Eco 100

Microeconomics

What is Economics?

• First what constitutes the economy? The economy is the mechanism through which the use of labor, land, vehicles, equipments (factories), and natural resources (row materials) are organized to satisfy the desires of those who live in the society. • Economics is the study of how human beings make choices to use scarce(limited) resources as they seek to satisfy their seemingly unlimited wants.

Other Definition Of Economics

• Economics is the study of the production and consumption of goods and the transfer of wealth to produce and obtain those goods. Economics explains how people interact within markets to get what they want or accomplish certain goals. Since economics is a driving force of human interaction, studying it often reveals why people and governments behave in particular ways.

Macroeconomics Vs. Microeconomics

• Economics is divided into two main branches:– Microeconomics– Macroeconomics.

Macroeconomics

• Macroeconomics looks at the economy from a broader perspective by considering its overall performance and the way various sectors of the economy relate to one another.

• Examples: • Performance of annual production in an industrial sector.• Interest Rate.• Inflation.• Unemployment rate.

Other Definition of Macroeconomics

• Macroeconomics takes a much broader view of the economy by analyzing the economic activity of an entire country or the international marketplace.

Microeconomics

• Microeconomics deals with the behavior of individual economic units.

• These economic units include:• Consumers• Workers• Investors• owners of land• business firms

• Microeconomics places special emphasis on the role of prices in business and personal decisions.

Other Definition of Microeconomics

• Microeconomics focuses on the actions of individuals and industries, like the dynamics between buyers and sellers, borrowers and lenders.

4 Themes of Microeconomics

1. Tradeoffs.2. Prices and Markets.3. Theories and Models.4. Positive and Normative questions

Themes of Microeconomics

• Tradeoffs.– Consumers have limited incomes, which can be spent on a

wide variety of goods and services, or saved for the future.– Workers make trade-offs as well, First, they must decide

whether and when to enter the workforce, depending on pay scales or as an alternative seek education to attain new skills.

– Firms also face limits in the kinds of products that they can produce, and the resources available to produce them.

Themes of Microeconomics

• Prices and Markets:– Role of Prices: Prices influence consumer behavior, as an

example a consumer may purchase beef or chicken based partly on his or her preferences for each one, but also on their prices.

– Market is a collection of buyers and sellers that together determine the price of a good. In the automobile market, for example, car prices are affected by competition among auto manufacturers, and also by the demands of consumers.

Themes of Microeconomics

• Theories and Models:– Theories are developed to explain observed phenomena in

terms of a set of basic rules and assumptions. – Example: The theory of the firm begins with a simple

assumption-firms try to maximize their profits.– A Model is a mathematical representation based on an

economic theory.– Example: We can develop a model for a firm and use it to

predict by how much the firm’s output level will change as a result of, say, a 10-percent drop in the price of raw materials.

Exercise

• Suppose an economic model that states that an increase in the price of fuel by 10% will decrease the annual sales of new cars by 20%.

• Assuming the annual sales of new cars in Morocco in 2013 is around 30,000 cars, and the price of fuel has increased by 10%.

• What will be the predicted number of new car sales in the following year of 2014?

Answer

• Annual car sales in 2014 is :• 30,000- (30,000*10/100)• Answer is: 27,000 cars

Themes of Microeconomics

• Positive and Normative questions– Positive questions deal with explanation and

prediction.• Suppose the U.S, government imposes a quota on the import of foreign

cars. What will happen to the price, production, and sales of cars? What impact will this policy change have on American consumers? On workers in the automobile industry? These questions belong to the realm of positive analysis: statements that describe relationships of cause and effect.

– Normative questions with what ought to be.• Normative analysis is often supplemented by value judgments. For

example, Income tax ought to be higher for people with high annual income and lower for people with low annual income.

What is a market?

• A market is the collection of buyers and sellers that, through their actual or potential interactions, determine the price of a product or set of products.

• A market includes more than one industry.• An industry is a collection of firms that sell the same

or closely related products.• Significant differences in the price of a commodity

create a potential for arbitrage. (example of a priced good that is significantly different from one location to another).

Example of a Market and its Industries

• Market= Automobile Market• Industries that are part of the Auto Market

are: – Steel Industry.– Tires Industry.– Auto manufacturing insdutry.– Dealship industry.– Oil industry.

Class Exercise

• Get into small groups.1. Select a Market then provide the major

industry players of the chosen Market.2. Name a few companies within each industry.3. Identify the competitors among each

industry.4. Is the selected market competitive?

Competitive vs. Noncompetitive Markets

• A perfectly competitive market has many buyers and sellers, so that no single buyer or seller has a significant impact on price. (Computer Manufacturers)

• When individual firms can jointly affect the price of a product, we then have a noncompetitive market. (OPEC)

Market definition - The Extent of a Market

• Market definition identifies which buyers and sellers should be included in a given market.

• In order to define the extent of a market, we will need to define its boundaries, both geographically and in terms of the range of products to be included in it.

• Group exercise: Define a Market, identify one player of this market, the extent of its market, identify few of its competitors.

Real Price Vs. Nominal Price

• The nominal price of a good (sometimes called its "current-dollar" price) is its absolute price.

• These are the prices you would have seen in supermarkets in those years.

• The real price of a good (sometimes called its "constant-dollar" price) is the price relative to an aggregate measure of prices. In other words, it is the price adjusted for inflation.

• For consumer goods, the aggregate measure of prices most often used is the Consumer Price Index (CPI).

Case for Nominal vs. Real

• When I buy stocks for $200 at the start of the year, and I sell them at the end of the year and earn $210, we say that I have earned an interest of 5%. This is my nominal interest rate. However, inflation needs to be factored in order to get the real value of my interest rate. Since, for example, in that year the inflation rate was 3%, it means that if I was to buy goods for $200 at the start of the year, I would have to buy the same goods for $206 at the end of that year. The effect of inflation means that the real value of my interest is much less, because of reduced purchasing power as a result of inflation. Therefore to get the real value of what I have earned, I would have to subtract the inflation rate from the nominal interest rate. In this case therefore, the real interest rate is 2%, which reflects the real value of my stocks.

Consumer Price Index (CPI)

• Consumer Price Index (CPI). The CPI is calculated by the U.S. Bureau of Labor Statistics by surveying retail prices, and is published monthly. It records how the cost of a large basket of goods purchased by a "typical" consumer changes over time. Percentage changes in the CPI measure the rate of inflation in the economy.

Calculate the real Prices of Eggs and College education using this formula: Real price in 1990 = (CPI in 1970/CPI in 1990)x nominal price in 1990

Calculate the Real Prices (1970)

Problem# 1

• Suppose that the Japanese yen rises against the U.S. dollar-that is, it will take more dollars to buy a given amount of [Japanese yen. Explain why this increase simultaneously increases the real price of Japanese cars for US. Consumers and lowers the real price of US. Automobiles for [Japanese consumers.

Problem# 2

• The price of long-distance telephone service fell from 40 cents per minute in 1996 to 22 cents per minute "in 1999, a 45-percent (18 cents/40 cents) decrease. The Consumer Price Index increased by 10 percent over this period. What happened to the real price of tele phone service?