Microeconomics: Lecture 1

Microeconomics: Lecture 1Henry PrudenteIntroductionMacroeconomics: examines either the economy as a whole or its basic subdivisions or aggregates, such as the government, household or business sectors. An aggregate is a collection of specific economic units treated as if they were one unit. Ex. ConsumersIntroductionMicroeconomics: looks at specific economic units. At this level of analysis, the economist observes the details of an economic unit or a very small segment of the economy.In microeconomics, we talk of an individual industry, firm or household. We measure the price of a specific product, the number of workers of a specific firm, the revenue or expenditures of a particular firm, government entity or householdThe Economizing ProblemEconomics is the social science concerned with the problem of using scarce resources to attain the maximum fulfillment of societys unlimited wants.There are two main parts to this problem:Economic wants are virtually unlimited and insatiableGoods or services that provide pleasure or satisfaction or utilityNecessities and luxuriesEconomic resources - the means of producing goods and services - are limited or scarce.All natural, human and manufactured resources that go into the production of goods and services.Resource CategoriesLand - includes all natural resources that are used in the production processLabor includes all the physical and mental talents of individuals available and useable on producing goods and servicesCapital includes all manufactured aids used in producing consumer goods and servicesEntrepreneurial Ability takes the initiative in combining the resources of land, labor and capital to produce a good or a service; innovator, risk taker, makes strategic business decisionsResource CategoriesResource payments the income received from supplying raw materials and capital equipment is called rental income and interest income. The income accruing to those who supply labor is called wages. Entrepreneurial income is called profits.Relative scarcity: the four factors of production have one thing in common, they are scarce or limited in supply.Employment and Efficiency Economics is the social science that examines efficiency the best use of scarce resources.Full employment: the use of all available resources; not all resources can be consumedFull production: all employed resources must be used so that they provide the maximum possible satisfaction of our economic wants.Productive efficiency: the production of any particular mix of goods and services in the least costly way.Allocative efficiency: the least-cost production of that particular mix of goods most wanted by society.

Production Possibilities Table / curveBecause resources are scarce, a full-employment full-production economy cannot have an unlimited output of goods and services, which means people must choose which to choose and which to forgo. Assumptions to the model:Full employment and productive efficiencyFixed resourcesFixed technologyTwo goods: consumer goods and capital goodsProduction Possibilities Table / curveProduction Possibilities TableLooks at the combinations of two products that can be produced with a specific set of resources and with full employment and productive efficiency.The curve is a frontier because it shows the limits of attainable outputs. Points lying on the curve are attainable and efficiently achieved.Points inside the curve are attainable but shows inefficiencyPoints outside the curve are unattainable.

Law of increasing opportunity costOpportunity cost: the amount of other products that must be forgone or sacrificed to obtain 1 unit of a specific good.

The more of a product is being produced, the greater is its opportunity cost.

The rationale here is that economic resources are not completely adaptable to alternative uses.Allocative EfficiencyEconomic decisions center on comparisons of marginal benefits and marginal costsAllocative efficiency requires that the economy produce at the most valued or optimal point on the production possibilities curve.Any economic activity should be expanded as long as marginal benefit exceeds marginal cost and reduced if marginal cost exceeds marginal benefit.Optimal amount: MB = MC

The ppc with Unemployment and economic GrowthIf we scrap the first three assumptions, there will be some changes:If unemployment is present, then there will be productive inefficiency, thus more points within the curve will be present.If there is an increase in resource supplies, the ability to increase the production of goods and services will grow, thus pushing out the curve.If there are advances in technology, there will be new and better goods and improved services and better ways of producing them. Economic Growth: the ability to produce a larger total output as a result of increases in supplies of resources, improvements in resource quality, technological advances.

ApplicationsUnemployment and Productive InefficiencyRecessions, economic crisesTradeoffs and Opportunity CostsLogging and mining or parks and wilderness? Allocate resources to the justice system or education? Shifts in the Production Possibilities CurveMore women are now working because of higher wages, thus there are less home-bound women.Improved technology

Economic systemsEconomic system: a particular set of institutional arrangements and a coordinating mechanism made to respond to the economizing problem.Market SystemCharacterized by private ownership of resources and the use of markets and prices to coordinate and direct economic activity. Each participant acts in his or her own self-interest; each individual or business seeks to maximize its satisfaction or profit through its decisions regarding consumption and production.Prices are used to communicate value and coordinated by markets.Laissez-faire capitalism: limited government role, less interference.

Economic systemsCommand SystemAlso known as socialism or capitalism.Government owns most property resources and economic decision making occurs through a central economic plan. A central planning board makes all the decisions concerning the use of resources composition and distribution of output, organization of production, ownership of businesses etc.

CIRCULAR flow modelThe Circular flow model suggests a complex, interrelated web of decision making and economic activity involving households and businessesDecision Makers: Household and BusinessesMarkets: Resource market- the place where resources or the services of resources suppliers are bought and sold.Product- the place where goods and services produced by businesses are bought and sold.Real flow-counterclockwise; economic resourcesMoney flow-clockwise; income and consumption expenditures

Markets: Demand and supplyMarket: an institution or mechanism that brings together buyers and sellers of particular goods, services and resources.Demand: a schedule or curve that shows various amounts of a product that consumers are willing and able to buy at each of a series of possible prices during a specified period of time.Law of demand: all else remaining equal, as price falls, the quantity demanded rises, and as price rises, the quantity demanded falls

DemandRationale for the law of demand:People buy less when the price is high because price is an obstacle to purchasing a product.Consumption is subject to diminishing marginal utility.Income effect: a lower price increases the purchasing power of a buyers money income, enabling the buyer to purchase more of the product.Substitution effect: at a lower price, buyers have the incentive to substitute what is now a less expensive product for similar products that are now relatively more expensive.

Change in demandTastes: A favorable change in consumer tastes for a product means more will be demanded at each price. New products may affect demand Ex. CDs, health consciousness, digital cameras, DVDs.Number of Buyers: increase in the number of buyers in a market will increase demand. Ex. Reduced trade barriers, improved communications for investments.Income: Demand changes when income changes; normal good- demand varies directly with money income; Inferior good- demand varies inversely with money income

Change in demandPrices of related goods: a change in the price of a related good may either increase or decrease the demand for a productSubstitutes: a good that can be used in place of another good. Price of one and demand for the other move in the same direction.Complements: a good that can be used together with another good. Price of one and demand for the other move in opposite directions.Expectations: Changes in consumer expectations may shift demand. Ex. Expecting price increases or decreases, expecting future supply changes, changes in future income

SupplyA schedule or curve showing the amounts of a product that producers are willing and able to make available for sale at each of a series of possible prices.Law of supply: as price rises, the quantity supplied rises, as price falls, the quantity supplied falls.To buyers, price is an obstacle, to suppliers, price represents revenues.Changes in supplyResource prices: Higher resource prices raise production costs and assuming a particular product price, it may reduce profits and vice versa.Technology: Improvements in technology enable firms to produce units of output with fewer resources. Taxes and subsidies: Businesses treat taxes as costs, thus when production costs go up, supply goes down.

Changes in supplyPrices of other goods: substitution in production Price expectations: Changes in expectations about the future price of a product may affect the producers current willingness to supply that product. Number of Sellers: the larger the number of suppliers, the greater the market supply and vice versa.Supply and demand: market equilibriumBringing together supply and demand allows us to see how the buying decisions of households and the selling decisions of businesses interact to determine the price of a product and the quantity actually bought and soldSurplus: excess supplyShortage: excess demandEquilibrium price: the price at which there is no shortage or surplus; the market-clearing priceRationing Function of Prices: the ability of the competitive forces of supply and demand to establish a price at which selling and buying decisions are consistent.Changes in supply, demand and equilibriumChange in SupplyChange in DemandEffect on Equilibrium PriceEffect on Equilibrium QuantityIncreaseDecreaseDecreaseIndeterminateDecreaseIncreaseIncreaseIndeterminateIncreaseIncreaseIndeterminateIncreaseDecreaseDecreaseIndeterminateDecreaseapplicationsPrice Ceiling: sets the maximum legal price a seller may charge for a product or service.May result in a rationing problem, leading to a shortageBlack markets may crop upRent controlsPrice Floor: a minimum price fixed by the government.May lead to a surplus because sellers are willing to supply more than buyers actually demand at the price floor.Will lead to higher prices; force the government to buy the surplus