Microeconomics 2.1-2.9 Flashcards
Define demand.
The quantity of goods and services consumers are willing and able to buy at a given price
Define the law of demand.
The negative causal relationship between price and quantity demanded - within a period of time, when the price of a good increases, the quantity demanded decreases, ceteris paribus
Outline non-price determinants that affect demand.
HIS AGE
- Habits, tastes, and preferences
- Income
- Substitutes and complements
- Advertising
- Government policies
- Economy
Define supply.
The quantity of goods or services a firm is willing and able to produce and supply to the market at different price points, ceteris paribus.
Outline the law of supply.
The positive causal relationship between price and quantity supplied - within a period of time, when the price of a good increases, the quantity supplied increases, ceteris paribus
Outline the non-price determinants that shift the supply curve.
SWITCH
- Subsidies
- Weather
- ICT (Technology)
- Taxes
- Competitive supply
- Hurdles (barriers to entry)
Define equilibrium
When quantity demanded is equal to quantity supplied
Explain the price mechanism/invisible hand.
Producer Signaling
- Producers see the signal shortage
- Producers have incentive to increase price from P1 to P2
- Producers are more willing and able to supply at P2/Q2
Consumer Signaling
- Consumers observe the price increases from P1 to P2
- Consumers have the incentive to consume less from Q3 to Q2
Conclusion: equilibrium price is reached at P2, Q2
Define consumer surplus.
- benefits to buyers who are able to purchase a product for less than they are willing to do so
- The highest price consumers are willing to pay for a good minus the price actually paid
Define producer surplus.
The price received by firms for selling their good minus the lowest price producers are willing to accept to produce the good
Outline allocative efficiency.
when resources are distributed so that consumers and producers get the maximum possible benefit
Define price elasticity of demand.
- The responsiveness of the quantity demanded of a good to change in its price
- Formula = % change in Qd / % change in P
- elastic if PED > 1, inelastic if PED < 1
Outline the determinants of PED.
THIS
- Time
- Habits, addictions, tastes
- Incomes
- Substitutes (availability and price of)
Define price elasticity of supply.
- The responsiveness of the quantity supplied of a good to its change in price
- Formula = % change in QS / % change in P
- elastic if PES > 1, inelastic if PES < 1
Define income elasticity.
- The responsiveness of quantity demanded to changes in income for a good or service
- Formula = % change in QD / % change in income
Outline the interpretation of the value of YED.
YED > 0
- demand and income changes in the same direction -> normal goods
YED < 0
- demand and income change in opposite directions -> inferior goods
0 < YED < 1
- income inelastic: people buy a little more if income increases -> necessities
YED > 1
- income elastic: people buy a lot more if income increases -> luxuries
Define direct tax.
Tax imposed on income, profits, and wealth
Define indirect tax
Tax imposed on spending (goods and services)
Define excise tax
- indirect tax on a specific good or service
- specific tax: fixed amount of tax per unit of good or service sold
- ad valorem tax: tax calculated as a fixed percentage of the price of the good or service
Outline the benefits of taxation.
- government revenue earned
- redistributes income
- corrects negative externalities to improve allocative efficiencies
Define subsidy
- financial support to individuals or groups for reducing costs of production
- focuses only on cash payments to firms
Outline the benefits of subsidies.
- increases producer revenue
- makes necessities more affordable
- encourages production and consumption of merit goods
- supports growth of particular industries
- encourages exports
Define stakeholders
parties that have an interest in the economic activities, which can affect or be affected by the outcome of economic activities
Define market failure.
- failure of the free market to allocate scarce resources efficiently at the socially optimum level of output
- overallocation: too many resources allocated to a production of a good
- under allocation: too little resource allocated to a production of a good
Outline the determinants of PES.
TICS
- Time
- Inventory (stocks)
- Capacity
- Substitution (of FOP)
Define MPB, MSB, MPC and MSC.
- MPB: Marginal private benefits; the benefits to consumers for consuming one more unit
- MSB: Marginal social benefits; the benefits to society for consuming one more unit
- MPC: marginal private costs; the costs to producers for producing one more unit
- MSC: marginal social costs; the costs to society for producing one more unit
Outline conditions of a free and competitive market.
- No external costs and benefits
- MPC=MSC and MPB=MSB
- Social welfare at maximum
- Qd=Qs, no shortage of surplus
Outline negative production externalities.
MSC=MPC+External costs
Outline ways to solve negative production externality.
- Market-based interventions e.g. policies that rely on the market
- Government regulations e.g. Carbon tax
- Education for awareness creation
Define merit goods.
- Goods that benefit consumers but are under-provided by the market
- Under-consumed because consumers ignore the benefits or are unable to realize the greater benefits to society
Define demerit goods.
- Goods that create a negative consumption externality
- Over-provided in the market
- Over-consumed because consumers ignore the negative effects or are unaware of the harmful effects on others
Outline ways of evaluating government intervention.
- Cost
- Technical difficulties
- Firm complacency
- Opportunity costs
- Difficulty of achieving social optimum level
- Ineffective on its own
Outline features of public goods.
- Non-rivalrous: Consumption by one person does not reduce consumption for another
- Non-excludable: Impossible to prevent people who have not paid for the good from having access to it
- E.g. street lights, public benches
Define common pool resources.
- Rivalrous but non-excludable
- Not owned by anyone so there is no price for use
Outline the consequences of the tragedy of the Commons.
- Over-used by private individuals who enjoy the short-term benefits while ignoring the long term depletion
- Depletion of natural resources for future generations
- Unbalanced distribution
- Soil erosion
- Contamination
Outline sustainability.
- Environment: environmental preservation
- Economy: preservation of humankind’s ability to provide G&S to satisfy needs and wants
- Sustainable development: development that meets the needs of the present without compromising the ability of future generations to meet their own needs
Outline special cases of PED.
- Unit elastic demand: PED=1, percentage change in quantity demanded equals percentage change in price
- Perfectly inelastic demand: PED=0, quantity demanded is completely unresponsive to price
- Perfectly elastic demand: PED=infinite, quantity demanded is infinitely responsive to price
Explain sticky goods.
The quantity demanded will be the same even if income changes
Outline possible actions to improve responses to price change.
- Invest in extra capacity
- Increase storage to keep stock
- Invest in new equipment, procedures and workers
- Training workers to become more mobile
Define externalities.
Actions of consumers or producers that give rise to negative or positive side-effects on those not part of the transaction (third-party)
- Private benefits: Consumer’s benefits upon consumption
- Social benefits: Private benefits + External benefits
- Private costs: Producer’s costs of production
- Social costs: Private costs + External costs
Outline market-based policies that can correct negative production externalities.
Carbon tax
- tax on pollutants
- short run: increase costs of production
- long run: incentives for producers to use less polluting or non-polluting energy sources
Tradable permits
- gives firms permission to pollute
- can be traded on the free market
- supply is fixed (perfectly inelastic)
- short run: higher cost from trade permits increases MPC
- long run: incentive to producers to switch to less polluting resources
Define substitutes
products that can be used instead of each other, such as Coca Cola and Pepsi
Define complements
products that are jointly demanded, such as pencil and erasers
Define normal goods
- quantity demanded increases with a rise in income
- includes necessities and luxury goods
Define inferior goods
- quantity demanded decreases with a rise in income
- consumers tend to switch to superior products as income rises
Outline price determinants of demand
- price rise causes contraction in Qd
- price fall causes expansion in Qd
Define price ceiling.
when the government sets a maximum price below the market equilibrium price to encourage output and consumption
Define price floor
when the government imposes a minimum price above the market equilibrium price to encourage supply of a certain good or service
Outline examples of market failure.
- under-provision of merit goods
- under-provision of public goods
- over-provision of demerit goods
- abuse of monopoly power
Define external costs
Costs incurred by a third party in an economic transaction for which no compensation is paid
Define external benefit
Benefits enjoyed by a third party from an economic transaction
Outline pros and cons of imposing a tax
Pros
- increases price, decreases quantity demanded
- creates tax revenue for the government
Cons
- demand for demerit goods tend to be price inelastic, may have little impact on consumption
- tax may be regressive, greater impact on low-income earners
- encourage smuggling or unofficial market activity
Outline pros and cons of imposing rules and regulations to correct market failure
Pros
- consumption of demerit good reduced
- increased awareness of negative impacts of demerit goods
Cons
- underground markets may develop
- some may break the rules
- fine or punishment for ignoring the ban must be enforced and set high enough
Outline pros and cons of education and advertising.
Pros
- behavior and consumption patterns of individuals and firms change
- positive cultural change in behavior
Cons
- not all are effective
- takes a long time to be effective
- opportunity cost of government expenditure
