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Mr. Syroney
AP Microeconomics Review
Day 1:
I. Fundamentals of Economic Analysis
Scarce Resources
Production Possibilities
Functions of Economic Systems
II. Supply, Demand, Market Equilibrium & Welfare Analysis
Demand
Supply
Market Equilibrium & Welfare Analysis
I.
Fundamentals of Economic Analysis
Scarce Resources
Economic Resources
Economics Defined 
Land, Labor, Capital & Entrepreneurship
Scarcity
Trade-offs
Opportunity Cost
Marginal Analysis
Marginal
Marginal Benefit
Marginal Cost
Production Possibilities
Production Possibilities Frontier (Curve)
Resource Substitutability
Law of Increasing Opportunity Cost
Comparative Advantage & Specialization
Absolute Advantage
Comparative Advantage
Specialization
Efficiency
Productive efficiency (anywhere on the PPF)
Allocative efficiency (one point on PPF where MB=MC)
Economic Growth
-increased resources
-increase in quality of resources
-technological innovation
Economic Growth on the PPF
Economic Systems
Market System
Private Property
Freedom
Self-Interest
Competition
Prices
II.
Demand, Supply, Market Equilibrium, & Welfare Analysis
Demand
Law of Demand
Income Effect
Substitution Effect
Law of Diminishing Marginal Utility
The Demand Curve
Quantity Demanded v. Demand
Determinants of Demand
Consumer Income
Price of Substitute Goods
Price of Complementary Goods
Tastes and Preferences
Consumer Expectations
# of Buyers
Supply
Law of Supply
Law of Increasing Marginal Costs
The Supply Curve
Quantity Supplied v. Supply
Determinants of Supply
Cost of inputs
Technology and productivity
Taxes or subsidies
Producer expectations
Price of related outputs
# of sellers
Market Equilibrium
Equilibrium
Shortage
Surplus
Change in Demand
Increase in demand
Decrease in demand
Change in Supply
Increase in supply
Decrease in supply
Simultaneous Changes in Supply & Demand
Welfare Analysis
Total Welfare = Consumer Surplus + Producer Surplus
Consumer Surplus
Producer Surplus
MICRO
Mr. Syroney
AP Microeconomics Review
Day 2:
IIII. Elasticity, Microeconomic Policy, and Consumer Theory
Elasticity
Microeconomic Policy and Applications of Elasticity
Consumer Choice
IV. The Firm, Profit, and the Costs of Production
Firms, Opportunity Costs, and Profits
Production and Cost
IIII. Elasticity, Microeconomic Policy, and Consumer Theory
Elasticity
Price Elasticity of Demand
Formula
Range of Price Elasticity
0 < Elasticity < 1  Inelastic
Elasticity = 1  Unit Elastic
1< elasticity  Elastic
Perfect Inelasticity
Perfect Elasticity
Warning
Determinants of Elasticity
# of close substitutes
Proportion of income
Time
Total Revenue Test
Income Elasticity of Demand
Formula
Normal, Luxury  If income elasticity > 1, then the good is normal and income elastic (luxury)
(filet mignon)
Normal, Necessity  If income elasticity is > 0 but < 1, then the good is normal and income inelastic
(necessity) (hamburger)
Inferior  If income elasticity < 0, then the good is inferior (Spam)
Cross Price Elasticity
Formula
Complements – cross price elasticity < 0 (ex. Peanut butter and jelly)
Substitutes – cross price elasticity > 0 (ex. Mercedes Benz v. Lexus)
Price Elasticity of Supply
Time and elasticity of supply
Microeconomic policy and applications of elasticity
Excise Taxes
Demand Elasticity and incidence of taxation
Price Elasticity of
Demand
Perfect Elasticity
Elastic Demand
Government
Revenue
Least
Falling
Decrease in
Consumption
Most
Sizeable
Incidence of Tax Paid
by Consumers
0%
< 50%
Incidence of Tax Paid
by Suppliers
100%
> 50%
Inelastic Demand
Perfect Inelasticity
Rising
Most
Minimal
Least
Microeconomic policies and cost to society
Dead Weight Loss Illustrated:
Subsidies
Price Floors
Over allocation of resources
Price Ceilings
Under allocation of resources
Consumer Choice
Utility
Total utility
Marginal utility
Unconstrained Consumer Choice
Consumer maximizes utility
Diminishing Marginal Utility
Constrained Utility Maximization
Consumer maximizes utility to the point that MB = P
> 50%
100%
< 50%
0%
Law of Diminishing Marginal Utility and Law of Demand
Constrained Utility Maximization, 2 goods
Formula:
Individual v. Market Demand
IV. The Firm, Profit, and the Costs of Production
The Firm defined: an organization that employs the factors of production to produce a good or service in order
to sell and make a profit.
Accounting v. Economics – normal profit, economic profit, explicit and implicit costs
Short-run v. Long-run
Production and cost
The production function
Fixed v. variable
Short run production measures
Total product
Marginal product
Average product
Law of diminishing returns
Marginal Product and Average Product Graph
Short-run costs
Total fixed costs (TFC)
Total variable costs (TVC)
Total cost (TC)  TC = TFC + TVC
Marginal Cost (MC) = change in TC / change in output
Average fixed cost (AFC)
Average variable cost (AVC)
Average total Cost (ATC)
Graphing Costs curves
Long-run cost
Economies of scale
Constant returns to scale
Diseconomies of scale
MICRO
Mr. Syroney
AP Microeconomics Review
Day 3
V. Market Structures
Perfect competition
Monopoly
Monopolistic Competition
Oligopoly
V. Market Structures
Perfect Competition
Characteristics
Many small buyers and sellers which act independently
Firms produce standardized product (ex. Eggs, wheat, ball bearings)
No barriers to entry
Firms are price takers
Demand faced by Perfectly Competitive Firms
2 demands  market and individual
Competitive firms maximize profits
MR=MC or where TR – TC is greatest
MR  change in Total Revenue / change in Quantity
To the competitive firm MR = P
The firm’s production function determines their most efficient level of output and their
marginal cost of production
To the competitive firm demand=P=M=AR and supply=MC
Graphing profits in the perfectly competitive firm
If price > average total cost, then profits > 0
If price < average total cost, then profits < 0
If price = average total cost, then profits = 0
Competitive firms and short-run losses
Hint: find q where P = MR = MC
Next: find ATC vertically at q. If you move downward, profits >0 if you move upward
profits <0
move horizontally from ATC to y axis to complete the rectangle to identify the area of
profit/loss
Decision to shut down
Firms shut down at the point where p = mr = mc = avc
Short run Supply
MC above AVC = S for competitive firm
Sum of MC curves = Market supply
Long run adjustment to profits
Profits attract producers
Producers create more supply
More supply means a lower market price
Profits fall to break-even
Q increases
-q decreases
Graph
Long run adjustment to losses
Losses drive some producers out of the market
Producers create less supply
Less supply leads to higher market price
Profits increase to break-even
Q decrease
-q increases
Graph
Monopoly
Characteristics
One producer
No close substitutes
Barriers to entry
Legal barriers
Economies of scale
Control of key resources
Market power
Monopolists face market demand and must therefore obey the law of demand
Note: demand is horizontal for the competitive firm, but downward sloping for the monopolist
Why monopolies are bad
Qm < Qc
Pm > Pc
Pm > MC therefore not allocatively efficient
Monopolies create dead weight loss
Pm > minimum ATC so not productively efficient
Monopoly profits > 0, therefore consumer surplus is transferred to producer
Price Discrimination
3 conditions
-
firm must have monopoly pricing power
firm must be able to discriminate amongst consumers
firm must be able to prevent resale between consumers
examples
senior citizen and student discounts at the movies
airline tickets for business travelers v. tickets for vacationers which require id
cell phone plans that have peak and off-peak pricing
coupons for price sensitive consumers
bulk discounts
Monopolistic Competition
Large # of firms
Differentiated products
Ease of entry and exit
For monopolistic competition demand is downward sloping because product is differentiated, but it is flatter than
for a monopoly because there are close substitutes
Short Run Profit Max: MR=MC
Long run adjustment  new firms enter because of profits in industry
Why monopolistic competition is bad
Qmc < Qc
Pmc > Pc
Pmc > MC therefore not allocatively efficient
Dead weight loss exists but < monopoly
Pmc > ATC therefore not productively efficient
Profits = 0 in the long-run, so monopolistic competitors do a great deal of advertising to keep product
differentiation going
Excess capacity exists in industry Qatc – Qmc
Oligopoly
Few large producers
Standardized or differentiated products (ex. Oil or cars, beer and sodas)
Barriers to entry
Interdependent behavior
Industry Concentration
Four firm concentration ratio
If 4 firm ratio exceeds 40, or the four largest firms control >40% market share, then industry
is oligopolistic
Game Theory and non-collusive interdependent behavior
Prisoner’s dilemma
Collusion and Cartels (Oligopolists jointly acting like a single monopolist)
OPEC
Weaknesses of cartels
Coming to agreement
Incentives to cheat
High profits invite competition
MICRO
Mr. Syroney
AP Microeconomics Review
Day 4:
VI. Factor Markets
Factor Demand
Least cost hiring of multiple inputs
Factor supply and market equilibrium
Imperfect competition and market equilibrium
VII. Public Goods, Externalities, and the Role of Government
Public goods and spillover benefits
Pollution and spillover costs
Income distribution and Tax Structures
VI. Factor Markets
Factor Demand also known as resource or input demand
Factor demand is the demand for the factors of production in the factor market
Competitive Factor Markets
In competitive factor markets firms are both price takers in the factor and product market
Marginal Revenue Product
The value of what the next unit of input brings into the firm
MRP = MR * MP = P * MP
Profit maximizing resource employment
If mb > mc, then do more of it
If mb < mc, then do less of it
If mb=mc, then stop hers
The marginal cost of hiring resources is Marginal Resource Cost
In the competitive factor market the marginal resource cost or mrc = wages
Supply and demand for labor in competitive factor markets
The MRP becomes the demand for labor or other inputs
The MRC or wage becomes the supply of labor or other input
Derived Demand
The demand for the factors of production is derived from the demand for the
product that the firm is producing
Increased demand for a product increases the price of the product, and because
the mrp = mp * p then demand for labor increases and as a result the amount of
labor hired at a given wage will increase
Determinants of Resource Demand
Product demand
Productivity
Capital
Technology
Quality of variable resources
Prices of other resources
Substitute resources
Substitution effect
If capital is cheaper, then demand for
labor declines
Output effect
If capital is cheaper, then costs of
production fall and the firm can demand
more labor to satisfy increased ability to
produce more.
Confused? If SE > OE, then demand for labor
declines, however if OE > than SE, then demand
for labor increases.
Complementary Resources
As the price of complementary resources decline
demand for the complement increases and vice
versa.
Ex. As fuel prices climb, airlines cost of production
increases and as a result, airlines produce less
output causing a decline in the demand for airline
pilots.
Least Cost Hiring Rule
For a producer:
1. production of Q units of output will be produced at lowest TC
2. or, at some level of TC, what amount of Q can be produced
MPL/PL = MPK/PK which means the marginal product of labor divided by the price of labor
= the marginal product of capital divided by the price of capital
Thus,
situation
Firm will…
MPL/PL > MPK/PK
Increase
labor and
decrease
capital
Increase
capital and
decrease
labor
MPL/PL<MPK/PK
Which
causes…
Marginal
product of
labor to
decline
Marginal
product of
capital to
decline
And…
Until
Marginal
product of
capital to
increase
Marginal
product of
labor to
increase
MPL/PL=MPK/PK
MPL/PL = MPK/PK
Factor Supply and market equiliubrium
Supply of labor
Reflecting the law of supply, as wages increase the quantity of labor supplied will increase
and as wages decrease the quantity of labor supplied will decrease
Wage determination
Wages are determined in the labor market where supply of labor = demand for labor
Imperfect Competition in product and factor markets
Because MR < P in imperfectly competitive markets, then the MRP in imperfectly competitive markets
is < the MRP in competitive markets.
Therefore, there is less demand for labor and other resources in noncompetitive markets than in
competitive markets.
Also, in imperfect markets wages are less than in competitive markets
VII. Public Goods, externalities and the role of government
Public goods and externalities
Private v. public goods
Private goods – rival and excludable (ex. Snickers bar, Hummer)
Public goods – non-rival and nonexcludable (ex. National defense, environmental protection)
Private goods are priced according to the laws of supply and demand, if you want the good
you must pay the price
Public goods are kind of like a group project, if you want a good grade you may be paying
for it while someone else is a free rider.
The free rider problem is the fact that some people consume a good without paying for it.
Spill over benefits and costs
Positive Externality- a spill over benefit
Graph:
The existence of positive externalities from the production of a good often mean
that the good is underproduced, which is a misallocation of scarce resources.
Subsidy- government payments to producers in order for them to produce more
of a product than they would in the free market
Graph:
Pollution and spill over costs
Spill over costs – exists when one consumers consumption of a good adversely affects another
consumer and this cost is not reflected in the market price of the good in question
Graph:
Negative externality- an economic side effect that harms a third party (ex. pollution)
.Graph:
Income distribution and tax structures
Equity- fairness, free markets produce where mb = mc, but often don’t produce where msb=msc
Does fair mean equal? NO!
Productivity share  your wage is a function of your marginal revenue product
However, because of past patterns of discrimination or disability some people’s wage is
less than their marginal revenue product
Measuring Income Distribution
Quintiles
Quintiles (households)
Lowest 20%
Second 20%
Third 20%
Fourth 20%
Highest 20%
% of total income
4.2%
9.7%
15.4%
22.9%
47.7%
Upper income limits
$24,000
$41,127
$62,500
$94,150
No limit
Lorenz Curve
% of income
% of families
Gini Ratio = Area A / (Area A + Area B)
The closer Gini gets to zero the more equally distributed is the income
The closer Gets to one the more unequally distributed is the income
Sources of Inequality
Ability
Human capital
Discrimination
Personal Preferences
Market power
Luck and connections
Income redistribution
Government collecting taxes from one part of society and giving to another part of society
Ex. Welfare  money is taken from productive members of society and given to non productive
members of society
Marginal and Average Tax Rates
Marginal tax rate- the tax rate paid on the last dollar earned
Average tax rate- the proportion of total income paid in taxes
Tax progressivity
Progressive Taxes
Ex. Federal Income tax
Regressive Taxes
Ex. State sales taxes
Proportional Taxes
Ex. Federal Corporate Taxes