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EC 201 10-3-08

# EC 201 10-3-08 - o B max amt willing MU curve D curve Amt...

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EC 201 10-3-08 Assume: o 1. Consumer’s marginal benefit from buying/consuming is “marginal unity” A. measured in \$ of willingness to pay B. diminishing o 2. Consumer’s marginal cost is price of good Consumer takes market price as given o 3. Consumers are rational: they make the best possible decision A pop (soda, coke)/week Q MU P Buy? 0 - 1.50 1 3.00 1.50 yes: MU > P 2 2.50 1.50 yes: MU > P 3 2.00 1.50 yes: MU > P 4 1.50 1.50 yes: MU = P 5 1.00 1.50 no: MU < P 6. 0.50 1.50 no: MU < P Consumer’s optimal purchase rule: Q: MU=P What if price changes? We don’t become stupid. Still chooses Q: MU = P Individual consumer’s D curve is MU curve. Always, optimum comes where MB=MC. Market D curve is horizontal sum of individual D curves. This (stair step graph function) is “consumer surplus” o A. difference between max. amt. willing to pay + amt. actually paid

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Unformatted text preview: o B. max. amt. willing : { MU curve; D curve Amt. actually paid = P C.S. is area under D curve, about P line • Usually, C.S. : area of triangle = ½ bh • If P ↑, CS ↓ o 1. Q ↓ o 2. For those units bought CS is smaller per unit (P↑) • CS before price ↑: ABC • CS after price↑: ADE • Lost CS = EDBC • If P↓, CS↑ • ∆CS is our best measure of harm to consumers from P ↑ or benefit to consumers from P ↓ • Import Quota< Equilibrium Q of imports • CS before quota = ABC • CS after quota = ADE • Lost CS= EDBC • “quota rent” = profit for import license holder = EDFC • DBF= pure waste consumer’s loss > quota rent • Subsidy= negative tax • CS before = ABC • CS after = ADE • ↑ CS = CBDE • Cost of subsidy >↑ CS • BFD = pure waste...
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