Elasticity of Demand Formula
(ΔQ/Pre-ΔQ) / (ΔP/Pre-ΔP)
%ΔQ / %ΔP
- International Economics
- Micro - individuals, households, businesses
- Macro - decision making entities as a whole together, entire nations or major sections of a national economy
- International - activity between nations
Relationships of Dependent and Independent Variables on a Graph
If slope is downward, it's an inverse relationship (negative) If slope is upward (supply), it's a positive relationship
Y = mx + b
- Y = unknown value of Y
- m = slope of plotted line
- x = value of variable x
- b = "intercept", value of Y when X is 0
- Example: TC = FC + VC(units)
Substitute Goods (Price/Demand impact)
Direct relationship: Price and Demand between good of concern and it's substitute good move in same direction.
Ex. When price of butter increases, so does the demand for it's substitute, margarine.
Complimentary Goods (Price/Demand impact)
Ex. shoelaces and shoes, as price for shoes goes up, demand for shoe laces goes down.
The term "quantity is the function of price." which variable is dependent and independent?
Quantify is dependent on price (independent). pay attention to terminology, typically Quantity is on the X axis and is the independent variable.
Price Ceiling versus Price Floor
Price Ceiling (rent cap) results in a supply shortage Price Floor (minimum wage) results in a supply surplus
A company has a policy of frequently cutting prices to increase sales. Product demand is significantly elastic. What impact would this have on the company's situation?
Quantity increases proportionally more than the price declines. Remember elasticity equation, the numerator is change in Quantity. if Elasticity is > 1, then this makes sense.
Marginal Utility vs. Total Utility
- Marginal Utility decreases as more units are acquired.
- Total Utility increases at a decreasing rate.
Average Fixed Cost Curve AFC
is NOT U-shaped, Simply put, more units are being produced for a fixed cost. Therefore, the average fixed cost decreases continuously over the relevant range of production.
- (a) It is composed of a large number of sellers, each of which are too small to affect the price of the product or service
- (b) The firms sell a virtually identical product
- (c) Firms can enter or leave the market easily (no barriers to entry)
Remember that PC does not actually exist in the real world.
- MR is less than AVC: Firm is not covering variable cost the loss increases with every unit produced. Firm should shut down.
- Price equals Marginal Revenue
- Firm is a price taker and its demand curve is horizontal
- they can sell as many as they produce, but not at higher price.
- Firm will break even when MR = ATC.
- No firm in the long run in Perfect Competition will make a profit.
- Optimum profit is where MR = MC
When a firm has increasing returns to scale, it is considered to have a...
Natural Monopoly, such that a single firm can produce at a lower cost than two or more firms.
Monopolistic Demand Curve in a perfectly competitive environment
- A monopolistic firm is the only firm in an industry and faces a conventional negatively sloped demand curve for its commodity. In order to sell more of its commodity, it must reduce its selling price.
- In a perfectly competitive environment, the DC is horizontal and the firm can sell any quantity at the market price.
Cross Elasticity of Demand
%ΔQD in Product X / %ΔP of Product Y
- Positive CE = Substitute Goods
- Negative CE = Complementary Goods
- Average Total Cost
- Marginal Cost
ATC = Total Cost x # Units
MC = Total Cost of Unit B - Total Cost of Unit A
Marginal revenue is defined as the amount of additional revenue received from the sale of one additional unit.
Oligopoly (Car Industry)
Collusive Pricing and Tacit Collusion
Oligopoly is a market characterized by:
- Few Sellers (meaning there is an inter-dependency among sellers)
- Firms sell either homogeneous or differentiated products and compete via non-price methods
- Significant barriers to entry (meaning long run profits expected)
- Demand Curve is said to have a kink in it where above kink D is more elastic and below kink D is less elastic
Collusive pricing occurs when the few firms in an oligopolistic market (or industry) conspire to set the price at which a good or service will be provided. Such collusion typically is carried out to establish a price higher than would exist under normal competition. Overt collusive pricing is illegal in the U.S.A.
Tacit Collusion (such as airlines matching pricing) is legal and a common occurrence.
Marginal Propensity to Consume
Δ Consumption / Δ Income
The most important instrument of monetary policy that aids in controlling the money supply is?
Open Market Operations - through bond sales and purchases are flexible (government securities can be purchased or sold in large or small amounts), cause prompt changes in bank reserves, and are more subtle than reserve ratio changes.
(Macro) Examples of Economic Leakages
Def: Individuals income not spent on consumption
Ex. Payments for - Taxes, Savings, Imports
(Macro) Examples of Economic Injections
Def: Additions to domestic production NOT from individual expenditures.
Ex. Investment Expenditures, Government Spending, Exports
Marginal Propensity to Save
Δ Savings / Δ Income
Inherent vs. Residual Risk
- Inherent risk is the risk to the organization if management does nothing to alter its likelihood or impact.
- Residual risk is the risk of the event after considering management's response.
Physical characteristics (e.g., higher quality, additional features, etc.)
Perceived differences (e.g., advertising, brand name, etc.)
Support service differences (e.g., exchange policies, assistance, after-sale support, etc.)
Measure of the maximum amount of goods and services an economy can produce at a given time, assuming available technology and full utilization of available economic resources, including labor.
Net National Product
NNP = GNP - Depreciation
Production-Possibility Frontier (Curve)
Measures the maximum amount of various goods and services an economy can produce at a given time with available technology and efficient use of all available resources.
GDP Gap = Potential GDP - Real GDP
- Negative GDP gap indicates that the economy is operating above normal full capacity, which will put upward pressure on prices.
Average Ratios (as opposed to marginal ratios)
Average propensity to consume (APC): Measures the percent of disposable income spent on consumption goods.
- CS / DI
Average propensity to save (APS): Measures the percent of disposable income not spent, but rather saved.
- S / DI
Remember that APC + APS = 1, the measures are reciprocal of each other.