  • Nonexcludable : national defense, air, etc
• Public goods : underproduced due to freeloader problem
• Examples : national defense, law enforcement, etc
• Freeloader problem : people can enjoy the benefit of a good/service without paying
• Government will provide subsidies to producers
• Private goods : goods produced by private markets, can be excludable

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@@6.4: The Effects of Government Intervention in Different Market Structures@@

• Causes of inefficient markets

  • Market power
  • Externalities
  • Nonrival and nonexcludable goods (public goods)

• Forms of government intervention

  • Taxes
  • Subsidies
  • Price floors/ceilings
  • Regulation

• Per unit subsidy : gives benefits per unit

  • Perfect competition : MC, ATC, AVC decreases, price doesn’t change (price taker)
  • Monopolistic competition : MC, ATC, price decreases (price maker @ MR=MC)

• Lump sum subsidy : gives benefit no matter how many units

• Taxes will always shift supply curve to the left in long run, profits decrease

• Per unit tax : increase MC, ATC, and AVC

  • Perfect competition : MC, ATC, AVC increases, price doesn’t change (price taker)
  • Monopolistic competition : MC, ATC, price increases (price maker @ MR=MC)

• Lump sum tax : only increase ATC

• won’t change output level

  

• Non price regulation : works like taxes, they ensure competition/environmental protection/health and safety

• Antitrust policy : promote competition and prevents monopolies

• Antitrust laws

  • Lawsuits
  • Price controls
  • Subsidies

• Price ceiling : sets minimum price

  • Perfect competition : causes shortage
  • Monopolistic competition : becomes MR curve, price and output decreases

• Price floor : sets maximum price

  • Perfect competition : leads to surplus
  • Monopsony : wages go up and workers go up

6.5: Inequality

• Income distribution : measures % of income that goes to individuals in different percentiles/brackets
• In a system with perfectly equality : everyone would receive equal shares of income
• Income : wages, rent, interest, profit
• Lorenz curve : measures the distribution of income equality  (you want to be as close of possible to the perfect equality line as possible)
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• Gini coefficient : A/(A+B)
  • Closer to 0, more equality
  • Closer to 1, the more inequality
• Causes of income inequality
  • Supply + demand in labor market
  • Human capital
  • Discrimination
  • Inheritance
  • Bargaining power
  • Etc
• Policies to address inequality
  • Taxes + transfers
  • Minimum wage laws
  • Anti-poverty program
  • Income protection program
  • Scholarships
• Taxes :
  • Proportional : everyone pays the same percentage of their income (no impact on income distribution)
  • Progressive : taxes are higher % on people earning a higher income (reduces income inequality)
  • Regressive : taxes are lower % on people earning a higher income (increases income inequality)

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