3101 Int Micro Flashcards
positive analysis vs normative analysis
Positive analysis is describing relationships of cause and effect. Normative is examining questions of what ought to be.
-Economists try to do positive analysis, try to explain how it works, not what ought to be done.
Economic Rationality
Assumptions of a model that participants are behaving rationally:
- non-random behavior
- agents have common, simple objectives
- agents avoid emotion-driven decisions
microeconomics
Deals with the behavior of small/single/individual economic actors.
Examples: consumers, employers, employees, investors, or business firms
-The word micro comes from the Greek word mikrós, which means small.
market
A market is the collection of buyers and sellers that, through their actual and potential interactions, determine the price of a product or the set of the product.
It is defined by the BUYERS, SELLERS, and the range of products that should be included in a particular market
extent of a market
Boundaries of a market, both geographical and in terms of the range of products produced and sold within it
supply curve
Relationship between the quantity of a good that producers are willing to sell and the price of the good.
demand curve
Relationship between the quantity of a good that consumers are willing to buy and the price of the good.
substitutes
Two goods for which an increase in the price of one leads to an increase in the quantity demanded of the other.
Examples:Snickers-Butterfinger, Bayer Aspirin-aspirin
complements
Two goods for which an increase in the price of one leads to a decrease in the quantity demanded of the other.
equilibrium price
Price that equates the quantity supplied to the quantity demanded. Often called the market clearing price.
market mechanism
Tendency in a free market for prices to change until the market clears.
-also known as the invisible hand
surplus
Situation in which the quantity supplied exceeds the quantity demanded.
shortage
Situation in which the quantity demanded exceeds the quantity supplied.
When is the Supply-Demand Model useful?
Assumption: At any given price, a given quantity will be produced and sold.
This assumption is useful only if a market is at least roughly competitive.
-In a competitive market both sellers and buyers should have little market power— i.e., little ability individually to affect the market price.
elasticity
Percentage change in one variable resulting from a 1-percent increase in another.
price elasticity of demand
Percentage change in quantity demanded of a good resulting from a 1-percent increase in its price.
Formula: E= (P/Q) x (dQ/dP)
Demand curve that is a straight line.
linear demand curve
completely inelastic demand
Principle that consumers will buy a fixed quantity of a good regardless of its price.
-It is a vertical line
infinitely elastic demand
Principle that consumers will buy as much of a good as they can get at a single price, but for any higher price the quantity demanded drops to zero, while for any lower price the quantity demanded increases without limit.
-It is a horizontal line
income elasticity of demand
Percentage change in the quantity demanded resulting from a 1-percent increase in income.
-same formula as price elasticity but replace p with i.
cross-price elasticity of demand
Percentage change in the quantity demanded of one good resulting from a 1-percent increase in the price of another.
price elasticity of supply
Percentage change in quantity supplied resulting from a 1-percent increase in price.
How are elasticities defined in terms of numbers?
inelastic, if |E| 1
unit elastic, if |E| = 1
durable goods
A durable good is used over time rather than being completely consumed in one use. Durable goods are often called hard goods.
Example: Car
theory of consumer behavior
Description of how consumers allocate incomes among different goods and services to maximize their well-being.
3 Basic Assumptions about Preferences
- Completeness: We assume that preferences are complete. In other words, consumers can compare and rank all possible baskets.
- Transitivity: if a consumer prefers basket A to basket B and basket B to basket C, then the consumer also prefers A to C.
- More is better than less
market basket
List with specific quantities of one or more goods. We often call the market basket a bundle of goods.
indifference curve
Curve representing all combinations of market baskets that provide a consumer with the same level of satisfaction.
indifference map: Graph containing a set of indifference curves showing the market baskets among which a consumer is indifferent.
marginal rate of substitution (MRS)
Maximum amount of a good that a consumer is willing to give up in order to obtain one additional unit of another good. It is the magnitude of the slope of an indifference curve.
Formula= -^C/^F?
diminishing marginal rate of substitution
Indifference curves are usually convex (bowed inward). We assume that most indifference curves have diminishing marginal rates of substitution.
-The term convex means that the the slope of the indifference curves increases (i.e. becomes less negative) as we move down along the curve.
perfect substitutes
Two goods for which the marginal rate of substitution of one for the other is a constant.
-The lines in a graph look like this \
perfect complements
Two goods for which the MRS is zero or infinite; the indifference curves are shaped as right angles |_.
Good for which less is preferred rather than more
“bad”
utility
Numerical score representing the satisfaction that a consumer gets from a given market basket
utility function
Formula that assigns a level of utility to individual market baskets
ordinal utility function vs cardinal utility function
ordinal generates a ranking of market baskets in order of most to least preferred.
cardinal describes by HOW MUCH(#) one market basket is preferred to another.
Constraints that consumers face as a result of limited incomes.
budget constraints
budget line
All combinations of goods for which the total amount of money spent is equal to income
budget constraint equation
I = p1X + p2X
750 = 25x + 50y
Which 2 conditions must be satisfied to maximize utility?
- the indiference curve must have the same slope as the budget line
- The indifference curve must be on the budget line
What determines the slope of the indifference curve and what determines the slope of the budget line
Remember MRS=Pf/Pc
so the slope of the indifference curve is determined by MRS, the slope of the budget line is determined by the price(ratio)
-
revealed preference
If a consumer chooses one market basket over another, and if the chosen market basket is more expensive than the alternative, then the consumer must prefer the chosen market basket.
Satisfaction is maximized when…
the marginal benefit is equal to the marginal cost.
-the benefit associated with the consumption of one additional unit of food must be equal to the cost of the additional unit of food.
marginal benefit
Benefit from the consumption of one additional unit of a good.
marginal cost
Cost of one additional unit of a good.
marginal utility
Additional satisfaction obtained from consuming one additional unit of a good
diminishing marginal utility
Principle that as more of a good is consumed, the consumption of additional amounts will yield smaller additions to utility
equal marginal principle
Principle that utility is maximized when the consumer has equalized the marginal utility per dollar of expenditure across all goods.
MUx/Pf = MUy/Py
What determines your intertemporal budget?
- Yearly income: may vary across years
- Spending: portion of income consumed in a given year
- Investment: interest accrued on income carried over
- Borrowing: spending next year’s income (interest-bearing loan)
How to construct the budget constraint?
CH3 pg 116 and example page 126
price-consumption curve
Curve tracing the utility-maximizing combinations of two goods as the price of one changes.
individual demand curve
Curve relating the quantity of a good that a single consumer will buy to its price.
income-consumption curve
Curve tracing the utility-maximizing combinations of two goods as a consumer’s income changes.
inferior good
A good for which the increase of a person’s income leads to less consumption.
-example:ramen
engel curve
Curve relating the quantity of a good consumed to income.
substitution effect
Change in consumption of a good associated with a change in its price, with the level of utility held constant.
income effect
Change in consumption of a good resulting from an increase in purchasing power, with relative prices held constant.
Total Effect of a change in price=
Substitution Effect + Income Effect
giffen good
Good whose demand curve slopes upward because the (negative) income effect is larger than the substitution effect.
market demand curve
Curve relating the quantity of a good that all consumers in a market will buy to its price.
isoelastic demand curve
Demand curve with a constant price elasticity
speculative demand
Demand driven not by the direct benefits one obtains from owning or consuming a good but instead by an expectation that the price of the good will increase.
consumer surplus
Difference between what a consumer is willing to pay for a good and the amount actually paid.
network externality
When each individual’s demand depends on the purchases of other individuals.
bandwagon effect
Positive network externality in which a consumer wishes to possess a good in part because others do.
snob effect
Negative network externality in which a consumer wishes to own an exclusive or unique good.
theory of the firm
Explanation of how a firm makes cost-minimizing production decisions and how its cost varies with its output.
Production decisions of a firm depend on:
- Production Technology
- Cost Constraints
- Input Choices
factors of production
Inputs into the production process (e.g., labor, capital, and materials).
production function
Function showing the highest output that a firm can produce for every specified combination of inputs.
q = F(K, L)
what is the short run vs the long run
Period of time in which quantities of one or more production factors cannot be changed is short, in long any/all can be changed.
fixed input
Production factor that cannot be varied/changed, in the short run. If it can be changed it is variable input.
average product
Output per unit of a particular input.
q/L
-In general, the average product of labor is given by the slope of the line drawn from the origin to the corresponding point on the total product curve.
marginal product
Additional output produced as an input is increased by one unit.
^q/^L
-In general, the marginal product of labor at a point is given by the slope of the total product at that point
law of diminishing marginal returns
Principle that as the use of an input increases with other inputs fixed, the resulting additions to output will eventually decrease.
-crowded classroom
labor productivity
Average product of labor for an entire industry or for the economy as a whole
stock of capital
Total amount of capital available for use in production.
technological change
Development of new technologies allowing factors of production to be used more effectively
isoquants
Curve showing all possible combinations of inputs that yield the same output.
isoquant map
Graph combining a number of isoquants, used to describe a production function.
marginal rate of technical substitution (MRTS)
Amount by which the quantity of one input can be reduced when one extra unit of another input is used, so that output remains constant.
MRTS = −Change in capital input/change in labor input
= ^K/^L , for a fixed level of q
-Teacher said it was MPl/MPk
constant returns to scale vs increasing returns to scale vs decreasing returns to scale
Situation in which output doubles when all inputs are
doubled. F(aK, aL) = aF(K,L)
Situation in which output more than doubles when all inputs are doubled. F(aK, aL) > aF(K,L)
Situation in which output less than doubles when all inputs are doubled. F(aK, aL)
accounting cost
Actual expenses plus depreciation charges for capital equipment
economic cost
Cost to a firm of utilizing economic resources in production
opportunity cost
Cost associated with opportunities forgone when resources are not put to their best alternative use.
opportunity costs = economic costs
sunk cost
Expenditure that has been made and cannot be recovered
total cost
Total economic cost of production, = fixed costs + variable costs
fixed cost
Cost that does not vary with the level of output and that can be eliminated only by shutting down.
variable cost
Cost that varies as output varies
average total cost (ATC)
Firm’s total cost divided by its level of output.
average fixed cost(AFC) and average variable cost
AVC
Fixed cost divided by the level of output and Variable cost divided by the level of output.
user cost of capital/price of capital
Annual cost of owning and using a capital asset, equal to economic depreciation plus forgone interest.
User Cost of Capital = Economic Depreciation + (InterestRate)(Value of Capital)
rental rate of capital
Cost per year of renting one unit of capital.
isocost line
Graph showing all possible combinations of labor and capital that can be purchased for a given total cost.
expansion path
Curve passing through points of tangency between a
firm’s isocost lines and its isoquants.
economies of scale
Situation in which output can be doubled for less than
a doubling of cost.
iseconomies of scale
Situation in which a doubling of output requires more
than a doubling of cost.
cost-output elasticity(EC)
the percentage change in the cost of production resulting from a 1-percent increase in output.
-(6 pg 42)
product transformation curve
Curve showing the various combinations of two different outputs (products) that can be produced with a given set of inputs.
economies of scope
Situation in which joint output of a single firm is greater than output that could be achieved by two different firms when each produces a single product.
diseconomies of scope
Situation in which joint output of a single firm is less than could be achieved by separate firms when each produces a single product.
degree of economies of scope (SC)
Percentage of cost savings resulting when two or more products are produced jointly rather than Individually.
SC = C(q1) + C(q2) - C(q1, q2) / C(q1, q2)
What are the 3 assumptions of Perfectly Competitive Markets?
- Price Taker: firm that has no influence over market price and thus takes the price as given.
- Product Homogeneity: Products of all of the firms in a market are perfectly substitutable with one another. Thus, no firm can raise the price of its product above the price of other firms without losing most or all of its business.
- Free entry (or Exit): condition under which there are no special costs that make it difficult for a firm to enter (or exit) an industry.
profit
Difference between total revenue and total cost.
ii(q) = R(q) - C(q)
A perfectly competitive firm should choose its
output so that?
marginal cost equals price.
MC(q*) = MR = P
-see 7 pg 14, where MC crosses AR/MR/P is the spot
producer surplus
Sum over all units produced by a firm of differences
between the market price of a good and the marginal
cost of production.
long-run profit maximization
The long-run output of a profit-maximizing competitive
firm is the point at which long-run marginal cost equals the price.
zero economic profit
A firm is earning a normal return on its investment—i.e., it is doing as well as it could by investing its money elsewhere.
In a market with Entry and Exit, a firm enters when…
…when it can earn a positive long-run profit and exits when it faces the prospect of a long-run loss.
long-run competitive equilibrium
All firms in an industry are maximizing profit, no firm has an incentive to enter or exit, and price is such that quantity supplied equals quantity demanded.
economic rent
Amount that firms are willing to pay for an input less the minimum amount necessary to obtain it.
-In competitive markets, in both the short and the long run, economic rent is often positive even though profit is zero.
Producer Surplus in the Long Run
In the long run, in a competitive market, the producer surplus that a firm earns on the output that it sells consists of the economic rent that it enjoys from all
its scarce inputs.
welfare effects
Gains and losses to consumers and producers.
deadweight loss
Net loss of total (consumer + producer) surplus.
price support
Price set by government above free-market level and maintained by governmental purchases of excess supply.
Limits on the quantity of a good that can be imported.
Import Quota
Tax on an imported good.
Tariff
economic efficiency
Maximization of aggregate consumer and producer surplus.
market failure
Situation in which an unregulated competitive market is inefficient because prices fail to provide proper signals to consumers and producers.
Two important instances in which market failure can occur:
- Externalities: action taken by either a producer or a consumer which affects other producers or consumers but is not accounted for by the market price.
- Lack of Information
