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Micro > 1.2 - How Markets Work > Flashcards

1.2 - How Markets Work Flashcards

1
Q

What is maximisation?

A

Occurs when an economic agent tries to obtain the most they can make from the activity they undertake.

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2
Q

What are economic objectives?

A

The use of resources in order to meet a goal over a period of time - will take CELL into consideration.

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3
Q

What are the economic objectives in households? (2)

A

Consumption - want the highest level of satisfaction available from a good.
Working - want the highest benefit available from their occupation.

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4
Q

What are the economic objectives of firms? (4)

A

Profit maximisation
Profit satisficing
Sales maximsation
Growth

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5
Q

What does the demand curve show?

A

The relationship between the price and quantity demanded.

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6
Q

What is the relationship between price and demand?

A

As price falls, demand rises - vice versa.

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7
Q

How is a change in price shown on the line?

A

A movement along the demand curve.

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8
Q

How is a change in other factors shown?

A

A shift upwards / downwards.

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9
Q

What are the determinants of demand in a market?

A

Price
Income
Related goods
Advertisement
Trends
Expectations
Seasons

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10
Q

How does PRICE affect demand?

A

Most goods are normal goods = demand decreases as price increases.

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11
Q

What is the snob effect?

A

Thorstein Veblen identified this - where people paid more for certain products as the price increased.
Due to the increased status felt by wealthier people and need to obtain more expensive goods.

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12
Q

How does INCOME affect demand?

A

As consumer income increases, demand increases.
Due to the increase in disposable income.

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13
Q

What happens to the demand of inferior goods when income increases?

A

It decreases, because people have more money to spend so will opt for the better product.

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14
Q

What is a substitute product?

A

A product that acts as an alternative to another - creates competition.
If price of good A increases, demand for good B increases.

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15
Q

What is a complementary product?

A

A product bought alongside a good / service,
If price of good A increases, demand for good B decreases.

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16
Q

How does ADVERTISEMENT affect demand?

A

Businesses can properly advertise their product that can draw more attention o it and increase its demand.

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17
Q

How do TRENDS affect demand?

A

People’s tastes often change - are impacted by popularity.
Change in demand happens very quickly and is unpredictable.

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18
Q

How do EXPECTATIONS affect demand?

A

Businesses will often have to find a way to meet expectations set by customers.
Once these desires are met, the demand for them is high.

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19
Q

How do SEASONS affect demand?

A

Weather affects when customers decide to buy a product.
During cold seasons, short clothing is in low demand.

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20
Q

How is an increase in demand shown on the demand curve?

A

A shift to the right.

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21
Q

How is a decrease in demand shown on the demand curve?

A

A shift to the left.

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22
Q

What is marginal utility?

A

The extra satisfaction gained from consuming an additional good or service.

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23
Q

What is the relationship between consumption and utility?

A

As consumption increases, utility declines.
This means our marginal utility falls as we consume.

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24
Q

What is the elasticity theory?

A

The sensitivity of one variable in relationship to another.

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25
Q

What is the elasticity theory?

A

The sensitivity of one variable in relationship to another.

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26
Q

How do you calculate percentage change?

A

(New value - old value) / old value x100

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27
Q

What does PED stand for?

A

Price elasticity of demand

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28
Q

What is PED?

A

Measures the responsiveness of demand to a change in price

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29
Q

How do you calculate PED?

A

% change in D / % change in P

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30
Q

What does a value between -1 to 1 mean?

A

The price of the product is inelastic

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31
Q

What does a value below -1 and above 1 mean?

A

The price of the product is elastic

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32
Q

What does inelastic mean?

A

The demand does NOT change with price

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33
Q

What does elastic mean?

A

Demand CHANGES with price
As price rises, demand falls

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34
Q

What does perfectly inelastic mean?

A

Straight, vertical line on the graph
The demand always remains the same, no matter what happens to the price

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35
Q

What does relatively inelastic mean?

A

Slightly tilted vertical line on the graph
Demand will shift slightly with price

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36
Q

What does perfectly elastic mean? (For d)

A

Straight, horizontal line on the graph
The price cannot be changed or the demand will be 0

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37
Q

What does relatively elastic mean? (for d)

A

Slightly tilted horizontal line on the curve
Demand will change be a lot when price is changed

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38
Q

How does elastic PED affect revenue?

A

Elastic —> rise in price —> fall in revenue

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39
Q

How does inelastic PED affect revenue?

A

Inelastic —> rise in price —> rise in revenue

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40
Q

How do substitutes determine PED?

A

If there are a lot of alternatives —> price is elastic to beat competitors

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41
Q

How does time determine PED?

A

short term —> products are inelastic as it is most convenient to the consumer
long term —> consumer may find substitutes —> product becomes more elastic

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42
Q

How does definition of the market affect PED?

A

Well known products are more inelastic as they are more trusted so brands don’t need to lower the price
Alternatives are more elastic because they need to change their price so that customers choose them over well-known brands

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43
Q

What does YED stand for?

A

Income elasticity of demand

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44
Q

What is YED?

A

A measure of the responsiveness of demand to a change in income

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45
Q

How do you calculate YED?

A

% change in D / % change in income

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46
Q

What is a normal good?

A

When income increases, demand also increases
YED is always +

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47
Q

What is an inferior good?

A

When income increases, demand falls
YED is always —

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48
Q

How does the type of product determine YED?

A

Necessity - usually has regular demand as they are necessary
Luxury - demand increases when consumer income increases

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49
Q

What is the YED of necessities?

A

0 to 1

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50
Q

What is the YED of luxuries?

A

Greater than 1

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51
Q

How does a wealthier country affect its firms?

A

Wealthier —> consumers have higher disposable income —> spend more on luxury goods —> demand increases —> firms need to produce more superior goods —> more expensive

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52
Q

What does XED stand for?

A

Cross elasticity of demand

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53
Q

What is XED?

A

A measure of the responsiveness of demand for one good (X) to a change in price of another good (Y)

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54
Q

How do you calculate XED?

A

% change in D for X / % change in P of Y

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55
Q

How do substitutes determine XED?

A

As price for Y increases, demand for X will increase
XED is +

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56
Q

How do complementary products determine XED?

A

As price of Y increases, demand for X will decrease
XED is —

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57
Q

How do products with no relationship determine XED?

A

A change in price of Y will not affect demand for X
XED is 0

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58
Q

What do firms do to substitutes to change their XED?

A

Try to differentiate the product through adverts / branding
The closer the substitutes, the harder it is to increase prices

59
Q

What do firms do to complementaries to change their XED?

A

Will produce a range of complementary products to accompany it
Makes it more likely for the customer to buy both products

60
Q

How does tax affect price inelastic products?

A

Has little effect - also increases government revenue

61
Q

What is a subsidy?

A

Financial aid given from the government to help reduce price and industries grow

62
Q

How does subsidies affect price inelastic products?

A

Would not affect demand, but may cause a large fall in price - benefits consumers.

63
Q

How do taxes affect price elastic products?

A

Demand would fall

64
Q

How do subsidies affect price elastic products?

A

Large rise in demand

65
Q

What is maximisation?

A

Occurs when an economic agent tries to obtain the most they can make from economic activity they undertake.

66
Q

What does each economic agent want to maximise?

A

Household/consumers - utility and personal satisfaction
Firms - their profit
Government - welfare of their population

67
Q

What are economic objectives?

A

The use of resources in order to make a goal over a period of time. Must take CELL factors into consideration.

68
Q

What is maximised from private benefit of consumption?

A

Individuals want the highest level of satisfaction available from a good.

69
Q

What is maximised from private benefit of working?

A

Individuals seek the highest benefit available from where they work. May include higher pay / better working conditions.

70
Q

What do firms do in terms of maximisation?

A

Profit maxim. - seek highest level of profit availed through production.
Profit satisficing - when profit is levelled below maximisation to satisfy owner/manager needs.
Sales maxim. - done to gain market share and improve company culture.
Growth - growth potential may be improved to takeover other firms.

71
Q

What is the demand curve?

A

The relationship between price and quantity demanded.

72
Q

What does the demand curve show?

A

The quantity demanded for a good over a period of time at any given price.

73
Q

What is the relationship between price and demand?

A

As price falls, demand rises - vice versa.

74
Q

How is price vs other factors shown on the demand curve?

A

Price - A movement ALONG the curve
Other factors - a shift UPWARDS

75
Q

What does a demand curve look like?

A

Demand - line going downwards due to inverse relationship.
Price and quantity - shown with dotted lines.

76
Q

What is demand?

A

The amount of a good or service that consumers are willing and able to buy at any price.

77
Q

What factors influence demand?

A

Price Income Related goods Advertisement Trends Expectations Seasons

78
Q

What is supply?

A

The amount of good or service that producers are willing and able to sell at any given price.

79
Q

How does PRICE affect supply?

A

When a good sells at a higher price, firms will increase supply to make more profit.

80
Q

How do CHANGING COSTS OF PRODUCTION affect supply?

A

As these costs increase, it will become more expensive to supply the product, so firms may reduce output.
Developments in technology can reduce these costs.

81
Q

How do TECHNOLOGICAL PROCESSES affect supply?

A

Firms can produce things in a more efficient and cost effective manner.
Although it’s initially expensive, machinery spreads fixed costs over greater output per unit.
Makes it more profitable to supply more products.

82
Q

How do PRICES OF OTHER GOODS affect supply?

A

If the price of good A goes up, firms may switch to this product as it’s more profitable.
New firms will enter markets with rising prices as there is more opportunity to make profit.

83
Q

How do TAXES affect supply?

A

Production is more expensive, so quantity supplied decreases.

84
Q

How do SUBSIDIES affect supply?

A

Makes it cheaper to produce, so quantity supplied increases.

85
Q

What are OTHER FACTORS that affect supply?

A

Consumer expectations, amount of competition, power of a firm, etc.

86
Q

What is the supply curve?

A

Used to show the relationship between price and quantity supplied.

87
Q

What is the relationship between price and quantity supplied?

A

As price falls, quantity supplied also falls.

88
Q

How is a change in price represented on the supply curve?

A

A movement along the curve.

89
Q

How is a change in other factors represented on the supply curve?

A

An increase - shift to the right
A decrease - shift to the left

90
Q

What is specific tax?

A

Tax that is a set amount per unit.

91
Q

What is ad valorem tax?

A

A % of the price of the good / service.
The more expensive the good, the higher the tax.

92
Q

What happens to the supply curve when specific tax is added.

A

There is a parallel shift to the left.
Quantity supplied decreases.

93
Q

What happens to the supply curve when ad valorem tax is added?

A

A shift to the left and tilt of the curve upwards.
This shows that the more expensive the good gets, the higher the tax.

94
Q

What does PES stand for?

A

Price elasticity of supply

95
Q

What is PES?

A

A measure of the responsiveness of supply to a change in price.

96
Q

How do you calculate PES?

A

% change in quantity supplied / % change in price

97
Q

What does each PES value mean?

A

0 - perfectly inelastic
0-1 - relatively inelastic
1-∞ - relatively elastic
∞ - perfectly elastic

98
Q

What does it mean if the price is perfectly inelastic? (for supply)

A

Straight vertical line.
The quantity supplied is always the same no matter the price.

99
Q

What does it mean if the price is relatively inelastic? (for supply)

A

Tilted vertical line.
If the price changes, the supply changes slightly.

100
Q

What does it mean if the price is perfectly elastic? (for supply)

A

Straight horizontal line.
If price increases, supply is infinite.
If price falls, supply is 0.

101
Q

What does it mean if the price is relatively elastic? (for supply)

A

Tilted horizontal line.
If price changes, quantity supplied changes by a lot.

102
Q

How does PRICE affect PES?

A

If price increases, firms are more likely to increase their supply.
Makes it more profitable, so contribution per unit is higher.

103
Q

How do SUBSTITUTES affect PES?

A

Depends on how close and the number that there are.
The easier it is for a firm to change what it produces, the higher the PES.

104
Q

How does TIME affect PES?

A

In short term, product price is inelastic as it is initially difficult to increase production.
In long term, product price is elastic as producers adjust to the market

105
Q

What is market equilibrium?

A

The point where demand = supply.

106
Q

What is the market clearing price?

A

When all products are sold so there is nothing left over and the market has been cleared.

107
Q

What is true for all buyers and sellers when there is market equilibrium.

A

All buyers get the exact amount they want to buy at this price.
All sellers provide the exact amount that they want to sell at this price.
Any change in demand or supply will lead to a new equilibrium price.

108
Q

What is excess supply?

A

If prices increase, quantity demanded falls as it’s more expensive.
However, the quantity supplied increases as firms find the product more profitable.
There is excess supply.

109
Q

What is excess demand?

A

If prices fall, the quantity supplied falls as it is less profitable to the firms.
However, quantity demanded increases as it is cheaper so there will be excess demand.

110
Q

What do the market forces try and do?

A

Always try to push prices towards equilibrium.
Must be careful that there isn’t too much supply or demand.

111
Q

How does an increase in demand affect supply?

A

Increase in demand - shift to the right.
Causes prices to increase, as well as quantity demanded.
New market equilibrium is reached.

112
Q

How does an increase in supply affect quantity supplied?

A

Increase in supply - downwards shift to the right.
Causes prices to fall and quantity supplied to rise.

113
Q

What are economic incentives?

A

The reasons economic agents provide goods and services.

114
Q

What is price mechanism?

A

The method by which prices for goods / services are achieved.

115
Q

What is the rationing function?

A

Occurs when there is scarcity - may be because of excess demand or reduced supply.
This leads to a rise in price, which helps “ration” the limited supply to those who are most willing or able to pay for it.

116
Q

What is the incentive function?

A

Encourages producers and consumers to change their behaviour based on changes in price.

117
Q

How does the incentive function relate to producers?

A

Higher prices act as an incentive to produce more - can make more profit.
Lower prices discourage production.

118
Q

How does the incentive function relate to consumers?

A

Lower prices act as an incentive to buy more, as it is more affordable / offers better value.
Higher prices discourage consumption.

119
Q

What is the signalling function?

A

Sends information to producers and consumers about changes in the market.

120
Q

How do consumers / producers react to an increase in price?

A

Producers increase supply.
Consumers reduce demand.

121
Q

How do consumers / producers react to a decrease in price?

A

Producers decrease supply.
Consumers increase demand.

122
Q

What is allocative efficiency?

A

When consumer satisfaction is maximised in the production of goods.
Prices signal what consumers value most - e.g. if demand is high, it tells producers to allocate more resources to make that product.
Achieved when quantity supplied = quantity demanded.

123
Q

What is productive efficiency?

A

When goods and services are produced at the lowest possible cost - resources are used in the most efficient way.
Producers try to achieve the lowest cost per unit.
This often benefits consumers as prices tend to be lower.

124
Q

What is economic efficiency?

A

When allocative and productive efficiency happen at the same time.
Resources are being used in the most cost effective way, and are being used to produce the right goods and services that match customer preferences.
Society as a whole (consumers and producers) get the most value from its resources.

125
Q

Why is allocative efficiency difficult to identify?

A

Consumer preference needs to be matched to producer output.
Markets don’t always operate at market clearing due to excess supply / demand.
Pushing prices towards equilibrium helps achieve allocative efficiency.

126
Q

What is consumer surplus?

A

The difference between price a consumer is willing to pay and what they actually pay.
On a demand curve diagram, it is the area above the price point.

127
Q

How does a fall in price affect consumer surplus?

A

When a firm reduces a price, quantity demanded increases.
This causes the area above the price point to increase.
Total consumer surplus will be the area before + area after the price increase.

128
Q

How does an increase in price affect consumer surplus?

A

When firms increase prices, quantity demanded falls.
This means consumer surplus also falls to the area above p1.

129
Q

What is producer surplus?

A

The difference between the price a producer is willing to supply a product at and the price they actually receive.

130
Q

How does producer surplus look like on a supply curve?

A

The area below the price line and above the curve shows the producer surplus.

131
Q

How does a fall in price affect producer surplus?

A

Quantity supplied would fall, causing a fall in producer surplus.
Total producer surplus is the area under p1.

132
Q

How does an increase in price affect producer surplus?

A

Quantity supplied would increase, raising the producer surplus.
Total producer surplus is area below P + area below P1

133
Q

What are indirect taxes?

A

Ones put on a good or service.

134
Q

What is taxation?

A

The medium through which governments finance their spending and control the economy.

135
Q

What are subsidies?

A

Financial incentives to produce or consume a given product.

136
Q

What happens when an indirect tax is imposed?

A

Leads to an increased cost of supply for a firm.
Causes a decrease in quantity supplied because the product is more scarce, so prices rise.

137
Q

What is the incidence of tax?

A

The amount that the consumer or producer pays for the tax.
How the tax is split.

138
Q

How does price inelastic demand affect incidence of tax for c/p?

A

Incidence of tax will be greater for the consumer.

139
Q

How does price elastic demand affect incidence of tax for c/p?

A

Incidence of tax will be greater for the producer.

140
Q

How does price inelastic supply affect incidence of tax for c/p?

A

Incidence of tax will be greater for the producer.

141
Q

How does price elastic supply affect incidence of tax for c/p?

A

Incidence of tax will be greater for the consumer.

142
Q

What happens when a subsidy is imposed?

A

Leads to lower costs of supply for a firm.
Quantity supplied will increase and prices will go down for customers.

143
Q

What happens when a subsidy is imposed?

A

Leads to lower costs of supply for a firm.
Quantity supplied will increase and prices will go down for customers.

Micro (2 decks)

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