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Reviewer in Microeconomics Theory and Practice, Study notes of Microeconomics

Reviewer for Introduction to Microeconomics, Types of Economic Systems, Brief History: The Classical Keynesian, and Modern Economics, Basic Analysis of Demand and Supply, The Concept of Elasticity, and Consumer Choice and Utility Maximization

Typology: Study notes

2019/2020

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Reviewer in Microeconomics
Theory and Practice
Economics
Study of scarce resources
Since there are limited resources we
should learn how to utilize and
maximize
Oikos (Greek)  household
Nomus (Greek) management,
norms, rules, regulations
To be able to satisfy unlimited needs
and wants
Management of Household-
Microeconomic branch of economics
State Management- Macroeconomic
branch of economics
Scarcity
Basic and central economic problem
Heart of the study of economics
If scarcity does not exist, no need for
us to economize
As a commodity or service being in
short supply
Exist when at a zero price there is a
unit of demand
Economic Resources like:
1. Land
2. Labor
3. Capital
- Which we use to produce all the
goods and services that we need and want
**Side Note: Law of Scarcity states that an
economic system cannot produce all goods
and services. This is why choices must be
made about how limited resources (time,
money) are used
Efficient Allocation
Use our limited resources by
efficiently allocating them so that we
will be able to produce all the goods
and services that will maximize our
satisfaction
Problem of Scarcity
If limited resources fall short to meet
the unlimited wants of the socirty,
scarcity will occur
Economics
When limited resources fail to meet
the unlimited wants of the society,
economics comes into play in order
to effectively and efficiently allocate
resources
Factors of Production
1. Land
- refers to all-natural resources
(not man made)
- can be classified as fixed
resource
- main source of raw materials
- rent is the compensation for
use of land
2. Labor
- any form of human effort
exerted in the production of
goods and services
- covers a wide range of skills,
abilities, and characteristic
- compensation = salary or
wage
3. Capital
- Buildings
- Factories
- Machinery
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Reviewer in Microeconomics

Theory and Practice

Economics  Study of scarce resources  Since there are limited resources we should learn how to utilize and maximize  Oikos (Greek)  household  Nomus (Greek)  management, norms, rules, regulations  To be able to satisfy unlimited needs and wants  Management of Household- Microeconomic branch of economics  State Management- Macroeconomic branch of economics Scarcity  Basic and central economic problem  Heart of the study of economics  If scarcity does not exist, no need for us to economize  As a commodity or service being in short supply  Exist when at a zero price there is a unit of demand Economic Resources like:

  1. Land
  2. Labor
  3. Capital
  • Which we use to produce all the goods and services that we need and want **Side Note: Law of Scarcity states that an economic system cannot produce all goods and services. This is why choices must be made about how limited resources (time, money) are used Efficient Allocation  Use our limited resources by efficiently allocating them so that we will be able to produce all the goods and services that will maximize our satisfaction Problem of Scarcity  If limited resources fall short to meet the unlimited wants of the socirty, scarcity will occur Economics  When limited resources fail to meet the unlimited wants of the society, economics comes into play in order to effectively and efficiently allocate resources Factors of Production 1. Land
  • refers to all-natural resources (not man made)
  • can be classified as fixed resource
  • main source of raw materials
  • rent is the compensation for use of land 2. Labor
  • any form of human effort exerted in the production of goods and services
  • covers a wide range of skills, abilities, and characteristic
  • compensation = salary or wage 3. Capital
  • Buildings
  • Factories
  • Machinery

4. Entrepreneurship - a person who organizes, manages, and assumes the risk of the firm - in-charge of creating goods and services - possess managerial skills - Entrepreneurship: economic good that commands a price referred to as profit or loss Circular Flow Model

  • Flow of resources and payments for their use as well as the flow of goods and services
  • Household sectors sells resources to and buys products from the business sector
  • Business sector buys resources from and sells products to household sectors
  • For the economy: it is the circle of life
  • Business and household are both buyers and sellers The Concept of Opportunity Cost
  • Forgone value of the next best alternative
  • It is the value of what is given up when one makes a choice
  • Price of one item should be relative to the price of another **Side Note: yung example ni sir dito yung may baon tayo tapos kailangan natin i- budget kung ano yung kasya sa money na meron tayo so we have to choose whether or not to buy something or save up **Basic Decision Problems
  1. Consumption**
  • basic decision problem
  • members of society, with their individual wants determine what types of goods and services they want to utilize
  • privately used goods or those supplied by government (national security and defense, infrastructure or irrigation) 2. Production
  • a concern of producers
  • producers the needs, wants and demands of consumers and decide how to allocate their resources to meet the demands
  • depending on the firm’s technological state and on the availability of resources within the society 3. Distribution
  • primarily addressed to the government
  • proper allocation of all the resources for the benefit of the whole society 4. Growth over time
  • all the problems of choice, consumption, production, and distribution have to be seen in the context of how they will affect the future 4 Basic Economic Questions
  • Address the problem of scarcity and solve the basic decisions problems 1. What to produce?
  • individual decisions of units of the economy-firms and households
  • how their choices determine relative prices
  • individual
  • concerning how a firm maximizes its profits and how a consumer maximizes his satisfaction
  • market: central concept of microeconomics
  • buyer and seller: players 2. Macroeconomics (involved in understanding the behavior of the of the society as a whole)
  • Studies the relationship among broad economic aggregates
  • seeks to understand the behavior of the economy as a whole
  • focuses on 4 specific sectors of the economy a. Consumption (behavior of the aggregate household) b. Investment (decision making of the aggregate business) c. Government Spending (policies and project of the government) **d. Export and Import Types of Economic System
  1. Traditional Economy**
  • subsistence economy for family consumption
  • the head of the family decides to apply the 4 basic economic questions 2. Command Economy
  • dictated by the government
  • characterized by collective ownership of most resources and the existence of a central planning agency of the state
  • ALL productive enterprises are owned by the people administered by the State 3. Socialism (Socialist Economy)
  • key enterprises are owned by the state: Private ownership is recognized
  • State has control over a large portion of capital assets; generally responsible
  • Equitable distribution of income and wealth
  • Economy bordering between capitalism and communism 4. Mixed Economy
  • Mixture of Market System (people are free to produce goods and services to meet the demands of the consumers and they are free to choose their own goods accdg. to their own likeness) Command System (manner of production dictated by the gov’t)  **Side Note: PH is a mixed economy bc it is market oriented and command or traditional. In our current time, we are facing a global health problem, this is why the government controls the production, prioritizing necessities rather than the unimportant.

Brief History: The Classical Keynesian, and Modern Economics Birth of Economic Theory: Classical Economics (1700-1800)

1. Adam Smith

  • Father of Economics
  • Wealth of the Nation (bible of economics)
  • the relationship between the consumer and producers through demand and supply 2. John Stuart Mill, David Ricardo, Karl Marx
  • the basic analysis of the political economy or the importance of a State’s role in its economy
  • Importance of Industrial Revolution
  • Das Kapital- centerpiece from which major socialist thought were developed Neoclassical Economics (1870s)
  • The main concern was market system efficiencies 1. Leon Walras - developed the analysis of Equilibrium in several markets 2. Alfred Marshall- developed analysis of Equilibrium of a particular market and the concept of Marginalism (individuals make economic decisions "on the margin"; that is, value is determined by how much additional utility an extra unit of a good or service provides) John Keynes General Theory of Employment, Interest and Money
  • Explanation of mass unemployment and suggestions for government policy to cure unemployment
    • Argued that classical political economist was concerned with the relative shares in the national output of the different factors of production.
    • To disregard the classical political economist and focus to the forces which determines the level of general economic activity
    • Argued that value and distribution was related only to a special case of full employment John Keynes other theories:
    1. There is no assurance that savings would accumulate during depression and only depression interest rates since savings depend on income and with high unemployment incomes are low
    2. Investment depends primarily on business confidence; investment would be unlikely to rise even if the interest rate falls
    3. Wage rate would unlikely to fall much; exacerbate the depression by reducing consumption Post Keynesian Economics 1. John Hicks
    • developed the IS-LM model (Investment saving and demand and supply for money)  determination of general equilibrium position for the economy as a whole
    • IS: good market for a given interest rate
    • LM: money market for a given value of aggregate output or income

but will consume more if prices are low. Demand Curve  It is a graphical representation showing the relationship between price and quantities demanded per time period.  It has negative slope, thus it slopes downward from left to right.  The downward slope indicates the inverse relationship between price and quantity demanded. Demand curves slope downwards  As the price of the product falls, consumers will tend to substitute this (now relatively cheaper) product for others in their purchases.  As the price of the product falls, this serves to increase their real income allowing them to buy more products.  https://youtu.be/QqvB8N_m-tI = Why demand curves slope downwards  https://youtu.be/J6qBu0LreAI = The income and substitution effect- Why does demand slope downward? Law of Demand  If price goes UP, the quantity demanded of a good will go DOWN,  Conversely, if price goes DOWN, the quantity demanded of a good will go UP ceteris paribus. The reason for this is because consumers always tend to MAXIMIZE SATISFACTION.  https://youtu.be/kUPm2tMCbGE = THE DEMAND CURVE  https://youtu.be/Zlg8JCSWdrA = The demand curve  https://youtu.be/YuV9RRqahVY = Understanding demand curves Demand Function  It shows the relationship between demand for a commodity and the factors that determine or influence this demand.  These factors are:  The price of the commodity itself  Prices of other related commodities  Levels of income  Taste and preferences  Size and composition of level of population  Distribution of income Demand Function  It is expressed as a mathematical function.  Quantity Demanded = f(product’s own price, income of consumers, price of related goods)  https://youtu.be/iL-Im3bj3yc = Demand function in economics  https://youtu.be/Ro-B0pfiXYM = Drawing a Demand Function  https://youtu.be/31Csp7RblaQ = Demand Equation  https://youtu.be/XJU23uYX-uE = The Demand Function (demand using mathematics) Change in Quantity Demanded  There is change in quantity demanded (symbolized as rQD) if there is a movement from one point to another point – or from one price- quantity combination to another along the same demand curve.

 It is mainly brought about by an increase (a decrease) in the products own price.  The direction of the movement however is inverse considering the Law of Demand.  When the price decreases, Quantity demanded increases because of the change in the product price.  https://youtu.be/JvKLKAVZOMs = What is a change in quantity demanded? Change in Demand  There is a change in demand if the entire demand curve shifts to the right (left) resulting to an increase (decrease) in demand due to other factors other than the price of the good sold.  Increase (decrease) in demand is brought by factors other than the price of the good itself such as taste and preferences, price of substitute goods, etc. resulting in the shift of the entire demand curve either upward or downward.  https://youtu.be/_8T8glylBFc = The Demand Curve Shifts  https://youtu.be/iC9hkhbIimA = Change in Demand vs. Change in Quantity Demanded  https://youtu.be/3tybNSz7thI = Changes in Demand and shifts of the Demand Curve Forces that Cause the Demand Curve to ChangeTaste or Preferences – pertains to personal like or dislikes of consumers for certain goods and services. If taste or preferences change so that people want to buy more of a commodity at a given price, then an increase in demand will result or vice versa.  Changing Incomes – an increase in one’s income generally raise his or her capacity or power to demand for goods or services which he or she is not able to purchase at lower income.  Occasional or Seasonal Products – the various events or seasons in a given year also result to a movement of the demand curve with reference to particular goods. However, after certain events, demand for these products return back to the original level.  Population Change – more goods or services are to be demanded because of rising population.  Substitute goods – are goods that are interchanged with other good. In a situation where the price of a particular good increases, a consumer will tend to look for closely related commodities.  Complementary Goods – complement with each other. One good cannot exist without the other good.  Nominal Goods – those goods for which demand increases when the income of the consumer increases , and those goods that decline when income of the consumer decreases, price of the goods remaining constant.  Inferior Goods – are goods for which the demand decreases when the income of the consumer increases .

 https://youtu.be/tEx7F7wkm6I = The law of Supply and the determinants of Supply  https://youtu.be/9ml4fA_b1No =Law of Supply and types of Supply Supply Function  Is a form of mathematical notation that links the dependent variable, quantity supplied (Q), with various independent variables which determine quantity supplied.  https://youtu.be/H83dHEnG2B Linear supply Equation Part 1   https://youtu.be/IDxy2SzhTcg Linear Supply Equation Part 2 Change in Quantity Supplied  It occurs if there is a movement from one point to another point along the same supply curve.  A change in quantity supplied is brought about by an increase (decrease) in the product’s own price.  The direction of the movement however is positive considering the Law of Supply Change in Supply  It happens when the entire supply curve shifts leftward or rightward.  Increase (decrease) in supply is caused by factors other than the price of the goods itself such as change in technology, government policies etc., resulting to the movement of the entire supply curve rightward (leftward). Forces that Cause the Supply Curve to Change

  1. Optimization in the use of Factors of Production – it is the efficient use of resources or Maximum production of output at minimum cost.
  2. Technology change – The introduction of cost-reducing innovation in the production technology increases supply on one hand. On the other hand, this can also decrease supply by means of freezing the production through the problems that the new technology might encounter, such as technical trouble.
  3. Future Expectations – (illegal Hoarding)
  4. Number of sellers – The more sellers there are in the market the greater supply of goods and services will be available.
  5. Weather Conditions –
  6. Government Policy (Subsidy or Taxes) -. Market Equilibrium  It pertains to a balance that exists when quantity demanded equals quantity supplied.  It is the general agreement of the buyer and the seller in the exchange of goods and services at a particular price and at a particular quantity.  https://youtu.be/PEMkfgrifDw = Market Equilibrium  https://youtu.be/ducr0_LoL_M = Market Equilibrium  https://youtu.be/Wk3dje6Y9i =Changes in Market Equilibrium Equilibrium Market Price  Is the price agreed by the seller to offer its good or service for sale and for the buyer to pay for it

 It is the price at which quantity demanded of a good is exactly equal to quantity supplied of the same good.  https://youtu.be/7eZcPs9z9OA = The Equilibrium Price and Quantity  https://youtu.be/kl4n-EWwPyA = Equilibrium Price and Quantity Changes in Demand, Supply, and Equilibrium  Changes in Demand  An increase in demand with supply remaining constant raises both equilibrium price and quantity.  Conversely, decrease in demand with supply remaining unchanged lowers both equilibrium price and quantity.  https://youtu.be/Wk3dje6Y9i Changes in Market Equilibrium Changes in Demand, Supply and Equilibrium  Changes in Supply  An increase in supply results to a decrease in price but an increase in the quantity of goods sold in the market.  In contrast, if supply decreases while demand remains constant, the equilibrium price increases but the equilibrium quantity declines. Price Control  It is the specification by the government of minimum or maximum prices for certain goods and services when the government considers it disadvantageous to the producer or consumer.  The price may be fixed at a level below the market equilibrium price, or above it depending on the objective in mind. Floor Price  It is the legal minimum price imposed by the government on certain goods and services.  A price at or above the price floor is legal; a price below is not.  The setting of a floor price is undertaken by government if a surplus in the economy persists Price Ceiling  It is the legal maximum price imposed by the government.  A price ceiling is usually below the equilibrium price  It is utilized by the government if there is a persistent shortage of goods in the economy.  The purpose is to protect the consumers from abusive producers or sellers who take advantage of the situation.

means that consumers are sensitive to the price at which a product is sold and will only buy it if the price rises by what they consider too much. Ex. Of inelastic demand Let’s say the price of gasoline increases by 1% and the quantity demanded only falls by 0.2% , we can say that the demand for gasoline is not very price sensitive. This means that if price of the product increases, consumer will still buy the good because there is a need for the gasoline. Thus, we can say that demand is inelastic if the computed elasticity coefficient is less than 1 (Ep <1) Elastic: Price Elasticity > The demand for a product may be elastic if consumer will only pay a certain price, or a narrow range of price, for the product. Elastic demand means that consumers are sensitive to the price at which a product is sold and will only buy it if the price rises by what they consider too much. https://youtu.be/7KkMAmTcWoE = Elastic vs Inelastic Demand Ex of Elastic Demand  Let’s say that the price of gold jewelry increases by 1% but the quantity demanded falls by 2.6%, the computed price elasticity of demand is -2.6.  This means that the demand for the gold jewelry is very price sensitive such that when the gold price shoots up, demand for the gold can largely go down.  We can say that demand is elastic if the computed elasticity coefficient is greater than 1 (Ep >1) Inelastic Goods and Services  We already know that a fall in the price of a good results in an increase in the quantity demanded by consumers. However, the demand for a good is inelastic when the change in quantity demanded is less than the change in price.  Thus, we can say that demand is inelastic if the computed elasticity coefficient is less than 1 (Ep<1)  Generally goods and services for which there are no close substitutes are inelastic. Basic food items (rice, pork, beef, fish, vegetables) Medicines like antibiotics, and oil products Elastic Goods and Services  Demand for a good is elastic if the change in quantity demanded is greater than the change in price. Therefore, we can say that the demand is elastic if the computed elasticity coefficient is greater than 1 (Ep >1).  In general goods and services that have many substitutes which consumers may switch to are elastic. Clothes, appliances, cars among others are examples of goods that are elastic. What Determines Elasticity?  Ease of substitution

 Proportion of total expenditures  Durability of product which may include: possibility of postponing purchase, possibility of repair, used product market  Length of time period (Keat and Young 2006 Other factors that influence demand elasticity  Nature of commodity  Influence of habits  Range of prices  Income  https://youtu.be/KEhy6SwW__I = Determinants of PED  https://youtu.be/tCRZcKcnpv0 = Determinants of PED Ease of Substitution Proportion of total expenditures spent on the product Price Elasticity of Demand and changes in total revenue  Elasticity provides information on the effect of price changes to total revenue (Total Revenue = Selling Price x Quantity Sold)  If the price of good is 5Php and the sold items are 50 units, total revenue would be 250,  (TR = 5Php x 50 unit = = 250)  If the firm decides to decrease the price to 3Php, the degree of price elasticity of demand curve would determine the change in the increase of the demand, reflecting also a change in the total revenue. Extreme Elasticities of Demand  Demand can be perfectly price inelastic,  Demand can be perfectly price elastic Perfectly Price Inelastic Price changes have no effect at all on quantity demanded. Even if price will increase be more than one hundred %, still the amount of the good that will be bought will be equal

the percentage change in the price of a related good (Y). Thus the formula is:  EXY = % change in quantity of X demanded / % change in the price of Y  https://youtu.be/Ngv0Be9NxAw = Cross elasticity of Demand Cross Elasticity of Demand (Substitutes)  Two goods are considered substitutes if there is a positive relationship between the quantity demanded of one good and the price of the other good. Ex. An increase in the price of bananas increases the demand for mangoes as consumers substitute mangoes for bananas. Ex. Suppose the price of a burger falls by 10% and the demand for pizza decreases by 5%, the cross elasticity for pizza with respect to the price of burger is: EXY = -5% / -10% = 0.50 (What have you notice?) Cross Elasticity of Demand (Substitute) Burger Vs. Pizza The cross elasticity of demand for a substitute is positive. A fall in the price of a substitute good brings forth a decrease in the quantity demanded of the good The quantity demanded of a good and a price of one of its substitutes change in the same direction. https://youtu.be/ViEolFkmBxU = Cross Elasticity of Demand Cross Elastcity of Demand (Compliments) https://youtu.be/8LR33paxE7I = How to calculate the XED  Two goods are considered compliments if there is a negative relationship between the quantity demanded of one good and the price of the other good.  Hence, the cross elasticity of demand for a compliment is negative: a fall in the price of a complement brings forth as increase in the quantity demanded of other good. Elasticity of Supply  It refers to the reaction or response of the sellers or producers to price changes of goods sold.  It is a measure of the degree of responsiveness of supply to a given change in price.  It is the percentage change in quantity supplied given a percentage change in price. ES = % change in quantity supplied / % change in price

Lesson 5: Consumer

Choice and Utility

Maximization

ConsumerKing in a capitalist or free market economy  Consumer is one who demands and consumes goods and services.  Consumer sovereignty is the power to determine or even dictate what are to be produced since we are the ultimate purchasers of goods and services. Consumer under Market Economy  If we, as consumers demand more of a good or servic e then more of it will be supplied or vice versa.  The producers simply obey the wishes and desires as well as the needs and wants of consumers.  The producers are passive agents in the price system because they simply respond to the to what consumers want. Consumer under Command EconomyProducers are so powerful vis-à-vis consumers that it is they who effectively determine the range of choice open to consumer.  Freedom to satisfy human wants is not completely unlimited.  For the good of society and the individual consumers, the government restricts consumer sovereignty. Government Restrictions and Prohibitions  The government prohibits the use of dangerous drugs and substances  The government regulates the use of products that are destructive to the environment and health hazard. Consumer Behavior  It involves the use and disposal of products as well as the study of how they are purchased.  It is the study of individuals or groups and the process consumers use to select, secure, use and dispose of products and services to satisfy needs. Elements of Consumer BehaviorWhat to buyWhere they buy goods and servicesHow they buy How much they buy themWhen they buyThe reason or why they buy Theory of Consumer Behavior  An individual as a rational buyer, has the perfect information about the marke t, and is fully aware of his needs and can determine full satisfaction  The consumer as a rational person spend his or her income on goods and services that yield or would give, the highest level of satisfaction.

 Utility is measured by how much a consumer is willing to pay for particular goods or services. Important Concept under Utility Theory Marginal UtilityAdditional satisfaction that an individual derives from consuming an extra unit of goods and services.  Marginal means additional or extra  The Marginal Utility of a commodity is the increase in total utility or satisfaction derived from the consumption of an additional or extra unit of such commodity:  It is loss of utility or satisfaction if one unit is less consumed  Marginal utility of a commodity is the change in the total utility that result s from a one unit increase in the quantity of a good consumed.  https://youtu.be/UnX8RPB5vFM = introduction to Utility  https://youtu.be/Kf9KhwryQNE = Marginal Utility  https://youtu.be/5Ei5OiIk_X0 = The Utility Maximization Rule  https://youtu.be/WFykae1NIPY = Total and Marginal Utility Total Utility It is the total satisfaction that a consumer derives from the consumption of a given quantity good or service in a particular time period Total benefit that a person gets from the consumption of goods and services. Diminishing Marginal Utility  A consumer gets more satisfaction in the long run, he or she experiences a decline in his satisfaction for goods and services.  Consumption of more successive units of the same good increases

total utility, but at a decreasing rate because marginal utility diminishes.  As we consume more and more of a good or service, we begin to like it less and less , and as we consume increasing amounts of a good or service, we derive diminishing utility or satisfaction from each additional unit consumed. Mathematical Derivation of Marginal Utility MU = Change in total utility divided by change in quantity MU = TU2 – TU1 ➗ Q2 – Q TU2 – the new total utility TU1 – the original Utility Q2 – the new quantity consumed Q1 – the original quantity consumed Hypothetical Utility Schedule for Burger Consumer Surplus  Is a measure of the welfare we gain from the consumption of goods and services, or a measure of the benefits that we derive from the exchange of goods.  Is the difference between the total amount that we are willing and able to pay for a good or service and the total amount that we actually pay for that good or service. The Indifference Curve  Another important concept used in explaining consumer behavior that shows combination of goods among which a consumer is indifferent is known as “indifferent curve”.  It is a graph showing different combination of bundles of goods, each measured as to quantity, between which a consumer is indifferent.  https://youtu.be/7G4BUm7M6MY = Indifference curve and Marginal Rate of Substitutions  https://youtu.be/0tbZX277TzE = Indifference curves Goods and Bads Hypothetical Table for Consumption of Meat and Fish