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ECON 2030- “Hey, Charles”
Chapter 1: Economics and Economic Reasoning
Exam1: Exam2: Exam3: Final: A. Syllabus
1. Overview 2. Note on text: Chapter and page numbering 3. Important information about labs B. The basic basics 1. Definitions a. Economics - the study of how societies provision themselves with the material means of existence (goods and services) b. Economies - people doing stuff- provisioning ourselves with the material means of existence, interacting with one another c. Markets - one specific type of economy we are focusing on- where or how people exchange goods and services for MONEY (buyers and sellers) insert MARKET figure 2. What? How? For whom? what product (schools, coffee, clothing), who works for it (prisoners, child labor), who’s gonna get the stuff (whoever buys) a. Microeconomics- behaviors of individual people, businesses, industries, markets (world oil market), 3. Consequences? a. Macroeconomics- the big picture- the society as a whole (economic growth, employment/unemployment, inflation, income) C. Economic reasoning: the basics 1. Benefit: What you get $10- (do not subtract cost)- not always monetary 2. Opportunity cost: What you give up $100 (do not subtract benefit)- not all of the other options only the BEST ALTERNATIVE THE BENEFIT OF DOING ONE IS EXACTLY THE SAME AS THE COST OF DOING THE OTHER
3. Rationality a. Do something if benefit ≥ opportunity cost- at the time you make the decision with the information that was available, aka bad movie can be rational 4. Margin- “small increments” a. Either/Or decisions- left vs right hand $$$ b. How much/How many decisions-decisions made on the margin/ small increments, the change in the total from doing one more of something, do i take that 6th class? D. Economic Reasoning: Examples 1. A question-would it ever be rational to stop doing something that is profitable? 2. Either/or Choices a. Which book to purchase? if choices are equal= indifference i. Relevant costs which book to purchase? 1 is $16, 2 is $ benefits of #1: expected pleasure of reading; costs: expected pleasure of book 2, $ benefits of #2: expected pleasure, $6 saved; costs: expected pleasure of book 1 ONLY BOOK 2 IS RATIONAL YA DIGG ii. Sunk costs- in this case, $10; cost you bear no matter what (only going to be monetary in this class) 3. How Much/How Many Choices- not the total benefit/ total cost a. All-you-can-eat buffet- benefit- expected pleasure i. Relevant costs- monetarily (before you enter) ii. Sunk costs- money after you enter, already paid looking at the margin, the extra, each additional bite; rationally, you eat until you’re full 4. The answer a. Delta and the Mayor- Delta airlines announced that after a certain date, they will be cutting one daily flight from a certain city. The Mayor of that city unhappy- hurts the business community. Mayor says it doesn’t make sense bc it’s a profitable flight. For Delta, it freed up crew and equipment for a more profitable flight on another route. The flight given up was 65% full, but getting rid of it frees up equipment. They choose better routes instead, switching things up. i. Relevant costs^^^ B. Note on graphing: Appendix to Chapter 2 Charles’ happiness vs. # of cars on the highway per mile
red- outside the limits, do not have the resources blue-attainable, can produce more food if producing less clothing green- attainable, but inefficient yellow- attainable, efficient efficiency- if in order to get more of one thing, we have to give up some of another, (blue and yellow, every point on the PPF graph) trade can costs the individual more than the entire country D. How Trade Can Benefit All: An example
1. Assumptions a. Two Countries: England, Portugal b. Two Homogeneous Goods: Wine, Cloth- if the goods are exactly the same, then all we care about is the price c. All workers in a country are equally productive- (makes the numbers more simple) d. Resources: 100 worker/hours in each country 2. Relevant Concepts a. Productivity = output per worker per hour b. Absolute Advantage = highest productivity c. Comparative Advantage = lowest opportunity cost 3. Autarky: production = consumption- not trading with anyone else, you can only consume what you produce 4. Specialization and trade accordizng to Comparative Advantage 5. With Trade: consumption > production 6. Conclusions a. Gains from trade- both sides do work with least opportunity cost but get both products b. Winners and losers A. How Trade Can Benefit All: Conclusions
- Meaning of “mutually beneficial”- for BUYERS and SELLERS buyers get it at lower price sellers get a profit 2. Winners and Losers buy or sell if benefit > cost WINNERS- sellers -more production, more jobs, profit consumers that consume products because they’re cheaper (goods being imported)
LOSERS-
sellers that went out of business due to outsourcing/ importing consumers that see the price of the goods go up; if countries sell to other countries for more of a profit, they will charge their own citizens a higher price B. Buyers’ side of market: Demand ( D )
1. Definition- want and willingness to buy a product at various prices 2. Not to be confused with Quantity Demanded ( QD )- how much the consumer is willing to buy at a specific price 3. Determinant of Quantity Demanded a. Price ( P ) of good (-)- price change = demand change i. Link with Reservation Price- what the consumer thinks a product is worth- max price the consumer is willing to pay (-) inverse relationship (+) direct relationship 4. Determinants of Demand a. Income how much you earn, ability to buy something; more income= buy more and better things i. Normal good (+) name brands ii. Inferior good (-) generic brand, ramen noodles b. Price of related goods i. Substitutes: Increase price (+) gas stations next to each other, price of hamburgers goes up, price of hot dogs goes up ii. Complements: Increase price (-) frames and lenses, price PB goes down, demand for both PB and J go up c. Tastes and preferences (+) d. Expectations i. Future price (+) ii. Future income: normal good (+); inferior good (-) e. Number of buyers (+)
5. Graphically a. Change in Quantity Supplied: movement along curve b. Change in Supply: Shift of entire curve P Qs C. Market Equilibrium and Disequilibrium 1. Equilibrium: quantity supplied = quantity demanded 2. Disequilibrium a. Excess supply: Surplus b. Excess demand: Shortage c. Return to equilibrium B. The Method exam strategy 1. Who is DIRECTLY affected? a. i.e., Who would notice the change and alter their behavior? 2. How does behavior change? 3. What is the result? WHO Buyers Buyers Sellers Sellers HOW More (D up) Less (D down) More (S up) Less (S down) PRICE UP DOWN DOWN UP QUANTITY TRANSACTED
UP DOWN UP DOWN
more desirable less desirable more available less available C. Price controls
1. Price ceiling highest price at which a product can be sold a. Binding (i.e., effective) changes outcome— only if it’s BELOW the current market price b. Non-binding (i.e., ineffective) has no effect - if price ceiling is placed at $8/ gal— does not change price, at current price— does not change price c. Examples anti- price gouging laws; in a state of emergency gas can’t go to $20/gal binding ceiling- price goes down, quantity supplied decreases because not as much profit, quantity demanded increases because product is cheaper, quantity transacted goes down because there is less product—> PERSISTENT SHORTAGE 2. Price floor minimum price a. Binding (i.e., effective) must be placed above equilibrium b. Non-binding (i.e., ineffective) c. Examples guaranteed min price for farmers for things like milk and sugar binding floor- price of good goes up, quantity supplied goes up, quantity demanded goes down, quantity transacted goes down, PERSISTENT SURPLUS EXAM 2——————————————————
a. Definition percent by which suppliers change amount of good supplied b. Measure i. Elastic > ii. Inelastic < iii. Unit elastic = c. Determinant i. Time more time, more supply, more elastic d. Graphically B. Incidence of taxation
1. Motivation when business people are taxed for goods and they pass it on to customers 2. Tools a. Elasticity who bears the tax depends upon the customer sensitivity to the price taxes are on the purchase total, not individual item; excise taxes are per item (alcohol, cigarettes) b. Economic surplus = benefit - cost ES = CS + PS ES ≥ 0 i. Consumer surplus = benefit - cost (buyers) “reservation price - actual price” (integral of demand curve) Rational: buy if CS ≥ 0 ii. Producer surplus = benefit - cost (sellers) “actual price - reservation price” Rational: sell if PS ≥ 0 supply down buyers ∆ CS sellers ∆ PS all price up BAD
GOOD
bad + good NO EFFECT quantity transacted down
BAD
BAD
bad + bad BAD TOTAL BAD GUOUS bad + ambiguous BAD Pbuyer - Pseller = amount of tax
iii. Government revenue = amt of tax * quantity sold iv. Deadweight loss v. Examples
2. Examples a. Who bears the burden of a tax? b. How is economic surplus affected? example: Ed = 1. Es = 1.2 $10 excise tax imposed:
What percent of burden falls on buyers? = Es ÷ (Ed +Es) • 100
= 1.2 ÷ (1.8 +1.2) • 100 = 40%
Sellers? = Ed ÷ (Ed + Es) • 100
What is ∆ price for buyers? = percent • tax = 0.4 • 10 = $ ∆ price for sellers? 0.6 • 10 = $ A. Theory of the Firm: The Basics
1. Assumption businesses make decisions that maximize their profit 2. Profit = benefit - cost a. Definitions i. Total Revenue (TR) = price x quantity sold ii. Marginal Revenue (MR) how much/ how many; change in total revenue from selling one more unit of the good or service = ∆TR ÷ ∆Q = TR’(Q) iii. Total Cost (TC) α. Explicit dollars flowing out, labor, materials, utilities, accounting β. Implicit day job and associated salary given up, “dollars NOT in”(money from doing best alternative) iv. Marginal Cost (MC) change in total cost from producing one more unit = ∆TC ÷ ∆Q = TC’(Q) b. Accounting the profit which would be calculated by an accountant = total revenue - explicit cost c. Economic profit that would be calculated by an economist = total revenue - (explicit + implicit cost) = accounting profit - implicit cost = accounting profit from present - acct profit from best alternative
SHUT DOWN:
profit = TR - FC - VC = 0 - FC - 0 = -FC STAY OPEN: profit = ( P - AFC - AVC) * Q = (P - AVC) * Q - AFC * Q ≥ 0 = ≥ - FC staying open is at least as good as shutting down d. Case 4: P < AVC should close down i. Equilibrium quantity Q* = 0 ii. Profit econ prof < 0 e. Conclusions
- “price takers”
- demand at any firm is perfectly elastic
- demand and price are the same, (P=MR)
- profit = (P - ATC) * Q
- profit-maximizing rule: produce Q* where MR = MC [Q* is the quantity transacted at equilibrium] a) perfect competition: P = MR = MC b) in monopoly P > MR = MC
3. Firm behavior: short run fixed moment in time now to long run fixed moment in the future a. Case 1: P > ATC doing the best you can be i. Entry firms will enter market ii. Change in output/profit entry = more sellers= more supply= down price, up Qt in market (but down in firm) [lower price= lower profits] entry continues driving down profits until profit = 0 (long run result) market output up, firm output down profit will decrease b. Case 2: P = ATC no profit—long run result i. Entry/Exit neither ii. Change in output/profit neither change c. Case 3: ATC > P ≥ AVC opposite of case 1, shut down Profit = (P - ATC) * Q, Profit < 0 i. Entry/Exit sellers are leaving, supply decreases, price up, quantity transacted down
ii. Change in output/profit— price increases causes profits to increase (but still losses), exit continues until profit = 0 in long run d. Conclusions if profits at a time are positive or negative, firms will enter or exit the market which will always push the profits to 0 in the long run— case 2 is the only one that can persist for the long run because it is already there B. Monopoly
1. Market structure a. One seller i. Implications that seller IS the market b. Good with no close substitutes i. Implications demand is going to be more price- inelastic, customers can say no- no profit; if they want to sell more units, they have to lower the price = increase in total revenue (more) + decrease (lower price) = MR is ambiguous would need to know price elasticity of demand c. High barriers to entry i. Causes extremely high fixed costs (patents, resources) ii. Implications positive economic profit attracts entry but monopolist can keep out competition (if they have a patent) IF a monopolist is earning a positive economic profit in the short run, the barriers of entry will continue this trend into the long run; but there is no guarantee that the monopolist will be profitable 2. Monopolist in the short run: How much to produce? What price to charge? produce the amount such that MR = MC price should be the highest that the customers are willing to pay *PROFIT = (P - ATC) Q- (economic profit) a. Case 1: P > ATC stays in business, positive profit b. Case 2: P = ATC economic profit = 0, act profit high as best alternative c. Case 3: ATC > P ≥ AVC stay open to minimize losses due the fixed costs d. Case 4: P < AVC shut down, not enough demand e. Conclusions 3. Monopolist in the long run: How much to produce? What price to charge?two possibilities:
C. Unemployment: The Basics MOST IMPORTANT TOPIC (currently 5.0%)
1. Definitions and measures a. Unemployment Rate b. Weekly jobless claims a measure of the number of people who have made an INITIAL file for unemployment insurance in the week that is being studied (number of people who lost their jobs in a given week) 2. BLS Household survey to reflect entire civilian noninstitutional population a. Employed = a b. Unemployed = b c. Not in Labor Force = c d. Civilian Labor Force = a + b e. Civilian noninstitutional population = a + b + c over age of 16, not active duty military, not institutionalized (elderly homes, prison [2.2 mil people]) 3. “True” problem of unemployment a. Underemployment b. Discouraged workers c. Alternative measures of labor underutilization spending resources to give people skills B. Unemployment: Four Types 1. Frictional a. Definition individual people, individual business b. Short-term; desirable c. Examples unemployed person has required skills and location to do a job it takes time for the person to find a job/ business to find employee “search” unemployment helped by online job sites 2. Structural specific industry, region a. Definition b. Long-term; undesirable; policies c. Examples no skills match or significant geological separation growing industries- new skills, but skills come from experiences engineers move to CA or TX for jobs BOTH BELOW MEAN SURPLUS IN LABOR MARKET
3. Cyclical all industries, entire country ; macro economic a. Definition b. Short or long-term; very undesirable; policies c. Examples unemployment related to the business cycle (recession) 4. Seasonal a. Definition b. Short-term; inevitable; adjustments c. Examples cultural seasons (holidays, summer) B. Policy Goal: Full Employment 1. Definition the lowest sustainable rate of unemployment; zero unemployment is not achievable; no cyclical unemployment; labor market in equilibrium A. Inflation and Inflation Rates 1. Measurement: Fixed basket of goods and services fixed: only variable that will change is price a. Consumer Price Index (CPI) monthly release; measure of the total aggregate price level at the retail level; how prices are changing that affects average consumers; gives inflation rate at the retail level b. Producer Price Index (PPI) monthly release; buyer level; wholesale level; rate of inflation that affects sellers; gives inflation rate at the wholesale level c. Total and Core inflation rates exclude food and energy (they are extremely volatile, or change on a daily basis; makes it hard to see economic trends)— %∆CPI B. Uses for the inflation rate 1. KEY RELATIONSHIP : Nominal and Real values a. Real = Nominal – Rate of inflation *** nominal- #, how many dollars real- how much something is worth b. Example: Interest rates when is it most advantageous to borrow? at the lowest interest rate real or nominal? —always real when is it best to lend? highest real rate of interest need to know finance rate and rate of inflation when is it most advantageous to be saving? lending and saving can be seen as the same thing 2. Deflating a. Convert nominal values into real ones
ex: car built by American company in America, GDP car built by Japanese company in America, GDP house built in 1906 was part of GDP in 1906 tomato grown in Mexico and bought in US, part of GDP tomato grown in back yard, not part of GDP, not in market value of loaf of bread includes all ingredients- loaf is final good b. Stock and flow variables stock can be measured at a given point in time (unemployment) flow must be measured over time (GDP)
- Two methods of measuring: “a dollar spent is a dollar earned” A. Measuring GDP: Expenditure Approach (who is spending) in lab notes 1. y = C + I + G + X – IM, where a. Consumption (C) b. Investment (I) c. Government spending (G) d. Exports (X) e. Imports (IM) %change= (new-old)/old B. Economic Growth, GDP, and Inflation Rates 1. Definition 2. Expansion and recession expansion- period of time when economy is growing at or above long run rate (in US 2.5%) recession- substantially more slowly than long run rate real world definition: “technical” recession-a period which economic growth is negative for two or more consecutive quarters 3. Nominal growth, Real growth, and the Inflation rate a. If nominal growth > real growth, then inflation rate > 0 b. If nominal growth < real growth, then inflation rate < 0 c. Examples C. Money: the basics 1. Definitions money is stock, income is flow (must be over a period of time) 2. Five functions a. Means of payment i. Medium of exchange when money is used at the time of transaction, can be at different points in time ii. Means of unilateral payment one way transaction, using money to fulfill an obligation but there is no good or service in the
other direction (ex: donations, gifts, taxes, social security payment, tickets/ fines) b. Unit of account written, recorded c. Standard of value d. Store of value to be used to buy at a later date, saving, storing e. Standard of deferred payment get the product now, pay later
3. What gives Federal Reserve notes their value? B. Money: How (and why) is it measured? 1. Money as a Medium of Exchange a. M1 checking, cash 2. Money as a Store of Value a. Concept of Liquidity b. M2 savings, money market C. Money: How do commercial banks create it? 1. Model: Money Supply = MB x money multiplier a. Where: MB = Monetary Base = bank reserves + currency in circulation
Final Exam ————————————————
Money: How do commercial banks create it?
- Model: Money Supply = MB x money multiplier, where: a. MB = Monetary Base = bank reserves + currency in circulation MS= currency in circulation + checking deposits MB=currency in circulation + banking reserves MS= MB x money multiplier 2. Multiple Deposit Creation 3. Conclusions a. More deposits, more loans, greater money supply, greater multiplier b. Fewer deposits, fewer loan, smaller money supply, smaller multiplier 4. Examples tooth fairy when a loan is taken out, the bank reserves = act you have in bank amount of loan -money multiplier cannot be any less than 1 -all money is both an asset and a liability, asset for who it’s for, liability for whoever holds it (banks) -deposits and withdrawals do not change the monetary base, just the form by which it’s held- monetary base does not change -LOANS change multiplier and money supply
