Microeconomics Study Guide: Supply, Demand, Surplus, and Efficiency

Supply and Demand Analysis

Difference Between Supply and Demand

Supply and demand are fundamental concepts in microeconomics that describe how prices and quantities of goods are determined in a market.

• Supply: The quantity of a good or service that producers are willing and able to sell at various prices over a given period.

• Demand: The quantity of a good or service that consumers are willing and able to purchase at various prices over a given period.

• Market Equilibrium: The point where the supply and demand curves intersect, determining the equilibrium price and quantity.

• Example: If the price of apples rises, suppliers may offer more apples, but consumers may buy fewer.

Price Changes and Demand for Related Goods

Changes in the price of one good can affect the demand for another, especially if the goods are substitutes or complements.

• Substitutes: Goods that can replace each other. A rise in the price of one increases demand for the other.

• Complements: Goods that are used together. A rise in the price of one decreases demand for the other.

• Example: If the price of tea increases, the demand for coffee (a substitute) may rise.

Supply Curve and Cost Structure

Supply Curve and Firm's Cost Structure

The supply curve reflects the relationship between price and quantity supplied, which is influenced by the firm's underlying cost structure.

• Cost Structure: The combination of fixed and variable costs that determine how much it costs to produce each unit.

• Marginal Cost: The additional cost of producing one more unit. The supply curve is often based on the marginal cost curve above average variable cost.

• Example: If input prices rise, the firm's marginal cost increases, shifting the supply curve upward (to the left).

Input Prices and Supply Curve

Changes in input prices directly affect a firm's supply curve.

• Input Price Increase: Raises production costs, shifting the supply curve left (decreasing supply).

• Input Price Decrease: Lowers production costs, shifting the supply curve right (increasing supply).

• Equation: $MC = \frac{\Delta TC}{\Delta Q}$ (Marginal Cost = Change in Total Cost / Change in Quantity)

Technology and Supply Curve

Technological improvements can affect the supply curve by reducing costs or increasing productivity.

• Better Technology: Lowers production costs, shifts supply curve right (increases supply).

• Example: Automation in manufacturing reduces labor costs, increasing supply.

Number of Firms and Industry Supply Curve

The industry supply curve is the horizontal sum of all individual firms' supply curves.

• Increase in Number of Firms: Shifts industry supply curve right (more total supply).

• Decrease in Number of Firms: Shifts industry supply curve left (less total supply).

Consumer and Producer Surplus

Consumer Surplus

Consumer surplus is the difference between what consumers are willing to pay and what they actually pay.

• Definition: Area below the demand curve and above the market price.

• Equation: $CS = \int_{0}^{Q^*} [D(Q) - P^*] dQ$

• Price Increase: Reduces consumer surplus.

• Demand Increase (at constant price): Increases consumer surplus.

Producer Surplus

Producer surplus is the difference between the market price and the minimum price at which producers are willing to sell.

• Definition: Area above the supply curve and below the market price.

• Equation: $PS = \int_{0}^{Q^*} [P^* - S(Q)] dQ$

• Price Increase: Increases producer surplus.

• Supply Increase (at constant price): Increases producer surplus.

Pareto Efficiency

Definition and Application

Pareto efficiency is a state where resources are allocated in such a way that no individual can be made better off without making someone else worse off.

• Pareto Efficient Allocation: All possible gains from trade have been realized.

• Example: In a perfectly competitive market at equilibrium, the allocation is Pareto efficient.

Concept	Effect of Price Increase	Effect of Demand/Supply Increase
Consumer Surplus	Decreases	Increases (if price constant)
Producer Surplus	Increases	Increases (if price constant)

Additional info: Some questions were incomplete; academic context and definitions were added to ensure clarity and completeness.