Economics Flashcard Test
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Price Ceiling; binding vs non-binding price ceiling
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a legal maximum on the price of a good or service Binding: if price ceiling is below the equilibrium price. Non-binding: if price ceiling is above the equilibrium price
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Price floor; binding vs non-binding price floor
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a legal minimum on the price of a good Binding: if the price floor is above the equilibrium price. Non-binding: if the price floor is under the equilibrium price
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Economic effects of rent control and minimum wage (short-run, long run)
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Per unit tax on buyers/sellers and market outcome; graphical representation of tax on buyers and tax on sellers.
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Tax incidence; tax incidence and elasticity
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Welfare economics
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studies how the allocation of resources affects economic well-being >involves normative analysis >establishes a standard of economic efficiency
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Willingness to pay
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A buyer's willingness to pay for a good is the max amount the buyer will pay for that good
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Consumer surplus
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Amount a buyer is willing to pay minus the amount the buyer actually pays (the leftover that is saved) . CS = WTP - P
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Change in price and consumer surplus
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1) Fall in CS due to buyers leaving market 2) Fall in CS due to remaining buyers paying higher price
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Cost
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is the value of everything a seller must give up to produce a good (ie. opportunity cost)
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Willingness to sell
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A seller's absolute willingness to sell at a minimum price.
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Producer Surplus
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The amount a seller is paid for a good minus the seller's cost. PS = P - Cost
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Demand curve, willingness to pay, marginal benefit (value to marginal buyer)
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Supply curve, willingness to sell, marginal cost (value to marginal seller)
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Total surplus
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TS = CS + PS = total gains from trade in a market = value to buyers - cost to sellers
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Efficiency
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Allocation is efficient if it maximizes total surplus. -Goods consumed by buyers who value them most highly -Goods produced at low prices -Sellers with lower cost produce
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Market equilibrium and efficiency
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If buyers WTP is higher or equal to the price, then efficient. If sellers cost is lower/equal to price then efficient.
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Assumptions of perfect competition and no externalities
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MC = MB
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Adam Smith, "The Wealth of Nations", role of self-interest, the "invisible hand"
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People promote the society through self-interest and think only for self-gain
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Market economy vs. command economy
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Market economy: decision made by households and firms -decentralized -private ownership Central-planned economy: centralized decision making -central planner decides on production and distribution -collective ownership
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Deadweight loss from a tax
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Units between QT and QE not sold (on graph). The tax prevents some mutually beneficial trades
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Determinants of deadweight loss: elasticities of supply and demand and size of tax
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When supply is inelastic the tax only reduces Q a little and DWL is small. The more elastic, great Q falls, bigger DWL. Same with demand curve.
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Government tax revenue and size of tax
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Size of tax: Doubling the tax causes the DWL to more than double when the tax is small, increasing it causes tax revenue to rise. When the tax is small, increasing it causes tax revenue to rise. When the tax is larger, increasing it causes tax revenue to fall.
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Laffer curve
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The Laffer curve shows the relationship between the size of the tax and tax revenue
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Externalities (positive and negative)
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uncompensated impact of one person's actions on well-being of a bystander Externality is a type of market failure: a situation when markets fail to allocate resources efficiently -public policy can potentially improve efficiency in a market with externalities
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Externalities and Market efficiency
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Externalities: private costs and social costs
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Private costs: costs directly incurred by sellers Social costs = private + external cost (value of the negative impact on bystanders)
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Private values (benefits) and social values (benefits)
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Private values: the direct value to buyers Social values: private value + external benefit (value of positive impact on bystanders)
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Market quantity vs socially optimal quantity
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Negative externality: market quantity > socially optimal Positive quantity: market quantity < socially optimal
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Internalizing the externalities
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altering incentives so people take into account of external effects of their actions -externalities internalized, market equilibrium quantity equals social optimum
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Market based policies: Corrective Taxes/Pigouvian taxes
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designed to induce private decision-makers to take into account of social costs that arise from negative externality
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Market based Externalities: tradable pollution permits
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right to emit a certain amount of a specified pollutant-are allocated to firms
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Policies towards externalities Market-based policies and command-and-control policies
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market-based policies: provide incentives so that private decision-makers will choose to solve the problem on their own. command-and-control policies: regulate behavior directly -requirements that firms adopt a particular technology to reduce emissions
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Private solutions to externalities: social norms, property rights
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Moral codes & sanctions, charities, corporate social responsibility, ethical consumerism. Well defined property rights could overcome the problem of externalities.
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Coase Theorem
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if private parties can costlessly bargain over the allocation of resources, the market will reach efficient outcome on its own.
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Transaction costs
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The costs parties incur in the process of agreeing to and following through on a bargain.
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Criteria for classifying goods: Excludability and rivalry in consumption
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Excludability: a property of a good whereby a person can be prevented from using it. >Excludable: food, clothes. Non-excludable: FM radio signals, national defense Rivalry in consumption: a property of a good whereby one person's use of it diminishes others' use Rival: food, clothes, non-rivalry: general knowledge
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Four types of goods
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private goods: excludable, rival in consumption, ex: food public goods: not excludable, not rival. ex: national defense common resource: rival, not excludable, ex: fish in ocean natural monopolies: excludable, not rival
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Public goods and market efficiency; free-rider problem; role for the government
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-generate positive externalities -non-excludable=>free-rider problem (person who receives benefit of a good but avoids paying for it) -market will fail to provide socially efficient quantity b/c of free rider -role gov: national defense knowledge created thru basic research, fighting poverty
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Cost-benefit analysis
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a study that compares the costs and benefits providing a public good
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Common resources: the Tragedy of the Commons, example
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common resources: not excludable (free-rider problem and little incentives for firms to produce), rival in consumption (overuse problem) Tragedy of the Commons: A parable that illustrates why common resources get used more than is socially desirable
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Common resources and market efficiency; role for the government
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Policy options for the Tragedy of the Commons
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Private options for the Tragedy of the Commons
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Total revenue, total cost, profit
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Total rev: the amount a firm receives from the sale of its output Total cost: the market value of the inputs a firm uses in production Profit = Total rev - total cost
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Explicit costs vs implicit costs
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explicit: requires an outlay of money, e.g. paying wages to workers implicit: do not require a cash outlay, e.g., the opportunity cost of the owner's time
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economic profit vs accounting profit
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economic: total revenue - total costs (including explicit and implicit costs accounting: total revenue - total explicit costs
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production function; slope of production function
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production functions shows the relationship between the quantity of inputs used to produce a good and the quantity of output of that good The MP declines as the quantity of input increases
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Marginal product; diminishing marginal product
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The marginal product of any input is the increase in output arising from an additional unit of that input, holding all other inputs constant. Marginal product of labor: Change in Q/Change in L Diminishing: The marginal product of an input declines as the quantity of the input increases
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Total cost function
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FC + VC Slopes upward.
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Relationship between marginal product and marginal cost
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MPL decreases => MC increases
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Fixed costs
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do not vary with the quantity of output produced ie.: Farmer Jack, FC = $1000 for his land
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Variable costs (VC)
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Vary with the quantity produced ie: Farmer Jack, VC = wages he pays workers
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Marginal costs
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is the increase in Total Cost from producing one more unit MC = change TC/change in Q
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Average total costs
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equals total cost / quantity of output = TC/Q ATC = AFC + AVC
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Average fixed costs
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AFC = FC/Q
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Average variable costs
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AVC = VC/Q
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Efficient scale
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The quantity that minimizes ATC. As AFC is decreasing, brings ATC down with it, and as AVC is increasing, brings ATC up with it.
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Short-run
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some inputs are fixed (e.g. factories, land) The costs of these inputs are FC
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Long-run
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All inputs are variable (eg., firms can build more factories, or sell existing ones)
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Economies of scale Constant returns to scale Diseconomies of scale
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Economies of scale: ATC falls as Q increases Constant returns to scale: ATC stays the same as Q increases Diseconomies of scale: ATC rises as Q increases
