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45 Cards in this Set

  • Front
  • Back

Elasticity

a measure of responsiveness to change




Helps businesses and governments make better decisions and it helps producers maximize their reveneus

Price elasticity of demand

measures the responsiveness of quantity demanded due to a change in price




|%^Q/%^P|




not negative. LOD - Demand falls, price increases

Pure number

No units, allows to compare elasticities without worrying

Demand is Elastic

When Ed > 1

When Ed > 1

Demand is inelastic

when Ed < 1

when Ed < 1

Demand is Unit Elastic

when ED = 1

when ED = 1

Demand is perfectly elastic

When ED = infinity

When ED = infinity

Demand is perfectly inelastic

Ed = 0

Ed = 0

Existence of close substitutes

Demand is more elastic when there are more close substitutes




Diet Coke vs. insulin

Necessity or Luxury

Demand is more elastic for luxury goods than for nevessities

Share of income spent on the good

demand is more elastic if a larger share of income is spent on the good

Time to adjust to a price change

Demand is more elastic if people have longer to adjust to a price change



Midpoint formula

%^Qd = End value - Beginning Value / Average


%^P = End Value - Beginning Value / Average




ED = |%^Qd/%^P|



Assuming a straight-line demand curve, the price elasticity of demand is

0 at the horizontal intercept




infinity at the vertical intercept




1 at the midpoint

If demand is inelastic, increasing price ________ Total Revenues




TR = P x Q

Increases

If demand is elastic, increasing price _______ Total revenues

Decreases

Price elasticity of supply

measures the responsiveness of quantity supplied to a change in price




%^Qs/%^P




Always positive



LOS - supply increases as price increases

Cross-price elasticity

Measures the responsiveness of the quantity demanded for one good to a change in the price of a related good




Ecp = %^QDa/ %^Pb




This measure is + for substitutes and - for compliments




0 for unrelated goods

income elasticity of demand

measures the responsiveness of the quantity demanded to a change in income




%^QB/%income




+ for normal goods and - for inferior goods

If E1 > 1

the good is a luxury good

If 0 < E1 < 1

the good is a necessity

They take an action when the marginal benifit

exceeds or = to the marginal cost

Marginal cost

is the additional cost that making that decision entailes




^TC/^Q




usually increases as quantity increases

Marginal benefit

is the additional benefit that making that decision entails


^TB / ^Q




usually decreases as the quantity increases

budget line

shows all the maximum bundles of two goods that a consumer can afford, assuming that he or she spends all of his or her entire budget.

it tells us nothing about preferences

They have negative slopes

slopes are constant

tells us about affordabi...

shows all the maximum bundles of two goods that a consumer can afford, assuming that he or she spends all of his or her entire budget.




it tells us nothing about preferences




They have negative slopes




slopes are constant




tells us about affordability

The vertical intercept represents the maximum affordable quantity of the good listed along the vertical, assuming the consumer spends

all of his or her income on that good

The horizontal intercept represents the maximum affordable quantity of the good listed along the horizontal, assuming the consumer spends

all of his of her income on that good

The price of Beer increases

demand decreases inward

demand decreases inward and the budget line gets flatter

The Price of beer decreases

Demand increases outward

Demand increases outward

The price of pizza increases

The price of pizza decreases

Your income decreases

Shifts inward in a parallel fashtion

Your income increases

Shifts outward in a parallel fashion

Utility

a fancy economics term for hapiness

Total utility

the aggregate measure of happiness

Marginal utiltiy

the additional utility derived from consuming one more unit




MU = ^TU/^Q

law of diminishing marginal utility

marginal utility of consuming an additional unit decreases as the quantity increases.

marginal utility of consuming an additional unit decreases as the quantity increases.





"Bang for your buck"

is equal to the marginal utility derived from consuming the good, divided by the price of the good.




Mu/P

Optimal consumption rule

rational decision makers consume the bundle of goods for which MU/P is equal to all goods




example: MU/P pizza = MU/P soda




MU/P pizza = MU/P soda = MU/P breadsticks

The consumer will respond by buying

more of good A and less of good B




MUa/MUpa = MUb/Pb




If Firm A advertises effectively, its MU increases:




MUa/Pa > MUb/Pb



The consumer will respond by buying

Less of Good A




MUa/Pa = MUb/Pb




If the price of Good a increses: MUa/Pa < MUb/Pb

Consumer Choice Model

explains how people make rational decisions




People want to maximize their utility




People have preferences (indifference curves)




People have income constraints (budget lines)

Utility function

represents the relationship between total utility and the quantity of a good consumed




U = f(X,Y) < General




U = 4X + 6Y < linear




U = 4X^1/2 * 6Y^1/2 < non-linear

indifference curve

reflects combinations of two goods among which the consumer is indifferent.




Higher indifference are associated with higher levels of utility




There is an infinite number of indifference curves




USUALLY have negative slopes.




Unless one good is an economic good and another is an economic bad




cannot cross

indifference function

from a utility function by holding utility constant and solving for one of the goods




U = 4X + 6Y




U - 4x = 6y




U - 4x / 6 = y