MANAGERIAL ECONOMICS 5.

OPPORTUNITY COST
- Exchanging one thing for another
CHAPTER 1
- Example: Sleep
LIMITS, ALTERNATIVES, AND CHOICES Chosen Decision : Study
ECONOMICS Opportunity Cost: Rest
- the social science concerned with 6. MARGINAL ANALYSIS
how individuals, institutions, and - How are you going to utilize the
society make optimal (best) choices best option
under conditions of scarcity. - It is all about the accumulation of
- Distributing and consumption of the best decision
goods - It requires data analysis (data
- Study of human activity both for driving decisions)
individuals and national levels - Data: Qualitative and Quantitative
7. EFFICIENCY AND PRODUCTIVITY
CONCEPTS OF ECONOMICS (Sir Lim’s - Maximum potential of a certain
Discussion) process, products, goods and
1. CHOICES AND DECISIONS services
- A process of selecting the best - Productive - How productive is a
options of products on a careful single process
and logical evaluation. - Example: Machines
2. HUMAN ACTIONS Check if the waste is
- Purposeful 1.) Effective
decisions/behavior/actions in order 2.) Efficient
to make a better decision 8. MEANS
- How and why people behave in the - Resources
real world
3. SCARCITY/SHORTAGE/LIMITATIONS
- Microeconomics 9. UTILITY
- money, time, land/resources, - How are you using the services/
skills, capital products
4. TRADE OFF - How are you satisfied of the
- Compromise, to balance decision product you are using
- Incomparable 10. GOODS
- Example: Extra Fund - The benefit of one or majority/whole
Product:
Option 1: Robust S&M THE ECONOMIC PERSPECTIVE
Activities - Economists view things from a
Option 2: You plan to create unique perspective. This economic
a new product. perspective, or economic way of
 thinking, has several critical and - Comparisons of marginal benefits
closely interrelated features. and marginal costs, usually for
decision making.
SCARCITY AND CHOICE - Marginal - extra, additional, or a
a. SCARCITY change in.
- Restricts options and demands - A comparison of marginal benefits
choices and marginal costs is needed to
- Also known as the lack of resources determine the best or optimal output
or goods mix on a production possibilities
- limited resources, unlimited wants curve.
- Anything that talks about scarcity is a. MARGINAL BENEFITS
referring to the concepts of - A marginal benefit is a maximum
economics. amount a consumer is willing to pay
- Forces us to make a choice. for an additional good or service.
PURPOSEFUL BEHAVIOR - It is also the additional satisfaction or
- People make decisions with some utility that a consumer receives when
desired outcome in mind. the additional good or service is
- Consumers are purposeful in purchased.
deciding what goods and services to - The marginal benefit for a consumer
buy. tends to decrease as consumption
- Business firms are purposeful in of the good or service increases.
deciding what products to produce b. MARGINAL COST
and how to produce them. - The increase in production costs
- Government entities are purposeful generated by the production of
in deciding what public services to additional product units.
provide and how to finance them
a. RATIONAL SELF-INTEREST THEORIES, PRINCIPLES, AND MODELS
- Economics assumes that human - purposeful simplifications
behavior reflects rational self-interest. - In developing theories, principles,
- Not the same as selfishness. and models economists remove the
b. UTILITY clutter and simplify.
- The pleasure, happiness, or - Economic principles and models are
satisfaction obtained from highly useful in analyzing economic
consuming a good or service. behavior and understanding how
the economy operates.
MARGINAL ANALYSIS: COMPARING BENEFITS - Good theories do a good job of
AND COSTS explaining and predicting
a. SCIENTIFIC METHOD
- Economics rely on this method.
 b. ECONOMIC PRINCIPLES - examines the performance and
- a statement about economic behavior of the economy as a
behavior or the economy that whole.
enables prediction of the probable - It focuses its attention on economic
effects of certain actions. growth, the business cycle, interest
rates, inflation, and the behavior of
● GENERALIZATIONS major economic aggregates such as
- relates to economic behavior the government, household, and
or to the economy itself business sectors.
- expressed as the tendencies a. AGGREGATE
of typical or average - a collection of specific
consumers, workers, or economic units treated as if they
business firms. were one unit.
● OTHER-THINGS-EQUAL - In using aggregates,
ASSUMPTION macroeconomics seeks to obtain
- Also known as ceteris paribus an overview, or general outline,
- the assumption that factors of the structure of the economy
other than those being and the relationships of its major
considered do not change. aggregates.
- They assume that all variables POSITIVE AND NORMATIVE ECONOMICS
except those under a. POSITIVE ECONOMICS
immediate consideration are - what is
held constant for a particular - focuses on facts and
analysis. cause-and-effect relationships.
● GRAPHICAL EXPRESSION - avoids value judgments.
- Many economic models are - tries to establish scientific
expressed graphically. statements about economic
- Utilization of graphs to behavior and deals with what
represent or compare the economy is actually like.
relationships between b. NORMATIVE ECONOMICS
variables. - what ought to be
MICROECONOMICS AND - incorporates value judgments
MACROECONOMICS about what the economy should
MICROECONOMICS be like or what particular policy
- the part of economics concerned actions should be
with decision making by individual recommended to achieve a
customers, workers, households, and desirable goal.
business firms. - Subjective
MACROECONOMICS
 - looks at the desirability of certain - a decrease in money income
aspects of the economy. shifts it to the left.
INDIVIDUAL’S ECONOMIZING PROBLEM SOCIETY’S ECONOMIZING PROBLEM
ECONOMIZING PROBLEM a. SCARCE RESOURCES
- the need to make choices because - all natural, human, and
economic wants exceed economic manufactured resources that go into
means the production of goods and
- will enhance your understanding of services.
economic models and the b. RESOURCE CATEGORIES
difference between microeconomic ● LAND
and macroeconomic analysis. - includes all natural resources
INDIVIDUAL’S ECONOMIZING PROBLEM ● LABOR
a. LIMITED INCOME - physical actions and mental
- We all have a finite amount of activities that people
income contribute to the production
b. UNLIMITED WANTS of goods and services.
- We desire various goods and ● CAPITAL
services that provide utility - Includes all manufactured
c. BUDGET LINE/LIMIT aids used in producing
- It is a schedule or curve that consumer goods and
shows various combinations of services.
two products a consumer can - Investment - to describe
purchase with a specific money spending that pays for the
income. production and
● ATTAINABLE COMBINATIONS accumulation of capital
- all combinations on or inside the goods.
budget line. ● ENTREPRENEURIAL ABILITY
● UNATTAINABLE COMBINATIONS - the special human resource,
- all combinations beyond the distinct from labor
budget line. - Supplied by entrepreneurs.
● CHOICE FACTORS OF PRODUCTIONS/INPUT
- Limited income forces people to - Land, Labor, Capital, and
choose what to buy and what to Entrepreneurial Ability are combined
forgo to fulfill wants. to produce goods and services.
● INCOME CHANGES PRODUCTION POSSIBILITIES MODEL
- The location of the budget line a. FULL EMPLOYMENT
varies with money income. - The economy is employing all of its
- An increase in money income available resources.
shifts the budget line to the right; b. FIXED RESOURCES
 - The quantity and quality of the
factors of production are fixed.
c. FIXED TECHNOLOGY
- The state of technology (the
methods used to produce output) is
constant.
d. TWO GOODS
- The economy produces only two
goods.

● CONSUMER GOODS
- products that satisfy our
wants directly
● CAPITAL GOODS
- products that satisfy our - Each point on the production
wants indirectly by making possibilities curve represents some
possible more efficient maximum output of the two
production of consumer products.
goods. - The curve is a “constraint” because it
PRODUCTION POSSIBILITIES TABLE shows the limit of attainable outputs.
- lists the different combinations of two - Points on the curve are attainable as
products that can be produced with long as the economy uses all its
a specific set of resources, assuming available resources.
full employment. - Points lying inside the curve are also
PRODUCTION POSSIBILITIES CURVE attainable, but they reflect less total
- The data presented in a production output and therefore are not as
possibilities table are shown desirable as points on the curve.
graphically as a production - Points inside the curve imply that the
possibilities curve. economy could have more of both
- a curve displays the different industrial robots and pizzas if it
combinations of goods and services achieved full employment of its
that society can produce in a fully resources
employed economy, assuming a - Points lying beyond the production
fixed availability of supplies of possibilities curve, like W, would
resources and fixed technology. represent a greater output than the
- x axis = capital goods; output at any point on the curve.
y axis = consumer goods Such points, however, are
unattainable with the current
 availability of resources and production possibilities curve shifts
technology. positions and the potential maximum
LAW OF INCREASING OPPORTUNITY COSTS output of the economy changes.
- As the production of a particular a. INCREASES IN RESOURCE SUPPLIES
good increases, the opportunity cost - Although resource supplies are fixed
of producing an additional unit rises at any specific moment, they
a. SHAPE OF THE CURVE change over time.
- The law of increasing opportunity - The net result of these increased
costs is reflected in the shape of supplies of the factors of production
the production possibilities curve. is the ability to produce more of both
b. ECONOMIC RATIONALE consumer goods and capital goods.
- The law of increasing opportunity - The economy will have achieved
costs is driven by the fact that economic growth in the form of
economic resources are not expanded potential output.
completely adaptable to - When an increase in the quantity or
alternative uses. quality of resources occurs, the
- Many resources are better at production possibilities curve shifts
producing one type of good outward and to the right. This sort of
than at producing others shift represents growth of economic
UNEMPLOYMENT, GROWTH, AND THE FUTURE capacity, which, when used, means
economic growth: a larger total
output.
b. ADVANCES IN TECHNOLOGY
- brings both new and better goods
and improved ways of producing
them.
- These advances alter our previous
discussion of the economizing
problem by allowing society to
produce more goods with available
resources.
CONCLUSION: Economic growth is the result
of:
(1) increases in supplies of resources
(2) improvements in resource quality
A GROWING ECONOMY (3) technological advances.
- When we drop the assumptions that ● GROWTH
the quantity and quality of resources - Full-employment economy can
and technology are fixed, the enjoy a greater output of both
 consumption goods and capital INTERNATIONAL SPECIALIZATION AND TRADE
goods. - Each nation first specializes in the
● STATIC production of those items for which it
- no-growth economies must has the lowest opportunity costs
sacrifice some of one good to (due to an abundance of the
obtain more of another, dynamic, necessary resources).
growing economies can have - allow a nation to get more of a
larger quantities of both goods. desired good at less sacrifice of
some other good.
PRESENT CHOICES AND FUTURE POSSIBILITIES
- An economy’s current choice of
positions on its production possibilities
CHAPTER 2
curve helps determine the future
location of that curve.
ECONOMIC SYSTEMS

COMMON PITFALLS - a particular set of institutional

a. BIASES arrangements and a coordinating

- cloud thinking and interfere with mechanism.

objective analysis.
b. LOADED TERMINOLOGY TYPES OF ECONOMIC SYSTEMS:

- To objectively analyze economic a. LAISSEZ-FAIRE CAPITALISM

issues, you must be prepared to - “pure capitalism”

reject or discount such terminology. - French: “let it be”, keep the

c. FALLACY OF COMPOSITION government from interfering with

- assumption is not correct the economy.

d. POST HOC FALLACY b. COMMAND SYSTEM

- You must think very carefully before - the government owns most

concluding property resources and economic

e. CORRELATION BUT NOT CAUSATION decision making.

- Correlation between two events or - “socialism or communism”

two sets of data indicates only that

they are associated in some SOCIALISM

systematic and dependable way. - contribution is made from

A QUALIFICATION: INTERNATIONAL TRADE everyone according to their

PRODUCTION POSSIBILITIES ANALYSIS ability but they get back

- implies that an individual nation is according to the size of their

limited to the combinations of output contribution.

indicated by its production

possibilities curve. COMMUNISM
 - everyone in society
contributes and works c. SELF-INTEREST
according to their ability and - motivating force of the various
gets back everything economic units as they express their
according to their need. free choices.

c. MARKET SYSTEM d. COMPETITION

- “capitalism or mixed economy” - two or more buyers and two or more
- Profit-seeking businesses and sellers acting independently in a
consumer choices are central, particular product or resource
and government intervention is market. (Usually there are many
typically minimal. more than two buyers or sellers)
- market is the force in making - Freedom of sellers and buyers to
economic decisions enter or leave markets, on the basis
of their economic self-interest.
CHARACTERISTICS OF A MARKET SYSTEM
a. PRIVATE PROPERTY e. MARKETS AND PRICES
PROPERTY RIGHTS - used to communicate and
- encourage people to coordinate the decisions of buyers
cooperate and make and sellers.
mutually agreeable
economic transactions f. TECHNOLOGY AND CAPITAL GOODS
- the market system encourages
b. FREEDOM OF ENTERPRISE AND extensive use and rapid
CHOICE development of complex capital
goods.
FREEDOM OF ENTERPRISE
- ensures that entrepreneurs g. SPECIALIZATION
and private businesses are - using the resources efficiently of an
free to obtain and use individual, firm, region, or nation to
economic resources to produce one or few goods or
produce the goods and services rather than the entire range
services of their choosing and of goods and services.
sell them in their chosen
markets. DIVISION OF LABOR
FREEDOM OF CHOICE - Specialization makes use of
- enables owners to employ or differences in ability
dispose of their property and - Specialization fosters learning
money as they see fit. by doing
 - Specialization saves time 5 FUNDAMENTAL QUESTIONS
a. WHAT TO PRODUCE?
GEOGRAPHIC SPECIALIZATION CUSTOMER SOVEREIGNTY
- regions or countries focus on - consumers are in command
producing specific goods or and express their wishes for
services in which they have a the goods and services
comparative advantage due through dollar votes.
to factors such as climate, b. HOW TO PRODUCE?
resources, or expertise. - competition forces them to use the
most efficient techniques
h. USE OF MONEY c. WHO OBTAINS THE OUTPUT?
- a medium of exchange - the distribution of output is primarily
determined by the distribution of
BARTER income.
- swapping goods for goods - higher incomes, greater purchasing
- a coincidence of wants power = larger share of the goods
between buyer and the and services produced.
seller. d. HOW TO ADJUST TO CHANGE?
- ability of an economic system to
i. ACTIVE BUT LIMITED GOVERNMENT adapt to shifts in economic activities.
- describes the role of government in e. HOW TO PROMOTE PROGRESS?
such an economic framework. - Through Technological
Advancement and Capital
VIRTUES OF A MARKET SYSTEM Accumulation
a. EFFICIENCY
- market system promotes the efficient TECHNOLOGICAL ADVANCEMENT
use of resources by guiding them - improved methods that
into the production of the goods would reduce production or
and services most wanted by distribution costs.
society.
b. INCENTIVES CREATIVE DESTRUCTION
- market system encourages skill - creation of new products
acquisition, hard work, and and production methods
innovation. completely destroys the
c. FREEDOM market positions of firms that
- major noneconomic argument for are wedded to existing
the market system is its emphasis on products and older ways of
personal freedom. doing business.
- Example: CDs to iPods
 CAPITAL ACCUMULATION
- increasing physical, financial,
or human assets over time to
boost productivity, economic
growth, and development.

INVISIBLE HAND
- by economist ADAM SMITH in his
book, “The Wealth of Nations”.
- The invisible hand ensures that when
firms maximize their profits and
- Resources flow from households to
resource suppliers maximize their
businesses through the resource
incomes, these groups also help
market, and
maximize society’s output and
- products flow from businesses to
income.
households through the product
market.
DEMISE OF COMMAND SYSTEMS
- Opposite these real flows are
a. COORDINATION PROBLEM
monetary flows.
- Involved the difficulty of
- Households receive income from
coordinating the economy's
businesses (their costs) through the
many interdependent
resource market, and
segments and avoiding the
- businesses receive revenue from
chain reaction that would
households (their expenditures)
result from a bottleneck in
through the product market.
any one of the segments.
b. INCENTIVE PROBLEM
- In a command economy,
incentives are ineffective for
encouraging economic CHAPTER 3
initiatives and work and for
directing the most efficient
MARKET
use of productive resources.
- Bringing together buyers
CIRCULAR FLOW MODEL
(demanders) and sellers (suppliers)
- representation of the flow of goods,
- A group of buyers and sellers of a
services, income, and resources in
particular good or service.
an economy.
BUYERS - the one who determines
the demand for the product
 SELLERS - the one who determines - There is a negative or inverse
the supply of the product. relationship between price and
quantity demanded
COMPETITIVE MARKET
- A market in which there are 3 REASONS WHY THERE IS AN INVERSE
many buyers and many RELATIONSHIP BETWEEN THE PRICE AND
sellers so that each has a QUANTITY DEMAND:
negotiable impact on the 1. COMMON SENSE
marketplace. - People ordinarily do buy more of a
product at a low price than at a
PERFECTLY COMPETITIVE high price.
- When the things being sold - If cheap → people buy more
are exactly the same. - If expensive → people buy
less
MONOPOLY
- There is only one seller, and 2. DIMINISHING MARGINAL UTILITY
they decide or set the prices. - In any specific time period, each
buyer of a product will derive less
DEMAND satisfaction (or benefit, or utility) from
- Is a schedule or a curve that shows each successive unit of the product
the various amounts of a product consumed
that consumers are willing and able - Meaning: each addition of a
to purchase at each of a series of product gives us less
possible prices during a specific satisfaction.
period of time
3. “INCOME” AND “SUBSTITUTION”
QUANTITY DEMANDED EFFECT
- The amount of a good that
buyers are willing and able to INCOME EFFECT
purchase. - A lower price increases the
purchasing power of a
LAW OF DEMAND buyer’s money income.
- The claim that other things being
equal, as the quantity demanded of SUBSTITUTION EFFECT
a good falls, the price of the good - A lower price buyers have
rises, or when the price of the goods the incentive to substitute
falls, the quantity demanded rises, what is now a less expensive
ceteris paribus product for other products
 that are now relatively more shifts the demand curve to the left
expensive. and is called a decrease in demand.
- Meaning: lower prices make
you want to buy more, and BASIC DETERMINANTS OF DEMAND
higher prices, make you want a. TASTES
to buy less - A favorable change in consumer
tastes (preferences) for a
DEMAND SCHEDULE product—a change that makes the
- A table that shows the relationship product more desirable—means that
between the price of a goods and more of it will be demanded at each
the quantity demanded. price
- There is a direct relationship
DEMAND CURVE between the customers taste and
- A graph that shows the inverse (or quantity demanded.
negative) relationship between the
price of a goods and the quantity b. NUMBER OF BUYERS
demanded. - An increase in the number of buyers
- It shows a downward slope in a market is likely to increase
demand; a decrease in the number
MARKET DEMAND of buyers will probably decrease
- The sum of all individual demand for demand
a particular goods and services. - There is a direct relationship
between the number of buyers and
CHANGE IN DEMAND quantity demanded
- A change in the demand schedule
or, graphically, a shift in the demand c. INCOME
curve - A lower income means that you
- A shift of the demand curve to the have less to spend in total, so you
right (an increase in demand) or to would have to spend less on some
the left (a decrease in demand). and probably most--goods.

SHIFT IN THE DEMAND CURVE

NORMAL GOODS INFERIOR GOODS
- Any change that increases the
quantity demanded at every price, A good for which, A good for which,
shifts the demand curve to the right other things equal, other things equal,
and is called an increase in an increase in an increase in
demand. Income leads to an income leads to a
- Any change that reduces the increase in decrease in
quantity demanded at every price demand, demand
 - A change in expectations
There is a direct There is an inverse
concerning future income may
relationship relationship
prompt consumers to change their
between changes between changes
current spending.
in income and its in income and its
- There is a direct relationship
demand curve. demand curve

CHANGES IN QUANTITY DEMANDED

d. PRICES OF RELATED GOODS - Is a movement from one point to
another point—from one
SUBSTITUTE GOODS COMPLEMENTARY price-quantity combination to
GOODS another—on a fixed demand
schedule or demand curve.
One that can be One that is used
used in place of together with SUPPLY
another good another good. - A schedule or curve showing the
various amounts of a product that
Are two goods for Are two goods for
producers are willing and able to
which an increase which an increase
make available for sale at each of a
in the price of one in the price of one
series of possible prices during a
leads to an leads to a
specific period, , ceteris paribus
increase in the decrease in the
demand for the demand for the
LAW OF SUPPLY
other. other.
- The claim that other things being
There is a direct There is an inverse equal, as the quantity demanded of
relationship relationship a good falls, the price of the good
between a price between a price falls, or when the price of the goods
change for one change for one rises, the quantity demanded rises,
good and the good and the ceteris paribus
demand for its demand demand - There is a positive or direct
“competitor” for its “go together” relationship between price and
goods. goods. quantity demanded

SUPPLY SCHEDULE
UNRELATED GOODS
- A table that shows the relationship
- The vast majority of goods
between the price of goods and the
are not related to one
quantity demanded.
another and are called
independent goods
SUPPLY CURVE

e. CONSUMER EXPECTATIONS
 - A graph of the direct or positive - Improvements in technology make it
relationship between the price of a possible for firms to produce more
good and the quantity supplied output with the same amount of
- It shows an upward slope resources. This leads to a decrease in
the cost of production, which in turn
MARKET SUPPLY leads to an increase in supply
- The sum of all individual supply for - There is a direct relationship
particular goods and services by between the technology and supply
each producer at each price.
c. TAXES AND SUBSIDIES
CHANGES IN SUPPLY
- A change in any one or more of
TAXES SUBSIDIES
these determinants of supply, or
supply shifters, will move the supply An increase in sales An increase in sales
curve for a product either right or or property taxes or property
will increase subsidies will
left.
production costs decrease
- A shift to the right (an increase in
and reduce supply production costs
supply) or a shift to the left (a and increase
decrease in demand). supply

There is an inverse There is a direct

SHIFT IN THE SUPPLY CURVE
relationship with relationship with
- An increase in supply is shown as a
supply supply
rightward shift of the supply curve
while a decrease in supply is
d. PRICES OF OTHER GOODS
depicted as a leftward shift of the
- When the prices of other goods
curve.
increase, producers may switch
production to those other goods in
BASIC DETERMINANTS OF SUPPLY
order to increase profits.
a. RESOURCE PRICES
- There is an inverse relationship
- Higher resource prices raise
between the prices of goods and
production cost and squeeze or
the supply
reduce profits
- Lower resource prices reduce
e. PRODUCER EXPECTATIONS
production cost and increase profits
- When the producers expect the
- There is an inverse relationship
price of a good to increase in the
between the resource prices and
future, they may be more likely to
the supply
produce more of that good now.

b. TECHNOLOGY
 - There is a direct relationship
willing to buy it at
between the producers' the given price that
expectations and the supply. is why sellers are
pricing down its
f. NUMBER OF SELLERS IN THE MARKET selling price
- the larger the number of suppliers,
the greater the market supply. RATIONING FUNCTIONS OF PRICES
Conversely, the smaller the number - The ability of the competitive forces
of firms in the industry, the less the of supply and demand to establish a
market supply. price at which selling and buying
- There is a direct relationship decisions are consistent
between the number of sellers in the
market and the supply. EFFICIENT ALLOCATION
- A competitive market such as that
CHANGES IN QUANTITY SUPPLIED we have described not only rations
- A movement from one point to goods to consumers but also
another on a fixed supply curve, allocates society’s resources
ceteris paribus. efficiently to the particular product.

MARKET EQUILIBRIUM
PRODUCTIVE ALLOCATIVE
EFFICIENCY EFFICIENCY
EQUILIBRIUM PRICE EQUILIBRIUM
QUANTITY The production of The particular mix of
any particular good goods and services
Known as the the quantity at in the least costly most highly valued
“market clearing which the intentions way to lower their by society
price” of buyers and sellers cost production. (minimum-cost
match, so that the production
It is the price where quantity assumed)
quantity demanded and the
demanded equals quantity supplied
CHANGE IN DEMAND
quantity supplied. are equal.
- Increase in demand raises both the
equilibrium price and quantity
SUPPLUS vs. SHORTAGE

SUPPLUS SHORTAGE

Or Excess supply Or Excess demand

which drives prices wherein quantity
down because no demanded would
consumers are exceed the supply.
 - Decrease in demand reduces or
COMPLEX CASES
decreases both the equilibrium price
a. SUPPLY INCREASE, DEMAND
and quantity
DECREASE
- This will cause a fall in the equilibrium
price.
- This increases the equilibrium
quantity, but the decrease in
demand reduces it. In addition, the
equilibrium quantity increases when
supply is larger but when decrease in
demand is greater than increase in
supply, equilibrium quantity will
decrease.
CHANGE IN SUPPLY
- Increase in supply reduces
b. SUPPLY INCREASE, DEMAND
equilibrium price but increases in
INCREASE
equilibrium quantity
- A supply increase drops the
equilibrium price, while a demand
increase boosts it. If supply is greater,
the equilibrium price will fall and if
demand is greater, the equilibrium
price will rise.

c. SUPPLY DECREASE, DEMAND

INCREASE

- Decrease in supply will cost the - A decrease in supply and an

equilibrium price to rise while the increase in demand both increase
equilibrium quantity declines the price.
 MARKET FAILURES: PUBLIC GOODS AND
d. SUPPLY DECREASE, DEMAND EXTERNALITIES
DECREASE - How properly functioning markets
- If the decrease in supply is greater efficiently allocate resources and
than demand, the equilibrium price what happens when markets don’t
will rise. Otherwise, equilibrium prices function properly.
will fall.
MARKET FAILURES IN COMPETITIVE
MARKETS

a. DEMAND-SIDE MARKET FAILURES

- Happen when demand curves do
not reflect consumers’ full willingness
PRICE CEILING vs PRICE FLOOR to pay for a good or service.
- Arises because it is impossible in
PRICE CEILING PRICE FLOOR
certain cases to charge consumers
Sets the maximum A minimum price what they are willing to pay for a
legal price a seller fixed by the product or service.
may charge for a government.
product or service. A price at or above
b. SUPPLY-SIDE MARKET FAILURES
A price at or below the price floor is
the ceiling is legal; legal; a price below - Occur when supply curves do not
a price above it is it is not. reflect the full cost of producing a
not. good or service.
- Arises in situations in which a firm
When the ceiling When the price
does not have to pay the full cost of
price is below the floor is above the
producing its output.
equilibrium price, a equilibrium price, a
persistent product persistent product
shortage results surplus results EFFICIENTLY FUNCTIONING MARKETS
- The demand curve in the market
must reflect consumers’ full
willingness to pay, and the supply
curve in the market must reflect all
the costs of production. If these
conditions hold, then the market will
produce only units for which benefits
are at least equal to costs. It will also
maximize the amount of “benefit
CHAPTER 4 surpluses” that are shared between
consumers and producers.
 maximum willingness to pay and the
a. CONSUMER SURPLUS actual price. When price declines,
- Benefit surplus received by a the gap widens between maximum
consumer or consumers in a market. willingness to pay and actual price.
- The difference between the
maximum price a consumer is willing b. PRODUCER SURPLUS
to pay for a product and the actual - The difference between the actual
price that they do pay (the lower price a producer receives (or
equilibrium price). producers) and the minimum
acceptable price that a consumer
would have to pay the producer to
make a particular unit of output
available.
- A producer’s minimum acceptable
price for a particular unit will equal
the producer’s marginal cost of
producing that particular unit.
- That marginal cost will be the sum of
the rent, wages, interest, and profit
that the producer will need to pay in
order to obtain the land, labor,
capital, and entrepreneurship
required to produce that particular
unit.
- In addition to equal marginal cost, a
producer’s minimum acceptable
- Consumers are willing to pay the sum price can also be interpreted as the
of the amounts represented by the opportunity cost of bidding
green triangle and the yellow resources away from the production
rectangle. Because they need to of other products.
pay only the amount shown as the
yellow rectangle, the green triangle
shows consumer surplus.
- Consumer surplus and price are
inversely (negatively) related. Given
the demand curve, higher prices
reduce consumer surplus; lower
prices increase it. When price goes - The size of the producer surplus

up, the gap narrows between the earned on any particular unit will be
 the difference between the market - Productive Efficiency - is
price that the producer actually achieved because
receives and the producer’s competition forces the
minimum acceptable price. producers of a product in
using the best technologies
and combinations of
resources available to
minimize the per-unit cost of
the output produced.
- Allocative Efficiency - is
achieved because the
correct quantity of a product
is produced relative to other
goods and services.
- Producers receive the sum of the
amounts represented by the blue
triangle plus the yellow area.
Because they need to receive only
the amount shown by the yellow
area to produce Q1, the blue
triangle represents producer surplus.
- There is a direct (positive)
relationship between equilibrium
price and the amount of producer
surplus. Given the supply curve, - The combined amount of consumer
lower prices reduce producer surplus, shown as the green triangle,
surplus; higher prices increase it. The and producer surplus, shown as the
gaps between the minimum blue triangle, is maximized. Efficiency
acceptable payments and the occurs because, at Q1, maximum
actual prices narrows and widens willingness to pay, indicated by the
when the price decreases and points on the demand curve, equals
increases respectively. minimum acceptable price, shown
by the points on the supply curve.
c. EFFICIENCY REVISITED - The allocatively efficient quantity of
- Bringing together the demand and a product is to note that demand
supply curves to show the and supply curves can be
equilibrium price and quantity and interpreted as measuring marginal
the regions of consumer and benefit (MB) and marginal cost
producer surplus. (MC).
 - When maximum willingness to pay a. PRIVATE GOODS CHARACTERISTICS
exceeds the minimum acceptable - Private goods are goods offered for
price for every unit, it means that sale in stores, in shops, and on the
people derive greater satisfaction internet. Private goods are
from producing and consuming distinguished by rivalry and
those units compared to any other excludability.
alternatives that could have been - Rivalry - when one person
produced using the same resources. buys and consumes a
- When demand curves reflect buyers’ product, it is not available for
full willingness to pay and when another person to buy and
supply curves reflect all the costs consume.
facing sellers, competitive markets - Excludability - sellers can
produce equilibrium quantities that exclude people who do not
maximize the sum of consumer and pay for a product from
producer surplus. Allocative obtaining its benefits.
efficiency occurs at the market - Consumers fully express their
equilibrium quantity where three personal demands for private goods
conditions exist simultaneously: in the market.
- The market demand for a private
MB = MC
good is the horizontal summation of
Maximum willingness to pay = Minimum the individual demand schedules.
acceptable price - Consumers demand private goods,
and profit-seeking suppliers produce
Total Surplus (= sum of consumer and goods that satisfy the demand.
producer surplus) is at maximum
Consumers willing to pay the market
price obtain the goods; nonpayers
PUBLIC GOODS go without.
- Demand-side market failures arise in - A competitive market not only
competitive markets when demand makes private goods available to
curves fail to reflect consumers’ full consumers but also allocates
willingness to pay for a good or society’s resources efficiently to the
service. This underreporting problem particular product. There is neither
reaches its most extreme form in the underproduction nor overproduction
case of a public good: Markets may of the product.
fail to produce any of the public
goods because its demand curve b. PUBLIC GOODS CHARACTERISTICS
may reflect none of its consumers’ - Public goods have the opposite
willingness to pay. characteristics of private goods.
 Distinguished by nonrivalry and d. DEMAND FOR PUBLIC GOODS
nonexcludability. - The demand for public goods is
- Nonrivalry - one person’s collectively determined by the
consumption of a good does preferences and needs of society as
not preclude consumption of a whole.
the good by others.
- Nonexcludability - there is no
effective way of excluding
individuals from the benefit of
the good once it comes into
existence.
- Public goods can be challenging for - Suppose the government produces
markets to provide efficiently 1 unit of this public good. Because of
because they often suffer from the nonrivalry, Adams’s consumption of
"free rider" problem. Since people the good does not preclude Benson
can benefit from public goods from also consuming it, and vice
without paying for them, there may versa. So both consume the good,
be an under-provision of these and neither volunteers to pay for it.
goods in the absence of But from the table, we can find the
government intervention or other amount these two people would be
mechanisms to ensure their provision. willing to pay, together, rather than
This is why public goods are often do without this 1 unit of the good.
funded and provided by Hence, the two are jointly willing to
governments or other public pay $9 for the first unit.
institutions to ensure equitable
access for all members of society.

c. OPTIMAL QUANTITY OF A PUBLIC

GOOD
- The government estimates how
much people want a public good
through surveys or votes. Then, it
checks if the benefit of providing
one more unit is worth the cost. By - Table (a) D1 shows Adams’s
following the rule that benefit should willingness to pay for various
equal cost, the government can quantities of a particular public
give the right and efficient amount good.
of the public good.
 - The downward slopes of the
willingness to pay curves are the
marginal-benefit curves.

e. COMPARING MB AND MC
- The supply curve measures society’s
marginal cost of each unit. Optimal
quantity of a public good occurs
when MB = MC, or where the two
- Table (b) D2 shows Benson’s curves intersect.
willingness to pay for these same 3 units of the public good
quantities of this public good. $5 marginal benefit = $5 marginal cost

f. COST-BENEFIT ANALYSIS
- Deciding whether to provide a
particular good and how much of it
to provide, if it’s worth doing or not.

g. QUASI-PUBLIC GOODS
- Provides other goods and services
that could be produced and
delivered in such a way that
exclusion would be possible.
- Examples given: Education, Streets
- Table (c) The collective demand for and Highways, Police and Fire
this public good is shown by Dc and protection, Libraries and Museums,
is found by summing vertically Preventive medicine, and Sewage
Adams’s and Benson’s individual disposal.
willingness-to-pay curves. - They are typically provided by
- The supply (S) of the public good is private businesses or organizations,
upsloping, reflecting rising marginal and users are required to pay a fee
costs. The optimal amount of the or subscription for access.
public good is 3 units, determined by
the intersection of Dc and S. At that h. THE REALLOCATION PROCESS
output, marginal benefit (reflected in - The government levies taxes on
the collective demand curve Dc ) households and businesses. With
equals marginal cost (reflected in lower incomes and hence less
the supply curve S). purchasing power, households and
businesses must curtail their
 consumption and investment
spending.
- As a result, the private demand for
goods and services declines, as
does the private demand for
resources.
- Taxes remove resources from private
use. The government then spends
the tax proceeds to provide public
and quasi-public goods and
services.

EXTERNALITIES
- Occurs when some of the costs or
- With negative externalities borne by
the benefits of a good or service are
society, the producers’ supply curve
passed onto or “spill over to”
S is to the right of (below) the
someone other than the immediate
total-cost supply curve St.
buyer or seller.
Consequently, the equilibrium output
Qe is greater than the optimal output
a. NEGATIVE EXTERNALITIES
Qo, and the efficiency loss is abc.
- Causes supply-side market failures,
- Resources are overallocated to the
because producers do not take into
production. There is a net loss to
account the costs that their negative
society for every unit from Qo to Qe.
externalities impose on others.
- Marginal Cost (MC) exceeds
- This failure to account for all
Marginal Benefit (MB). MC > MB
production costs causes firms’ supply
curves to shift to the right of (or
below) where they would be if firms
properly accounted for all costs.
b. POSITIVE EXTERNALITIES
- Causes demand-side market
failures, because market demand
curves in such cases fail to include
the willingness to pay of the third
parties who receive the external
benefits caused by the positive
externality.
- This failure to account for all benefits
shifts market demand curves to the
left of (or below) where they would
 be if they included all benefits and - Direct Controls - passing
the willingness to pay of both the legislation to reduce
third parties as well as the primary negative externalities from a
beneficiaries. certain activity.
- Specific Taxes - levy taxes or
charges specifically on
related goods that affect
negative externalities.
- Subsidies and Government Provision
- Subsidies to buyers and
producers - payments from
the government decreases
buyers’ and producers’ cost.
- Government provision - the
government may decide to
provide a product or service
for free to everyone.

- When positive externalities accrue to

SOCIETY’S OPTIMAL AMOUNT OF
society, the market demand curve D
EXTERNALITY REDUCTION
is to the left of (below) the
- Reducing Negative Externalities is not
total-benefit demand curve Dt. As a
free. There are costs as well as
result, the equilibrium output Qe is
benefits to reducing negative
less than the optimal output Qo, and
externalities.
the efficiency loss is xyz.
- Products featuring positive
externalities are underproduced.
- Marginal Benefit (MB) exceeds
Marginal Cost (MC). MB > MC

c. GOVERNMENT INTERVENTION
- Called upon to achieve economic
- MC rises as a negative externality is
efficiency when externalities affect
reduced. At some point MC may rise
large numbers of people or when
so high that it exceeds society’s
community interests are at stake.
marginal benefit (MB).
- Government can use direct controls
- Additional actions to reduce a
and taxes to counter negative
negative externality will therefore
externalities; it may provide subsidies
lower society’s well-being; total cost
or public goods to deal with positive
will rise more than total benefit.
externalities.
 CHAPTER 5
a. MC, MB, AND EQUILIBRIUM QUANTITY
- The optimal reduction of an
externality occurs when society’s GOVERNMENT

marginal cost and marginal benefit - Perform several economic tasks such

of reducing that externality are as promoting production and trade

equal (MC = MB). by defining property rights, enforcing

contracts, setting disputes, enforcing
laws, redistributing income via taxes,
MB > MC = increases economic efficiency
reallocating resources by producing
MC > MB = decreases economic
public goods, and promoting
efficiency
economic growth and full
employment.
b. SHIFTS IN LOCATIONS OF THE CURVES
- The locations of the marginal-cost ECONOMY
and marginal-benefit curves are not - a market system that uses mostly
forever fixed. They can, and markets and prices to coordinate
probably do, shift over time. and direct economic activity

c. GOVERNMENT’S ROLE IN THE GOVERNMENT’S RIGHT TO COERCE

ECONOMY - The government possesses the legal
- Government officials must correctly right to force people to do things
identify the existence and the cause - The private sector consists primarily
of any given market failure. of voluntary transactions, while the
- But even if a market failure is government has the legal right to
correctly identified and diagnosed, enforce involuntary transactions.
the government may still fail to take
appropriate corrective action due to a. CORRECTING FOR MARKET FAILURES
the fact that the government - market failures cause
undertakes its economic role in the resource misallocations.
context of politics. - the government can improve
economic efficiency by using
GOVERNMENT FAILURE - economically involuntarily collected tax
inefficient outcomes caused by money to subsidize
shortcomings in the public sector. production
- Positive externalities and
MARKET FAILURE - inherent shortcomings of negative externalities
the market system. b. Reducing Private-Sector Economic
Risks
 - Government’s ability to force - To make sure that laws are
people to do things is also uniformly enforced, the
crucial in reducing bureaucracy is regulated by
private-sector economic risks detailed rules and regulations
- the government helps to governing nearly every
ensure that only mutually possible action that any
agreeable transactions take individual bureaucrat might
place by making blackmail, be called upon to make.
extortion, and other forms of - These rules and regulations
private coercion illegal. ensure that laws and
regulations are uniformly
THE PROBLEM OF DIRECTING AND applied.
MANAGING GOVERNMENT e. THE INFORMATION AGGREGATION
PROBLEM
a. NO INVISIBLE HAND - Because of their massive size
- Government economic and scope, bureaucracies
polices are not self-correcting have difficulty with effectively
- Unlike the private sector aggregating and conveying
where competitive forces ” information from their bottom
help to automatically direct layers to their top layers
resources to their best uses, - top officials will tend to make
poorly designed government many inefficient choices
policies can misallocate because they do not have
resources indefinitely unless enough information to
active steps are taken by sensibly compare the
legislators or administrators. marginal benefits and
b. MASSIVE SIZE AND SCOPE marginal costs of individual
- Identifying and correcting programs
inefficient government f. LACK OF ACCOUNTABILITY
policies is hampered by - hundreds or even thousands
government’s massive size of individual programs may
and scope be poorly run without
c. THE NEED FOR BUREAUCRACY affecting the reelection
- They collectively form a chances of the incumbent
massive, hierarchical, politicians who are supposed
many-layered bureaucracy to be supervising everything
d. THE NEED FOR PAPERWORK AND
INFLEXIBILITY GOVERNMENT FAILURE
 - refers to economically inefficient best interests of their
outcomes caused by shortcomings constituents
in the public sector - Sound economics calls for
- occur because the incentive the public sector to pursue
structures facing government various programs as long as
officials lead them to either put their marginal benefits exceed
own interests ahead of voter interests marginal costs
or to put the interests of a minority of - Good Politics suggests that
voters ahead of those of the majority politicians support programs
of voters and policies that will
maximize their chances of
REPRESENTATIVE DEMOCRACY AND THE getting reelected
PRINCIPAL AGENT PROBLEM b. SPECIAL-INTEREST EFFECT
- Efficient public decision
a. PRINCIPAL AGENT PROBLEM making is often impaired by
- are conflicts that arise when the special-interest effect
tasks are delegated by one - any outcome of the political
group of people (principals) process whereby a small
to another group of people number of people obtain a
(agents) government program or
- conflicts arise because the policy that gives them large
interests of the agents may gains at the expense of a
not be the same as the much greater number of
interests of the principals, so persons who individually
that the agents may end up suffer small losses.
taking actions that are - Earmarks are narrow,
opposed by the principals specifically designated
whom they are supposed to authorizations of expenditure.
be representing These earmarks enable
- often arise when the senators and representatives
company’s managers (the to provide benefits to in-state
agents) take actions that are firms and organizations
not in the best interests of the without subjecting the
company’s shareholders (the proposals to the usual
principals). evaluation and competitive
- often arise because bidding.
politicians have goals such as c. RENT-SEEKING BEHAVIOR
reelection that may be - The appeal to government
inconsistent with pursuing the for special benefits at
 taxpayers’ or someone else’s taxes to help defray the expected
expense future costs of the program, but the
- attempting to use current tax rates will not generate
government influence to get nearly enough revenue to pay for all
themselves into a situation in of the expected outlays
which they will get paid more
for providing a good or Chronic Budget Deficits
service than the minimum - A government runs an annual
amount you would actually budget deficit whenever its tax
have to pay them to provide revenues are less than its spending
that good or service during a particular year
- looks to obtain extra profit or - Whatever it borrows in a given year
income by influencing gets added to its overall pile of debt,
government policies. which is the accumulation of all past
- goes beyond the usual profit budget deficits and budget
seeking through which firms surpluses.
try to increase their profits - chronic deficits can pose several
- Rent refers to any payment in economic challenges
excess of the minimum
amount that would be a. ECONOMIC INEFFICIENCY
needed to keep a resource - Deficits may allow the
employed in its current use government to control and
direct an inefficiently large
Unfunded Liabilities fraction of the economy’s
- The political tendency to favor resources
spending priorities that have - there will be a tendency to
immediate payouts but deferred underproduce private goods
costs also leads to many and overproduce public
government programs having goods. In this case, the
unfunded liabilities economy will experience a
- government creates an unfunded decrease in both allocative
liability when it commits to making a and productive efficiency
series of future expenditures without b. DEBT CRISES
simultaneously committing to collect - A government’s
enough tax revenues to pay for accumulated debt level may
those expenditures rise so high that investors lose
- Most famous example is the social faith in the government’s
security program where ability or willingness to repay
government collects Social Security its debts
 - The government is unable to - can be similarly politicized,
borrow any more money with the biggest problem
- As a result, the government being that incumbent
will be forced to undertake politicians will want to cut
some combination of drastic interest rates to boost the
spending cuts or massive tax economy right before they
increases are up for reelection

MISDIRECTION OF STABILIZATION POLICY LIMITED AND BUNDLED CHOICE

- Governments often attempt to - Economic theory points out that the
smooth out these socalled business political process forces citizens and
cycles by using two types of their elected representatives to be
macroeconomic stabilization policy: less selective in choosing public
a. FISCAL POLICY goods and services than they are in
- attempts to use changes in choosing private goods and services
tax rates and spending levels - In the marketplace, the citizen as a
to offset the business cycle consumer can exactly satisfy
- Either action should increase personal preferences by buying
spending on goods and certain goods and not buying others.
services and consequently However, in the public sector the
induce business to produce citizen as a voter is confronted with,
more output and hire more say, only two or three candidates for
workers an office, each representing a
b. MONETARY POLICY different “bundle” of programs
- attempts to use changes in (public goods and services). Here,
interest rates to regulate the the voter must choose one of them.
economy
- the government can use its BUREAUCRACY AND INEFFICIENCY
control over the money - economists contend that public
supply to lower interest rates agencies are generally less efficient
during a recession. The lower than private businesses
interest rates stimulate - The reason is that the market system
spending by making it creates incentives for internal
cheaper for individuals and efficiency that are absent from the
businesses to borrow money public sector, and not because lazy
to pay for capital goods such and incompetent workers end up
as houses, cars, and working in the public sector and
machinery those capable ones gravitate to the
private sector.
 - The market system imposes a very the industry that it is
obvious test of performance on supposed to be regulating.
private firms: the test of profit and - is often facilitated by the
loss. An efficient firm is profitable and fact that nearly everyone
therefore successful; it survives, who knows anything about
prospers, and grows. An inefficient the details of a regulated
firm is unprofitable and unsuccessful; industry works in the industry
it declines and in time goes out of - Deregulation solves the
business problem of regulatory
- In the private sector, inefficiency capture because there is no
and monetary loss lead to the regulatory agency left to
abandonment of certain activities or capture. But it only works well
products or even firms in terms of economic
- critics point out that government efficiency if the deregulated
bureaucrats tend to justify their industry becomes
continued employment by looking competitive and is
for and eventually finding new automatically guided toward
problems to solve allocative and productive
efficiency by competitive
INEFFICIENT REGULATION AND INTERVENTION forces and the invisible hand
- Governments regulate many b. GOVERNMENT’S POOR INVESTMENT
aspects of the market economy TRACK RECORD
such as health and safety - Governments are often
regulations, banking, and the like. asked to use taxpayer money
- These interventions are designed to to directly invest in private
improve economic outcomes, but businesses that have been
have been known to generate unable to secure funding
outcomes that are less beneficial from private sources such as
than intended. banks.
- researchers have found that
a. REGULATORY CAPTURE low and negative rates of
- A government agency that return are the norm for
is supposed to supervise a government investments.
particular industry is said to - government funding often
have suffered from regulatory allows inefficient firms to
capture if its regulations and persist in operation long after
enforcement activities come competitive forces would
to be heavily influenced by have put them out of
operation and freed up their
 resources for higher-valued - process by which loan
projects elsewhere in the guarantees are awarded is
economy often criticized for being
- government’s investment highly politicized and likely to
decisions appear to be award loan guarantees not
based on political to the firms whose projects
connections rather than on are the most likely to increase
whether specific investments economic efficiency but to
can produce substantial net those with the best political
benefits for society connections
c. LOAN GUARANTEES
- The government also tends to
earn low or negative returns CORRUPTION
when it subsidizes - Political corruption is the unlawful
privatesector investments misdirection of governmental
with loan guarantees resources or actions that occurs
- Government loan when government officials abuse
guarantees can be socially their entrusted powers for personal
beneficial if they help to gain
increase the production of - a government bureaucrat engages
beneficial products that are in political corruption if he refuses to
being underproduced by the issue a building permit to a
private sector—as would be homebuilder who is in full
the case for products that compliance with the law unless the
generated positive homebuilder makes a “voluntary
externalities contribution” to the bureaucrat’s
- loan guarantees also favorite charity.
provide an inducement - Political corruption comes in two
toward reckless investing basic forms: (1) government official
because they remove from must be bribed to do what he should
private investors any be doing as part of his job, (2) a
consideration of losses government official demands a
- often criticized for “socializing bribe to do something that she is not
losses and privatizing gains” legally entitled to do
because if things go wrong,
any losses go to the IMPERFECT INSTITUTIONS
taxpayer, while if things go - The market system of the private
well, any profits go to private sector is far from perfectly efficient,
investors and government’s economic
 function is mainly to correct that supply when there is a change in
system’s shortcomings. their price and people’s income
- The relevant comparison is not - For a very short summary since taas
between perfect markets and kayni nga chapter, head to page
imperfect governments, nor 141 sa book, naay table 6.2 that
between faulty markets and summarizes the relationships of the
all-knowing, rational, benevolent shits para sa demand elasticity
governments, but between
inevitably imperfect institutions 6.1 PRICE ELASTICITY OF DEMAND
- Because markets and governments a. Price Elasticity of Demand
are both imperfect, it is sometimes - The responsiveness or sensitivity of
difficult to determine whether a consumers to a price change
particular activity can be performed - Tells us how much more or less
with greater success in the private or consumers are willing to buy when
public sector. prices increase/decrease
b. Elastic Demand
SUBTOPICS - Consumers are highly responsive to
a. TERMS (IN CAPS) price changes
- bisdihsihdhdhwd - Small or modest price changes
b. TERMS (IN CAPS) cause very large changes in the
- jisdisdojsodosjdojs quantity demanded or purchased
c. TERMS (IN CAPS) c. Inelastic Demand
- Bjsbihishidhsid - Consumers are not that responsive to
price changes, lesser attention
TERMS - definition niya - Substantial or large price changes
cause only small changes in the
amount demanded or purchased
FORMULAS HERE INSIDE
(use a table every naay formula) d. Coefficient Ed or the Elasticity
Coefficient
- Refer to formula 1
CHAPTER 6 - Measures the degree to which
demand is price elastic or inelastic

ELASTICITY - Percentage changes in the equation

- One of the 3 consumer behavior are calculated by dividing the

topics (elasticity, utility maximization, change in value by the original base

behavioral economics) value, for example: a price change

- This topic explains kung unsa ka from (base amount) $4 to (new

grabe ang response sa demand ug amount) $5. The change in value is

$1, from $4 to $5, ni saka ug $1,
 divide it by the base amount of $4, mag lahi2 ang percentage change
the first or initial price, then diba? Enter the midpoint formula
makakuha ka sa percentage - The reason why we use this formula
change sa price ( $1 / $4 = 25% ) to help us not get confused when
- (If libog, ask me lang) using the elasticity coefficient
formula
- Ang ato ra buhaton ron is to get the
average of the fucking denominator
1 - Elasticity of Demand (Ed)
or the base amounts, so the $5 and
$4 price range will be added
together and divided by 2 to get
their average, ( [5 + 4] / 2 = 4.5 ).
Naa natay mas tarong nga
denominator karon which is the $4.5.
So balik tas elasticity formula,
change of value $1 divided by the
adjusted denominator $4.5 giving us
a percentage change of price 22%.
- Another practice example, quantity
demanded range is 10 to 20. The
1st formula is simplified, 2nd formula is change in quantity demanded is 10
expanded - showing how to get the right ( 20 - 10 ), and the adjusted
percentage change denominator using the midpoint
formula would be ( [ 20 + 10 ] / 2 = 15
) giving us a percentage change in

e. Midpoint Formula quantity demanded of ( 10 / 15 =

- Refer to formula 2 67% ), now we can compute for the

- Ang confusion rajud nga ma elasticity of demand: Ed = 67% / 22%

introduce sa elasticity formula is, = 3.045.

going back to the example earlier, a

price change from 4 to 5 gives us a
25% change using the formula ( 1 / 4
2 - Midpoint Formula
= 25% ), but when the price change
is from 5 to 4, this gives us a 20%
change ( 1 / 5 = 20% ) since ang
original amount is now the $5. So wa
nata kaybaw unsa ang gamiton as
original amount or denominator kay
f. Elimination of Minus Sign
- The demand curve is inversely - The Ed is infinite, meaning that it is
related or a downsloping curve, infinitely elastic, or consumers are
thats why its elasticity coefficient will infinitely hyper super duper uber
always be a negative number, but reactant to price changes, one
economists usually ignore the minus second they are buying so many
sign and simply present the absolute product X, but when its price
value increases by a very small amount,
g. Elastic Demand they don’t like this product anymore
- Ed is greater than 1 and seeks another product that has
- A percentage change in price a better price than product X,
results in a larger percentage coming from an infinite demand to
change in quantity demanded zero instantly
h. Inelastic Demand l. Perfectly Inelastic Demand
- Ed is less than 1 - Opposite of the perfectly elastic
- A percentage change in price demand, even a super duper high
produces a smaller percentage change in price won’t get even a
change in quantity demanded little reaction from the consumers,
i. Unit Elasticity like a drug addict reacting to a price
- Ed is equal to 1 change from 50 pesos to 2,500
- A percentage change in price and pesos, they will still buy it because
the resulting percentage change in they super duper need or want it
quantity demanded are the same
j. Extreme Cases
- A demand could be perfectly elastic
or perfectly inelastic
k. Perfectly Elastic Demand
- A small price change greatly
increases the quantity demanded
-
from zero to how many they can
- The Ed is zero because consumers
possibly buy, or greatly decreases
show no reaction at all to any price
from how many they can possibly
change
buy to zero

6.2 THE TOTAL REVENUE TEST

m. Total Revenue Test
- Refer to formula 3
- Total revenue is the total amount the
seller receives from the sale of a
product in a particular time period
-
- Total revenue and the price elasticity demand equates to more additional
of demand are related units sold, compensating the ‘loss of
- Easiest way to tell whether a revenue’ because of the lower price
demand is elastic or inelastic is with more sales | This works vice
through the TR test versa, an increase in price will
- If the TR when price changes goes in decrease TR because increase in
the opposite direction from price, price reduces demand, therefore
the demand is elastic, but when it even if you have a higher price per
goes in the same direction as price, unit, your quantity sold will decrease,
it’s inelastic, if TR does not change thus not compensating for the price
when price changes, demand is increase
unit-elastic - When a demand is inelastic, a price
decrease will reduce TR; there is no
offset happening for the decline in
revenue per unit, since consumer
demand is not that reactant to price
changes, even if it causes demand
to shift a little bit higher, it won’t be
enough to compensate for the loss
-
in price per unit | Works vice versa,
when price increases, demand
might decrease a little bit, but the
unit price is still high for TR to increase
as well, even if they lost a small
number of consumers
- When a demand is unit-elastic, a
-
change in price leaves total revenue
unchanged, the loss in revenue from
lower unit price is exactly offset by
the gain in revenue from the
increase in demand and sales.
Conversely, the gain in revenue from
a higher unit price is exactly offset by
the revenue loss associated with the
- decrease in amount demanded
- When a demand is elastic, a - To define offset, it is when there is an
decrease in price will increase TR; equal intensity of action to another
even though a lesser price is action
received per unit, the increase in
 3 - Total Revenue Test

n. Price Elasticity along a Linear

Demand Curve
- Elasticity typically varies over
different price ranges of the same
demand schedule or curve
- All downsloping straight-line and
-
most demand curves, demand is
- Stare at this shit, mao rajud ni ang
more price-elastic toward the upper
relationship sa price, demand, and
left than toward the lower right
total revenue, just imagine na we
(observe the graph below)
are moving from left to right sa
graph, price is decreasing because
demand is increasing, hunahunaa
lang nga if mo gamay ang price, mo
saka ang demand, magka saka sad
ang total revenue, pero kadugayan
if gamay na kaayo imo price, bisag
magka taas pa imo quantity
demanded, gamay na kaykag price
per unit to the point nga mo ubos na
imo total revenue, as seen sa table
-

6.3 DETERMINANTS OF PRICE ELASTICITY

OF DEMAND
p. Factors that affect price elasticity of
demand
- We have four factors namely
substitutability, proportion of income,
luxuries versus necessities, and time
-
- Substitutability explains na if daghan
o. Price Elasticity and the
ang substitute goods available for a
Total-Revenue Curve
product, that product has an elastic
 demand, example would be a bottle - Luxuries versus necessities simply
of water, since daghan mag explains nga necessities have very
substitutes ang bottle of water like low price elasticity, because they
water fountains, gatorade, coke and need it, so no matter how much the
all that shit nga maka pa fulfill sa price changes, they’ll still buy it,
atong ka thirsty, this makes water whereas for luxuries, you can always
bottles elastic, but do note na skip it because its just a ‘want’, so its
generalization is a key component elastic as fuck basta mo change
sa substitutability, example would be ang prices, ‘ay di sa ko mo buy ani
shoes, shoes are not that elastic kay ni mahal man, i dont need it for
since wala may laing viable now’ type of shit
substitute for shoes, maybe slippers, - Time basically means nga
but di daghan, so di kaysha ma consumers demand elasticity
pulihan, but when we specify Nike revolve around the time they need
shoes, elastic na sha since daghan to switch to another product,
makapuli sa Nike shoes, like Rebook, example would be when a price of
Abibas, and other brands beef rises by 10%, consumers may
- Proportion of Income explains nga not immediately reduce their
the higher the price of a product purchases, but some time soon they
relative to the consumers’ incomes, may shift to chicken, or other
mas elastic sha, meaning nga if poor products.
ka, nya imo product kay mahal, mas - Another mini-factor would be the
elastic imo demand sa product product’s durability
since mag sige kag pangita ug mas
worth it ug cheaper nga product, 6.4 PRICE ELASTICITY OF SUPPLY
compared to when a product is a. Concept
marketed to fucking rich consumers, - Same ra sa price elasticity of
the product is not that elastic since demand, if the quantity supplied by
flexible ila mga wallets, just always producers are responsive to price
go back to what is elasticity, how changes, then it is elastic, if
people and their demand mo react unresponsive, then it is inelastic
sa price changes, mga rich kay di - The formula for Es is almost like Ed, but
kaayo mo react since maka afford we just substitute percentage
pa sila mo expend more for a change in quantity demanded to
product instead of switching to quantity supplied (Formula 4)
another one, but low income - If the coefficient is less than 1, then
households struggle to be flexible supply is inelastic
with their budgets - If the coefficient is greater than 1,
supply is elastic
- Es will never be negative since price tomatoes naa XD (recall perfectly
and quantity supplied are directly inelastic topic sa demand elasticity)
related, therefore no minus signs to
drop, compared to demand
elasticity, where the coefficient
would always be negative since
demand and price are inversely
related
- There is no total-revenue test for
elasticity of supply because it shows
a direct relationship between price
and amount supplied, upsloping
curve, price and revenue always
-
move together
c. The Short Run
- A period of time too short to change
4 - Elasticity of Supply (Es) plant capacity but long enough to
use the fixed-sized plant more or less
intensively
- In our recent example, in the short
run, our farmer’s land and farm is
fixed, but he does have time in the
short run to cultivate tomatoes,
resulting in a greater output supply in
response to an increase in demand,
b. The Immediate Market Period this greater output of supply is
- The length of time over which reflected in a more elastic supply of
producers are unable to respond to tomatoes
a change in price with a change in
quantity supplied
- Example: when a farmer from a small
farm brings to market one truck of
tomatoes which is his output for the
season, his supply elasticity for his
tomatoes would be perfectly
inelastic because even if the price of
tomatoes would be higher or lower
depending sa situation, he can’t
possible add more tomato supply
-
because mao raman jud iya
d. The Long Run a related product or by a change in
- A time period long enough for firms income
to adjust their plant sizes and for new a. Cross Elasticity of Demand
firms to enter the industry or market - Measures how sensitive consumer
- For the same example, our farmer purchases of one product (X) are to
got enough time to acquire a change in the product of some
additional farm land and other product (Y)
machineries, but along that long - The formula would be the same with
time, more farmers may enter the the elasticity coefficient, but we
tomato industry because of the substitute the percentage change in
increased demand and prices, price of the product X to product Y
because of this, tomato supply is
much greater than before, the
outcome would be a lesser price
5 - Cross Elasticity of Demand (Exy)
increase but a large quantity of
tomato supply increase, with
demand increasing as well

- This makes us understand substitute

and complementary goods
- We allow the values to be either
positive or negative, so no ignoring
minus signs

- b. Substitute Goods
- If the cross elasticity of demand is

6.5 CROSS ELASTICITY AND INCOME positive, they are substitute goods

ELASTICITY OF DEMAND - This happens when the sales of X

- Price elasticities measure the move in the same direction as a

responsiveness of the quantity of a change in the price of Y

product demanded or supplied - The greater the positive coefficient,

when its price changes the greater the substitutability

- The consumption of a good is also between the two products

affected by a change in the price of c. Complementary Goods

- If the cross elasticity of demand is - Consumers decrease their purchase
negative, they are complementary of inferior goods as incomes rise
goods
- This happens when an increase in
CHAPTER 7
the price of one product decreases
the demand for the other
- The larger the negative coefficient, UTILITY MAXIMIZATION

the greater the complementarity - is the concept that individuals and

between the two products organizations seek to attain the

d. Independent Goods highest level of satisfaction from their

- A zero or near-zero cross elasticity economic decisions.

suggests that two products are

unrelated or independent goods LAW OF DIMINISHING MARGINAL UTILITY

e. Income Elasticity of Demand - states that all else equal, as

- Measures the degree to which consumption increases, the marginal

consumers respond to a change in utility derived from each additional

their incomes by buying more or less unit declines.

of a particular good
- Refer to formula 6 TERMINOLOGIES
a. UTILITY
- Is a measure of the satisfaction that
a consumer gets from consuming a
6 - Income Elasticity of Demand (Ei) good or service.
- Is want-satisfying power.
- Is subjective and difficult to quantify.

b. TOTAL UTILITY
- Is the total amount of satisfaction or
pleasure a person derives from
f. Normal Goods
consuming some specific quantity.
- For most goods, the
- Total utility increases as long as
income-elasticity coefficient is
marginal utility is positive because
positive, more of them are
marginal utility is the change in total
demanded as income rises
utility from consuming one more unit
- Also called superior goods
of a good or service.
g. Inferior Goods
- Total utility decreases when marginal
- A negative income-elasticity
utility is negative because marginal
coefficient designates an inferior
utility is the additional utility gained
good
 from consuming one more unit of a a. RATIONAL BEHAVIOR
good or service. - A process that is based on logical
reasoning and the pursuit of
c. MARGINAL UTILITY self-interest, with the aim of
- is the extra satisfaction you get Consumers being considered
from consuming one more unit of a sensible individuals who strategically
good or service. allocate their income in order to
-When marginal utility is negative, it maximize their overall satisfaction.
means that you are getting less
satisfaction from consuming one b. PREFERENCES
more unit. - Each consumer has distinct tastes
- When marginal utility is positive, it for certain items and services on the
means that you are getting more market.
satisfaction from consuming one - Buyers possess a comprehensive
more unit. understanding of the anticipated
marginal usefulness derived from
MARGINAL UTILITY AND DEMAND subsequent units of diverse things
- As the price of a good or service they contemplate acquiring.
increases, the marginal utility of
each additional unit decreases. c. BUDGET CONSTRAINTS
- Consumers are only willing to buy - At each given moment, the
more of a good or service if the consumer possesses a
marginal utility of each additional predetermined and finite quantity of
unit is greater than or equal to the revenue.
price they have to pay for it. - Given that every consumer
contributes a finite quantity of
THEORY OF CONSUMER BEHAVIOR people and property resources to
- Is the study of how consumers make society, their income is thus
decisions about what to buy, how restricted.
much to buy, and when to buy it.
- It seeks to understand the factors d. PRICES
that influence consumer behavior, - It is postulated that the purchases
such as personal factors, made by individuals will not exert
psychological factors, social factors, any influence on the price of a
and environmental factors. particular commodity. The
acquisition made by each individual
CONSUMER CHOICE AND THE BUDGET constitutes a minuscule fraction of
CONSTRAINT the overall demand.
UTILITY-MAXIMIZING RULE
- States that a consumer should UTILITY MAXIMIZATION AND THE DEMAND
allocate their budget in such a way CURVE
that the marginal utility per dollar - A downsloping demand curve can
spent on each good or service is the be derived by changing the price of
same. one product in the
consumer-behavior model and
DECISION MAKING PROCESS noting the change in the
1. Identify the goods and services that utility-maximizing quantity of that
you consume. product demanded.
2. Rank the goods and services in order
of preferences. DERIVING THE DEMAND SCHEDULE AND
3. Determine your budget constraints. CURVE
4. Allocate your budget to the goods - This section delves into how
and services that you value the consumers make choices to
most, subject to your budget maximize their satisfaction while
constraints. facing budget constraints.
- Deriving the demand schedule and
INFERIOR OPTIONS curve involves understanding how
- Is a good or service whose demand changes in prices and income levels
decreases as income increases. influence consumer preferences and
- This means that as people become purchasing decisions.
richer, they tend to consume less of
inferior goods. INCOME AND SUBSTITUTION EFFECTS
- The income effect relates to
ALGEBRAIC GENERALIZATION changes in real income due to price
- involves using mathematical models changes.
to represent consumer preferences - The substitution effect focuses on
and choices. how consumers shift their
- It allows us to quantify the preferences between goods in
relationships between different response to price fluctuations.
goods and services, aiding in the -
analysis of consumer
decision-making. THE DIAMOND WATER-PARADOX
- Early economists such as Adam
Smith were puzzled by the fact that
FORMULA FOR ALGEBRAIC
GENERALIZATION: some “essential” goods had much
MU of product A = MU of product B lower prices than some
Price of A Price of B “unimportant” goods.
 - refers to the point at which two
curves intersect in such a way that
MU of water (low) = MU of diamonds (high) Price
of water (low) Price of diamonds (high) their slopes are equal.
- This is often used to model optimal
choices in situations where there are
VALUE OF TIME
two or more competing constraints.
- The theory of consumer behavior has
been generalized to account for the
EQUILIBRIUM POSITION
economic value of time.
- is the state of a system in which the
- Both consumption and production
forces acting on it are balanced. This
take time.
means that the net force on the
- Time is a valuable economic
system is zero, and the system is not
commodity
moving or changing.

BUDGET LINE / BUDGET CONSTRAINT

EQUILIBRIUM AT TANGENCY
- budget line or, more technically, the
budget constraint
- a schedule or curve showing various FORMULA:
combinations of two products a
MRS = Pb
consumer can purchase with a
Pa
specific money income.
Where:
INDIFFERENCE CURVE MRS= Marginal Rate of Substitution
- is a line connecting all combinations Pb= Price of B
of goods that give the consumer the Pa= Price of A
same level of satisfaction.

INDIFFERENCE MAP EQUIVALENCY AT EQUILIBRIUM

- is a set of indifference curves.It - This principle suggests that a
depicts the complete picture of a consumer is indifferent between
consumer's preferences. different combinations of goods and
services that provide the same level
EQUILIBRIUM of satisfaction.
- is the state in which market supply - It helps us understand how
and demand balance each other, consumers make choices based on
and as a result prices become their preferences and constraints.
stable.

FORMULA:
TANGENCY
 - assumes that people are
Marginal Utility of A = Marginal Utility of B
Price of A Price of B fundamentally rational, capable of
learning from experience, and
making choices that maximize their
THE BUDGET LINE HAS TWO OTHER
interests
SIGNIFICANT CHARACTERISTICS:
BEHAVIORAL ECONOMICS
- is a field of study that contrasts with
1. INCOME CHANGES:
neoclassical economics by
- The location of the budget
acknowledging that people often
line varies with money
make irrational decisions and
income.
systematic errors, which neoclassical
- An increase in money
economics couldn't explain.
income shifts the budget line
- drops the neoclassical assumption of
to the right; a decrease in
perfect rationality and is based on
money income shifts it to the
the observation of people's actual
left.
behavior, which often includes
substantial irrationality, repeated
2. PRICE CHANGES:
systematic errors, and resistance to
- Change in product prices
change
also shifts the budget line.
- A decline in the prices of
both products—the
equivalent of an increase in
Neoclassical Economics vs. Behavioral
real income—shifts the curve
Economics
to the right.
a. Rationality:
i. Neoclassical Economics:
THE DERIVATION OF THE DEMAND CURVE
People are fundamentally
- This section focuses on the derivation
rational, adjusting their
of the demand curve using
choices to maximize their
indifference curve analysis.
self-interest and avoid
- It demonstrates how consumer
systematic errors.
preferences, represented by
ii. Behavioral Economics:
indifference curves, intersect with
People are irrational and
budget constraints to determine the
frequently make systematic
optimal consumption bundle.
errors that reduce their
chances of achieving their
CHAPTER 8 goals.
b. Stability of Preferences:
NEOCLASSICAL ECONOMICS
 i. Neoclassical Economics: self-interested and
People's preferences are self-centered.
entirely stable and not ii. Behavioral Economics:
influenced by context. People can be selfless and
ii. Behavioral Economics: generous, not solely
People's preferences are motivated by self-interest.
unstable and can vary g. Fairness:
depending on the context i. Neoclassical Economics:
(e.g., framing effects). People do not prioritize
c. Capability for Mental Calculations: fairness and treat others well
i. Neoclassical Economics: only if it benefits them.
People are capable, eager, ii. Behavioral Economics: Many
and accurate at making people value fairness and
mental calculations. may act selflessly, even when
ii. Behavioral Economics: there are no personal
People tend to avoid benefits.
complex mental calculations
and are not adept at them. FOCUSING ON THE MENTAL PROCESSES

d. Assessing Future Options: BEHIND DECISIONS

i. Neoclassical Economics:
a. Neoclassical economics
People assess future options
- focuses primarily on predicting
as effectively as they do
behavior.
current options.
- assumes rationality and doesn't
ii. Behavioral Economics:
delve into the underlying mental
People often give insufficient
processes, as rational individuals will
weight to future events and
make optimal decisions that
outcomes.
advance their interests.
e. Willpower:
b. Behavioral economics
i. Neoclassical Economics:
- emphasizes understanding the
People have strong willpower
mental processes driving behavior
and can resist temptation.
- disputes the neglect of mental
ii. Behavioral Economics:
processes, arguing that
People lack sufficient
understanding these processes is
willpower and frequently
essential for two key reasons:
succumb to temptation.
- It allows for better predictions
f. Degree of Selfishness:
about behavior.
i. Neoclassical Economics:
- It provides insights into how to
People are largely
help people make better
decisions.
 respond to price changes; when
prices rise, they buy less, and when
prices fall, they buy more.
- While this insight explains much of
customer behavior, it cannot explain
DIFFERENT APPROACHES TO IMPROVING certain shopping behaviors, such as
OUTCOMES impulse buying.

a. Neoclassical economics b. Behavioral Economics at the Supermarket

- aims to enhance human welfare by
- Behavioral economics helps explain
providing more options, assuming
behaviors like impulse buying, which
rational individuals can choose the
contradicts the neoclassical
best one
assumption of rational consumer
b. Behavioral economics
decision-making.
- recognizes human irrationality and
- Impulse buying involves purchasing
suggests that improving utility and
items that customers happen to see,
happiness can occur by helping
without careful calculation of
people make better choices from
marginal utilities and price
the existing set of options, without
comparisons
the need for additional alternatives
- Retailers capitalize on impulse
COMPLEMENTARY NATURE OF BEHAVIORAL buying by placing products like milk
ECONOMICS AND NEOCLASSICAL and eggs at the back of the store,
ECONOMICS forcing customers to pass by
numerous other items, increasing
- Many economists view behavioral sales
economics and neoclassical
economics as complementary c. Complementary Explanations
approaches rather than opposing or
- Behavioral economics attributes
mutually exclusive ones.
impulse buying and irrational
- They can be used together to
behaviors to cognitive biases,
enhance the understanding of
heuristics, and internal battles
human behavior.
between different areas of the brain
a. Neoclassical Economics at the - Both neoclassical and behavioral
Supermarket methods are required to understand
human behavior fully.
- Neoclassical economics emphasizes - Neoclassical models are well-suited
that "incentives matter," particularly for explaining rational responses to
regarding price sensitivity. Customers incentives and prices,
 - Behavioral economics is more - It does not take into account implicit costs,
effective in explaining behaviors like which are the indirect or opportunity costs
impulse buying that deviate from of doing business.
rationality.
FORMULA FOR ACCOUNTING PROFIT:
Accounting Profit = Total Sales Revenue -
Explicit Costs
CHAPTER 9
ECONOMIC PROFIT
BUSINESSES AND THE COST OF PRODUCTION
- Economic or pure profit is the difference
ECONOMIC COST between the revenue received from sales
and the explicit costs of producing its goods
-are the opportunity costs of using the
and services, as well as any opportunity
resources necessary to produce a good or
costs.
service.

- It is important to calculate economic cost FORMULA FOR ECONOMIC PROFIT:

Economic Profit = Total Sales Revenue -
before making a financial decision with
Explicit Costs - Implicit Costs
limited resources.

NORMAL PROFIT
FORMULA FOR ECONOMIC COSTS:
Economic Costs = Explicit Costs + Implicit - It is the implicit cost of entrepreneurship.
Costs
SHORT RUN: FIXED PLANT
- The short run is the time period that is too
EXPLICIT COSTS brief for a firm to alter its plant capacity. The
plant size is fixed in the short run.
- are the monetary payments that a firm
makes to purchase resources from outside LONG RUN: VARIABLE PLANT
the firm. - The long run is a period of time long
enough for a firm to change the quantities
IMPLICIT COSTS
of all resources employed, including the

- are the opportunity costs of using resources plant size.

that the firm already owns.

TWO MAIN FACTORS THAT INFLUENCE A
ACCOUNTING PROFIT FIRM’S PRODUCTION COST FOR A PRODUCT

- it is a useful measure of a company’s PRICES - determined by the interaction of

financial performance, but it has some supply and demand in the market.
limitations.
 QUANTITIES - Determined through the actual product that can be attributed to each
production process, including how additional unit of the variable resource will
efficiently inputs are used to produce the decline.
output.
FIXED, VARIABLE, AND TOTAL COSTS
THREE (3) TERMS TO TAKE NOTE:
FIXED COSTS
1.) Total Product (TP) is the total - are those costs that do not vary with
quantity, or total output, of a changes in output.
particular good or service produced. - are associated with the very existence of a
firm’s plant and therefore must be paid
2.) Marginal Product (MP) is the extra even if its output is zero.
output or added product associated
with adding a unit of a variable VARIABLE COSTS
resource, in this case labor, to the - are those costs that change with the level
production process. of output.
- They include payments for materials, fuel,
power, transportation services, most labor,
FORMULA FOR MARGINAL PRODUCT:
Marginal Product = change in total product and similar variable resources.
change in labor input
TOTAL COSTS
- is the sum of fixed cost and variable cost at
3.) Average Product (AP), also called
each level of output.
labor productivity, is output per unit
of labor input.
PER-UNIT, or AVERAGE, COSTS

FORMULA FOR AVERAGE PRODUCT: AFC Average fixed cost (AFC)

Average Product = Total Product -decline as output increases.
Units of Labor
- As output rises, the total fixed cost is spread
over a larger and larger output.
LAW OF DIMINISHING RETURNS

FORMULA FOR AVERAGE FIXED COSTS:

- This law assumes that technology is fixed
AFC = TFC
and thus the techniques of production do Q
not change.
- It states that as successive units of a
AVC Average Variable Cost (AVC)
variable resource (say, labor) are added to
a fixed resource (say, capital or land),
beyond some point the extra, or marginal,
 - Due to increasing and then diminishing
FORMULA FOR AVERAGE TOTAL COSTS:
returns, AVC declines initially, reaches a ATC = TC = TFC + TVC = AFC + AVC
minimum, and then increases again. Q Q Q

FORMULA FOR AVERAGE FIXED COSTS: MARGINAL COST

AVC = TVC
Q - is the extra, or additional, cost of
producing one more unit of output. It can
be determined for each added unit of
output by noting the change in total cost
entailed by that unit’s production.

FORMULA FOR MARGINAL COSTS:

MC = Change in TC
Change in Q

LONG-RUN PRODUCTION COSTS

- Its graph is a U-shaped or saucer-shaped
curve because the total variable cost
- An industry and its individual firms can
reflects the law of diminishing returns, so
undertake all desired resource adjustments.
must AVC, which is derived from total
That is, they can change the amount of all
variable cost.
inputs used. The firm can alter its plant
- Because marginal returns increase initially,
capacity, it can build a larger plant or revert
fewer and fewer additional variable
to a smaller plant.
resources are needed to produce each of
- The industry can change its overall
the first four units of output. As a result,
capacity, the long run allows sufficient time
variable cost per unit declines. AVC hits a
for new firms to enter or for existing firms to
minimum with the fifth unit of output, and
leave an industry.
beyond that point AVC rises as diminishing
returns require more and more variable
ECONOMIES OF SCALE
resources to produce each additional unit
of output.
- It explains the downsloping part of the
long-run ATC curve. As plant size increases,
ATC Average Total Cost (ATC)
a number of factors will for a time lead to
lower average costs of production.

DISECONOMIES OF SCALE
 - the main factor causing diseconomies of Nya after I tried raising my selling
scale is the difficulty of efficiently controlling price and noticed that I didn’t sell as
and coordinating a firm’s operations as it many as before. That's because buyers
becomes a large-scale producer. choose the more affordable potatoes
that are of the same quality. When the
CONSTANT RETURNS TO SCALE resident tries to lower his prices below the
market's average price, he sells more, but
- In some industries a rather wide range of can't cover his expenses. He realizes that
output may exist between the output at he only has about a 1% market share,
which economies of scale end and the meaning the ideal price is the market
output at which diseconomies begin. That is, average.
there may be a range of constant returns to
scale over which long-run average cost 2. Pure Monopoly - is a market structure in
does not change. which one firm is the sole seller of a
product or service. Since the entry of
—-------------------end—---------------------------------- additional firms is blocked, one firm
constitutes the entire industry. The pure
monopolist produces a single unique
CHAPTER 10
product, so product differentiation is not
A. FOUR MARKET MODELS an issue
1. Pure Competition - involves a very large
number of firms producing a For example, a local electric utility which
standardized product. New firms can is Visayan Electric Company or VECO
enter or exit the industry very easily which provides the electricity to the cities
of Cebu, Mandaue, Talisay and Naga
Example: and to some municipalities around Cebu
Agricultural markets as an example. Province. VECO shows a Pure Monopoly
Let’s say for example, nivisit ko ug market structure kay people from the said
Farmer’s market with 100 potato sellers. I places HAVE to purchase electricity from
observed that the sellers are profitable so VECO kay wala man lain ga provide ug
ganahan sad ko musud ana nga market. electricity. So if the company sets a price
I started by buying affordable gardening that consumers pay, it has a lot of control
supplies para ubos ako startup cost and I over the market price. However, The
started growing the potatoes. After government regulates its business
applying the same garden techniques, practices, though, to prevent it from
naka produce ko ug identical to the ones setting unfair prices.
the sellers grow. Then I sold them at the
same price and made a decent profit. 3. Monopolistic Competition - is
characterized by a relatively large
 number of sellers producing cola market is considered the largest in
differentiated products (clothing, the soft drinks sector due to cola being
furniture, books). Present in this model is the most favored and widely-recognized
widespread nonprice competition, a carbonated beverage in the world. This
selling strategy in which a firm does not market is dominated by two competing
try to distinguish its product on the basis giants: Pepsi and Coca-Cola. Both
of price but instead on attributes like products are perfect substitutes of each
design and workmanship (an approach other as they have similar taste, color and
called product differentiation). Either purpose. Also, both have to consider the
entry to or exit from monopolistically reaction of each other when one of them
competitive industries is quite easy. wants to make a move. For example,
Pag i lower ni Coke iyang price, it will
Or to put it shortly, Monopolistic grab more customers from Pepsi and will
competition is when an industry has many lead to Pepsi losing profits. Coke has to
firms that offer similar products and think about Pepsi's reaction against the
services but not completely identical or price decrease.
the perfect substitute.
SUMMARY
Example: Monopolistic competition is
detectable in the clothing industry, where
multiple brands offer similar products with
unique styles and target markets. For
instance, one brand focuses on a
younger audience with its preppy
clothing and marketing campaigns, while
another provides trendy clothing at
affordable prices. Brands differentiate B. PURE COMPETITION: CHARACTERISTICS

themselves by their branding and store AND OCCURRENCE

design. ● VERY LARGE NUMBERS - this refers to a

large number of independent sellers.

4. Oligopoly - involves only a few sellers of This seller often offers their products in

a standardized or differentiated product, large national or international markets.

so each firm is affected by the decisions A classic example of a market with a

of its rivals and must take those decisions large number of independent sellers is

into account in determining its own price the agricultural market for a common

and output. crop like wheat or corn. Stock Market

where traders and investors buy and sell

Example: Coca Cola and Pepsi are the stocks and Foreign exchange Market.

best examples for this market model. The

● STANDARDIZED PRODUCT - A Purely C. DEMAND AS SEEN BY A PURELY
competitive market produces COMPETITIVE SELLER (U CAN CHECK THE
standardized products or in other terms BOOK FOR THE TABLE)
identical products in the market. - Examining demand from a purely
Different businesses' products are competitive seller's viewpoint means
almost similar or perfect alternatives for understanding the conditions faced by
one another. This means that customers a seller in a perfectly competitive
see no noticeable differences in market. In a perfectly competitive
quality, features, or branding between market, there are many buyers and
items produced by different sellers. sellers, and each seller offers an
Commonly, sellers offer the same price, identical or homogeneous product.
and buyers won't care which seller to Additionally, there is free entry and exit
buy since all of them have the same from the market, meaning new sellers
offer. This would lead us in our next can easily enter, and existing sellers can
condition, the Price takers. exit without barriers. The key
● PRICE TAKERS - businesses that are in characteristic is that individual sellers in
the purely competitive market are price a perfectly competitive market have
takers, not price makers. This implies no control over the market price. They
that they accept the market price as it are price takers, not price makers. The
is and have no control over it because market price is determined by the
their products are similar to their overall interaction of supply and
competitors thus even the increase or demand in the entire market.
decrease of supply won't have any
effect on the price at all. EXAMPLE:
● FREE ENTRY AND EXIT - business can Let's consider the shoe repair and
enter or exit the market without tshirt printing services located in Junquera in
significant barriers or costs. There are no a perfectly competitive market. In this
substantial legal, technological, market, all these sellers produce identical
financial, or other barriers that prevent services, and buyers perceive it as the same
new businesses from selling their product regardless of the seller. The market
products in any competitive market. sets the price based on the total supply and
This condition promotes competition demand for the services they sell.
and ensures that firms cannot earn If the sellers decide to sell at a higher
long-term economic profits. price than the market price, buyers will turn
to other sellers offering the same product at
a lower price. Conversely, if these sellers sell
at a lower price, there is no advantage
because buyers can easily find the same
product at the market price from other AVERAGE, TOTAL AND MARGINAL REVENUE
sellers. ● FIRM’S DEMAND SCHEDULE
In this scenario, these shoe repair - is also its average-revenue
and tshirt printing service providers has no schedule.
influence on the market price and must ● PRICE PER UNIT TO THE PURCHASER
accept it as given. Therefore, examining - is also revenue per unit, or
demand from the seller's viewpoint involves average revenue received by the
understanding that the seller operates in a seller.
price-taking environment, adjusting the ● TOTAL REVENUE FOR EACH SALE LEVEL
quantity of goods supplied based on the - is found by multiplying the price
market price rather than influencing or by the corresponding quantity the
controlling that price firm can sell (P x Q = Total
Revenue).
Perfectly Elastic Demand - The total revenue increases by a
- The demand schedule faced by the constant amount of $X for each
individual firm in a purely additional unit of sales.
competitive industry is perfectly - Each unit sold adds exactly its
elastic at the market price. constant price, no more or no less
- Ed=∞ to the total revenue. It suggests a
linear relationship between the
General Description of such term: quantity sold and total revenue,
- A price increase will cause quantity where each unit sold
demanded to decline from an (independent variable) adds a
infinite amount to zero (straight fixed amount to the revenue
horizontal line; infinite quantity (dependent variable) without
stretch). variation.
● MARGINAL REVENUE
Perfectly Inelastic Demand - is the change in total revenue (or
- A price increase will result in no the extra revenue) that results
change in quantity demanded. from selling one more unit of
- Ed=0* output.
- In comparison to “Perfectly Inelastic - Total revenue will be zero when
Demand”, the aforementioned is zero units are sold, when the first
graphed as a line parallel to the unit of output is sold, it increases
vertical axis; “Perfectly Elastic the total revenue from zero to its
Demand” is shown by a line above market price, the marginal
and parallel to the horizontal axis. revenue for that unit will be the
market price.
 - As the second unit will then be 1. Compare total revenue and total
sold, the total revenue will once cost
again increase but the marginal 2. Compare marginal revenue and
revenue will remain constant as its marginal cost
market price. In pure competition, Both approaches apply to all firms,
marginal revenue and price are whether they are pure competitors, pure
equal. monopolists, monopolistic competitors, or
● Total revenue (TR) curve is a straight oligopolists.
line that slopes upward to the right,
its slope is constant because each EXAMPLE
extra unit of sales increases TR by $X The lemonade stand owner is a price
(the market price). The demand taker, meaning that they cannot set the
curve (D) is horizontal, indicating price of lemonade themselves. The price of
perfect price elasticity. The marginal lemonade is determined by the overall
revenue (MR) curve coincides with supply and demand for lemonade in the
the demand curve because the market. However, the lemonade stand
product price ($X) is constant. owner can control the amount of lemonade
Average revenue (AR) = price, and they produce by varying the amount of
therefore also coincides with the labor and ingredients they use.
demand curve.
In the short run: The lemonade stand owner's
D. PROFIT MAXIMIZATION IN THE SHORT RUN: plant is fixed, which means that they cannot
TOTAL-REVENUE-TOTAL-COST APPROACH change the size of their stand or the number
● A company that operates solely for of blenders they own. However, they can still
profit is a price taker; it cannot adjust their output by hiring more or fewer
attempt to maximize profits by workers and using more or less lemons and
changing the price it charges. sugar.
● The firm's output is the only variable
under its control, as the price is
determined by supply and demand
in the broader market.

How can a company adjust its output?

- The only way the business can
change the output is by varying the
quantity of variable resources (labor
and materials) it employs.

Two ways to determine the level of output:

 So, in our given data, The firm achieves
maximum profit, however, where the
vertical distance between the total revenue
and total cost curves is greatest.

- This graph discusses the profit-maximizing

output. Where the total revenue and total
cost curves intersect, economic profit is
zero. On the other hand, economic profit is
at its peak ($299) when the vertical
- We can see here the comparison of distance between TR and TC is greatest in
total revenue and total cost graphically the upper graph. Thus, this firm will choose
for this profit-maximizing case. The to produce 9 units since that output
graph shows the firm's total revenue (TR) maximizes its profit.
and total cost (TC) curves.
PROFIT MAXIMIZING CASE
● BREAK EVEN POINT - The profit-maximizing case refers to
- an output at which a firm makes a
the situation in which a business
normal profit but not an economic
operates at a level of output where
profit. Any output within the two
break-even points identified in the figure it achieves the highest possible
will yield an economic profit. profit.
- Firms will produce the quantity where
So, why man need mag identify ang firm sa MC = MR in order to maximize their
ila break-even point? profits.
The break-even point is a critical benchmark
- Businesses aim to maximize their
for lemonade stand owners as it helps them
profits because it represents the
assess the financial viability of their business.
If the lemonade stand owner can difference between total revenue
consistently operate above the break-even and total cost, and it is a key
point, they are generating a profit and their objective of most businesses.
business is sustainable. However, if the - Maximize its total profit, not its
lemonade stand owner repeatedly per-unit profit.
operates below the break-even point, they
AFC (Average Fixed Cost), AVC (Average
are incurring losses and their business may
Variable Cost), ATC (Average Total Cost),
not be sustainable in the long run.
MC (Marginal Cost)
 - If Marginal Cost is lower than the than its total cost (P < AVC = shut
Price, this represents that the down).
marginal revenue is greater than the - The firm should not produce
Marginal Cost of an output (MC < P = because at every output level, the
MR > MC). firm’s average variable cost is
- Total Revenue - Total Cost = greater than the price.
Economic Profit - The shutdown case serves as a
- (Price - Average Total Cost) x reminder of the qualifier to the MR (=
Quantity = Economic Profit P) = MC rule.
- Lower per-unit profits for additional
units of output can gain more profit E. MARGINAL COST AND SHORT-RUN SUPPLY
out of it. ● A firm will choose to produce if it can
LOSS MINIMIZING CASE at least break even and generate a
- Minimizing losses by producing a normal profit.
quantity where the price covers at ● Profit is maximized at the output at
least the variable costs, even though which MR = MC, or loss minimized
it's not enough to cover total costs. provided that price exceeds
The total loss is incurred, but the firm variable cost (P > AVC).
aims to make this loss as small as ● If the market price is below the
possible by optimizing the minimum average variable cost (P <
production quantity. AVC), the firm will minimize its losses
- If price (P) exceeds the minimum by shutting down.
AVC but is less than ATC, the MR =
MC output will permit the firm to GENERALIZED DEPICTION
minimize its losses (ATC > P > AVC = - Each of the MR (= P) = MC
minimize losses). intersection points indicates a
- Price Per Unit x Units of Output = Total possible product price (on the
gain/loss vertical axis) and the corresponding
- Marginal Revenue x Units of Output = quantity that the firm would supply
Total Revenue at that price (on the horizontal axis).
- Average Total Cost x Units of Output - Quantity supplied would be zero at
= Total Cost any price below the minimum
SHUTDOWN CASE average variable cost (P < AVC = Qs
- If price (P) falls below the minimum zero).
AVC, the competitive firm will - The portion of the firm’s
minimize its losses in the short run by marginal-cost curve lying above its
shutting down. There is no level of average-variable-cost curve is its
output at which the firm can short-run supply curve.
produce and incur a loss smaller
 - The solid segment of the CHANGES IN SUPPLY
marginal-cost curve MC is a firm’s - Adjustments to variables like the cost
short-run supply curve. It tells us the of variable inputs or advancements
amount of output the firm will supply in technology can affect costs and
at each price in a series of prices. cause the marginal-cost or short-run
DIMINISHING RETURNS, PRODUCTION COSTS, supply curve to shift to an alternate
AND PRODUCT SUPPLY location.
- The MR = MC approach to Example:
determining the competitive firm’s All else equal, there is a wage increase, thus,
profit-maximizing output level. It also there will be an increase in the marginal
shows the equivalent analysis in cost and an upward shift in the supply
terms of total revenue and total cost. curve. This indicates a DECREASE in SUPPLY.
- Because of the law of diminishing ● Wages are a variable input cost, and
returns, marginal costs eventually an increase in wages will increase
rise as more units of output are the cost of producing each
produced. additional unit of output.
- Because marginal costs rise with ● As a result, firms will be less willing to
output, a purely competitive firm supply their product at the same
must get successively higher prices price as before, and they will
to motivate it to produce additional demand a higher price in order to
units of output. cover their increased costs. This will
- Diminishing Returns: This concept shift the supply curve upwards.
explains why production doesn't FIRM AND INDUSTRY: EQUILIBRIUM PRICE
continue to increase indefinitely as - The market equilibrium price will be
more of one input is added. It the price at which the total quantity
emphasizes the importance of supplied of the product equals the
efficient resource allocation. total quantity demanded (Qs = Qd).
- Production Costs: Analyzing costs Market Price and Profits:
helps firms understand their ➔ To determine the equilibrium price
profitability and make informed and output, the total-supply data
production decisions. Different cost must be compared with
curves (AFC, AVC, ATC) provide total-demand data.
insights into economies of scale and ➔ No shortages or surpluses occur in
optimal output levels. the market to cause price or total
- Product Supply: Understanding how quantity to change. Nor can any
costs and other factors influence firm in the industry increase its profit
supply is crucial for analyzing market by altering its output.
equilibrium and price determination. ➔ Higher unit and marginal costs, on
the one hand, or weaker market
 demand, on the other, could where MR=MC to minimize their
change a situation. losses or maximize their profits.
➔ Price determination: Explores how
market forces, specifically supply THE LONG RUN IN PURE COMPETITION

and demand, determine the

- The entry and exit of firms in our
equilibrium price of a good or
market models can only take place
service.
in the long run
➔ Economic profit: Vlarifies the
- In the short run, the industry is
difference between accounting
composed of a specific number of
profit and economic profit.
firms, each with a plant size that is
Accounting profit only considers
fixed and unalterable in the short
explicit costs, while economic profit
run. Firms may shut down in the
considers all opportunity costs,
sense that they can produce zero
including implicit costs like the
units of output in the short run, but
owner's potential salary.
they do not have sufficient time to
Firm versus Industry:
liquidate their assets and go out of
➔ The "fallacy of composition" refers to
business
the error of believing that what is
- In the long run the firms already in an
true for an individual part of a system
industry have sufficient time to either
is also true for the entire system as a
expand or contract their capacities.
whole. In the context of economics,
this fallacy can be applied to the Profit Maximization in the Long Run
relationship between individual firms
and the industry as a whole. a. Entry and Exit Only - The only
➔ Although an individual firm cannot long-run adjustment in our graphical
affect the market price on its own, analysis is caused by the entry or exit
the collective actions of all firms in of firms
the industry do have a significant b. Identical costs - All firms in the
impact on price. industry have identical cost curves.
Bali kani kay assumption rani siya
knowing that all other firms in the
industry are similarly affected by any
CHAPTER 11
long-run adjustments that occur.
c. Constant-cost industry - means that
the entry and exit of firms does not
PURE COMPETITION IN THE LONG RUN
affect resource prices or the

- pure competitors shut down locations of the average-total-cost

production if prices are too low or, if curves of individual firms.

prices are high enough, produce

LONG-RUN ADJUSTMENT PROCESS IN PURE - A favorable shift in demand (D1 to
COMPETITION D2) will upset the original industry
equilibrium and produce economic
A. CONCLUSION TO THIS: After all profits.
long-run adjustments are completed
in a purely competitive industry, Entry Eliminates Economic Profits
product price will be exactly equal
to, and production will occur at, - . Suppose a change in consumer

each firm’s minimum average total tastes increases product demand

cost. from D1 to D2. Price will rise to $60, as

determined at the intersection of D2
LONG-RUN EQUILIBRIUM and S1, and the firm’s
marginal-revenue curve will shift
- Refer to figure 11.1a upward to $60. (tanawa ang (a))
- Where MR=MC, economic profit - This $60 price exceeds the firm’s
here is zero; the industry is in average total cost of $50 at output
equilibrium or “at rest” because 100, creating an economic profit of
there is no tendency for firms to $10 per unit. This economic profit will
enter or to leave. lure new firms into the industry. Some
- Moreover, the existing firms are entrants will be newly created firms;
earning normal profits, which means others will shift from less prosperous
that their accounting profits are industries.
equal to those that the owners of - So, ang mahitabo ani, ang market
these firms could expect supply sa product mo increase
- The $50 market price is determined pushing the product price below
in Figure 11.1b by market or industry $60. . Economic profits persist, and
demand D1 and supply S1. entry continues until short-run supply
increases to S2. Market price falls to
$50, as does marginal revenue for
the firm.
- Observe in Figure 11.1a and 11.1b
that total quantity supplied is now
110,000 units and each firm is
producing 100 units. Now 1,100 firms
-
rather than the original 1,000
equilibrium output in the industry is
populate the industry. Economic
100,000 while equilibrium output for
profits have attracted 100 more
the single firm is 100. If all firms in the
firms.
industry are identical, there must be
1,000 firms (5 100,000/100). Exit Eliminate Losses
 - Ang shift ani kay sa opposite - In Figure 11.2a and 11.2b, total
direction, pa decline siya. quantity supplied is now 90,000 units
- Suppose consumer demand and each firm is producing 100 units.
declines from D1 to D3. This forces Only 900 firms, not the original 1,000,
the market price and marginal populate the industry. Losses have
revenue down to $40, making forced 100 firms out.
production unprofitable at the - An unfavorable shift in demand (D1
minimum ATC of $50. Ang resulta ani to D3) will upset the original industry
kay, tungod sa economic losses, and equilibrium and produce losses.
mga firms kay mo leave sa industry. - Even if resource prices and
owners will seek a normal profit technology are the same for all firms,
elsewhere rather than accept the less skillfully managed firms tend to
below-normal profits (losses) now incur higher costs and therefore are
confronting them. the first to leave an industry when
- Losses continue and more firms demand declines.. Similarly, firms
leave the industry until the supply with less productive labor forces or
curve shifts to S3. Once this happens, higher transportation costs will be
price is again $50, just equal to the highercost producers and likely
minimum average total cost. candidates to quit an industry when
- Losses have been eliminated so that demand decreases.
the firms that remain are earning - Note: mo quit when demand
only a normal profit (zero economic declines
profit). Since this is no better or worse
than entrepreneurs could expect to CONCLUSION FOR THIS PART:

earn in other business ventures, there

- competition, reflected in the entry
is no longer any incentive to exit the
and exit of firms, eliminates
industry.
economic profits or losses by

Figure 11.2 adjusting price to equal minimum

long-run average total cost

LONG-RUN SUPPLY FOR A CONSTANT COST

INDUSTRY

- Constant-cost industry means that

industry expansion or contraction will
not affect resource prices and
therefore production costs. it means
that the entry or exit of firms does not
shift the long-run ATC curves of
 individual firms. This is the case when - From Figure 11.2, we saw that a
the industry’s demand for resources decline in market demand from D1
is small in relation to the total to D3 causes an exit of firms and
demand for those resources ultimately restores equilibrium at
price P3 ($50) and output Q3 (90,000
What does the long-run supply curve of a units).
constantcost industry look like? - The points Z1, Z2, and Z3 in Figure
11.3 represent these three
- In other words, the long-run supply
price-quantity combinations
curve of a constant-cost industry is
- The line or curve connecting all such
perfectly elastic. (see figure 11.3)
points (horizontal, thus representing
- (shown in figure 11.3) Because this is
perfectly elastic supply) shows the
a constant-cost industry, entry
various price-quantity combinations
continues and industry output
that firms would produce if they had
expands until the price is driven back
enough time to make all desired
down to the level of the unchanged
adjustments to changes in demand.
minimum ATC. This is at price P2 ($50)
This is called the industry’s long-run
and output Q2 (110,000).
supply curve
- In a constant-cost industry, the entry
- Kay horizontal man ang line, ang
and exit of firms do not affect
constant-cost industry curve kay
resource prices, or, therefore, unit
perfectly elastic supply.
costs. So an increase in demand (D1
to D2) raises industry output (Q1 to LONG-RUN SUPPLY FOR AN INCREASING
Q2) but not price ($50) COST INDUSTRY

Figure 11.3 - Most industries are increasing-cost

industries, in which firms’ ATC curves
shift upward as the industry expands
and downward as the industry
contracts.
- the entry of new firms will increase
resource prices (especially y in
industries using specialized resources
whose long-run supplies do not
readily increase)
- Higher resource prices result in
higher long-run average total costs
for all firms in the industry. These
cause upward shifts in each firm’s
long run ATC curve. The overall result
 is higher-than-original equilibrium long-run industry supply curve (S)
price therefore slopes upward through
- e because the industry expansion points Y3, Y1, and Y2
has increased resource prices and - Original market demand is D1 and
the minimum average total cost, industry price and output are P1
ang industry kay mag produce ug ($50) and Q1 (100,000 units),
larger output at a higher product respectively, at equilibrium point Y1.
price. As a result, the long-run An increase in demand to D2 upsets
industry supply curve is upsloping. this equilibrium and leads to
- Ang case ani kay: Instead of economic profits. A new price is
supplying 90,000, 100,000, or 110,000 established at point Y2, where P2 is
units at the same price of $50, an $55 and Q2 is 110,000 units
increasing-cost industry might supply - On the other hand, if ang demand
90,000 units at $45, 100,000 units at modecline, and production kay
$50, and 110,000 units at $55. A mahimong unpofitable and tungod
higher price is required to induce ani, firms would leave the industry.
more production because costs per The resulting decline in resource
unit of output increase as production prices reduces the minimum
rises. average total cost of production for
firms that stay.
Figure 11.4
LONG-RUN SUPPLY FOR A DECREASING COST
INDUSTRY

- In decreasing-cost industries, firms

experience lower costs as their
industry expands
- Example: personal computer industry
- As demand for personal computers
increased, new manufacturers of
computers entered the industry and
greatly increased the resource
demand for the components used to
build them
- The decreased production costs of
- In an increasing-cost industry, the the components reduced their
entry of new firms in response to an prices, which greatly lowered the
increase in demand (D3 to D1 to D2) computer manufacturers’ average
will bid up resource prices and costs of production. The supply of
thereby increase unit costs. The personal computers increased by
 more than demand, and the price of - In a decreasing-cost industry, the
personal computers declined. entry of new firms in response to an
- however, the industries that show increase in demand (D3 to D1 to D2
decreasing costs when output ) will lead to decreased input prices
expands also show increasing costs if and, consequently, decreased unit
output contracts (example: costs. As a result, an increase in
american shoe-manufacturing industry output will be accompanied
industry: the industry was doing well by lower prices.
and daghan shoemaking firms - The original market demand is D1
maong ang cost of specialized and industry price and output are P1
technicians who repair machineries ($50) and Q1 (100,000 units),
could be spread across many firms. respectively, at equilibrium point X1.
This was because mga repairmen An increase in demand to D2 upsets
kay nag work as independent this equilibrium and leads to
contractors. Bli, they are going from economic profits. New firms enter
one factory to another ona daily the industry, increasing market
basis, dili sila hired mismo sa supply but decreasing the
company. But in the long run, the production costs of individual firms. A
demand of the footwear fell, there new price is established at point X2,
were fewer and fewer factories where P2 is $45 and Q2 is 110,000
maong ang cost sa repair units.
technician had to spread over fewer - On the other hand, a decline in
firms pod. Thus, cost per firm and per demand makes production
unit of output increased. unprofitable and causes firms to
leave the industry. The resulting
Figure 11.5 increase in input prices increases the
minimum average total cost of
production for the firms that remain

PURE COMPETITION AND EFFICIENCY

- demonstrates the efficiency

characteristics of the individual firms
and the market after long-run
adjustments in pure competition

Figure 11.6
 - Productive efficiency requires that
goods be produced in the least
costly way
- y. In the long run, pure competition
forces firms to produce at the
minimum average total cost of
- Price will settle where it is equal to production and to charge a price
minimum average total cost P and that is just consistent with that cost.
MR = minimum ATC. This is true because firms that do not
- MC = minimum ATC. use the best available (least-cost)
- So in the long-run equilibrium a triple production methods and
equality occurs: P (and MR) = MC = combinations of inputs will not
minimum ATC. survive.
- Thus, in long-run equilibrium, each - consumers benefit from productive
firm produces at the output level Qf efficiency by paying the lowest
that is associated with this triple product price possible under the
equality. prevailing technology and cost
conditions.
TRIPLE EQUALITY
ALLOCATIVE EFFICIENCY: P=MC
- y tells us two very important things
about long-run equilibrium - Long-run equilibrium in pure
1. it tells us that although a competition guarantees productive
competitive firm may realize efficiency, such that output will be
economic profit or loss in the produced in the least-cost way.
short run, it will earn only a - productive efficiency by itself does
normal profit by producing in not guarantee that anyone will want
accordance with the MR (= to buy the items that are being
P) = MC rule in the long run. produced in the leastcost manner.
2. the profit-maximizing decision consumers might prefer that the
rule that leads each firm to resources used to produce those
produce the quantity at items be redirected toward
which P = MR also implies producing other products instead
that each firm will produce at - long-run equilibrium in pure
the output level Qf that is competition also guarantees
associated with the minimum allocative efficiency, so we can be
point on each identical firm’s certain that society’s scarce
ATC curve. resources are directed toward
producing the goods and services
PRODUCTIVE EFFICIENCY: P = MINIMUM ATC that people most want to consume.
 - allocative efficiency occurs when it - Allocative efficiency occurs
is impossible to produce any net because, at Qe , marginal benefit,
gains for society by altering the reflected by points on the demand
combination of goods and services curve, equals marginal cost,
that are produced from society’s reflected by points on the supply
limited supply of resources. curve.
- Keeping these definitions in mind, - After long-run adjustments, pure
the fact that the demand curve lies competition produces both
above the supply curve for every productive and allocative efficiency
unit up to Qe means that marginal - It yields a level of output at which
benefit exceeds marginal cost for P=MC=lowest ATC, marginal benefit
every one of these units = marginal cost, maximum
- because the supply curve includes willingness to pay for the last unit 5
the opportunity cost of the other minimum acceptable price for that
goods that must be given up when unit, and combined consumer and
resources are directed to producing producer surplus are maximized.
these units, we can be certain that
consumers prefer to have the IMPORTANT NOTE:

necessary resources directed toward

- A further attribute of purely
producing these units rather than
competitive markets is their ability to
anything else.
restore the efficiency just described

MAXIMUM CONSUMER AND PRODUCER when disrupted by changes in the

SURPLUS economy
- A change in consumer tastes,
- consumer surplus is the difference resource supplies, or technology will
between the maximum prices that automatically set in motion the
consumers are willing to pay for a appropriate realignments of
product and the market price of the resources
product - Similarly, a change in the supply of a
- producer surplus is the difference particular resource—for example,
between the minimum prices that the field laborers who pick
producers are willing to accept for a cucumbers—or in a production
product and the market price of the technique will upset an existing
product price–marginal-cost equality by
- At the equilibrium quantity Qe , the either raising or lowering marginal
combined amount of consumer cost
surplus and producer surplus is - The resulting inequality of MC and P
maximized. will cause producers, in either
pursuing profit or avoiding loss, to
 reallocate resources until product households. The expenditures that
supply is such that price once again firms make in acquiring economic
equals marginal cost. In so doing, resources flow as wage, rent,
they will correct any inefficiency in interest, and profit incomes to the
the allocation of resources that the households that supply those
original change may have resources.
temporarily imposed on the ● Cost Minimization - To the firm,
economy resource prices are costs. And to
obtain the greatest profit, the firm
CREATIVE DESTRUCTION must produce the profit-maximizing
output with the most efficient (least
- The transformative effects of
costly) combination of resources.
competition are often referred to as
Resource prices play the main role in
creative destruction to capture the
determining the quantities of land,
idea that the creation of new
labor, capital, and entrepreneurial
products and new production
ability that will be combined in
methods destroys the market
producing each good or service
positions of firms committed to
● Resource Allocation - Product prices
existing products and old ways of
allocate finished goods and services
doing business
to consumers, resource prices
- The “creative” part of “creative
allocate resources among industries
destruction” leads to new products
and firms. In a dynamic economy,
and lower-cost production methods
where technology and product
that are of great benefit to society
demand often change, the efficient
because they allow for a more
allocation of resources over time
efficient use of society’s scarce
calls for the continuing shift of
resources
resources from one use to another.
- the “destruction” part of “creative
Resource pricing is a major factor in
destruction” can be hard on workers
producing those shifts.
in the industries being displaced by
● Policy Issues - Many policy issues
new technologies
surround the resource market.
○ Ex: To what extent should the
government redistribute
CHAPTER 12
income through taxes and
transfers? Should the
SIGNIFICANCE OF RESOURCE PRICING government do anything to
● Money Income determination - discourage “excess” pay to
Resource prices are a major factor in corporate executives?
determining the income of Should it increase the legal
 minimum wage? Is the - derived from the products
provision of subsidies to that the resources help
farmers efficient? Should the produce.
government encourage or - Resources usually do not directly
restrict labor unions? The satisfy customer wants but do so
facts and debates relating to indirectly through their use in
these policy questions are producing goods and services.
grounded on resource - John Deere tractor, or the labor
pricing. services of a farmer, but millions of
MARGINAL PRODUCTIVITY THEORY OF households do want to consume the
RESOURCE DEMAND food and fiber products that these
- will first assume that a firm sells its resources help produce.
output in a purely competitive
product market and hires a certain MARGINAL REVENUE PRODUCT
resource in a purely competitive - resource demand is derived from
resource market. product demand, the strength of the
- This assumption keeps things simple demand for any resource will
and is consistent with the model of a depend on:
competitive labor market - The productivity of the
- The firm is selling such a negligible resource in helping to create
fraction of total output that its output a good or service.
decisions exert no influence on - The market value or price of
product price. the good or service it helps
- Similarly the firm also is a “price produce.
taker” (or “wage taker”) in the - Resources that are highly productive
competitive resource market. in turning out a highly valued
- It purchases such a negligible commodity will be in great demand.
fraction of the total supply of the - Relatively unproductive resource
resource that its buying that is capable of producing only a
minimally valued commodity will be
RESOURCE DEMAND AS A DERIVED DEMAND in little demand.
- Starting point for any discussion of - No demand whatsoever will exist for
resource prices a resource that is phenomenally
- The demand for a resource is an efficient in producing something that
inverse relationship between the no one wants to buy.
price of the resource and the
quantity demanded MARKET DEMAND FOR A RESOURCE
- This demand is a derived demand: - The total, or market, demand curve
for a specific resource shows the
 various total amounts of the resource QUALITY OF THE VARIABLE RESOURCE
that firms will purchase or hire at - Improvements in the quality of the
various resource prices, other things variable resource, such as labor, will
equal. including labor.
- The total, or market, demand curve NET EFFECT
for a product is found by summing - The substitution and output effects
horizontally the demand curves of all are both present when the price of
individual buyers in the market. an input changes, but they work in
opposite directions.
CHANGES IN PRODUCT DEMAND - The net change in labor demand
- An increase in the demand for a depends on the relative sizes of the
product will increase the demand for two effects:
a resource used in its production, - If the substitution effect
whereas a decrease in product outweighs the output effect,
demand will decrease the demand a decrease in the price of
for that resource. capital decreases the
CHANGES IN PRODUCTIVITY demand for labor.
- Increase in the productivity of a - If the output effect exceeds
resource will increase the demand the substitution effect, a
for the resource and a decrease in decrease in the price of
productivity will reduce the demand capital increases the
for the resource. demand for labor.
QUANTITIES OF OTHER RESOURCES:
- Marginal productivity of any OCCUPATIONAL EMPLOYMENT TRENDS
resource will vary with the quantities - Changes in labor demand have
of the other resources used with it. considerable significance since they
- The greater the amount of capital affect wage rates and employment
and land resources used with, say, in specific occupations. Increases in
labor, the greater will be labor’s labor demand for certain
marginal productivity and, thus, occupational groups result in
labor demand. increases in their employment
TECHNOLOGICAL ADVANCE decreases in labor demand result in
- Technological improvements that decreases in their employment.
increase the quality of other
resources, such as capital, have the ELASTICITY OF RESOURCE DEMAND
same effect. - Such changes in demand must be
- The better the quality of capital, the distinguished from changes in the
greater the productivity of labor quantity of a resource demanded
used with it. caused by a change in the price of
 the specific resource under
consideration.

EASE OF RESOURCE SUBSTITUTABILITY

- The greater the substitutability of - In a purely competitive resource
other resources, the more elastic is market the marginal resource cost
the demand for a particular (MRC) is equal to the resource price
resource. P. Thus, for any competitive resource
market, we have as our profit
ELASTICITY OF PRODUCT DEMAND maximizing equation
- The demand for labor is a derived
demand, the elasticity of the
- For two resources, labor and capital,
demand for the output that the
we need both
labor is producing will influence the
elasticity of the demand for labor. -
RATIO OF RESOURCE COST TO TOTAL COST
- The larger the proportion of total - We can combine these conditions
production costs accounted for by a by dividing both sides of each
resource, the greater the elasticity of equation by their respective prices
demand for that resource. and equating the results to get

THE LEAST-COST RULE

- A firm is producing a specific output
with the least-cost combination of
resources when the last dollar spent
on each resource yields the same
marginal product.
CHAPTER 13
- With just two resources, labor and
capital, a competitive firm minimizes
its total cost of a specific output MONOPOLISTIC COMPETITION

when Characterized by:

“Competetive” 1.A relatively large

aspect of number of sellers
monopolitic
competetion 2.Easy entry to, and
- equation immediately tells us that
exist from, the
this is not the least costly industry
combination of resources:
“Monopolistic” 3.Differentiated
aspects products
 (promoted by
heavy advertising) PRODUCT It involves physical and
ATTRIBUTES qualitative differences of
the product such as:
A. RELATIVELY LARGE NUMBER OF SELLERS
features, materials,
It inolves:
design, and workmanship
● SMALL MARKET SHARES
- Each firm has a SERVICE Service and the conditions
comparatively small surroundings the sale of a
product are form of
percentage of the total
product differentation
market and consequently
has limited control over LOCATION Location and accessibility
market price of the stores that sell them
● NO COLLUSION may also be diffrentiated
- It ensures that collusion by a
BRAND It could also be created
group of firms to restrict NAMES AND through the use of brand
output and set prices is PACKAGING names and trademnarks,
unlikely packaging, and celebrity
● INDEPENDENT ACTION connections
- There is no feeling of
SOME Monopolistic competitors
interdependence among CONTROL do have some control
them; each firm can OVER PRICE over their product prices
determine its own pricing because of product
policy w/o considering the differentation but is quite
possible reaction of rival firms. limited since there are
numerous potential
substitutes for its product
B. DIFFERENTIATED PRODUCTS
- Distinguished by product
differentiation. C. EASY ENTRY AND EXIT

- Turn out variation of a particular

product Monopolistic Oligopoly or
Competetion pure
- Produce with slightly different
monopoly
physical characteristics, offer varying
Entry of Easy Entry Difficult of
degrees of customer service, provide
Products/firm - because enter
varying amounts of locational monopolistic
convenience, or proclaim special competitors
are typically
qualities, real or imagined, for their small firms
products.
Exit of Easy Exit n/a
products/firm
ASPECTS OF PRODUCT DIFFERENTIATION
 Econonies of Few - This index is the sum of the
scale squared percentage market
shares of all firms in the
Capital Low
Requirements industry

ADVERTISING
- monopolistic competitors advertise
their products, often heavily Where:
● %S1 is the percentage market share
Goal of product differentation and of firm 1,
advertising is: NONPRICE COMPETITION ● %S2 is the percentage market share
- This is to make price less of a factor of firm 2,
in consumer purchases and make ● and so on for each of the n total
product differences a greater factor. firms in the industry
- Once is becomes successful the
demand curve of the firm shift to the PRICE AND OUTPUT IN MONOPOLISTIC
right (increases) and will become COMPETITION
less elastic.
THE FIRM’S DEMAND CURVE
MONOPOLISTICALLY COMPETITIVE - shows that the demand curve faced
INDUSTRIES by a monopolistically competitive
seller is highly, but not perfectly,
Two measures: elastic.
1. FOUR-FIRM CONCENTRATION RATIO - The monopolistic competitor’s
- expressed as a percentage, demand is more elastic than the
is the ratio of the output demand faced by a pure
(sales) of the four largest firms monopolist because the
in an industry relative to total monopolistically competitive seller
industry sales. has many competitors producing
closely substitutable goods.

TWO REASONS WHY THE MONOPOLISTIC

COMPETITOR’S DEMAND IS NOT PERFECTLY
2. HERFINDAHL INDEX ELASTIC:
- The lower the Herfindahl 1. Has fewer rivals
index, the greater is the 2. Its products are differentiated (not
likelihood that an industry is perfect subsititutes)
monopolistically competitive
rather than oligopolistic
Thus, the larger the number of rivals, the - When the industry suffers shortrun
weaker the product differentiation. The losses, some firms will exit in the long
greater the price elasticity of each seller’s run.
demand, that is, the closer monopolistic - Faced with fewer substitute products
competition will be to pure competition and blessed with an expanded
share of total demand, the surviving
THE SHORT RUN: PROFIT OR LOSS firms will see their demand curves
- Monopolistically competitive firms shift to the right (rise)
maximize profit or minimize loss using
exactly the same strategy as pure MONOPOLISTIC COMPETITION AND
competitors and monopolists: They EFFICIENCY
produce the level of output at which
marginal revenue equals marginal Neither Productive nor Allocative Efficiency
cost (MR = MC). - In monopolistic competition, neither
- But with less favorable demand or productive nor allocative efficiency
costs, the firm may incur a loss in the occurs in long-run equilibrium.
short run
Excess Capacity
THE LONG RUN: ONLY A NORMAL PROFIT - In monopolistic competition, this is
- Firms will enter a profitable the gap between the minimum-ATC
monopolistically competitive industry output and the profit-maximizing
and leave an unprofitable one output: plant and equipment that
(Remember that the cost curves are underused because firms are
include both explicit and implicit producing less than the
costs, including a normal profit.) minimum-ATC output.

Profits: Firms Enter PRODUCT VARIETY

- In the case of short-run profit, - Although product differentiation and
economic profits attract new rivals advertising will add to the firm’s
because entry to the industry is costs, they can also increase the
relatively easy demand for its product.
- As new firms enter, the demand - If demand increases by more than
curve faced by the typical firm shifts enough to compensate for the
to the left (falls). Because each firm added costs, the firm will have
has a smaller share of total demand improved its profit position.
and now faces a larger number of
close-substitute products Benefits of Product Variety

Losses: Firms Leave

 1. It may offset the cost of the - a market dominated by a few large
inefficiency associated with producers of a homogeneous or
monopolistic competition. differentiated product.
2. Consumers have a wide diversity of - A Few Large Producers
tastes
3. The range of choice is widened, and Homogeneous or Differentiated Products
producers more fully meet the wide - An oligopoly may be either a
variation in consumer tastes. homogeneous oligopoly or a
4. Creates a trade-off between differentiated oligopoly, depending
consumer choice and productive on whether the firms in the oligopoly
efficiency produce standardized
(homogeneous) or differentiated
Note: products
● The stronger the product
differentiation, the greater is the Control over Price, but Mutual
excess capacity and, therefore, the Interdependence
greater is the productive - Because firms are few in oligopolistic
inefficiency. industries, each firm is a “price
● Tthe greater the product maker”; like the monopolist, it can
differentiation, the more likely it is set its price and output levels to
that the firms will satisfy the great maximize its profit.
diversity of consumer tastes. The - But unlike the monopolist, which has
greater the excess-capacity no rivals, the oligopolist must
problem, the wider the range of consider how its rivals will react to
consumer choice. any change in its price, output,
product characteristics, or
advertising

CHARACTERISTICS OF OLIGOLOPY:

Strategic self-interested
Behavior behavior that takes
into account the
reactions of others
such as: implement
price, quality,
location, service, and
advertising strategies
to “grow their
OLIGOPOLY business” and expand
 two products associated with
their profits
different industries.
Mutual A situation in which
Interdependence each firm’s profit World Trade
depends not just on
its own price and
sales strategies but
also on those of the OLIGOPOLY BEHAVIOR: A GAME-THEORY
other firms in its highly OVERVIEW
concentrated - A classic example of game theory is
industry called the prisoner’s dilemma, in
which each of two prisoners
Entry Barriers confesses to a crime even though
- Economies of scale are important they might go free if neither
entry barriers in a number of confesses.
oligopolistic industries, such as the
aircraft, rubber, and copper
industries.

Mergers
- The merging, or combining, of two or
more competing firms may
substantially increase their market
share, and this in turn may allow the
new firm to achieve greater
economies of scale.

OLIGOPOLISTIC INDUSTRIES

Localized Markets
- Local oligopolies can exist even
Mutual Interdependence Revisited
though national concentration ratios
- This mutual interdependence of
are low
oligopolists is the most obvious point

Interindustry Competition
Collusion
- Concentration ratios are based on
- oligopolists often can benefit from
somewhat arbitrary definitions of
collusion—that is, cooperation with
industries. In some cases, they
rivals
disguise significant interindustry
competition—competition between
 - Mutual interdependence and the
uncertainty about rivals’ reactions
make this question hard to answer.
The location and shape of an
oligopolist’s demand curve depend
on how the firm’s rivals will react to a
price change

Price Inflexibility
- This analysis helps explain why prices
are generally stable in noncollusive
oligopolistic industries. There are both
demand and cost reasons.

THREE OLIGOPOLY MODELS

1. the kinked-demand curve,
Demand the kinked-demand curve
2. collusive pricing, and gives each oligopolist reason
3. price leadership. to believe that any change
in price will be for the worse.
REASONS: - If it raises its price, many of
its customers will desert it.
1. Diversity of oligopolies
- If it lowers its price, its sales
Oligopoly encompasses a greater
at best will increase very
range and diversity of market modestly since rivals will
situations than do other market match the lower price.
structures. It includes the tight
Cost the broken marginal-revenue
oligopoly, in which two or three firms
curve suggests that even if
dominate an entire market, and the
an oligopolist’s costs change
loose oligopoly, in which six or seven substantially, the firm may
firms share, say, 70 or 80 percent of a have no reason to change its
market while a “competitive fringe” price
of firms shares the remainder.
2. Complications of interdependence Cartels and Other Collusion
The mutual interdependence of - Game-theory model demonstrated
oligopolistic firms complicates that oligopolists might benefit from
matters significantly. collusion.
Advantages: We can say that collusion
Kinked-Demand Theory: Noncollusive occurs whenever firms in an industry reach
Oligopoly an agreement to fix prices, divide up the
market, or otherwise restrict competition
significantly and on
among themselves. an industrywide basis
as the result o
Disadvantages: There is always the danger
Communications The price leader
of a price war breaking out, especially
often communicates
during a general business recession
impending price
adjustments to the
PRICE LEADERSHIP MODEL industry through
Price leadership speeches by major
- entails a type of implicit executives, trade
understanding by which oligopolists publication
interviews, or press
can coordinate prices without
releases.
engaging in outright collusion based
on formal agreements and secret Limit Pricing The price leader does
meetings. not always choose
- Rather, a practice evolves whereby the price that
maximizes short-run
the “dominant firm”—usually the
profits for the industry
largest or most efficient in the
because the industry
industry— initiates price changes may want to
and all other firms more or less discourage new firms
automatically follow the leader from entering.

Leadership Tactics
- An examination of price leadership
in a variety of industries suggests that
the price leader is likely to observe
the following tactics.

Infrequent Price price changes always

Changes carry the risk that
rivals will not follow
the lead, price
adjustments are
made only
infrequently.

Price is changed only

OLIGOPOLY AND ADVERTISING
when cost and
Each firm’s share of the total market is
demand conditions
have been altered typically determined through product
development and advertising, for two consumers to pay high prices for
reasons: much-acclaimed but inferior
1. Product development and products, forgoing better but
advertising campaigns are less easily unadvertised products selling at
duplicated than price cuts lower prices
- Price cuts can be quickly and - Advertising can also be
easily matched by a firm’s self-canceling (When advertising
rivals to cancel any potential either leads to increased monopoly
gain in sales derived from power or is self-canceling, economic
that strategy inefficiency results.)

2. Oligopolists have sufficient financial OLIGOPOLY AND EFFICIENCY

resources to engage in product
development and advertising. Productive and Allocative Efficiency
- Many economists believe that the
Positive Effects of Advertising outcome of some oligopolistic
- By providing information about the markets is approximately as shown in
various competing goods that are Figure 13.5. This view is bolstered by
available, advertising diminishes evidence that many oligopolists
monopoly power. In fact, advertising sustain sizable economic profits year
is frequently associated with the after year. In that case, the
introduction of new products oligopolist’s production occurs
designed to compete with existing where price exceeds marginal cost
brands. and average total cost. Moreover,
- Advertising is an production is below the output at
efficiency-enhancing activity. It is a which average total cost is
relatively inexpensive means of minimized. In this view, neither pro
providing useful information to ductive efficiency (P 5 minimum
consumers and thus lowering their ATC) nor allocative efficiency (P 5
search costs. By enhancing MC) is likely to occur under
competition, advertising results in oligopoly.
greater economic efficiency

Potential Negative Effects of Advertising

- Advertising is sometimes based on
misleading and extravagant claims
that confuse consumers rather than
enlighten them. Indeed, in some
cases advertising may well persuade
 would provide.

Technological oligopolistic
advance industries may foster
more rapid product
development and
greater
improvement of
production
techniques than
would be possible if
they were purely
competitive.
Oligopolists have
large economic
profits from which
they can fund
Qualifications expensive research
and development
We should note, however, three
(R&D)
qualifications to this view:

Increased foreign foreign competition

competition has increased
rivalry in a number
of oligopolistic
industries—steel,
automobiles, video
games, electric
shavers, outboard
motors, and copy
machines

Limit pricing In essence,

consumers and
society may get
some of the
benefits of
competition—price
s closer to marginal
cost and minimum
average total
cost—even without
the competition
that free entry