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Econ 3550 Introduction

Econ 3550 Introduction. the science of economics?. Like all social sciences, economics is the study of human behavior . Economists are interested in understanding and predicting the choices humans make . We do not have unlimited resources but instead face scarcity .

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Econ 3550 Introduction

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  1. Econ 3550 Introduction

  2. the science of economics? • Like all social sciences, economics is the study of human behavior. • Economists are interested in understanding and predicting the choices humans make. • We do not have unlimited resources but instead face scarcity. • This scarcity constrains the range of available choices humans can make. • The decisions humans make as they choose among available options is what makes up human behavior.

  3. the basis of this decision-making • the rationality assumption: Individuals tend to make the choices that allow them to be as well off as possible. • individuals looking at the cost and benefit of taking action X and take that action if the benefit exceeds the cost • one action at a time: B(x) > C(x). • how much of something to do: MB(x) > MC(x) (By “marginal” we mean “the next” or “the extra”)

  4. RATIONALITY: AN ASSUMPTION, NOT A BELIEF • So we ASSUME people are rational, even though we do not necessarily believe it. • We have found that assuming that people act rationally allows us to understand and predict people’s behavior much of the time. • The possiblities: • They just might be rational • It could be trial and error • It could be survival of the lucky.  

  5. Failures of Rational Thinking • Ignoring “implicit” costs. • costs you pay without spending money but by giving up something of value. • Failing to ignore sunk costs. • costs that have been incurred and which cannot be recovered to any significant degree

  6. Ch1. Supply, Demand, and Equilibrium • Supply and demand analysis • Consumers • Producers • Responsiveness of prices and quantities to variety of changes in economic environment

  7. Law of Demand • When price of a good goes up, people buy less of good • Downward sloping demand curve

  8. Demand versus Quantity Demanded • Quantity Demanded • Amount of a good consume at a given price • Change in price means a change in quantity demanded • Movement along the demand curve • Demand • A family of numbers that lists the quantity demanded corresponding to each possible price • Refers to the curve itself

  9. Demand Curve • Graph illustrating demand • Price on the vertical axis • Quantity demanded on the horizontal axis • Representation of the demand schedule • Demand Q = f(P): Q = 800 - 200P • y= f(x) where y is the variable on the vertical axis  use P=f(Q) setup • Inverse Demand: P = 4-0.005Q

  10. Changes in Demand • Price change does not lead to change in demand. • Demand can shift if something other than price changes. • Price of Complements • Price of Substitutes • Income • Taste and Preferences • Population • Price Expectations • Tax/Subsidy on consumers

  11. Demand versus Quantity Demanded • 1. T/F When the price of doughnuts rises, demand for doughnuts falls. • No, the quantity demanded falls, not demand. • 2. T/F When the price of coffee rises, demand for doughnuts falls. • Yes, coffee and doughnuts are complements.

  12. Shifting Demand • Fall in Demand • Decision made by demanders to buy a smaller quantity at each given price • Leftward shift of demand curve • Rise in Demand • Decision made by demanders to buy a larger quantity at each given price • Rightward shift of demand curve

  13. EXHIBIT 1.2 Shifting The Demand Curve

  14. Sales Tax Example • Impose tax on consumers • Less desirable to buy the taxed good or service at every given price • the price is separate from the tax and the tax is something extra. Therefore, an imposition or change in a tax will cause demand to shift. • Demand shifts left and downward • Inverse Demand: P = 4 – .005Q • With a $.10 tax per unit, willingness to pay for doughnuts will fall by $.10 • P=3.9-.005Q

  15. Demand and Sales Tax

  16. EXHIBIT 1.3 The Effect of a Sales Tax on Demand

  17. Law of Supply • When the price of a good goes up, the quantity supplied goes up • Leads to a upward sloping supply curve

  18. Supply versus Quantity Supplied • Quantity Supplied • Amount of a good that suppliers will provide at a given price • Changes if the price changes • Movement along the curve • Supply • Family of numbers giving the quantities supplied at each price • Changes in anything other than price changes supply • Shifts entire curve

  19. Shifting Supply • Factor prices • Technology • Price of other goods that could be produced • Natural Events • # Firms • Price Expectations • Tax/Subsidy on consumers

  20. Changes in Supply • Rise in Supply • Increase in quantities that supplier will provide at each price • Rightward shift of supply • Fall in Supply • Decrease in quantities that supplier will provide at each price • Leftward shift of supply

  21. EXHIBIT 1.5 The Supply of Coffee

  22. Excise Tax Example • Impose a tax on producers (ex: Gas Tax) • Less desirable to produce the taxed good or service at every given price • Treat the tax as separate from the price. • Supply shifts left and upward • Inv Supply P = .25+.001Q • Firms must get an extra $.10 per unit to be willing to sell the same quantity as before. • P=.35+.001Q

  23. Supply and Excise Tax

  24. EXHIBIT 1.6 Effect of an Excise Tax

  25. Equilibrium • Actual price determined by interaction between demanders and suppliers • Demanders cannot purchase more than suppliers willing to sell them • Suppliers cannot sell more than demanders willing to buy

  26. Equilibrium Point • Point where supply and demand curves intersect • Price where quantity demanded equals quantity supplied • Demanders and suppliers satisfied • Able to behave as one wants to, taking market prices as given

  27. EXHIBIT 1.7 Equilibrium in the Market for Cement

  28. Changes in the Equilibrium Point • Any shift in a curve causes an initial surplus or shortage and then an adjustment towards a new equilibrium. • shortages as something that puts pressure on prices to rise • surpluses as something that puts pressure on prices to fall • The supply and demand model is not very good at explaining how we get from equilibrium to another, but does a great job of helping us predict where the new equilibrium will be.

  29. The Nature of Equilibrium: Some Common Mistakes (P17 from the text) • “General Motors just increased prices another 2.5% even after a “bad year”. If the law of supply and demand were working, GM would reduce prices, not raise them.” • What is wrong with a statement like “demand exceeds supply”?

  30. EXHIBIT 1.8The Effects of Supply and Demand Shifts

  31. EX) the supply and demand for student rental housing in Denton: • Demand: P = 1,500 – 0.5Q • Supply: P = 300 + 0.25Q a. Graph demand and supply noting the relevant intercepts and the equilibrium P and Q. b. Now let us assume that the government imposes a $300 excise tax on each landlord.   c. How much tax burden will be shared by each student? 

  32. Effect of Sales Tax • Sales tax of x¢ per item causes equilibrium price to fall by some amount less than x¢ per item • Price to suppliers not same as price to demanders (price plus sales tax)

  33. Effect of Excise Tax • Excise tax of x¢ per item causes the equilibrium price to rise by some amount less than x¢ per item • Price to suppliers (price minus excise tax) not same as price to demanders

  34. Comparing Two Taxes • Economic Incidence – the division of a tax burden according to who actually pays the tax • Legal Incidence – the division of a tax burden according to who is required under the law to pay the tax • The economic incidence of a tax independent of its legal incidence

  35. Tax incidence is independent of whether the tax is levied on producers or consumers. • Before Tax • Demand: P = 1,500 – 0.5Q • Supply: P = 300 + 0.25Q • Set Pd=Ps  1,500–0.5Q= 300+0.25Q • After Tax • Excise Tax:1500-0.5Q=(300+0.25Q)+Tax • Sales Tax: (1500-0.5Q)-Tax=300+0.25Q

  36. EXHIBIT 1.10 A Sales Tax versus an Excise Tax

  37. Ch.2 Absolute versus Relative Prices • No money in world, people still trade • Exchange goods • Absolute prices • Number of dollars exchanged for a specified quantity of a given good • Relative prices • The quantity of some other good that can be exchanged for a specified quantity of another good

  38. Focus of Microeconomics • Study relative prices • Absolute price change not same as a relative price change • Relative price usually relative to some representative basket of goods or services • Dollar refers to a basket of goods or services, not pieces of green paper

  39. Quality of Oranges • Price of oranges higher in New York than in Florida • New Yorkers buy fewer oranges than they would at the Florida price • Oranges in NY taste better than ones in Florida. Why? • Compare relative prices • Good orange versus a bad orange

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