1. AP MICRO REVIEW FINAL EXAM

2.  Ed = Ed = Or equivalently… PRICE ELASTICITY OF DEMAND
The Price-Elasticity Coefficient and Formula
Ed =
Percentage change in quantity
demanded of product X
Percentage change in price
of product X
Or equivalently…
Ed =
change in quantity demanded of X
Original quantity demanded of X
Change in price of X 
Original price of X

3. Extreme Cases PRICE ELASTICITY OF DEMAND Perfectly Inelastic Demand
Ed = 0 Q
Perfectly Elastic Demand P D2
Ed =  Q

4. P D Q PRICE ELASTICITY & TOTAL REVENUE When prices are low,
So is total revenue P TR D Q
Quantity Demanded

5. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point... P TR D Q
Quantity Demanded

6. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point...
then declines P TR D Q
Quantity Demanded

7. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point...
then declines P TR D Q
Quantity Demanded

8. Total Revenue Test P D Q PRICE ELASTICITY & TOTAL REVENUE
Total revenue rises
with price to a
point...
then declines P TR D Q
Quantity Demanded

9. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point...
then declines P TR
Inelastic
Demand D
Inelastic
Demand Q
Quantity Demanded

10. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point...
then declines P TR
Elastic
Demand
Inelastic
Demand D
Elastic
Demand
Inelastic
Demand Q
Quantity Demanded

11. P D Q PRICE ELASTICITY & TOTAL REVENUE Total revenue rises
with price to a
point...
then declines P TR
Elastic
Demand
Unit
Elastic
Inelastic
Demand D
Elastic
Demand
Inelastic
Demand Q
Quantity Demanded

12. ECONOMIC COSTS Profits to an Economist Profits to an AccountantL R E V N U
Economic
Profit
Accounting
Profit
Implicit costs
(including a
normal profit)
Economic (opportunity) Costs
Explicit
Costs
Accounting
costs (explicit
costs only)

13. Law of Diminishing Returns
SHORT-RUN PRODUCTION
RELATIONSHIPS
Law of Diminishing Returns
Total Product
Total Product, TP
Increasing
Marginal
Returns
Quantity of Labor
Average Product, AP, and
Marginal Product, MP
Average
Product
Marginal
Product
Quantity of Labor

14. Law of Diminishing Returns
SHORT-RUN PRODUCTION
RELATIONSHIPS
Law of Diminishing Returns
Total Product
Total Product, TP
Diminishing
Marginal
Returns
Quantity of Labor
Average Product, AP, and
Marginal Product, MP
Average
Product
Marginal
Product
Quantity of Labor

15. Law of Diminishing Returns
SHORT-RUN PRODUCTION
RELATIONSHIPS
Law of Diminishing Returns
Total Product
Total Product, TP
Negative
Marginal
Returns
Quantity of Labor
Average Product, AP, and
Marginal Product, MP
Average
Product
Marginal
Product
Quantity of Labor

16. Algebraic Restatement of the Utility Maximization Rule
UTILITY MAXIMIZING COMBINATION
Algebraic Restatement of the
Utility Maximization Rule
MU of product A
Price of A
MU of product B
Price of B =
8 Utils $1
16 Utils $2 =

17. PRODUCTIVITY AND COST CURVES
Costs (dollars)
Average product and
marginal product AP MP
Quantity of labor
Quantity of output MC
AVC

18. LONG-RUN PRODUCTION COSTS
Unit Costs
Output

19. LONG-RUN PRODUCTION COSTS
Unit Costs
Output

20. LONG-RUN PRODUCTION COSTS
The long-run ATC just “envelopes”
all of the short-run ATC curves.
Unit Costs
Output

21. LONG-RUN PRODUCTION COSTS
Unit Costs
long-run ATC
Output

22. Managerial Specialization Efficient Capital Other Factors
ECONOMIES AND
DISECONOMIES OF SCALE
Labor Specialization
Managerial Specialization
Efficient Capital
Other Factors
Diseconomies of Scale
Constant Returns to Scale
graphically presented...

23. ECONOMIES AND DISECONOMIES OF SCALE
Unit Costs
long-run ATC
Output

24. long-run ATC Unit Costs Output Economies Constant returns of scale
ATC decreases as
Output increases
ATC is constant as
Output increases
Economies
of scale
Constant returns
to scale
Unit Costs
long-run ATC
Output

25. long-run ATC Unit Costs Output Economies of scale Constant returns
ATC decreases as
Output increases
ATC is constant as
Output increases
ATC increases as
Output increases
Economies
of scale
Constant returns
to scale
Diseconomies
of scale
Unit Costs
long-run ATC
Output

26. Profit Maximization Position
MARGINAL REVENUE-MARGINAL COST APPROACH
Profit Maximization Position
$200
150
100 50
Economic Profit MC
$131.00 MR
ATC
Cost and Revenue
AVC
$97.78

27. MR = MC Optimum Solution
MARGINAL REVENUE-MARGINAL COST APPROACH
Profit Maximization Position
$200
150
100 50
Economic Profit MC
MR = MC
Optimum
Solution
$131.00 MR
ATC
Cost and Revenue
AVC
$97.78

28. Short-Run Shut Down Point
MARGINAL REVENUE-MARGINAL COST APPROACH
Short-Run Shut Down Point
$200
150
100 50 MC
ATC
Cost and Revenue
AVC MR
$71.00
Minimum AVC
is the Shut-Down
Point

29. The Competitive Firm “Takes” its Price from the Industry Equilibrium
SHORT-RUN COMPETITIVE EQUILIBRIUM
The Competitive Firm “Takes” its
Price from the Industry Equilibrium
S= MCs P P
Economic
Profit
ATC
S=MC D
$111
$111
AVC D 8 Q Q
8000
Firm
(price taker)
Industry

30. How about the long-run? The Competitive Firm “Takes” its
SHORT-RUN COMPETITIVE EQUILIBRIUM
The Competitive Firm “Takes” its
Price from the Industry Equilibrium
S= MCs
How about the
long-run? P P
Economic
Profit
ATC
S=MC D
$111
$111
AVC D 8 Q Q
8000
Firm
(price taker)
Industry

31. Firm Industry Temporary profits and the reestablishment
PROFIT MAXIMIZATION IN THE LONG RUN
Temporary profits and the reestablishment
of long-run equilibrium S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 MC
ATC MR D1

32. Firm Industry An increase in demand increases profits… Economic
PROFIT MAXIMIZATION IN THE LONG RUN
An increase in demand increases profits…
Economic
Profits S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 MC
ATC MR D2 D1

33. Firm Industry New competitors increase supply, and lower
PROFIT MAXIMIZATION IN THE LONG RUN
New competitors increase supply, and lower
prices decrease economic profits.
Zero Economic
Profits S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 S2 MC
ATC MR D2 D1

34. Firm Industry Decreases in demand, losses, and the
PROFIT MAXIMIZATION IN THE LONG RUN
Decreases in demand, losses, and the
reestablishment of long-run equilibrium S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 MC
ATC MR D1

35. Firm Industry A decrease in demand creates losses… Economic Losses P Q
PROFIT MAXIMIZATION IN THE LONG RUN
A decrease in demand creates losses…
Economic
Losses S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 MC
ATC MR D1 D2

36. Firm Industry Competitors with losses decrease supply, and
PROFIT MAXIMIZATION IN THE LONG RUN
Competitors with losses decrease supply, and
prices return to zero economic profits. S3
Return to Zero
Economic Profits S1 P Q
100
100,000
Industry
Firm
(price taker)
$60 50 40 MC
ATC MR D1 D2

37. Loss Minimization Position
MARGINAL REVENUE-MARGINAL COST APPROACH
Loss Minimization Position
$200
150
100 50
Economic Loss MC
ATC
Cost and Revenue
AVC
$91.67 MR
$81.00

38. MONOPOLY REVENUES & COSTS
Elastic
$200
150
200 50
Dollars MR D Q
$750
500
250
Dollars TR Q

39. MONOPOLY REVENUES & COSTS
Elastic
Inelastic
$200
150
200 50
Inelastic Portion
MR is Negative
Dollars
A Monopolist will always operate on the Elastic Portion of the Demand Curve MR D Q
$750
500
250
Dollars TR Q

40. Remember the MR=MC Rule?
OUTPUT AND PRICE DETERMINATION
Profit Maximization Under Monopoly
Remember the MR=MC Rule? Q
200
175
150
125
100 75 50 25
Price, costs, and revenue
Profit
Per Unit MC
$122
Profit
ATC
$94 D
MR = MC MR

41. What About Loss Minimization? Profit
OUTPUT AND PRICE DETERMINATION
Profit Maximization Under Monopoly
What About
Loss Minimization? Q
200
175
150
125
100 75 50 25
Price, costs, and revenue
Profit
Per Unit MC
$122
Profit
ATC
$94 D
MR = MC MR

42. Loss Minimization Under Monopoly
OUTPUT AND PRICE DETERMINATION
Loss Minimization Under Monopoly Q
200
175
150
125
100 75 50 25
Price, costs, and revenue
Since Pm exceeds AVC,
the firm will produce
Loss
Per Unit MC
ATC A
Loss
AVC Pm V D
MR = MC MR Qm

43. What are the Economic Effects of Monopoly?
OUTPUT AND PRICE DETERMINATION
Loss Minimization Under Monopoly Q
200
175
150
125
100 75 50 25
Price, costs, and revenue
Loss
Per Unit
What are the
Economic Effects
of Monopoly? MC
ATC A
Loss
AVC Pm V D
MR = MC MR Qm

44. INEFFICIENCY OF PURE MONOPOLY
An industry in pure competition
sells where supply and
demand are equal P
S = MC
At MR=MC
A monopolist
will sell less
units at a
higher price
than in
competition Pm Pc D MR Q Qm Qc

45. Monopoly pricing effectively creates an income transfer from
INEFFICIENCY OF PURE MONOPOLY P
S = MC
At MR=MC
A monopolist
will sell less
units at a
higher price
than in
competition Pm Pc
Monopoly pricing effectively
creates an income transfer from
buyers to the seller! D MR Q Qm Qc

46. REGULATED MONOPOLY Dilemma of Regulation Which Price? P MR = MC
Fair-Return Price Pm
Socially-Optimum
Price
Price and Costs
ATC Pf MC Pr D MR Q Qm Qf Qr

47. MONOPOLISTIC COMPETITION
AND EFFICIENCY MC
Long-Run Equilibrium
Price is Not
= Minimum
ATC
ATC P3
= A3
Price  MC
Price and Costs D MR Q3
Quantity

48. MONOPOLISTIC COMPETITION
AND EFFICIENCY
Not Productively Efficient
 Minimum ATC
Not Allocatively Efficient
Price  MC
Excess Capacity
Graphically…

49. OLIGOPOLY BEHAVIOR B A D C A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
$12
$15 $6 $8
High
Low
Uptown’s Price Strategy

50. OLIGOPOLY BEHAVIOR B A D C A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
$12
$15 $6 $8
Greatest
Combined
Profit
High
Low
Uptown’s Price Strategy

51. OLIGOPOLY BEHAVIOR A B C D A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
$12
$15 $6 $8
Independent
Actions
Stimulate
Response
High
Low
Uptown’s Price Strategy

52. OLIGOPOLY BEHAVIOR A B C D A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
$12
$15 $6 $8
Independent
Actions
Stimulate
Response
High
Low
Uptown’s Price Strategy
Gravitating
to the
Worst Case

53. OLIGOPOLY BEHAVIOR B A D C A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
Collusion
Invites a
Different
Solution.
$12
$15 $6 $8
High
Low
Uptown’s Price Strategy

54. OLIGOPOLY BEHAVIOR B A D C A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
Collusion
Invites a
Different
Solution.
$12
$15 $6 $8
High
Low
Uptown’s Price Strategy

55. OLIGOPOLY BEHAVIOR A B C D A Game-Theory Overview $12 $15 $6 $8
RareAir’s Price Strategy
High
Low B A D C
Collusion
Invites a
Different
Solution.
$12
$15 $6 $8
High
Low
But, the
incentive
to cheat
is very real.
Uptown’s Price Strategy

56. PURELY COMPETITIVE LABOR
MARKET EQUILIBRIUM S
Quantity of Labor
Wage Rate (dollars)
Includes
Normal
Profit
Non-
Labor
Costs
S = MRC Wc
$10
$10
$10
$10
$10
$10 Wc
($10)
Labor
Costs
D = MRP
( mrp’s)
d = mrp
(1000)
(5)
Labor Market
Individual Firm

57. PURELY COMPETITIVE LABOR
MARKET EQUILIBRIUM
Marginal Resource
Cost (MRC) will be
constant and equal to
resource price
(the wage rate) S
Quantity of Labor
Wage Rate (dollars)
Includes
Normal
Profit
Non-
Labor
Costs
S = MRC Wc
$10
$10
$10
$10
$10
$10 Wc
($10)
Labor
Costs
D = MRP
( mrp’s)
d = mrp
(1000)
(5)
Labor Market
Individual Firm

58. MONOPSONISTIC LABOR MARKET
In monopsony
MRC lies above
the supply curve.
Wage Rate (dollars)
Quantity of Labor

59. MONOPSONISTIC LABOR MARKET
MRC S
MRP = MRC
Wage Rate (dollars) Wm
MRP
Qm units of
labor hired Qm
Quantity of Labor

60. MONOPSONISTIC LABOR MARKET
MRC S
The competitive
solution would
result in a higher
wage and greater
employment.
Wage Rate (dollars) Wc Wm
MRP Qm Qc
Quantity of Labor

61. OPTIMAL AMOUNT OF A PUBLIC GOOD
$ 9 7 5 3 1 S
Yields the
optimum amount
of the public good
MB = MC DC Q

62. THE LORENZ CURVE Lorenz Curve (actual distribution) Perfect Equality
100 80 60 40 20
Lorenz Curve
(actual distribution)
Perfect Equality
Percent of Income
Lorenz curve
after taxes and
transfers
Area between
the lines shows
the degree of
income inequality
Complete
Inequality
Percent of Families