ECON 102 Lecture Notes - Lecture 2: Pareto Efficiency, Price Mechanism, Market System

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lavenderalpaca886

12 Mar 2018

School

Simon Fraser University

Department

Economics

Course

ECON 102

Professor

Michael Solyom

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Document Summary

The scarcity problem: what to produce: wants are unlimited, how to produce: resources are scarce, for whom to produce. Neoclassical model: let"s start with some assumptions, 1. People have rational preferences among outcomes: 2. Individuals maximize utility and firms maximize profits: 3. People act independently on the basis of full and relevant information. Many buyers, many sellers competitive markets: interaction in these markets are pareto efficient and welfare. What to produce: whatever people want and are willing & able to pay. How to produce it: independent producers (firms, corporations, individuals) find ways to produce at the lowest cost, price competition in search of higher profits. For whom: whoever is willing and able to pay. Why do consumers want what they want. Markets are efficient because: the right things are produced, they are produced in the right quantities and with the lowest cost, they are going to the right people. Markets are not designed to achieve equality, only efficiency.

Related Questions

Question 26 pts

Which of the following is not a reason why specialization and trade are beneficial to society?

	Specialization fosters learning by doing, thus lowering the unit-costs of products
	Firms and workers become less dependent on others for producing goods and services

	The total output of economic goods may be increased even without any increase in resources
	Scarce resources are utilized more efficiently by exploiting differences among them

Question 27 pts

Laissez-faire capitalism limits the government's economic functions to the following, except:

	Protecting private property rights
	Establishing a legal environment to enforce contracts among individuals

	Setting prices of individual goods and services
	Preventing individuals and firms from coercing others

Question 28 pts

A production system where various workers concentrate on different specialized tasks to contribute towards a whole product is referred to as:

	Roundabout production
	A coincidence of wants

	Freedom of enterprise
	Division of labor

Question 29 pts

The market system is said to be characterized by "consumer sovereignty." This is because:

	A sovereign government determines which consumer goods will be produced
	Firms must match their production decisions to the consumers' choices

	The prices of consumer goods are regulated by a sovereign government
	Consumer goods are considered to be more important than capital goods

Question 30 pts

Consumers express self-interest when they:

	Seek the lowest price for a product
	Reduce business losses

	Exclude others in their thinking
	Collect economic profits

Question 311 pts

Refer to the above graph with three demand curves. An "increase in quantity demanded" would be illustrated by a change from:

	Point 5 to point 1
	Point 4 to point 1

	Point 2 to point 5
	Point 4 to point 6

Question 32 pts

The table below shows the weekly demand for hamburger in a market where there are just three buyers.

Refer to the above table. At a price of $6, the weekly market quantity demanded for hamburger is:

	17
	23

	24
	18

Question 33pts

If farmers withhold some of their current corn harvest from the market because they anticipate a higher price of corn in the near future, then this would cause a(n):

	Movement up along the current supply curve of corn
	Movement down along the current supply curve of corn

	Leftward shift in the current supply of corn
	Rightward shift in the current supply of corn

Question 34 pts

Which of the following will not cause the supply curve to shift?

	A technological change in the production of the good
	A change in the prices of other goods that producers could be producing

	A change in the costs of resources needed to produce the good
	A change in the price of the good

Question 35 pts

All of the following would affect the position of the supply curve for cranberries, except the:

	Price of agricultural land for cranberries
	Cost of fertilizers for cranberry production

	Popularity of cranberry drinks
	Development of a new pest control for cranberries

Question 36 pts

When high-school and college graduates apply for jobs in the labor markets,

	Job applicants and employers are both "buyers".
	Job applicants are the "sellers" while employers are the "buyers".

	Job applicants and employers are both "sellers".
	Job applicants are the "buyers" while employers are the "sellers".

Question 37 pts

Refer to the figure above, which shows three supply curves for corn. Which of the following would cause the supply of corn to shift from S₁ to S₂?

	A decrease in consumer incomes, assuming corn is a normal good
	The development of a more effective insecticide against corn rootworm

	An increase in the price of fertilizer
	A change in consumer tastes away from cornbread

Question 38 pts

Which is of the following statements is correct?

	If demand increases, then price will decrease
	If demand decreases, then price will decrease

	If price decreases, then demand will decrease
	If price increases, then demand will decrease

Question 39 pts

Which would be a likely cause of an increase in the demand for pizza?

	A decrease in the price of hamburger sandwiches
	A health report showing eating pizza reduces stress

	A reduced desire for take-out and fast-food dining
	A decrease in the prices of cheese, pepperoni, and mushrooms

Question 40 pts

A market for a product reaches equilibrium when:

	Price falls further after there is a shortage
	The price rises further after there is a surplus

	Buyers intend to buy a quantity equal to the quantity that sellers intend to sell
	The actual quantity bought by buyers equals actual quantity sold by sellers

Question 41 pts

A higher price reduces the quantity demanded for a product because:

	Individuals can afford less of the product and will switch to substitutes
	The financial assets of individuals increase

	Individuals will buy more of the product and less of its substitutes
	The purchasing power of individuals increases

Question 42 pts

The idea of the Law of Demand, as applied to electric cars, assumes which of the following to be constant?

	Price of electric cars
	How much sellers are charging customers for electric cars

	Price of gasoline cars
	Quantity of electric cars demanded by buyers

Question 43 pts

Use the following graph of the demand for coffee:

Refer to the above diagram of three demand curves for coffee. An increase in the price of coffee, other factors constant, would cause a:

	Movement from point a to point b
	Movement from point b to point a

	Shift from D₁ to D₂
	Shift from D₁ to D₃

Question 44 pts

Which of the following factors will decrease the current demand for a product?

	A decrease in the current price of a complementary product
	A decrease in the current price of a substitute product

	An increase in the current price of a substitute product
	An expected increase in the future price of the product

Question 45pts

In competitive markets, a surplus or shortage will:

	Cause shifts in the demand and supply curves that tend to eliminate the surplus or shortage
	Cause changes in the quantities demanded and supplied that tend to intensify the surplus or shortage

	Cause changes in the quantities demanded and supplied that tend to eliminate the surplus or shortage
	Never exist because the markets are always at equilibrium

Question 46 pts

Which of the following would cause a leftward shift in the supply curve for car washes?

	A decrease in taxes on car washes
	An increase in the price of car washing equipment

	A decrease in the price of water
	An increase in the number of cars in the city

Question 47pts

The market system automatically corrects a surplus condition in a competitive market by:

	Raising the price of the commodity in question while decreasing the quantity demanded
	Raising the price of the commodity in question while increasing the quantity demanded

	Reducing the price of the commodity in question while increasing the quantity demanded
	Reducing the price of the commodity in question while decreasing the quantity demanded

Question 48 pts

A leftward shift of the supply curve for oil in the United States is most likely to result from:

	A decrease in the world price of oil
	An increase in the costs of exploration and drilling for oil

	An increase in the subsidy for oil exploration and drilling
	A decrease in the fees that oil companies must pay for drilling licenses

Question 49 pts

A fall in the price of milk, used in the production of ice cream, will:

	Decrease the supply of ice cream
	Have no effect on the supply of ice cream

	Increase the supply of ice cream
	Cause a movement along the supply curve of ice cream

Question 50 pts

Refer to the above graph, which shows the market for beef where demand shifted from D₁ and D₂. The change in equilibrium from E₁ to E₂ is most likely to result from:

	An increase in the cost of cattle feed
	A decrease in consumer incomes

	A decrease in the tax on beef products
	An increase in the price of pork

Market Analysis Market Participants Market participants act as if they are rational, self-interested, and forward-looking. For example, financial managers try to maximize the present value of profits for their particular companies, rather than ignore future values. Companies pursue many goals, but it is a financial mistake for managers to pursue any goal that conflicts with the primary goal of maximizing their firm's profits. Decentralized decision making by individual market participants is more economically efficient that centralized decision making by government policymakers. For example, it is more economically efficient to have financial managers obtain financing for their particular companies than to have government obtain it. A high degree of competition among market participants is the most economically efficient disciplining mechanism. For example, highly competitive financial markets discipline financial managers to pay fair market interest rates on the debt securities issued by their particular companies. The market system of prices is the most economically efficient allocative mechanism. For example, it is more economically efficient to distribute a firm's corporate stock to those buyers who are willing and able to pay the market price of the stock than to have the government distribute the stock. It is economically efficient for market participants to buy low and sell high globally. For example, it is economically efficient for U.S. firms to sell their financial securities to the highest bidders, no matter where they live in the world economy. Market imperfections can create considerable risk to market participants. For example, because of market imperfections, firms operating in the international financial markets encounter foreign exchange rate risk, political risk, interest rate risk, and default risk. Consumer Sovereignty The principle of consumer sovereignty tells us that by making their dollar votes, consumers indirectly determine the quantity and quality of products that firms will produce. For example, it is not economically efficient for financial managers to obtain more financing for their particular firms than is needed for their firms to produce the profit-maximizing level of output demanded by consumers. Market Economy A highly competitive market economy is largely self-regulating, in the absence of substantial market imperfections, in that economic conditions cannot be substantially improved by government regulation or other types of government intervention beyond laissez-faire policies. For example, if a firm's corporate stock is overvalued by a market economy, market forces will tend to drive down the value of the stock to a market price at which it is neither overvalued nor undervalued. As if by an invisible hand, highly competitive market forces will tend to create a harmony of interests among individual market participants, in the absence of substantial market imperfections. Consequently, the interests of shareholders and other stakeholders are compatible. For example, in trying to maximize profits, firms produce employment, income, consumer products, and wealth for households, as well as tax revenue for government, which helps maximize consumer utility and maximize social welfare. In a market economy, resources, products, and assets flow to their highest valued uses among alternative uses. For example, the shares of firms' corporate stocks will be acquired by those market participants who most highly value them, as indicated by the fact that they are willing to pay the most to acquire them. The efficient economic role of government is limited to Laissez-Faire ("hands off") policies, which create very little intervention in a market economy. For example, government regulations of banking and securities industries to maintain healthy, reasonably profitable, consumer-oriented financial markets would not be needed in a highly competitive market economy in the absence of substantial market imperfections. In a market economy, it is economically efficient for each market participant to specialize according to comparative advantage in producing what they can produce relatively better than other market participants, rather than produce all the outputs they can produce absolutely better than others. For example, it is economically efficient for people who are relatively better at being financial managers than others, to specialize in financial management even if they are absolutely better than others in doing many other types of work. If all labor were allocated to its comparative advantage, then no possible reallocation of labor would exist that could increase the rate of return to labor (i.e., the wage). There is no such thing as a free lunch, because all resources, products, and assets in a market economy are scarce. For example, current federal government budget deficits are not free to current market participants in that the deficits must be financed by future tax increases and/or future decreases in government spending and/or future inflation. For additional information on the Market Economy click here. Marks, R. E. (2006, December). There Is No Such Thing As Free Lunch. Australian Journal of Management. 31(2). 1-7. Financial Decisions An efficient financial decision, practice, transaction, or condition is one that is optimal -- meaning best; it cannot be improved, from society's perspective. If there is some profitable way to improve some business practice that would benefit society, that practice is somewhat inefficient. Any change in a financial decision, practice, transaction, or condition that improves society is an efficiency improvement. For example, it is an efficiency improvement for a business to cut production costs by reducing waste (e.g., by reducing spending on unprofitable activity. A financial decision, practice, transaction, or condition is fair-- meaning just or equitable, if the financial benefits are distributed to those involved in proportion to how much they each voluntarily contributed to produce those benefits. For example, a financial practice that discriminates against some people on the basis of race, age, gender, nationality, or religion is unfair. For example, an unethical business practice is unfair. For additional information relating to Market Analysis and fair financial decisions, click on the following: Teaching Ethical Economic Practices to Business Managers. Johnston, C. (2009, October). The Proceedings of the Annual Conference of The International Academy of Business and Economics. Fairness is a necessary condition, but not a sufficient condition, for efficiency. All efficient financial practices are fair, but some fair practices may still fail to be efficient. For example, embezzling company funds is an unfair and inefficient, criminal financial activity. As another example, an ethical business practice that could be improved is fair but not efficient. Opportunity Cost Principle Opportunity cost principle: The efficient measure of the cost of any allocation of resources, products, money income, wealth, or time is its opportunity cost -- the value of the next best use. The opportunity cost of how one uses his or her resources is the value of the highest valued alternative use. The opportunity cost of one investment is the expected return on the next best investment available to the firm. For example, the opportunity cost of a firm using some of its profits to pay dividends to its stockholders would be the present value of future income those profits could have earned if invested in the firm's highest valued investment project.

Discussion Questions These questions stem from the Class Discussion Questions you will be anwering in the Discussion Board. Think about the questions and how they relate to the financial management principles above.

2. Applications: State the financial management principle that appears to be violated in each of the following cases and explain how it is violated:

(a) A corporation is maximizing sales growth and the price of its corporate stock is falling.

(b) A highly paid financial manager in the auto industry quit his job to set up his own small auto repair shop, which is expected to incur a loss for the first three years then earn normal profits.

Q3. The assumption of rational self-interest implies that people will choose to enrich themselves even if doing so violates the rights or property of others.

a. true

b. false

Q4. If you can earn $10 an hour as a retail clerk, $12 an hour as an office assistant, $16 an hour as a house painter, and $20 an hour repairing bicycles, what is your opportunity cost of working to repair bicycles?

a. $12 an hour

b. $10 an hour

c. $20 an hour

d. $16 an hour

Q5. In the graph of a production possibilities curve, both the horizontal and vertical axes measure the annual quantities of goods produced.

a. true

b. false

Q6. Scarcity arises because

a. international companies are slow to explore for new resources.

b. resources are finite and unable to meet all human wants and needs.

c. many countries waste goods because of inefficient political systems.

d. import taxes retard production.

Q7. A production possibilities curve with clothing and food on the axes shows which of the following?

I. A society cannot have an unlimited amount of each good.

II. For an efficient society, an increase in clothing production will necessitate a decrease in food production.

III. A society will always produce the maximum amount of both clothing and food.

a. II only

b. I only

c. III only

d. both I and II

Q8. All points on the production possibilities curve are efficient.

a. true

b. false

Q9. Economic growth can be pictured in a production possibilities curve diagram by

a. shifting the production possibilities curve out.

b. moving from right to left along the curve.

c. moving from left to right along the curve.

d. shifting the production possibilities curve in.

Q10. Suppose the current unemployment rate is 15 percent. If it rises to 20 percent,

a. the production possibilities curve will shift inward.

b. the economy will move closer to the production possibilities curve.

c. the economy will operate further inside the production possibilities curve.

d. the economy will move up along the production possibilities curve.

Q11. Clean air is a scarce resource.

a. true

b. false

Q12. Which of the following statements is FALSE?

a. A good is anything that gives satisfaction or happiness to individuals.

b. Wants may include humanitarian and altruistic goals.

c. Wants are unlimited and include all material and nonmaterial desires.

d. Economic goods are available in desired quantities at a zero price.

Q13. The current size of the U.S. labor force is less than 100 million workers.

a. true

b. false

Q14. The factors of production are

a. never as useful as people expect them to be.

b. valuable only because they are owned by corporations seeking to make a profit from them.

c. scarce resources.

d. abundant without limit on the planet.

Q15. Why do firms seek to use the least-cost combination of inputs?

a. because they won't be able to stay in business if they don't

b. because that is the combination that their employees prefer

c. because managers and supervisors find their jobs are easiest when the least-cost combination is used

d. because they want to keep costs low in order to appear to the media as a well-run business

Q16. Which one of the following best describes how economists view prices?

a. Low prices are good; high prices are bad.

b. High prices are good; low prices are bad.

c. The best price is a fair price.

d. Prices are signals of relative scarcity.

Q17. The person who creates a product innovation and brings it to market is providing the resource of

a. labor.

b. land.

c. entrepreneurship.

d. capital.

Q18. Gifts of nature used in the production process are considered

a. entrepreneurship.

b. labor.

c. land.

d. capital.

Q19. In a free market economy,

a. government decides what is produced, and producers decide who gets to consume it.

b. as a good becomes relatively more scarce, its price declines.

c. firms choose only to produce the most fashionable goods, regardless of the cost of production.

d. goods and services are allocated by a price system.

Q20. Resources are also known as

a. stocks, bonds, and other financial instruments.

b. minerals.

c. factors of production.

d. factories.

Q21. The size of the U.S. labor force has declined over the past 20 years as many jobs have been outsourced from the United States to other countries.

a. true

b. false

Q22. Which one of the following is TRUE?

a. The growth of the U.S. population over the next several decades will come from immigration.

b. Population growth makes a country poorer, because there are more mouths to feed.

c. Real per capita GDP can increase only if there is inflation.

d. Real per capita GDP can increase only if there is no inflation.

Q23. Which one of the following is FALSE?

a. The U.S. labor force will continue to grow through immigration.

b. Inflation stops economic growth.

c. Increased availability of reliable communication channels at lower and lower costs have led to companies relocating their manufacturing operations offshore.

d. The size of the U.S. labor force continues to grow despite many jobs being moved off-shore.

Q24. What is the purpose of a market system?

a. to facilitate efficient exchange

b. to encourage consumers to buy goods on credit

c. to ensure an equal distribution of income

d. to ensure that everyone is treated fairly

Q25. The market system is also called the price system because

a. people pay money in markets.

b. everything has a price tag.

c. rising prices are the signal to producers to make more of a particular good.

d. inflation is a disturbing problem.

Q26. Production refers to

a. any activity that causes a material conversion of an object.

b. any activity that results in the conversion of resources into goods and services that can be consumed.

c. any activity carried on by a firm, whether a corporation, partnership, or sole proprietorship.

d. physically producing material goods only.

Q27. An increase in the price of coffee, holding other things constant, will

a. decrease the demand for coffee.

b. increase the demand for coffee.

c. decrease the quantity of coffee demanded.

d. decrease the supply of coffee.

Q28. The supply curve shifts when the firm experiences a change in its production technology.

a. true

b. false

Q29. A surplus results when the quantity supplied exceeds the quantity demanded.

a. true

b. false

Q30. Table 3.1

Price per Constant-Quality Unit Quantity Demanded of Constant-Quality Units per Year Quantity Supplied of Constant-Quality Units per Year

$1.00 1,000 200

2.00 800 400

3.00 600 600

4.00 400 800

5.00 200 1,000

What condition characterizes a surplus?

a. Quantity supplied exceeds quantity demanded.

b. Quantity demanded exceeds quantity supplied.

c. Consumers are unhappy with the price.

d. Producers are unhappy with the price.

Q31. An increase in quantity demanded is caused by

a. an increase in income.

b. a decrease in the price of a complement.

c. a change in expectations about price in the future.

d. a decrease in the price of the good.

Q32. The demand curve is downward sloping because

a. price and quantity have a direct relationship.

b. price is always constant.

c. demand is based on supply.

d. price and quantity have an inverse relationship.

Q33. An increase in the price of one good will decrease the demand for a substitute good.

a. true

b. false

Q34. The market demand curve is the vertical summation of the demand curves of all the individuals in the market.

a. true

b. false

Q35. The equilibrium price of a good is a price that everyone is happy with.

a. true

b. false

Q36. Which one of the following would cause a rightward shift of the supply curve?

a. A new tax is imposed on production of the good.

b. Some firms that have been producing the good go out of business.

c. Firms producing the good find ways of lowering their production costs.

d. There is an increase in demand for the good.

Q37. Which of the following is a determinant of demand?

a. cost of production

b. number of suppliers

c. technology of production

d. income

Q38. The market demand curve for a particular good

a. will not be affected by any of the determinants of individual demand.

b. is the horizontal sum of each individual demand curve for the good.

c. will show a direct relationship between price and quantity demanded.

d. may be less than an individual demand curve for the good.

Q39. Table 4.4

Quantity of CDs Purchased Total Utility Marginal Utility

1 75

2 135

3 185

4 35

5 25

6 15

According to Table 4.4, what is the total utility when six CDs are purchased?

a. 65

b. 260

c. 120

d. 220

Q40. A rational consumer will never purchase a product when its

a. marginal utility is decreasing.

b. total utility is decreasing.

c. marginal utility is slightly positive.

d. marginal utility is negative.

Q41. The price elasticity of demand becomes relatively greater as more substitutes are easily available.

a. true

b. false

Q42. Which of the following statements is true with respect to total utility and marginal utility?

a. Marginal utility is always equal to total utility.

b. Total utility will always be negative when marginal utility is positive.

c. Total utility is minimized when marginal utility is zero.

d. Marginal utility can decline as total utility rises.

Q43. Table 4.3

Quantityof Soda Marginal Utility of Soda Quantityof Pizza Marginal Utility of Pizza

1 50 1 100

2 25 2 80

3 0 3 60

4 -25 4 40

After consuming what quantity of soda does the consumer in Table 4.3 experience diminishing marginal utility?

a. 2

b. 3

c. 1

d. 4

Q44. If the price elasticity of demand is 0.5, a 10 percent increase in the price will cause

a. the quantity demanded to decrease by 20 percent.

b. the quantity demanded to decrease by 50 percent.

c. the quantity demanded to increase by 50 percent.

d. the quantity demanded to decrease by 5 percent.

Q45. Which one of the following would make the demand for satellite subscription TV relatively less elastic?

a. The cost of administering the satellite service is lowered.

b. Cable TV service becomes less widely available.

c. Other networks of wireless entertainment become more widely available.

d. The cost of transmitting satellite signals is lowered.

Q46. A price increase will cause a relatively large drop in quantity demanded when

a. demand is perfectly inelastic.

b. the price elasticity of demand is 0.

c. there is very little time allowed for consumers to react.

d. the consumer has easy access to a number of substitute goods.

Q47. Table 4.6

Price Quantity Demanded

$20 90

$16 110

$12 130

$ 8 150

According to the data in Table 4.6, what is the elasticity of demand between a price of $20 and a price of $16?

a. 0.60

b. 0.75

c. 0.90

d. 1.25

Q48. Price elasticity of demand is the responsiveness

a. of the quantity demanded to changes in supply.

b. of the quantity demanded to changes in income.

c. of the quantity demanded to changes in price.

d. of the quantity demanded to changes in quantity.

Q49. Everyone who views the latest adventure movie in theaters will derive the same utility from seeing it.

a. true

b. false

Q50. The law of diminishing marginal utility asserts that total utility becomes negative when marginal utility begins to diminish.

a. true

b. false

ECON 102 Lecture Notes - Lecture 2: Pareto Efficiency, Price Mechanism, Market System

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