Microeconomics Course E John Hey

An overview...of the first two parts of the course......of the most important points.

Economics – why? “People Are Different”

Part 1: Economies without Production 2: Gains from exchange 3: Discrete goods: Reservation prices, Demand, Supply and Surpluses 4: Perfectly divisible goods: Reservation prices, Demand, Supply and Surpluses 5: Preferences 6: Demand and supply with income in the form of an endowment 7: Demand with income in money 8: Exchange 9: (welfare economics)

Chapter 2 Gains from trade Important concepts: Reservation price for a buyer. Reservation price for a seller. Buyer’s surplus. Seller’s surplus.

Chapter 2 In the competitive equilibrium the total surplus is maximised.

Chapter 3 Discrete Goods An indifference curve......the locus of points for which an individual is indifferent. Quasi-Linear preferences parallel indifference curves for which we have an unambiguous measure of how much better off is the individual.

Chapter 3 Discrete goods The demand curve is a stair with a step at every reservation price. The supply curve is a stair with a step at every reservation price.

Chapter 3 Discrete goods The surplus of a buyer is the area between the demand curve and the price paid. The surplus of a seller is the area between the supply curve and the price paid.

Chapter 4 Perfectly divisible goods Quasi-linear preferences The same concepts and the same results as in Chapter 3.

Chapter 5 Preferences Quasi-linear. Perfect substitutes 1 to a. Perfect complements 1 with a. Cobb-Douglas with parameter a. Stone-Geary with levels of subsistence s 1 s 2 and parameter a.

Chapter 7 Demand with money income Demand depends on preferences. If we know the preferences we can deduce the demands. If we know the demands we can infer the preferences.

Chapter 7 Demand with money income Perfect substitutes 1:a if p 1 /p 2 < a then q 1 = m/p 1 q 2 = 0 if p 1 /p 2 = a then.... if p 1 /p 2 >a then q 1 = 0 q 2 = m/p 2 Perfect complements 1 with a q 1 =m/(p 1 + ap 2 ) and q 2 =am/(p 1 + ap 2 ) Cobb-Douglas with parameter a q 1 = am/p 1 and q 2 = (1-a)m/p 2 Stone-Geary with parameters s 1, s 2 and a q 1 = s 1 + a(m-p 1 s 1 -p 2 s 2 )/p 1 and q 2 = s 2 + (1-a)(m-p 1 s 1 -p 2 s 2 )/ /p 2

Chapter 6 Demand and supply with income in the form of endowments The same kind of results as in Chapter 7.

Chapter 6 – results Cobb-Douglas with parameter a q 1 =a(p 1 e 1 +p 2 e 2 )/p 1 and q 2 =(1-a)(p 1 e 1 +p 2 e 2 )/ /p 2 Perfect substitutes 1:a if p 1 /p 2 < a then q 1 = (p 1 e 1 +p 2 e 2 )/p 1 q 2 = 0 if p 1 /p 2 = a then.... if p 1 /p 2 >a then q 1 = 0 q 2 = (p 1 e 1 +p 2 e 2 )/p 2 Perfect complements 1 with a q 1 = (p 1 e 1 +p 2 e 2 )/(p 1 + ap 2 ) and q 2 =a(p 1 e 1 +p 2 e 2 )/(p 1 + ap 2 )

Chapter 8 Exchange The most beautiful Chapter the most important in the course... The Edgeworth Box. To show exchange between two individuals. We look for an efficient exchange and ask whether there is a just one.

Chapter 8 Exchange The contract curve is The locus of points efficient in the sense of Pareto. A point off the contract curve is inefficient. A point on the contract curve is efficient.

Chapter 9 Welfare … … …

Part 2 Economies with production Chapter 10: Technology. Chapter 11: Minimisation of costs and factor demands. Chapter 12: Cost curves. Chapter 13: Firm’s supply and profit/surplus. Chapter 14: The production possibility frontier. Chapter 15: Production and exchange. (Chapter 16: Empirical analysis of demand, supply and surpluses)

Chapter 10 Firms and technology Isoquants In the space of the inputs (q 1,q 2 ) teh locus of points for which output is constant (note the parallel: an indifference curve is the locus of points for which the individual is indifferent.)

Chapter 5 Chapter 10 Individuals Buy goods and ‘produce’ utility… …depends on the preferences… …which we can represent with indifference curves.. …in the space (q 1,q 2 ) Firms Buy inputs and produce output… …depends on the technology… …which we can represent with isoquants.. …in the space (q 1,q 2 )

Two dimensions The shape of the isoquants: depends on the substitution between the two inputs. The way in which the output changes form one isoquant to another – depends on the returns to scale.

Perfect Substitutes 1:a an isoquant: q 1 + q 2 /a = constant y = A(q 1 + q 2 /a) constant returns to scale y = A(q 1 + q 2 /a) b returns to scale decreasing (b 1)

Perfect Complements 1 with a an isoquant: min(q 1,q 2 /a) = constant y = A min(q 1,q 2 /a) constant returns to scale y = A[min(q 1,q 2 /a)] b returns to scale decreasing (b 1)

Cobb-Douglas with parameters a and b an isoquant: q 1 a q 2 b = constant y = A q 1 a q 2 b a+b<1 decreasing returns to scale a+b=1 constant returns to scale a+b>1 increasing returns to scale

Chapter 11 Minimisation of costs and the demand for inputs Demand depends on the technology. If we know the technology we can deduce the demand. If we know the demand we can infer the technology.

Chapter 12 Cost curves The total cost curve the form depends on the Returns to Scale: Convex with decreasing RtS Linear with constant RtS Concave with increasing RtS.

Chapter 12 Cost curves The LONG run in which the firm can vary both inputs. The SHORT run in which the quantity of one of the two inputs is fixed.

Chapter 12 The marginal cost curve......is the slope of the total cost curve. The average cost curve......is the slope of a line from the origin to the total cost curve.

Chapter 13 The supply curve of a competitive firm The condition for optimal output: p = marginal cost where the marginal cost is rising. The supply curve is thus the marginal cost curve. The profit of the firm is the area between the supply curve and the price.

Chapter 14 Production possibility frontiers. Case 1: linear technology... two people. Case 2: non-linear technology... two firms and two inputs.

Chapter 15 A difficult chapter The rate of trasformation (the slope of the ppf of society) is equal to the marginal rates of substitution of the two individuals (the slopes of their indifference curves). (You will recall that the marginal rates of substitution of the two individuals must be equal in every competitive equilibrium.)

Chapter 16 Empirical evidence Beautiful but difficult.

Overview In an economy without production demand and supply depend on preferences and endowments. Competitive exchange is efficient and depends on preferences and endowments. In an economy with production demand and supply depend on preferences and technology. Competitive exchange is efficient and depends on preferences and endowments.

The first two parts of the book Goodbye.