ECON Final

What are quasi-fixed costs?

some costs will remain constant over some range of output but will increase if output is increased beyond some quantity

Figure 6:Short run loss

A firm will minimize its losses in the short run by continuing to operate when price is less than ATC but greater than AVC. just need to cover variable costs. if just covering, shut down point.

How do you calculate tax revenue?

it is the amount of the tax times the new equilibrium quantity Qtax.

Figure 13: steel producers are willing to supply the 2,500th ton of steel at a price of $400. Viewing the supply curve as the marginal cost curv, the cost in terms of the value of other goods and services foregone to produce the 2,500th ton of steel is $400. Producing and selling the 2,500th ton of steel for $500 increases producer surplus by $100. The difference between the total (opportunity) cost of producting steel and the total amount that buyers pay for it (producer surplus) is at a maximum when 3,000 tons are manufactured and sold.

**When the demand curve for a good is its marginal social benefit curve and the supply curve for the good is its marginal social cost curve, producing the equilibrium quantity at the price where quantity supplied and quantity demanded are equal maximzes the sum of consumer and producer surplus and brings about an efficient allocation of resources to the production of the good.

What is a price floor?

- a price floor is a minimum price that a buyer can offer for a good, service, or resource. -if the price floor is below the equilibrium price, it wll have no effect on equilibrium price and quantity. -if above, it results in a surplus (excess supply) at the floor price since the quantity supplied Qs, exceeds the quantity demanded, Qd, at the floor price. -there is a loss of efficiency (deadweight loss) because the quantity actually transacted with the price foor, Qd, is less than the efficient equilibrium quantity, Qe.

What is total variable cost (TVC)?

- is the cost of all inputs that vary with output over the period of analysis. -the largest variable costs for most firms are wages, raw materials, or both. -variable costs increase with greater output and can be reduced if a decrease in demand leads to a decrease in production

What is diseconomies of scale?

- the upward sloping segment of the long run average total cost curve indicates that diseconomies of scale are present -diseconomies of scale may result as the increasing bureucracy of larger firms leads to inefficiency, problems of motivating a large workforce, and greater barriers to innovation and entrepreneurial activity. -A firm operating under diseconomies of scale will want to decrease output and move back toward the minimum efficient scale. -auto industry is an example -may be a pat to LRATC curve that is flat, constant returns to scale.

What are the important relationships among marginal and average cost curves as illustrated in figure 6?

-AFC slopes downward- FC constant, but distributed over larger quantity -the vertical distance between ATC and AVC curves is equal to AFC -MC declines initially, then increases- at low quant, efficiencies are realized from the specialization of labor. more labor, marginal cost increases. This is due to diminishing returns, so at some point, each added worker contributes less to total output than previous -MC intersects AVC and ATC at their minimum points. when MC is less than ATC or AVC, they are decreasing. and increasing if MC above. j shaped MC -ATC and AVC are u-shaped- AVC decreases initially, but as output increases, the effect of diminishing returns sets in and AVC eventually slopes upward, giving it a u shape. since FC is spread out, AFC decreases as output increases and flattens out. -minimum point on the ATC curve represents the lowest cost per unit, but it is not necessarily the profitmaximizing point. it means the firm is maximizing profit per unit at that point. -the MC curve above AVC is the firm's short-run supply curve in a perfectly competitive market.

What is marginal cost pricing?

-AKA efficient regulation, forces the monopolist to reduce price to the point where the firm's MC curves intersects the market demand curve. -this increases output and reduces price, but causes the monopolist to incur a loss because price is below ATC, as seen in figure 22. -requires a government subsidy in order to provide the firm with a normal profit and prevent it from leaving the market.

What are the different directions of shifts and what causes them?

-An increase (decrease) in income or the price of a substitute will increase (Decrease) demand -an increase (decrease) in the price of a complement will decrease (increase) demand

Summary on shutdown and breakeven

-If AR ≥ ATC, operate SR and LR -If AR ≥AVC, but AR < ATC, operate SR but exit LR -If AR < AVC, shut down SR and exit LR

What is excess supply?

-If the price is above its equilibrium level, the quantity willingly supplied exceeeds the quantity consumers are willing to purchase. ‣ suppliers willing to sell at lower prices will offer those prices to consumers, driving the market price down towards the equilibrium level.

When is an equilibrium termed unstable?

-If the supply curve is less steeply sloped than the demand curve, and prices above (below) equilibrium will tend to get further from equilibrium. -This is referring to the card prior with prices above equilibrium resulting in downward pressure of price. -also, nonlinear supply funcions produce one stable equilibria and one unstable

Changes in Demand, Entry and Exit, and Changes in Plant size

-In the short run, an increase in market demand ( a shift of the market demand curve to the right) will increase both eq. price and quant. -the market demand will influence a firm, who will enjoy economic profits in short run

Indifference curves must follow certain rules.. what is the second one?

-Indifference curves are convex towards the origin: convexity results when the magnitute of the slope decreases as we move towards less of Good X and more of Good Y -the slope of an indifference cruve at any point is referred to as the marginal rate of substitution (MRS)- the rate at which the consumer will willingly exchange units of good x for units of good y. ‣ thus, the characteristic convexity of indifference curves reflecs a diminishing marginal rate of substitution. ‣ when a consumer has more units of good x and less of good y, he is willing to give up more units of x to get one more unit of y

What is statutory incidence?

-It refers to who is legally responsible for paying the tax -a statutory incidence on the byerr causes a downward shift of the demand curve by the amiunt of the tax. -on supplier, shifts supply curve up -the actual tax incidence is independent of whether the government imposes the tax (statutory incidence) on consumers or suppliers.

Figure 11: Profit Maximization

-MR is greater than MC fir furst 5 units prodiced, and profit is maximum of 20 when 5 units are produced. -can determine profit maximiation by ooking at either total cost to total revenue or comparing marginal cost to marginal revenue.

What is marginal revenue?

-Marginal revenue (MR) is the increase in total revenue from selling one more unit of a good or service. -for a firm in a perfectly competitive market, all units are sold at the same price regardless of quantity, so that average revenue and marginal revenue are both equal to the market price, AR =MR=price

Other factors affect the demand elasticity in addition to the quality and availability of substitutes. what are two more?

-Portion of income spent on a good: the larger proportion of income that is spent on a good, the more elastic an individual's demand for that good will be. -time: elasticity of demand is greater the longer the time period since the price change. think of energy prices, at first just turn down thermostat, over time new living area.

How can profit be maximized?

-Producing up to the point where MR=MC and not producing additional units for which MR <MC -producing the quantity for which TR-TC is a maximum -sometimes same as minimizing losses, for a frim at MR=MC but price below AVC, shutting down is profit maximizing

What is a second price sealed bid auction?

-Vickrey auction- the bidder submitting the highest bid wins the item but pays the amount bid by the second highest bidder. -there is no reason for a bidder to bid less than his reservation price. -the outcome is much like that of an ascending price auction, where the winning bidder pays one increment of price more than the price offered by the bidder who values the item second most likely.

Explain how economies of scale and diseconomies of scale affect costs

-While plant size is fixed in short run, in long run can choose most profitable scale of operations. -Because the long-run average total cos (LRATC) curve is drawn for many differnet plan sizes or scales of operations, each point along curve represents the minimum ATC for a given plan plant size or scale of operations.

What is a budget constraint?

-a budget constraint can be constructed based on the consumer's income and the prices of the available goods. -Panel A: budget constraint for a consumer with an income of 90 when the price of goox x is $6 nd price of good y is $15. The budget line shows all combinations of Good x and Good Y that will exhaust the consumers income. Combinations in the shaded area (opportunity set) are also affordable.

What causes movement and a shift along a line?

-a change in market price that simply increases or decrease quantity supplied or demanded is represented by a movement along the curve. -a change in one of the independent variables other than price will result in a shift of the curve itself.

Whats the difference between a common value auction and a private value auction?

-a common value aution, the value of the item to be auctioned will be the same to any bidder, but the bidders do not know the value at the time of the auction. (i.e. oil lease auction ‣ bidders estimate the value with error, the bidder who most overestimates the value of a lease will be the highest (winning) bidder. (Winners curse)winner may have losses as a result. -A private value auction is an auction of art or collectibles. ‣ the value that each bidder places on an item is the value it has to him, and we assume that no bidder will bid more than that.

What is a Giffen good?

-a giffen good is an inferior good for which the negative income effect outweights the positive substitution effect when price falls -theoretical and would have an upward sloping demand curve -at lower prices, a smaller quantity would be demanded as a result of the dominance of the income effect over the substitution effect

What is a monopoly?

-a monopoly market is characterized by a single seller of a product with no close substitutes -downward sloping demand curve, can choose price to sell at. -high barriers to entry -copyrights and patents or control over resources and government can protect a monopoly

How are treasury securities auctioned?

-a single price auction is held but bidders may also submit a noncompetetive bid ‣such a bid indicates that those bidders will accept the amount of treasuries indicated at the price determined by the auction, rather than specifying a maximum price in their bids. ‣ the price determined by this type of auction is found as the example above... but the amount of securities specified in the noncompetitive bids is subtracted from the total amount to be sold. ‣ you do the same process...but if you need 30, are at 28, so you add 8 more, but only need 2, each gets 2/8

Impact of Taxes

-a tax on a good or service will increase its equilibrium price and decrease its equilibrium quantity. -the tax is the difference between what buyers pay and what sellers ultimately earn per unit.

what is a veblen good?

-a veblen good is one for which a hiher price makes the good more desirable. utility from being see consuming a good that has a high status -such a good could have a positively sloped demand curve for some individuals over some range of prices.

What is accounting profit?

-accounting profit may be referred to as net income, net profit, net earnings, or the "bottom line" (of the firm's income statement) -it is equal to total revenue less all accounting costs. -accounting costs are explicit costs that represent actual payments for the resources the firm uses in producing its output. -accounting costs include the interest cost on debt financing but not any payments to the firm's equity owners as a return on their invested capital. -accounting profit = total revenue - total acounting (explicit) costs

Describe advertising expenses

-advertising expenses are high for mon. comp. -this is to inform consumers about the unique features of their products and to create or increase a perception of differencs between produts that are quite similar -the increase to ATC from advertising decreases as output increases, because more fixed adv. dollars are being averaged over a larger quantity. if enough sales from it, it can actually decrease ATC

What is an auction?

-an auction is an alternative to markets for determining an equilibrium price -there are various types of auctions with different rules for determining the winner and the price to be paid.

What is an increasing-cost industry

-as firms enter the industry in pursuit of profits, the demand for the productive inpts specific to the industry increases, and their market prices increase as well -can also result in a reduction of quality of inputs as production expands. -the long run supply curve for the industry is upward sloping as a result.

Explain when a firm should shutdown and when they break even in perfect competition

-as long as price is greater than AFC, the firm will minimize its losses in the short run by continuing in business -if average revenue is less than AVC, the firm's losses are greater than its fixed costs, and it will minimize its losses by shutting down production in the short run -in the long run, all costs are variable, so a firm can avoid its (short run) fixed costs by shutting down. for this reason, if price is expected to remain below ATC in the long run, the firm will shut down rather than having losses.

What are the forms of regulating prices of monopolies?

-average cost pricing -marginal cost pricing

What is average cost pricing?

-average cost pricing is the most common form of regulation. would resut in Pac and Qac in figure 22. -it forces monopolists to reduce price to where the firms ATC intersects market demand curve. this will: ‣ increase output and decrease price ‣ increase social welfare (allocative efficiency) ‣ ensure the monopolist a normal profit because price=ATC

How do you calculate average total costs, average fixed costs, and average variable costs?

-average total costs (ATC)=total costs/total products -average fixed costs (AFC)=total fixed costs/total product -average variable costs(AVC)=total variable costs/total product

What is a second limitation that applies to both of the simple concentration measures?

-barriers to entry are not considered in either case -even a firm with high market share may not have much pricing power if barriers to entry are low and there is potential competition. -in this case, the elasticity of demand for existing firms may be low even though they have relatively high market shares, so that concentration measures are relatively high as well.

What is a descending price auction, or dutch auction?

-beings with a price greater than what any bidder will pay, and this offer price is reduced until a bidder agrees to pay it -if there are many units available, each bidder may specify how many units she will purchase when accepting an offered price. -if the first (highest) bidder agrees to buy three of ten units of $100, subsequent bidders will get the remaining units at lower prices as descending offered prices are accepted.

What are the two primary inputs for economic analysis?

-capital and labor -Q= f(K,L) ... the quantity of output that a firm can produce. this is called a production function

What are the key characteristics of an oligopoly?

-compared to mon. compet, an oligopoly market has higher bariers to entry, fewer firms, and typically less elastic firm demand curves. -also, firms are interdependent, so a price change by one firm can be expected to be met by a price change by its competitors. action by one firm will affect the demand curve of anothers.

How is a single price determined for securites?

-consider a firm that wants to buy back 1 million shares of its outsanding stock through a tender offer. -firm solicits offers from shareholders who specify a price and how many shares they are willing to tender. -after such solicitation, the firm has a list of offers such as those listed in figure 9. The firm determines that the lowest price at which it can purcahse all 1 million shares is 37.60 so the shares offered by a and b are not purchase

In the long run, what do price ceilings lead to?

-consumers may have to wait in long lines to make purchases. they pay a price (an opportunity cost) in terms of the time they spend in line. -suppliers may engage in discrimination, such as selling to friends and relatives first. -suppliers "officially" sell at the ceiling price but take bribes to do so -suppliers may also reduce the quality of the goods produced to a level commensurate with the ceiling price

To ensure profit in monopolist, where must the demand curve lie?

-demand curve must lie above the firm's ATC curve at the optimal quantity so that price > ATC -the optimal quantity will be in the elastic range of the demand curve

Perfect competition

-demand is perfectly elastic -firm will continue to expand production until MR(price here) equals MC

What is a sealed bid auction?

-each bidder provides one bid, which is unknown to other bidders. the bidder submitting the highest bid wins the item and pays the price bid. -the term reservation price refers to the highest price that a bidder is willing to pay -in a sealed bid auction, the optimal bid for the bidder with the highest reservation price would be just slighly above that of the bidder who values the item secondmost highly. ‣ for this reason, bids are not necessarily equal to bidder's reservation prices.

What is economic profit?

-economic profit is also referred to as abnormal profit. it is equal to accounting profit less implicit costs -implicit costs are the opportunity costs of resources supplied to the firm by its owners. -for private firms, may include opportunity cost of owner supplied capital and the opportunity cost of the time and entrepreneurial ability of the firm's owners -for public, implicit costs are typically only the opportunity cost of equity owner's investment in the firm. total economic costs include both implicit and explicit costs -economic profit=accounting profit-implicit opportunity costs -or economic profit = total revenue - total economic costs

What is economic rent?

-economic rent is used to describe a payment to a factor of production above its value in its next highest valued use (its opportunity cost) -can also think of it as the portion of a payment to a resource that does not increase the quantity supplied.

What is minimum wage?

-example of a price floor. at a minimum wage above the equilibrium wage, there will be an excess supply of workers, since firms cannot employ all the workers who want to work at that wage. -since firms must pay at least the minimum wage for the workers, firms substitute other productive resources for labor and use more than the economically efficient amount of capital -the result is increased unemployment because even when there are workers willing to work at a wage lower than the min, firms cannot legally hire them. -furthermore, firms may decrease quality or quantity of the nonmonetary benefits, such as pleasant safe working conditions.

What must the seller do for price discrimination to work?

-face a downward-sloping demand curve -have at least two identifiable groups of customers with different price elasticities of demand for the product -be able to prevent the customers paying the lower price from reselling the product to the customers paying the higher price.

What are the two types of markets considered in LOS 13.a?

-factors of production (factor markets)(crude oil and labor) -services and finished goods (goods markets or product markets)(cars, clothing) ‣ Firms are buyers in factor markets and sellers in product markets

Describe product innovation

-firms that bring new and innovative products to the market are confronted with less-elastic demand curves, enabling them to increase price and earn economic profits. but knockoffs will penetrate. -thus, have to continually look for innovative product features that will make their products relatively more desirable to some consumers than those of the competition. -firms are thought to be spending the optimal amount on innovation when the marginal cost of (additional) innovation just equals the marginal revenue (marginal benefit) of additional innovation.

What are price searchers?

-firms that face downard sloping demand curves are referred to as price searchers. -to sell a greater quantity, price-searcher firms must decrease the price. Assuming (for now) that firms charge the same price to all buyers, selling one more unit requires that the price on all units sold must be decreased -it is for this reason that for firms under imperfect competition, marginal revenue is less than price for quantities greater than one. -with a assumption of single price, average revenue and price must be equal.

Shutdown and Breakeven Under Imperfect Competition

-for price searcher firms (downward sloping demand curves).. can't just look at ATC and AVC, Average revenue is no longer simply equal to price. -TR = TC, Breakeven -TC > TR >TVC; operate SR but exit LR -TR< TVC, shut down SR and LR -these hold for price taker and price searchers -note- total costs include a normal profit -if entire TC curve exceeds TR (no breakeven) SR operate at smallest value of TR-TC

What is contant-cost industry?

-for ranges of industry output in which input prices do not increase or decrease the industry demand curve is perfectly elastic at minimum average cost.

What are the key distinctions between giffen and veblen goods?

-giffen goods are inferior goods (negative income effect) -second, the existence of giffen goods is theoretically supported by our rules of consumer choice, while the existence of Veblen goods is not.

What is short run market supply curve?

-horizontal sum (add up quantities from all firms at each price) of the MC curves for all firms in a given industry -because firms will supply more units at higher prices, the short run market supply curve slopes upward to the right.

What is the key point for break even and shutdowns?

-if average revenue is less than AVC in short run, shut down -this is the short run shutdown point -if average revenue is greater than AVC in short run, operate. -in long run, shut down if average revenue is less than ATC -this is the long run shutdown point -if average revenue is just equal to ATC, total revenue is just equal to total (economic) cost and this is the break even point!

What is excess demand?

-if the market price is below equilibrium level, the quantity demanded at that price eceeds the quantity supplied, and we have excess demand. ‣ consumers will offer higher prices to compete for the available supply, driving the market price up towards its equilibrium level.

What is short run and long run?

-in economics, we define the short run for a firm as the time period over which some factors of production are fixed. -typically we assume that capital is fixed in the short run so that a firm cannot change its scale of operations (plant and equipment) over the short run. All factors of production (costs) are available in the long run -the firm can let its leases expire and sell its equipment, thereby avoiding the costs that are fixed in the short run.

AR and MR in imperfect competition

-in imperfect competition, average revenue and marginal revenue will decline as quantity sold increase -AR is not equal to MR for any quantities greater than one. -in addition, the decrease in marginal revenue (or rate of change in total revenue) is more than the decrease in price of AR. -Total revenue is maximied when MR=0

Figure 3: Profit maximizing output for a price taker

-in short run, economic profit is maximized at Q for which MR=MC. profit maximized also when TR >TC -An economic loss occurs on any units for which marginal revenue is less than marginal cost.

What are rent ceilings?

-in the housing market, price ceilings are appropriately called rent ceilings, or rent control. -renters must wait for units to become available. renters may have to bribe landlords to rent at the ceiling price. the quality of apartments will fall. other inefficiences can develop

What is the wage rate?

-in the labor market, as in all markets, equilibrium occurs when the quantity demanded (of hours worked) equals the quantity supplied. ‣ in the labor market, the equilibrium price is called the wage rate. ‣ the equilibrium wage rate is different for labor of different kinds and with various levels of skill. labor that requires the lowest skill level (unskilled labor) generally has the lowest wage rate.

What happens in the long run with price floors?

-in the long run, price floors lead to inefficiencies: ‣ Suppliers will divert resources to the production of the good with the anticipation of selling the good at the floor price but then will not be able to sell all they produce ‣ consumers will buy less of a product if the floor is above the equilibrium price and substitute other, less expensive consumption goods for the good subject to the price floor.

Comparing measures of profit

-in the short run, the normal profit for a firm may be considered fixed. in the long run, it will bary with the required rate of return on equity investments. -However, since accounting profit is often highly variable in both the long run and the short run, economic profit is highly variable in both the short run and long run as well. -normal profit is a minimum req. for a firm to continue operating in the long run ‣ a firm unable to earn a normal profit (a firm with negative ecnomic profit) will find it hard to raise equity capital, and the value of its equity in the market is likely to decline.

What are complements and substitutes?

-increase in X will drive down the demand for Y (compliments) -Increase in X will increase demand in Y (substitutes)

What is a decreasing-cost industry?

-industries where resource prices fall as the industry expands -the long run supply curve is downward sloping

What is a price ceiling?

-it is an upper limit on the price which a seller can charge. If the ceiling is above the equilibrium price, it will have no affect. if it is below, the result will be a shortage (excess demand) as the ceiling price. ‣ the quantity demanded exceeds the quantity supllied ‣ the reduction in quantity exchanged due to the price celing leads to a deadweight loss in efficiency

What is a utility function?

-it is of the form Utility = U(Qa, Qb.....Qn), where the variables are quantities consumed of Goods A through N. -we assume no quantities are negative (may be zero), and that holding all other quantities constant while increasing one awlays results in greater utility (condition of non satiation- more is always preferred to less) -it is an ordinal measure. 200 to 100, cant say twice.

What is Total Cost (TC)?

-it is the sum of all costs (fixed or variable, explicit and implicit) of producing a specific level of output. -Total cost= total fixed cost + total variable cost

Due to this interdependency, oligopoly price and profits must make a number of important assumptions. what are these four models?

-kinked demand curve model -cournot duopoly model -nash equilibrium model (prisoner's dilemma) -stackelberg dominant firm model

What are factors of production?

-land- where the business facilities are located -labor - includes all workers from unskilled laborers to top management -capital- sometimes called physical capital or plant and equipment to distinguish it from financial capital. Refers to manufacturing facilities, equipment, and machinery. -materials- refers to inputs into the productive process, including raw materials such as iron ore or water, or manufactured inputs such as wire or microprocessors

What are the characteristics of monopolistic competition?

-large number of independent sellers: no each has large share, firms only pay attentin to average market price, not the price of individual competitiors. too many firms for price fixing to be possible -differentiated products: each product that is slighlt different from its competitors. close substitutes for one another. -firms compete on price, quality and marketing. quality is a big one. can set price because they face downward sloping demand curves, but usually a strong correlation between quality and the price that firms can charge. marketing is a must to inform about differentiating characteristics. -low barriers to entry -firms face downward sloping demand curves (price searchers) -demand curves are highly elastic because competing products are substitutes

What is perfect competition?

-many firms produce identical produts, and competition forces them all to sell at the market price -low barriers to entry -compete on basis of price -perfectly elastic (horizontal) demand curves at the price determined by the market

What is prisoner's dilemma?

-nash equil. -two prisoners, a and b are believed to have committed a serious crime but not sufficient evidence for conviction -prisoners are seperated and offered the following deal: ‣ if prisoner A confesses and Prisoner B remains silent, Prisoner A goes free and Prisoner B receives a 10-year sentence ‣ if prisoner B confesses and prisoner A remains silent, prisoner B goes free and Prisoner A receives a 10- year prison sentence ‣if both prisoners remain silent, each will receive a 6 month sentence ‣ if both confess, each will receive a 2yr sentence

What is normal profit?

-normal profit is the accounting profit that makes economic profit zero. -it is the accounting profit that the firm must earn to just cover implicit opportunity costs. given this definition it follows that: ‣ Economic profit= (accounting profit - normal profit) = 0 ‣ when accounting profits exceed implicit opportunity costs, economic profit is positive and we have: • economic profit =(accounting profit - normal profit)>0 ‣ when accounting profits are less than implicit opportunity costs, economic profit is negative and we have: • economic profit = (Accounting profit - normal profit)<0

How do we differentiate the four types of markets?

-number of firms and their relative sizes -elasticity of the demand curves they face -ways that they compete with other firms for sales -ease or difficulty with which firms can enter or exit the market

What is a oligopoly?

-only a few firms competing -consider the actions and responses of other firms in setting price and business strategy. -firms are interdependent -items may be similar or differentiated -barriers to entry are high- economies of scale, large firms

Describe the firm's supply function under each market structure.

-perfect competition: short run supply is MC curve above the AVC cost curve. market is just summing each price across all firms in market -in monopolistic comp, oligopoly, monoply, there is no well defined supply function ‣ cuz they face downward sloping demand curves. ‣ in each case, the quantity supplied is determined by the intersection of marginal cost and marginal revenue, and the price charged is then determined by the demand curve the firm faces. ‣ the quantity supplied depends not only on a firm's marginal cost, but on demand and marginal revenue (which change with quantity) as well.

What are the obstacles to the efficient allocation of productive resources?

-price controls -taxes and trade restrictions -external costs -external benefits -public goods and common resources

What is price discrimination?

-price discrimination is the practice of charging different consumers different prices for the same product or service. -try to capture more consumer surplus as economic profit than is possiblde by charging a single price.

What is price elasticity?

-price elasticity is a measure of the responsiveness of the quantity demanded to a change in price. -it is calculated as the ratio of the percentage change in quantity demanded to a percentage change in price. -when quantity demanded is very responsive to a change in price, we say demand is elastic; -perfect elastic is horizontal, elasticity= inf... inelastic is vertical, elast = 0

What is producer surplus?

-producer surplus is the excess of the market price above the opportunity cost of production; that is, total revenue minus the total variable cost of producing those units ‣ under certain assumptions (perfect markets), the industry supply curve is also the marginal societal(opportunity) cost curve

What is monopolistic competition?

-products are not identical -differentiate on differences in product quality, product features, and marketing -downward sloping demand curve. elastic, but not perfectly elastic. -prices not equal due to differences -barriers to entry are low

What happens to DWL in monopolist?

-quantity produced by a monopolist reduces the sum of consumer and producer surplus by an amount represented by the triangle labled deadweight loss (DWL) in panel a of figure 20. -monopoly is considered inefficient because the reduction in output compared to perfect competition reduces the sum of consumer and producer surplus. -price discrimination reduces this inefficiency by increasing output toward the quantity where marginal benefit equals marginal cost. DWL is smaller

Describe the use and limitations of concentration measures in identifying market structure.

-rather than estimating elasticity of demand, concentration measures for a market of industry are very often used as an indicator of market power -once concentration measure is the N-firm concentration ratio, which is calculated as the sum or the percentage market shares of the largest N firms in a market. -one limitation of the N-firm concentration ratio is that is may be relatively insensitive to mergers of two firms with large market shares

Profit Maximization under imperfect competition

-recall for downard sloping demand curves, MR is less than price as price must be reduced to sell additional units -treat it same as perfect

What is a natural monopoly?

-refers to a situation where the average cost of prodction is falling over the relevant range of consumer demand. -having two or more producers would result in a higher cost of production and be detrimental to consumers. like electric power and utilities.

For a producer of a good, the quantity that he will supply depends on what?

-selling price -costs of production ‣ technology, cost of labor, cost of other inputs

What are the two pricing strategies that are possible for a monopoly firm?

-single-price -price discrimination

In terms of tax.. what happens if supply is less elastic (i.e. the supply curve is steeper) than demand?

-suppliers will bear a higher burden- that is pay a greater portion of the tax revenue than consumers. -here the change in quantity supplied for a given change in price will be small-buyers have more levarege in this type of market -the party with more elastic curve will be able to react more to the changes imposed by the tax. hence, they can avoid more of the burden.

Marginal Revenue Product (MRP)

-the MRP is the monetary value of the marginal product of an input. -It is calculated by multiplying a producton factor's marginal product by the marginal revenue of the additional output. -MRP is the increase in the firm's total revenue from selling the additional output from employing one more unit of the factor. -the profit maximizing quantity of an input is that quantity for whch MRP = P. -can increase profits by employing another unit of the input as long as MRP > P

What are economies of scale?

-the downward sloping segment of the long run average total cost curve presented in Figure 10 indicates that economies of scale (or increasing returns to scale) are present -economies of scale result from factors such as labor specializtion, mass production, and investment in more efficient equipment and technology. -a firm operating with economies of scale can increase its competitiveness by expanding production and reducing costs.

Natural Monopoly

-the fixed costs of producing elecricity and building the power lines and related equipment to deliver it to homes are quite high. -marginal cost of providing electricity to an additional home or of providing more electricity to a home is quite low. the more electricity provided, the lower the average cost per kilowatt hour -when the average cost of production for a single firm is falling throughout the relevant range of consumer demand, we say that the industry is a natural monopoly. -entry of another firm would result in a higher average cost of production than for a single producer. thus, large economies of scale in an industry present significant barriers to entry.

What is the cournot model?

-the model considers an oligopoly with only two firms competing (duopoly) and both have identical and constant marginal costs of production. -each firm knows the quantity supplied by the other firm in previous period and assumes that is what it will supply in next period -subtract this quantity from the linear market demand curve, then construct their demand curve and marginal revenue curve for its own production and determine the profit maximizing quantity (given constant competiotor sales) -similar to strategic games, like nash equilibrium

A firm under either perfect or imperfect competition will maximize economic profit by producing what quantity?

-the quantity for which marginal revenue equals marginal cost (MR=MC) -firm should continue to increase output as long as MC < MR -Beyond that quantity, producing and selling an additional unit increases total cost by more than it increases total revenue., and profit is decreased

What is income elasticity?

-the sensititivity of quantity demanded to change in income -holding other things constant, we can measure income elasticity as the ratio of the percentage change in quantity demanded to the percentage change in income. -for most goods, income elasticity is positive- more money- more quantity demanded. these are called norma goods. for other goods- we call inferior goods

In general, collusive agreements to increase price in an oligopoly market will be more successful (have less cheating) when:

-there are fewer firms -products are more similar (less differentiated) -cost structures are more similar -purchases are relatively small and frequent -retaliation by other firms for cheating is more certain and more severe -there is less actual or potential competition from firms outside the cartel.

What is the dominant firm model of oligopoly behavior?

-there is a single firm that has a significantly large market share becauseof its greaer scale and lower cost strucure - the dominant firm (DF) -the market price is determined by the dominant firm, and other firms tae this market price as given -dominant firm believes that the quantity supplied by the other firms decreases at lower prices, so that the dominant firm's demand curve is rekated to the market curve as in Figure 17. -a price decrease by one of the competitive firms, which increases QCF in the short run, will lead to a decrease in price by the dominant firm, and competitive firms will decrease output and/or exit the industry in the long run. long run result would be a decrease in overall market share of competitor firms and an increase in market share of dominant firm.

How do monopolists maximize profit?

-they will expand output until marginal revenue (MR) equals marginal cost (MC) -monopolists are price searchers and have imperfect information regarding market demand. they must experiment with different prices to find the one that maximizes profit.

Describe the kinked demand curve model

-traditional model. it is based on assumption that an increase in a firm's product price will not be followed by its competitors, but a decrease will be. -firms believe that it faces a demand curbe that is more elastic (flatter) above a given price (kind in demand curve) than below.

Describe the LRATC curve

-u shaped -average total costs first decrease with larger scale and eventually increase. -the lowest point on the LRATC corresponds to the scale or plant size at which the average total cost of production is at a minimum. minimum efficient scale -in perf. comp,must operate at minimum efficient scale in long run equilibrium and LRATC will equal market price.

What is utility theory?

-utility theory explains consumer behavior based on preferences for various alternative combinations of goods, in terms of the relative level of satisfaction they provide. -important aspect of consumer choice theory- which relates consumer's wants and preferences to the goods and services they actually buy

Difference in total product and marginal product

-we can examine the increase in producion (total product) that will resut as we increase the amount of labor employed -the output with only one worker is considered the marginal product of the first unit of labor. the addition of second worker should have higher marginal product. teamwork! -when we reach the quantty of labor fo which the additional output for each additional worker begins to decline, we have reached the point of diminishing marginal productivity of labor, or that labor has reached the point of diminishing marginal returns.

Explain substitutes with cross price elasticity of demand

-when a increase in price in related good increase demand for a ood, we say the two are substitutes. -when the cross price elastcity of demand is positive (price of one up, quantity demanded for the other up) we say those goods are substitutes.

When is an equilibrium termed stable?

-when there are forces that move price and quantity back towards equilibrium values -even if the supply curve slopes downward, as long as it cuts through the demand curve from above, the equilibrium will be stable. -prices above equilibrium result in excess supply and put downward pressure on price.

What is income effect?

-when total expenditure on the consumers original bundle of goods falls when price falls. -income effect can be towards more or less consumption of Good X. -key point: substitution effect always acts to increase the consumption of a good that has fallen in price, while the income effect can either increase or decrease consumption of a good that has fallen in price

Describe three possible outcomes of a decrease in price of Good X (subst. and income effect)

1. the substitution effect is positive, and the income effect is also positive- consumption of Good X will increase 2. the substitution effect is positive, and the income effect is negative but smaller than the substitution effect consumption of Good X will increase 3. the substitution effect is positive, and the income effect is negative and larger than the substitution effect - consumtpion of good x will decrease

What is an ascending price auction?

AKA English auction. Bidders can big an amount greater than the previous high bid, and the bidder that first offers the higest bid of the auction wins the item and pays the amount bid.

What is Average Revenue (AR)?

AR is equal to total revenue divided by the quantity sold, AR = TR/Q

Figure 7 Movement toward Equilibrium 2

Assuming buyers compete for available goods on the basis of price only, and that suppliers compete for sales only on the basis of price, market forces will drive the pirce to its equilibrium level.

Figure 14: Prisoner's Dilemma results

Confess/confess is the nash equilibrium price since neither prisoner can unilaterally reduce his sentence by changing to silence. no matter what the other prisoner chooses to do, the best sentence for a prisoner comes from confessing.

Calculate and interpret total, marginal and average product of labor

For a production process with a fixed amount of capital, we can define the following terms: -the total product of lavor= the output for a specific amount of labor -the average product of labor per worker (or other unit of labor input) is the total product of labor divided by the number of workers (or units of labor employed) -the marginal product of labor is the addition to the total product of labor from employing one more unit of labor. -marginal product is a better measure of productivity of an individual worker, average gives overall efficiency, total give output

Calculate and interpret the amount of excess demand or excess supply associated with a non-equilibrium price.

Given a suplpy function, Qs = -400 + 75P, and a demand function, Qd= 2,000 -125P, we can determine that the equilibrium price is 12 by setting them equal and solving for p Can plug in Ps to see excess demand or excess supply

Profit-Maximizing Utilization of an Input

In order for profit to be at a maximum, a firm must use the mix of inputs that minimizes the cost of producing any given quantity of output. For a firm, with N productive inputs, cost minimization requires that:

What is the lat rule of indifference curves?

Indifference curves cannot cross: if they did:look at panel b in figure 1.

What is the long run equilibrium output level for perfectly competitive firms?

MR=MC=ATC, where ATC is at a min. economic profit=zero and only a normal return is realized

Public goods and common resources:

Public goods are goods and services that are consumed by people regardless of whether or not they paid for them. national defense is a public good ‣ competitive markets will produce less than the effiient quantity of public goods because each person can benefit from public goods without paying for their production. "free rider" problem ‣ a common resource is one which all may use. i.e. an unrestricted ocean fishery. results in overfishing. left to competetive market forces, common resources are generally over-used and production of related goods or services is greater than the efficient amount.

What is total revenue?

TR for any firm that charges a single price to all customers is calculated as price multiplied by quantity sold, or TR = P x Q

How Elasticities of Supply and Demand Influence the Incidence of a Tax

When buyers and sellers share the tax burden, the relative elasticities of supply and demand will determine the actual incidence of a tax. Elasticity is explained in detail later in this topic review.

What are substitution effects?

When the price of Good X decreases, there is a substitution effect that shifts consumption towards more of Good X. Because the total expenditure on the consumer's original bundle of goods falls when the price of Good X falls, there is also an income effect

What is the law of supply?

a greater quantity is supplied at higher prices

What is nash equilibrium?

a nash equilibrium is reached when the choices of all firms are such that there is no other choice that makes any firm better off (increases profits or decreases losses)

What is a normal good?

a normal good is one for which the income effect is positive

What is an inferior good?

an inferior good is one for which the income effect is negative

External benefits:

benefits of consumption enjoyed by people other than the buyers of the good that are not taken into account in buyer's consmption decisions. -an example is the development of a tropical garden on the grounds of an industrial complex that is located along a busy thoroughfare. -external benefits result in demand curves that do not represent the societal benefit of the good or service, so the equilibrium quantity produced and consumed is less than the efficient quantity.

Describe Brand Names

brand names provide information to consumers by providing them with signals about the quality of the branded product.

Determine a consumer's equilibrium bundle of goods based on utility analysis

choose where indifference curve is tangent to the budget line.

In terms of tax.. what happens if the demand is less elastic (i.e. demand curve is steeper) than supply?

consumers wll bear a higher burden-that is, pay a greater portion of the tax revenue than suppliers.

External costs:

costs imposed on others by the production of goods which are not taken into account in the production decision. An example of an external cost is the cost imposed on fishermen by a firm that pollutes the ocean as part of its production process. in this case, te output quantity of the polluting firm is greater than the efficient quantity. the societal costs are greater than the direct costs of production the producer bears. the result is an over-allocation of resources to production by the polluting firm.

What is the demand function?

demand depends on income, the prices of other goods, as well as other factors

What are intermediate goods?

goods that are used in the production of final goods (like IBM making computer chips)

When is the allocation of resources inefficient?

if the quantity supplied does not maximize the sum of consumer and producer surplus

Figure 4: Short Run Profit Maximization

in equilibrum, operating Q for which P=MR=MC=ATC because firms will move in.

Figure 11: Firm Output under monopolistic and Perfect competition

in monop comp. price > MC...producers realize a markup and ATV is not a minimum for the quantity produced, suggesting excess capacity or an inefficient scale of production

Distinguish between short run and long run profit maximization

in the long run, when plant size is variable, firms under perfect competition will all choose to operate at the minimum average cost, considering all possible plant sizes (scales of operation)

Indifference curves must follow certain rules what is the first one?

indifference curves for two goods slope downward: A bundle of goods with less of Good X must have more of Good Y for the two to have equal utility and lie on the indifference curve.

What are marginal costs?

once we determine total costs for various levels of output, we can calculate marginal costs (MCs) as the addition to total cost of producing one more unit. Marginal cost = Change in total cost / cange in output

What is monopoly

only one firm is producing the product

Figure 18: Collusion vs. Perfect Competition

overall, oligopoly price wll be somewhere between the price based on perfect collusion and perfect compeition and will generate zero economic profits in long run.

What are production quotas?

production quotas are used to regulate markets by imposing an upper limit on the quantity of a good that may be produced over a specified time period. often used by gov't to regulate agricultural markets.

What is the law of demand?

quantity demanded typically increases at lower prices

What are capital markets?

refers to markets where firms raise money for investment by selling debt (borrowing) or selling equities (claims to ownership), as well as the markets where these debt and equity claims are subsequently traded

What is incidence of a tax?

refers to who actually bears the cost of the tax through an increase in the price paid (buyers) or decrease in the price received (Sellers)

What is the equilibrium price and equilibrium quantity?

solve for the price at which the quantity supplied equals the quantity demanded

What are subsidies?

subsidies are payments made by governments to producers, often farmers. the effects of a subsidy are illustrated in Figure 21.

Price controls:

such as price celings and price floors. these distort the incentives of supply and demand, leading to levels of production different from those of an unregulated market. Rent control and a minimum wage are examples of a price celing and a price floor.

Taxes and trade restrictions:

such as subsidies and quotas. Taxes increase the price that buyers pay and decrease the amount that sellers receive. Subsidies are government payments to producers that effectively increase the amount sellers receive and decrease the price buyers pay, leading to production of more than the efficient quantity of the good. Quotas are government-imposed production limits, resulting in production of less than the efficient quantity of the good. all three lead markets away from producing the quantity for which marginal cost equals marginal benefit.

What is the Herdindahl-Hirschman index (HHI)?

the HHI is calculated as the sum of the squares of the market shares of the largest firms in the market. solves for limitation of N firm with two firms in large merger

What is the short run supply curve of a firm?

the MC line above the AVC. because below AVC, shutdown

Explain complements with cross price elasticity of demand

the cross price elasticity of demand is more positive the better substitutes two are are, and more negative the better complements the two goods are.

What is consumer surplus?

the difference between the total value to consumers of the units of a good that they buy and the total amount they must pay for those units

What is incidence of a tax?

the incidence of a tax is allocation of this tax between buyers and sellers. the rectangle denoted "revenue from buyers" represents the portion of the tax revenue that the buyers effectively pay. the rectangle denoted "revenue from sellers" illustrates the portion of the tax that the suppliers effectively pay.

What is a consumer's equilibirum bundle of goods?

the most perferred affordability combination of Good X and Good Y, as the point where the highest attainable indifference curve is just tangent to the budget line.

What is cross price elasticity of demand?

the ratio of the percengatge change in the quantity demanded of a good to the percentage change in the price of a related good (related goods are related in the sense that their prices affect the demand for the good in question)

What is deadweight loss?

the reduction in consumer and producer surplus due to underproduction or overproduction is called deadweight loss.

Calculate and interpret total, average, marginal, fixed, and variable costs

to increase output in the short run, firms must use more labor, which increases cost. the relationship between output and cost may be explained in terms of three cost concepts: total cost, marginal cost, and average cost

What is total fixed cost?

total fixed cost is the cost of inputs that do not vary with the quantity of output and cannot be avoided over the period of analysis.

Figure 21: Perfect Competition vs. Monopoly

when compared to a perfectly cmpetitive industry, the monopoly firm will produce less total output and charge a higher price. Also, monopoly creates a DWL relative to perfect compeition because monopolies produce a quantity that does not maximize the sum of consumer surplus and producer surplus. a furhter loss of efficiency results from rent seeking when producers spend time and resources to try to acquire or establish a monopoly.

When is demand elastic?

when one or more goods are very good subsituties fortthe good in question, demand will tend to be very elastic.

When is demand inelastic?

when there are no good substitutes for a good

What is a modified dutch auction?

winning bidders all pay the same price, which is the reservation price of the bidder whose bid wins the last units offered.

Can long run positive economic profits exist?

yes due to high barriers of entry

Figure 24: Price Elasticity along a linear demand curve

• at prices below 4.50 (inelastic range), total revenue will increase when price is increased. the percentage decrease in quantity demanded will be less than the percentage increase in price • at prices above 4.50, elastic range, price increase will decrease total revenue since percentage decrease in quant. demanded will be greater than the percentage increase in price. • total revenue is maximinzed at price where price elasticity equals -1.

Figure 14:Long run average total cost

• the long run industry supply curve is perfectly elastic at the ATC for the minimum efficient scale, P2 in our example • entry of firms into the industry or increases in firm size in response to positive economic profit opportunities put downward pressure on price. • the exit of firms from industry when economic profit is negative decreases industry supply and the equilibrium market price increases.

Calculating Consumer and Producer surplus

‣ To calculate the amount of consumer surplus or producer surplus when demand and supply are linear, we need only find the height and width of the triangles Consider the demand function Q=48 - 3P in Figure 15, panel A. Setting P=0, Q=38 and setting Q to zero, P=16 given market price of 8, Q=24. area of triangle is 1/2 (base x height)... consumer surplus is 1/2(8x24)=96