AP Microeconomics Unit III Review Chapters 5, 6 & 7

What is a demand side market failures? A supply side market failure? When the demand curve fails to account for the full willingness to pay for a good; when the supply curve fails to account for the whole cost of producing a good

What does consumer surplus represent? Where does it appear on an S & D graph? Difference between what consumer is willing to pay and actually pays, represents gains from trade

What does producer surplus represent? Where does it appear on an S & D graph? Difference between what producer is willing to sell for and actually sells for, represents gains from trade

What is achieved when competition forces producers to use the best available technologies and combinations of resources? productive efficiency

What is achieved when the correct quantity of a product is produced relative to other products? allocative efficiency

What is created when a market over produces or under produces? What does this impact most? deadweight loss (or efficiency loss), cuts into consumer & producer surplus

What are the two distinguishing characteristics of private goods? Rivalry for consumption & excludability from consumption

What does it mean that public goods are “non-rivalry” and “non- excludable”? One person’s consumption doesn’t stop someone else from consuming, and there’s no effective way to prevent someone from using the good once it comes into existence

What is the free-rider problem? Once someone has created a public good everyone, including “non- payers” can benefit

How can a gov’t try to determine how much of a public good to supply? Perform a cost benefit analysis (using MB & MC to determine optimum Q) by using collective willingness to pay instead of demand for MB

What are positive externalities? How do they create demand side market failures? Spillover benefits of a good, service, or activity to a 3 rd party; They prevent demand schedule from reflecting the willingness to pay of 3 rd parties who receive benefits

What are negative externalities? How do they create supply side market failures? Spillover costs of a good, service, or activity to a 3 rd party; They prevent supply schedule from reflecting the costs imposed on 3 rd parties

What are three key ways governments intervene in the hopes of achieving economic efficiency? Direct controls (regulation), specific taxes (often excise taxes), subsidies, and direct provision (government provides good)

Why would government provide subsidies to buyers? To correct for under allocation of an important good (inoculations, nutritious food, etc.)

Why would government provide subsidies to producers? To encourage production of a particular good (energy efficient technology, etc.)

How would direct controls/gov’t regulations or specific taxes look on an S & D graph? Shift supply to left to adjust for over allocation

Why would government provide a public good? What would this look like on an S&D graph? Because the good has huge positive externalities; new demand curve to right to correct for under allocation

What is the optimal reduction of an externality? When the MC of reducing it is equal to the MB of reducing it, can be difficult to determine

How easy is it for the government to effectively correct market failures and provide public goods? Often very difficult, especially as politics complicates the process

What is the law of diminishing marginal utility? Consumer satisfaction declines with each additional unit consumed

What is utility? What unit is used to measure it? The amount of satisfaction a consumer derives from a good or service; utils are used to measure utility

What is used to measure the overall satisfaction derived from a good? The satisfaction from consuming the next unit? Total utility; Marginal utility

How does the budget constraint relate to utility? Helps determine the utility maximizing combination

If we say the consumer should allocate income so that the last dollar spent on each product yields the same MU, we are citing the ___. Utility maximizing rule

What formula best expresses the goal of the utility maximizing rule? MU of Product A / Price of A = MU of Product B / Price of B

What is the endowment effect? How does it impact trade? Describes how people place more value on things they already possess, causes people to demand higher prices for their items in trade

What does prospect theory deal with? The ways people deal with (and adjust to) goods and bads

Why do companies often shrink package size instead of increasing prices? Because consumers see an increasing price as a greater loss (according to Prospect theory)

What are framing affects, and how do they affect utility? Consumers respond more positively to positive statements rather than negative ones (85% lean vs. 15% fat), positive framing generates a sense of more utility

What does an indifference curve demonstrate? All of the different combinations of two goods that maximize utility

What does the slope of the indifference curve measure? marginal rates of substitution (MRS), or rate at which one good will be substituted for the other

What does the total product curve demonstrate? The total amount of output given changing amounts of one particular variable input

What does the marginal output formula calculate? The change in output from a change in variable input – helps us understand the impact of a change in input, e.g. MPL = ΔQ / ΔL

What are some examples of fixed inputs? Variable inputs? Land, buildings, machinery Labor, raw materials, advertising

What is the difference between explicit and implicit costs? Explicit: what the firm pays (in $$$) for the resources it needs) Implicit: Opportunity costs of what the firm forgoes by using resources to produce instead of selling for cash

What is the difference between accounting profit vs. economic profit? Accounting profit is strictly explicit (TR-Explicit Costs) Economic profit also accounts for implicit costs (TR-Explicit-Implicit)

In microeconomics, what is the chief difference between production in short run vs. long run? Short run: fixed plant capacity (only changes in variable inputs) Long run: variable plant capacity (+ entry/exit)

What are costs that do not change with variations in output? fixed costs (insurance, rent, interest on debt, etc.

What are variable costs? What are some examples? Costs that change with variations in production; labor, utilities, raw materials, etc.

What is the law of diminishing marginal returns? As a variable input is added, the total resulting product will increase by diminishing amounts, and eventually decline (example on next)

The Law of Diminishing Returns LO2 TP MP AP Increasing Marginal Returns Diminishing Marginal Returns Negative Marginal Returns Total Product, TP Marginal Product, MP 7-42

What is total cost (TC)? Average total cost (ATC)? The sum of fixed and variable costs at each level of output TC=TFC+TVC ATC is the TC divided by a particular level of output or TC/Q

Short-Run Production Costs LO3 Costs Q $1100 TFC TC TVC Total Cost Variable Cost Fixed Cost 7-44

What are economies of scale? They explain increasing efficiency (to a point) of mass production. This happens through specialization of labor and mgmt., and the more efficient use of capital

When do diseconomies of scale happen? When it becomes too difficult to efficiently manage large scale production

MES and Industry Structure LO4 Output Average Total Costs Long-run ATC Economies Of Scale Constant Returns To Scale Diseconomies Of Scale q1q1 q2q2 7-47

average variable cost (AVC) marginal cost (MC) building long run cost curve