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Chapter 6 - Economics 101 1 Efficiency and Exchange Chapter...

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Economics 101 Chapter 6: Efficiency and Exchange 1. Efficiency and Exchange -Market Equilibrium and Efficiency -Pareto Efficiency (or just Efficiency) : -Is a situation where there is no possible change that will help some people without harming others -Exists when an economy has reached a point where reallocating resources must harm one in order to help another -Equilibrium of Perfectly Competitive Markets is Efficient -Key Idea – The Mutual Benefits of Voluntary Exchange -In a voluntary transaction, both buyer and seller respectively will choose to buy and sell up to the quantity where: -For the Buyer : -The Marginal Benefits equal the price -For the Seller : -The Marginal Costs equal the price -Consequently, in a Competitive Equilibrium where all buyers and sellers are able to do what they would like to do, at the going price, the marginal benefits must equal marginal costs of the last unit that is traded -For the next-to-last unit traded, the marginal benefits exceeded the marginal costs, which meant that it was Rational for buyers and sellers to trade an additional (the last) unit -In a competitive equilibrium, the marginal benefits are equal to the marginal costs for the last unit traded, which means that it is NOT Rational for buyers and sellers to trade an additional unit -The Efficiency of a competitive equilibrium means that all the possibilities are creating economic surplus have been exploited -Perfect Competition -Every buyer and seller is a price-taker: -No buyer or seller can influence the price -Buyers and sellers both have: -Full information about the quantities of all products -Full information about all market prices
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-Perfect Competition implies NOBODY has any economic power! -Why Study Perfect Competition if it is Rare in Reality? -Some markets are “reasonably close” to being perfectly competitive or considered to be more efficient than any of the alternatives -Easier to understand other market forms if one understands perfect competition -Perfect competition provides a benchmark for comparisons -In reality, the benefits of using markets are easy for some and more difficult, if not impossible, for others to see -In recent years, it appears that more and more people are becoming convinced that in many circumstances, using markets combined with regulation and other government activities can lead to the best possible use of a country’s resources -It is clear, however, that there are significant and important limitations to what can be accomplished using market systems: -Income Distribution -Environmental Protection -Workplace Safety -Health and Education -Law Enforcement -Military Protection -Inefficient Markets -Chapter 9 will study market forms where market power exists, and Pareto efficiency is prevented from realization -Chapter 11 will analyze imperfect information -In practice, most markets are imperfectly competitive 2. Economic Surplus -Economic Surplus -Total Economic Surplus
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