Priniciples of Economic Price Theory

Topics: Supply and demand, Economics, Microeconomics Pages: 29 (10618 words) Published: August 1, 2013
Factors affecting demand:
* Price of Substitutes- An increase in the price of a good’s substitute will increase demand for the good. * Price of Complements- An increase in the price of a good’s complement will decrease demand for the good. * Consumers’ Income- A rise in income increases the demand for normal goods and decreases the demand for inferior goods. * Consumers’ Expectations- If consumers expect a product’s quality to increase in the near future, they will have a lower demand for the product today. Vice versa. Chapter One: Price Theory

* Economics is based on incentives. People respond to incentives. * If the price of Pepsi increases, people realize they must give up more of other goods when they buy another Pepsi. * Scarcity = finite resources and infinite wants, we must make choices. Scarce resources have positive opportunity costs. * Opportunity Cost = highest valued alternative use of any resource (what we give up). * Production Possibilities Curve: On the line is efficient, using all of our productive resources. At points A or B, we must give up some of one to make more of the other. Inside the line is inefficient. At point C there are clear gains (at least as much of one good and more of the other). If we knew preferences, we could compare A and B (prices give us such info). Because C is inefficient, it does not mean any point on PPC is preferred to C (example is D). [Figure 1] * Wealth is increased via innovation, specialization, and markets (markets allow specialization and exchange). [Figures 2,3] Chapter Two: Supply and Demand

* Quantity demanded is inversely related to price (p). We get the market demand by adding individual demands. * What affects how much people want to buy?
1) Price of the Good
2) Price of Related Goods
3) Income
4) Preferences
5) Number of Consumers
* Price of Related Goods: Substitutes (coke and pepsi), complements (chips and salsa). * Income: Most goods are normal; consumption goes in the same direction as income. If goods are inferior, the consumption goes in the opposite direction of income. * Quantity supplied is directly related to price (p). Supply curves slope up because producers differ in opportunity costs. As (p) increase, we cover the opportunity cost of more producers, so quantity supplied increases. * When we draw supply, we hold two things constant:

1) Cost for each producer.
2) Number of producers of each cost.
* Cost is affected by input prices and technology (how productive the inputs are). * Sellers can still differ in cost because of differences in productivity of other inputs (which we held constant). * In [Figure 7], as the price of wheat increases, there is an increase in the quantity of wheat supplied. * In [Figure 8], the cost of production went up due to increase in wages, so the price of wheat increased, creating a decrease in supply. The increase in price is necessary to cover the costs of increase in workers’ wages. * In [Figure 9], innovation lowered cost; a lower price at any quantity covers cost, therefore, increasing supply. * Joint Production: Some goods are produced jointly; producing more of one good means producing more of the other (e.g., bacon and pork chops). [Figures 10, 11] Chapter Three: Supply and Demand Intertwined

* Whenever quantity supplied is greater than quantity demanded, a surplus occurs. * Surpluses put downward pressure on prices. However, when prices fall, the law of demand causes consumers to buy more, while the law of supply causes firms to produce less. * Consequently, markets correct surpluses by lowering prices, thereby increasing quantity demanded and decreasing quantity supplied. * Whenever quantity supplied is less than quantity demanded, a shortage occurs. * In the event of a shortage, firms should raise prices. * When prices go up, the law of demand causes consumers to buy...
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