Download Review of Graphs

Micro Review!
• As long as Total Revenue is increasing with every
decrease in price, Demand is elastic
**Marginal Revenue is positive
• When Total Revenue begins to decrease with every
decrease in price, Demand becomes inelastic
**Marginal Revenue is negative
Price Elasticity of Demand
• Price-elasticity coefficient and
formula
Ed =
Percentage Change in Quantity
Demanded of Product X
Percentage Change in Price
of Product X
6-3
Price Elasticity of Demand
• Calculation problem
• $4-$5 is 25% increase
• $5-$4 is 20% decrease
• Starting point matters
• Midpoint formula
Ed =
Change in Quantity
÷
Sum of Quantities/2
Change in Price
Sum of Prices/2
6-4
Interpretations of Elasticity
Elastic Demand
Ed =
.04
.02
=2
.01
.02
= .5
.02
.02
=1
Inelastic Demand
Ed =
Unit Elasticity
Ed =
6-5
Cross Elasticity of Demand
• Responsiveness of sales to change
in price of another good
Exy =
Percentage Change in Quantity
Demanded of Product X
Percentage Change in Price
of Product Y
6-6
Cross Elasticity of Demand
• Substitute goods
• Positive sign
• Complementary goods
• Negative sign
• Independent goods
• Zero or near zero
• Coke and Sprite Example
• Mergers
6-7
Income Elasticity of Demand
Ei =
Percentage Change in Quantity
Demanded
Percentage Change in Income
• Responsiveness of sales to change in income
• Income increases 20%, and quantity decreases
15% then the good is a(n)…
• INFERIOR GOOD
• Normal goods – positive sign
• Inferior goods– negative sign
• How can this help you profit from a recession?
6-8
Efficiency Loss of a Tax
P
S’
14
Tax Paid by
Consumers
Price (Per Bottle)
12
S
Tax $2
10
8
6
4
2
0
Efficiency
Loss (or
Tax Paid by Deadweight
Loss)
Producers
5
10
15
20
Quantity
D
25
(Millions of Bottles Per Month)
Q
17-9
Tax Incidence (Who pays?)
ST S
ST S
ST S
ST S
ST S
D
D
D
D
D
Perfectly
Inelastic
Relatively
Inelastic
Unit
Elastic
Tax burden
paid
entirely by
consumers
Tax burden
mostly on
consumers
Tax burden
shared by
consumers
and
producers
Copyright
ACDC Leadership 2015
Relatively
Elastic
Perfectly
Elastic
Tax burden Tax burden
paid
mostly on
producers entirely by
producers
10
Efficiency Revisited
• Productive and allocative efficiency
S
Price (Per Bag)
Consumer
Surplus
Equilibrium
Price = $8
P1
Producer
Surplus
D
Q1
Quantity (Bags)
6-11
Are Price Controls Good or Bad?
To be “efficient” a market must maximize consumers and
producers surplus
P
S
Pc
DEAD WEIGHT LOSS
The Lost CS and PS.
CS
INEFFICIENT!
Price
CEILING
PS
D
Copyright
ACDC Leadership 2015
Qceiling Qe
12
Are Price Controls Good or Bad?
To be “efficient” a market must maximize consumers and
producers surplus
P
S
Price
FLOOR
Pc
CS
DEAD WEIGHT LOSS
INEFFICIENT!
PS
Not Maximizing
CS and PS
D
Copyright
ACDC Leadership 2015
Qfloor Qe
13
0
1
2
3
4
5
6
7
0
10
18
24
]
]
]
]
28
]
30
]
30
]
28
How many tacos will you eat?
What KEY piece of information are we
missing?
10
8
4
2
0
-2
Total Utility
30
TU
20
10
0
6
Marginal Utility (Utils)
Let’s go
to…
(1)
(2)
(3)
Tacos
Total Marginal
Consumed Utility, Utility,
Per Meal Utils
Utils
Total Utility (Utils)
Graphing Utility
1
2
3
4
5
6
Units Consumed Per Meal
7
Marginal Utility
10
8
6
4
2
0
-2
MU
1
2
3
4
5
6
7
Units Consumed Per Meal
7-14
Utility Maximizing Rule
The consumer’s money should be spent so that the
marginal utility per dollar of each goods equal each
other.
MUx = MUy
Px
Py
You use this rule subconsciously every day!
Copyright
ACDC Leadership 2015
15
$10
Utility Maximization
# Times
Going
Marginal
Utility
(Movies)
1st
2nd
3rd
4th
30
20
10
5
$5
(Price =$10)
Marginal
Utility
(Go Carts)
(Price =$5)
3
2
1
.50
10
5
2
1
2
1
.40
.20
MU/P
MU/P
If you only have $40, what combination of
movies and go carts maximizes your utility?
3 Movies and 2 Go Carts
Copyright
ACDC Leadership 2015
Identify the three stages of returns
# of
Workers
(Input)
Total
Product(TP)
PIZZAS
0
1
2
3
4
5
6
7
8
0
10
25
45
60
70
75
75
70
Marginal
Average
Product(MP) Product(AP)
-
-
10
10
15
12.5
20
15
15
15
10
14
5
12.5
0
10.71
-5
8.75
Increasing
Marginal
Returns
Decreasing
Marginal
Returns
Negative
Marginal
Returns
Total Product, TP
Law of Diminishing Returns
30
20
10
0
Marginal Product, MP
TP
1
2
3
Increasing
Marginal
20 Returns
4
5
6
7
8
9
Negative
Marginal
Returns
Diminishing
Marginal
Returns
10
AP
1
2
3
4
5
6
7
8 9
MP
8-18
Profit
• Accounting profit
–Total revenue less explicit cost
• Normal profit
–Equal to implicit cost
• Economic or pure profit
–Total revenue less economic cost
8-19
Profits Compared
Economic
Implicit Costs
(Including a
Normal Profit)
Explicit
Costs
Total Revenue
Economic
(Opportunity)
Costs
Economic
Profit
Accounting
Accounting
Profit
Accounting
Costs (Explicit
Costs Only)
8-20
Different Economic Costs
Total Costs
FC = Total Fixed Costs
VC = Total Variable Costs
TC = Total Costs
Per Unit Costs
AFC = Average Fixed Costs
AVC = Average Variable Costs
ATC = Average Total Costs
MC = Marginal Cost
Copyright
ACDC Leadership 2015
21
Total Cost Curves
TC
Costs
FC + VC = TC
VC
Fixed Cost
$10
Copyright
ACDC Leadership 2015
FC
Quantity
22
MC
ATC
Costs
$20
$18
$16
$14
$12
$10
$8
$6
$4
$2
AVC
ATC and AVC get
closer and closer but
NEVER touch
Average
Fixed Cost
AFC
1
2
3
4
5
6 Quantity
23
Graphical Relationships
Average Product and
Marginal Product
Production Curves
AP
MP
Quantity of Labor
MC
Cost (Dollars)
AVC
Cost Curves
Quantity of Output
8-24
Shifts in Cost Curves
• Practice: Which curves shift and how?
– Decrease in union wage requirements?
• AVC, ATC, MC shift DOWN
– Increase in rent?
• AFC, ATC, shift UP
– Increase in cost of materials?
• AVC, ATC, MC shift UP
– More efficient production technology is
discovered?
• AVC, ATC, MC shift DOWN
Average Total Costs
Long-Run ATC Curve
ATC-1
ATC-5
ATC-2
ATC-3
ATC-4
Output
Any number of short-run optimum
size cost curves can be constructed
8-26
Average Total Costs
Long-Run ATC Curve
ATC-1
ATC-5
ATC-2
ATC-3
ATC-4
Long-Run
ATC
Output
The long-run ATC curve just
“envelopes” the short run ATCs
8-27
Long Run AVERAGE Total Cost
Costs
Economies of
Scale
Constant
Returns to
Scale
Diseconomies
of Scale
Long Run
Average Cost
Curve
0
Copyright
ACDC Leadership 2015
1
100
1,000
100,000
1,000,0000
Quantity Cars
28
Profit Maximization
• Profit = Total Revenue - Total Cost
• Total Cost = Fixed Cost + Variable Cost
• Fixed vs. Variable… examples?
– Fixed – rent, loan payments, utilities
– Variable – labor, raw materials
• Firms want TR > TC…
• But how do they maximize this profit?
• MARGINAL ANALYSIS!!!!
Profit maximization
• Marginal Cost = ∆ Price of Inputs / ∆ Output
MC = ∆ Variable Cost/ ∆ Quantity
• Marginal Revenue = Price each unit is sold for
• MC and MR are PER UNIT measurements
• Profit Maximization:
-As long as MR > MC, producers will continue
to produce.
-Reach the point where MR = MC
Production Function.notebook
Four Market Structures
Perfect
Competition
Monopolistic
Competition
Oligopoly
Monopoly
Imperfect Competition
Characteristics of Perfect Competition:
• Many small firms
• Identical products (perfect substitutes)
• Low Barriers- Easy for firms to enter and
exit the industry
• Seller has no need to advertise
• Firms are “Price Takers”
The seller has NO control over price.
Copyright
ACDC Leadership 2015
31
Perfect Competition LRATC
• Example:
– Agriculture
Output
Perfect Competition
Lets put costs and revenue together
to calculate profit.
Firm
Industry
P
S
P
(price taker)
MC
$7
$7
Demand
ATC
D
Copyright
ACDC Leadership 2015
10,000
Q
Q
33
•How much output should be produced?
•How much is Total Revenue? How much is Total Cost?
•Is there profit or loss? How much?
P
$9
MC
8
7
6
5
4
3
2
1
MR=D=AR=P
Profit = $18
Total Cost=$45
Total Revenue =$63
1 2 3 4 5 6 7 8 9 10 Q
Copyright
ACDC Leadership 2015
ATC
34
Cost and Revenue
•How much output should be produced?
•How much is Total Revenue? How much is Total Cost?
•Is there profit or loss? How much?
MC
$9
8
ATC
7
6
Loss =$7
5
MR=D=AR=P
4
3
2 Total Cost = $42
Total Revenue=$35
1
1 2 3 4 5 6 7 8 9 10 Q
35
Short-Run Supply Curve
Firms produce where MR=MC
Cost and Revenues (Dollars)
Examine the MC for the Competitive Firm
MC Above AVC Becomes
the Short-Run Supply Curve
Break-even
(Normal Profit) Point
e
P5
P3
P2
P1
MC
MR5
d
P4
S
ATC
c
AVC
b
a
MR4
MR3
MR2
MR1
Shut-Down Point
(If P is Below)
0
Q2
Q3
Q4
Quantity Supplied
Q5
9-36
Side-by-side graph for perfectly completive
industry and firm in the LONG RUN
Is the firm making a profit or a loss? Why?
P
S
P
MC
ATC
$15
MR=D
$15
D
5000
Industry
Copyright
ACDC Leadership 2015
Q
8
Q
Firm
(price taker)
37
Long-Run Equilibrium
Single Firm
P=MC=Minimum
ATC (Normal Profit)
Market
MC
S
Price
Price
ATC
MR
P
P
D
0
Qf
Quantity
0
Qe
Quantity
Productive Efficiency: Price = minimum ATC
Allocative Efficiency: Price = MC
Pure competition has both in
its long-run equilibrium
What about in the short run?
9-38
Four Market Structures
Perfect
Competition
Monopolistic
Competition
Oligopoly
Monopoly
Characteristics of Monopoly:
Examples: The Electric Company, De Beers
• One large firm (the firm is the market)
• Unique product (no close substitutes)
• High Barriers- Firms cannot enter the
industry
• Monopolies are “Price Makers”
• Some advertising – why?
39
Copyright
ACDC Leadership 2015
Pure Monopoly LRATC
• Examples:
– Allegheny Power
– Monsanto
Monopoly Revenue
A
monopoly
will only
produce in
the elastic
Why?
range of
it’s
Demand
Curve!!
$200
Demand and Marginal-Revenue Curves
Elastic
Inelastic
Price
150
100
50
D
MR
0
2
4
Total Revenue
$750
6
8
10
12
Total-Revenue Curve
14
16
18
500
250
0
TR
2
4
6
8
10
12
14
16
18
10-41
Profit Maximization
Conclusion: A
monopolist
produces
where
MR=MC, but
charges the
price
consumers are
willing to pay
identified by
the demand
curve.
Price, Costs, and Revenue
$200
175
MC
150
Pm=$122
125
100
75
Economic
Profit
ATC
A=$94
D
MR=MC
50
25
0
MR
1
2
3
4
5
6
7
8
9
10
Quantity
10-42
Monopolies vs. Perfect Competition
Allocative Efficiency
Where is CS
and PS for a
monopoly?
P
S = MC
CS
Total surplus falls.
Now there is
DEADWEIGHT
LOSS
Pm
PS
Monopolies underproduce and over
D
charge, decreasing CS and
increasing
PS.
MR
Copyright
ACDC Leadership 2015
Qm
Q
43
Allocative Efficiency
Perfect Competition vs. Monopoly
Regulated Monopoly
Dilemma of Regulation
Why does this
problem exist?
Price and Costs (Dollars)
Monopoly
Price
Pm
Fair-Return
Price
f
Pf a
Socially
Optimal
Price
(No DWL)
ATC
Pr
r
D
MR
0
b
Qm
What is the problem with the
socially optimal price?
MC
Qf
Quantity
Qr
Economies of
Scale…
10-45
Perfect
Competition
Monopolistic
Competition
Oligopoly
Pure
Monopoly
Characteristics of Monopolistic
Competition:
• Relatively Large Number of Sellers
• Differentiated Products
• Some control over price
• Easy Entry and Exit (Low Barriers)
• A lot of non-price competition
(Advertising)
Copyright
ACDC Leadership 2015
46
Monopolistic Competition LRATC
• Examples:
– Restaurants
– Clothing Stores (as well as most retail…)
LONG-RUN EQUILIBRIUM
Quantity where MR =MC up to Price = ATC
P
MC
ATC
PLR
D
MR
QLR
Q
48
Long- Run Equilibrium
Not Allocatively Efficient because P  MC
Not Productively Efficient because not producing
at Minimum ATC
P
MC ATC
PLR
D
MR
Copyright
ACDC Leadership 2015
QLR
QProd Efficient
QSocially Optimal
Q
49
FOUR MARKET MODELS
Perfect
Competition
Monopolistic
Competition
Oligopoly
Pure
Monopoly
Characteristics of Oligopolies:
• A Few Large Producers (Less than 10)
• Homogeneous or Differentiated
Products
• High Barriers to Entry
• Control Over Price (Price Maker)
• Mutual Interdependence
•Firms use Strategic Pricing
Copyright
ACDC Leadership 2015
50
Oligopoly LRATC
• Examples:
– Cell Service
– Cars
Because firms are interdependent
There are 3 types of Oligopolies
1. Price Leadership (no graph)
2. Colluding Oligopoly
3. Non Colluding Oligopoly
Copyright
ACDC Leadership 2015
53
If this firm increases it’s price, other firms
will ignore it and keep prices the same
As the only firm with high prices, Qd for this firm
will decrease a lot (Qe to Q1)
P
P1
Pe
Copyright
ACDC Leadership 2015
NonCollusive
Oligopoly
Q1
Qe
D
Q
54
Resource Markets
Perfect
Competition
Monopsony
Perfectly Competitive Labor Market
Characteristics:
•Many small firms are hiring workers
•No one firm is large enough to manipulate the
market.
•Many workers with identical skills
•Wage is constant
•Workers are wage takers
•Firms can hire as many workers as they want
at a wage set by the industry
Copyright
ACDC Leadership 2015
55
Wage is set by the market
Demand/MRP falls
SL
Wage
Wage
SL=MRC
WE
QE
Copyright
ACDC Leadership 2015
Industry
DL
Q
DL=MRP
Qe
Firm
Q
56
The least cost rule can be used to minimize
cost at any output, but only one output
maximizes profits.
Profit Maximizing Rule for Combining
Resources
MRPx = MRPy =
MRCx
MRCy
1
This means that the firm is hiring where
MRP = MRC for each resource x and y
Copyright
ACDC Leadership 2015
57
Resource Markets
Perfect
Competition
Monopsony
Imperfect Competition: Monopsony
Characteristics:
• One firm hiring workers
• The firm is large enough to manipulate the market
• Workers are relatively immobile
• Firm is wage maker
• To hire additional workers the firm must increase
the wage
Examples:
Central American Sweat Shops
Midwest small town with a large Car Plant
NCAA
Copyright
ACDC Leadership 2015
58
Monopsony
If the firm can’t wage discriminate, where is MRC?
MRC
Wage
SL
WE
DL=MRP
Copyright
ACDC Leadership 2015
QE
The Four Market Failures
We will focus on four different market
failures:
1. Public Goods
2. Externalities (third person side effects)
3. Monopolies
4. Unfair (inefficient?) distribution of
income
In each of the above situations,
the government steps in to
allocate resources efficiently.
60
Copyright
ACDC Leadership 2015
Market for Cigarettes
If the market produces QFM why is it a market
failure?
P
MSC
S=MPC
At QFM the MSC is
greater than the MSB.
Too much is being
produced so there is
deadweight loss
Overallocation
D=MSB
Copyright
ACDC Leadership 2015
QOptimal QFree Market
Q
61
Market for Flu Shots
P
At QFM the MSC is less than the MSB.
Too little is being produced
S = MSC
Marginal
Social Benefit
Underallocation
Copyright
ACDC Leadership 2015
QFM
QOptimal
Q
62
The Lorenz Curve
100
Lorenz Curve
(actual distribution)
Percent of Income
80
Perfect Equality
60
55
40
The size of the
banana shows
the degree of
income inequality.
30
20
15
5
0
Copyright
ACDC Leadership 2015
20
40
60
80
Percent of Families
100
63
Gini Ratios
• Gini Ratio by country
• Gini Ratio by state
Three Types of Taxes
1. Progressive Taxes -takes a larger percent of
income from high income groups (takes more
from rich people).
Ex: Current Federal Income Tax system
2. Proportional Taxes (flat rate) –takes the same
percent of income from all income groups.
Ex: 20% flat income tax on all income groups
3. Regressive Taxes –takes a larger percentage
from low income groups (takes more from poor
people).
Ex: Sales tax; any consumption tax.
65