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44 Cards in this Set
- Front
- Back
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Economics
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A Science that analyzes how individuals behave, in a world of Scarcity
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Positive vs. Normative Science
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Positive: Describes what is or will be. It is Objective, Factual, Testable, Descriptive
Normative: Describes what should or ought to be. It is Subjective, Contains a value judgement, Opinion |
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Elements in Construction of Theory
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Abstractions, Definitions, Assumptions, Implications, Adoption of Theory
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Marginal (Economic) Analysis
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Looks at small degrees of change. Marginal = Additional; one more. Marginal Value = Additional value of having one more. Marginal Revenue = Additional revenue from one more. Marginal Cost = Additional cost of one more
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Goods
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A good is anything, that an individual wants to have more of, at zero price. Can be material or non-material.
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Resource
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Anything that can be used to produce goods. Land: All its attributes. Labor: people. Capital: buildings and equipment
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Basic Assumptions of Scarcity
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Scarcity: Individually, and as a society, we do not have enough resources to produce all the things we want. Humankind has unlimited wants. Our resources are limited.
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Implications of Scarcity
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Choice, Economic Cost, Competition
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Implications of Scarcity (Choice)
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People must choose which goods to acquire.
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Implications of Scarcity (Economic Cost)
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The cost of any action, is the personal value of the next highest valued alternative given-up.
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Implications of Scarcity (Competition)
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We are in a state of competition for the use of resources.
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Forms of Competition
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Violence, Social/Political, Economic/Market
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Forms of Competition (Violence)
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Physical fighting, using force, violence towards others. Or threat of violence
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Forms of Competition (Social/Political)
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Competition on the basis of some limited behavior or characteristic
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Forms of Competition (Economic/Market)
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Competition based on offering the highest value in exchange.
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Perfect Competition
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Many buyers and sellers. Product homogeneity. Zero cost of accurate information. Free entry and exit. Best regarded as a benchmark
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Ceteris Paribus
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Look at one thing at a time; all other things held equal.
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First Law of Demand
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The higher the price of a good, the smaller the quantity demanded; the lower the price of a good, the greater the quantity demanded. "For a sufficient rise in price, the quantity demanded will decrease." Demand is downward sloping
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Determinants of Demand (Part 1)
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- Taste & Preference: How much you like the good.
- Income (Wealth): A change in income affects demand. ----- Normal Good: Increase in income increases demand. (Right Shift) ----- Inferior Good: Increase in income decreases demand. (Left Shift) |
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Determinants of Demand (Part 2)
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- Price of Other Goods:
-----Substitutes: Most other goods are substitutes; an increase in the price of a substitute increases demand (rightward shift) -----Complements: Goods used together; an increase in the price of complements decreases demand (leftward shift) - Future Price Expectations: an increase in the expected future price will increase demand today |
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Market Demand
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- The market demand is the sum of the individual demand of the buyers.
- An increase in the number of buyers will increase market demand. |
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Market Supply
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- Supply is a schedule of the alternative quantities which sellers are willing and able to sell at alternative prices.
- Supply is generally a positive relationship: at higher prices the quantity supplied is larger. - Generally a positive relationship -----short run marginal costs increase as output increases -----long run increases in production involve the use of resources with higher opportunity cost |
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Market Dynamics: Change in Quantity vs. Change in Supply
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- If sellers can get a higher price, the increase in quantity supplied is a movement on the supply curve.
- If some other factor changes, the supply curve will shift - An increase in supply is a rightward shift - A decrease in supply is a leftward shift |
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Determinants of Supply: (Shift Factors)
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- Price of Inputs: an increase in price of inputs will dec. supply (leftward shift)
- Change in the Value of Alternative Outputs: a rise in the value of alternative outputs would decrease supply - Change in Technology: an increase in technology will increase supply (rightward shift). - Number of Sellers: as more sellers enter a market the supply shifts rightward. |
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Supply Shortage vs. Supply Surplus
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- Supply shortage: occurs when price is below the market equilibrium.
- Supply surplus: occurs when price is above the market equilibrium -----Market Equilibrium: occurs when the demand (D) = supply (S) at price (P). It is the point of intersection between supply and demand. |
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What Causes Increase In Price?
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- Increase In Demand (id you know quantity increased) or
- Decrease in Supply (if you know quantity decreased) |
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Price Elasticity
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A measure of responsiveness of quantity to a change in price
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Price Elasticity of Demand
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%Change Q Demanded %Change Price |
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Measures of Elasticity (Demand is Elastic)
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% Change in Qd > % Change in P; ie |Ed|>1. A decrease in Price ---> An increase in Total Revenue
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Measures of Elasticity (Demand is Unitary Elastic)
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% Change in Qd = % Change in P; ie |Ed|=1. A change in Price ---> No change in Total Revenue
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Measures of Elasticity (Demand is Inelastic)
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% Change in Qd < % Change in P; ie |Ed|<1. An increase in Price ---> An increase in Total Revenue
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Determinants of Price Elasticity of Demand
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- Number of closeness of substitutes
- Information about price change and availability of substitutes - Percentage of income spent on good - Period of time: Second Law of Demand - Demand is more elastic over a longer period of time. |
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Second Law of Demand
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Demand is more elastic over a longer period of time.
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Factors Creating Increased Elasticity Over Time
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1) More information about price change and substitutes (Beef & Chicken)
2) More substitutes over time (More Hybrids) 3) Increased opportunity to change the complementary basket of goods (Buy a car with higher MPG. Move closer to work.) |
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Income Elasticity
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- Measure of responsiveness of Quantity to a Change in Income.
- Normal Goods: Positive - Increase may be Quantity or Quality - Inferior Goods: Negative %Change Quantity Demanded %Change Income |
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Cross Price Elasticity
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-Measure of responsiveness of Quantity to a Change Price of other good.
- Substitutes: Positive - Compliments: Negative %Change Good A % Change Good B |
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Uses of Cross Price Elasticity
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- Magnitude of cross price elasticity reflects closeness of substitutes or complements
- Able to identify your closest competitors - Courts use cross-price to measure monopoly power |
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Transaction Costs of Exchange
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1) Information Costs: Search costs; quality identification cost
2) Negotiating Costs: Cost of agreeing on what and how much will be exchanged 3) Transportation Costs: Cost of moving goods between parties |
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Monopoly
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- Strong barriers to entry - single supplier
- Profit maximization -----faces market demand and sets MR=MC - Unexploited gains from trade |
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Assumptions/Implications of Perfect Competition (FIRM SUPPLY)
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- Short run
-----Marginal cost curve above average variable cost -----P = SRMC - Long run -----Long-run marginal cost curve above long-run average cost |
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Sources of Market Power: Barriers to Entry (INCUMBENT ADVANTAGES)
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- Specific assets
- Economies of scale - Excess capacity - Reputation effects |
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Sources of Market Power: Barriers to Entry (INCUMBENT REACTIONS)
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- Precommitment contracts
- Licenses and patents - Learning-curve effects - Pioneering brand advantages |
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Measuring Market Power
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- We can see that the ratio of price to marginal cost reflects market power
- The Lerner index is a standardized way to evaluate this. - L = (P - MC)/P - Ranges between Zero (0): no market power and One (1): complete market power |
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Marginal Revenue & Elasticity
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When demand is unitary elastic, marginal revenue is 0. When demand is inelastic, MR is less than 0.
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