IndexCardTemplate Exam 1

The marginal cost is the opportunity cost of

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The marginal cost is the opportunity cost of producing one more unit of a good or service. Same thing as supply curve for good or service. The marginal benefit is the benefit that a person receives from consuming one more unit of a good or service. Same as demand curve for a good or service. If MB>MC, then more needs to be produced. If MC>MB, then fewer needs to be produced. Elasticity of demand = |%Qd / %P| (between points) or | (1/slope) x (P/Qd)| (at a point). Perfect inelastic: elasticity = 0 (vertical line) no response to change in price. Inelastic: elasticity < 1 (steep slope line) weak response to change in price. Unitarily elastic: elasticity = 1 (diagonal line) A 1-to-1 response to change in price. Elastic: elasticity > 1 (flat slope line) strong response to change in price. Perfectly elastic: elasticity = infinity (completely flat). Cause of high elasticity: large # of substitutes, more time passed since change in price, greater proportion of income spent on a product. Number of substitutes is a key factor. Elasticity as you move down demand curve (point elasticity of demand is infinity at vertical intercept, 1 at midpoint, and 0 at horizontal intercept). Effect of changing price on total revenue (TR = P x Q) If E > 1 then raising prices will decrease TR. If E = 1 then raising prices won’t change TR. If E < 1 then raising prices will increase TR. Revenue maximization always occurs where E = 1. Total revenue test: If demand is inelastic, an increase in price will increase TR. Einc =(%Qd)/(%inc). Ec =(%Qd)/(%P). Es =(%Qs)/(%P). Einc = Income Elasticity of Demand – As income changes, how does Qd of a good respond? Normal good Einc(+) and Inferior good Einc(-). Ec = Cross- price elasticity of demand – As prices of related goods changes, how does Qd of a good Es = Price elasticity of supply – as price changes, how does Qs respond? Consumer surplus is the max amount someone will pay minus the actual price. Producer surplus is the price actually received for the product minus the min price for which the producer will sell it. Total surplus is maximized when S=D, or when MC=MB. If Ed>Es , the producer surplus is greater than the consumer surplus. If Es>Ed , the consumer surplus is greater than the producer surplus. Deadweight loss is the efficiency loss that is due to either underproducing or overproducing. Monopolies, external costs, taxes, and price controls can cause DWL. ↓CS and ↓PS. Utilitarianism is a principle that states that we should strive to achieve “the greatest happiness for the greatest number.” Argue that income must be transferred from the rich to the poor up to the point of complete equality to achieve this end. Price floors:
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