College of Business Administration
Assignment #1
ECON 1312
Introduction to Microeconomics
Jamal M. Alghamdi
ID: 201102849
Instructor: Dr. Mohammad A. Magableh
Fall Semester, Academic Year 2012/2013
October 5, 2012
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Chapter 1- The Central Concepts of Economics
Scarcity: this is a main economic problem because people wants are unlimited
whereas resources are limited. Scarcity forces us to choose what we really want
instead of having everything because it is impossible to have everything and that why
economics have opportunity cost and trade-offs. Even production and economic
growth in the United States is not high enough to fulfill everyone's desires and that is
scarcity.
Efficiency: in short it means the most effective but in economic it means the most
effective use of the limited resources society have to satisfy most of the unlimited
wants that people have. Efficiency is a matter of using time, skills and resources to get
the best outcome. Failing in doing that will case inefficient allocation of resources.
Lastly, efficiency is not measured by quantity or quality but by both.
Free goods: these are goods which cost nothing and have no opportunity cost and
also available to everyone. The only product come to mind with these characteristics
is air even though, in some countries there is tax for breathing fresh air. If goods had
not cost then economic would not exist as the main problem of economic which is
scarcity is solved and everything cost zero so there is no concerned about distribution
of income as well.
Economic goods: these are goods which have a cost and also scarce. In real world all
goods are economic goods and people want unlimited amount of it. These goods are
subject to economic laws of demand and supply which will determine their price.
Macroeconomics: comes from Greek which means large economics. It is a branch of
economics which looks at an economy as whole. This includes national, regional and
global economies. Some of the issues macroeconomics studies are aggregate demand,
aggregate supply, GDP, inflation, and unemployment. Macroeconomics also helps
government to run their countries efficiently.
Microeconomics: comes from Greek which means small economics. It is a branch of
economics which looks at an individual households and firms behavior.
Microeconomics study how they make decisions on the allocation of scarce resources.
These decisions make supply and demand which microeconomics study as well as
their affect on price and quantity demanded and supplied.
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Normative Economics: is an economic statement that expresses value and fairness.
All of the normative economic statement can't be proven wrong as they differ between
people. So what you might think is fair is not seen fair in the eyes of someone else
other than you. One example would be, should unemployment be raised to ensure that
price inflation does not become too rapid? There is no correct answer to this question
as value and fairness determine and it is not the same for everyone.
Positive Economics: is an economic statement that is based on fact and cause and
effect behavior and also used to test economics theories. These statements are concern
with description and explanation of economic phenomena. Positive economics can be
proven wrong by checking the data. An example for positive economics is why do
doctors earn more than janitors?
Fallacy of composition, post hoc fallacy: is Latin for "after this, therefore because of
this". This fallacy occurs when we assume that, because one vent occurred before
another event, the first event caused the second event. This fallacy cause to come to
conclusion based solely on the order of events. Rather than taking into account other
factors that might rule out the connection.
"Keep other things constant": more known as Ceteris paribus which is Latin phrase
which mean "with other things the same". This is used to show relationships between
different factors. For example demand and increase in income with ceteris paribus in
place we could see the clear relationship for both without the effect of other things.
What, how, and for whom: these are the three fundamental questions of economic
organization as society must determine what to produce and the method of production
and how it is going to be distributed between the member of society. The first
question is what to produce. Society must see what is needed and what they are good
at and also what is more important. The second question is how to produce. This will
determine the method or techniques for production and from where does society get
electricity and so on. The third question is for whom to produce. This is about the
distribution of income and wealth between members of society. Also the gap between
the poor and the rich is addressed in this question. Will society provide minimal
consumption to the poor, or must people work if they are to eat?
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Alternative economic systems:
A. Command economy: is an economic system in which all the three
fundamental questions of what, how and for whom to produce are answered by the
government. Every decision regarding production and investment are embodied in a
plan formulated by a central authority. In this economy there is no private ownership
and everything is owned by the government also producers can't decide what to how
to produce as government do that for them. As government decides everything they
also decide the income of the member of society and how much should everyone
have.
B. Market economy: is an economy in which all the three fundamental
questions for what, how, and for whom to produce are answered by supply and
demand. Every decision regarding investment, production, and distribution are based
on supply and demand and the prices of goods and services are determine in a free
price system. This is opposite command economy. In this economy there is private
ownership and producers decide what to produce and how to do so. Firms produce the
commodities that yield the highest profits by the techniques of production that are
least costly.
Laissez-faire: is French phrase means "let it be". It is an economic environment
which is the same as market economy with one extra thing. In Laissez-faire
government do not intervene in the market and also there is no tariffs, government
subsidies. It is important to note that when an economy doing well people will be in
favor of laissez-faire but if the economy is doing badly people will ask the
government to help fix the economy.
Mixed Economies: is an economic system where government and private sector
direct the economy. This system is in between market economy and command
economy. In mixed economy there is relatively private ownership and firms decide
what to produce and how but government make sure that prices are reasonable and
also collect taxes to ensure the distribution of income and wealth is fair. Lastly
governments provide public goods to society.
Inputs: also known as factors of production. These are the resources used to make
goods and services. Inputs could be divided into three parts. First, land which is
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natural resources and anything from earth or sea is considered land. Second, labor
which mean human skills either physically or mentally. Labor consists o the human
time spent in production. Lastly, capital is a resource from durable goods of an
economy. Capital includes money and machinery. All of these are inputs to make
useful goods and services to be consumed or to further use in production process.
Outputs: all different useful goods and services that came from the production
process to be consumed or to be further use in production process. Outputs could be
finish products or yet to finish products. For example car is a finish product that and
be bought and used directly whereas tires for example is half finish because you and
can't use it by itself but it is a part of something
bigger which is the car.
Production-possibility frontier (PPF): this is a
graph showing a curve of the maximum quantity of
goods that can be efficiently produced by an
economy, with the current level of technology and
available input. As you could see from the graph
that society has an opportunity cost for producing
butter from the production of guns and vise versa.
An example of (PPF)
Productive efficiency and inefficiency: productive efficiency occurs when an
economy cannot produce more of one good without producing less of another good;
this implies that the economy is on its production –possibility frontier. On the other
hand, when society fail to allocate resources they will be inefficient which mean that
there are waste resources.
Opportunity cost: is what you forgo when you chose anything and it is also the
second best thing that you would have. For example drinking coffee mean no tea or
playing computer games instead of going out with friends. if you choose something
you can't have the other that is opportunity cost.
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Chapter 2- The Modern Mixed Economy
Market: market occurs whenever buyers and sellers interact to determine price and
quantity demanded and supplied. This interact could happen physically or by other
means like telephone or internet. An example of a market is E-bay on the internet or
fruit market in the center of Dammam city.
Market mechanism: this is a method of functioning in the market depend on market,
price, equilibrium and the invisible hand. When buyers and sellers interact to
determine what is quantity and price market go to equilibrium point which represent
the balance among all different buyers and sellers and this balance is maintained by
the invisible hand. So if price go up the invisible hand will reduce the price to the
equilibrium point and vise versa.
Markets for goods: this is a market for goods and services that consider being
output. This is a market for finished goods and services that consumer buy to fulfill
their wants. Also firms make their revenue from this market.
Markets for factors of production: this is a market for goods and services that
consider being input for production process. The factors of production are three land,
labor and capital. When a firm uses land the return is rent and for labors the return is
wages and lastly the return for capital is money or interest. If a firm hiring employees
this creates a market for factors of production and so on.
Prices as signals: this is a message sent to consumers and producers in the form of a
price charged for a commodity; this is seen as indicating signal for producers to
increase supplies and/or consumes to reduce demand.
Market equilibrium: this is a state which represents
the balance between demand and supply. It is clearer
when it is represented in a graph showing the demand
curve and supply curve and the point where the two
curves intersect is the equilibrium.
Perfect and imperfect competition: perfect competition is a
Market Equilibrium
market such that no firm of person is powerful enough to change price. Also this
market has an identical product. Moreover, there are no barriers to enter or exit this
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market for firms. On the other hand, imperfect competition is a market such that one
person or firm control price. This is more visible in case of a monopoly. In this market
there is no substitution for the product and also there are many barriers to enter the
market.
Adam Smith's invisible-hand doctrine: Adam Smith suggests that government must
not intervene in the market and leave the power of demand and supply determine the
price. If the price is too high then demand will force price to decease without any
intervene from government. This will happened because of the invisible hand
doctrine.
Specialization and division of labor: this means that dividing work into small part is
more productive and efficient. Specialization is the key to high living standard. It also
increases the range and quality of production. If working line produces one car a day
then by dividing the work in the same line into many small parts then production will
surely increase.
Money: means the value of a good or service in term of money. It is a way to
exchange goods. An example for this is if I worked for a company and get paid in
term of money then I could use that money to buy all the goods I want to consume.
Factors of production (land, labor, capital): also known as inputs. These are the
resources used to make goods and services. Inputs could be divided into three parts.
First, land which is natural resources and anything from earth or sea is considered
land. Second, labor which mean human skills either physically or mentally. Labor
consists o the human time spent in production. Lastly, capital is resource from durable
goods of an economy. Capital includes money and machinery. All of these are inputs
to make useful goods and services to be consumed or to further use in production
process.
Capital: In economic, capital is one of the triad of production. It consists of durable
produced items that are in turn used in production. In accounting and finance, capital
means the total amount of money subscribed by the shareholders-owners of a
corporation in return for which they receive shares of the company's stock.
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Private property: is all property that owned by firm or person. It is different than
public property and collective property which refers to assets owned by a state or
government. Private property could be used by the owner in any way he/she see fit.
Property rights: is the exclusive authority to determine how a resource is used. This
is up to the owner of the property being government or individuals. Property rights
can be viewed as an attribute of an economic good. This attribute has four broad
components. First, the right to use the good. Second, the right to earn income from the
good. Third, the right to transfer the good to others. Lastly, the right to enforcement of
property rights.
Efficiency: in short it means the most effective but in economic it means the most
effective use of the limited resources society have to satisfy most of the unlimited
wants that people have. Efficiency is a matter of using time, skills and resources to get
the best outcome. Failing in doing that will case inefficient allocation of resources.
Lastly, efficiency is not measured by quantity or quality but by both.
Equity: in short it means fair. In economics, it could be referred to as equal life
chances. The market does not necessarily produce a fair distribution of income
therefore governments intervene by taxation to redistribute the income among the
poor regardless of identity. This will provide all member of society with a basic and
equal minimum of income/ goods/ services.
Stability: means there are minimum fluctuations of prices in the economy. Any
economy with constant production and low stable inflation would be considered
stable.
Inefficiencies (monopoly and externalities): monopoly is a case where there is only
one supplier in the market. This will give the monopoly much power to control price.
In this case consumers will not be able do anything if price change as there is no
substitution for the product. Externalities or spillover effects is when a firm or people
impose a cost or benefits on others outside the market. This is clearer in case of
pollution. When a chemical plant produces chemicals and sells them to make a profit
the side effect will be pollution which environment pays. Both these cases case
inefficiencies in the market and to the consumers.
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Inequity of income under markets: Market does not always distribute income fairly
which cause inequity of income. Governments try to reduce this inequity by taxation
to redistribute the income among member of society.
Macroeconomic policies:
A. Fiscal policies: is the use of government revenue collection which is
taxation and expenditure which spending to influence the economy. In short fiscal
policies refer to the use of the government budget to influence economic activity.
B. Monetary Policies: the objectives of the central bank in exercising its
control over money, interest rates and credit conditions. The instruments of monetary
policy are primarily open-market operations, reserve requirements, and the discount
rate.
Stabilization: refer to economic stabilization and economic growth through the use of
fiscal and monetary policies. When a government uses these tools effectively then the
economy will overcome resections and excessive inflation and unemployment.
Growth: in economics, refer to the increase in the amount of goods and services
produced by any economy over time. This is measured by real gross domestic product
(GDP) after it adjusted for inflation.
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Chapter 3- Basic Elements of Supply and Demand
Supply and demand analysis: Market price is determined by demand and supply.
The equilibrium of demand and supply occur when the both are on balance. This is
clear in a competitive market. Still, there are some difficulties that must be
considered. First, we must distinguish a change in demand or supply from a change in
the quantity demanded or supplied. Second, hold other things constant. Lastly, always
locate the equilibrium point.
Demand schedule: this a table that shows the
relationship between the price of good and the
quantity demanded. This table shows that price and
quantity demanded have a negative relationship
because of the law of demand.
Demand curve: this a downward-sloping line
relating price to quantity demanded. The curve is
downward to show the negative relationship between
quantity demanded and price.
Demand Curve
Law of downward-sloping demand: this law states that there is an inverse (negative)
relationship between price and quantity demanded.
Influences affecting demand curve: the first influence affecting demand is price
which is represented by a movement along the demand curve. The other influences
affecting demand are income, prices of related goods, tastes, expectations and number
of buyers. All of these influences cause a shift in the demand curve to either right or
left.
Supply schedule: this is a table that shows the relationship
between the price of the good and the quantity supplied. It is
clear from the schedule that price and quantity supplied have
a positive relationship.
Supply curve: this is an upward-sloping line that shows the
positive relationship between price and quantity supplied.
Supply Curve
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Influences affecting supply curve: the first influence affecting supply is price which
is represented by a movement along the supply curve. The other influences affecting
supply are input prices, technology, expectations and number of sellers. All of these
influences cause a shift in the supply curve to either right or left.
Equilibrium price and quantity: the
equilibrium point represents the balance
among all demand and supply and this point
shows the equilibrium price and equilibrium
quantity. In a graph it is where demand and
supply curve intersect. If a market goes
below the equilibrium point then shortage
occurs. But if a market goes above the
equilibrium point then surplus occurs. Both
Demand and Supply Curves
of shortage and surplus are not good for a market and
prices should always be at the equilibrium.
Shifts of supply curve: this is occurs when factors other than price that effect supply
changes then the supply curve shift either to the right or left according to the effect of
the change.
Shifts of demand curves: this is occurs when factors other than price that effect
demand changes then the demand curve shift either to the right or left according to the
effect of the change.
Shift in the supply curve
Shift in the demand curve
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All other things held constant: more known as Ceteris paribus which is Latin phrase
which mean "with other things the same". This is used to show relationships between
different factors. For example demand and increase in income with ceteris paribus in
place we could see the clear relationship for both without the effect of other things.
Chapter 4- Supply and Demand: Elasticity and Applications
Price elasticity of demand: This measure how the quantity demanded response to the
change in price when all other influences on buyers' plans remain the same
Price elasticity of supply: this measure how the quantity demanded response to the
change in price when all other influences on selling plans remain the same.
Elastic, inelastic, unit-elastic demand: after measuring the elasticity the final
number is used to indicate if demand or supply is elastic or not. If the number is
higher than one then demand or supply is elastic which mean any change in price (%)
will change demand or supply with greater portion (%) than the change in price. If the
number is equal to one then demand or supply is unit-elastic which mean any change
in price (%) will change demand or supply with equal portion (%) to the change in
price. If the number is smaller than one then demand or supply is inelastic which
mean any change in price (%) will change demand or supply with smaller portion (%)
than the change in price.
ED = % change in Q / % change in P: the elasticity coefficient is the percentage
change in quantity demanded divided by percentage change in price. In figuring
percentage, use the averages of old and new quantities in the numerator and or old and
new prices in the denominator; disregard the minus sign.
Determinants of elasticity: this is mean what make a product more or less elastic and
they are different for demand and supply. In demand, there are three determinants of
elasticity. First, the availability of substitutes. Second, the proportion of income spent
of the good or service. Third, the length of time. In supply, there are two determinants
of elasticity. First, resource substitution possibilities. Second, time frame for supply
decision.
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Total revenue = P × Q: to calculate total revenue you multiply the price of each unit
you sell with the number of units you sell. It should be noted that revenue does not
equal profit which is calculated by subtracting cost from total revenue.
Relationship of elasticity and revenue change: this is used to increase revenue by
changing the price of a product with relation to elasticity of demand. If demand for a
product is elastic which mean it elasticity is higher than one then prices should
decrease to increase revenue as demand will increase greatly. If demand for a product
inelastic then an increase in prices will increase the revenue as demand will decrease
slightly. Lastly, if demand for a product is unit-elastic then the change in price will
not change the revenue. Still, increasing the price to sell fewer units is better to reduce
cost.
Incidence of a tax: the ultimate economic effect of a tax on the real incomes of
producers or consumers. This tax is either paid by the producer or consumer and that
is determined by the elasticity of both demand and supply. If elasticity of demand is
higher than supply elasticity then suppliers will pay the majority of the tax. If
elasticity of demand is less than supply elasticity then consumers will pay the
majority of the tax. If elasticity of demand is equal to elasticity of supply then the tax
is divided between the two.
Distortions from price controls: this refers to when government intervene in a
market by laws. There are two type of price control that government uses. First, price
ceiling which mean a maximum price that buyer and sellers can buy or sell at in the
market. This is set below equilibrium price. Also this creates shortage in the market
which government is obligated to provide to the market at the ceiling price. Second,
market floor which mean a minimum price that buyers and sellers can buy or sell in
the market. This is set above equilibrium price. Also this creates surplus which
government is obligated to buy at the floor price.