Scientific Method Evaluation Quiz

ACF 265: Microeconomics For Business

• Course title: Microeconomics For Business
• Course code: ACF 265
• Department: Accounting and Finance
• University: Kwame Nkrumah University of Science & Technology, Kumasi, Ghana
• Lecturers: Dr. Daniel Domeher / Dr. Godfred Aawaar

Basic Concepts

• Economics is the study of how society manages its scarce resources.
• Resources are limited in supply.
• Resources have alternative uses.
• Economics considers how society manages its scarce resources which have alternative uses to meet its unlimited desires.
• Choices must be made about how best to use scarce resources given unlimited desires.
• Choices usually involve trade-offs.
• Firms must consider multiple stakeholders' needs.
• The decisions of millions of households and firms are what govern the allocation of resources.

Learning Objectives

• Illustrate scarcity in the decision-making of economic units
• Explain how rational consumers make economic choices
• Analyze trade-offs for consumers, firms, and governments
• Explain the difference between scarcity and poverty
• Discuss how incentives affect people's behavior
• Discuss why markets are a good but not perfect way to allocate resources
• Use production possibilities frontier to explain scarcity and opportunity cost

Introduction

• "Economy" derives from the Greek word oikonomos, meaning "one who manages a household."
• Businesses must allocate scarce resources among competing uses.
• Economics is the science of decision-making.

Resources

• Things used to produce goods and services that satisfy human wants.
• Limited supply (scarce)
• Natural resources (rain, crude oil, minerals), human resources (labour), man-made resources (machinery, equipment), Entrepreneurship.

Scarcity

• Scarcity is the limited nature of society's resources.
• Society has limited resources, and therefore, cannot produce all the things people want.
• Economists study how people make decisions and interact with one another.

Decision Making Involves Trade-Offs

• There is no such thing as a free lunch.
• To get something desirable, something else must be given up.
• Making decisions involves trading off one goal or benefit against another.

The Cost of Something Is What You Give Up to Get It - Opportunity Cost

• Opportunity cost of an item is what you give up to get it.
• Alternative courses of action, comparing costs and benefits.
• Decisions involve costs that might not be immediately obvious.

Rational People and Businesses Think at the Margin

• Economists use marginal changes in decision-making.
• Rational decision-makers take an action only if the marginal benefit of the action exceeds the marginal cost.
• Businesses rationalize decisions on a daily basis.

People and Businesses Respond to Incentives

• People make choices by comparing costs and benefits.
• Policies change costs and benefits, which alters behavior.
• Policies have direct and indirect effects, including through incentives.

Markets Are Usually a Good Way to Organize Economic Activity

• A market economy is decentralized by actions of households and firms.
• Decisions of a central planner are replaced by decisions of millions of firms and households.
• Prices and self-interest guide decisions in the marketplace.

Governments Can Sometimes Improve Market Outcomes

• Governments often intervene to protect markets, enforce property rights, and promote equity and efficiency.
• Economists refer to a situation where the market doesn't create an efficient allocation of resources as market failure.

The Productions Possibilities Frontier

• Represents possible combinations of two outputs given fixed resources & technology over a specified time period, usually a year.
• Resources are fixed (e.g., inputs, labor) within the period.
• Resources are used efficiently (no idle resources).

The Law of Increasing Opportunity Cost

• The production possibility frontier reflects increasing opportunity costs.
• When producing one good, the opportunity cost of producing more of the other good increases.
• The shape is concave (bowed outward).

Why the PPF is Bowed Outwards

• Resources are not equally suited for the production of every good.
• Economic resources are easily adaptable to alternative uses.

Discussion Questions

• Circumstances under which production possibility frontier may shift or pivot.
• Scarcity and poverty definition
• The scientific/social nature of economics
• Free goods vs economic goods, and examples.
• Principles of microeconomics and macroeconomics.
• Positive and normative economics.
• Concepts of hypothesis, theory and law.
• Approaches to studying economics (deductive, inductive)
• Classification of economic activities.

Microeconomics For Business - Lecture 3

• Competitive market definition
• Factors affecting supply and demand for a good
• Movement along and shift of a supply or demand curve
• Price and quantity determination determined by supply and demand.

The Market Forces of Demand and Supply

• The buyer (demander) and seller parties of a market.
• Demand and supply are the market forces that guide the economic decisions of producers and consumers.

Price vs. Cost

• Price - Amount of money a buyer gives up to acquire a good or service.
• Cost - Payment made to the factor inputs in production.

Markets and Competition

• Market - A medium where sellers and buyers of a good interact.
• Determining factors are prices and quantities.
• Markets may or may not have physical locations.

Competitive Markets

• Competition exists between two or more firms.
• Each firm strives to attract buyers.
• A competitive market is a market with many buyers and sellers. Each has an insignificant impact on the market price.

Competition: Perfect and Otherwise

• Perfect competition - The goods are homogenous and buyers have no preference or preference between sellers.
• A monopoly - Only one seller sets the price.
• Oligopoly - A few sellers exist, and competition is not always aggressive.
• Imperfect competition - Multiple sellers, with slightly differentiated goods and some ability to set prices.

Demand

• Amount of a good consumers are willing and able to buy at a given price during a period of time, ceteris paribus.
• Demand incorporates ability to pay.

The Demand Curve

• Relationship between price and the quantity demanded.
• Quantity demanded decreases as price rises, and increases as price falls.

Demand cont'd

• Law of demand - Other things being equal, when price rises, quantity demanded falls, and when price falls, quantity demanded rises.
• Ceteris Paribus - Other things must remain equal.
• Factors that affect demand – quantity demanded and price must remain constant for relationship to hold.

Demand cont'd

• Demand Schedule – A table showing relationship between price and quantity demanded.
• Demand Curve – A graph depicting the relation between price and quantity demanded.

Market Demand Versus Individual Demand

• Market demand - The sum of all individual demands at each price.

Shifts versus Movements Along the Demand Curve

• Shift in demand curve - Change in a factor other than the price of the commodity.
• Increase or decrease in demand.
• Movement along the demand curve - Change in price.
• Change in quantity demanded.

Variables that Can Shift the Demand Curve

• Income - Normal goods and inferior goods.
• Prices of related goods - Substitutes and complements.
• Consumer tastes and expectations
• Size and structure of the population.

Supply

• Quantity supplied - Amount of a good that sellers are willing and able to sell at a given price during a period of time, ceteris paribus.

Market Supply vs. Individual Supply

• Supply schedule - A table showing relationship between price and the quantity supplied.
• Holding other factors constant.

Shifts versus Movements Along the Supply Curve

• Shift in supply - Change in a factor other than the product's price.
• Increase or decrease in supply.

Variables that Can Shift the Supply Curve

• Input prices.
• Technology.
• Expectations.

Equilibrium Analysis

• Equilibrium - State of rest where no force is acting for change in the market.
• Demand and supply are equal at equilibrium.

Markets Not in Equilibrium: Surplus

• Market price is above equilibrium price.
• Quantity supplied exceeds quantity demanded.
• Surplus - Suppliers cannot sell all they produce at the current price.
• Excess supply.
• Market responds by lowering prices.
• Prices fall until the market reaches equilibrium.

Markets Not in Equilibrium: Shortage

• Market price is below equilibrium price.
• Quantity demanded exceeds quantity supplied.
• Shortage - Demanders cannot buy all they want at the current price.
• Excess demand.
• Market responds by raising prices.
• Prices rise until the market reaches equilibrium.

Equilibrium

• Equilibrium price and quantity - The price and quantity where the demand and supply curves intersect.
• Market-clearing price - Equilibrium price ensures all buyers and sellers are satisfied because there are neither shortages nor surpluses.

Equilibrium cont'd

• Market activities automatically move prices towards equilibrium.
• Time to get to equilibrium varies between markets.
• Surpluses and shortages are usually temporary in most free markets with sufficient information.

Finding Market Equilibrium Using Equations

• Set the demand and supply equations equal to one another.
• Solve for price (P) and quantity (Q).

How an Increase in Demand Affects the Equilibrium

• Event raises quantity demanded at a given price, shifts the demand curve to the right.
• Equilibrium price and quantity rise, creating a new equilibrium.

How a Decrease in Supply Affects the Equilibrium

• Event reduces supply at a given price, shifts the supply curve to the left.
• Equilibrium price rises while equilibrium quantity falls.

A Shift in Both Supply and Demand

• Simultaneous increase in demand and decrease in supply yield different potential results.
  • Example 1 potential outcome is large increase in demand and small decrease in supply. This will lead to higher price and higher quantity than the original equilibrium point.
  • Example 2 potential outcome is small increase in demand and large decrease in supply. This leads to higher price and lower quantity than the original equilibrium point.

Measurement of Elasticities: Price, Income, Cross Elasticity

• Elasticity - Responsiveness of one variable to change of another.

Price Elasticity of Demand

• PED Measures the relative response in demand to price changes.
• Relationship – Inelastic (0-1), Elastic (>1), Unitary Elastic (1).

PED and Total Revenue

• Elasticity affects total revenue (TR).
• Inelastic demand, TR falls as price falls.
• Elastic demand, TR increases as price falls.

Determinants of Price Elasticity of Demand

• Degree of necessity.
• Availability and closeness of substitutes.
• Proportion of income spent.
• Habit formation.
• Durability.
• Number of uses.

Uses of Price Elasticity of Demand

• Pricing strategies, taxation, successful price support policies, and currency devaluation.

Income Elasticity of Demand

• Income elasticity (e) measures responsiveness of demand to changes in incomes.
  • Income-elastic demand if e > 1; income-inelastic demand if e < 1; negatively income elastic if e < 0.
• Normal and inferior goods relate to income.

Uses of Income Elasticity of Demand

• Guides producers on which goods to produce in response to changing incomes.
• Guides governmental policies on taxation.

Cross Elasticity of Demand

• Cross elasticity (e) measures responsiveness of demand of one good to changes in price of related good.
  • Substitutes if e > 0; Complements if e < 0; Not related if e = 0.

Price Elasticity of Supply

• PES Measures how much quantity supplied is affected by price changes.
  • Inelastic if e < 1; Elastic if e > 1; Unitary Elastic if e = 1.

Determinants of Elasticity of Supply

• Inputs' availability and characteristics (durability)
• Factor mobility (ability to shift resources)
• Spare capacity (unused production capacity)
• Stage of the production process.
• Timeframe (short-run/long-run)

Uses of Price Elasticity of Supply

• Influences pricing, government subsides, labor wage policies, currency devaluation.

Costs of Production

• Learning objectives - Compare economic and accounting profit, analyze firm's costs, link production to costs, and examine short/long-run costs.
• Introduction - The economy comprises firms producing goods and services, and firms' decisions depend on prevailing market conditions. Firms incur production costs, influencing their production and pricing decisions.

Total Revenue, Total Cost and Profit

• Total Revenue (TR) - Price of good multiplied by quantity sold.
• Total Cost (TC) - Market value of inputs used in production.
• Profit (π) - TR minus TC.

Costs as Opportunity Costs

• The cost of something is what you forfeit to acquire it.
• Opportunity cost incorporates all forgone options.
• Production costs encompass opportunity costs of inputs.

Costs as Explicit and Implicit Costs

• Explicit costs - Out-of-pocket payments made by the firm.
• Implicit costs - Forgone earnings or opportunities.
• Accounting vs economic profit - Economists consider all costs, accountants only explicit costs.

The Cost of Capital as an Opportunity Cost

• Financial capital's opportunity cost is an important implicit cost.
• Example of a business using savings for equipment instead of investing in a savings account at a specific return rate (e.g., bank interest).

Economic Profit versus Accounting Profit

• Economic profit is total revenue minus all costs (explicit and implicit).
• Accounting profit is total revenue minus explicit costs.
• Firms' decisions involve both explicit and implicit costs for economists.

The Various Measures of Cost

• Cost curves show how costs change with the level of production. -Fixed costs (FC) do not change with output. (e.g., rent) -Variable costs (VC) change with output. (e.g., wages, materials) -Total cost (TC) is FC + VC. -Average fixed cost (AFC) = FC/quantity. -Average variable cost (AVC) = VC/quantity. -Average total cost (ATC) = TC/quantity = AFC + AVC. -Marginal cost (MC) – change in TC from producing one more unit of output.

The Shapes of the Cost Curves

• Marginal cost (MC) rises due to diminishing marginal product.
• U-shaped average total cost (ATC), average variable cost (AVC) reflecting diminishing marginal product and the spreading of fixed costs.
• Relationship: MC intersects ATC at the minimum of ATC.

Relationship between Short-Run and Long-Run Average Total Cost

• Short run: Some costs are fixed, others can be adjusted.
• Long run: All costs are variable.
• Long-run ATC curve is flatter than short-run curves, and short-run curves are generally above the long-run ATC curve.

Economies and Diseconomies of Scale

• Economies of scale - Long-run ATC declines as output increases, due to specialization, technology, and managerial efficiency.
• Diseconomies of scale - Long-run ATC rises as output increases, due to bureaucratic problems, communication challenges, and managerial inefficiency.
• Constant returns to scale - Long-run ATC is unaffected by changes in output.

The Firm's Short-Run Decision to Shut Down

• Shutdown - A short-run decision to not produce anything during a particular period due to market conditions (e.g., low prices).
• Fixed costs are unavoidable during a shutdown period.
• A firm shuts down if total revenue (TR) is less than variable costs (VC). Mathematically, P < AVC.

The Firm's Long-Run Decision to Exit or Enter a Market

• Exit - A long-run decision to leave the market.
• A firm exits if the total revenue (TR) is less than total cost (TC). Mathematically, P < ATC.

Theory of Production

• Theory of the firm - Basic concepts (diminishing returns, production with one/multiple variable inputs, stages of production, isoquants, MRTS, isocosts, production/producer equilibrium).
• Production function - Relationship between inputs and output quantities.
• Constant, increasing and decreasing returns to scale.

Basic Concepts

• Firm - Organization that brings production factors together to create output.
• Input - Factor used in production (e.g., labor, capital).
• Short run - Period with at least one fixed factor.
• Long run - Period with all factors variable.
• Production function - A mathematical or graphical representation of the relationship between output and input(s).

Law of Diminishing Returns

• As more of one input (e.g., labor) is used with fixed inputs (e.g., land), eventually the additional output (marginal product) decreases.

Diminishing Marginal Product

• Table and graph showing total product, average product, and marginal product for various levels of variable input.

Production with One Variable Input

• Total product (TP) - Total output from a given set of inputs.
• Average product (AP) - Output per unit of a variable input.
• Marginal product (MP) - Additional output from one more unit of the variable input.
  • Production function can be represented in table, graph.

The Production Function

• Graphical representation of the relationship between inputs and output quantities.

Total Product

• Total output from a set of inputs within a time period.
  • Initially rises, then reaches maximum and then declines if there are other fixed factors.

Average product

• Output per unit of variable input (e.g., output per worker).
• It rises at first and then falls.

Marginal Product

• The increase in output associated with using one more unit of a variable input.
• Initially rises and then falls.

A Short-run Production Function

• Table illustrating how output responds to increases in a variable input.

Shape of the Average Product Curve

• N-shaped curve starts at zero, rises to a maximum, and then declines.

Shape of the Marginal Product Curve

• N-shaped curve rises to maximum and then declines, crossing the AP curve at its maximum point.

Relationship between the Per Unit Curves

• MP is above AP when AP is increasing
• MP and AP intersects at AP's maximum.
• MP is below AP when AP is decreasing.

Stages of Production

• Stage I: Increasing returns as more variable inputs are added to fixed inputs
• Stage II: Diminishing returns as more variable inputs are added to fixed inputs.
• Stage III: Negative returns as even more variable inputs are added.

Production Decisions

• Rational producers produce in stage II, as MP of variable input is positive and output rises.

Production with Two Variable Inputs: Isoquants

• Isoquant - Curve showing all possible combinations of two variable inputs that produce the same level of output.
• A higher isoquant corresponds to a higher level of output.

Isocosts

• Isocost - Curve showing all possible combinations of two inputs that cost the same amount.

Expansion Path

• Expansion path - Curve tracing the optimal input combinations as the firm expands output (tangency of isoquants and isocosts).

Producer Equilibrium

• The point where the firm achieves the highest level of output for its given costs, where an isocost line is tangent to an isoquant.

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