Midterm 2 Flashcards
Utility
Satisfaction, happiness
Total Utility (TU)
Total satisfaction received from a product
TU=Sum of MU
Marginal Utility (MU)
Additional satisfaction gained from consuming one more unit of a product.
- Tangent of TU
MU=TU/Q
Law of Diminishing Marginal Utility (LDMU)
marginal utility will decrease after a certain point when we continue to consume goods.
The utility the consumers derive from successive units of a particular product.
Maximum Utility
Maximum utility is attained when the marginal utility from the last dollar spent are equal.
Consumer Decision
A utility-maximizing consumer (household) allocates expenditures so that the marginal utility obtained from the last dollar spent on each product is equal.
Maximizing Utility Methods
- MUx/Px=MUy/Py
- MUx/MUy=Px/Py
- MB=MC
Market demand curve
Shows relationship between a product’s price and the amount demanded by all consumers together.
Calculating market demand
Add all individual demand curves (Add Qd’s from each - add horizontally)
Real income
Income expressed in terms of purchasing power of money income; the quantity of goods and services that can be purchased with the money income
Substitution effect
The change of quantity demanded due to a change in relative price, holding real income constant
Income effect
The change in quantity demanded of a product when there is a change in real income
Normal good
- Substitution effect is negative
- Income effect is positive
Inferior good
- Substitution effect is negative
- Income effect is positive
Giffen good
An inferior good where the income effects outweigh the substitution effect causing it to be positively sloped
- Substitution effect is negative
- Income effect is really positive
Conspicuous consumption good
- Products consumed for “snob appeal”, only bought because it is expensive, shows status, more designer goods
- Substitution effect is positive
Consumer surplus
The difference between the total value that the consumers place on all units consumed of a product, and the payment they actually make to purchase the product
Demand curve price
Value consumer is willing to pay, maximum P consumer will buy at
- Reservation price
Market price
Value consumer must pay, price tag on item
Paradox of values
Just because good A is more expensive than good B doesn’t mean that it’s more valuable
- Mistaking TU for MU
Indifference(II) curve
All combinations of x and y that yield a given level of happiness.
- TU is constant (change in TU is zero)
II curve assumptions
- Consumer can rank preferences
- Preferences are transitive (A over B, B over C, so A over C)
- More is better “MIB”
II curve characteristics
- Infinite number increasing away from the origin
- Downward sloping
- Cannot cross
- Convex from the origin
Utility function
TU=TU(x, y)
II curve equation
ΔX(MUx)+ΔY(MUy)=0
so ΔTU is 0
Slope of II curve
Marginal rate of substitution
Marginal rate of substitution
The amount of one product that a consumer is willing to give up to get one more unit of another product and remain indifferent
- Always negative
- Slope of II curve
Budget line characteristics
- All points use up consumers entire income
- Points between budget line and origin are points that don’t entirely use up consumers income.
- Points above the budget line indicate combinations of products that cost more than the consumer’s income (impossible)
Budget line
All possible consumption combinations of two goods, given income (Y) and the prices of two goods
Slope of budget line equation and meanings
- -Px/Py
- ratio of relative prices
or - opportunity cost
Income consumption line (BL when Y changes)
Change in income relative to constant price.
- positive, parallel shift
Price consumption line (BL when relative price changes)
Shows consumer’s purchases react to a change in one price with money income and other price held constant.
- negative, rotation shift
Firms
Self-contained, profit maximizing entity that produces and sells goods and services.
- is an economic construct (not always a business)
Single (sole) proprietorship
A form that has one owner who is personally responsible for the firm’s actions and debts.
- Owner has unlimited liability
Partnership
A firm with two or more joint owners, both responsible for the firm’s actions and debts
- two sole proprietorships acting as one
- joint liability, still unlimited
Company/corporation
A firm that has a legal existence separate from that of the owners
- See it as a separate person or “separate legal entity”
- Shareholder has unlimited liability
Limited liability partnership
A partnership but the liability is limited to the company
Crown-corporation (state-owned enterprise)
Firm owned by government
Non-profit/non-governmental organization
Provides free services (covers their costs)
Capital
Net worth, amount of assets that exceed liability
Physical capital
Office space, factories, equipment (K)
Financial capital
Funds raised by the business to carry one its ventures
Equity finance
Granting share of control of company in return for the gift of money
- share or stock (business term)
- gifting: company money when buying stocks
Debt finance
Borrowing money
- bond (economic term) > loaning=buying bonds
- debt instrument
- IOU
Corporate social responsibility (CSR)
Obligation of business policy to be compatible with social goals and values
- increases sales
- “signaling device”
- “halo effect”
Profit equation
P=TR-TC
Total revenue equation
TR=P*Q
Production
Firms turning inputs into outputs
- inputs = factors of production
- outputs = goods and services, commodities, TP, Q
Production function
Q=f(inputs)
Intermediate products
All outputs that are used as inputs by other producers in a further stage of production
Cost
Value of inputs
Explicit cost
Costs that actually involve purchase of a good or service
- same as accounting cost
Implicit cost
The difference between the revenue received from the sale of output and the opportunity cost of the inputs used to make the output.
- economic cost
- opportunity cost
- negative economic cost=economic loss
Sunk cost
Assets that have lost their value
Accounting profit equation
AP=TR-accounting costs
- aka net income
Economic profit formula
TR-TC or TR-OC
- pure profit
Normal profit
Is actually a cost, the cost of entrepeneurship
What does zero economic profit mean?
The firm is allocatively efficient
Allocatively efficient
When the last unit provides a marginal benefit to consumers equal to marginal cost of production
T/F: Can you make accounting profits and zero pure profit?
True
What does positive economic profit signal?
For the firm to enter the industry
What does negative economic profit signal?
For the firm to exit the industry
Short run
Operating decisions, at least one factor of production is fixed (besides Technology)
Long run
Planning decisions, all factors vary (except Technology)
Very long run
Growth decisions, all factors vary (even Technology)
T/F: Can short run be a very long time?
True, SR, LR and VLR aren’t measures of time, but instead are based on the variables available
Total product (TP)
Total amount produced by a firm during some time period
- Mother of all curves
Mother of all curves
Total product curve
Average product (AP)
Total product divided by the number of units of the variable factor used in production
- AP=TP/L
(L is labour, or N)
- Slope of rate
Marginal product (MP)
Change in total production divided by change in variable units
- MP=ΔTP/ΔN
- Slope of tangent
Apex of average product curve
Point of diminishing average productivity
Apex of marginal product curve
Point of diminishing marginal productivity
Law of Diminishing Marginal Product/Returns (LDMR)
The hypothesis that if increasing quantities of a variable factor are applied to a given quantity of fixed factors, the marginal product of the variable factor will eventually decrease
Total cost (TC)
Total cost of producing any given level of output
- TC=TFC+TVC
Total fixed cost (TFC)
All costs of production that do not vary with level of output
- Overhead cost (ex. rent)
- Constant (straight line)
Total variable cost (TVC)
Total costs of production that vary with the level of output
- Rises when output rises, lowers when output lowers
What does total cost and total variable cost have in common?
Same tangent slopes (they are parallel, with TC on top and starting from TFC, while TVC starts from origin)
Average total cost (AC or ATC)
Total cost of producing a given output divided by the number of units of output
- aka unit cost
- AC=AFC+AVC
Average fixed cost (AFC)
Total fixed cost divided by number of units per output
- AFC=TFC/Q
Average variable cost (AVC)
Total variable cost divided by the number of units of output
- First declines, reaches minimum, then starts to increase
- AVC=TVC/Q
Marginal cost (MC)
The increase in total cost resulting from increasing output by one unit
- same as marginal variable cost (MVC)
- MC=0+MVC or MC=MVC
- MC=ΔTC/ΔQ
Marginal variable cost (MVC)
Equivalent to marginal cost
- MVC=MC
- MVC=ΔTVC/ΔQ
Marginal fixed cost (MFC)
Fixed costs are zero as they do not change as output rises
- MC=0
Why are cost curves shaped as ‘U’s?
Due to the law of diminishing marginal returns (LDMR)
Capacity
The largest output that can be produced without encountering rising average cost per unit
- Capacity of firm is minimum short run average total cost (SRAC)
Excess capacity
A firm that is producing at an output less than the point of minimum average cost
Technical efficiency
Minimizing the quantity (Q input) of all inputs to produce a given output
Economic efficiency
Minimizing the cost (Pinput*Qinput) of all inputs to produce a given output.
