MICROECONOMICS SESS 1-17
PROGRAM CONTENT
I. The basics of consumer and firm behavior
1. Behind the demand curve.
2. Behind the supply curve.
II. Analysis of markets
3. Perfect competition.
4. Monopoly.
5. Oligopoly.
6. Monopolistic competition and product
differentiation.
III. Advanced topics
7. Externalities & Public goods
SESSION 1 & 2
MICROECONOMICS
Microeconomics is the branch of Economics that studies:
The Behavior of INDIVIDUALS and FIRMS
in making DECISIONS
about ALLOCATION of SCARSE RESOURCES
And the interaction among them
Microeconomics helps:
Managers and entrepreneurs understand the markets in which they operate.
Define a coherent business strategy and to adjust it when external conditions vary.
Articulate effective relationships with potential investors, lenders and other
stakeholders.
DEMAND CURVE
The demand curve represents how much of a good people will want at different prices.
At a lower price, people buy more. The quantity demanded increases as the price gets lower.
There’s a different demand curve for every good or service.
Example: oil barrels.
o Oil has many uses: Some are high value uses (uses for which oil has few substitutes).
E.g. jet fuel. Some are low value uses. E.g. gasoline or plastic for rubber ducks.
o When the price is relatively low, the quantity demanded is used for high and low-value
goods like.
o As the price goes up, the cost of these low-value use products will get high enough
that some people might buy substitutes or not buy at all. So, for low-value use
consumers, the benefit of buying these products is too little to justify the cost.
o At high prices, the demanders that are left are the high-value use ones. For them, the
benefit of buying these products outweighs the increased cost.
The demand curve summarizes the way people respond to a change in price.
SUPPLY CURVE
, The supply curve shows how much of a good, suppliers are willing and able to supply at
different prices.
Similarly to the demand curve, there is a supply curve for every good and service.
Example: oil barrels:
o As the price increases, the quantity of the oil that companies are willing to provide
increases too.
o Oil exists all over the world but it is not equally easy to extract. In places like Saudi
Arabia, it is very easy and cheap. In places like the Gulf Coast, it is very deep and a lot
more expensive.
o When oil prices are low, the only suppliers that can get a profit are those that have
cheap access to it.
o As the price gets higher, other suppliers earn profit and are able to enter the market.
The supply curve summarizes the way suppliers respond to a change in price, including how
suppliers will enter and exit the market depending on the price.
EQUILIBRIUM
Equilibrium price: price at which the quantity demanded is equal to the quantity supplied.
At any other price, forces are put into play which push the price towards the equilibrium price.
Equilibrium quantity: quantity at which the quantity demanded is equal to the quantity
supplied.
Example: oil barrels.
Equilibrium price: $70 per barrel (the only stable price).
At a price of $80 per barrel (higher than the equilibrium price): producer surplus
(the quantity supplied is greater than the quantity demanded ) and therefore
sellers have more goods than customers. Because of that, they have incentives to
push the price down, towards the equilibrium price.
At a price of $50 per barrel (lower than the equilibrium price): producer shortage
(the quantity demanded will exceed the quantity supplied), hence the buyers have
to compete to obtain the good, and the price is pushed up, towards the
equilibrium price.
Equilibrium quantity: 68 (millions of barrels per day).
At a quantity of 50 (lower than the equilibrium quantity): For the last barrel of oil,
buyers are willing to pay $90 and sellers are willing to sell it for $50: big potential
gain from trade ($40) for the buyers. For any quantity below the equilibrium
quantity, there are unexploited gains from trade for the supplier. People will
realize that, so the quantity bought and sold will be pushed towards the
equilibrium quantity (where all the gains from trade are exploited).
At a quantity of 90 (greater than the equilibrium quantity): For the last barrel of
oil, suppliers are willing to sell for $90 (their cost: what they require to stay in
business), but buyers are only willing to pay $50, so there’s waste. Suppliers are
spending more to produce the barrel than the barrel is worth to buyers. At any
quantity above the equilibrium quantity, there’s waste for the supplier.
Suppliers will not be able to sell a product for more than what buyers are willing
to pay, so the quantity will be pushed to the equilibrium quantity.
CONSUMER AND PRODUCER SURPLUS
A free market maximizes the gains from trade, which can be broken down into:
, Consumer surplus: happens when the price that consumers pay for a product or service
is less than the price they're willing to pay. It's a measure of the additional benefit that
consumers receive because they're paying less for something than what they were
willing to pay.
Producer surplus: is the difference between how much a person would be willing to
accept for given quantity of a good versus how much they can receive by selling the
good at the market price. The surplus is the benefit the producer receives for selling the
good in the market so it happens when market prices are higher than what producers
would be willing to accept for their goods.
EQUILIBRIUM AND BUYERS & SELLERS
The equilibrium price splits the demand curve into two parts, because goods are bought by
the buyers with the highest willingness to pay (highest price):
Buyers.
Non-buyers.
The equilibrium price splits the supply curve into two parts, because goods are sold by the
sellers with the lowest costs (leads to lowest price willing to sell for):
Sellers.
Non-sellers.
At the equilibrium point, there are no unexploited gains from trade or any wasteful trades
between buyers and sellers.
ELASTICITY OF DEMAND
It is a measure of the responsiveness of the quantity demanded when the price changes.
We use it when dealing with taxes, subsidies, or monopolies.
A demand curve = elastic when the quantity is changing a lot in response to the price (eg: an
increase in price reduces the quantity demanded a lot and vice versa)
A demand curve = inelastic when the quantity demanded has little or no change when the
price changes.
DETERMINANTS OF THE ELASTICITY OF DEMAND
Availability of Substitutes: this is the fundamental determinant
For goods with many substitutes Elastic Demand. When price changes people
simply switch brands or resource.
For goods with fewer subtitles Inelastic Demand. When price changes consumers
find keep buying it because they cannot switch to an alternative.
o Oil Inelastic
o Insulin Inelastic
o Brazilian Coffee Elastic
o Bayer Aspirirn Elastic
Time Horizon:
Short term Inelastic Demand. Immediately following a price increase, consumers
may not be able to alter their consumption patterns .
Long term Elastic Demand. Over time, consumers can adjust their behavior by
finding a substitute.
o Eg: If the price of oil goes up, in the long run, people will buy smaller cars, live
closer to where they work etc.
Category of the product (specific or broad)
, Broader classification Inelastic Demand. If it is a broad category of goods,
consumers are less likely to find a substitute.
Narrow classification Elastic Demand. If it is a specific good consumers are more
likely to switch to a substitute.
o Eg: the demand for “food” (a broad classification is less elastic than for the
demand for “lettuce” (narrow classification). Also the demand for coffee is
inelastic but the demand for Brazilian coffee is elastic.
Necessities VS. Luxuries
Necessities Inelastic Demand. Consumers need the product and are willing to pay
more for it.
Luxuries Elastic Demand. Consumers will not but as much when the price rises.
o Eg : For some consumers having a coffee in the morning is a necessity, if the
price goes up they will still buy coffee (inelastic) but if coffee is considered a
luxury and consumed occasionally, if the price goes up they might not buy
coffee anymore (elastic).
Purchase Size (relative to the consumer’s budget)
Consumers are less concerned about price changes when the good feels cheap
Inelastic Demand
Consumers become much more concerned about price changes when the good feels
expensive Elastic Demand.
o Eg : If the price of toothpaste increase by a lot (%) it is not a big deal, the
demand remains inelastic. But when a car increases the same % the demand is
elastic.
Summary of determinants of Elasticity of Demand:
Less Elastic : More Elastic :
Fewer Substitutes - More Substitutes
Short run (less time) - Long Run (more time)
Broad category - Specific category
Necessities - Luxuries
Small Part of Budget - Large Part of Budget
ELASTICITY OF SUPPLY
It is a measure of the responsiveness of the quantity supplied to a change in price.
A supply curve = elastic when the quantity supplied is changing a lot in response to the price
A supply curve = inelastic when the quantity supplied has little or no change when the price
changes.
Flatter supply or demand curve more elastic supply or demand
In general, all the determinants come back to costs of supply.
DETERMINANTS OF THE ELASTICITY OF SUPPLY
Change in Per-Unit Costs with Increased production: this is the fundamental determinant
If increasing production requires much higher costs Inelastic Supply.
If production can increase with constant costs Elastic Supply. The profit will
increase, and it will not be more costly to produce more therefore suppliers are more
willing.
PROGRAM CONTENT
I. The basics of consumer and firm behavior
1. Behind the demand curve.
2. Behind the supply curve.
II. Analysis of markets
3. Perfect competition.
4. Monopoly.
5. Oligopoly.
6. Monopolistic competition and product
differentiation.
III. Advanced topics
7. Externalities & Public goods
SESSION 1 & 2
MICROECONOMICS
Microeconomics is the branch of Economics that studies:
The Behavior of INDIVIDUALS and FIRMS
in making DECISIONS
about ALLOCATION of SCARSE RESOURCES
And the interaction among them
Microeconomics helps:
Managers and entrepreneurs understand the markets in which they operate.
Define a coherent business strategy and to adjust it when external conditions vary.
Articulate effective relationships with potential investors, lenders and other
stakeholders.
DEMAND CURVE
The demand curve represents how much of a good people will want at different prices.
At a lower price, people buy more. The quantity demanded increases as the price gets lower.
There’s a different demand curve for every good or service.
Example: oil barrels.
o Oil has many uses: Some are high value uses (uses for which oil has few substitutes).
E.g. jet fuel. Some are low value uses. E.g. gasoline or plastic for rubber ducks.
o When the price is relatively low, the quantity demanded is used for high and low-value
goods like.
o As the price goes up, the cost of these low-value use products will get high enough
that some people might buy substitutes or not buy at all. So, for low-value use
consumers, the benefit of buying these products is too little to justify the cost.
o At high prices, the demanders that are left are the high-value use ones. For them, the
benefit of buying these products outweighs the increased cost.
The demand curve summarizes the way people respond to a change in price.
SUPPLY CURVE
, The supply curve shows how much of a good, suppliers are willing and able to supply at
different prices.
Similarly to the demand curve, there is a supply curve for every good and service.
Example: oil barrels:
o As the price increases, the quantity of the oil that companies are willing to provide
increases too.
o Oil exists all over the world but it is not equally easy to extract. In places like Saudi
Arabia, it is very easy and cheap. In places like the Gulf Coast, it is very deep and a lot
more expensive.
o When oil prices are low, the only suppliers that can get a profit are those that have
cheap access to it.
o As the price gets higher, other suppliers earn profit and are able to enter the market.
The supply curve summarizes the way suppliers respond to a change in price, including how
suppliers will enter and exit the market depending on the price.
EQUILIBRIUM
Equilibrium price: price at which the quantity demanded is equal to the quantity supplied.
At any other price, forces are put into play which push the price towards the equilibrium price.
Equilibrium quantity: quantity at which the quantity demanded is equal to the quantity
supplied.
Example: oil barrels.
Equilibrium price: $70 per barrel (the only stable price).
At a price of $80 per barrel (higher than the equilibrium price): producer surplus
(the quantity supplied is greater than the quantity demanded ) and therefore
sellers have more goods than customers. Because of that, they have incentives to
push the price down, towards the equilibrium price.
At a price of $50 per barrel (lower than the equilibrium price): producer shortage
(the quantity demanded will exceed the quantity supplied), hence the buyers have
to compete to obtain the good, and the price is pushed up, towards the
equilibrium price.
Equilibrium quantity: 68 (millions of barrels per day).
At a quantity of 50 (lower than the equilibrium quantity): For the last barrel of oil,
buyers are willing to pay $90 and sellers are willing to sell it for $50: big potential
gain from trade ($40) for the buyers. For any quantity below the equilibrium
quantity, there are unexploited gains from trade for the supplier. People will
realize that, so the quantity bought and sold will be pushed towards the
equilibrium quantity (where all the gains from trade are exploited).
At a quantity of 90 (greater than the equilibrium quantity): For the last barrel of
oil, suppliers are willing to sell for $90 (their cost: what they require to stay in
business), but buyers are only willing to pay $50, so there’s waste. Suppliers are
spending more to produce the barrel than the barrel is worth to buyers. At any
quantity above the equilibrium quantity, there’s waste for the supplier.
Suppliers will not be able to sell a product for more than what buyers are willing
to pay, so the quantity will be pushed to the equilibrium quantity.
CONSUMER AND PRODUCER SURPLUS
A free market maximizes the gains from trade, which can be broken down into:
, Consumer surplus: happens when the price that consumers pay for a product or service
is less than the price they're willing to pay. It's a measure of the additional benefit that
consumers receive because they're paying less for something than what they were
willing to pay.
Producer surplus: is the difference between how much a person would be willing to
accept for given quantity of a good versus how much they can receive by selling the
good at the market price. The surplus is the benefit the producer receives for selling the
good in the market so it happens when market prices are higher than what producers
would be willing to accept for their goods.
EQUILIBRIUM AND BUYERS & SELLERS
The equilibrium price splits the demand curve into two parts, because goods are bought by
the buyers with the highest willingness to pay (highest price):
Buyers.
Non-buyers.
The equilibrium price splits the supply curve into two parts, because goods are sold by the
sellers with the lowest costs (leads to lowest price willing to sell for):
Sellers.
Non-sellers.
At the equilibrium point, there are no unexploited gains from trade or any wasteful trades
between buyers and sellers.
ELASTICITY OF DEMAND
It is a measure of the responsiveness of the quantity demanded when the price changes.
We use it when dealing with taxes, subsidies, or monopolies.
A demand curve = elastic when the quantity is changing a lot in response to the price (eg: an
increase in price reduces the quantity demanded a lot and vice versa)
A demand curve = inelastic when the quantity demanded has little or no change when the
price changes.
DETERMINANTS OF THE ELASTICITY OF DEMAND
Availability of Substitutes: this is the fundamental determinant
For goods with many substitutes Elastic Demand. When price changes people
simply switch brands or resource.
For goods with fewer subtitles Inelastic Demand. When price changes consumers
find keep buying it because they cannot switch to an alternative.
o Oil Inelastic
o Insulin Inelastic
o Brazilian Coffee Elastic
o Bayer Aspirirn Elastic
Time Horizon:
Short term Inelastic Demand. Immediately following a price increase, consumers
may not be able to alter their consumption patterns .
Long term Elastic Demand. Over time, consumers can adjust their behavior by
finding a substitute.
o Eg: If the price of oil goes up, in the long run, people will buy smaller cars, live
closer to where they work etc.
Category of the product (specific or broad)
, Broader classification Inelastic Demand. If it is a broad category of goods,
consumers are less likely to find a substitute.
Narrow classification Elastic Demand. If it is a specific good consumers are more
likely to switch to a substitute.
o Eg: the demand for “food” (a broad classification is less elastic than for the
demand for “lettuce” (narrow classification). Also the demand for coffee is
inelastic but the demand for Brazilian coffee is elastic.
Necessities VS. Luxuries
Necessities Inelastic Demand. Consumers need the product and are willing to pay
more for it.
Luxuries Elastic Demand. Consumers will not but as much when the price rises.
o Eg : For some consumers having a coffee in the morning is a necessity, if the
price goes up they will still buy coffee (inelastic) but if coffee is considered a
luxury and consumed occasionally, if the price goes up they might not buy
coffee anymore (elastic).
Purchase Size (relative to the consumer’s budget)
Consumers are less concerned about price changes when the good feels cheap
Inelastic Demand
Consumers become much more concerned about price changes when the good feels
expensive Elastic Demand.
o Eg : If the price of toothpaste increase by a lot (%) it is not a big deal, the
demand remains inelastic. But when a car increases the same % the demand is
elastic.
Summary of determinants of Elasticity of Demand:
Less Elastic : More Elastic :
Fewer Substitutes - More Substitutes
Short run (less time) - Long Run (more time)
Broad category - Specific category
Necessities - Luxuries
Small Part of Budget - Large Part of Budget
ELASTICITY OF SUPPLY
It is a measure of the responsiveness of the quantity supplied to a change in price.
A supply curve = elastic when the quantity supplied is changing a lot in response to the price
A supply curve = inelastic when the quantity supplied has little or no change when the price
changes.
Flatter supply or demand curve more elastic supply or demand
In general, all the determinants come back to costs of supply.
DETERMINANTS OF THE ELASTICITY OF SUPPLY
Change in Per-Unit Costs with Increased production: this is the fundamental determinant
If increasing production requires much higher costs Inelastic Supply.
If production can increase with constant costs Elastic Supply. The profit will
increase, and it will not be more costly to produce more therefore suppliers are more
willing.
