EDU ECO2003 Brief summary Revision.pptx

# In order to consume the maximum amount the consumer

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In order to consume the maximum amount, the consumer has to use up all his income (this combination lies on the budget line) At point A, the consumer is consuming a bundle of goods that uses up all his income, But notice, The consumer can still reach a higher indifference curve. Point B is also on the Budget line But we see that the consumer can reach an even higher Indifference curve, Point C is the highest IC the consumer can reach given his budget Notice that point D is better, but unaffordable A Good Y Good X B C D Point C is the highest IC the consumer can reach given his budget Notice that at this point, the slope of budget line = slope of IC

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The Production Function The production function is the relationship by which inputs are combined to produce outputs. Inputs = Factors of production Outputs = the objects that provide us with utility Think of this like a recipe … but instead of eggs and flour and butter, we use capital and labour Obviously, capital and labour by themselves are not enough to make output – you need raw materials as well. You can’t just make bread out of bakers and ovens – you need flour, yeast, salt, etc. But for simplicity of analysis, we will not model raw materials into our analysis separately, but there is no reason why you can’t include these intermediate products in the model.
Fixed and Variable Inputs Different factors take different lengths of time to change. For example, does it take the same amount of time to buy and set up a new factory as it does to hire a new worker? This introduces the idea of the short run and the long run Short run: The longest period of time during which at least one of the inputs cannot be varied Long run : The shortest period of time required to alter the amounts of all inputs in the process If the input can be changed in the short run, then it is a variable input . If the input cannot be changed in the short run (or if it can, it costs an enormous amount of money), then it is considered a fixed input .

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Summary Total, Marginal Average Product Curves AP is at a maximum where the line through the origin lies at a tangent to the TP curve. MP = 0, where TP is maximized. MP is maximized at the point of inflection MP intersects AP at the turning point of the AP When MP > AP, it pulls AP up. When MP < AP, it pulls AP down. Therefore, when MP = AP, AP must be at its maximum. The point of inflection, is the point of diminishing marginal returns. The importance of this point is that at this level of labour the marginal product of labour peaks.
Production in the Long Run Recall: the long run is the shortest period of time it takes for all inputs to become variable. So … Now, everything can change. We no longer assume K to be fixed , so we can vary the level of K. So, how do you draw the production function Q = 2KL ? We draw what are called isoquants Isoquant – “iso” means same; “Quant” for quantity.

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