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Problem Explanation
Week 1
Voluntary exchange
Real-Nominal Principle
Determinants of Demand
Demand unction
Demand !ur"e
#ncome Effect
$ubstitution Effect
%iffen %oods
&and'agon Effect
$nob Effect
Veblen Effect
$upply
Determinants of $upply
(arket $upply
$upply !ur"e
$hift of D !ur"e
$hift of $ !ur"e
Voluntary exchange > both better off
One will not agree, until gain something off it
People interested in nominal values
But real values, i.e. !!! "nominal# $ %,!! "real#, incl. taxes
Prices of the good in &uestion "Px#,
Prices of related goods "Pr#,
'xpectations of Price (hanges "Pe#,
(onsumer )ncomes "*c#,
(onsumer +astes and preferences "+c#,
,dvertising ",#,
Others "government policy, demographics, etc#
-.x $ f "Px, Pr, Pe, *c, +c, ,, etc.#
-uantity demanded in relation to the Price
/alling price, causes people to feel richer $ people buy more
Other goods are consumed, prices fall, - increases
0ise in their prices ma1e people buy more
"rice and noodles in (hina, gasoline, parfum e.g.#
)ncreasing ., others buy the commodity as well
.ecreasing ., others buy the commodity as well
)ncreasing ., cause increasing Price "luxury cars, e.g.#
-uantities a /irm is willing to supply
Prices of the 2ood in -uestion "Px#
Prices of )nputs "Pf#
,vailability of )nputs "3f#
+echnology "+#
'nvironment "4#
2overnment Policy "2#
-3x $ f "Px, Pf, 3f, +, 4, 2#
-uantity 3upplied in relation to the Price of the (ommodity
"higher P, higher *5 lower P, lower *#
+o the 0ight6 )ncreasing ., )ncreasing * "Px constant#
+o the 7eft6 .ecreasing ., .ecreasing . "Px constant#
.own6 )ncreasing 3, .ecreasing Px
8p6 .ecreasing 3, )ncreasing Px
2
E)uilibrium *D+$,
(arket Price in
!ompetiti"e (arkets
-a' of Demand
-a' of $upply
Willingness to pay
!onsumer $urplus
.otal !onsumer $urplus
Willingness to accept
Producer $urplus
Producer $urplus
.otal $urplus
(arket E)uilibrium
.he #n"isible /and
Elasticity
*1, Point Elasticity
*0, 1rc Elasticity
*2, !alculus 1pproach
)ntersection of . and 3 (urve
8pward 3hift in ., shortage, increasing P
"new mar1et '&uilibrium#
8pward 3hift in 3, surplus, decreasing P
"new mar1et '&uilibrium#
9ax. amount you:re willed to pay
.ifference between your willingness and the price
"willed6 ;!<, paid6 <, consumer surplus6 <#
9easured by the area below '&uilibrium, above P
3um of consumer surpluses in the mar1et
9in. amount willing to pay $ marginal cost of production
.ifference between Price received and marginal cost
"cost6 ;!<, charges6 %!<, producer surplus6 ;<#
9easured by the area above '&uilibrium, below P
3um of surpluses earned by all producers
(onsumer = Producer 3urplus
>ighest possible 3urplus, therefore 'fficient
9ost efficient mar1et '&uilibrium, in case of6
";# ?o external Benefits "pollution#
"%# ?o external (osts "free riders#
"@# Perfect )nformation "statistics#
"A# Perfect (ompetition
9easures the degree of sensitivity of &uantity demanded,
or &uantity supplied to changes in any determinant
9easures the percentage change in the dependent variable
(aused by the percentage change in the independent variable
"determinant#, holding the values of other variables constant6
Y
X
X
Y
X X
Y Y
/
/
9easures ' at a specific point on the (urve
(alculates the ,verage ' between points on the (urve
2 1
2 1
Y Y
X X
X
Y
+
+
presence of externalities
asymmetric information
)ncome ine&ualities
)mperfect (ompetition
9onopoly
Oligopoly
.uopoly
9onopolistic (ompetition
3ingle 3eller, product has no close substitutes
barriers to entry, control over mar1et resources, patents
Price > 90 "earns extraordinary profits#
produces where 90 $ 9(
+herefore, can increase profits and cause price discrimination
7
(onopolist>s ;utput
Dead'eight -osses *$8 3?,
Price Discrimination
$lides @@ A @B
Natural (onopoly
Price !ontrols
of (onopolies
1ntitrust Policy
produces less, charges higher prices "misallocation of 0#
?egatively sloping .emand (urve
to sell more, lower prices6 90 L P
90 curve is below the .emand (urve
'xtraordinary profits, because of ,( (urve "above 90#
2overnmental intervention "taxing profits#, or lower price
-uantity 3upplied $ )ntersection of 90 and 9(
Profits $ )ntersection of ,( and 9( up to .emand "3. A@#
- satisfies marginal principle, 90 $ 9(
.emand (urve determines the price associated with -
Profit per 8nit sold $ P I ,(
+otal Profit $ Profit per 8nit C ?umber of sold 8nits
, measure of the inefficiency from monopoly5
e&ual to the decrease in the mar1et surplus
(harging different Prices for different 2roups
Opportunity for Price .iscrimination, when
Brea1ing 8p 9onopolies
Bloc1ing 9ergers
Players "Parties#
private consumption
private investments
government spending
1
or
MPS
MPC
+
=
1
*
/or a new 7evel of )nvestment )
!
, we have
/or a new level of )nvestment )
;
, we have
3ubstituting for the levels of Output, we have
16
%o"ernment $pending
and .axes
*$8 ?3,
$ummary
Because ")
;
I )
!
# is the (hange in )nvestment, we can write6
2overnment 3pending and +axes6
2overnment 'xpenditure6 ; F 9P3
+ax 9ultiplier6 B9P( F 9P3
Balanced Budget6 ;
4ith +rade6 ; F "; I 9P( = 9P9#
4ith +ax and +rade6 ; F "; I 9P( "; I t# = 9P9#
9P( $ 9arginal Propensity to (onsume
9P3 $ 9arginal Propensity to 3ave
9P9 $ 9arginal Propensity to )mport
t $ +ax 0ate
17
WEE= E
Phillips !ur"e
$tagflation
riedman
Rational Expectations
Natural Rate of
9nemployment
Velocity of (oney
Huantity .heory of
(oney
(oney as a "eil
?egative 0elationship btw. wages and unemployment
"wages were indicators of )nflation#
)ncreasing 9oney 3upply leads to decreasing 8nemployment,
but increasing )nflation
3tagnation "0ecession# combined with )nflation
tradeBoff between unemployment and )nflation "Phillips# is
no longer observed
.emandBPull )nflation6
3hifting . (urve6 8nemployment dec., )nflation inc.
(ostBPush )nflation
3hifting 3 (urve6 8nemployment inc., )nflation inc.
)ntroduced the idea of adaptive )nflation expectations
'xpectations Philips (urve6
0elationship between 8nemployment and 'xpectations,
when ta1ing into account expectations of )nflation
8nemployment varies with unanticipated )nflation
4hen economy experiences a boom
8nemployment is below natural rate,
)nflation is higher than expected
4hen economy experiences a recession
8nemployment is above natural rate,
)nflation is lower than expected
People loo1 at all variable information in ma1ing Pudgments
policy $ ineffective, people will outguess government
People will realiDe trend in policies and incorporate this in
their expectations
Public forecasts the future correctly, on average
0ate of 8nemployment can shift
institutional changes
defense
education
health