ECON 202 Exam #1 Self-Study Guide

What is the opportunity cost of... ...going to college for a year? a) Tuition b) Books and fees c) Wages that could have been earned working at McDonald's d) a and b above e) All of the above.

Answer: e

4. People Respond to Incentives

Rational people respond to incentives → example: when cigarette taxes increase, teen smoking falls

Supply = Willingness to Produce (WTPr)

a given amount of a good at a particular price

Demand = Willingness to Buy (WTB)

a given amount of a good at a particular price.

Market

a group of buyers and sellers of a particular product

Market power

a single buyer or seller has substantial influence on market price (e.g. monopoly)

Market economy

allocates resources through the decentralized of many households and firms as they interact in markets

Market

any arrangement that brings a group of buyers and sellers together

Demand = Willingness to Pay (WTP)

for a given amount of a good

Marginal changes

incremental adjustments to an existing plan

Demand Curve

shows the amount of a good that will be purchased at alternative prices, holding other determinants of demand constant

Supply Curve

shows the amount of good that will be produced at alternative prices, holding other determinants of supply constant

Incentive

something that induces a person to act → i.e. the prospect of a reward or punishment

Demand

the amount of the good (or service) that buyers are willing and able to purchase

Supply

the amount of the good (or service) that sellers are willing and able to sell

Law of Demand

the demand curve is downward sloping

Determinant of market demand,...

then, is number of consumers. The more consumers, the greater is demand (the demand curve will shift up and to the right...)

Equality

when prosperity is distributed uniformly among society' members

Efficiency

when society gets the most from its scarce resources

Market failure

when the market fails to allocate society's resources efficiently

Externalities

when the production or consumption or consumption of a good affects bystanders (e.g. pollution)

Change in Quantity Demanded vs A Change in Demand

• A change in price leads to a Change in Quantity Demanded → Movement along the demand curve • Any other determinant that changes lead to a Change of Demand → Shift in the demand curve

Change in Quantity Supplied vs A Change in Supply

• A change in price leads to a Change in Quantity Supplied → Movement along the supply curve • Any other determinant that changes lead to a Change in supply → Shift in the supply curve

Competitive market:

• All goods are exactly the same • Buyers and sellers so numerous that no one can affect market price-each is a "price taker" • We assume markets are competitive for now.

1. People Face Tradeoffs: All decisions involve tradeoffs. Examples are as follows

• Going to a party the night before your midterm leaves less time for studying. • Having more money to buy stuff requires working longer hours, which leaves less time for leisure. • Protecting the environment requires resources that could otherwise be used to produce consumer goods.

6. Markets Are Usually a Good Way to Organize Economic Activity

• Households and firms act as if "led by an invisible hand" to promote general economic well-being

Elasticity

- Our understanding of supply and demand give us a qualitative assessment of how events change equilibrium price and quantity. - The question of magnitude or measurement is absent in that analysis.

The Ten Principles

1. People Face Tradeoffs: All decisions involve tradeoffs. Examples are as follows 2. The Cost of Something Is What You Give Up to Get It 3. Rational People Think at the Margin 4. People Respond to Incentives 5. Trade Can Make Everyone Better Off 6. Markets Are Usually a Good Way to Organize Economic Activity 7. Governments Can Sometimes Improve Market Outcomes Don't Worry Too Much About: 8-10

Four Different Types of Elasticities

1. The (own) price of elasticity of demand 2. The income elasticity of demand 3. The cross-price elasticity of demand 4. The (own) price elasticity of supply

Causes of Market failure:

Externalities and Market power

Comparative Static Analysis

Three Steps: 1. Decide whether the event shifts the supply or demand curve (or both) 2. Decide whether the curve(s) shift(s) to the left of the right 3. Examine how the shift affects equilibrium price and quantity

Tradeoff

To achieve greater equality. Could redistribute income from wealthy to poor. But this reduces incentive to work and produce, shrinks the size of the economic "pie."

Elasticity

is a quantitative measure of how much buyers and sellers respond to changes in market conditions. - This allows us to analyze supply and demand w/ greater precision.

Market demand

is the horizontal summation of all individual consumer demand curves.

1. The (own) price of elasticity of demand

measures the percentage change in quantity demanded divided by the percentage change in the price - measure of how much quantity demanded of a good responds to a change in the price of that good

Supply = Willingness to sell (WTS)

of a given amount of a good

Opportunity Cost

of any item is whatever must be given up to obtain it → It is the relevant cost for decision making

Computing the Price Elasticity of Demand

percentage change in quantity demanded divided by percentage change in price

Scarcity

the limited nature of society's resources

Economics

the study of how society manages its scarce resources → How people decide what to buy, how much to work, save, and spend → How firms decide how much to produce, how many workers to hire → How society decides how to divide its resources b/t national defense, consumer goods, protecting the environment, and other needs

Law of Supply

the supply curve is upward sloping

7. Governments Can Sometimes Improve Market Outcomes

• Important role for govt: enforce property rights (with police, courts) • People are less inclined to work, produce, invest, or purchase if large risk of their property being stolen. →Market failure • In such cases, public policy may promote efficiency. • Govt may alter market outcome to promote equity. • If the market's distribution of economic well-being is not desirable, tax or welfare policies can change how the economic "pie" is divided.

Determinants of Demand:

• Price • Income → Normal good → Inferior good • Prices of related goods → Prices of substitutes → Prices of complements • Advertising and consumer tastes • Population, demographics • Consumer expectations • OTHERS?

5. Trade Can Make Everyone Better Off

• Rather than being self-sufficient, people can specialize in producing one good or service and exchange it for other goods.

3. Rational People Think at the Margin

• Rational People → Systematically and purposefully do the best they can do to achieve their objectives. → Make decisions by evaluating costs and benefits of

2. The Cost of Something Is What You Give Up to Get It

• There is no such thing as a free lunch. • Making decisions requires comparing the costs and the benefits of alternative choices.

Countries also benefit from trade & specialization

→ Get a better price abroad for goods the produce → Buy other goods more cheaply from abroad than could be produced at home

The invisible hand works through the price system:

→ The interaction of buyers and sellers determine prices. → Each price reflects the good's value to buyers and the cost of producing the good. → Prices guide self-interested households and firms to make decisions that, in many cases, maximize society's economic well-being.

"Organize economic activity" means determining

→ What goods to produce → How to produce them → How Much of each to produce → Who gets them