Test #1 - units 1-5 Flashcards
What is economic surplus?
The total benefits minus the total costs flowing from a decision - measure how much a decision has improved your well-being
- you generate economic surplus every time you follow the cost-benefit principle
What is a framing effect and an example?
Sales tactics clouding judgement
Ex. sales price shouldn’t matter to use - but it does
What does it mean to consider the full set of benefits and costs for any given choice?
Consider both financial and nonfinancial aspects
What is the take-away/amplication to the cost-benefit policy?
to influence choices we need to change incentives - ex. want people to cheat less –> raise the costs and lower the benefits
Describe the opportunity cost?
The true cost of something is the next best alternative you have to give up to get it - it’s always this OR that
Often have to give up more than just money to get something
**the opportunity cost is not ALL the other option, it’s just your next best alternative
Describe scarcity
Resources are limited - any resources you spend pursuing one activity leaves fewer resources to pursue others
Describe a sunk cost. Why are they irrelevant?
A cost that has been incurred and cannot be reversed - not considered an opportunity cost
Irrelevant because they are associated with every alternative moving forward
You can only reach a point above your original PPF (Production Possibilities Frontier) if you _______________
increase your productivity in some way
ex. discover a new study technique
__________ makes opportunity costs (trade offs) inescapable
Scarcity
Describe the marginal principle
Breaking “how many” decisions into smaller, marginal decisions
Weigh the marginal benefits and marginal costs
What is the marginal benefit and marginal cost?
Marginal benefit = the extra benefit from one extra unit (good purchased, hours studied, etc.)
Marginal Cost = the extra cost from one extra unit
What is the rational rule?
If something is worth doing, keep doing it until your marginal benefits equal your marginal costs
According to the interdependence principle, your best choice depends on what 4 things?
- your other choices
- the choices others make
- developments in other markets
- expectations about the future
Why are each of your choices connected?
Because you have limited resources
What is the individual demand curve?
A graph that plots the quantity of an item that an individual plans to purchase at each price
- summarizes your buying plans and how those plans vary with price
What is the law of demand?
What does this imply?
The tendency for quantity demanded to be higher when the price is lower
Implies that demand curves slope down
What is the Rational Rule for buyers?
(the demand curve is the same as what?)
Demand and marginal benefit are one and the same
*The price you are willing to pay for each unit is informed by the marginal benefit you associated with that unit
(marginal benefit decreases as you buy more and more of the item, just as the quantity purchased decreases as the price rises)
What is the diminishing marginal benefit?
Each additional item yields a smaller marginal benefit than the previous item
What is the four-step process to estimate market demand?
- Survey: ask each person the quantity they will buy at each price
- For each price, add up total quantity demanded by all customers
- Scale up the quantities to represent the whole market
- Plot the total quantity deamanded at each price
Define the “change in quantity demanded”
The change in quantity associated with movement along a fixed demand curve
What are the six factors that shift the demand curve?
- Income
- Preferences
- Prices of related goods
- Expectations
- Congestion and network effects
- The type and number of buyers
What are normal goods and inferior goods
Normal good - when income increases, demand for normal goods increase
Inferior Good - when income decreases, demand for inferior goods decrease
How do the prices of related goods shift the demand curve?
Complementary good: goods that go well together - ex. when the price of hot dogs rises, then I will buy fewer hot dogs and fewer hot dog buns
Substitute good: goods that replace each other - ex. if mcdonalds prices rise then I will go to wendys more
What is the network and congestion effect
Network - When a good becomes more useful because other people use it - more people buying good means my demand for it increases
Congestion - when a good becomes less valuable because other people use it. Ex. my demand for driving on a road will decline if there’s a traffic jam there
Consumers are buying more candy because it is Halloween - what kind of shift is this?
Shift of the demand curve to the right because of preferences
What does the supply curve show?
Visually summarizes the selling plans of a business, and how those plans vary with price
What are you supposed to ignore when thinking about the supply curve?
Ignore consumers - not trying to anticipate how much you will/can sell at each price - how much are you willing to bring to market?
Imagine that you know nothing about the market or your consumers
What is the law of supply?
The tendency for quantity supplied to be higher when the price is higher
What does the law of supply imply about the slope?
It curves upward
What is a perfectly competitive market?
All firms in an industry sell an identical good
There are many buyers and sellers, each of whom is small relative to the size of the market
Define- Monopoly, Oligopoly, and Monopolistic Competition
Monopoly = one firm selling a unique product - control over their own price
Oligopoly = a few firms (ex. banks)
Monopolistic Competition = many firms but some difference sin what they sell, so they have some ability to set their own price (ex. tims and dons)
Why is the supply curve upward sloping?
Opportunity cost –> the more product you supply, the higher the price has to be in order to entice you to give up more of your resources
Law of diminishing marginal product –> as you increase inputs, eventually the additional product declines (like having too many cooks in the kitchen)
Marginal costs include variable costs but exclude ____________
fixed costs
What is the difference between variable costs and fixed costs?
Variable costs are things that vary with the quantity of output you produce
Fixed costs are costs that don’t vary when you change the quantity of output you produce
Your marginal costs are your additional _________ costs
variable
*marginal costs don’t include fixed costs
What is the rational rule for sellers in competitive markets?
Sell one more unit if the price is greater than (or equal to) the marginal costs
The marginal cost and _______ curves are the same
Why?
Supply
Supply summarizes the price at which you are willing to sell each quantity
The price you are willing to sell each unit for is informed by the marginal cost of producing that unit
What are the five factors that shift the market supply curve?
- Input prices
- Productivity and technology
- Prices of related outputs
- Expectations
- The type and number of sellers
Describe productivity growth
Producing more output with fewer inputs
Describe the two different ways the prices of related outputs can shift the supply curve
Complements-in-production: Goods that are MADE TOGETHER - your supply of a good will increase if the price of a complement-in-production rises
(ex. beef and leather)
Substitutes-in-production: Alternative uses of your resources - either you increase one or the other. Your supply of a good will decrease if the price of a substitute-in-production rises
(ex. women’s clothes or kids clothes)
What are the two different organization options of an economy?
Planned economy - centralized decisions are made about what is produced, how, by whom, and who gets what
Market Economy - each individual makes their own production and consumption decisions, buying and selling in markets
What is a market?
A setting that brings together potential buyers and sellers
What’s another word for equilibrium price?
Market-clearing price
What is equilibrium?
In a competitive market - when the quantity demanded of a good equals the quantity supplied of that good
When is there a shortage?
If the quantity demanded exceeds the quantity supplied
Whenever the price is BELOW the equilibrium price
Price needs to be pushed up
When is there a surplus?
When the quantity demanded is less than the quantity supplied
Whenever the price is ABOVE the equilibrium price
Price needs to be pushed down
When the demand curve shifts right, what happens to the equilibrium price and quantity?
Equilibrium price and quantity both increase
When the demand curve shifts left, what happens to the equilibrium price and quantity?
Equilibrium price and quantity both decrease
When the supply curve shifts right, what happens to the equilibrium price and quantity?
Equilibrium price decreases and equilibrium quantity increases
When the supply curve shifts left, what happens to the equilibrium price and quantity?
Equilibrium price increases and equilibrium quantity decreases
If prices and quantities move in the SAME direction, then the ________ curve has DEFINITELY shifted
demand
(possibly also supply)
If price and quantities move in OPPOSITE directions, then the _________ curve has DEFINITELY shifted
supply
(possibly also demand)
What are the four different kinds of elasticity you can calculate for any given product?
Price elasticity of demand (%change in QD when the price of a good changes)
Price elasticity of supply (%change in QS when the price of a good changes)
Income elasticity of demand (% change in QD when income changes)
Cross price elasticity of demand (% change in QD when the price of substitute or complement changes)
If cutting the price of t-shirts 15% leads to a rise in quantity demanded by 25%, then the PED for t-shirts is…
25% divided by 15% = 1.67
What is the PED of an inelastic and perfectly inelastic demand?
What’s an example of each?
Inelastic: PED is greater than 0 and less than 1
ex. gas
Perfectly Inelastic: PED = 0 (vertical line)
ex. insulin
What is the PED of a perfectly elastic, elastic, and unit elastic demand? What’s an example of each
perfectly elastic: PED = infinity - extremely sensitive to price changes (horizontal line)
ex. a specific brand of cereal
elastic: PED is greater than 1
ex. cars
unit elastic: PED = 1
What are the 5 determining factors of the PED
- More competing products means greater elasticity
- Specific brands tend to have more elastic demand than categories of goods
- necessities have less elastic demand
- consumer search makes demand more elastic
- demand gets more elastic over time
What is the equation for total revenue?
Price x Quantity
A decrease in price will only cause revenue to rise if the % change in __________ is __________ than the % change in _____________
Price
Smaller
Quantity
An increase in price will only cause revenue to rise if the % change in ___________ is ___________ than the % change in ___________
Price
Larger
Quantity
If the demand curve for your product is relatively elastic, then you should ________ the price of your good to increase your total revenue
lower
If the demand curve for your product in relatively inelastic, then you should ________ the price of your good to increase your total revenue
raise
What is the equation for the cross-price elasticity of demand between goods A and B?
= % change in quantity of A divided by % change in price of B
Good are _________ when the cross-price elasticity of demand is positive
Substitutes
What is the equation for the income elasticity of demand?
= % change in quantity demanded divided by the % change in income
Goods are ________ when the cross-price elasticity of demand is negative
Complements
________ goods have a negative income elasticity of demand
Inferior
