Week 1 (art 1) Introduction Econ 101 reliminary Concepts (Chapter 2 g 38-41 & 47-50) Economics is the study of how individuals and societies choose to use scarce resources that nature and previous generations have provided. That is, how society conduct themselves in the market as buyers and sellers to solve the problem of scarcity. Studying economics is to learn a way of thinking. Economics involves the study of societal and global affairs concerning resource allocation. Microeconomics: Microeconomics is the branch of economics that examines the functioning of individual industries and the behaviour of individual decision making units (that is, firms and households). Microeconomics: Microeconomics the branch of economics that examines the economic behaviour of aggregates (income, output, employment, etc.) on a national scale. Scarce Resources: All resources are combined to produce good/services to satisfy human needs. Goods are usually tangible and services intangible. We want more goods/services to improve our standard of living. Labour: Skilled and unskilled. Land: Has a broad definition in economics. Includes all natural resources. Capital: Man made goods to produce other consumer goods. Enables us to produce in larger and larger quantities. Entrepreneurs: Special category of labour. Has certain attributes: Vision, enterprise, initiative, innovation & risk takers. They provide jobs and grow the economy. Trade Offs When there is scarcity, not all needs can be satisfied. Firms, households and individuals have to make trade-offs between competing objectives. These choices involve opportunity costs. Opportunity Cost: The opportunity cost is the next best alternative that we forgo, or give up, when we make a choice. It is the value of the next best choice. Opportunity costs arise because time and resources are scarce. There are limited resources but unlimited wants which leads to choice). Nearly all decisions involve trade-offs. Opportunity costs does not necessarily have to be measured in dollars (e.g. can be measured in terms of times as well). Marginalism Marginal refers to the last unit produced/consumed. In making a choice, it is important to weigh the costs and benefits that arise from a decision. For example, when deciding whether to produce the additional output, a firm considers only the additional (marginal) cost, not any sunk costs. Sunk Costs: Costs that cannot be avoided, regardless of what is done in the future because they have already incurred. It is an expenditure which you have already committed. Economists ignore sunk costs when making decisions because, by definition, sunk costs are not affected by decisions we are making now. Efficient Markets An efficient market is one in which profit opportunities are eliminated almost instantaneously. There is no free lunch. Somebody, somewhere has to pay for it. There is always a cost. rofit opportunities are rare because, at any one time, there are many people searching for them.
Week 1 (art 2) Demand, Supply and Market Equilibrium Econ 101 Market Forces of Supply & Demand (Chapter 3: Demand, Supply & rice) Economics deals with the allocation of scarce resources in the most optimal manner. This is done by the price mechanism or the market system. This is called the invisible hand of the price mechanism where resources are allocated and re-allocated automatically without any instructions from anyone. rice signals allow producers to produce what consumers want. Supply and demand are the forces that make market economics work. Much of modern microeconomics is about supply, demand and market equilibrium. Equilibrium is where supply equals demand. Market: Group of buyers and sellers of a particular good or service. The market could have a real form (e.g. shopping mall) or virtual form (e.g. website). The terms of supply and demand refer to the behaviour of people as they interact with one another in markets. Buyers determine demand. Sellers determine supply. Demand eople demand goods/services for satisfaction (utility). Demand is based on the need for satisfaction. Utility is a psychological concept and cannot be quantified but we use price to measure it. rice = Marginal Utility. There is the law of diminishing marginal utility - normally, the more we consume something, the less we want of it. Disutility is when MU becomes negative and TU decreases. The determinants of demand are: Market rice Consumer Income rice of Related Goods Tastes Expectations Law of Demand: The law of demand states that there is an inverse relationship between price and quantity demanded. So, as price increases, quantity demanded decreases. Law of demand is not always true but we only deal with situations where it applies. Demand Schedule: The demand schedule is a table that shows the relationship between the price of the good and the quantity demanded. It shows the quantity a consumer chooses to buy at each price. Demand Curve: The demand curve is the downward sloping line relating price to quantity demanded. Ceteris aribus: Ceteris paribus is a Latin phrase that means all variables other than the ones being studied are assumed to be constant. Literally, ceteris paribus means other things being equal. The demand curve slops downward because, ceteris paribus, lower prices imply greater quantity demanded. Maths: The equation is expressed with: = c - mq where m = slope (rise/run) and c = y intercept.
Week 1 (art 2) Demand, Supply and Market Equilibrium Econ 101 Linear Approximation of Demand The demand curve is not necessarily a straight line. It is very possible (and quite likely) that the demand curve is non-linear - the relationship between price and quantity is more complex. However, it is possible to approximate a non-linear relationship by a straight line to make calculations easier. Market Demand: Market demand refers to the sum of all individual demands for a particular good or service. Graphically, individual demand curves/schedules are summed horizontally at each price to obtain the market demand curve. Horizontally as we want to add all the quantities for each given price. Market demand curves slope down because a lower prices causes each consumer to buy more and also new consumers enter the market. Shifts of the Demand Curve: Changes in the following factors shift the demand curve: rice of other goods (complements and substitutes) Income Taste Information Credit Availability (availability of loans - especially important for expensive goods such as houses, cars, etc.) Change in Demanded vs Change in Demand A change in quantity demanded is a movement along the demand curve caused by a change in the price of the product. A change in demand is a shift in the demand curve, either to the left or right. Caused by a determinant other than the price. Increase in Demand Increase in Demand D D D Q Q Q Q Substitutes & Complements Substitutes: Two goods are substitutes if a rise in the price of one increases demand for the other (e.g. butter and margarine). Complements: Two goods are complements if a rise in the price of one decreases demand for the other (e.g. DVD players and DVDs).
Week 1 (art 2) Demand, Supply and Market Equilibrium Econ 101 Changes in Income Normal Good: If demand for a good is positively related to income, it is called a normal good. Demand increases when incomes increase. Demand decreases when incomes fall. Inferior Good: If demand for a good is inversely related to income, it is called an inferior good. Demand decrease when income increases. Demand decreases when income decreases. Supply supplied is the amount of a good that sellers are willing and able to sell at each price. rofit for sellers is revenue - cost. Revenue is price x quantity. Sellers want to maximise profit. Law of Supply: The law of supply states that there is a direct (positive) relationship between price and quantity supplied. Determinants of Supply: Market rice Input rices Technology Expectations Number of roducers Credit Availability Supply Schedule: The supply schedule is a table that shows the relationship between the price of the good and the quantity supplied. Supply Curve: The supply curve is the upward sloping line relating price to quantity supplied. Supply Curve Equation: This will be an upwards sloping straight line. We write price as a function of quantity. = c + mq where m is the slope and c is the vertical intercept. Market Supply: Market supply refers to the sum of all individual suppliers for all sellers of a particular good or service. Graphically, individual supply curves are summed horizontally to obtain the market supply curve. Change in Supply vs Change in Supply Change in quantity supplied is a movement along the supply curve caused by a change in the market price of the product. Change in supply is a shift of the supply curve, either to the left or right. Caused by a change in a determinant other than price. Increase in Supplied Increase in Supply S S S Q Q Q Q
Week 2 Applications of Demand and Supply Econ 101 Applications of Demand and Supply (Chapter 4) Three steps to analysing changes in equilibrium: Decide whether the event shifts the supply or demand curve (or both). Decide whether the curve(s) shift(s) to the left or to the right. Examine how the shift affects the equilibrium price and quantity. What happens to the price and quantity when supply or demand shifts? Supply No Change Supply Increase Supply Decrease Demand No Change same Q same down Q up up Q down Demand Increase up Q up ambiguous Q up up Q ambiguous Demand Decrease down Q down down Q ambiguous ambiguous Q down Elasticity of Demand One measure of the responsiveness of quantity demanded to changes in the price of a good. It helps predict what will happen to the total revenue earned by the supplier if they raise or lower the price. IT depends on: Availability of substitutes Time rice at which it is evaluated Nature of good (essential or not) In general, the larger the price elasticity, the more sensitive quantity demanded is. Elasticity Analysis The price elasticity of demand is calculated as: % change in quantity demanded / % change in price Elasticity is a negative number, but we ignore the sign and focus on the absolute value. In general, the larger the price elasticity, the more sensitive the person s quantity demanded to price changes. Thus given any point on the demand curve (i.e. a price-quantity pair) we can calculate the elasticity of demand at that point by using the formula: (/Q) x (1/slope)
Week 2 Applications of Demand and Supply Econ 101 rice Elasticity of Supply Indicates how responsive quantity supplied is to price changes. Depends on: Time period. Gestation period is the time it takes to produce something from the moment the decision is made. Whether there is input that is fixed in quantity (if there is, supply will be very inelastic). rice at which elasticity is evaluated. Calculation: % change in quantity supplied / % change in price As for demand, the elasticity of supply at any pint can be expressed as: (/Q) x (1/slope) Cross-rice Elasticity of Demand Cross-price elasticity of demand is the response of quantity demanded of one product to a change in price of a related good. Cross-price elasticity of demand for X with respect to price of Y: % change in quantity demanded of good X / % change in the price of good Y Cross-price elasticity of demand can be positive, negative or 0. ositive: Shows the two goods are substitutes. Negative: Shows the two goods are complements. Zero: Shows the two goods are neither complements or substitutes. The higher the absolute value of cross-price elasticity, the stronger the complement/substitute relationship. Income Elasticity of Demand The response of quantity demanded of a good to changes in income is an important economic variable. In many economies, economic growth has been doubling real national income every 20 to 30 years. This rise in income is shared by most people. As they find their incomes increasing, people increase their demand for many products. In the richer countries, demand for food and basic clothing does not increase with income nearly so much as the demand for many other products. In many of these richer countries, the demands that are increasing most rapidly as incomes rise are the demand for durable goods. In an increasing number of the very richest of western countries, however, the demand for services is rising even more rapidly than the demand for durables as incomes rise. To summarise: There are 3 levels of goods/services: Necessities Durable goods Services
Week 3 (art 1) The Consumption Decision Econ 101 The Consumption Decision (Chapter 5) The problem of choice. Consumers have a fixed amount of money to allocate between different goods and services (as well as saving). The Budget Constraint Before we can think about what a person will choose, we have to consider what they can afford. The opportunity set consists of the combination of goods a person can afford. It depends on: Income rice of each good Individual Budget Constraint The budget constraint graphs the frontier of the opportunity set when only two goods are available. The budget constraint is always a straight line with a negative slope. Suppose an individual consumes only two goods: X and Y. Good X: rice is $20 (per unit) Good Y: rice is $10 (per unit) Consumer has $100 to spend. Good Y 10 0 5 Good X If they spend all their money on Good X, they can afford 5 (100/20). If they spend all their money on Good Y, they can afford 10 (100/10). We will typically focus only on the absolute value of the slope. Slope = rise/run = (income/ Y )/(income/ X ) = X / Y (in absolute terms) The slope is the ratio of prices. All combinations under the constraint are affordable (in this case, cost less than $100). We should also always assume more consumption leads to more satisfaction (utility).