1.2 How markets work Flashcards
1.2.1
What is the assumptions of rational economic decision making
-consumers want more utility
-firms want more profit
What is demand ?
What is the law of demand ?
- QUANTITY that a consumer is WILLING and ABLE to pay at a given TIME and PLACE
- demand is inversely related to price (limited recourses)
1.2.2 A
What is happening when you move ALONG a demand curve
a change in price leads to a change in demand
downwards sloping demand curve
(check notes for diagram #6)
1.2.2 A
What is happening when there is shifts in a demand curve
demand is not changing due to price but another factor
Population
Substitute prices
Income
Fashion
Interest rate
Complement prices
(price stays the same but demand changes due to these factors, right/outwards shift is an increase in demand , left / inwards vice versa
(check notes for diagram #7)
1.2.2 B
What are the factors that may cause a shift in demand?
(condition of demand)
substitution effect
income effect
derived demand
joint demand
composite demand
1.2.2 B
define substitution effect with an example
As the price of another product decreases the attraction rises, as people swap to these CHEAPER SIMILAR products their demand increases while keeping the same price leading to a shift in demand.
1.2.2 B
define income effect with an example
If your income increases, your demand increases > purchasing power increases > price increases > demand
decreases
If your income decreases, price decreases , profit decreases , employment decreases, poverty increases.
1.2.2 B
define derived demand with an example
as the demand for aluminium derives from increase in demand of cars
(check notes for diagram #8)
1.2.2 B
define joint demand with an example
as an increase in demand for one product leads to increase production in another product
for example more product of honey would leads to more beezwax production
1.2.2 B
define composite demand with an example
one product can be used for more then one purpose. Therefor an increase in demand for one product can lead to decrease in supply for the other.
for example more demand for butter would mean more milk goes towards butter leading to less milk going towards cheese which decreases its supply.
1.2.2 C
what is diminishing marginal utility?
and how does it effect demand curve
every time people get a good / services that are less satisfied then the first leading to an decrease in willingness to pay therefore a decrease in demand
for example , eating a food over and over your less likely to want it again.
effective vs potential demand
effective alr sold ability to pay
potential intrested but not able to pay
1.2.3 A
price, income and cross
elasticities of demand
-Price elasticity of demand measures the responsiveness of quantity demanded to a change in price.
- Income elasticity of measures the responsiveness of quantity demand to a change in real income
- Cross price elasticity of demand measures the responsiveness of quantity demanded for good A to the change in the price of good B.
1.2.3 B
Formulae to calculate price, income and cross
elasticities of demand
PED - price elasticity of demand
=%change in Qd / % change in price
YED -Income elasticity of demand
=%change in Qd / % change in income
if yed is positive normal good if negative inferior good
XED -Cross-price elasticity of demand
=% change in Qd of good A / % change in price of good B
1.2.3 C
Interpret numerical values of ped / yed / xed values
if ped = 0 , perfect inelastic
if 0-1 , inelastic
if = 1 unit elastic
if > 1 elastic
if x/0 perfectly elastic (no fall in price with a change in demand )
if yed is positive normal good if negative inferior good
> 1 demand income elastic (normal luxury)
< 1 demand is income inelastic (normal necessity)
= 0 perfectly income inelastic
1.2.3 D
Factors that influence elasticity of demand
The availability of substitute
Percentage of income
Luxury or necessity
Time period
1.2.3 D)
How does the availability of substitute effect elasticity of demand
If alot of substitute PED is relative elastic bcos easy too switch
1.2.3 D)
How does percentage of income effect elasticity of demand
greater percentage of income a good take up the
more elastic
1.2.3.D)
How does a good being luxury or necessity effect elasticity of demand
lux not needed so elastic , nec needed so little
impact on demand w price change
1.2.3 D)
How does time period effect elasticity of demand
consumer take time to change habits or notice price
changes so looks inelastic short term
1.2.3 E)
The significance of elasticities of demand to firms and
government in terms of:
the imposition of indirect taxes and subsidies
indirect tax - tax on consumption of good /services : VAT
subsidies - benefits giving normally by government
The elasticity shows who that tax effects indirect taxes only works on inelastic goods like ciggs as they are addictive (see diagram #10)
subsiding a product in order increase consumption only works on elastic goods bcos increase in demand will be more then price decrease
therefor oly need small subsidy
1.2.3 E)
The significance of elasticities of demand to firms and
government in terms of:
change in real income
^ in real income will have increase in demand for luxury goods bcos of positive income elasticity
however selling inferior goods will have a fall in demand because of a negative income elasticity as people have more money for more expensive goods
therefore some firms will do well in recession
1.2.3 E)
The significance of elasticities of demand to firms and
government in terms of:
changes in the prices of substitute and
complementary goods
If they are relatively cross price elastic then price of subsite goods will have big effect on their product
subsites price falls > firms demand fall
complementary goods ^ > demand for firms good fall
1.2.3 F )
The relationship between price elasticity of demand and
total revenue (including calculation)
calc : revenue = price * quantity
PED price rises price falls
Inelastic revenue ^ revenue v
unitary revenue - revenue -
elastic revenue v revenue ^
inelastic % ^ in price < % ^ in demand
elastic % ^ in price > % ^ in demand
1.2.4 A)
What is supply ?
The goods and services that firms are wiling and able to produce at produce at given time / place
1.2.4 A)
What does supply curve model assume ?
More supply leads to a extension or contraction ?
less supply leads to a extension or contraction ?
- ceteris paribus
- extension in qs
- contraction in qs
(check notes Diagram #11)
1.2.4 A)
What happens to supply of goods when their price increases and why ?
^ supply because ^ price means ^ profit so rational profit maximising firms have profit motive
1.2.4 A)
What happens to supply of goods when their price decreases and why ?
v price = v supply due to less incentive to make the good
1.2.4 A)
What happens to cost of production when ^ output?
^ output , ^ price because ^ in costs / machines
1.2.4 A)
supply graph meanings
Qs =
f =
p =
g =
- quantity supplied
- function of
- price
- government
1.2.4 B)
What causes a shift in supply
describe shift in supply graph
-Changing in production costs
-price stays the same , supply shifts left or right
1.2.4 B)
What causes a change in production cost
-Technology advancements ^ eff , v prices , ^ output
- indirect taxes / subsides
- productivity / # of firms
- weather example : damage crops
- exchanges rate
more eff decrease price per unit
1.2.5 ) A
What is price elasticity of supply
Measures the responsiveness in change in price and change in qty ss
1.2.5 A) In/elastic supply compared to ease production and reason.
Elastic supply, inc production without a rise in cost or a time delay because there is spare capacity
Inelastic supply, hard to produce more as full capacity.
1.2.5 B)
What’s the formula for elasticity of supply
% change in qs / % change in price
1.2.5 C)
Numerical values of elasticity of supply and diagrams
Es > 1
Es = 1
Es < 1
Es = 0
Es = ∞
Es > 1 = Price elastic supply
Es = 1 = Unit elastic supply
Es < 1 = Price inelastic
Es = 0 = perfectly inelastic
Es = ∞ = perfectly elastic
diagrams in notes
1.2.5 D)
Factors that influence price elasticity of supply
-Factor substitution possibility ( when switch possible at
low price , elastic vice versa )
-spare production capacity available (more space = elastic easy change / more production vice versa)
-stock availability - (low level of stock inelastic short term )
-time frame ( momentary period same ss , short term inelastic , long term elastic )
1.2.5 E)
The distinction between short run and long run in Economics and its
significance for elasticity of supply
In the short run it is difficult to adjust production, making supply inelastic. This is because
in the short run at least one factor of production is fixed. However, in the long run, all
factors of production are variable so firms are able to increase production in response to
price increases, making the elasticity of supply more elastic.
1.2.6 A)
Equilibrium price and quantity and how they are
determined
Where the supply curve and the demand curve meet.
1.2.7 A)
What is price mechanisms
price solves issues of opp cost and trade offs
1.2.7 A)
What does allocate mean
gving scare recources fairly among consumers
1.2.7 A)
What is rationing price mechanism
price section out scare resources when marker demand outweighs supply. may happen due to lack of supply SR.
when sortage of product price will rise to deter some consumers buying the product
1.2.7 A)
What is signalling price mechanism
price adjust to demonstratr when and when not rescources are needed.
changes in price provide info to consumer and producer abt intrest rares, energy price changes in economy
1.2.7 A)
What is incentive price mechanism
when price increases, qty ss increases as busniess respond
1.2.8 A)
What is producer surplus
The difference between what producers are willing to produce and what they actually produce.
graph A
1.2.8 A)
What is consumer surplus
The difference between what consumers are willing to pay and what they actually pay
graph B
1.2.8 B)
Where is consumer surplus and produucer surplus on a graph in comparison to supply and demand curves and equalibrium
cs : above equalibrium and below demand curve
ps: below equalibrium and above supply curve
1.2.8 C)
What may produces to do price if demand is inelastic
inc price to make more rev
1.2.8 -)
What is value
private marginal benifit the gain of satisfaction for consuming an extrra unit.
1.2.8 -)
What is ps used to measure
Economic welfare
1.2.8 -)
What is economic welfare
represent the beifit to consume of monatary exchange and secvies when ^PC higher value for money
measures standard of living
1.2.9)
What is taxation
medium which goverment finance their spending and control the economy
1.2.9)
What is indirect tax
tax on consumption of goods and servies
1.2.9)
what is direct tax
tax on individuals or cooperations on income
1.2.9)
What is incidence / burden of tax
the amount that consumer / producers will pay for tax
1.2.9)
What is a subsidies
finical incentive to produce or comsume given product
1.2.9)
What does an increase of vat lead to
^ price = v dd = inwards shift of supply
1.2.9)
How does vat effect supply
increase cost of production
graph A
1.2.9)
How does inelastic demand effect incidence
incidence greater for consumer because price inc without change in dd
graph B
1.2.9)
How does elastic demand effect incidence
incidence greater for producer because price change causes change in dd
graph c
1.2.9)
How does inelastic supply effect incidence
incidence greater for producer
graph D
1.2.9)
How does elastic supply effect incidence
incidence greater for cosmer
graph E
1.2.9)
What will subsides do to cost of supply
decrease
1.2.10 A)
Why do consumers act irrantionaly
-inflence of others
peer pressure
-habital behavior
easier option rather then most utility, follow routine
-consumers weakness of consumption
consumption beyond max utility lead to dimishing returns
tend to underestimate addictivness
1.2.10 A)
What is behavioual economics
looks at phychological reasons behind decsion making
1.2.10 A)
What are the three reasons boundary economics suggest limit decision making
infomation advailablity
intellectual limitation
time advailable to make descions
1.2.10 A)
What is nudge thoery
attempts to mainipulate social normals through positive reinformance in a non-coerciece mannere
