Final Exam Guide

Final Exam Guide - Microeconomics Final Exam PRICE...

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Unformatted text preview: Microeconomics Final Exam PRICE ELASTICITY Ed = %∆QD % ∆P E > 1 demand is Elastic E < 1 demand is Inelastic E = 1 demand is Unitary CONSUMER CHOICE The Budget Line: Change in income causes a shift in the budget line. Does not affect the slope of the budget line. Changes in price rotates the budget line, the slope changes and one of the intercepts changes Marginal utility is the additional utility from consuming an additional unit of a good The law of diminishing marginal utility As consumption of a good or service increases, marginal utility decreases • Maximize utility: MUx/Px = MUy/Py • If MUx/Px > MUy/Py Move away from y toward x • If MUx/Px < MUy/Py Move away from x toward y Indifference Curve: all combinations of two goods that make the consumer equally well off Optimal combination of two goods is the point on the budget line where an indifference curve is tangent to the budget line. Combination on the budget line for which MRSx = Px/Py PRODUCTION AND COST Marginal Product of Labor: MPL = ∆Q/∆L (additional output produced when one more worker is hired) Law of Diminishing Marginal Returns: As more and more of any input is added to a fixed amount of other inputs, its marginal product will eventually decline • Average Fixed Cost (AFC=TFC/Q) • Average Variable Cost (AVC=TVC/Q) • Average Total Cost (ATC= TC/Q) Marginal Cost (MC) is an increase in total cost from producing one more unit or output: MC= ∆TC/∆Q • At low levels of output o MC below the AVC and ATC Curves o AVC and ATC slope downward • At higher levels of output o MC above the AVC and ATC curves o AVC and ATC slope upward o MC Curve will intersect the minimum points of the AVC and ATC curves • LRATC = LRTC / Q • LRTC ≤ TC • LRATC ≤ ATC LRATC Curve is U-Shaped starting with economies of scale, followed by constant economics of scale, followed by diseconomies of scale Economies of scale is when the more output produced, the lower the cost per unit. The LRATC decreases as output increases. When long-run cost total cost rises proportionately less than output, production is characterized by economies of scale and the LRATC slopes downward Lumpy input is an input whose quality cannot be increased gradually as output increases, but must instead be adjusted in large jumps Microeconomics Final Exam Diseconomies of scale is when long-run total cost rises more than in proportion to output and the LRATC curve slopes upward. It is when the LRATC increases as output increases When both output and long-run total cost rise by the same proportion, production is characterized by constant returns to scale and the LRATC curve is flat. Constant returns to scale is when the LRATC is unchanged as output increases Minimum efficient scale (MES) is the lowest output level at the minimum cost per unit in the long run ISOQUANTS An isoquant is a curve showing all combinations of two inputs that can be used to produce a given level of output Marginal Rate of Technical Substitution (MRTS) is the slope of the isoquant. It is the rate at which a firm can substitute one input for another while keeping output constant (MRTS=MPN/MPL) HOW FIRMS MAKE DECISIONS Accounting Profit= Total Revenue – Accounting Costs Economic Profit = Total Revenue – All Costs (both explicit and implicit) Using MR and MC to Maximize Profits • Increase output whenever MR>MC • Decrease output when MR < MC • Average costs (ATC, AVC, AFC) is irrelevant to profit maximization MR=MC, Q*; in the short run: • If TR>TVC- Keep producing • If TR<TVC- Shut down • If TR=TVC- indifferent between shutting down and producing In the long run, if TVC>TR, Shut down and produce nothing. The loss will be the TFC in the short run. Want to produce where TR is above the TC curve and greatest distance. PERFECT COMPETITION Derive the Market Supply Curve by adding up the quantity of output supplied by all the firms in the marketplace Profit Maximization • Total Profit = TR-TC • MR>MC increase output • Maximize profit: MR=MC • Measure total profit (profit per unit = P – ATC) • If P > ATC The firm earns profit • If P <ATC the firm suffers a loss The Shutdown Price: • If P>AVC: produce • If P < AVC: shut down In the LR, firms earn “normal profit,” which is zero economic profit Constant Cost Industry: Horizontal long-run supply curve Remember, shift left is bad and shift right is good Supply Curve slopes up and Demand Curve slopes down Microeconomics Final Exam PERFECT COMPETITION Microeconomics Final Exam ...
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