Microeconomics - Lecture 1 (The Demand and Supply Model)

  1. Four core ideas in economics
    • 1) People face Tradeoffs
    • 2) Opportunity Cost: what you give up to get
    • 3) Thinking at the margin (step forward/back)
    • 4) People respond to incentives
  2. Positive analysis vs. Normative analysis
    Positive: attempt to describe/predict model outcome

    Normative: attempt to prescribe what should be done
  3. Types of variables:
    Exogenous: values are given (or assumed) outside the model. Changes create a shock

    Endogenous: values are determined within the model
  4. Basic Assumptions
    • 1) Scarcity: resources are limited
    • 2) Choice: if we have more of x; less of y
    • 3) Individual Optimizing Behavior: relevant actors make decisions to maximize some goal
    • 4) substitution: agents are actually willing to make the choices that scarcity requires.
  5. Demand and supply Model
    (Perfectly competitive market)
    • Assumption:
    • 1) Everyone is a price taker - no one large enough to affect market price
    • 2) Easy entry and exit into the market
    • 3) firms sell identical products
    • 4) Full information about price and quality
    • 5) cost of trading are low
  6. Demand function
    Qd = f(Pi;Pj,I,0,info,E,e)

    price of good, price of related, income, tastes, info, expectations about the future, other factors
  7. Demand Schedule
    Maps the quantity of a good that will be demanded at each price, holding fixed all other factors that influence demand
  8. The Law of Demand
    When the price of any good or service increases (decreases), consumers will purchase less (more) of that good or service
  9. What is demand
    1) if you show me the price, I'll tell you the quantity

    2) if you tell me the quantity, I'll tell you my willingness to pay for the last unit (marginal value)

    Marginal Value is the change in the total value created by the change in quantity of the control variable
  10. Demand vs. Demand Qty
    When price changes, the quantity demanded changes - movement along the demand schedule.

    When any other shifter changes -the entire demand schedule shifts
  11. Elasticity of A with respect to B
    • % change in A / % change in B 
    • or
    • (Change in A)/(Change in B) * (B/A)
    • Think in %

    Elasticity is a measure of sensitivity of one variable to a change in another.

    Elasticity is a characteristic of a specific observed point
  12. Common Elasticities
    • Price elasticity of demand
    • Cross elasticity of demand
    • Income elasticity of demand
    • Price elasticity of supply
  13. Price Elasticity of linear demand
    • Perfectly Inelastic = 0
    • Inelastic greater than 0 and less than -1
    • unitary = -1
    • elastic less than -1
    • perfectly elastic = infinity
  14. Determinants of the Elasticity of Demand
    • 1) Uniqueness of the product
    • 2) Awareness of substitutes
    • 3) Difficulty of comparison
    •     -must be used before learn attributes
    •     -fixed cost of buying cause switching cost
    •      and deter sampling
    •     -difficult to compare across
    •      heterogeneous brands
    • 4) short vs. long run
    • 5) durable good
  15. Supply function
    Qs = f(Pi;Pk,T,E,n)

    price of the good, price of production inputs, production technology, expectations about the future, number of sellers
  16. The supply curve and law of supply
    1) If you tell me the price, I'll tell you the quantity I would like to supply

    2) If you tell me quantity, I'll tell you the minimal price I'm willing to sell the last unit for - marginal cost
  17. Horizontal summation
    Market demand & supply curves are calculated as total quantity demanded / supplied, summed over all customers/firms, for any given price
  18. Market Equilibrium
    • situation in which there is no pressure for price or quantity to change. 
    • Once in equilibrium, there is no incentive to hcange
  19. Efficiency
    If MV(Q) > MC(Q) the efficient to produce and consume more 

    If MV(Q) < MC(Q) efficient to produce and consume less

    Efficient MV(Q) = MC(Q)
Card Set
Microeconomics - Lecture 1 (The Demand and Supply Model)
Microeconomics - supply and demand