Midterm 2

Review

Midterm 2 (L9-L16) Applications of buying and selling

1. Labor Supply2. Intertemporal Choice3. Uncertainty

Markets and Exchange1. Pareto (In) efficiency2. Competitive equilibrium

Producers1. Production function2. Profit Maximization 3. Labor markets

Applications

1

UncertaintyTwo states, probabilities Bundle = lotteryBernouli and Von Neumann-Morgenstern U.

Examples:

yyu ln)(

)( yu

Risk AversionExpected value of lottery:

Examples

Risk aversion

better than

Utility and risk aversion

)4,0(E

))(),(( CECE

Utility and Risk Aversion

421

)4,0(C2

121

y

)( yu

yyu )(

Utility and Risk Aversion

421

)4,0(C

y

)( yu

yyu )(

Possibility of Flood Insurance contract

Budget set

Uncertainty: Insurance

1

%5 0, x

Choice:

Uncertainty: Insurance

1

%5 0, xyyu ln)(

Fair insurance

Not fair insurance

(Not) Fair Insurance Premium

1

Edgeworth Box (apple-orange, IC, U)Pareto EfficiencyCompetitive Equilibrium Competitive Equilibrium Pareto efficient?

Application: apple-orange, IC, U

Markets and Exchange (key ideas)

(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu

Edgeworth Box (and Efficiency)(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu

Competitive Equilibrium (Definition)(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu

Competitive Equilibrium(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu

Competitive Equilibrium (Geometry)(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu

Competitive E and Pareto Efficiency(1 0 , 0 ), (0 ,1 0 )A B 2121 lnln),( xxxxu