Econ Test 2

# Econ Test 2 - Test Two-Chapters 7 9 11 12 13 Chapter 7...

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Test Two-Chapters 7, 9, 11, 12, 13 Chapter 7 Equilibrium maximizes consumer and producer surplus o Consumer surplus is the difference between the price buyers would have been willing to pay and the price they actually had to pay. (saved money) Equal to the area below the demand curve and above the price line. o Producer surplus is the difference between the price sellers would have been willing to accept and the price they actually received as payment. (gained money) Equal to the area above the supply curve and below the price line To calculate surpluses, remember the formula for the area of a triangle is ½ base X height The burden of taxation to society is the loss of consumer and producer surplus caused by the tax o This loss of consumer and producer surplus from a tax is known as “deadweight loss.” Graphically the loss is shown by the “welfare loss triangle” The person who physically pays a tax is not necessarily the person who bears the burden of the tax. Who bears the burden of the tax depends on who is best able change his behavior in response to the tax, or who has the greater elasticity. o The more inelastic one’s relative supply and demand, the larger the burden of tax one will bear o The general rule about elasticities and tax burden is this: if demand is more inelastic than supply, demanders will pay a higher percentage of the tax. If supply is more inelastic than demand, suppliers will pay a higher share. More specifically: Burden on demander = E S / (E D + E S ) Burden on supplier = E D / (E D + E S ) A price ceiling is, in essence an implicit tax on producers and an implicit subsidy to consumers. o It is as if government places a tax on suppliers and then gives that tax revenue to consumers when they consume the good. Rent seeking is an activity designed to transfer surplus from one group to another. If demand is inelastic, suppliers have an incentive to restrict supply to raise the price because this will raise their revenue. When the supply of a good is inelastic, consumers have an incentive to hold the price down. o For example, the demand for food is inelastic. Farmers have an incentive to lobby government to restrict supply or to create a price floor for their commodities (sometimes called price supports) because they will be better off. o On the other hand, when the supply of a good is inelastic like that of rental- occupied housing, and demand rises, rental rates will rise significantly and consumers will scream for rent controls.

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o Government sometimes succumbs to political pressure for price controls. However, they create surpluses and shortages that only become more severe over time. In the long run, supply tends to be more elastic than in the short run Chapter 9 Accounting profit is explicit revenue less explicit cost. Economists include implicit revenue and cost in their determination of profit o Economic profit = (explicit and implicit revenue) – (explicit and implicit
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Econ Test 2 - Test Two-Chapters 7 9 11 12 13 Chapter 7...

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