econ chapter 3

Price Elasticity of Demand

Income Elasticity of Demand

(normal and inferior goods)

Cross-Price Elasticity of Demand (substitutes and complements)

Price Elasticity of Supply

a measure of sensitivity of quantity demanded to change in price

Total Revenue

as prices increase quantity demand decreases

depends on elasticity

1. Point elasticity- you need Calc- NA

2. Arc elasticity- an average between 2 points

Increase in Price in an elastic region leads to a decrease in TR

- to fix this decrease price in an elastic region and TR will increase

Increase in price in an inelastic regi9on leads to an increase in TR

- therefore, a decrease in price would lead to a decrease in TR

P, TR move in opposite directions

P, TR move in the same directions

1. Increase P in inelastic regions

2. Decrease P in elastic regions

a. # of substitutes

b. % of Budget Spent on good x

c. Luxury v Necessity

d. Time needed to adjust buying habits to new situation

- most important factor

- depends on how you define the market

- RULE: Increase the number of substitutes it increases the elasticity

- RULE: Increase % Budget Spent on good leads to an increase in elasticity

- Ex. Bananas- small % spent on this therefore little change

-Ex. Cars- large % of budget- more elastic

- Luxuries- more sensitive to change in price- more elastic

- Elasticity of Luxuries > Elasticity of Necessities

- RULE: Increase time- Increase Elasticity

Increase in elasticity

One price for all Qd

One Q for all Prices

- relates to substitutes and complements

Elasticity xy= % change Q2/ % change P1

- IMP PNT: no numbers added either (+) or (-)

- how much the consumption of a good changes with a change in income

% change in Consumption / % change in Income

- shows how much Quantity supply changes with a change in price

- same formula as Demand

1. Time necessary to adjust production

2. Excise Taxes

- Increase time leads to an increase in elasticity

- ex. increase Q of small cars

- Excise tax- a fixed tax per unit sold

- ex. cigarettes, alcohol, gasoline

- causes Supply or Demand to shift in by the amount of the tax

- supply is usually the one that shifts bc it is easier to collect the tax

- the shift in supply gives us a new equilibrium price and quantity

- a new equilibrium price is the price consumers pay or Pc

- depends on elasticity

- the more inelastic party pays more of the tax

- reason: they are less sensitive to changes in price therefore you get a more inelastic curve

Max Profit

WC + rk

- where W is equal to the wage of L (labor)

- R is equal to the interest rates of K (Capital)

- r represents the opp cost of doing something else with the money

opp cost bc. capital includes an opp cost

1. Short Run

2. Long Run

- a time period short enough so that one input cannot be changed

- K cannot be changed in the SR

- is always variable

- hire/ fire at will

- fixed in the short run

- same building ad equipment

- are out of pocket costs

- opportunity costs of resources owned by the producer

the average

TFC/Q

- AFC does change with Qty

-TFC does not change with Qty

TVC/Qty

- U- shape graph

-ex. Taco truck with employers

- adding more labor increases efficiency and then decreases efficiency

change in TC resulting in the production of one additional unit of output

- only affects labor because we assume capital is fixed

- General idea: Marginal costs pull AVC and AC bc all 3 are related to Labor

- when MC>AC, then AC increases

- when MC<AC, then AC decreases

- Marginal Productivity of Labor (MPL)

- shows how much output (Q) changes with the addition of one additional unit of Labor

- beyond some point successive additions of a variable input which here is L to a fixed unit or K will increase output by increasingly smaller amounts

- your MPL will increase peak and then decrease

- think about the taco truck worker example

MC= Wage/ MPL

- Decrease wage and decrease MC

- Increase MPL, which leads to a decrease in MC

they imply an optimum factory size

- a long run Avg cost curve LRAC

- envelopes all possible SRACs

- each contribute 1pt to LRAC

-SR- U shape due to the Law of Diminishing Returns to a Fixed Factor

-LR- U shape due to Economies of Scale

is where your LR average cost curve is decreasing as plant output (size) increases

- plant size increases, therefore output increases and LRAC decreases

as plant size increases your LRAC increases too (opposite of EOS)

1. Specialization (increase specialization decrease costs)

2. Mass production techniques

-man marginal diseconomies- too large to manage

1. Accounting profit

2. Economic Profit

- explicit only

- profit in excess of opportunity cost

- exploit and implicit

- send signals to entrepreneurs

- IDEA: resources should gravitate towards high profit industries

- high profits- attract new entrants

- low profits- companies leave

- you are earning your opportunity cost

vital to society

- should be an institution

-entrepreneurs are motivated by profit and competition

- must be compensated for risk and the effort

1. Free enterprise is vital to society

2. Problems in business

3. Business v Others (non-profit)

by profit, therefore there is an incentive to reduce costs and increased efficiency

change in total profit due to one additional unit

change in total revenue due to the sale of one additional unit

change in cost due to the production of one additional unit