ECON Sept 6 , 2012th 9/13/2012 8:16:00 AM
Micro Economic Theory
September 6 , 2012
WHAT IS ECONOMICS?
2 Major Parts
Micro small, individual. Individual people or groups of people.
Macro- aggregate (total)
THEORY OF CONSUMER
try to figure out what people will buy and how much people will buy
(demand and supply).
THEORY OF FIRM
what firms produce, how much they produce, and how do they produce it?
(competition and efficiency)
- labour market, capital market, income inequalities, environmental
inequalities ECON Sept 11 , 2012 th 9/13/2012 8:16:00 AM
Micro Economic Theory
September 11 . 2012
Economics is based on making choices, based on the concept of Scarcity
Scarcity individuals have unlimited desires, with limited resources. They
must make decisions on what to do. Not necessarily monetary (money)
decisions, but how do you go about making those decisions?
We make a choice based on the concept of Opportunity Cost
Opportunity Cost The opportunity cost of A is NOT doing B. The
opportunity cost of B is NOT doing A. We measure opportunity cost with the
best alternative forgone.
Opportunity Cost example you can study economics, you can go to a
movie or you can watch T.V. If you watch T.V the cost of watching T.V is
that you cant study economics OR you cant go to the movienot both. THE
BEST ALTERNATIVE FORGONE, NOT ALL OF THE ALTERNATIVES FORGONE.
Opportunity Cost in Production
Factors of Production
Inputs in production process
Land, Labor and Capital (wont discuss land often)
Anything that you make requires either labor, capital or both
Labor is people working and capital is machinery and equipment etc. (things
you make other things with to eventually sell)
Money is NOT capital
What you can produce depends on a Production Function
q=f(K,L) small q means a firm
Q=f(K,L) big Q means an industry
The sum of small q (firms output) equals big Q (the industry output)
in the equation K and L are both positive
Total Factor Productivity (Z)
it measures how productive your labor is and how productive your capital is
Human Capital how productive your work force is Total Factor Productivity is the sum of productive labor and productive
capital q=Z K L
Production Possibility Frontier (Curve)
It shows you the maximum possible combination of two goods that can be
produced given the factors of production
On the PPF there is a tradeoff
Graph is bowed outward from the origin because factors of production are
not homogeneous (the same). Some may be good at X and others good at Y
and maybe both.
At A 100 laptops and 0 books to produce books transfer factors of
production from laptops to books and therefore the amount of laptops will
decrease (qLaptops decreases) and the amount of books increase (qBooks
If your factors of production are homogenous then you get a straight line.
If your PPF is bowed out it illustrates INCREASING opportunity cost
The opportunity cost of X is how much Y you must give up to get one unit of
In class examples, your opportunity cost of books is how many laptops must
you give up to get one book (x-axis)
The opportunity cost of X will always equal the slope of the PPF
ARC SLOPE VS POINT SLOPE
Arc Slope = rise over run = the change in y divided by the change in x
Point Slope = the derivative of Y in respect to the derivative of X
The opportunity cost of Y is the inverse of the opportunity cost of X
If the PPF is bowing inward you have decreasing opportunity cost
See attainable and unattainable points on PPF in text
At point on PPF you would have to use 100% of your labor, which means you
will then be inside the PPF. The more inefficient you are the further inside
Point outside the PPF is not possible
China is very inefficient in comparison to the Americans
Where should we produce?
It depends Relative Price the relative price of X is equal to the price of X divided by
the price of Y
We should produce where the opportunity cost of X equals the relative price
of X (the opportunity cost of X is the slope of the PPF)
The relative price is a constant
Relative Price Line
Price of x divided by the price of y
Say that the price of X is 2 and the price of Y is 1, therefore the relative
price is 2 (2 divided by 1, it is a line with a slope of 2)
What happens if the price of X increases and Y does not? Price of X is 3 and
Price of Y is 1 the relative price and slope is now 3. It changes the tangency
line. Therefore you produce more X but you have to produce less Y. An
increase in the price of X has the exact same impact as the decrease in a
price of Y.
People change their consumption patterns based on incentives.
There are two ways to have economic growth
Increase in efficiency (move closer to potential)
Increasing potential (shift PPF out) ***
- you shift the PPF out by 1) changing the Labor (increase retirement age,
immigration, babies) 2) Change the Capital (economists argue that capital
accumulation is the best for shifting the PPF) 3) Technological Change
(developed randomly, invention of the new technology, innovation of