econ final exam Flashcards

Question

What's the difference between subsidy and tax in their concepts?

Answer 1

- Subsidy = A negative tax OR A dec in cost -> inc S -> shift the SC rightward - Tax = An inc in cost

Answer 2

subtract the subsidy from the farmer's min S-P SC shifts to red curve labelled S - subsidy

Answer 3

A subsidy lowers the P paid by customers/buyers and inc the marginal cost of the product/service. marginal cost inc because producers are producing more goods, which means they start using less ideal res for production -> slide up on SC and marginal cost C.

Answer 4

- At Q produced with the subsidy, MSB = market P which has dec. MSC inc and > market P => MSC> MSB -> inefficiency

Answer 5

- A subsidy dec the domestic market P -> subsidized farmers will offer some of their output for sales in the international/world market - Inc S of the world market -> overall P reduction for the rest of the world -> farmers in other countries produce less and receive less revenue

Answer 6

- DC shows that other things remaining the same, dec P of a drug -> inc QD - SC shows that, other things remaining the same, dec P of a drug -> dec QS - If drugs are not illegal, the Q bought and sold is QC at a price of PC at point E. - If selling drugs is illegal, the cost of breaking the law by selling drugs (CBL) is added to the minimum supply-price and supply decreases to . The market moves to point F. - If buying drugs is illegal, the cost of breaking the law is subtracted from the maximum price that buyers are willing to pay, and demand decreases to D- CBL . The market moves to point G. - With both buying and selling illegal, the SC and the DC shift and the market moves to point H. The market price remains at PC , but the market price plus the penalty for buying rises—point J—and the market price minus the penalty for selling falls—point K

Answer 7

- good is illegal -> cost of trading inc. how much the cost inc and who bears the cost depend on the penalties and to what degree the law is enforced - inc penalties -> inc policing -> inc the cost. - penalties are applied to sellers/buyers/both

Answer 8

- drug dealers in Canada face large penalties if their activities are detected. (ie: trafficking - 2 years of jail - penalties as an attempt to inc cost of illegal drug -> dec S -> shift SC leftward - to determine the new SC, add the cost of breaking law to the minimum P drug dealers are willing to accept (S + CBL) - if penalties are only applied to sellers, market equi shifts from point E to F.

Answer 9

- Canada: cocaine, heroine , methamphetamine - possession of cocaine: 6 months of prison, fine: 1,000 cad - possession of heroine: 7 years of prison - penalties fall upon the buyers and CLB is subtracted from the value of good to get the max P buyers are willing to pay => D dec -> DC shifts leftward -> DC shifts to D- CBL. If penalties are only applied to buyers, market equi will shift from point E to G

Answer 10

- Both S and D dec -> both SC and DC shift leftward by the same amount when CBL are the same for both buyers and sellers -> market equi moves to point H (market P remains at the competitive market P at PC but the Q bought dec to QP. - buyers pay PB which = PC + CBL - sellers pay PS which = PC - CBL - inc penalties + inc law enforcement -> dec in D and S - if penalties are heavier on the sellers -> SC shifts farther than DC + market P inc above PC - if penalties are heavier on the buyers -> DC shifts farther than SC + market P dec below PC - this theory does not work that well in reality due to high cost of law enforcement and insufficient res for police to achieve effective enforcement -> canada has legalized marijuana for recreational use -> sold openly but with high tax

Answer 11

- Q bought can be dec when drugs are legalized and taxed. - sufficient tax -> dec S + inc P -> same Q as prohibition of drugs - illegal trading may still exist even when drugs are legalized due to high tax.

Answer 12

- cost of breaking tax law - Q bought of drugs depend on how severe the penalties are and which way the penalties are applied to buyers and sellers

Answer 13

- view (favour tax - against prohibition): tax revenue can make the law enforcement more effective + run educational campaign against illegal drug use - view (favour prohibition- against tax): prohibition may influence preference -> dec D + some people really hate the idea that the gov is profiting from the trade of harmful substances.

Answer 14

- Consumption choice are limited by income and P - Household's budget line: +) limit of consumption choice +) shows what one can or cannot afford

Answer 15

- Divisible goods: goods that can be bought at any desired Q (ie: electricity, gasoline) - best understand household choice if we suppose all goods and services are divisible (ie: 1/2 movie per month- 1 movie per 2 months) ->so we have to consider all the points (even if they're decimals) on the budget line - affordable and unaffordable Q: areas inside and on the budget line are affordable . Outside the line is unaffordable

Answer 16

Expenditure = Income Expenditure = (P good A x Q bought good A) + (P good B x Q bought good B) (PC x QC) + (PM x QM) = Y QC + PMxQM/PC = Y/PC QC = Y/PC - PMxQM/PC Sub in Y (income), PC (P good A), PM (P good B) to find QC = y int +/ - slope x QM (QC - Q bought of good A, QM - Q bought of good B) How to set up budget line on a graph: Set QC = 0 Set QM = 0 you get x and y int

Answer 17

household's real income: Q of goods that the household can afford to buy (Y/PC = income/ price of good = max Q can be bought)

Answer 18

- Relative P: P good A/ P good B = opportunity cost (how much of good B must be sacrificed to gain extra Q of good A) - Relative P = magnitude of slope

Answer 19

- Other things remaining the same, dec of P on the x axis -> dec the slope of budget line -> budget line becomes flatter - Other things remaining the same, inc of P on the x axis -> inc the slope of budget line -> budget line becomes steeper DO NOT mistaken P as the independent variable - IT"S NOT. CORRECT ANSWER: Q of good B is on the x axis, Q of good A is on y axis SCENARIO: real income (income/ P of good A) of good A remains the same. the original P of good B is 8 then Q of good B is 5. -> if P good B inc to $16 -> y int still remains the same but x int shifts backward to 2.5 -> budget line is shifting down and becomes steeper -> if P good B dec to $4 -> y int still remains the same but x int shifts forward to 10 -> budget line is shifting up and becomes flatter

Answer 20

- income (monthly income - Y NOT real income - Y/PC) - income dec while P of good remain the same -> Q of both goods dec -> y int and x int both go down on the axises -> budget line shifts inward - IMPORTANT NOTE: relative P do not change, which means the opportunity cost remains the same - you still have to exchange the same Q of one good for another good -> slope remains the same - Trend: 1. Inc monthly income (Y) -> inc real income (Y/PC) -> shifts the budget line outward/rightward + slope remain the same 2. dec monthly income (Y) -> dec real income (Y/PC) -> shifts the budget line inward/leftward + slope remain the same

Answer 21

- preference map: not preferred, indifference curve, preferred where the area underneath the curve is not preferred, the slope of the curve always starts from the top slide down, areas on top/ inside of the curve is preferred. X axis is Q of good B, Y axis Q of good A - points on the higher indifference curve are more preferred than points on the lower indifference curve

Answer 22

- A curve that shows combinations of goods among which a consumer is indifferent -> same level of happiness regardless the different combinations of goods she get as long as all of these points are on the same curve. - looking at the shape of the indifference curve, we can tell a person's preference

Answer 23

- A series of indifference curves that resemble the contour lines on the map. Looking at the contour lines , we can draw conclusion about the terrain

Answer 24

- Marginal rate of substitution: the rate at which a person will give up good on the y axis (I mention it as good A) to get an additional Q of good on the x axis ( good B) while remaining indifferent/ on the same indifference curve - Marginal rate of substitution = magnitude of the slope of an indifference curve - Trend: 1. indifference curve is steep -> MRS is high 2. indifference curve is flat -> MRS is low - calculation MRS = points where the line of MRS intersects with the indifference curve IMPORTANT = MRS = y int line of MRS/ x int line of MRS

Answer 25

- A general tendency for a person to be willing to give up less good of y (good A) to get more unit of good x (good B), while remaining indifferent as Q of good on x axis inc - Trend: inc Q of good B -> Dec in the willingness/ Q of good A that a person is willing to give up for an additional Q of good B - Shape of indifference curve represents this concept because it's bowed toward the origin. Tightness of the curve shows the person's willingness to give up while remaining indifferent

Answer 26

- to consume less of one good and still remains indifferent, one must consume more of another good - different degrees: +) Close sub 1. (ie: 2 pens with different brand name, but one is cheaper - easy for customers to forego and opt for cheaper alternative) 2. when 2 goods are perfect sub -> slope of indifference curve is a vertical line 3. marginal rate of sub is constant +) complements (ie: left and right running shoes) 1. indifference curves of perfect complements are L shaped 2. you do not receive any more benefit if you have 2 left shoes 1 right shoes in comparison to 1 left and 1 right - trends: 1. the closer the 2 goods are to perfect sub -> the closer the marginal rate of sub to be constant ( a straight not a curve one like, constant instead of diminishing)

Answer 27

- spend all the income + on the highest attainable indifference curve - point on this curve: best affordable point - is on the budget line. At this point, MRS (magnitude of the slope of the indifference curve = relative P (slope of budget line) => one's willingness to pay for a good = opportunity cost of that same good - every point on the budget line lies on an indifference

Answer 28

- P effect: effects of P change on the Q of good being consumed while other things remaining the same - Effects on the best affordable point +) P inc -> QD dec -> budget line rotates inward and becomes steeper +) P dec -> QD inc -> budget line rotates outward and becomes flatter +) consume less of good A as P of good B is cheaper and consume more quantity of good B and vice versa if the opposite situation happens instead (while income (Y) and price of good A remain constant)

Answer 29

law of demand and the downward slope of DC are the consequences of consumer's choosing their best affordable combinations of good

Answer 30

- Define: effect of income change on the buying plan while other things remaining the same. - Trend: income (Y) dec -> dec QD of both goods (normal goods) - Effects: +) shift the budget line inward/leftward +) change the best affordable point (dec in x and y coord) +) Dec D

Answer 31

Divide the P effect into 2 parts: - Substitution effect - income effect

Answer 32

- Define: the effect of P change on Q bought by the consumer when they remain indifferent between the original and new situation. - to work out the effect: +) when P of good dec, we must lower the consumer's income enough to keep them on the same indifference curve +) the move from the original best affordable point to the new one on the same indifference curve is the substitution effect +) dec in P of one good -> inc in QD as consumers demand more this good to sub for another good that's more expensive.

Answer 33

- calculation: +) inc the consumer's back to the original level Trend: inc income -> shift the budget line outward + slope of budget line remains the same as relative P and P for each good stays the same -> A jump of best affordable point from lower to higher indifference curve - for normal good, income effect reinforces the substitution effect - same direction -> downward slope of DC

Answer 34

- Define: A good for which D dec when income inc. - Trend: +) negative income effect: Dec in P doesn't inevitably lead to an inc in D +) sub effect of a dec in P -> inc in QD +) the negative income effect and sub effect work in opposite directions -> negative income effect offsets sub effect to a certain degree. Different degrees: 1. negative income effect = positive sub effect -> dec in P has no effect on QD -> vertical DC + perfectly inelastic D 2. negative income effect < positive sub effect -> dec in P inc QD -> downward slope DC (similar to normal good) + D maybe less elastic than normal good 3. negative income effect > positive sub effect -> dec in P dec QD -> upward slope DC (Does not happen in reality)

Answer 35

An institution that hires factors of prod and organizes those to produce and sell goods and services

Answer 36

- Goal: max profit - Different kinds of profit +) Accounting profit - calculation -> step 1: calculate cash surplus: revenue - expense (ie: raw material, utilities, wages, machinery, interest on bank loan) = cash surplus -> step 2: calculate profit: cash surplus - depreciation of asset (ie: buildings, machinery) = profit +) Economic accounting: -> purpose of measure a firm's profit for accountants: ensure that the firm pays the correct amount of income tax and to show the investors how their funds are being used -> purpose of measure a firm's profit for economists: enable them to predict the firm's decision (which aim to max profit)

Answer 37

total rev - total cost (opportunity cost of prod) = economic profit

Answer 38

- define opportunity cost of any action: the highest valued alternative forgone. - define opportunity cost of prod: the value of the best alternative use of the res that a firm uses in prod, which is the sum of the cost of using res: +) res bought in the market : why it is considered an opportunity cost? Ans: because the firm can buy different res to produce and sell other goods and services +) res owned by the firm -> derived from its own capital -> why it is considered an opportunity cost? Ans: it can sell its capital and borrow capital from other firms/companies -> also known as: implicit rental rate of capital (firm's opportunity cost of using its own capital) which has 2 components: 1. economic depreciation + IMPORTANT NOTE: this is different from normal depreciation, dec in firm's capital, which uses formulas that are unrelated to the change in market value of capital + define economic depreciation: dec in market value of a firm's capital over a given period. + economic depreciation = market P of the capital at the beginning of the period - market P of the capital at the end of the period 2. forgone interest: funds used to buy capital could have been used for other purposes, which could generate other profit for the firm +) res supplied by the firm's owner: a firm's owner might supply both entrepreneurship and labour: -> entrepreneurship: 1. factors of prod that organizes a firm and makes its decisions might be supplied by the firm's owner or a hired entrepreneur 2. Return of entrepreneurship: profit 3. profit that an entrepreneur earns on average: normal profit which = cost of entrepreneurship - owner's labour service: +) in addition to supplying entrepreneurship, the firm's owner may also supply labour but not take wage +) opportunity cost of owner's labour service is the wage income forgone by not taking the best alternative job

Answer 39

1. What to produce and in what Q? 2. How to produce? 3. How to organize and compensate its managers and workers? 4. How to market and price its products? 5. What to produce itself and buy from others?

Answer 40

- decision timeframes +) meaning: reflects the relationship of a firm's output decision and its costs +) 2 types: -> short run: 1. A timeframe in which Q of at least one factor of prod is fixed 2. Trend: for most firms: fixed factors: capital, land, entrepreneurship. variable factor: labour 3. Fixed factors of prod is also known as the firm's plant -> trend: in a short run, a firm's plant is fixed 4. to inc output in a short run: a firm must inc Q of a variable factor of prod -> often is labour (hire more workers in longer hours) 5. are easily reversed -> long run: 1. A timeframe in which Q of all factors of prod can be varied -> a period in which a firm can change its plant 2. to inc output in the long run: a firm can change its plant as well as Q of labour it hires 3. ie: install more or new machinery, reorganize management, hire more labour 4. not easily reversed. once a plant decision is made, the firm must live with it for some time -> past expenditure on a plant that has no resale value = sunk cost, which is irrelevant to the firm's current decision. The only cost that influence the firm's current decision are the short run cost of changing its labour input and the long run cost of changing its plant

Answer 41

- to inc output in the short run: a firm must inc QD of labour. We describe the relationship between output and QD of labour with 3 concepts +) total product +) marginal product +) average product => these are illustrated by product schedule or product curves: +) product schedule includes: -> labour (workers per day) -> total products (Q produced per day): 1. Define: max output that can be produced at a given Q of labour 2. Trend: inc in QD of labour -> inc in total product -> marginal product (Q produced per additional worker) - inc in total produce with an inc of one unit of labour while other things remaining the same -> average product (Q produced per worker) (total product/ QD of labour) +) product curves: -> define: graphs of the relationship between employment (Q of labour) and the 3 above concepts (total product, marginal product, average product) -> 3 kinds: 1. Total product curve + on the total product schedule where x axis is labour (workers/day) and y axis is output (QS/day) + points above the curve is unattainable + points below the curve is attainable but are inefficient + similar to prod possibility frontier + points above the curve are unattainable. + points below the curve are attainable but they are inefficient - use too much labour to produce a certain output + only points on the curve are attainable and efficient at the same time 2. Marginal product curve + x axis: labour (workers/day); y axis: marginal product (QS/ additional workers) + illustrated by graph bars + measured by height of the graph bar or slope of the total product C + shapes of total product and marginal products are similar across different firms and types of good because almost every prod process has 2 features: => inc marginal return initially ~ inc marginal return occurs when the marginal production of an additional worker > marginal product of the previous worker ~ arises from inc specialization and division of labour in the prod process ~ ie: at the beginning, all work must be done by one worker. After the 2nd worker is hired, 2 workers can worker together, each specialize different parts of the job -> inc output -> marginal return product of 2nd worker > 1st worker -> inc marginal return overall => diminishing marginal return eventually ~ most prod processes experience inc marginal return initially, all prod process will eventually reach a point of diminishing marginal return. - occurs when marginal product of an additional worker < previous worker - arises from the fact that more and more workers are using the same capital and working at the same space. As more and more workers are being added -> there is less and less for additional workers to do that is productive. ~ ie: third worker still inc the product marginal return but < 2nd worker -> after hiring 2nd and 3rd workers, all the gains from specialization and division of labour have been exhausted (ie: hire 3rd worker helps to produce more Q but the equipment is operated closer to its limit until there is not any work for workers to do ~ law: as a firm uses more of a variable factor of prod with a given Q of the fixed factor of prod, the marginal product of the variable factor eventually diminishes 3. Average product curve ~the illustration reflects the relationship between the marginal and average product curve ~Average product increases from 1 to 2 workers (its maximum value at point C) but then decreases as yet more workers are employed. ~ With 1 worker, marginal product exceeds average product, so average product is increasing. With 2 workers, marginal product equals average product, so average product is at its maximum. With more than 2 workers, marginal product is less than average product, so average product is decreasing. ~ average product is largest when average product = marginal product are equal -> marginal product C cuts the average product C at the point of max average product. ~ For the number of workers at which marginal product > average product, average product is inc ~ For the number of workers at which marginal product is < average product, average product is dec

Answer 42

- to produce more output in the short run, a firm must inc QD of labour -> inc cost. relationship between output and cost are described through 3 concepts: +) a firm's total cost (TC): -> define: cost of total factors of prod the firm uses -> divided into 2: 1. total fixed cost (TFC) + define: cost of the firm's fixed factor + ie: cost of renting machinery, normal profit - opportunity cost of entrepreneurship +Q fixed factors don't change as output changes -> total of fixed costs stay constant for all outputs 2. total variable cost (TVC) + define: cost of the firm's variable factor + ie: labour - wage + total variable cost changes as output changes => total cost = total fixed cost + total variable cost (TC = TFC +TVC) +) marginal cost -> define: inc in total cost that results from a 1 unit inc in output -> calculation: marginal cost = inc in total cost/ inc in output -> Marginal cost C s U-shaped because when the firm hires a 2nd worker, marginal cost dec but when it hires a 3rd, a 4th, and a 5th worker, marginal cost successively inc -> At small outputs, marginal cost dec as output inc because of greater specialization and the division of labour. But as output inc further, marginal cost eventually inc because of the law of diminishing returns (output produced by each additional worker is successively smaller) -> To produce an additional unit of output, ever more workers are required, and the cost of producing the additional unit of output—marginal cost—must eventually inc. -> Marginal cost tells us how total cost changes as output inc -> The final cost concept tells us what it costs, on average, to produce a unit of output. +) average cost - 3 kinds: -> average fixed cost (AFC): total fixed cost per unit of output -> average variable cost (AVC): total variable cost per unit of output -> average total cost (ATC): total cost per unit of output => the average cost concepts are calculated from the total cost concepts: 1. Step 1: TC = TFC + TVC 2. Step 2: TC/Q = TFC/Q + TVC/Q OR ATC = AFC + AVC => AFC curve slopes downward. As output inc -> the same constant total fixed cost is spread over a larger output. => ATC and AVC curves are U-shaped. The vertical distance between ATC and AVC curves is = AFC. That distance dec as output inc because AFC dec with inc output. +) marginal cost and average cost: -> marginal cost curve intersects the AVC curve and the ATC curve at their min points. -> marginal cost < average cost, average cost is dec -> marginal cost > average cost, average cost is inc => This relationship holds for both the ATC curve and the AVC curve.

Answer 43

- ATC = AFC + AVC -> shape of ATC curve combines the shape of AFC and AVC curves - cause of ATC curve's U shaped arise from the influencing of 2 opposing forces: +) spreading TFC over a larger output: firm inc its output, its TFC is spread over a larger output -> average FC dec -> AFC curve slopes downward +) Eventually diminishing returns: -> output inc -> ever-larger amounts of labour are needed to produce an additional unit of output -> AVC dec initially but eventually inc -> AVC curve slopes upward and is U-shaped. -> shape of the ATC curve combines both spreading TFC over a larger input and eventually diminishing return effects. 1. Initially, as output inc, both AFC and AVC dec -> ATC dec -> ATC curve slopes downward. 2. But as output inc further and diminishing returns set in, AVC starts to inc. 3. With AFC dec more quickly than AVC is inc -> ATC curve continues to slope downward. 4. Eventually, AVC starts to inc more quickly than AFC dec -> ATC starts to inc-> ATC curve slopes upward.

Answer 44

- there are links between the firm's total product curve, TP, and its total variable cost curve, TVC. - The graph: +) illustrates 2 variables on the x-axis—labour and variable cost. +) graph of TVC curve but with variable cost on the x-axis and output on the y-axis. +) can show labour and cost on the x-axis because variable cost is proportional to labour. One worker costs $25 a day. Graphing output against labour gives the TP curve, and graphing variable cost against output gives the TVC curve.

Answer 45

- A firm's cost curves come directly from its product curves - included: +) total product cost +) total variable cost

Answer 46

Shifts in short run's cost curve depend on: - tech +) trend: better tech -> inc productivity --> marginal product and average product of labour +) better tech + same factors of prod -> inc output -> dec in cost of prod + shifts the product curve upward + shifts the cost curve downward. but the relationship between product and cost C remains unchanged +) attempt to advance tech may result in the firm's inc use of capital (fixed factor) and dec use of labour (variable factor) -> dec total cost but inc fixed cost and dec variable cost. the change in mix of FC and VC means at small output, ATC might inc, whereas at large output, ATC might dec - P of factors of prod: inc P of factors of prod -> inc firm's cost + shifts its cost curve. How the cost curve shifts depend on which factor P changes: +) inc in rent or other FC shifts the TFC, AFC, TC curves upward + leaves the AVC, TVC, MC curve unchanged. Ie: inc interest expense of a trucking company-> inc FC of transportation services +) inc wage, gasoline or other VC shifts TVC, AVC, MC curves upward + leaves AFC and TFC curves unchanged. Ie: inc truck driver's wage or P of gasoline -> inc variable and marginal cost of transportation service

Answer 47

- Define long run cost: In the long run, a firm can vary both Q of labour and capital -> in the long run, all the firm's costs are variable. - production function is included in long run cost: +) prod function table lists total product schedules for labour (workers/day) with different Q of capital (output - Q/day). +) Q of capital identifies the plant size. The numbers for plant 1 are for a factory with 1 knitting machine. The other three plants have 2, 3, and 4 machines. If the firm uses plant 2 with 2 knitting machines, the various amounts of labour can produce the outputs shown in the second column of the table. The other two columns show the outputs of yet larger quantities of capital. Each column of the table could be graphed as a total product curve for each plant. - Diminishing return: +) occur with each of the 4 plant sizes as the Q of labour inc. +) calculation: -> calculate the marginal product of labour in each of the plants with 2, 3, and 4 machines. With each plant size, as the firm inc the QD of labour, the marginal product of labour (eventually) diminishes. +) also occur with each Q of labour as the Q of capital inc. calculation: calculate the marginal product of capital at a given Q of labour. +) marginal product of capital = change in total product/ change in capital when the Q of labour is constant—equivalently, the change in output resulting from a one-unit inc in Q of capital. Ie: if the firm has 3 workers and inc its capital from 1 machine to 2 machines, output inc from 13 to 18 sweaters a day. The marginal product of the 2nd machine is 5 sweaters a day. If the firm continues to employ 3 workers and inc the number of machines from 2 to 3, output inc from 18 to 22 sweaters a day. The marginal product of the 3rd machine is 4 sweaters a day, down from 5 sweaters a day for the 2nd machine.

Answer 48

- Plant size has a big effect on the firm's ATC - Each short-run ATC curve is U-shaped. - For each short-run ATC curve, the larger the plant, the greater is the output at which ATC is at a min. - Each short-run ATC curve is U-shaped because, as the Q of labour inc -> its marginal product initially inc and then diminishes. This pattern in the marginal product of labour occurs at all plant sizes. - The min ATC for a larger plant occurs at a greater output than it does for a smaller plant because the larger plant has a higher TFC and therefore, for any given output, a higher average FC. - Which short-run ATC curve a firm operates on depends on the plant it has. +) In the long run, the firm can choose its plant and the plant it chooses is the one that enables it to produce its planned output at the lowest average total cost. +) To see why, suppose that the firm plans to produce 13 sweaters a day. With 1 machine, the ATC curve is ATC1 and the average total cost of 13 sweaters a day is $7.69 a sweater. With 2 machines, on , ATC is $6.80 a sweater. With 3 machines, on , ATC is $7.69 a sweater, the same as with 1 machine. Finally, with 4 machines, on , ATC is $9.50 a sweater.The economically efficient plant for producing a given output is the one that has the lowest ATC. For this firm in this example, the economically efficient plant to use to produce 13 sweaters a day is the one with 2 machines.In the long run, Cindy chooses the plant that minimizes ATC. When a firm is producing a given output at the least possible cost, it is operating on its long-run average cost curve which is the relationship between the lowest attainable average total cost and output when the firm can change both the plant it uses and the quantity of labour it employs and it also known as a planning curve that tells the firm the plant and Q of labour to use at each output to minimize average cost. Once the firm chooses a plant, the firm operates on the short-run cost curves that apply to that plant.

Answer 49

it is not possible to make someone better off without making someone else worse off

Answer 50

SC shifts leftward

Answer 51

reduced current consumption

Answer 52

inc/dec/ remains the same depending in the relative shifts of DC and SC

Answer 53

A and B are complements in production

Answer 54

1. the real flows of goods and services and the income flows of wages, rent, interest, and profit 2. the real flows of labour, land, capital, and entrepreneurship and the flow of expenditure on goods and services

Answer 55

there is not enough info to answer this question

Answer 56

a horizontal line is derived from a PPF that has a constant slope

Answer 57

Factor of production: - land used by a farmer to grow wheat - water used for a nuclear power plant - effort of farmers raising cattle - management skill of a small business owner

Answer 58

- Land/natural res - Labour: +) mental and physical effort of workers +) quality of labour depends on human capital (workers' knowledge and skills obtained through education, training, past experience) - Capital +) normally: tools, instruments, machinery, buildings, constructions +) financial capital: money, stocks, bonds -> not used to produce goods and services, hence, NOT a factor of prod - Entrepreneurship

Answer 59

- land earns rent - labour earns wages - capital earns interest - entrepreneurship earns profit

Answer 60

Labour!, which is 70% of total income. the rest of 30% are land, capital, entrepreneurship

Answer 61

- Define choice: A tradeoff ( an exchange—giving up one thing to get something else. - People make rational choices by comparing benefits and costs (one that compares costs and benefits and achieves the greatest benefit over cost for the person making the choice) - Define benefit: what you gain from something and is determined by your preference OR the most that a person is willing to give up to get something - Define cost/ opportunity cost: what you must give up to get something OR the highest-valued alternative that must be given up to get it. - Most choices are “how much” choices made at the margin. +) marginal benefit: benefit you receive when you increase an activity +) marginal cost: opportunity cost you incur when you increase an activity => decision making: compare marginal benefit and cost - Choices respond to incentives. +) everyone makes choices based on upon self-interest +) econ key idea: predict people's self interest +) purpose of incentive: attempt to reconcile self-interest and social interest. +) goal: figure out the incentives that result in self-interested choices being in the social interest.

Answer 62

- Characteristics: +) it's about what is. +) what is currently believed about the way the world operates. +) might be right or wrong, but testable against the facts. +) ie: “Our planet is warming because of the amount of coal that we’re burning” is a positive statement. +) goal: test positive statements about how the economic world works and to weed out those that are wrong.

Answer 63

- characteristics: +) about what should be. +) depends on values +) not testable +) ie: Policy goals: “We should cut our use of coal by 50 percent” +) may agree or disagree with it, but you can’t test it. It doesn’t assert a fact that can be checked.

Answer 64

- Variables move in the same direction. +) positive OR direct relationship +) upward slope - Variables move in opposite directions. +) negative OR inverse relationship +) downward slope - Variables have a max OR a min. +) a relationship that begins sloping downward, falls to a min, and then slopes upward. +) reflects most economic costs +) ie: relationship between the cost per kilometre and the speed of the car. At low speeds, the car is creeping in a traffic snarl-up. The number of kilometres per litre is low, so the gasoline cost per kilometre is high. At high speeds, the car is travelling faster than its efficient speed, using a large quantity of gasoline, and again the number of kilometres per litre is low and the gasoline cost per kilometre is high. At a speed of 100 kilometres an hour, the gasoline cost per kilometre is at its min - Variables are unrelated. +) horizontal OR vertical slope

Answer 65

- m is not constant - Calculation +) 1st way: calculate the m at a point -> draw tangent line -> find POI of 2 lines -> find m of tangent line +) 2nd way: calculate m across an arc of the curve. -> choose 2 points

Answer 66

other (relevant) things remaining the same

Answer 67

- Define: the boundary between those combinations of goods and services that can be produced and those that cannot. - In the model economy in which QS of only 2 goods change, while the QS of all the other goods and services remain the same. - Illustrates scarcity because the points outside the frontier are unattainable - wants that can't be satisfied. Any point inside the PPF or on the PPF can be produced and are attainable.

Answer 68

- occurs if we produce goods and services at the lowest possible cost. - occurs at all the points on the PPF. - At points inside the PPF, production is inefficient because we are giving up more than necessary of one good to produce a given quantity of the other good (res are either unused or misallocated or both) +) Res are unused: -> when they are idle but could be working -> ie: leave some of the factories idle or some workers unemployed. +) Res are misallocated -> when they are assigned to tasks for which they are not the best match. -> ie: assign skilled pizza chefs to work in a cola factory and skilled cola workers to cook pizza in a pizzeria.

Answer 69

- Calculation: dec in QS good A/ inc in QS good B - = produce additional unit of good A = the inverse of the opportunity cost of producing an additional unit of good B - trend: inc opportunity cost -> QS inc

Answer 70

goods and services are produced at the lowest possible cost and in the quantities that provide the greatest possible benefit

Answer 71

- Define: benefit received from consuming one more unit of it. - is subjective as it depends on people's preferences (likes and dislikes and the intensity of those feelings)

Answer 72

- shows the relationship between the marginal benefit of a good and the quantity consumed of that good -unrelated to the PPF and cannot be derived from it. - = the most that people are willing to pay for an additional unit of it. - principle of dec marginal benefit: the smaller is its marginal benefit and the less we are willing to pay for an additional unit of it.

Answer 73

a person who has comparative advantage in an activity if that person can perform the activity at a lower opportunity cost than anyone else.

Answer 74

Although no one excels at everything, some people excel and can outperform others in a large number of activities—perhaps even in all activities. A person who is more productive than others has an absolute advantage

Answer 75

Absolute advantage involves comparing productivities—production per hour—whereas comparative advantage involves comparing opportunity costs.

Answer 76

- define: the expansion of production possibilities - doesn't overcome scarcity and avoid opportunity cost. - cost of economic growth/ trade off : inc production growth -> inc opportunity cost of economic growth.

Answer 77

- tech change: +) define: develop of new goods and better ways to produce - capital accumulation +) growth of capital res including human capital =>if we use our resources to develop new technologies and produce capital, we must decrease our production of consumption goods and services. - Amount prod possibilities expand depends on the res we devote to technological change and capital accumulation -> opportunity cost + economic growth doesn't abolish scarcity -> invest more res to production of one good -> leaves fewer resources to produce another good. -> producing more good A in the future -> fewer good A today. Also, on the new PPF, we still face a tradeoff and opportunity cost.

Answer 78

1. firms - Define: an economic unit that hires factors of production and organizes them to produce and sell goods and services. - Job: coordinate a huge amount of economic activity. 2. markets - Define: any arrangement that enables buyers and sellers to get information and to do business with each other. - ie: world oil market, which is not a place but a network of producers, consumers, wholesalers, and brokers who buy and sell oil. In the world oil market, decision makers make deals by using the Internet. Enterprising individuals and firms, each pursuing their own self-interest, have profited by making markets—by standing ready to buy or sell items in which they specialize. - can only work if property rights exist 3. Property rights - Define: social arrangements that govern the ownership, use, and disposal of anything that people value - Real property: land and buildings and durable goods (ie: plant and equipment) - Financial property: stocks and bonds and money in the bank. - Intellectual property: the intangible product of creative effort (ie: books, music, computer programs, and inventions of all kinds and is protected by copyrights and patents. - Where property rights are enforced, people have the incentive to specialize and produce the goods and services in which they have a comparative advantage. Where people can steal the production of others, resources are devoted not to production but to protecting possessions. 4. Money - Define: any commodity or token that is generally acceptable as a means of payment. Liz and Joe don't need money. They can exchange salads and smoothies. In principle, trade in markets can exchange any item for any other item. But you can perhaps imagine how complicated life would be if we exchanged goods for other goods. The “invention” of money makes trading in markets much more efficient.

Answer 79

- Households specialize and choose the Q of labour, land, capital, and entrepreneurial services to sell or rent to firms and firms choose Q of factors of prod to hire, which go through factor markets - Households choose QD and firms choose QS, which go through the goods markets. - Households receive incomes and make expenditures on goods and services.

Answer 80

- a market that has many buyers and many sellers, so no single buyer or seller can influence the price. - Producers offer items for sale only if the price is high enough to cover their opportunity cost. - consumers respond to changing opportunity cost by seeking cheaper alternatives to expensive items.

Answer 81

- P of one good/ P of another good - = opportunity cost

Answer 82

1. Want it 2. Can afford it 3. Plan to buy it - law of D: other things remaining the same, inc P -> dec QD and vice versa - what contribute to law of D? +) substitution effect other things remaining the same, inc P of a good -> inc relative P/ opportunity cost => works as incentive for consumers to switch to good B 0- sub of good A as it's cheaper +) income effect -> Other things remaining the same, inc P -> inc P relative to income. -> with a higher P and an unchanged income, people can no longer afford to buy -> dec QD (it can be any good/services but especially the one that has its P inc

Answer 83

- P of related goods +) substitute: -> define: a good that can be used in place of another good. -> trend: P of a substitute -> dec QD of sub and more energy bars. +) complement -> define a good that is used in conjunction with another good. -> trend: dec P of a complement -> inc QD of both - Expected future P +) trend: 1. inc expected future P and if the good can be stored -> opportunity cost of obtaining the good for future use is lower today than it will be in the future when people expect the price to be higher -> people buy more of the good now before its price is expected to rise (and less afterward) -> QD of today inc. 2. dec expected future P -> opportunity cost of buying the good today is high relative to what it is expected to be in the future -> people buy less of the good now before its P is expected to fall -> dec today's QD and inc in the future - Income +) Trend: -> inc income -> inc QD -> dec income -> dec QD => but this trend only works for normal good not inferior good +) normal good: one for which demand inc as income inc +) inferior good: one for which demand dec as income inc. - Expected future income and credit +) Trend: -> expected future income inc OR credit becomes easier to get -> inc QD - Population +) size and the age structure of the population. +) trend: -> inc population -> inc D and vice versa - Preferences +) depend on ie: weather, information, and fashion.

Answer 84

if a firm supplies goods/services, the firm: 1. Has the res and tech to produce it 2. Can profit from producing it 3. Plans to produce and sell it Trend: inc P -> inc QS

Answer 85

1. Res 2. Tech

Answer 86

- define: a curve that shows the lowest price at which someone is willing to sell. - = marginal cost. - trend: +) small QS -> low min S P +) inc QS -> inc the marginal cost of each additional unit -> inc min S P on SC

Answer 87

- P of factors of prod +) inc P of factors of P -> dec S +) dec P -> inc S - P related goods produced +) inc P of sub in prod -> dec S +) dec P of sub in prod -> inc S +) dec P of complement in prod -> dec S +) inc P of complement in prod -> inc S - Expected future P +) inc P -> dec S +) dec P -> inc S - # suppliers +) dec # -> dec S +) inc # -> inc S - Tech +) worse tech that dec output -> dec S +) better tech that inc output -> inc S - The state of nature +) worse state of nature that dec output -> dec S +) better state of nature that inc output -> inc S

Answer 88

- P regulates buying and selling plans +) P regulates QD and QS +) P is too high -> QS > QD +) P is too low -> QS < QD +) P*: P equilibrium (QS=QD) - P adjusts when plans don't match +) QD> QS -> shortage -> inc P to dec QD + inc QS +) QS > QD -> surplus -> dec P to inc QD + dec QS

Answer 89

because they value the good more highly than its current price and they can't satisfy their demand at the current price. In some markets—for example, the markets that operate on eBay—the buyers might even be the ones who force the price up by offering to pay a higher price.

Answer 90

because their minimum supply price is below the current price and they cannot sell all they would like to at the current price. Sellers willingly lower the price to gain market share.

Answer 91

At P* (QD =QS), neither buyers nor sellers can do business at a better price. Buyers pay the highest P they are willing to pay for the last unit bought, and sellers receive the lowest P at which they are willing to supply the last unit sold.

Answer 92

4 cases: - D and S change in the same direction - D and S change in the opposite direction

Answer 93

- D inc -> inc P + inc QS - D dec -> dec P + dec QS - S inc -> dec P + inc QD - S dec -> inc P + dec QD - D inc + S inc-> inc Q + uncertain P change. - D inc + S dec -> inc P + uncertain Q change

Answer 94

- Ans: depends on the responsiveness of QD to P change in terms of slope of DC - Trend: +) QD is not very responsive to P change -> P* inc alot + Q* barely changes +) QD is very responsive to PC -> P* barely inc + Q* changes a lot. +) DC is steep -> QD isn’t very responsive to PC +) DC is flat -> QD is very responsive to P change . - Define PE of D: a units-free measure of the responsiveness of QD to P change when all other factors remaining the same

Answer 95

PE of D = [(New QD - Old QD)/ QD average ((new + old QD)/2)] / [New P - old P)/ P average ((new + old P)/2) remember to take magnitude/absolute value

Answer 96

- The closeness of substitutes +) the closer the substitutes for a good -> the more elastic is the D for it. +) ie: oil has no close substitutes (imagine a coal-fired car) -> inelastic D +) ie: plastics and metal are close subs-> elastic D +) A necessity has poor sub -> generally has an inelastic D +) A luxury usually has many subs-> generally has an elastic D - The proportion of income spent on the good +) Other things remaining the same, inc proportion of income spent on a good -> the more elastic (or less inelastic) is the demand for it. +) ie: P of coffee accounts only small chunk of income -> inelastic D than housing - The time elapsed since P change +) inc time that has elapsed since a price change -> the more elastic is D. +) ie: gasoline

Answer 97

P of good x Q sold

Answer 98

- elastic D -> 1% P cut inc Q sold by > 1% + inc total rev - inelastic D -> 1% P cut inc Q sold by < 1% + total rev dec - unit elastic D -> 1% P cut inc Q sold by 1% + leave total rev unchanged

Answer 99

- Define: a measure of the responsiveness of D to income change while other things remaining the same. - tells how much DC shifts at a given P.

Answer 100

- Positive and > 1 (normal good, income elastic) - Positive and < 1 (normal good, income inelastic) - Negative (inferior good)

Answer 101

[(new - old QD)/ QD average which is (new +old QD)/2] / [(new - old income)/ income average which is (new + old income)/2]

Answer 102

- Define cross E of D: a measure of the responsiveness of D to P change of a sub or complement, other things remaining the same. - Calculation: [(new -old QD)/QD average which is (new+ old QD)/2] / [(new - old P of a sub OR complement)/ P average which is ( new + old P)/2 - Trend: can be positive or negative. +) cross E of D is positive -> D and P of the other good change in the same direction, so the two goods are substitutes. +) cross E of D is negative -> D and P of the other good change in opposite directions, so the two goods are complements.

Answer 103

- Ans: depends on the responsiveness of QS to P change - Trend of E of S +) QS is not very responsive to P, an inc in D brings a large inc in P and a small inc in Q* +) QS is highly responsive to P, an inc in D brings a small inc in P and a large inc in Q* - calculation [(new - old QS)/ QS average which is (new+ old QS)/2] / [new - old P)/ P average which is (new+old P)/2]

Answer 104

- Resource substitution possibilities +) Some goods and services can be produced only by using unique or rare productive resources -> these items have a low or a zero E of S +) Other goods and services can be produced by using commonly available resources that could be allocated to a wide variety of alternative tasks -> high E of S - Time frame for the supply decision (influence of the amount of time elapsed since a P change) +) momentary S -> When P changes, the immediate response of the quantity supplied is determined by this -> Some goods (ie: fruits and vegetables) have a perfectly inelastic momentary S—a vertical SC. -> QS depend on crop-planting decisions made earlier (planting decisions are years in advance) -> is perfectly inelastic because regardless of P, producers cannot change their output. They have picked, packed, and shipped their crop to market -> fixed Q for the day -> is perfectly elastic as QS inc but P remains constant. Ie: Long-distance carriers monitor fluctuations in demand and reroute calls to ensure QD = QS without P change. +) short run S -> the response of QS to P change when only some of the possible adjustments to production can be made is determined by short-run this -> Most goods have an inelastic SRS. -> To inc output in the short run, firms must work their labour force overtime and hire additional workers. -> To dec output in the short run, firms either lay off workers or reduce their hours of work. => With the passage of time, firms can make more adjustments (ie: training additional workers or buying additional tools and other equipment) => ie: an orange grower can hire/ train more pickers/ buying res to speed up/ slow down process but can’t change # of trees producing oranges in the short run. +) long run S -> The response of QS to P change after all the technologically possible ways of adjusting S have been exploited is determined by long-run supply. -> For most goods and services -> elastic or perfectly elastic LRS -> ie: For the orange grower, the long run is the time it takes new tree plantings to grow to full maturity (15 years) In some cases, the long-run adjustment occurs only after a completely new production plant has been built and workers have been trained to operate it—typically a process that might take several years.

Answer 105

- Perfectly elastic: +) magnitude: infinity +) meaning: The smallest possible inc in P -> an infinitely large dec in QD - Elastic: +) mag: < infinity but > 1 +) meaning: % dec in QD > % inc in P - Unit elastic +) mag: 1 +) meaning: % dec in QD = % inc in P - Inelastic +) Mag: < 1 but > 0 +) meaning: % dec in QD < % inc in P - Perfectly inelastic +) Mag: 0 +) meaning: QD stays the same at all P

Answer 106

- Income elastic (normal good) +) Value: > 1 +) Meaning: % inc in QD > % inc in income - Income inelastic (normal good) +) Value: < 1 but > 0 +) Meaning: % inc in QD is > 0 but < % inc in income - Negative (inferior good) +) value: < 0 +) meaning: Income inc -> QD dec

Answer 107

- Close substitutes +) Value: Large +) Meaning: the smallest possible inc in P -> an infinitely large inc in QD of the other good - Substitutes +) Value: Positive +) Meaning: If P inc -> QD of the other good also incr - Unrelated goods +) Value: 0 +) Meaning: If P inc -> QD of the other good remains the same - Complements +) Value: Negative +) Meaning: If P inc-> QD of the other good dec

Answer 108

- Perfectly elastic +) Mag: Infinity +) Meaning: The smallest possible inc in P -> an infinitely large inc in QS - Elastic +) Mag: < infinity but > 1 +) Meaning: % inc in QS > % inc in P - Unit elastic +) Mag: 1 +) Meaning: % inc in QS = % inc in P - Inelastic +) > 0 but < 1 +) Meaning: % inc in QS < % inc in P - Perfectly inelastic +) Mag: 0 +) Meaning: QS is the same at all P

Answer 109

- Market P +) people who are willing and able to pay that P get the res. +) Two kinds of people decide not to pay the market P: -> who can afford to pay but choose not to buy -> who are too poor and can't afford to buy. => But for a few items, it's important to distinguish these 2 kinds of customers. Ie: poor people can't afford to pay school fees and dentist's fees. Because poor people can't afford items that most people consider to be essential, these items are usually allocated by one of the other methods - Command +) define command system: allocates res by the order (command) of someone in authority. +) advantage: works well in organizations in which the lines of authority and responsibility are clear and it is easy to monitor the activities being performed. +) disadvantage: works badly when the range of activities to be monitored is large and when it is easy for people to fool those in authority. - Majority rule +) res go to the majority +) advantage: works well when the decisions being made affect large # people +) disadvantage: self-interest must be suppressed to use resources most effectively. - Contest +) res go to a winner(s) +) advantage: does a good job when the efforts of the “players” are hard to monitor and reward directly. Ie: a manager offers everyone in the company the opportunity to win a big prize, people are motivated to work hard and try to become the winner. Only a few people end up with a big prize, but many people work harder in the process of trying to win. The total output produced by the workers is much greater than it would be without the contest. - 1st-come, 1st-served +) res go to those who are 1st in line. +) ie: casual restaurants won't accept reservations. +) ie: Highway space: the 1st to arrive at the on-ramp gets the road space. +) advantage: works best when a scarce resource can serve just one user at a time in a sequence. By serving the user who arrives first, it min the time spent waiting for the res to become free. - Lottery +) res go to those who pick the winning number, draw the lucky cards, or come up lucky on some other gaming system. +) advantage: work best when there is no effective way to distinguish among potential users of a res. - Personal characteristics +) res go to people with the “right” characteristics +) advantage: people get res that matter most to them +) disadvantage: discrimination, racism - Force +) positive use: -> provides the state with an effective method of transferring wealth from the rich to the poor, -> provides the legal framework in which voluntary exchange in markets takes place. +) negative use: -> use of military force by one nation against another -> Theft/ large and small scale organized crime

Answer 110

- define: excess of the benefit received from a good over the amount paid for it. - calculation: marginal benefit (or value) of a good- its P, summed over Q bought (sum of all units of QD) - All goods and services have decreasing marginal benefit -> people receive more benefit of their consumption than the amount they pay

Answer 111

- Cost: what a firm gives up when it produces a good or service, - P: what a firm receives when it sells the good or services. - Cost of producing one more unit of a good or service= the firm's marginal cost OR the min P that producers must receive to induce them to offer one more unit of a good or service for sale. - Min S P determines S. - SC= marginal cost curve.

Answer 112

individual SC = individual marginal cost curve market supply curve = marginal social cost (MSC) curve.

Answer 113

individual DC = individual marginal benefit curve market DC = marginal social benefit (MSB) curve

Answer 114

- define: excess of the amount received from the sale of a good or service over the cost of producing it. - calculation: P received - marginal cost OR min S P, summed over the quantity sold (excess rev for each Q being sold)

Answer 115

- QD = QS -> POI of DC and SC -> MSB on DC = MSC on SC -> allocative efficiency

Answer 116

total surplus = consumer surplus + producer surplus At efficient Q being produced, total surplus is max-> buyers and sellers whose acts are self interests end up as social interest

Answer 117

- define: inefficient market - 2 kinds: +) underprod +) overprod => both makes total surplus < its max possible value -> DWL -> social loss

Answer 118

- define: a principle that states that we should strive to achieve “the greatest happiness for the greatest number.” - Reasons: +) everyone has the same basic wants and a similar capacity to enjoy life. +) inc income -> dec marginal benefit of a dollar. The millionth dollar spent by a rich person brings a smaller marginal benefit to that person than the marginal benefit that the thousandth dollar spent brings to a poorer person. So by transferring a dollar from the millionaire to the poorer person, more is gained than is lost. The two people added together are better off.

Answer 119

- P and Q regulations +) P regulation/ P cap/ P floor: blocks the P adjustments that balance QD and QS -> underprod. +) Q regulation: limits the amount that a farm or a firm is permitted to produce -> underprod. - Taxes and subsidies +) Taxes inc P paid by buyers + dec P received by sellers -> underprod +) Subsidies: -> define: payments by the gov to producers -> dec P paid by buyers+ inc P received by sellers -> overprod. - Externalities +) define: a cost or a benefit that affects someone other than the seller or the buyer -> external cost -> overprod -> external benefit -> underprod - Public goods and common res +) public good: -> define: a good or service from which everyone benefits and no one can be excluded -> ie: National defence is an example. A competitive market would underproduce national defence because everyone would try to free ride on everyone else. +) Common res -> is owned by no one but is available to be used by everyone. -> ie: Atlantic salmon -> concern: It is in everyone's self-interest to ignore the costs they impose on others when they decide how much of a common resource to use: It is overused. - Monopoly +) define: a firm that is the sole provider of a good or service. +) ie: local water supply and Internet search and computer operating systems are supplied by firms that are monopolies (or near monopolies). +) its self interest: max profit, and because it has no competitors, a monopoly produces too little and charges too high a P -> underprod. - High transactions costs +) high transactions costs -> underprod

Answer 120

- ignores the costs of making income transfers. Recognizing the costs of making income transfers leads to what is called the big tradeoff - a tradeoff between efficiency and fairness. - The big tradeoff is based on: +) Income can be transferred from people with high incomes to people with low incomes only by taxing the high incomes: 1. Taxing people's income from employment makes them work less -> Q labour < efficient Q. 2. Taxing people's income from capital makes them save less -> Q of capital < efficient Q. => smaller Q of both labour and capital -> QS of goods and services < efficient Q -> economic pie dec +) The tradeoff is between the size of the economic pie and the degree of equality with which it is shared. inc amount of income redistribution through income taxes -> inc inefficiency -> dec economic pie. - A dollar taken from a rich person does not end up as a dollar in the hands of a poorer person. Some of the dollar is spent on administration of the tax and transfer system, such as tax-collecting agency, Canada Revenue Agency (CRA), and the welfare-administering agencies, such as Employment and Social Development Canada - Taxpayers hire accountants, auditors, and lawyers to help them ensure that they pay the correct amount of taxes, which use skilled labour and capital resources that could otherwise be used to produce goods and services that people value. - It is possible that with high taxes, people with low incomes might end up being worse off. Suppose, for example, that highly taxed entrepreneurs decide to work less hard and shut down some of their businesses. Low-income workers get fired and must seek other, perhaps even lower-paid, work.

Answer 121

- define: the requirement that people in similar situations be treated similarly. It is the moral principle that lies at the centre of all the big religions and that says, in some form or other, “Behave toward other people in the way you expect them to behave toward you.” - = equality of opportunity

Answer 122

1. The state must enforce laws that establish and protect private property. 2. Private property may be transferred from one person to another only by voluntary exchange.

Answer 123

1. There are infinitely/ sufficiently many buyers and sellers in the market. 2. Many firms sell identical products to many buyers -> consumers don't care which firm's good they buy 3. there is no barrier to the entity/ there are no restrictions on entry into the market 4. established firms have no advantage over new ones. 5. sellers and buyers are well informed about the price 6. all buyers and sellers cannot influence the market price: - they/ firms in perfect competition are a price taker - they make decision based on the market price - these conditions approximate perfect competition

Answer 124

- Economic profit = TR (total rev) - TC (total cost) - Total cost = opportunity cost of production which includes normal profit - TR = Price x Quantity - TC= ATC x Quantity - Marginal rev: +) the change in the total rev that results from a one unit inc in the Q sold +) Marginal rev = change in TR/ change in Q sold +) because the firm in perfect competition is a price taker, the change in total rev that results from a one unit inc in Q sold = market P -> in perfect competition, the firm's marginal rev = market P

Answer 125

- farming - fishing - wood pulping and paper milling - manufacture of paper cups and shopping bags - grocery and fresh flower retailing - lawn services - plumbing - painting - laundry services - take away meals

Answer 126

- occurs if the min efficient scale of a single producer is small relative to the market demand for the good or service -> creates room in the market for many firms - define a firm's min efficient scale: the smallest output at which long run average cost reaches its lowest level

Answer 127

- define: a firm that cannot influence the market price because its production is an insignificant part of the total market

Answer 128

- the firm in perfect competition can sell any Q it chooses at the market P -> DC is a horizontal line at the market price, the same as the firm's marginal rev curve -> a perfectly elastic demand. ie: a sweater from campus sweater is a perfect sub for a sweater from any other factory. but the market D for sweaters is not perfectly elastic. its elasticity depends on the substitutability of sweaters for other goods and services

Answer 129

1. how to produce at min cost ans: by operating with the plant that minimize long run average cost by being on its long run average cost curve 2. what Q to produce 3. whether to enter or exist a market

Answer 130

- As output inc, the firm's marginal rev is constant but its marginal cost eventually inc - if MR > MC, the rev from selling one more unit > cost of its production => an inc in output inc econ profit - if MR < MC, the rev from selling one more unit < cost of its production => a dec in output inc econ profit - if MR = MC, the rev from selling one more unit = cost of its production => econ profit is max and either an inc or dec in output dec econ profit

Answer 131

A firm max profit by producing Q at which MR (P) = MC. Suppose at this Q, P < average TC -> econ loss. Max profit is a loss (a min loss). What does the firm do? Ans : if the firm expects the loss to be permanent, it goes out of business. But if it expects the loss to be temporary, the firm must decide whether to shut down temporarily and produce no output, or to keep producing. To make this decision, the firm compares the loss from shutting down with the loss from producing and takes the action that min its loss. => loss comparison: - Econ loss = TFC + TVC - TR = TFC +(AVC x Q) - (P x Q) = TFC + (AVC - P) x Q +) if the firm shuts down, it produces no output (Q=0). The firm has no VC and no rev but its must pay its FC => its econ loss = TFC +) if the firm produces, then in addition to its FC, it incurs VC. But it also receives rev => its econ loss = TFC (the loss when shut down) + TVC -TR. 1. if TVC > TR => loss > TFC => firm shuts down. 2. if AVC > P => loss > TFC => firm shuts down

Answer 132

- define: P and Q at which it is indifferent between producing and shutting down - occurs at P and Q at which AVC is min - at this point, the firm is min its loss and its loss = TFC. - if P is below min AVC -> the firm shuts down temporarily and continues to incur a loss = TFC. - if P is above min AVC but below ATC-> the firm produces a loss minimizing output and incurs a loss. but a loss that is < than. TFC. Summary: - shutdown point = min AVC - P < min AVC -> firm shuts down and produces no output - P= min AVC -> firm is indifferent between shutting down and producing no output or producing the output at min AVC => either way, firm min its econ loss and incurs a loss=TFC

Answer 133

- a perfectly competitive firm's SC shows how its profit max output varies as the market P varies, other things remaining the same. SC is derived from the firm's MC curve and AVC curve. - When P > min AVC (more than y coordinate value of the intersection of 2 curves) , the firm max profit by producing output at which MC = P. if P inc., the firm inc its output - it moves up along its MC curve. - When P < min AVC (less than y coordinate value of the intersection of 2 curves), the firm max profit by temporarily shutting down and producing no output. the firm produces no output at all prices below min AVC. - When P = min AVC, the firm max profit either by temporarily shutting down and producing no output or by producing the output at which AVC is a min - the shutting down point. The firm never produces Q between 0 and Q at the shutting down point ( a Q > 0 and < than Q at intersection of 2 curves)

Answer 134

- define what is short run in this case: a situation in which the number of firms is fixed - short run market SC: shows the QS by all the firms in the market at each P when each firm's plant and the number of firms remain the same. - the market SC is derived from the individual SC. QS by the market at a given P is the sum of the QS by all the firms in the market at that P.

Answer 135

- market D and short run market S determine market P and output. Each firm takes the P at short run equilibrium and produces its profit max output - change in D => change in short run market equilibrium: +) if D inc -> DC shifts rightward -> inc market P -> at this P, each firm max profit by inc its output +) if D dec -> DC shifts leftward -> dec market P -> at this P, each firm max profit by dec its output +) if DC shifts shifts farther leftward than situation 2, market P remains the same because market SC is horizontal at that P. Some firms continue to produce the same output and others temporarily shut down. Firms are indifferent between these 2 activities, and which ever they choose, they incur an econ loss = TFC. number of firms continuing to produce is just enough to satisfy the market D at the P of min AVC.

Answer 136

- in short run equilibrium. although the firm produces the profit max output, it does not necessarily mean that they make an econ profit. it might do so, but it might alternatively break even or incur an econ loss. - Econ profit/ loss = (P- ATC) x Q - if P = ATC, a firm breaks even- the entrepreneur makes normal profit. - if P > ATC, a firm makes an econ profit - if P < ATC, a firm incurs an econ loss/

Answer 137

- P= ATC -> the firm breaks even (makes 0 econ profit) - P > ATC -> firm makes an econ profit - P < ATC -> firm incurs an econ loss - if P dips below min AVC, the firm temporarily shuts down and incurs an econ loss = TFC

Answer 138

- in short run equilibrium, a firm might make an econ profit, econ loss, or break even. Although each of these 3 outcomes is short run equilibrium, only one of them is a long run equilibrium. the reason is that in the long run, firms can enter or exist the market. - entry occurs in a market when new firms come into the market and the number of firms inc - new firms enter a market in which existing firms are making an econ profit - as new firms enter a market, the market P dec and econ profit of each firm dec - exit occurs when existing firms leave a market and the number of firm dec - firm exit a market in which they're incurring an econ loss. - As firms leave a a market, market P inc and the econ loss incurred by the remaining firms dec - entry and exit stop when firms make 0 econ profit. temporary econ profit and loss don't trigger entry and exit. it's the prospect of persistent econ profit and loss - entry and exit influence the market S -> influence market P, QS, econ profit/ loss - firm enter a market -> S inc -> market SC shifts rightward -> market P dec -> eliminate econ profit -> when econ profit = 0, entry stops - firm exit a market -> S dec + market S C shifts leftward -> market P inc + econ loss dec -> eliminate econ loss -> exit stops - entry inc market output but dec each firm's output. P dec -> each firm moves down its SC and dec production. number of firms inc -> market produces more - exit dec market output but inc each firm's output. P inc -> each firm moves up its SC and inc production. number of firms dec -> market produces less

Answer 139

- when econ profit/loss have been eliminated -> entry and exit have stopped -> a competitive market is in long run equi - a competitive market is rarely in the long run equi because the market is constantly bombarded with events that change the constraints that firms face (customers' preference and D, tech, costs)

Answer 140

Specific situation: - bricks and mortar retailers are in long run equi make 0 econ profit with the arrival of high speed internet -> inc in online shopping + dec in D for traditional retailer services -> equi P of retail services dec + stores incur econ loss -> as loss becomes permanent, stores start to close -> dec S + P stops dec and begins to inc -> enough firms have exited for S and the dec D to be in balance at P that enables firms in the market to return to 0 econ profit - long run equi - econ loss brings exit and short run S dec -> market SC shifts leftward -> dec in S inc market P and inc firm's output -> firm moves up along MC curve and SC -> market P has returned to its original level -> at this P, each firm produces at min AVC, the same as Q produced before the dec in D -> market output is in a long run equi. the difference between the initial long run equi and the new long run equi is the number of firms in the market (dec D -> dec number of firms). moving from initial equi to new one -> each firm incurs an econ loss

Answer 141

- inc in D triggers a similar as dec in D but opposite. - overall: +) inc P +) inc econ profit +) inc entry -> inc S -> dec P to its original level -> econ profit returns to 0 in a new long run equi

Answer 142

- long run equi: new tech available that dec prod cost -> first firms to use it make econ profit. As more firms begin to use the new tech, market S inc + dec P. At first, new tech firms con't to make positive econ profit -> inc entry. but firms that con't using old tech incur econ loss as initially, they were making 0 econ profit and now with dec P -> inc econ loss -> triggers exit -> all the old tech firms have exited and enough new tech firms have entered to inc market S to a level that dec P to = min ATC using new tech -> all new tech firms now make 0 econ profit

Answer 143

- recall res allocation (you made mistake on this part last midterm so be careful): res use is efficient when we produce the goods and services that people value most highly. if it is possible to make someone better off without anyone else becoming worse off, res are not being used efficiently. - how to test: compare MSC and MSC. Specific situation: MSB of a video game > its MSC; MSC of a computer > its MSB. by producing less computer and more video games, we move res towards a higher valued use

Answer 144

choices, equi, efficiency - choices: 1. Consumer/customer +) customer allocate their budgets according to get the most value possible out of them. +) consumer's DC is derived from finding how the best budget allocation changes as P of good changes. +) consumers get the most value out of their res at all points along their DC or market DC (D = MSB) +) if people who consumer a good or service are the only ones who benefit from it, the market DC measures the benefit to the entire society and is the MSB curve (S= MSC) 2. firm +) competitive firms produce Q that max profit +) firm's SC is derived from finding the profit max Q at each P -> firm get the most value out of their res at all points along their SC. +) if the firm that produce a good/ service bear all the cost of producing it, market SC measures MC to the entire society and market SC = MSC curve - equi and effiiciency: +) res are used efficiently when MSB = MSC. Competitive equi achieves this because with no externalities, P = MSB for consumers and P = MSC for producers +) total gains from trade are the total surplus (sum of consumer surplus and producer surplus) +) gains from trade for consumers are consumer surplus (area below DC and above P paid) +) gains from trade for producers are producers surplus (area above SC and below P received) +) when market is in equi, gains from trade are max

Answer 145

when all/ many firms make 0 econ profit, each firm has the plant that enables it to produce at the lowest possible ATC. consumers are as well off as possible because the good cannot be produced at a lower cost and the equi P = least possible cost

Answer 146

when firms in perfect competition are away from long run equi, either entry or exit moves the market toward the situation where MC, ATC, LRAC (long run averg cost), MR (horizontal line) all crossed at long run competitive equi/ min long run average cost/ 0 econ profit. during this process, the market is efficient because MSB = MSC. but it is only in the long run equi that econ profit is drive to 0 and consumers pay the lowest pay the lowest feasible P

Answer 147

- define: a market with a single firm that produces a good or service with no close sub and that is protected by a barrier that prevent other firms from entering that market - reasons of occurring: +) no close sub -> ie: tap water and bottled water are close sub for drinking but not for showering or washing a car -> tech change can create sub and weaken a monopoly (ie: UPS and email are close sub for canada post) -> arrival of new product can create a monopoly (ie: tech advancement -> monopoly for microsoft and google) +) barriers to entry -> define: a constraint that protects a firm from potential competitors -> 3 types: 1. natural * natural barrier to entry creates a natural monopoly ( a market in which econ of scale enable 1 firm to supply the entire market at the lowest possible cost) * ie: firms that deliver gas, water, electricity to homes 2. ownership barrier to entry * a monopoly can arise in a market in which competition and entry are restricted by a concentration of ownership *ie: the global wholesales market in sunglasses is controlled by Luxotticca (italian firm) that manufacture all the glasses regardless of brands 3. legal *legal barrier to entry creates a legal monopoly (a market in which competition and entry are restricted by the granting of a public franchise, gov license, patent, copyright + public franchise: an exclusive right granted to a firm to supply good/service. *ie: canada post has the exclusive right to deliver residential mail *gov license controls entry into particular occupation, profession , industries (ie: medicine, other professional services) * patent: an exclusive right granted to the product inventor which encourages the invention of new products and prod methods + stimulate innovation/use of new inventions by encouraging inventors to publicize and license their discoveries *copyright: an exclusive right granted to the author or composer

Answer 148

- a monopoly sets its own price. in doing so it faces a market constraint: to sell a larger quantity, the monopoly must set a lower price. - there are 2 monopoly situations that create 2 pricing strategies: +) single price -> define a single price monopoly: a firm that must sell each unit of its output for the same price to all its customers. -> If the firm tries to sell a higher price to some customers than to other, only the low price customers would buy from them. the others would buy from their low price customers +) price discrimination: -> define: the firm sells different units of a good/ service for different prices. -> when a firm price discriminate, it looks as though it is doing its customers a favour. in fact, it is charging the highest possible price for each unit sold and making the largest possible profit.

Answer 149

- P and marginal rev +) in monopoly, there is only 1 firm -> DC facing the firm is the market DC +) at each level of output, MR < P -> MR curve is below DC. Why? because when P is lowered to sell one more unit, 2opposing forces affect TR. the lower P results in rev loss on the original units sold and a rev gain on the additional Q sold. - MR and elasticity +) single P monopoly's MR is related to E of D for its good +) D can be: -> elastic (> 1) if a 1% fall in the P brings a greater than 1% inc in QD. -> elastic, a fall in P brings an inc in TR (. the rev gain from inc in Q sold outweighs the rev loss from the lower P + MR is positive. -> inelastic (<1) if a 1% fall in P brings a less than 1% inc in QD -> inelastic, a fall in P brings a dec in TR (the rev gain from the inc in Q sold is outweighted by the rev loss from the lower P + MR is negative -> unit elastic (=1) if a 1% fall in P brings a 1% inc in QD -> unit elastic, TR does not change (the rev gain from the inc in Q sold offsets the rev loss from the lower P + MR is 0 => in monopoly, D is always elastic, which implies that a profit max monopoly never produces an output in the elastic range of market DC. if it did so, it could charge a high price, produce less, inc its profit - price and output decision +) a monopoly faces the same types of tech and cost constraint as competitive firms, so its costs (TC, AC, MC) behave just like those of a firm in perfect competition. Its rev behavior is described above (TR, P. MR) +) mac econ profit -> TC and TR rise as output inc but TC rises at an increasing rate and TR rises at a decreasing rate. -> econ proft (=TR-TC) inc at small output levels, reaches a max and then dec +) MR = MC -> MR > MC -> profit inc if output inc -> MC > MR, profit inc if output dec -> MC = MR, profit is max -> calculation: max profit=( P (on DC) - ATC (ATC curve)) x Q produced +) max P the market will bear -> unlike a firm in perfect competion, a monopoly influences the P of it sells. But it doesn't set the price at max possible P. -> at max possible P, the firm would be able to sell only 1 unit of output which in generally is less than the profit max Q. Instead it produces the profit max Q and sells the Q for the highest P it can get. -> all firms max profit by producing output at which MR =MC. For competitive firm, P= MR -> P= MC. For a monopoly, P> MR -> P> MC -> A monopoly charges P > MC, but does it always make an econ profit? if a firm in perfect competitive market make a positive econ profit, new firms enter. that does not happen monopoly. barriers to entry prevent new firms from entering the market, so a monopoly can make a positive econ profit and might con't to do so indefinitely (ie: international diamond business)

Answer 150

- DC is the same regardless of how the industry is organized, but the supply side and equi are different in monopoly and competition. - perfect competition: +) intially with many small perfectly competitive firms in the market, the market SC is obtained by summing the SCs of all the indi firms in the market. but in perfect competition, equi occurs where SC and DC intersect. Each firm take that P and max its profit by producing the output at which its own MC =P. because each firm is a small part of the total industry, there is no incentive for any firm to try to manipulate the P by varying its output - monopoly: +) consumers do not change -> market DC remains the same as in perfecr competition. But now the monopoly recognizes this DC as a constraint on the P at which it can sell its output. +) monopoly max profit by producing Q at which MR = MC. +) calculation for the monopoly's MC curve recall: in perfect competition, the market SC is the sum of the SCs of the firms in the industry recall: each firm's SC = its MC curve => monopoly takes over -> competitive market's SC becomes the monopoly's MC curve. its output < competitive output but get charged at higher price.

Answer 151

- perfect competition (with no externalities) is efficient. - the efficiency of perfect competition is the benchmark against which to measure the inefficiency of monopoly. - Along DC and MSB curve (D = MSB), consumers are efficient. Along SC and MSC curve (S= MSC), producers are efficient. In the competitive equi (P and Q), MSB= MSC - perfect competiion: +) firm produces at competitive equi (P and Q), MSB = MSC, total surplus (producer & consumer) is max and in the long run, firms produce at the lowest possible AC. +) consumer surplus: area (triangle) under.DC and above equi P +) producer surplus: area above SC and below equi P => efficiency in competitive competition, total surplus is max => in long run competitive equi, entry and exit ensure that each firm produces its output at min possible long run AC. => summarize: at the competitive equi, MSB = MSC, total surplus is max, firms produce at the lowest possible long run AC, res use is efficient - monopoly: +) produces at its own price -> consumer surplus dec -> monopoly gains -> DWL (its magnitude = inefficiency of monopoly) +) the smaller the output and high P drive a wedge between MSB and MSC -> DWL. +) reasons for dec in consumer surplus 1. consumers lose by having to pay more for the good. this loss to consumers = monopoly's gain and inc producer surplus 2. consumers lose by getting less of the good, and this loss is part of DWL +) although the monopoly gains from higher P, it loses some producer surplus because it produces a smaller output. that loss is another part of DWL. +) monopoly's output < perfect competition and faces no competiton -> does not produce at the lowest long run AC -> damage the consumer interest in 3 ways: a monopoly produces less, inc cost of prod, raises the P by more than the inc cost of prod. +) summarize: monopoly is inefficient because MSB > MSC -> DWL (social loss) but it also brings a redistribution of surplus. Some of the lost consumer surplus goes to the monopoly (takes the difference between its higher P and competitive P, on its Q output. this portion of loss of consumer surplus is not a loss to society but rather a redistribution from consumers to monopoly producers

Answer 152

- Social cost of monopoly can exceed DWL because of rent seeking. Any surplus (consumer, producer, econ profit)) is econ rent. the pursuit of wealth by capturing econ rent is rent seeking - a monopoly makes its econ profit by diverting part of consumer surplus to itself (convert consumer surplus into econ profit) -> pursuit of econ profit by a monopoly is rent seeking (attempt to capture consumer surplus. - rent seekers pursue their goals in 2 main ways: +) buy a monopoly 1. a person searches for a monopoly that is for sale at a lower P than the monopoly's econ profit. 2. iin the process, they use scarce res that could otherwise have been used to produce goods and service, the value of this losr prod is part of the social cost of monopoly. the amount paid for a monopoly is not a social cost because the payment transfers an existing producer surplus from the buyer to the seller. +) create a monopoly 1. is mainly a political activity 2. takes form of lobbying and trying to influence the political process. Such influence might be sought by making campaign contribution in exchange for legislative support or by indirectly seeking to influence political outcomes through publicity in the media or more direct contacts with politcians and bureaucrats. 3. is a costly activity that uses up scarce res. firms spent bullions of dolllar lobbying politicians, bureaucrats in the pursuit of licenses and laws that creates barrier to entry and establish a monopoly - rent seeking equi +) a barrier to entry creates monopoly, but there is no barrier to entry into rent seeking , makes it similar to perfect competition. +) if an econ profit is available, a new rent seeker will try to et some of it. competition among rent seekers pushes up the P that must be paid for a monopoly to the point at which rent seeker makes 0 econ profit by operating the monopoly. +) cost of rent seeking is fixed cost that must be added to a monopoly's other costs (TFC and ATC) ATC curve, which includes the fixed cost of rent seeking, shifts upward until it just touches DC ti the point at the profit max P - the firm breaks even (econ profit =0) +) consumer surplus is unaffected but DWL from monopoly is larger. DWL now includes the original DWL triangle plus the lost producer surplus

Answer 153

- not all P differences are P discrimination. Many reflect differences in prod costs. - at first sight, P discrimination appears to be inconsistent with profit max.but P discrimination is profitable as it inc econ profit. but be able to P discriminate, the firm must sell a product that cannot be resold and it must be possible to identify and separate different buyer types. - 2 ways of P discriminating: firm discriminate +) among groups of buyers -> people differ in. the value they place on a good (MB and willingness to pay) -> ie: age, employment status +) among units of a good -> everyone experiences diminishing MB, so if all the units of the good are sold for a single P, buyers end up with a consumer surplus = value they get from each unit - P paid for it -> a firm that charges a buyer 1 P for a single item and a lower P for a 2nd or 3rd item can capture some of the consumer surplus - by getting buyers to pay a P as close as possible to their max willingness to pay, a monopoly captures the consumer surplus and convert it into producer surplus. inc producer surplus -> inc econ profit Explain: Econ profit = TR - TC Producer surplus = TR - TVC ( area MC curve) Econ profit - producer surplus = TC - TVC but TC - TVC = TFC Econ = Producer surplus - TFC (for a given level of TFC, anything that inc producer surplus also inc econ profit

Answer 154

- firms try to capture an ever larger part of consumer surplus by devising a host of special conditions, each one of which appeals to a tiny segment of the market but at the same time excludes others from taking advantage of a lower P. the more consumer surplus a firm is able to capture, the closer it gets to the extreme case - perfect P discrimination, which occurs if a firm can sell each unit of output for the highest P someone is willing to pay for it. in this extreme hypothetical case, consumer surplus is eliminated and captured as producer surplus - Market DC becomes MR curve because when the monopoly cuts the P to sell a larger Q, it sells only the marginal unit at the lower P. All the other units con't to be sold for the highest unit at the lower P. All the other units con't to be sold for the highest P that each buyer is willing to pay. So for the perfect p discriminator, MR = P and market DC = monopoly's MR curve

Answer 155

- with perfect P discrimination, output inc to the point at which P= MC. it is identical to that of perfect competition. Perfect P discrimination pushes consumer surplus to 0 but inc the monopoly's producer surplus to = total surplus in perfect competition. No DWL is created so perfect P discrimination achieves efficiency. => summarize: the more perfectly the monopoly can P discriminate, the closer its output is to the competitive output and the more efficient is the outcome - outcome of perfect competition and perfect P discrimination differ +) how total surplus is distributed is not the same. in perfect competition, total surplus is shared by consumers and producers, while with perfect P discrimination, the monopoly takes it tall +) monopoly takes all the total surplus -> rent seeking is profitable

Answer 156

- dilemma of natural monopoly. with economies of scale, it produces at the lowest possible cost. but with market power, it has an incentive to raise P above the competitive P and produce too little - to operate in the self interest of the monopolist and not in the social interest - deregulation: process of removing regulation of P, Q, entry, and other aspects of econ activity in a firm or industry. - 2 theories about how regulation actually works: +) social interest theory: political and regulatory process relentlessly seeks out inefficiency and introduces regulation that eliminates DWL and allocates res efficiently. +) capture theory: regulation serves the self interest of the producer, who captures the regulator and max econ profit. regulation that benefits the producer but creates a DWL gets adopted because the producer's gain is large and visible while each indi consumer's loss is small and invisible. No indiv consumer has an incentive to oppose the regulation, but the producer has a big incentive to lobby for it.

Answer 157

- if a firm has a large FC (part of its ATC), as the number of customers inc - the firm's ATC dec - if they max profit, it creates DWL. How can they be regulated tp produce the efficient QS? ans: by being regulated to set its P = MC, known as MC pricing rule.

Answer 158

2 possible ways of enabling the firm to cover its costs: - P discrimination - 2 part P or 2 part tariff ie: one time payment to cover its FC and monthly fee = MC

Answer 159

- natural monopoly cannot always be regulated to achieve an efficient outcome. 2 possible ways of enabling a regulated monopoly to avoid an econ loss: +) averg cost pricing 1. it sets P = ATC 2. the firm produces Q at which ATC curve cuts DC. firm makes 0 econ profit (break even). but because for a natural monopoly ATC > MC, Q produced < efficient Q -> DWL is created smaller than without regulation (unregulated profit max) +) gov subsidy 1. Define: a direct payment to the firm = econ loss 2. to pay a subsidy, gov must raise rev by taxing some other activity.

Answer 160

- Ans: depends on the relative magnitude of the 2 DWLs. - averg cost pricing generates DWL in the market served by the natural monopoly. - a subsidy generates DWL in the markets for the items that are taxed to pay for the subsidy. - the smaller DWL is the 2nd best solution to regulating a natural monopoly. making this calculation in practice is too difficult, so averg cost pricing is generally preffered to a subsidy - implementing averg cost pricing presents the regulator with a challenge because it is not possible to be sure what a firm's costs are. So regulators use 1 of 2 practical rules: +) rate of return regulation 1. firm must justify its P by showing that its return on capital doesn't exceed a specified target rate 2. can end up serving the self interest of the firm rather than the social interest. 3. the firm's managers have an incentive to inflate costs by spending on items (ie: private jets, free hockey tickets disguised as public relations expenses). they also have an incentive to use more than the efficient amount of capital. Rate of return on capital is regulated but not the total return on capital -> amount of capital used inc the total return on capital inc +) P cap regulation 1. rate of return regulation is increasingly being replaced by P cap regulation 2. define: a P ceiling - a rule that specifies the highest P the firm is permitted to set. 3. gives a firm an incentive to operate efficiently and keep costs under control 4. lowers the P and inc output -> in contrast to the effect of P ceiling in a competitive market because in a monopoly, the unregulated equi output < competitive equi output and P cap regulation replicates the conditions of a competitive market. 5. in practice, the regulator might set the cap too high. for this reason, P cap regulation is often combined with earnings sharing regulation- a regulation that requires firms to make refunds to customers when profits rise above a target level.

Answer 161

- between the extremes of perfect competition and monopoly - a market structure in which: +) a large number of firms compete -> similar to perfect competition -> the industry consists of a large number of firms, which has 3 implications for each indiv firm in the industry: *small market share 1. each firm supplies a small part of the total industry output -> each firm has only limited power to influence the P of its product. 2. Each firm's P can deviate from the averg P of other firms by only a relatively small amount *ignore other firms 1. firm must be sensitive to the averg market P of the product. but it does not pay attention to anyone indiv competitor. 2. all firms are quite small -> no one firm can dictate market conditions and the actions of no one firm directly affect the actions of the other firms *collusion impossible 1.firms would like to be able to conspire to fix a higher P called collusion. but because the number of firms is large, coordination is difficult and collusion is not possible. +) each firm produces a differentiated product -> firm practice this if it makes a product that is slightly different from the products of competing firms -> a differentiated product is one that is a close sub but not a perfect sub for the products of the other firms. Some people are willing to pay more for 1 variety of the product so when P inc, QD of that variety dec, but it does not (necessarily) dec to 0 +) firms compete on product quality, P, and marketing *Quality 1. Physical attributes 2. includes: design, reliability, service provided to buyers, buyer's ease of access to the product. 3. lies on a spectrum that runs from high to low (high/ quick/efficient vs low/slow/poor) *P 1. Because of product differentiation, firms in mono competi faces a downward sloping DC. like a monopoly, the firm can set both its P and output but there is a tradeoff between product's quality and P 2. firm that makes high quality products can charge a higher P than one that makes low quality product *Marketing 1. occurs because of product differentiation 2. 2 main forms: =>advertising => packaging +) firms are free to enter and exit the industry -> monopolistic competition has no barriers to prevent new firms from entering the industry in the long run -> firm cannot make an econ profit in the long run -> existing firms make an econ profit -> new firms enter -> dec P -> eliminate econ profit -> firms incur econ loss -> some firms leave the industry in the long run -> inc P -> eliminate econ loss -> in long run equi, firms neither enter no leave the industry and the firms in the industry make 0 econ profit

Answer 162

- number of firms in a market - share of the market served by the largest firms

Answer 163

economist use indexes called measures of concentration

Answer 164

2 main measures of market concentration: - 4 firm concentration ratio +)% of the total rev accounted for by the 4 largest firms in an industry. +) this concentration ratio ranges from almost 0 for perfect competition to 100% for monopoly +) is the main measure used to assess market structure . +) low concentration ratio = a high degree of competition +) high concentration ratio= an absence of competition +) a monopoly has a concentration ratio of 100% - the largest (and only )firm has 100% of the total rev. +) concentration ratio > 60% => a market is highly concentrated and dominated by a few firms +) concentration ratio <60% => a competitive market - the Herfindahl- Hirschman Index (HHI) +) the square of the % market share of each firm summed over the largest 50 firms (or summed over all the firms if there are fewer than 50) in a market +) in perfect competition, HHI is small. +) for a monopoly, HHI is 10,000 (100^2) +) a market in which HHI ranges from 1,500 - 2,500 = competitive = an example of monopolistic competition +) HHI > 2,500 = concentrated and uncompetitive +) market with a high concentration ratio and high HHI is an oligopoly

Answer 165

- perfect competition: +) # firms in the industry: Many +) product: identical +) barriers to entry: None +) firm's control over P: none +) concentration ratio: 0 +) HHI (approx ranges): close to 0 +) Examples: wheat, honey - monopolistic competition +) # firms in the industry: many +) product: differentiated +) barriers to entry: none +) firm's control over P: some +) concentration ratio: low +) HHI (approx ranges): less than 2,500 +) Examples: pizza, clothing - oligopoly +) # firms in the industry: few +) product: either identical or differentiated +) barriers to entry: moderate +) firm's control over P: considerable +) concentration ratio: high +) HHI (approx ranges): more than 2,500 +) Examples: airplanes - monopoly +) # firms in the industry: one +) product: no close sub +) barriers to entry: high +) firm's control over P: considerable or regulated +) concentration ratio: 100 +) HHI (approx ranges): 10,000 +) Examples: cable TV

Answer 166

- the geographical scope of the market: concentration measures take a national view of the market. Many goods are sold in a national market, but some are sold in a regional or in a global market - barriers to entry and firm turnover +) some market are highly concentrated but entry is easy and the turn over of firms is large +) a market with a few firms might be competitive because of potential entry. the firms face competition from the many potential firms that will enter the market if econ porfit profit arise - market and industry correspondence to calculate concentration ratios, statistics canada clarrifies each firm as being in a particular industry. but markets do not always correspond closely to industries for 2 main reasons: +) markets are often narrower than industries (ie pharmaceutical industries have low concentration ratio as they operate in many separate markets for indiv products which do not compete with each other -> competitive market with firms that are monopolies or near monopolies in indvi drug markets +) most firms make several products. Main production will determine what industry a firm is classified in. But it can operate in different markets and compete in other industries but this does not show up in the concentration numbers for other additional industries/market that a firm may operate in

Answer 167

- the firm's short run output and P decision +) in the short run, a firm in monopolistic competition makes its output and P decision similar to a monopoly +) profit maximizing = loss minimizing

Answer 168

- both produce the Q at which MR= MC and then charges P that buyers are willing to pay for that Q as determined by DC. - difference is what happens next when firm encounter econ profit or incur an econ loss

Answer 169

- econ porfit inc entry -> dec D for each firm's product -> DC touches ATC curve at Q at which MR= MC -> market in the long run equi - long run equi P = ATC -> 0 econ profit -> there is no incentive for new firms to enter the market - if D is so slow relative to costs that firms incur econ losses -> exit will occur. As firms leave an industry, D for the rest of the firms' products inc + DC shift rightward. Exit process ends when all the firms in the industry are making 0 econ profit

Answer 170

2 key differences - excess capacity +) define: when a firm produces less than efficient scale (Q at which ATC is a min - Q at the bottom of the U-shaped ATC curve) +) in monopolistic competition in the long run, because the firm faces a downwardsloping DC, QD < the efficient scale and the firm has excess capacity. +) perfect competition, D for each firm's product is perfectly elastic, QS in the long run = efficient scale - markup +) define: amount by which P > MC +) the markup that drives a gap between P and MC in monopolistic competition arises from product differentiation +) monopolistic competition (long run) P > MC by the amount of the markup. buyers pay a higher P than perfect competition and also pay more than MC +) perfect competition (long run) P = MC. firm produces at the least possible cost = no markup. ATC is the lowest possible only in perfect competition

Answer 171

- res are used efficient when MSC= MSB. P = MSB and the firm's MC = MSC (assuming there are no external benefit or costs). - markup in monopolistic competition that drives the gap between P and MC is coming from product differentiation. => product variety is both valued and costly. efficient degree of product variety is the one for which MSB variety = MSC. the loss that arises because the Q produced is less than the efficient Q is offset by the gain that arises from having a greater degree of product variety. Compared to the alternative - product uniformity - monopolistic competition might be efficient

Answer 172

- product development: +) to maintain econ proift, a firm must either develop an entirely new product or develop a significantly improved product that provides it with a competitive edge, even if only temporarily. a firm that introduces a new or improved and more differentiated product faces a demand that is less elastic and is able to inc its P and make an econ profit. Eventually, imitators will make close sub for the firm's new product and compete away the econ profit arising from an initial advantage -> to restore econ profit, the firm must develop another new or seriously improved product - profit max product development +) product development is costly but it brings in additional rev. the firm must balance the cost and rev at the margin. +) marginal dollar spent on developing a new or improved product is the marginal cost of product development. +) marginal dollar that the new or improved product earns for the firm is the marginal rev of product development. +) at a low level of product development, MR from a better product > MC +) at a high level of product development, MC of a better product > MR +) MC = MR of product development, the firm is undertaking the profit max amount of product development - efficiency and product development (is the profit max amount of development also the efficient amount?) +) efficiency is achieved if MSB of a new and improved product = MSC +) MSB of an improved product is the inc in P that consumers are willing to pay for it. +) MSC is the amount that the firm must pay to make the improvement. +) profit is max when MR= MC. but in monopolistic competition, MR < P -> product development is not pushed to its efficient level. +) monopolistic competition brings many product changes that cost little to implement and are purely cosmetic (ie: improved packing, new scent). Even when there is a truly improved product, it is never as good as the consumer would like and for which the consumer is willing to pay a higher P

Answer 173

- Advertising/ packaging: +) advertising expenditures -> firms in monopolistic competition incur huge costs for product differentiation -> a large proportion of P that consumers pay covers the cost of selling it, and it is inc. -> main selling costs: ads on social media (ie: apps, movie sets, salaries/airfares/hotel bills of salespeople) +) selling costs and total costs -> selling costs are FC and inc the firm's TC -> So like FC of production, ad cost per unit dec as QS inc -> if ad inc Q sold by a large enough amount, it can dec ATC because although TFC has inc, the greater FC is spread over a greater output -> ATC dec +) selling costs and D -> All firms in monopolistic competition advertise to persuade customers. If ad enables a firm to survive, number of firms in the market might inc -> ad dec the D faced by anyone firm + make D for anyone firm's product more elastic => ad can end up not only lowering ATC but also lowering the markup and P. -> if no firms advertise, D for each firm's product is low and not very elastic -> small product max output + large markup + high P. Ad inc ATC and shifts ATC curve upward -> if all firms advertise, D for each firm's product becomes more elastic -> inc output + dec P + dec markup

Answer 174

- signal: an action taken by an informed person (or firm) to send a message to uninformed people - if ad is a signal, it doesn't need any specific product info - just need to be expensive and hard to miss

Answer 175

- provides info to consumers about the product's quality - is an incentive to the producer to achieve a high and consistent quality standard

Answer 176

- define: similar to monopolistic competition - lies between perfect competition and monopoly. Firms might produce an identical product and compete only one P, or they might produce a differentiated product and compete on P, product quality, marketing. It is a market structure in which: +) natural or legal barriers prevent the entry of new firms +) a small number of firms compete

Answer 177

- natural or legal barriers to entry can create oligopoly - economies of scale and demand form a natural barrier to entry that create a natural oligopoly - natural duopoly: an oligopoly market with 2 firms (ATC is similar to u shape). At the lowest P at which firm would remain in business, QD can be provided by just 2 firms (no room in this market for 3 firms). but if there was only 1 firm, it would make an econ profit and a 2nd firm would enter to take away some of those profits. - legal oligopoly arises when a legal barrier to entry protects the small number of firms in a market (ie give license for the 2 firms even though the combination of D and economies of scale leaves room for more than 2 firms)

Answer 178

- barriers to entry exist -> small number of firms -> each firm has a large share of market -> firms are interdependent and face a temptation to cooperate to inc their joint econ profit by acting like a monopoly - a cartel: a group of firms acting together - colluding- to limit output, raise P, and inc econ profit. Cartels are illegal, but they do operate in some markets. They tend to break down

Answer 179

- concentration ratio - HHI: +) below 2,500 - monopolistic competition +) above 2,500 - oligopoly - info about the geographical scope of the market and barriers to entry

Answer 180

- define game theory: +) a set of tools for studying strategic beha - beha that takes into account the expected beha of others and the recog of mutual interdependence +) seek to understand oligopoly as well as other forms of econ, political, social, biological rivalries by using using a method of analysis specifically designed to understand games of all types, including familiar games of everyday life - define game: +) rules +) strategies +) payoffs +) outcome

Answer 181

Player A takes the best possible action given the action of player B and player B takes the best possible action given the action of player A

Answer 182

an equi in which the best strategy is to cheat regardless of the strategy of the other player

Answer 183

- Natural duopoly: the 2 firms produce identical products -> perfect sub for each other -> market P for each firm's product is identical -> QD depends on this P - the higher the P, the smaller is the QD. 2 firms can produce this good at a lower cost than either 1 or 3 firms - collusion: +) collusive agreement: an agreement between 2 or more producers to form a cartel to restrict output, raise P, and inc profit. it is illegal in canada and is undertaken in secret. the firms in a cartel can pursue 2 strategies; -> comply: a firm that complies carriers out the agreement -> cheat : a firm that cheats breaks the agreement to its own benefit and to the cost of the other firm => 4 possible combinations of actions for the firms: -> both firms comply -> both firms cheat -> company A complies and B cheats -> B complies and A cheats +) benefits of collusion ->In addition to what a monopoly does, duopoly also agree on how much of the total output each of them will produce - >MC curve is constructed by adding together the output of 2 firms at each level of MC. because 2 firms are the same size, at each level of MC, the industry output is 2x the output of 1 firm. the curve is twice as far -> to max industry profit, firms in duopoly agree to restrict output to the rate that makes the industry MC and MR => summary of duopoly game: 2 firms collude to produce the monopoly profit max output and divide that output equally with each other (identical to a monopoly). With P > MC, either firm might think of trying to inc profit by cheating on the agreement and producing more than the agreed amount

Answer 184

specific situation: A convinced B that the D dec A convinced B to sell at a lower P for the same output A planned to inc output which it knows will lower P A produce more and dec P the industry output is larger than the monopoly output and the industry P is lower than the monopoly P. The total econ profit made by the industry is also < monopoly's econ profit A made a bigger econ profit than it would under the collusive agreeement while B incured an econ loss

Answer 185

- Each tells the other that it is unable to sell its output at the going P and that it plans to cut its P. each will propose a successively lower P. As long as P > MC, each firm has an incentive to inc its prod to cheat. Only when P = MC is there no further incentive to cheat - if both firms cheat by inc prod, the collusive agreement collapses. limit to the collapse is the competitive equi Neither firm will cut its P below min ATC because it will result in losses.

Answer 186

- both firms cheat - although the industry has only 2 firms, they charge the same P and produce the same Q as those in a competitive industry. Also , as in perfect competition, each firm makes 0 econ profit

Answer 187

- is a rental market in which the services of capital are hired

Answer 188

- it is derived from the D for the good and service produced by that factor

Answer 189

- is called the factor's value of marginal product - value of marginal product = P of a unit of output x marginal product of the factor of prod - Firm's QD for labour is Q at which the value of marginal product of labour = wage rate - a firm's D for labour C is derived from its value of marginal product curve - D for labour curve slopes downward because value of marginal product diminishes as Q of labour employed inc - A change in the wage rate brings a change in QD for labour - A change in any ohter influence on firm's labour hiring plans changes D for labour and shifts D for labour curve

Answer 190

- P of firm's output +) inc P of firm's output inc firm's D for labour +) P of firm's output affect its D for labour through its influence on the value of marginal product of labour +) higher P for the firm's output inc the value of marginal product of labour +) change in P of its output shifts the firm's D for labour curve. +) if P of firm's output inc -> D for labour inc + D for labour curve shits rightward - P of other factors of prod +) if P of using capital dec relative to the wage rate -> a firm sub capital for labour and inc Q of capital it uses +) usually, D for labour will dec when P of using capital dec. but D for labour could inc if a dec in the cost of using capital led to a sufficiently large inc in the scale of prod. this type of factor sub occurs in the long run when the firm can change the size of its plant - tech +) new tech dec D for some types of labour and inc D for other types

Answer 191

- Firm's QD for labour: (movement along DC) +) dec if wage rate inc +) inc if wage rate dec - firm's D for labour (shifts in DC) +) dec if firm's output dec (inc - inc) +) dec if P of sub for labour dec (inc - inc ) +) dec if P of a complement inc ( inc - dec) +) dec if a new tech/ new capital dec marginal product of labour (inc)

econ final exam Flashcards

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