2. PRICE SYSTEM AND THE MICROECONOMY

Question 1

Effective demand

Answer 1

Demand supported by the ability and willingness to pay

Question 2

Individual Demand/Supply

Answer 2

Demand or supply for a good from one consumer or producer

Question 3

Market Demand/Supply

Answer 3

Total demand or supply for a good across all consumers or producers in the market

Question 4

Determinants of Demand

Answer 4

Price of the good

Income levels

Prices of related goods
- Substitutes (e.g higher price of tea -> higher demand for coffee)
- Complements (e.g lower price of cars -> increase demand for fuel

Taste and preferences

Expectations of future prices

Question 5

Determinants of supply

Answer 5

Production cost

Technology

Prices of related goods
- Joint supply
- Competitive supply

Gov policies

Producer expectations

Question 6

Joint supply

Answer 6

A situation where an increase in the supply of one leads to a decrease in supply of another by-product (vice versa)

Question 7

Competitive supply

Answer 7

Alternative products a firm could make with its resources

Question 8

Movement along demand/supply curve

Answer 8

Caused by price changes of the good itself

Question 9

Shift in demand/ supply curve

Answer 9

Caused by non-price factors (e.g., income, tastes, or production costs) Price of itself does not affect

Question 10

PED

Answer 10

Measures the responsiveness of QD for a good or service to a change in its price

Question 11

PED calculation

Answer 11

% change in QD/ % change in price

Question 12

PED >1

Answer 12

Elastic
QD is highly reponsive to price change
E.g luxury goods

Question 13

PED <1

Answer 13

Inelastic
QD less responsive to change in price
Necessities

Question 14

PED = 1

Answer 14

Unitary Elastic
Proportional response; a 10% price change leads to a 10% quantity change

Question 15

PED = 0

Answer 15

Perfectly Inelastic
No response to price changes

Question 16

PED = ∞

Answer 16

Perfectly Elastic
Demand is infinite at a particular price and drops to zero if the price changes

Question 17

Importance of PED

Answer 17

For firms: Helps set prices to maximize revenue
For gov: Used for taxation strategies, especially on inelastic goods like tobacco

Question 17

Factors affecting PED

Answer 17

Availability of substitutes (more subs = higher elasticity)
Nature of good
Proportion of income spend (higher proportion = higher elasticity)
Time period
Addiction/ habits

Question 18

Income elasticity of demand

Answer 18

Measures the responsiveness of demand for a good or service to changes in consumer income

Question 19

Positive YED

Answer 19

Normal goods

Question 19

YED calculation

Answer 19

% change in QD/ % change in consumer income

Question 20

YED>1

Answer 20

Luxury good
Demand increases more than income increas

Question 21

Negative YED

Answer 21

Inferior goods

Question 22

Importance of YED

Answer 22

For Firms: Helps predict changes in demand during economic growth or recession
For gov: Assists in planning welfare programs and tax policie

Question 23

Cross elasticity of demand

Answer 23

Measures the responsiveness of demand for one good to a change in the price of another related good

Question 24

XED calculation

Answer 24

% change in QD of good A/ % change in price of good B

Question 25

Positive XED

Answer 25

Substitutes

Question 26

Negative XED

Answer 26

Complements

Question 27

Importance of XED

Answer 27

For firms: Helps understand competition & pricing strategies Helps decide on complementary good pricing For gov: Understanding how price controls on one product affects others

Question 28

Price elasticity of supply

Answer 28

Measures responsiveness of quantity supplied to price changes

Question 29

PES calculation

Answer 29

% change in QS/ % change in price

Question 30

Factors affecting PES

Answer 30

Time: More time allows greater adjustments in supply. Spare capacity: More capacity increases elasticity. Stock levels: High stocks increase elasticity. Ease of factor substitution: Flexibility of resources increases elasticity.

Question 31

Joint demand

Answer 31

Complements Demand for one good increases demand for its complement

Question 32

Alternative demand

Answer 32

Substitutes Demand for one good decreases demand for its substitute

Question 33

Derived demand

Answer 33

Demand for a good depends on demand for another e.g demand for steel increase w demand for cars

Question 34

Joint supply

Answer 34

Production of one good leads to production of another

Question 35

Functions of price in resource allocation

Answer 35

Rationing Signalling Incentivizing

Question 36

Rationing in resource allocation

Answer 36

Prices ration scarce resources among competing uses High prices during a drought ration water supply

Question 37

Signalling in resource allcation

Answer 37

Prices signal information to buyers and sellers about market conditions Rising oil prices signal increased scarcity

Question 38

Incentivizing

Answer 38

Prices incentivize changes in behavior Higher wages attract more workers

Question 39

Consumer surplus

Answer 39

Difference between what consumers are willing to pay and what they actually pay Willing to pay $10, but market price is $7

Question 40

Producer surplus

Answer 40

Difference between the price producers receive and the minimum price they’re willing to accept Willing to sell for $5 but receives $7

Question 41

When does consumer surplus increase

Answer 41

Lower prices or greater demand prices decrease, consumers pay less than their willingness to pay, increase consumer surplus demand increase, more consumers, willing to pay more than actual market price

Question 42

When does producer surplus increase

Answer 42

Higher prices or lower costs higher price for their goods, increase diff between production cost & selling price production cost fall, minimum price are willing to accept decrease, increase production surplus