MAE101 Economics

statement is objective in nature, validity can be tested

statement includes value judgement, that can be subjective (should can be a hint)

Private ownership of resources and goods

option to make free choices in self-interest and voluntarily trade through markets

voluntary exchanges in markets make all parties better off, even though each party just looks after their own interest

theory of "invisible hand" --> guiding people to make efficient decisions

opportunity to trade in markets encourages people to specialize
--> focus on producing things at which they are relatively better

mutual gains from trade (baker vs teacher example)

the extra benefit of an action vs the extra cost

marginal cost: minimum supply price

a cost already incurred and cannot be recovered

sunk cost are irrelevant to make a decision

e.g. 20$ film ticket, but film sucks. I could go home and watch a tv show that is worth 10$ to me. since I gain a marginal benefit of 10$ through this and do not incur a marginal cost (0$) as the rest of the movie is worth noting to me, the choice is leaving the cinema

A country has an absolute advantage in a good if its productivity (output per unit of input) is higher

Adam Smith proposed that such reciprocal absolute advantage creates the basis for trade between two countries

comparing the opportunity cost of a good, the one country with a lower opportunity cost has a comparative advantage.

We should always take into account the comparative advantage and not the absolute terms. If one country has smaller opportunity cost, there are good conditions for specializing in a particular good and start trading (theorie by david ricardo). it is not possible to have a comparative advantage in both goods (it is reciprocal)

divide numbers to 1 unit of good

a market is a medium through which buyers and sellers can find each other and voluntarily participate in a trade or exchange. Intention is usually communicated through price.

people value things differently, thats why there is an incentive to find each other and gain mutually from exchange

free flow of information

low transaction cost

George Akerlof: Markets can function poorly or not exist when consumers lack critial information

Technological advances and middlemen have contributed to market efficiency

Tastes and preferences (desires and needs)

Income

Availability and price of substitutes and complements

Expectations

Number of consumers

quantity demanded for any given price (all else equal, all other determinants of demand are held fixed)

or

same theory for supply

inverse relationship between price and quantity along the demand curve

The demand curve can shift (increase or decrease) if other determinants (sources of demand) change so that ceteris paribus is violated.

other determinants:

-income, substitute price change, preference change, complement price change

factor cost (wages, price of input)

technology

seller expectations about future price

price of related product

number of suppliers

Increase in price will typically lead to increase in quantity supplied

surplus: supply bigger than demand --> usually price fall

shortage: demand bigger than supply --> sellers can raise price without losing buyers

a measure of how much buyers and sellers respond to changes in market conditions

allows us to analyse supply, demand and changes in market equilibrium with greater precision

how much the quantity demanded of a good responds to a change in the price of that good

always negative number but need to convert to positve in order to measure responsiveness

Close substitutes: the more substitutes the more elastic (medicine)

Necessities vs luxuries: the more luxury the more elasitic (fine dining, expensive car)

definition of market: the narrower defined the more elastic (apple vs fruit)

time horizon: more elastic over long time horizon

same for quantitiy, mid point formula is used to calculate elasticity

The flatter the demand curve, the greater is absolute price elasticity

Formula: P x Q = TR

TR - TC = Profit

Impact of a price change on total revenue depends on price elasticity

how much the quantity demanded of a good responds to a change in consumers’ income

normal goods: consumption increases with income (elasticity is positive)

inferior goods: consumption decreases with income (elasticity is negative)

complements: an increase in the price of Good B will decrease quantity demanded of Good A

substitutes: an increase in the price of Good B will increase quantity demanded of Good A

 measure of how much the quantity demanded of a good responds to a change in the price of another good, calculated as the percentage change in quantity demanded divided by the percentage change in the price of the other good.

Cross‐price elasticity is linked with shifts in demand too and it will be positive if the other good is a substitute and negative if the other good is a complement.

how much the quantity supplied of a good responds to a change in the price of that good

use of mid-point formula

percentage change in quantity supplied / percentage change in price

represents the benefit to consumers from making purchases in a market, total gain to buyers, difference between willingness to pay and the actual amount paid

area lying below the demand curve and above the (equilibrium) price

represent benefit to producers from selling in a market, total gains from supply, difference betweeen market price and the marginal cost for each unit of quanitity sold

area lying above the supply curve and below the (equilibrium) price

at competitive market equilibrium, output is produced until Marginal Benefit = Marginal Cost

-> all potential gains are realized, total surplus at its maximum

efficiency is achieved without any government intervention (magic of invisible hand)

to raise revenue

to support specific groups for equity

to alleviate "market failure"

generally tax is shared by both sides of the market regardless of which side it is officially imposed. The amount of the tax burden is determinded by price elasticities of demand and supply.

Tax burden falls more heavily on the less elastic side of the market

Buyers are only willing to pay 20 in advance, but then if the tax is imposed they change their willingness to pay to 15 only.