Microeconomics: Foundations and Models – Study Notes

Microeconomics: Foundations and Models

Introduction to Microeconomics

Microeconomics is the branch of economics that studies the behavior of individual households, firms, and markets. It focuses on how these entities make decisions regarding the allocation of limited resources.

• Microeconomics analyzes specific markets, prices, and the factors that influence individual economic choices.

• Macroeconomics examines the economy as a whole, including aggregate measures like GDP, unemployment, and inflation.

• Example: Microeconomics would study how a coffee shop sets its prices, while macroeconomics would study national unemployment rates.

Objectives of Microeconomics Study

• Distinguish between microeconomics and macroeconomics

• Explain the three key economic ideas

• Discuss how society answers the three key economic questions

• Understand the language of economics

Understanding Economics

What is Economics?

Economics is the study of how people allocate scarce resources to satisfy unlimited wants. It involves analyzing choices made by individuals, businesses, and governments.

• Scarcity: A situation in which unlimited wants exceed the limited resources available to fulfill those wants.

• Trade-offs: Because resources are scarce, choosing one option means giving up another.

Three Key Economic Ideas

Economists use three fundamental ideas to analyze decision-making:

• People are rational: Individuals use all available information to achieve their goals and make choices that provide them with the greatest benefit.

• People respond to incentives: Changes in costs and benefits influence people's decisions and actions.

• Optimal decisions are made at the margin: The best decisions are made by comparing the additional (marginal) benefit to the additional (marginal) cost.

Marginal Analysis

• Marginal Benefit (MB): The additional benefit received from consuming or producing one more unit of a good or service.

• Marginal Cost (MC): The additional cost incurred from consuming or producing one more unit of a good or service.

• Decision Rule:

$\text{If } MB > MC, \text{ the action is worth doing}$ $\text{If } MB < MC, \text{ the action is not worth doing}$ $\text{Optimal decision: } MB = MC$

Three Fundamental Economic Questions

Every society must answer three basic economic questions due to scarcity:

1. What goods and services will be produced?

2. How will these goods and services be produced?

3. Who will receive the goods and services produced?

• Societies face trade-offs and must make choices when answering these questions.

Who Makes Economic Decisions?

Economic decisions are made by individuals, firms, and governments. The way these decisions are coordinated depends on the type of economic system (e.g., market economy, command economy, mixed economy).

• Market Economy: Decisions are made by individuals and firms interacting in markets.

• Command Economy: Decisions are made by the government.

• Mixed Economy: Features elements of both market and command economies.

The Language of Economics

Economics uses specific terminology to describe concepts, models, and relationships. Understanding this language is essential for analyzing and discussing economic issues.

• Key Terms: scarcity, trade-off, opportunity cost, marginal analysis, incentives, efficiency, equity.

• Example: Opportunity cost is the value of the next best alternative forgone when making a decision.

Summary Table: Key Economic Concepts

Concept	Definition	Example
Scarcity	Limited resources vs. unlimited wants	Time, money, raw materials
Trade-off	Choosing one thing over another	Studying vs. working
Marginal Benefit	Extra benefit from one more unit	Enjoyment from one more slice of pizza
Marginal Cost	Extra cost from one more unit	Cost of producing one more widget
Opportunity Cost	Value of next best alternative forgone	Choosing to attend college instead of working full-time

Additional Info

• Students are encouraged to read Appendix A (page 18) for further foundational concepts.