Review 2

15 Monopoly

Summary A monopoly is a firm that is the sole seller in its market. It faces a downward-sloping demand curve for its product. A monopoly’s marginal revenue is always below the price of its good.

Summary A monopolist’s profit-maximizing level of output is below the level that maximizes the sum of consumer and producer surplus. A monopoly causes deadweight losses similar to the deadweight losses caused by taxes.

21 The Theory of Consumer Choice

Summary A consumer’s budget constraint shows the possible combinations of different goods he can buy given his income and the prices of the goods. The slope of the budget constraint equals the relative price of the goods. The consumer’s indifference curves represent his preferences.

Economics of Information and Uncertainty

Introduction In this lecture, we will discuss briefly some of the issues that have been at the “frontiers” of economics. They concern decisions when there is uncertainty and also issues that arise when some agents are better informed than others. Some of this material is in Mankiw, Chapter 22, but most will be in this set of slides.

Information and Uncertainty Two topics –Risk –Asymmetric information Hidden characteristics Hidden actions Risk –Expected value –Insurance Fair insurance Unfair insurance

Hidden Characteristics in Labor Markets High ability workers Worth $400 to the firm One-half Low ability workers Worth $200 to the firm One-half

Adverse Selection Adverse selection occurs when the uninformed side of a deal gets exactly the wrong people trading with it (i.e., it gets an adverse selection of the informed parties).

Moral Hazard Moral hazard refers to hidden actions because, in such cases, the informed side may take the ‘wrong’ action.

Hidden actions and moral hazard –Medical care –Employment -- shirking

18 The Markets for the Factors of Production

Summary The economy’s income is distributed in the markets for the factors of production. The three most important factors of production are labor, land, and capital. The demand for a factor, such as labor, is a derived demand that comes from firms that use the factors to produce goods and services.

Summary Competitive, profit-maximizing firms hire each factor up to the point at which the value of the marginal product of the factor equals its price. The supply of labor arises from individuals’ tradeoff between work and leisure. An upward-sloping labor supply curve means that people respond to an increase in the wage by enjoying less leisure and working more hours.

Summary The price paid to each factor adjusts to balance the supply and demand for that factor. Because factor demand reflects the value of the marginal product of that factor, in equilibrium each factor is compensated according to its marginal contribution to the production of goods and services.

Chapter 16 Oligopoly and Game Theory

Some Concepts We Will Use Strategies Payoffs Sequential Games Simultaneous Games Best Responses Equilibrium Dominated strategies Dominant Strategies.

Chapter 16 Oligopoly and Game Theory Simultaneous move games –Rock-scissors-paper Dominant strategy –Prisoner’s dilemma –Oligopoly -- firms choose quantities Nash equilibrium –Number of Nash equilibria