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Economics Review

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University of Toronto Mississauga
Lee Bailey

Economics Review 4/5/2012 7:31:00 PM Chapter 3 Quantity demanded: the amount of a good or service that consumers want to purchase during some time period. Law of Demand by Alfred Marshall: A basic economic hypothesis is that the price of product and the quantity demanded are related negatively, other things being equal. That is, the lower the price, the higher the quantity demanded; the higher the price, the lower the quantity demanded. What causes the demand curve to shift?  Consumers’ Income, Prices of Other Goods, Tastes, Population, Expectations about the Future. Normal Good: when the quantity demanded increases when income rises.  Its income elasticity is positive. Inferior Good: when the quantity demanded falls when income rises.  Its income elasticity is negative. Substitutes in consumption: goods that can be used in place of another good to satisfy similar needs or desires.  Ex) Coke vs. Pepsi Complements in consumption: goods that tend to be consumed together.  Ex) Gas & Car Quantity Supplied: The amount of a commodity that producers want to sell during some time period. Supply: The entire relationship between the quantity of some commodity that producers wish to sell and the price of that commodity, other things being equal. What causes the supply curve to shift?  Product’s own price, prices of inputs, technology, some government taxes or subsidies, prices of other products. Chapter 4 Elastic: demand is said to be elastic when quantity demanded is quite responsive to changes in price. Inelastic: when quantity demanded is relatively unresponsive to changes in price, demand is said to be inelastic. Price elasticity of demand: a measure of the responsiveness of quantity demanded to a change in the commodity’s own price. η = Percentage change in quantity demanded Percentage change in price Inelastic demand: Following a given percentage change in price, there is a smaller percentage change in quantity demanded; elasticity less than 1. Elastic Demand: Following a given percentage change in price, there is a greater percentage change in quantity demanded; elasticity greater than 1. Unit Elastic: when the dividing line between these two cases occurs when the percentage change in quantity demanded is exactly equal to the percentage change in price and so elasticity is equal to 1. When quantity supplied/demand is vertical, the elasticity of demand/supply is equal to zero; perfectly or completely inelastic. The long run demand/supply for a product is more elastic than the short-run supply. Perfect Elasticity: Purchasers are prepared to buy(sell) all they can at some price and none at all at a higher(lower) price. Numerical measure of elasticity equals to infinity. Cross elasticity of demand: A measure of the responsiveness of the quantity of one commodity demanded to changes in the price of another commodity. When asked for elasticity of demand of a situation, the supply curve shifts left or right. When asked for elasticity of supply of a situation, the demand curve shifts left or right. Chapter 5 Government controlled prices are policies that attempt to hold the price at some disequilibrium value. Price Floors: which is the minimum permissible price that can be charged for a particular good or service. Ex) minimum wage Price Ceiling: is the maximum price at which certain goods and services may be exchanged. Ex) Oil, natural gas, rent control. Dead weight loss: when there is a reduction in the overall surplus created by a price ceiling/floor. Chapter 6 Marginal Utility: The additional satisfaction obtained from consuming one additional unit of a commodity. Substitution effect: The change in the quantity of a good demanded resulting from a change in its relative price(holding real income constant). Law of Diminishing Marginal Utility: the utility that any consumer derives from successive units of a particular product consumes over some period of time diminishes as total consumption of the product increases. The substitution effect increase the quantity demanded of a good whose price has fallen and reduces the quantity demanded of a good whose price has risen.  For a normal good, the substitution effect words in the same direction.  For most inferior goods, the income effect only partially offsets the substitution effect. Income effect: the change in the quantity of a good demanded resulting from a change in real income(holding relative prices constant). The income effect leads consumers to buy more of a product whose fallen, provided that the product is a normal good.  For a normal good, the income and substitution effects work in the same direction.  For most inferior goods, the income effect only partially offsets the substitution effect. (Inferior)Giffen good: an inferior good for which the income effect outweighs the substitution effect so that the demand curve is positively sloped.  For a few goods, the income effect outweighs the substitution effect. For normal goods, the reduction in price increases real income and leads to a further increase in quantity demanded. (they both move in the same direction) For inferior goods, the price reduction causes an increase in real income that leads to a reduction in quantity demanded. Giffen good, the income effect is very large, which is a overall reduction in the quantity demanded. Consumer surplus: the difference between the total value that consumers place on all units consumed of a commodity and the payment that they actually make to purchase that amount of the commodity.  For any unit consumed, consumers surplus is the difference between the maximum amount the consumer is prepared to pay for that unit and the price the consumer actually pays. o Consumer surplus on the graph is located above the equilibrium and under the demand curve. Consumer Surplus = Value to buyers – Amount buyer pays Producer Surplus = Amount sellers receive – Cost to sellers Since amount buyer pays = amount sellers receive Total Surplus = Consumer Surplus + Producer Surplus Total Surplus = Value to buyers – Cost to sellers Budget Constraint- Budget Line F= w24+A-wZ; means your spending cannot exceed how much you work plus your assets. Budget line: PxX+PyY=M(income) Chapter 33 Open Economy: an economy that engages in international trade Closed Economy: an economy that has no foreign trade – autarky(self- sufficient country) Absolute advantage: the situation that exists when one country can produce some commodity at lower absolute cost than another country. Comparative advantage: the situation that exists when a country can produce a good with less forgone output of other goods than can another country. Ex) Country A has a comparative advantage over Country B in producing a product when the opportunity cost of production in Country A is lower. This implies, however that it has a comparative disadvantage in some other products. Paradox of Value: Diamond(Luxury) and Water(Necessity) Price theory Law of demand and supply; reasons for shifts of demand and supply curve Substitute, complements for change in demand or supply Elasticity – price, cross price, income Per unit tax (Pd=Ps+t) and subsidy (Ps=Pd+s), quota (with vertical line) Surplus calculation – CS, PS, TS, GS, LS (licensee surplus) International trade – quota (involved world price, shown horizontally), tariff, border control policy, licensee control Price floor (above equilibrium price) and price ceiling (below equilibrium price) Multiple Choice Questions If the price of an inferior good decreases, the IE cause the consumer to buy less of and the SE causes the consumer to buy more. When the per-unit tax is placed on an inferior good the consumer will increase consumption if, the IE dominates the SE. A consumer will respond to increase in the price of Good Y by purchasing more of Good X, when the goods are substitutes. A per-unit subsidy on c
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