ECON 2020 Flashcards
UTILITY
the satisfaction a consumer obtains from the
consumption of a good or service
Utility is measured in
utils
TOTAL UTILITY
the total satisfaction a person derives
from consuming some specific quantity; TU and Qd move TOGETHER; TU = Σ MU
MARGINAL UTILITY
the additional utility a consumer
derives from an additional unit of a good
LAW of DIMINISHING MARGINAL UTILITY
MU and Qd move OPPOSITE
Marginal Utility=
ΔTU / ΔQ
NOTE: As MU falls, willingness to pay falls as well
BUDGET LINE/CONSTRAINT
line that shows the different consumption bundles a consumer can purchase with a specific money income
CONSUMPTION BUNDLE
the combination of goods and services
consumed by an individual
NOTE: the price of a consumption bundle cannot exceed the consumer’s total income
INCOME=
(Qx * Px) + (Qy * Py)
OPP. COST of X =
max Qy / max Qx = Px / Py
FACTORS THAT CHANGE THE BUDGET LINE
- Income- decrease or increase in available funds.
- Price of Y- A change in price causes a rotation of the budget line
- Price of X- A change in price causes a rotation of the budget line
MARGINAL UTILITY PER DOLLAR=
MU/P
If we buy stuff to maximize total utility,maximize total utility, and we stop buying stuff when all income is spent, then…
What Do We Buy First?
The good that gives us the most (marginal utility)
For utility maximization, the consumer must get the same amount of utility from the last dollar spent on each good.
In other words, consumers reach the optimal consumption bundle when:
- All income is spentAll income is spent
- MUx / Px = MUy / Py
OPTIMAL CONSUMPTION BUNDLE
the bundle that maximizes total utility
If prices change, we either have to…
rewrite the table or use a graph
INDIFFERENCE CURVE
a line that shows the consumption bundles
that yield the same amount of total utility
Properties of (Most) Indifference Curves
- ICs are downward sloping
- ICs farther from the origin represent a greater level of TU
- ICs never cross
- ICs are bowed inward
Slope =
ΔQy / ΔQx
MARGINAL RATE OF SUBSTITUTION
the ratio of the marginal utility of one good to the marginal utility of another;
MRS =
MUx/MUy
PRINCIPLE OF DIMINISHING MRS
- the more of good X a person consumes in proportion to good Y, the less Y the consumer is willing to substitute for X; MRS decreases as Qx increases
- the MRS changes along an IC because of diminishing
marginal utility
RELATIVE PRICE
The ratio of the price of one good to the price of the
other
RP=
Px / Py
NOTE: slope of budget line = - Px / Py
Thus, we can find the optimal bundle by setting
MRS =
RP or MUx/MUy = Px/Py
RELATIVE PRICE RULE
At the optimal consumption bundle, MRS = RP
PERFECT SUBSTITUTES
goods for which the marginal rate of substitution is constant, no matter how much of each is consumed
PERFECT COMPLEMENTS
goods that a consumer will consume in the same ratio regardless of their relative price
PROFIT (Π)=
Π = Total Revenue – Total Cost= Total Revenue – Total Cost
TR =
P * Q
TC can be defined multiple ways:
- Accounting Π = TR – Explicit cost
- Economic Π = TR – Economic cost
implicit cost
which for a producer is the
forgone income from employing resources in their next-best use.
NORMAL PROFIT
- the firm is doing just as well as it could in another industry
- Accounting profit = Implicit Cost
- Economic profit = $0
SHORT RUN
an amount of time insufficient to allow plant
capacity to vary. Also, firms may shutdown production, but they cannot exit the market.
PLANT CAPACITY
the size of the building and amount of
capital equipment
LONG RUN
all costs are variable; entry and exit are possible
FIXED COSTS:
- cannot be varied in the short run
- do not change as output changes
- still exist when output falls to zero
- usually associated with capital
VARIABLE COSTS
costs that change as output changes; go to zero during shutdown
Total Cost =
Total Fixed Cost + Total Variable Cost
Average Fixed Cost =
TFC / Q
Average Variable Cost =
TVC / Q
Average Total Cost =
TC / Q = AFC + AVC
Marginal Cost =
ΔTC / ΔQ
MARGINAL COST
the additional cost associated with a
1 unit increase in output1 unit increase in output
TOTAL PRODUCT =
Q = Σ MPL
MC =
MC = Wage / MPLL
MPL=
MPL= ΔQ / ΔL
MARGINAL PRODUCT of LABOR -
- the additional output produced by one more unit of labor
As returns (MPL) diminish,
marginal cost increases
Economies of Scale/Increasing Returns to Scale ––
as q rises, LRATC falls
Diseconomies of Scale/Decreasing Returns to Scale ––
as q rises, LRATC rises
Law of Diminishing Marginal returns.
As successive units of a variable resource are added to a fixed resource,the marginal product of the variable resource eventually decreases. Only applies in the short run. Explains why the short run cost curves eventually increase as output increases.
Factors that shift long run curves:
- INPUT PRICES – input prices and cost curves move together
- TECHNOLOGY – as technology improves, costs fall
3.REGULATION/TAXES –REGULATION/TAXES – taxes and costs move
together
Monopolistic Competition-
– many firms, close subs
Perfect Competition –
many firms, perfect subs
Oligopoly –
– few firms
Monopoly –
– one firm
Implications of Perfect Competition
- No individual can affect Pe or Qe
- Firm Ed = ∞; no advertising
- Firms are price takers(set q only)
- LR Π= 0
Characteristics of Perfect Competition
- Many, small buyers and sellers
- Standardized products(perfect subs)
- Perfect information
- No barriers to entry
When a firm produces and sells an additional unit of a good,
TR and TC both increase.
TC =
TC = MC
TR =
TR = MR
MARGINAL REVENUE –
the additional revenue earned from selling 1 additional unit
Firms find the profit-maximizing level of output (q*) where
MR=MC
TR =
TR = P * q
PROFIT MAXIMIZATION RULE
Firms find the profit-maximizing level of output (q*) where MR = MC
EXAMPLE:
P = $30; MC = 2 + 4q
Find q*
SOLUTION:
MR = MC
P = MR = 30
30 = 2 + 4q
28 = 4q
q* = 7 units
EXAMPLE:
P = $30; q* = 7 units
Find Π if ATC = $25
SOLUTION:
Π = TR – TC = (PQ) – (ATCQ)= (P – ATC) * Q
Π = (30 – 25) * 7
Π = 5 * 7 = $35
TR =
TR = P * q
TC =
TC = ATC * q
Π =
Π = TR – TC (Π > 0 if P > ATC)
TC =
TC = ATC * q
BREAKING EVEN
(P = ATC)
SHUTDOWN RULE
-If P ≥ AVC then the firm should produce q* where≥ MR = MC
-If P < AVC then the firm should shutdown (q* = 0)
Breakeven Price:
Breakeven Price: P = min ATC
Shutdown Price:
Shutdown Price: P = min AVC
Opp. cost of X =
Opp. cost of X = max Qy / max
Optimal Bundle =
Optimal Bundle = Income / low P
