Ap econ

Unit 1: Basic Economic Concepts

Scarcity and Choice
- Scarcity: Unlimited wants meet limited resources.
- Economics: Study of how societies manage scarce resources to satisfy unlimited wants.
- Opportunity Cost: The value of the next best alternative given up when making a choice.
Production Possibilities Curve (PPC)
- Illustrates trade-offs, opportunity cost, efficiency, unemployment, and economic growth.
- Points on the curve: Efficient production.
- Points inside the curve: Inefficient (unemployment or underutilization of resources).
- Points outside the curve: Unattainable (without economic growth).
- Bowed out PPC: Increasing opportunity cost (resources are not perfectly adaptable).
- Straight PPC: Constant opportunity cost (resources are easily adaptable).
Absolute and Comparative Advantage
- Absolute Advantage: Ability to produce more of a good with the same amount of resources or the same amount of good with fewer resources.
- Comparative Advantage: Ability to produce a good at a lower opportunity cost. This is the basis for mutually beneficial trade.
- Terms of Trade: The mutually beneficial exchange rate between two goods that allows both parties to gain from trade.
Economic Systems
- Command Economy: Government makes all economic decisions.
- Market Economy: Individuals and firms make decisions based on supply and demand, driven by self-interest.
- Mixed Economy: A blend of command and market elements, with private ownership and government intervention.

Unit 2: Supply and Demand

Demand
- Law of Demand: Inverse relationship between price and quantity demanded ( $P \uparrow \implies Q_D \downarrow$ ).
- Determinants of Demand (Shifters):
  - Tastes and Preferences
  - Number of Consumers
  - Income (Normal Goods vs. Inferior Goods)
  - Price of Related Goods (Substitutes vs. Complements)
  - Consumer Expectations
- Change in Quantity Demanded: Movement along the demand curve due to a change in price.
- Change in Demand: Shift of the entire curve due to a change in one or more determinants.
Supply
- Law of Supply: Direct relationship between price and quantity supplied ( $P \uparrow \implies Q_S \uparrow$ ).
- Determinants of Supply (Shifters):
  - Prices of Resources/Inputs
  - Number of Producers/Sellers
  - Technology
  - Government Action (Taxes, Subsidies, Regulations)
  - Producer Expectations
- Change in Quantity Supplied: Movement along the supply curve due to a change in price.
- Change in Supply: Shift of the entire curve due to a change in one or more determinants.
Market Equilibrium
- The point where quantity demanded equals quantity supplied ( $Q<em>D = Q</em>S$ ) at the equilibrium price and quantity.
- Shortage: Occurs when QD > QS (price below equilibrium). Drives prices up.
- Surplus: Occurs when QS > QD (price above equilibrium). Drives prices down.
Elasticity
- Price Elasticity of Demand ( $PED$ ): Measures the responsiveness of quantity demanded to a price change.
  - Formula: $PED = \frac{\%\Delta Q_D}{\%\Delta P}$
  - |PED| > 1: Elastic (consumers are highly responsive to price changes).
  - |PED| < 1: Inelastic (consumers are not very responsive to price changes).
  - $|PED| = 1$ : Unit Elastic.
- Total Revenue Test: If price and total revenue move in opposite directions, demand is elastic; if they move in the same direction, demand is inelastic.
- Cross-Price Elasticity of Demand ( $CPED$ ): Measures the responsiveness of $Q_D$ of good A to a price change of good B.
  - CPED > 0: Substitutes (e.g., Coke and Pepsi).
  - CPED < 0: Complements (e.g., cars and gasoline).
- Income Elasticity of Demand ( $YED$ ): Measures the responsiveness of $Q_D$ to an income change.
  - YED > 0: Normal Good.
  - YED < 0: Inferior Good.
- Price Elasticity of Supply ( $PES$ ): Measures the responsiveness of quantity supplied to a price change.
  - PES > 1: Elastic.
  - PES < 1: Inelastic.
Government Intervention
- Price Ceiling: A maximum legal price (set below equilibrium, causes a shortage).
- Price Floor: A minimum legal price (set above equilibrium, causes a surplus).
- Taxes: Shift the supply curve left (decrease quantity, increase price for consumers, decrease price for producers).
- Subsidies: Shift the supply curve right (increase quantity, decrease price for consumers, increase price for producers).

Unit 3: Production, Costs, and Perfect Competition

Production and Costs
- Short Run: A period where at least one input (e.g., capital) is fixed.
- Long Run: A period where all inputs are variable.
- Fixed Costs (FC): Costs that do not vary with the level of output (e.g., rent, insurance).
- Variable Costs (VC): Costs that vary with the level of output (e.g., labor, raw materials).
- Total Cost (TC): $TC = FC + VC$ .
- Marginal Cost (MC): The additional cost of producing one more unit of output ( $MC = \frac{\Delta TC}{\Delta Q}$ ).
- Average Fixed Cost (AFC): $AFC = \frac{FC}{Q}$ . (Decreases as output increases).
- Average Variable Cost (AVC): $AVC = \frac{VC}{Q}$ .
- Average Total Cost (ATC): $ATC = \frac{TC}{Q} = AFC + AVC$ .
- Law of Diminishing Marginal Returns: In the short run, as more units of a variable input are added to a fixed input, the marginal product (additional output) of the variable input will eventually decline.
- Relationship between MC and ATC/AVC: The MC curve intersects both the ATC and AVC curves at their minimum points.
Economies and Diseconomies of Scale (Long Run)
- Economies of Scale: Long-run average total cost (LRATC) falls as output increases (e.g., specialization, bulk purchasing).
- Diseconomies of Scale: LRATC rises as output increases (e.g., difficulty in managing large organizations).
- Constant Returns to Scale: LRATC remains constant as output increases.
Perfect Competition
- Characteristics: Many small firms, identical products, free entry and exit, firms are price takers.
- Demand Curve for a Firm: Perfectly elastic (horizontal) at the market price, meaning $P = MR = D = AR$ .
- Profit Maximization Rule: Firms produce where Marginal Revenue (MR) = Marginal Cost (MC). Therefore, in perfect competition, profit is maximized where $P = MC$ .
- Short-Run Profit/Loss: Firms can earn economic profits, incur losses, or break even.
  - Profit if P > ATC. (Will produce).
  - Loss if AVC < P < ATC. (Will produce to cover variable costs).
  - Shut down if P < AVC. (Will not produce, as even variable costs aren't covered).
- Long-Run Equilibrium: Firms earn zero economic profit ( $P = MC = ATC<em>{min}$ ). Firms are productively efficient ( $P = ATC</em>{min}$ ) and allocatively efficient ( $P = MC$ ).

Unit 4: Imperfect Competition and Market Failures

Monopoly
- Characteristics: Single seller, unique product, high barriers to entry, firm is a price maker.
- Demand Curve: The firm faces the downward-sloping market demand curve.
- Marginal Revenue: Lies below the demand curve (MR < P) because the monopolist must lower the price on all units to sell an additional unit.
- Profit Maximization: Produce where $MR = MC$ , then set the price from the demand curve corresponding to that quantity.
- Inefficiency: Produces less output and charges a higher price than perfect competition. This creates deadweight loss (loss of total surplus).
- Price Discrimination: Charging different prices to different consumers for the same good or service based on willingness to pay.
  - Conditions: Market power, ability to segment consumers, and prevention of resale.
- Natural Monopoly: Occurs when one firm can supply the entire market at a lower average total cost than two or more firms (due to substantial economies of scale).
Monopolistic Competition
- Characteristics: Many sellers, differentiated products, relatively easy entry and exit, some control over price.
- Demand Curve: Downward sloping (more elastic than a monopoly due to substitutes).
- Profit Maximization: Produce where $MR = MC$ , set price from the demand curve.
- Long-Run Equilibrium: Firms earn zero economic profit ( $P = ATC$ ) due to entry/exit. However, they operate with excess capacity (not at minimum ATC) and are not allocatively efficient (P > MC).
Oligopoly
- Characteristics: Few large sellers, interdependent decision-making, high barriers to entry.
- Game Theory: Often used to analyze strategic behavior among firms.
- Collusion/Cartels: Firms secretly cooperate to act like a monopoly (illegal and unstable).
- Price Leadership: One dominant firm sets the price, and other firms follow.
- Kinked Demand Curve Model: Attempts to explain price rigidity in oligopolistic markets.
Market Failures
- Externalities: Costs or benefits experienced by a third party not directly involved in a transaction.
  - Negative Externalities (Spillover Costs): Production or consumption imposes costs on others (e.g., pollution). Marginal Social Cost (MSC) > Marginal Social Benefit (MSB). Corrected by taxes or regulation.
  - Positive Externalities (Spillover Benefits): Production or consumption creates benefits for others (e.g., vaccinations, education). MSB > MSC. Corrected by subsidies or government provision.
- Public Goods: Non-rivalrous (one person's use does not diminish another's) and non-excludable (difficult to prevent people from using it once provided).
  - Leads to the "free-rider problem" (people benefit without paying).
  - Examples: National defense, street lighting.
- Asymmetric Information: One party in a transaction has more or better information than the other.
  - Adverse Selection: Hidden characteristics (e.g., unhealthy people buying insurance).
  - Moral Hazard: Hidden actions (e.g., less careful after getting insurance).
- Inequality of Income: While not strictly a market failure, it is a significant outcome of