Microeconomics Core Concepts: Study Notes and Review

Chapter 1: What is Economics?

Introduction to Economics

• Economics is the science of scarcity and choice. It studies how individuals and societies allocate limited resources to satisfy unlimited wants.

• Goods: Anything that gives a person utility or satisfaction. Goods can be tangible (e.g., pizza, clothing) or intangible (e.g., love, friendship).

• Bads: Items that lower utility or cause dissatisfaction (e.g., pollution).

Broad Categories of Resources

• Land: Natural resources used in production.

• Labor: Physical and mental effort of people.

• Capital: Produced goods used for further production (e.g., machinery).

• Entrepreneurship: The ability to organize resources for production, take risks, and innovate.

Scarcity and Choice

• Scarcity means that resources are limited relative to wants, requiring choices to be made.

• Every choice involves an opportunity cost: the value of the next best alternative forgone.

Opportunity Cost

• The cost of the next best alternative when a choice is made.

• Principle: The higher the opportunity cost, the less likely it is that an action will be taken.

Decision-Making and Marginal Analysis

• Decisions are made at the margin, weighing additional benefits and costs of a small (marginal) change.

• Marginal Benefit (MB): Additional benefit from one more unit.

• Marginal Cost (MC): Additional cost from one more unit.

• Efficiency is achieved when MB = MC.

Positive vs. Normative Economics

• Positive Economics: Describes and explains economic phenomena without value judgments ("what is").

• Normative Economics: Involves value judgments about what ought to be ("what should be").

Chapter 2: Production Possibilities Frontier (PPF) Framework

Understanding the PPF

• The Production Possibilities Frontier (PPF) shows the maximum combinations of two goods that can be produced with available resources and technology.

• Points on the PPF are efficient; points inside are inefficient; points outside are unattainable.

Opportunity Cost and Economic Growth

• Moving along the PPF involves a trade-off: producing more of one good means producing less of another.

• Opportunity Cost: The slope of the PPF shows the opportunity cost of one good in terms of the other.

• Economic growth shifts the PPF outward, allowing more of both goods to be produced.

Comparative Advantage

• A country or individual has a comparative advantage if they can produce a good at a lower opportunity cost than others.

Chapter 3: Supply and Demand Theory

Market Basics

• A market is any place where buyers and sellers interact to trade goods or services.

Demand

• Law of Demand: As the price of a good increases, the quantity demanded decreases, ceteris paribus.

• Demand Curve: Downward sloping, showing the inverse relationship between price and quantity demanded.

• Determinants of Demand: Income, tastes, prices of related goods, expectations, number of buyers.

• Change in Quantity Demanded: Movement along the demand curve due to a price change.

• Change in Demand: Shift of the demand curve due to changes in other factors (e.g., income, preferences).

Supply

• Law of Supply: As the price of a good increases, the quantity supplied increases, ceteris paribus.

• Supply Curve: Upward sloping, showing the direct relationship between price and quantity supplied.

• Determinants of Supply: Input prices, technology, expectations, number of sellers, taxes/subsidies.

• Change in Quantity Supplied: Movement along the supply curve due to a price change.

• Change in Supply: Shift of the supply curve due to changes in other factors.

Market Equilibrium

• Occurs where quantity demanded equals quantity supplied.

• Equilibrium Price: The price at which the market clears.

• Surpluses occur when quantity supplied exceeds quantity demanded; shortages occur when quantity demanded exceeds quantity supplied.

Chapter 4: Prices – Free, Controlled, Absolute & Relative

Types of Prices

• Absolute Price: The price of a good in money terms.

• Relative Price: The price of a good in terms of another good.

Price Controls

• Price Ceiling: A legal maximum price (e.g., rent control). Can cause shortages.

• Price Floor: A legal minimum price (e.g., minimum wage). Can cause surpluses.

Chapter 6: Elasticity

Price Elasticity of Demand

• Measures the responsiveness of quantity demanded to a change in price.

• Formula: $E_d = \frac{\%\ \text{change in } Q_d}{\%\ \text{change in } P}$

• Elastic Demand: $E_d > 1$ (quantity demanded is responsive to price changes)

• Inelastic Demand: $E_d < 1$ (quantity demanded is not very responsive)

• Unit Elastic: $E_d = 1$

Other Elasticities

• Income Elasticity of Demand: Measures responsiveness of demand to changes in income.

• Cross Elasticity of Demand: Measures responsiveness of demand for one good to changes in the price of another good.

• Price Elasticity of Supply: Measures responsiveness of quantity supplied to price changes.

Chapter 7: Consumer Equilibrium

Utility Maximization

• Consumers allocate income to maximize total utility.

• Marginal Utility (MU): Additional satisfaction from consuming one more unit.

• Law of Diminishing Marginal Utility: As more of a good is consumed, the additional utility from each extra unit decreases.

• Equilibrium is reached when the ratio of marginal utility to price is equal for all goods: $\frac{MU_x}{P_x} = \frac{MU_y}{P_y}$

Chapter 8: Production & Costs

Production and Cost Concepts

• Explicit Costs: Direct, out-of-pocket payments.

• Implicit Costs: Opportunity costs of using resources owned by the firm.

• Economic Profit: Total revenue minus explicit and implicit costs.

• Marginal Product (MP): Additional output from one more unit of input.

• Law of Diminishing Marginal Returns: As more of a variable input is added to a fixed input, the additional output eventually decreases.

• Marginal Cost (MC): Change in total cost from producing one more unit: $MC = \frac{\Delta TC}{\Delta Q}$

• Average Total Cost (ATC): $ATC = \frac{TC}{Q}$

Chapter 9: Perfect Competition

Characteristics and Output Decisions

• Many buyers and sellers, identical products, free entry and exit.

• Firms are price takers: $P = MR$

• Profit maximization rule: Produce where $MR = MC$

• In the long run, economic profit is zero due to entry and exit.

Chapter 10: Monopoly

Monopoly Structure

• One seller, unique product, high barriers to entry.

• Monopolist is a price maker, faces a downward-sloping demand curve.

• Profit maximization: Produce where $MR = MC$, but $P > MR$

• Monopoly may result in deadweight loss and reduced consumer surplus.

Comparison with Perfect Competition

• Perfect competition: $P = MR = MC$

• Monopoly: $P > MR = MC$

Chapter 22: International Trade

Comparative Advantage and Trade

• Countries benefit from trade by specializing in goods for which they have a comparative advantage.

• Trade allows consumption beyond the PPF.

• Terms of Trade: The rate at which goods are exchanged internationally.

• Tariffs: Taxes on imports, which raise the price of imported goods.

Review: Key Concepts

• Scarcity, opportunity cost, and the need for choice are central to economics.

• Markets allocate resources through the forces of supply and demand.

• Elasticity measures responsiveness to changes in price, income, or other goods.

• Firms maximize profit by equating marginal revenue and marginal cost.

• Market structures (perfect competition, monopoly, etc.) affect pricing and output decisions.

• International trade is driven by comparative advantage and increases overall welfare.