Microeconomics - Schemi

MICROECONOMICS

Two branches:

Macroeconomics: deals whit aggregate economics variable

The study of how national economy perform

Microeconomics: deal with behavior of individual economic units as well as

the market that these units comprise

Explain how best allocate the limited resources

Is the science of constrained choice

Planned economy:

Those decision ore made by the government, price is setted by government

Agentsà single subject that make decision and affect other bigger ripple effect

Microeconomics has a strong connection with macroeconomics because they

are the singles effects that compose macroeconomics.

TRADE OFF AND CHOICES

-Consumeràlimited incomesà have a budget that is very limitedàmaximize

utility

-Workersàfirst take decision of life, second on job, third on satisfactionàutility

Wage: workers trade of that they can get for their labour

-Firmsàdecision on which production, where, the offer, the investment: how

much, borrow or use company’s capital (borrowàcosts, time, control)

-Governmentàset rules: price, quality, quantity (Trump duties), competition

(usually denied monopolism), subsides (amount of money given to consumer,

producer, worker(es.110%)

Those actors determine price (=amount of money consumer have to pay for

goods)

Price is set by the interception of offer and demand curves

EQUILIBRIUM PRICEàdemand=supply

Is variableà can change a lot or not: depends

Depend on number of producer and consumeràfew produceràmore power of

impose price More produceràless power of impose

price

THEORIES AND MODELS

Explanation and prediction are based on theoriesà developed observing

phenomena in term of setting basic economic rules

Theory of the firm: businesses always try to maximize utility(=profits)

Model: mathematic representation of a firm or an entity

Variablesà exogenous: take as given (es. Preferences or income levels)

Endogenous: exogenous variables according to models (es type of

goods or quantity bought by consumers

ANALYTICAL TOOLS

-constrain optimizationà have a constrain(budget) and have objective function

to maximize it

-equilibrium analysisà a state or condition that will continue as long as

exogenous variables continue (es. Chooses of consumers)

-comparative statics of themà how a change in exogenous affect endogenous

variablesàchange and see the outcome for testing new theories

THE ANALYSIS

Positive: describe relation cause-affectàhow an economic system work and

predict What happen if…?

Normative: examining question of what ought to beà how the market should

work to maximize?

value judgment (not tell what the best)à what is best: set rules in order to

benefit actors

MARKETS

Market: collection of buyer and sellers that determine the price of goods

Have a central role in economy

Market definition: description of buyers, sellers and range of product that

should be included in a particular marketàALSO geographical

industry: collection of firms that sell the same or closely related products

arbitrage: practice to buy at a low price in a specific location et sell at an

higher in another location

Perfectly competitive: may buyers and sellersà single buyer or seller has no

impact on price

Non-competitive(monopolism): individual firms can affect the price

Average of them: not perfectly competitive but not as large power of prices as

non-competitive ones

Market price: price prevailing in a competitive marketà may fluctuate a lot

(stocks)

Extent of market: boundaries of a market, geographical and in term of product

produced and sold within it

Is very important the knowledge of the market definition because:

1) Understand competitors (also future)

2) Understand product to produce

3) Public policy decision (es. Vertical acquisition

PRICES

Nominal price (current euro price): absolute price of goods, unadjusted for

inflation

Real price (constant euro price): price of goods related to the aggregate

measure of prices, price adjuster for inflation

PPI (producer price index): aggregate price level for intermediate and

wholesale goods

CPI (consumers price index): measure of the aggregate price levelàcost of

living Difficult to calculate because of variables and the product to

bring inside

Delta CPIàmeasure of inflation rate

Inflation: increase of the overall price level over timeàincrease CPI over time

Inflation rate: (CPI final-CPI initial)/CPI initial

If a single good inflation rate is lowerà the price of good decrease in time(in

real terms)

Real vs nominal value technique

1) Px :CPIx=Py :CPIy

Py∗CPIx

Px= CPIy

2) Nominal price of goods compared delta CPI

(Py-Px)/Px >or< (CPIy-CPIx)/CPIx

If it is > good in more expensive, if it is < good in cheaper

INDEXES

F=units of food

C=units of clothing

Pf=price of a units of clothing

Pc= price of a units of food

b=base year: year fixed in order to analyse change (STARTING POINT)

t=current year: year we analyse

LASPEYRES price index 100*(current year)/(base year)

100∗PFtF b+ PCtC b

Fix quantity of base year= PFbF b+ PCbC b

monetary changeà same quantity in different yearàamount spent in base year

for same quantity

PAASCHE index 100*(current year)/(base year)

+

100∗PFtF t PCtC t

Fix current quantity of current year= PFbF t+ PCbC t

Good changeàsame quantity in different year

SUPPLY AND DEMAND

Without government supply and demand will reach the equilibrium and will

determinate the selling price and the quantity to produce (quality and quantity)

Supply curve: positive relationship between the price and the quantity of goods

the producers will sell

Qs=f(P) à direct supply function (Qs=a+bP)

Ps=f(Q) à indirect supply function (Ps=A+BQ)

In graphical representation we use indirect supply function

WTI: wiliness to pay, the quantity of goods exchanged for a quantity of

(hight costàshift left/low

moneyàcan change and make the curve shift

costsàshift right) (change market condition)

Change in supply: apply a curve shift (not change

Change in the quantity supplied: apply movement on the curve

the market condition)

Demand curve: negative relationship between price and quantity of goods

consumers will buy

Demand: mathematical function describing choices of consumers

QD=f(P) àdirect demand function

PD=f(Q) àindirect demand function

In graphical representation we use indirect demand function

slide left if income level is lower and right if the income

After shock WTI will

level is higher (more income for consumersàhigher WTI)

Substitutes: two goods which an increase in the price of one leads an increase

in the quantity demanded for the other (copper and aluminium)

Complements: two goods which an increase in the price of one lead to a

decrease in the quantity

demanded for the other (coca cola and chips)

MARKET MECHANISM

Vertical axis: Price

Horizontal axis: Quantity

Equilibrium price: price that equates quantity supplied and quantity demanded

Market mechanism: tendency in a free market for price to change until the

market clears (Until Q=S)

Effects:

Demand upà right

 Demand lowàleft

 Supply upà right

 Supply lowàleft



Surplus: situation in which the quantity supplied exceeds the quantity

demanded

Shortage: situation in which the quantity demanded exceeds the quantity

supplied

The price will automatically convert to equilibrium price (simultaneal)

Effect of shortage and surplice: reach the equilibriumà government have not to

do anything

IMPORTANT: at any given price a given quantity will be produce and sold, BUT

ITS TRUE ONLY IF WE HAVE A PERFECT COMPETITIVE MARKET

Price floor: minimum price setted by the government in order to protect a

marketà business can set only higher price (or at least equal)

Price floor affect the market if and only ifis higher of the equilibrium price

Price seeling: maximum price setted by the government in order to protect the

consumer

It affects the market if and only if the price is lower than the equilibrium

àcreate inefficiently= impossible to create an equilibrium

price

ELASTICITYà index of sensitivity

Percentage change in one variable resulting from a 1-percent increase in other

Demand depends onà prices if goods, consumers income and price of other

goods with relation

Supply depends onà price and variables that affect production costs

PRICE ELASTICITY OF DEMANDà linear demand curve is a straight line

percentage changed in quantity demanded of a good from a 1-percent increase

in price

% ∆∗Q

Ep= % ∆∗P

Same as

∆ Q∗P

Ep= ∆ P∗Q

Are usually negative numberà price increase, demand falls

Magnitude: absolute size of change in price elasticity

Near the topà elasticity near infinite

Downà elasticity is (near) 0

Elasticity >1à price elastic

Elasticity <1à price inelastic

LINEAR DEMAND CURV

Q=a-bP ¿

Elasticity: constant along the demandedà( ∆ Q/∆ P

Infinity elastic demand(horizontal): at a setted priceà demand is unlimited

At a higher priceàdemand is zero

At a lower priceàdemand is infinite

∆Q =infinite

Elasticity is infiniteà ∆P

Completely inelastic demand(vertical): consumer will bus a fix quantity

regardless the price

∆Q =0

Elasticity is zeroà ∆P

Always use average P and Qàbetter approximation

INCOME ELASTITY OF DEMAND

Percentage changed in quantity demanded resulting from a 1-percent increase

in income

∆ Q∗I

Ei= ∗Q

∆ I

CROSS PRICE OF ELASTICITY OF DEMAND

Pm∗∆ Qb

( )=

E QbPm Qb∗∆ Pm

Change in one good priceà other goods effect:

If elasticity has a positive valueà substitutesà increase quantity

 demanded

If the value is negativeà complementsàdecrease quantity demanded



PRICE ELASTICITY OF SUPPLYàhigher price gives producers an incentive to

increase output à elasticity is positive

POINT ELASTICITY OF DEMANDà price elasticity in a particular point of the

curve à usually the most used

Q∗∆ P

Equation= )àusually took in consideration original P e Q

(P∗∆ Q)/¿

Can vary depending on what point of the demand curve me took in

consideration

ARC ELASTICITY OF DEMANDà price elasticity calculated over a range of

prices à initial and final price

❑

∆Q ∆ P

❑

Equation= E p= ❑

av . P av .Q

❑

How much time will pass before we measure a change in quantity demanded

and supplied?

DEMAND long runàmore short run

Non-durable goodsà price elastic thatà

short runàmore long run

Durable goodsà price elastic thatà

INCOME àlong runàmore short run

income elasticity price elastic thatà

CYCLICAL àindustries in which sales tends to magnify cyclical changes in gross

domestic product and national income

Only durable goods magnify high increases in growth periods

SUPPLY long runàmore short run

Supply of goodsà price elastic thatà

In short run firms face capacity constrains – can increase outputs using existent

facilities

Increases in production are hardly in short runà need investments

For some goodsà short run supply completely inelastic – es houses

short runàmore long run

reciclable goodsà price elastic thatà

GOVERNMENT INTERVENTION

Market are rarely free from government

3types:

1. fiscal(taxes)

2. fix quantity

3. fix price ceiling price=

government decides P0 is too highà fix Pmax LOWER that P0à

shortage

reduce offer and reduce priceà producer loss

à not all the consumers have a gainà someone will not

been able to buy the goods

CONSUMERS BEHAVIOR

Theory of consumers behavior: how consumers allocate incomes among

different goods and services to maximize their well-being.

Consumers have a limited budgetàmust chooseà suppose consumers rational

and informed

Consumers behavior:

Consumer Preferences

 Budget Constraints

 Consumer Choices



Market basket: list of specific quantity of one or more goods

Basic assumption of preferences:

1. Completeness: consumers are informed of all baskets and don’t take on

account costs

2. Transitivity: normally regarded as necessary for consumer consistency;

A>B, B>C, A>C

3. more is better than less: more goods=more satisfactionà even if just a

little better

4. diminishing MRS: consumers prefer balance market instead of extreme

ones

bad: goods for which less is preferred rather than moreà es. Air pollution

indifferent curve: Curve representing all combinations of a market baskets that

provide a consumer with the same level of satisfaction

indifference maps: Graph containing a set of indifference curves showing the

never cross together

market baskets among which a consumer is indifferentà

MRS marginal rate of substitution

Maximum amount of a good that a consumer is willing to give up in order to

obtain one additional unit of another good (fixed the utility level)

à if MRS decrease along the indifference curve: the curve is convexà slope of

indifferent curve increase (fall in magnitude)

Measure the value that an individual place 1extra unit of a good in term of

(less vertical axis, more horizontal axis)

another

If MRS is less or greater than the price ratioà not maximized the consumer

satisfaction

perfect substitutes: Two goods for which the marginal rate of substitution of

one for the other is a constant.

Increase in price of Aà increase in demand of B

perfect complements: Two goods for which the MRS is zero or infinite; the

indifference curves are shaped as right angles.

Increase in price of Aà decrease in demand of B

Independent: if a change in price of A have no effect on quantity demanded B

Utility: Numerical score representing the satisfaction that a consumer gets from

a given market basket.

utility function: Formula that assigns a level of utility to individual market

baskets. U(X,Y)=X+xY

Level of satisfaction obtained prom consuming X and Y

Ordinal utility function: function that generate a ranking between all the market

basket

Cardinal utility function: function of how much a market basket A is preferred to

B

BUDGET

Budget constrains: constrain consumer face as results of a limited income

Budget line: All combinations of goods for which the total amount of money

spent is equal to income.

Made by two functionsà one preferences of consumersà utility function (goods

that individual can buy in the market)

measure level of satisfaction (base on the quantity of goods holds in time)

Function of budget constraintsà function based on price of goods and income

( ) ( )

I Pf ∗F

PfF+ PcC=I C= –

Pc Pc

Considering only 2goodsà price of money spent for F and C=income

∆Y

Slope: àCalculated in units

△ x

Magnitude tell us the rate which the 2 goods can be exchange each other

whiteout changing the total amount spent à vertical intercept (I/Pc), horizontal

intercept à (I/Pf)

CHANG INCOME AND PRICE

Budget line depend from income and price

Change in income: budget line shift parallel to the origin

Change in price: use the equation of budget line to estimate new quantity

Purchasing power: ability to generate utility thought the purchase of goods and

services

CONSUMER CHOICE

How much of each goods to buyà maximize satisfaction with a limited budget

Maximized market basket have to:

must be located on the budget line

 must give the consumer the most preferred combination of goods and

 services

marginal utility (MU): Additional satisfaction obtained from consuming one

additional unit of a good.

diminishing marginal utility: Principle that as more of a good is consumed, the

consumption of additional amounts will yield smaller additions to utility

Marginal Rate of Substitution: slope of the indifference curve (∆U=0), that is

quantity of F that the consumer is willing to give up against 1 additional unit of

C in order to have the same level of satisfaction (utility)à more goods=less

level of satisfaction

MRS=Pf/Pc

MUf MUc

= àmaximization

Pf Pc

marginal benefit: Benefit from the consumption of one additional unit of a good

marginal cost: Cost of one additional unit of a good

equal marginal principle: utility is maximized when the consumer has equalized

the marginal utility per dollar of expenditure across all goods.

corner solution: Situation in which the marginal rate of substitution is not equal

to the slope of the budget lineà consumer maximize satisfaction consuming

only one of the two goods Px

≅

MRS

corner solutionà MRS not necessarily equal to price ratioà Ry

reveled preferences: if consumer chose market basket A an