PPFs and Other Diagrams
Output of consumer goods and services
C
A
B
Output of capital goods
All Other Operations
C
A
B
Heart Operations
Costs
Revenues
SAC1
SAC2
AR (Demand)
Output (Q)
Basic Supply and Demand
Analysis
Demand Curve
Price
P2
P1
P3
Demand
Q2
Q1
Q3
Quantity Demanded
Shift in demand
Price
P1
D2
Q2
Q1
Q3
D1
D3
Quantity Demanded
Consumer Surplus and Price Elasticity of Demand
Relatively Inelastic Demand
Price
Relatively Elastic Demand
Price
P1
Demand
Demand
Q1
Q2
Consumer Surplus and Price Elasticity of Demand
Relatively Inelastic Demand
Price
Relatively Elastic Demand
Price
P1
Demand
Demand
Q1
Quantity Demanded
Q2
Quantity Demanded
Perfectly Elastic Demand
Perfectly Inelastic Demand
Price
Price
Demand
P2
P1
P1
Demand
P3
Q2
Q1
Q3
Quantity
Q1
Quantity
Perfectly Elastic Supply
Perfectly Inelastic Supply
Price
Price
Supply
P2
P1
P1
Supply
P3
Q2
Q1
Q3
Quantity
Q1
Quantity
Relatively Elastic Supply
Relatively Inelastic Supply
Supply responds quickly to a change in
demand
Supply responds less than proportionately to a
change in price
Price
Price
Supply
P2
Supply
P1
P3
P2
P1
P3
D1
Q2
Q1
D2
Q3
D3
Quantity
D1
D2
Q1
D3
Quantity
Price
Supply
P2
P1
D1
Q1
Q2
D2
Quantity
Price of
DVD
players
Supply of
DVD
players
P2
P1
D1
Q1
Q2
D2
Quantity
demanded
Supply
Price of
Sterling in
Euros
P2
P1
Demand 1
Q1
Q2
Demand 2
Quantity of Pounds
Sterling
S1
Price
S2
P2
P1
P3
D1
Q1
Q2
Q3
D2
Quantity
Government Subsidy
S1
Price
Supply + Sub
P3
P1
Subsidy per
unit
P2
Demand
Q1
Q2
Quantity of
Council Housing
Government Subsidy
S1
Average
Weekly
Rent £
Supply +
Subsidy
Subsidy per
unit
P1
P2
Demand
Q1
Q2
Quantity of
Council Housing
Price
G
Supply pre
subsidy
D
Supply + Export
Subsidy
A
C
E
F
B
Demand
Q1
Q2
Quantity
Price
S1
S2
P1
P2
D1
Q1
Q2
Quantity
S2
Price
S1
F
C
A
E
B
D
D1
J
I
G
H
Quantity
Demand
Price
Supply post tax
Supply pre tax
P2
P1
Q1
Quantity
Supply curves with different price elasticity
Price
A
B
Price
Supply
Supply
Quantity
Price
C
Supply
Price
Quantity
Quantity
D
Supply
Quantity
Demand curves with different price elasticity
Price
A
B
Price
Demand
Demand
Quantity
Price
C
Supply
Price
Quantity
D
Demand
Demand
Quantity
Quantity
Supply
Price
P2
P1
D1
Q1
Q2
D2
Quantity
Price of
Good S
Demand
Quantity demanded of Good T
S2
Price
S1
P2
P1
D2
Q2
Q1
D1
Quantity
Price
S pre Price
subsidy
S pre
subsidy
P1
P1
D2
D2
Q1
Quantity
Q1
Quantity
Maximum Prices
Supply
Price
Free Market
Equilibrium
Pe
P max
Price Ceiling
Excess
Demand
Demand
Q2
Q1
Quantity
Maximum Prices
Supply
Rent
Free Market
Equilibrium
£s
Pe
P max
Price (Rent) Ceiling
Excess
Demand
Demand
Q2
Q1
Quantity of Rented
Property
Maximum Prices
Supply
Price
Pe
P max
Maximum Price
Demand
A
B
C
D
Quantity
Supply
Price
Excess
Supply
P min
Price Floor (Guaranteed)
Pe
Demand
Q3
Q2 Q1
Quantity of output
Price Support Schemes – Buffer Stocks
Supply
Price
Minimum Price
P min
Pe
Demand
A
B
C
Quantity
Price Support Schemes – Buffer Stocks
Supply
S2
Price
P min
Price Floor (Guaranteed)
Pe
Demand
Q3
Q1 Q4
Quantity
Price
S1
S2
P1
P2
Demand
Q2
Q3
Quantity
Increasing Market Supply – Consumer Benefits
Price
S1
S2
P1
P2
Demand
Q2
Q3
Quantity
Producer Surplus
Price
Supply
Equilibrium
Point
P1
Producer
Surplus
Demand
Q1
Quantity
Producer Surplus
Price
Supply
A
P1
B
C
D
Demand
Q1
Quantity
Consumer Surplus
Price
Supply
Consumer
Surplus
Equilibrium
Point
P1
Demand
Q1
Quantity
Market Equilibrium
Price
Supply
Equilibrium
Point
P1
Demand
Q1
Quantity
Market Failure Diagrams
Social Efficiency / Welfare Losses
Social Marginal
Cost
Costs
Revenues
Private Marginal
Cost (Supply)
P2
P1
Demand = Private
Benefit = Social Benefit
External
Cost
Q2
Q1
Output (Q)
Negative Externalities
Benefits
Costs
Marginal Social
Cost
Social
Equilibrium
a
c
b
P1
Marginal Private
Cost
Demand (Private Marginal Benefit)
Q2
Q1
Quantity of
Output (Q)
Tackling Externalities
Voluntary
Agreement
Aggregates Levy
Landfill Tax
Fuel Duty
Pesticides
EU C02 from cars
agreement
Taxation
Climate Change Levy
(CCL)
Negative Externalities
Emissions trading
scheme
Landfill permits
Pollution
Trading
Schemes
Tax Credits
Reduced VAT on
installation of central
heating
Regulation
Water quality
legislation
Loss of Social Welfare from Externalities
Benefits
Costs
Marginal Social
Cost
Social
Equilibrium
a
c
b
P1
Marginal Private
Cost
Deadweight loss of
economic welfare
Demand (Private Marginal Benefit) =
Social Marginal Benefit (SMB)
Marginal External Cost
Q2
Q1
Quantity of
Output (Q)
Merit Goods
Costs
Benefits
A
Supply
External Benefit
B
Private
Demand
Qp
Qs
Demand +
External
Benefits
Quantity of
Housing
Merit Goods and Welfare Loss
Costs
Benefits
A
Welfare loss where SMB>PMB
above output Qp
PMC = SMC
C
External Benefit
B
SMB
PMB
Qp
Qs
Output (Q)
The Demand Curve for Public Goods
Costs
Benefits
Value 2
Value 1
Demand from A
Q1
Demand from B
Output (Q)
The Demand Curve for Public Goods
Costs
Benefits
Demand A+B
Value 2
Value 1
Demand A
Q1
Demand B
Output (Q)
Socially Efficient Provision of Public Goods
Costs
Benefits
Demand A+B
Marginal Social
Cost (MSC)
Demand A
Qp
Demand B
Output (Q)
Negative Externalities
Costs
Benefits
SMC
External Cost
PMC
Net Welfare Loss
Marginal
External Cost
PMB = SMB
Qs
Qp
Output (Q)
Negative Externalities – Pollution Tax
Costs
Benefits
SMC
PMC + TAX
PMC
PMB = SMB
Qs
Qp
Output (Q)
De-Merit Goods and Health Awareness
Price
Marginal Social
Cost
Marginal Private
Cost
P1
Demand (Limited Information)
Demand (Full Information)
Q3
Q2
Q1
Quantity
Export Subsidy
Domestic
Supply
Price
World Price +
Sub
P3
World Price
P2
P1
Domestic Price
Domestic
Demand
Q3
Q1
Q2
Quantity
Coal Export Subsidy
Domestic Supply of
Coal
Price
per
tonne
World Price of Coal +
Subsidy
P3
World Price
P2
P1
Domestic Price
Domestic
Demand
Q3
Q1
Q2
Quantity
Import Tariffs
Price
Domestic
Supply
A
P2
P1
B
E
World Price +
Tariff
F
D
World Price
C
Domestic
Demand
G
Q3
Q1
H
Q2
Q4
Quantity
Consumer Surplus
Outward Shift in Demand
Outward Shift in Supply
Price
Price
Supply
S1
S2
Consumer
Surplus
P2
P1
P1
P2
D2
D1
Q1
Q2
Demand
Quantity
Q1
Q2
Quantity
An Outward Shift in Demand
An Inward Shift in Demand
Price
Price
SRS
S1
P3
P2
P1
P1
D3
D2
D1
D1
Q1
Q2
Quantity
Q1
Q3
Quantity
An Outward Shift in Market Demand –
An Outward Shift in Market Demand –
Short Run Market Supply is Inelastic
Long Run Market Supply is more Elastic
Price
Price
SRS
SRS
P1
P1
P2
P2
LRS
a
b
D2
D2
D1
Q1
Q2
Quantity
D1
Q1
Q2 Q3
Quantity
An Outward Shift in Demand and a Rise in Supply
An Inward Shift in Demand and a Fall in Supply
Price
Price
S2
S1
S1
S2
P2
P1
P1
P2
D3
D1
D1
D2
Q2
Q1
Quantity
Q1
Q2
Quantity
An Outward Shift in Coffee Demand and a Rise in Coffee Supply
S1
S2
P1
P2
D2
D1
Q1
Q2
Quantity
An Outward Shift in Oil Demand when Supply is Inelastic
S1
P2
P1
D2
D1
Q1
Q2
Quantity
S1
Price of DVD
players
P2
P1
D2
D1
Q1
Q2
Quantity of
DVD players
Price
S1
S2
P1
P2
D1
Q1
Q2
Quantity
An Outward Shift in Supply
An Inward Shift in Supply
Price
S2
Price
S1
S1
S3
P2
P1
P1
P3
D1
D2
Q2
Q1
Quantity
Q1
Q3
Quantity
Indirect Taxes and Elasticity of Demand
A Tax when Demand is Price Inelastic
A Tax When Demand is Price Elastic
Price
Price
S + Tax
S + Tax
S1
S1
P2
P2
P1
D1
P1
D1
Q2
Q1
Quantity
Q2 Q1
Quantity
Price
Supply
P2
P1
P3
Q3
Q1
Q2
Quantity
Price
Supply
P5
P4
P3
P2
P1
Q1
Q2
Q3
Q4 Q5
Quantity
Price
S3
S1
S2
Decrease in
Supply
Increase in
Supply
P1
Q3
Q1
Q2
Quantity
Theory of the Firm Diagrams
Fixed Costs
Costs
Total
Fixed Cost
£2000
£1000
Average Fixed
Cost
1
2
Output (Q)
Short Run Cost Curves
Costs
Marginal Cost
(MC)
Average Total
Cost (ATC)
Average
Variable Cost
(AVC)
Average Fixed
Cost (AFC)
Output (Q)
Short Run Cost Curves
Costs
A
Output (Q)
Increase in Variable Costs
Costs
MC2
AC2
Marginal Cost
(MC)
Average Total
Cost (ATC)
AVC2
Average
Variable Cost
(AVC)
Output (Q)
The Long Run Average Cost Curve
Costs
SRAC1
SRAC3
SRAC2
AC1
AC2
AC3
Q1
Q2
Q3
Output (Q)
The Long Run Average Cost Curve
Costs
SRAC1
SRAC3
SRAC2
AC1
LRAC
AC2
AC3
Q1
Q2
Q3
Output (Q)
The Minimum Efficient Scale (MES)
Costs
SRAC1
SRAC3
SRAC2
LRAC
Economies of scale (falling LRAC) due to
increasing returns
Diseconomies of scale (rising LRAC) due to
decreasing returns to scale
Minimum
Efficient
Scale
Output (Q)
Economies of Scale and Profits
MC1
Costs
Profit at Price P1
Profit at Price P2
SRAC1
P1
SRAC2
P2
MC2
AR
(Demand)
MR
Q1
Q2
Output (Q)
Different output levels (1)
Costs
MC
ATC
AR
(Demand)
MR
A
B C
D
Output (Q)
Different output levels (2)
Costs
MC
ATC
AR
(Demand)
MR
A
B
C D
Output (Q)
Monopoly Price and Output in the Short Run
Revenue
Cost and
Profit
ATC
MC
P1
AC1
Demand (AR)
Q1
MR
Output (Q)
Monopoly versus Competition
Revenue
Cost and
Profit
A
D
B
E
LRAC = LRMC
C
Monopoly
Demand (AR)
MR
Q1
Qc
Output (Q)
Monopoly versus Competition (Welfare Loss)
Revenue
Cost and
Profit
A
P1
Monopoly Profit
at Price P1
Pc
Deadweight
Welfare Loss
B
LRAC = LRMC
C
Monopoly
Demand (AR)
MR
Q1
Qc
Output (Q)
Natural Monopoly
Revenue
Cost and
Profit
LRAC
LRMC
Demand (AR)
Output (Q)
Natural Monopoly – losses and profits
Profit at
price P1
Revenue
Cost and
Profit
Loss at
price P2
P1
AC1
LRAC
AC2
LRMC
P2
Demand (AR)
MR
Q1
Q2
Output (Q)
Benefits from Cross Subsidisation
Revenue
Cost and
Profit
Revenue
Cost and
Profit
Monopoly
Demand (AR)
AC
AC
MC
MC
AR
MR
MR
Output (Q)
Output (Q)
Barriers to Entry – Blockaded Entry
Revenue
Cost and
Profit
A
P1
D
E
Pc
AC = MC (Potential
Entrant into the market)
B
C
LRAC = LRMC (Existing
Monopolist)
Monopoly
Demand (AR)
MR
Q1
Qc
Output (Q)
The Shut Down Price
ATC
MC
Costs,
Revenues
P1
AVC
AR
(Demand)
P2
MR
AR2
MR2
Q2
Q1
Output (Q)
The Shut Down Price
ATC
MC
Costs,
Revenues
AVC
A
AC1
B
P1
C
AR2
MR2
Q1
Output (Q)
The Short Run Supply Curve
ATC
MC = supply
Costs,
Revenues
AVC
P2
Break-Even Price
P1
The Shut Down Price
Q1
Output (Q)
Profits and an Increase in Variable Costs
Profit at Price P2
Costs
SRAC2
Profit at Price P1
Revenues
MC2
SRAC1
P2
AC2
P1
MC1
AC1
AR
(Demand)
MR
Q2
Q1
Output (Q)
Total Revenue and Cost (1)
Revenue
Cost and
Profit
Total Cost (TC)
Profit Max
Revenue Max
Total Revenue
(TR)
Max Profit
Min Profit
Q2
Total Profit
Q1
Q4
Q3
Output (Q)
Total Revenue and Cost under Perfect Competition
Revenue
Cost and
Profit
Total Cost (TC)
Total Revenue
(TR)
Break Even
TR=TC
Q1
Q2
Output (Q)
Multi Choice Questions on This
Revenue
Cost and
Profit
Total Cost (TC)
G
Total Revenue
(TR)
C
F
B
A
0
D
E
H
Output (Q)
Total Revenue with a Perfectly Elastic Demand Curve
Revenue
Cost and
Profit
Total Revenue
(TR)
£6
Average Revenue
(AR) = Marginal
Revenue (MR)
£3
1
2
Output (Q)
Total Revenue with a downward sloping demand curve
Revenue
Cost and
Profit
Total Revenue
(TR)
Marginal Revenue
(MR)
Average Revenue
(Demand) AR
Output (Q)
Total Revenue with a downward sloping demand curve
Revenue
Cost and
Profit
Total Revenue is
maximised when
MR = 0
Total Revenue
(TR)
Price elasticity of
demand = 1 at
this output
Marginal Revenue
(MR)
Average Revenue
(Demand) AR
Output (Q)
Demand Curves with Different Elasticity and Total Revenue
Market A
Market B
Price
Higher revenue from reducing the
price from Pa to Pb (the gain in
quantity sold more than offsets
the lower price per unit)
Price
Demand in segment B of the
market is relatively inelastic. A
higher unit price is charged and
total revenue also increases
Pb
Pa
Pa
Pb
ARa
ARb
Qa
Qb
Quantity
Qb Qa
Quantity
Profit Maximisation and Sales Revenue Max
Costs
Profit Max at Price P1
Revenue Max at Price P2
SRAC
MC
P1
P2
AC1
AC2
AR
(Demand)
Q1
Output (Q)
Q2
MR
Contestable Markets and The Conduct of Firms
Costs
Revenues
SRAC
MC
P1
Normal Profit
output where
AC=AR
Profit Max at
Price P1
P2
AR (Monopoly)
MR
Q1
Q2
Output (Q)
The Kinked Demand Curve
Costs
Revenues
Raising price above P1
Demand is relatively elastic
Assume we start out at P1 and Q1:
Firm loses market share and some
total revenue
Will a firm benefit from raising price above P1?
Will it benefit from cutting price below P1?
MC1
P1
Reducing price below P1
Demand is relatively inelastic
Little gain in market share – other firms
have followed suit
Total revenue may still fall
AR
Q1
Output (Q)
MR
The Kinked Demand Curve – Rising MC
Costs
Revenues
MC1
P1
AR
Output (Q)
Q1
MR
The Kinked Demand Curve – Rising MC
Costs
Revenues
MC3
MC2
P2
P1
MC1
AR
Q2
Output (Q)
Q1
MR
Introduction to Game Theory
Two prisoners are held in a separate
room and cannot communicate
They are both suspected of a crime
They can either confess or they can
deny the crime
Payoffs shown in the matrix are years
in prison from their chosen course of
action
Decisions made under uncertainty
Prisoner A
Confess
Deny
Confess
(3 years, 3 years)
(1 year, 10 years)
Deny
(10 years, 1 year)
(2 years, 2 years)
Prisoner B
Introduction to Game Theory (2)
The equilibrium in the Prisoners’
Dilemma occurs when each player takes
the best possible action for themselves
given the action of the other player
The dominant strategy is each prisoners’
unique best strategy regardless of the
other players’ action
Best strategy? Confess?
A bad outcome – prisoners could do
better by both denying – but once
collusion sets in, each prisoner has an
incentive to cheat!
Prisoner A
Confess
Deny
Confess
(3 years, 3 years)
(1 year, 10 years)
Deny
(10 years, 1 year)
(2 years, 2 years)
Prisoner B
Price Fixing Cartels
Individual Firm
Industry
MC
MC (industry)
AC
Demand
MR
Firms Output
Industry Output
Price Fixing Cartels
Individual Firm
Industry
MC
AC
P(cartel)
P(cartel)
MC (industry)
AC
Demand
MR
Quota
Firms Output
Industry
Output
Price Fixing Cartels
Individual Firm
Industry
MC
AC
P(cartel)
P(cartel)
MC (industry)
AC
Demand
MR
Quota
Firms Output
Industry
Output
Allocative Efficiency
Costs
MC (Supply)
Revenues
Consumer
Surplus (CS)
P1
Producer
Surplus (PS)
AR
(Demand)
Q1
Output (Q)
Natural Monopoly and Efficiency
Costs
Revenues
P1
Profit Maximisation
AC1
Long Run Average
Cost (LRAC)
Long Run Marginal
Cost (LRMC)
AR (Demand)
MR
Q1
Q2
Output (Q)
Natural Monopoly and Efficiency
Cost per
Unit
Long Run Average
Cost (LRAC)
Constant returns to scale
Minimum Efficient
Scale
Output (Q)
Price Discrimination (1st Degree)
Price (P)
P1
P2
Equilibrium output with perfect price
discrimination – the monopolist will sell
an extra unit providing that the next
unit adds as much to revenue as it
does to cost
P3
P4
AC = MC
P5
AR (Market Demand)
MR
Q1 Q2
Q3
Q4
Q5
Quantity of Output (Q)
Peak and Off Peak Pricing
Price (P) and
Costs
Supply (Marginal
Cost)
Price Peak
Price Off-Peak
Peak Demand
MR Peak
Off-Peak
Demand
MR Off-Peak
Output Off-Peak
Output Peak
Output
Price Discrimination (1)
Market A
Market B
Price
Price
Profit from selling to
market A – with a
relatively elastic
demand – and
charging a lower price
Demand in segment B of
the market is relatively
inelastic. A higher unit
price is charged
Pb
Pa
MC=AC
MC=AC
ARa
MRa
MRb
Qa
Quantity
Qb
ARb
Quantity
Perfect Competition (1)
Individual Firm’s Costs and Revenues
Market Demand and Supply
Price (P)
Price (P)
MC (Supply)
Market
Supply
AR (Demand) = MR
P1
P1
AC
AC1
Market
Demand
Q1
Output (Q)
Q2
Output (Q)
Perfect Competition – Sub Normal Profits
Individual Firm’s Costs and Revenues
Market Demand and Supply
Price (P)
Price (P)
MC
Market
Supply
AC
AC1
AR = MR
P1
Market
Demand
Q1
Output (Q)
Q2
Output (Q)
Perfect Competition (2) Increase in Market Supply
Individual Firm’s Costs and Revenues
Market Demand and Supply
Price (P)
Price (P)
MC (Supply)
Market
Supply
AR1 = MR1
P1
P1
MS2
AC
P2
P2
P2
AR2 = MR2
Market
Demand
Q1
Q2
Output (Q)
Q3
Output (Q)
Comparing Monopoly with Perfect Competition
Competitive Market
Pure Monopoly
Price (P)
Price (P)
Market
Supply
Market
Supply
P mon
Net loss of
producer surplus
P comp
Monopoly
Demand
Market
Demand
MR
Q1
Q2
Q1
Output (Q)
Welfare Loss Under Pure Monopoly
Competitive Market
Pure Monopoly
Price (P)
Price (P)
Market
Supply
Market
Supply
P mon
Net loss of
consumer surplus
A
B
D
P comp
Net loss of
producer surplus
C
Monopoly
Demand
Market
Demand
MR
Q1
Q2
Q1
Output (Q)
Pure Monopoly and Scale Economies
Competitive Market
Pure Monopoly
Price (P)
Price (P)
Competitive
Supply (MC)
Market
Supply
Monopoly
Supply with
Scale
Economies
P comp
P mon
Monopoly
Demand
Market
Demand
MR
Q1
Q1 Q2
Output (Q)
Profit Maximisation and a Rise in Demand
Profit Max at Price P2
Costs
Profit Max at Price P1
SRAC
P2
MC
P1
AC1
AC2
AR2
AR1
(Demand)
MR2
Q1
Output (Q)
Q2
MR1
Minimum Efficient Scale (MES)
Cost
per
unit in
the
long
run
LRAC
Falling LRAC – Economies of Scale (Increasing
Returns to Scale)
Rising LRAC – Diseconomies of Scale (Decreasing
Returns to Scale)
MES
Output (Q)
Minimum Efficient Scale (MES) and Market Size
Costs
per
unit in
the
long
run
(ATC)
LRAC1
LRAC2
LRAC3
MES1
MES2
Output (Q)
MES3
Loss of Social Welfare from Externalities
Benefits
Costs
Marginal Social
Cost
Social
Equilibrium
a
c
b
P1
Marginal Private
Cost
Deadweight loss of
economic welfare
Demand (Private Marginal Benefit) =
Social Marginal Benefit (SMB)
Marginal External Cost
Q2
Q1
Quantity of
Output (Q)
Merit Goods
Costs
Benefits
A
Supply
External Benefit
B
Private
Demand
Qp
Qs
Demand +
External
Benefits
Quantity of
Housing
Merit Goods and Welfare Loss
Costs
Benefits
A
Welfare loss where SMB>PMB
above output Qp
PMC = SMC
C
External Benefit
B
SMB
PMB
Qp
Qs
Output (Q)
The Demand Curve for Public Goods
Costs
Benefits
Value 2
Value 1
Demand from A
Q1
Demand from B
Output (Q)
The Demand Curve for Public Goods
Costs
Benefits
Demand A+B
Value 2
Value 1
Demand A
Q1
Demand B
Output (Q)
Socially Efficient Provision of Public Goods
Costs
Benefits
Demand A+B
Marginal Social
Cost (MSC)
Demand A
Qp
Demand B
Output (Q)
Negative Externalities
Costs
Benefits
SMC
External Cost
PMC
Net Welfare Loss
Marginal
External Cost
PMB = SMB
Qs
Qp
Output (Q)
Negative Externalities – Pollution Tax
Costs
Benefits
SMC
PMC + TAX
PMC
PMB = SMB
Qs
Qp
Output (Q)
De-Merit Goods and Health Awareness
Price
Marginal Social
Cost
Marginal Private
Cost
P1
Demand (Limited Information)
Demand (Full Information)
Q3
Q2
Q1
Quantity
Price
Supply
P5
P4
P3
P2
P1
Q1
Q2
Q3
Q4 Q5
Quantity
Macroeconomics Diagrams for IB
Economics
How interest rates affect us
Market interest rates
e.g. savings rates & credit cards
Asset prices
e.g. house prices
Domestic
Demand
i.e. C + I + G
Aggregate
Demand
AD
Drives short-term
Economic
growth
Official Interest
Rate
Set by the MPC
Expectations and
Confidence
Businesses & consumers
Domestic
inflationary
Pressure
i.e. changes
in the output gap
(actual GDP relative
to potential GDP)
Net
External
Demand
i.e. X - M
Import
Prices
Consumer Price
Inflation
Exchange rate
Aggregate Demand and
Supply Analysis
Aggregate Demand and Supply
General
Price Level
A
B
AD
Real National
Income
Aggregate Demand and Supply
General
Price Level
SRAS2
SRAS2
A
P1
B
P2
AD
Y1
Y2
Real National
Income
Aggregate Demand and Supply
LRAS
General
Price Level
Pe
SRAS
AD
Ye
Yfc
National Income
Negative Output Gap
LRAS
General
Price Level
Pe
P2
SRAS
AD1
AD2
Y2
Ye
Yfc
National Income
AD-AS Analysis Causes of Deflation
Fall in AD
Rise in LRAS greater than increase in AD
LRAS
General
Price Level
LRAS2
LRAS1
General
Price Level
P1
P1
P2
P2
SRAS
SRAS
AD1
AD1
AD2
AD2
Y2
Real National Income
Y1
Yfc
Y1
Y2
YFC2
LRAS2
LRAS1
General
Price Level
P1
P2
SRAS
AD1
Y1
Y2
AD2
YFC2
An Increase in Long Run Aggregate Supply
LRAS2
LRAS1
General
Price Level
Pe
SRAS
AD2
AD1
Y1
Y1
YFC2
National Income
An Increase in Long Run Aggregate Supply
LRAS1
LRAS2
YFC1
YFC2
General
Price Level
SRAS1
SRAS2
Real National Income
Aggregate Demand and Supply
General
Price Level
LRAS
P2
P1
SRAS2
SRAS1
AD
Y2
Y1
Yfc
National Income
Shifts in Aggregate Demand
General
Price Level
LRAS
P2
P1
P3
AD2
SRAS
AD1
AD3
Y3
Y1
Y2
Yfc
National Income
The Risk of Demand Pull Inflation
General
Price Level
LRAS
P3
P2
P1
AD3
AD2
SRAS
AD1
Y1
Y2
Yfc
Real National Income
External Shock – Higher Oil Prices and a Tightening of Monetary Policy
LRAS
General
Price Level
P2
P1
SRAS2
SRAS1
AD1
AD2
Y3
Y2
Y1
Yfc
Real National Income
Shifts in Short Run Aggregate Supply
LRAS
General
Price Level
P2
P1
SRAS2
SRAS1
AD
SRAS3
Y2
Y1 Y3
Yfc
National Income
An Increase in Aggregate Demand
LRAS
General
Price Level
P2
P1
AD2
SRAS
AD1
Y1
Y2
Yfc
National Income
A Fall in Aggregate Demand
LRAS
General
Price Level
P1
P2
AD1
SRAS
AD2
Y2
Y1
Yfc
National Income
Market interest rates
e.g. savings rates & credit cards
Asset prices
e.g. house prices
Domestic
Demand
i.e. C + I + G
Aggregate
Demand
AD
Drives short-term
Economic
growth
Official Interest
Rate
Set by the MPC
Expectations and
Confidence
Businesses & consumers
Domestic
inflationary
Pressure
i.e. changes
in the output gap
(actual GDP relative
to potential GDP)
Net
External
Demand
i.e. X - M
Import
Prices
Consumer Price
Inflation
Exchange rate
Short Run Phillips Curve
Wage
Inflation
(%)
P3
P2
P1
Short Run Phillips Curve
U3
U2
U1
Unemployment Rate (%)
Expectations-Augmented Phillips Curve
Wage
Inflation
(%)
P3
P2
SRPC2
P1
SRPC1
SRPC3
U3
U2
U1
Unemployment Rate (%)
Individual Labour Supply Curve
Real
Wage
Rate
Individual Labour
Supply (2)
Individual Labour
Supply (1)
L1
L3
L2
Hours of Work
Supplied (LS)
The Supply of Labour
An Outward Shift in Labour Demand when Labour Supply
is Elastic
Wage
Rate
An Outward Shift in Labour Demand when Labour Supply
is Inelastic
Labour Supply
(short run)
Wage
Rate
LS
b
W2
W1
W2
a
c
W3
W1
D2
LD2
LD1
E1
E2
Employment
Long Run
Labour
Supply
D1
E1 E2
E3
Employment
The Supply of Labour
Labour Supply
(short run)
Wage
Rate
b
W2
W1
a
c
W3
Long Run
Labour
Supply
D2
D1
E1 E2
E3
Employment
Natural Rate of Unemployment
Real
Wage
Rate
Labour Supply
Labour
Force
a
b
W1
Labour
Demand
E1
E2
Employment
Reducing the Natural Rate of Unemployment
Real
Wage
Rate
LS1
LS2
a
c
Labour
Force
b
W1
Labour
Demand
E1
E3
E2
Employment
Union Control of Labour Supply
Wage
Rate
Labour Supply
(union controlled)
Wage
Rate
Labour Supply
(union controlled)
W2
W2
W1
W1
Labour
Supply to
the
Economy
Labour
Demand
Labour
Demand
E2
E1
Employment
E2
E1
Employment
Flexible Employment Patterns
Agency Staff
(Temp
Workers)
Core Group of
Workers
Workers with
Job Share
Agreements
(Permanent Staff)
Trainees on
Government
Employment
Projects
Short Term
Contract
Workers
SubContracted
Work
National Minimum Wage
Wage
Rate
(W)
Labour
Supply
W min
Minimum Wage (Wage Floor)
W1
Demand =
MRPL
Q3
Q2
Q1
Employment of
Labour (E)
Monopsony Buyer of Labour
Wage
Rate
(W)
Marginal Cost
of Labour
(MCL)
MRPL
Labour
Supply
(ACL)
Wq
Demand =
MRPL
Eq
Employment of
Labour (E)
Monopsony Buyer of Labour
Wage
Rate
(W)
Marginal Cost
of Labour
(MCL)
W4
W3
W2
Labour
Supply
(ACL)
W1
Demand =
MRPL
E4
E3
E2
E1
Employment of
Labour (E)
Monopsony Buyer of Labour with a NMW
Wage
Rate
(W)
Marginal
Cost with
NMW
Labour
Supply
(ACL)
MRPL
NMW
National
Minimum Wage
Wq
Demand =
MRPL
Eq
E2
Employment of
Labour (E)
Monopoly and Profit Margins
Economic Profit (Price > AC)
Total Cost (AC x Output)
Price
Price
P2
AC
P2
AC
Demand
AC
AC
Demand
Q2
Q2
International Trade Diagrams
International Trade and Production Possibility Frontiers
Freezers
Freezers
PPF FOR THE UK
PPF FOR ITALY
2000
1600
1000
500
1000
200
Dishwashers
400
Dishwashers
International Trade and Production Possibility Frontiers
PPF FOR GERMANY
PPF FOR FRANCE
Good Y
Good Y
2000
1500
1500
Good S
1500
Good S
International Trade and Production Possibility Frontiers
PPF FOR the UNITED STATES
Good W
PPF FOR CANADA
Good W
1000
750
250
500
Good X
Good X
International Trade and Production Possibility Frontiers
3000
PPF FOR THE UK
PPF FOR ITALY
Freezers
Freezers
2000
1600
1000
500
1000
200
Dishwashers
400
533
Dishwashers
Import Tariffs
Price
Domestic Supply
World Price + Tariff
Pw + T
M
World Price
Pw
Domestic Demand
Qs
Qs2
Qd2
Qd
Output (Q)