Microeconomics Exam Study Guide: Demand, Supply, Elasticity, Surplus, and Production

Demand and Supply

Determinants and Shifts

The demand and supply curves represent the relationship between price and quantity demanded or supplied. Changes in determinants cause shifts in these curves, affecting market equilibrium.

• Determinants of Demand: Income, prices of related goods (substitutes and complements), tastes/preferences, expectations, number of buyers.

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

• Shifts: A change in a determinant shifts the curve left (decrease) or right (increase).

• Outcome of Shifts: Shifts in demand or supply change the equilibrium price and quantity.

Calculating New Equilibrium

When demand or supply shifts, the new equilibrium is found by solving the intersection of the new demand and supply equations.

• Example: If demand increases, the equilibrium price and quantity both rise.

• Equation: Set $Q_d = Q_s$ and solve for price and quantity.

Graphing

Graphical analysis helps visualize shifts and new equilibria. The demand curve slopes downward; the supply curve slopes upward.

• Shifts: Rightward shift = increase; leftward shift = decrease.

Coefficients on the Demand Equation

Coefficients indicate the sensitivity of quantity demanded to changes in price and other variables.

• Price coefficient: Shows how much quantity changes per unit price change.

• Other coefficients: Indicate effects of income, cross-price, etc.

Elasticity

Types of Elasticity

Elasticity measures responsiveness of quantity demanded or supplied to changes in price, income, or prices of other goods.

• Own Price Elasticity: $E_p = \frac{\%\ \text{change in } Q}{\%\ \text{change in } P}$

• Income Elasticity: $E_I = \frac{\%\ \text{change in } Q}{\%\ \text{change in Income}}$

• Cross-Price Elasticity: $E_{xy} = \frac{\%\ \text{change in } Q_x}{\%\ \text{change in } P_y}$

• Supply Elasticity: $E_s = \frac{\%\ \text{change in } Q_s}{\%\ \text{change in } P}$

Calculation and Interpretation

• Calculation: Use percentage changes or midpoint formula.

• Interpretation: Elastic (>1), inelastic (<1), unit elastic (=1).

• Relationship to Total Revenue: If demand is elastic, lowering price increases total revenue; if inelastic, lowering price decreases total revenue.

Consumer and Producer Surplus

Definitions and Calculation

Consumer surplus is the difference between what consumers are willing to pay and what they actually pay. Producer surplus is the difference between the price received and the minimum price sellers are willing to accept.

• Calculation: Area between the demand curve and price for consumer surplus; area between price and supply curve for producer surplus.

• Deadweight Loss: Loss of total surplus due to market inefficiency (e.g., price controls, taxes).

Market Dynamics: Price Changes, Floors, Ceilings, Taxes

Effects on Equilibrium

Government interventions and market changes affect equilibrium, surplus, and efficiency.

• Price Floors: Minimum price above equilibrium; causes surplus.

• Price Ceilings: Maximum price below equilibrium; causes shortage.

• Taxes: Shift supply or demand, create deadweight loss, affect surplus.

Production Theory

Short Run vs. Long Run

Production decisions differ in the short run (some inputs fixed) and long run (all inputs variable).

• Short Run: At least one input is fixed.

• Long Run: All inputs are variable.

Inputs and Marginal Product

Inputs are classified as fixed or variable. Marginal product (MP) is the additional output from one more unit of input.

• Marginal Product: $MP = \frac{\Delta Q}{\Delta L}$

• Diminishing Marginal Product: As more of an input is used, MP eventually decreases.

• Role of Technology: Improved technology increases productivity.

• Input Decision: Firms choose input levels to maximize profit.

Isoquants

Isoquants represent combinations of inputs that yield the same output. The slope indicates the rate at which one input can be substituted for another (MRTS).

• Definition: Curve showing all input combinations for a given output.

• Slope (MRTS): $MRTS = -\frac{MP_L}{MP_K}$

• Multiplicative Production Functions: For $Q = A L^\alpha K^\beta$, $MP_L = \alpha A L^{\alpha-1} K^\beta$, $MP_K = \beta A L^\alpha K^{\beta-1}$

• Convex Isoquants: Downward sloping, diminishing MRTS.

• Perfect Substitutes: Isoquants are straight lines; MRTS is constant.

• Fixed Factor Production Function: Isoquants are L-shaped; MRTS is undefined except at the kink.

• Drawing Isoquants: Use the production function to plot input combinations.

Returns to Scale

Returns to scale describe how output changes as all inputs are increased proportionally.

• Increasing Returns to Scale: Output increases more than inputs.

• Constant Returns to Scale: Output increases proportionally with inputs.

• Decreasing Returns to Scale: Output increases less than inputs.

Summary Table: Isoquants and Production Functions

Production Function Type	Isoquant Shape	MRTS
Multiplicative (Cobb-Douglas)	Convex	Diminishing
Perfect Substitutes	Straight lines	Constant
Fixed Factor	L-shaped	Zero except at kink

Example: For $Q = min\{L, K\}$, isoquants are L-shaped, indicating fixed proportions.

Additional info: Academic context was added to clarify formulas, examples, and definitions for each topic.