AS_Microeconomics_2023

MIII AS MICROECONOMICS ALI ANWERZADA 2023

Chapter 1: Basic Economic Problem

Scarcity and Opportunity Cost

• Scarcity is the fundamental economic problem where human wants exceed what can be produced.

• Human wants are unlimited but resources are limited.

• Scarcity forces choices to be made at both individual and national levels.

• Key terms:

  • Economic Goods: Limited resources that incur opportunity cost.

  • Free Goods: Unlimited resources with no opportunity cost.

• Opportunity Cost: The value of the next best alternative that is sacrificed when making a choice.

• Example: Choosing between producing tables or books involves sacrifice of the other good.

Factors of Production

1. Land: Natural resources used in production, includes both renewable and non-renewable resources.

   • Return: Rent

2. Labor: All human efforts in production.

   • Return: Wages

3. Capital: Manufactured resources used to create other goods, different from money capital.

   • Return: Interest

4. Entrepreneurship: Willingness to take risks and build a business, organizing factors of production.

   • Return: Profit

Economic vs. Free Goods

• Economic goods require scarce resources for production and have opportunity costs.

• Free goods have zero opportunity cost, examples include air and seawater (real-world instances are limited).

Capital vs. Consumer Goods

• Capital Goods: Used for future production (e.g., machinery).

• Consumer Goods: Intended for final consumption (e.g., appliances).

• Micro vs. Macroeconomics:

  • Microeconomics: Study of individual markets (e.g., price of corn).

  • Macroeconomics: Study of the economy as a whole (e.g., inflation, unemployment).

Chapter 2: Economic Systems

Economic Systems Overview

• Economic systems address how scarce resources are allocated and are defined by government involvement.

• Three Key Economic Questions:

  1. What to Produce?: Deciding the mix of goods based on preferences.

  2. How to Produce?: Choosing production methods (labor-intensive vs capital-intensive).

  3. For Whom to Produce?: Deciding distribution of goods.

Free Market Economy

• Characteristics:

  • Main actors include consumers and producers self-interested in maximizing utility and profit.

  • Motivation: Driven by self-interest.

  • Resources owned by individuals with limited government intervention.

  • Competitive markets help with efficiency.

Command Economy

• Resources are owned and allocated by the state.

  • Centralized decision-making focuses on maximizing social welfare as the main motivation.

Mixed Economy

• Combines features of both free market and command economies, with both private and public ownership.

• Government intervenes to correct market failures and provide public goods.

Market Inefficiencies and Government Intervention

• Government intervenes when:

  • Prices are too high or low.

  • Fluctuations in prices lead to market instability.

Chapter 3: Price Mechanism

Market Mechanism

• A market is where buyers and sellers interact, determining prices and quantities.

• Theory of Demand:

  • Demand relates price to quantity consumers are willing to buy.

  • Inverse relationship; higher prices lead to lower quantities demanded (Law of Demand).

• Determinants of Demand include:

  1. Price

  2. Non-price factors (income, tastes, price of substitutes/complements).

Theory of Supply

• Supply represents producers' willingness to offer goods at various prices, with a direct relationship between price and quantity supplied (Law of Supply).

• Determinants of Supply include:

  1. Price factors

  2. Non-price factors (production costs, technology, number of firms).

Market Equilibrium

• Equilibrium occurs when quantity demanded equals quantity supplied, determining the market price.

• Changes in demand or supply can cause shifts in equilibrium price and quantity.

Consumer and Producer Surplus

• Consumer Surplus: Difference between what consumers are willing to pay and market price.

• Producer Surplus: Difference between market price and the minimum price producers are willing to accept.

• Social Welfare: Sum of consumer and producer surpluses.

Chapter 4: Price Elasticity of Demand

Types of Elasticity

1. Price Elasticity of Demand (PED): Measure of responsiveness of quantity demanded to price changes.

   • If PED > 1: Elastic demand

   • If 0 < PED < 1: Inelastic demand

   • If PED = 1: Unit elastic

   • Perfectly elastic (PED → ∞) and perfectly inelastic (PED = 0) are extreme cases.

2. Income Elasticity of Demand (YED): Responsiveness of quantity demanded to changes in income.

   • Normal goods (YED > 0) and inferior goods (YED < 0).

3. Cross Elasticity of Demand (XED): Responsiveness of demand for one good when the price of another good changes.

   • Substitutes (XED > 0) and complements (XED < 0).

Relevance and Limitations of Elasticity

• Relevance: Helps in setting pricing strategies and understanding consumer behavior.

• Limitations: Calculation difficulties, changing conditions, and data collection costs.

Chapter 5: Government Intervention in Markets

Functions of Prices

1. Rationing: Allocating scarce resources.

2. Signaling: Providing information to buyers and sellers.

3. Incentive: Motivating buyer and seller behavior.

Methods of Government Intervention

1. Maximum Price (Price Ceiling): Set to protect consumers from high prices.

2. Minimum Price (Price Floor): Protects producers from low prices, often in agriculture.

3. Subsidies: Payments to lower production costs and increase output.

4. Taxes: Levied to manage consumption of harmful goods.

Market Failures and Government Role

• Public goods often require government provision to avoid the free-rider problem.

• Merit goods (education and healthcare) generate positive externalities and often need government support.

• Demerit goods (tobacco and alcohol) have harmful externalities prompting regulations.

Conclusion

• Understanding microeconomics is essential for analyzing market functions, resource allocation, and the role of government in ensuring equitable economic outcomes.