Economics 349 Intermediate Micro Theory

Economics 349Intermediate Micro Theory

Fall 2013Dr. Delemeester

Syllabus Quiz

Course Essentials• Course web page

• www.marietta.edu/~delemeeg/econ349

• Microeconomics (Worth, 1e) by Goolsbee, Levitt, and Syverson

• Grade▫ Exams (65%)▫ Homework (20%)▫ Spreadsheet Projects (15%)

Economic Roundtable• …to promote an interest in and to enlighten

its members and others in the community on important governmental, economic, and social issues…

• Business networking opportunity• Student memberships: $5

economicroundtable.org

Amity ShlaesAuthor/Journalist

Jim MeilEaton Corp.

Laurence Kotlikoff*

Boston University

Robert TylerPittsburgh Steelers

Affordable Care ActForum

▫An individual seeks to maximize his or her utility.

▫For social optimality the rule is:

This involves taking actions until the marginal private cost of further action equals the marginal private benefit of that action.

Taking action until the marginal social cost of further action equals the marginal social benefit of that action

Rational Man Model

Best Undergrad College Degrees by SalaryMajor Starting Median Salary Mid-Career Median Salary

Petroleum Engineering $97,900 $155,000

Physics $49,800 $101,000

Economics $47,300 $94,700

Math $47,000 $89,900

MIS $51,000 $88,200

Finance $46,500 $87,300

Political Science $40,100 $81,700

Chemistry $39,900 $80,100

Accounting $44,700 $75,700

Marketing $38,200 $73,500

Management $41,000 $70,500

History $37,800 $69,000

Journalism $36,100 $66,400

English $37,100 $65,800

Psychology $35,000 $61,300

Graphic Design $35,600 $56,500

Source: www.payscale.com

Theories and Models•Economics is concerned with explanation

of observed phenomena▫Theories are used to explain observed

phenomena in terms of a set of basic rules and assumptions: The Theory of Consumer Behavior The Theory of the Firm The Theory of Markets

Braille keypad on drive-up ATMs?

Redcoats and phalanxes?

Allocation Distribution Coordinatio

n

Markets (aka the Price System)

S1

D1

Quantity

Price

P1

Q1

Consider the demand for beer during the summer months. Let

Qd = 30 – 5P + 0.01I – 2R

Where Q is measured in thousands of 6-packs, P is the price per 6-pack in dollars, I is income, and R is the number of rainy days during the summer.

Supply is given by Qs = -100 + 20P

a) Plot the supply and demand curves if I = $20,000 and R = 15. What is the equilibrium price and quantity?b) If I = $20,000 and R = 10, plot the new demand curve

and find the new equilibrium. Compare this to the original equilibrium. Does the movement in P and Q make sense with the decline in the number of rainy days?

Market Model

Market Price•Market price – price prevailing in a

competitive market▫Some markets have one price: price of gold▫Some markets have more than one price:

price of Tide versus Wisk

Real Versus Nominal Prices

yearcurrent yearcurrent

yearbase Price Nominal x CPI

CPI RealPrice

baseyear

Real Price of College

Year Nom. Price

CPI Real Price

1970 $2,530 38.8

1990 $12,018 130.7

2010 $34,939 218.056

$3,569$12,018*130.738.8

$6,217$34,939*218.056

38.8

$2,530$2,530*38.838.8

The real price of a college education rose 145.7% percent from 1970 to 2010

Market for a College Education

Q (millions enrolled)

(annual cost in 1970

dollars)

D1970

S1970

S2010

D2010

$6,217

17.5

New equilibriumwas reached at $6,217 and a quantity of 17.5 million students

$2,530

8.6

P

Price Elasticity of Demand

•Measures the sensitivity of quantity demanded to price changes

P

QE DDP

%

%P

Q

Q

P

PP

QQE D

•When |ED| > 1, the good is price elastic|%Q| > |%P|

•When |ED| < 1, the good is price inelastic|%Q| < |% P|

Price Elasticity of Demand

Income Elasticity of Demand

•Measures how quantity demanded responds to a change in income

I

Q

Q

I

I/I

Q/Q EI

Cross-Price Elasticity of Demand•Measures how quantity demanded

responds to a change in the price of a related good

m

b

b

m

mm

bbPQ P

Q

Q

P

PP

QQE

mb

Price Elasticity of Supply

P

QE SSP

%

%

Elasticity: Application I

•Supply: QS = 1800 + 240P

•Demand: QD = 3550 – 266P

•Solve for equilibrium P and Q.

QD = QS

1800 + 240P = 3550 – 266P506P = 1750

P = $3.46 per bushel

Q = 1800 + (240)(3.46) = 2630 million bushels

Elasticity: Application I

•We can find the elasticities of demand and supply at these points

35.0)266(630,2

46.3

P

Q

Q

PE DD

P

32.0)240(630,2

46.3

P

Q

Q

PE SS

P

Elasticity: Application IQD = 3550 – 266P

QS = 1800 + 240P

Elasticity: Application II

• Given the following info on the market for copper:Q = 12 million metric tons per yearP = $2 per poundED = -0.5

ES = 1.5

• Solve for the linear Demand and Supply equations:

QD= a – bP

QS = c + dP

Welfare Analysis

Garden of Eden Choice:

1. Choice One2. Choice Two3. Choice Three4. Choice Four5. Choice Five

1. 2. 3. 4. 5.

0% 0% 0%0%0%

Adam Eve

12 0

9 3

5 5

4 8

0 12

Welfare Analysis

•Normative Measures▫Pareto Criterion▫Efficiency Criterion: maximize SW = CS

+ PSAdam Eve

12 0

9 3

5 5

4 8

0 12

CS

• Free Market Outcome: P*, Q*▫ Maximizes social welfare: SW = CS + PS

• Free Market Outcome: P*, Q*▫ Maximizes social welfare: SW = CS + PS

Supply

Demand

quantity

Price

Q*

P*PS

Deadweight Loss

Q

CS = Buyer Value - PricePS = Price – Seller Cost

Applications

•Price Ceilings•Price Floors•Taxes•Subsidies•Quotas