IB Economics Notes PDF

Demand Market: A platform where buyers and sellers come together to carry out economic transactions. Demand: the amount of a good a consumer or group of consumers are willingly...

Demand Market: A platform where buyers and sellers come together to carry out economic transactions. Demand: the amount of a good a consumer or group of consumers are willingly and able to buy. As prices increase, demand for a certain good decrease (and vice versa) Ceteris paribus (assuming everything else remains the same). Negative relation is due to : The income effect: when the price of a good falls, then people will experience an increase in their ‘ real income’, which reflects the amount that their incomes will buy. Thus they will buy more. Substitution effect: when the price of a product falls, then the product will be relatively more attractive to people than other goods, as it is cheaper in comparison. Diminishing marginal returns: If read using the quantity values, we can see that as the quantity demanded increases, the price that consumers are willing to pay/ unit of good diminishes. This is due to how utility decreases for every subsequent good consumed. Total market demand can be found through addition of total demand of all goods within the market Change in demand vs Change in quantity demanded When there is a change in price, there will be a change in demand, as we move along the curve. However, if there are change in other factors, the demand curve will shift. ○ Income: when the price of a product falls, then people will have an increase in real income. This will mean that if a good is normal, the demand for the good will also rise. ○ Substitutes: If products are interchangeable with one another, then a change in the price of one will lead to a change in the demand for the other product. ○ Complements: Products that are consumed together.Demand is linked between complements. ○ Taste and preferences , population size and change in income distribution all affect demand. Supply The quantity of a good or service that producers are willing to offer for sale at a given price during a specific time period, ceteris paribus. As price increases, more of a certain good is supplied by a firm. This is because firms exist to maximise profit and are thus more willing to give a certain good at a higher cost. LIke demand, to find the market supply of a good, one needs to add up all the individual supply for different supplies of a good.  Increase/decrease in price can cause a movement across the supply curve, while a non-price factor will cause all supply to shift. These non-price factors include: ○ Cost of production: If the cost of maintaining the factors of production increases, some firms may no longer be willing or able to provide as much of a certain good at a certain cost as they gain less of a profit, thus shifting the supply curve to the left. (Capital, enterprise, land, labour) ○ Productivity: If firms are able to use fewer resources in the production process, it will spend less on production. For example, effective management, or utilizing machinery/better technology. ○ Expectations: Companies will make decisions about what to supply based on their expectations of future prices. If a product is perishable, then a company might wait until demand is high before producing Taxes + subsidies: Businesses see taxes as increase in cost of production and subsidies as a decrease in cost of production, and as such, this will affect the amount of a good a firm will be able to produce. Price of related goods: If producers have a choice regarding what to produce, they will usually use their limited resources to produce more of a good in demand than a good that is not wanted. Equilibrium The point where demand=supply. Where the amount of a good that people wish to buy and the amount of a good that suppliers wish to supply are the same. The market will remain that way until there is an outside disturbance which will change it. Self Righting system: When a market acts freely, the price acts as a signal to all market actors, and will always push the price back to the equilibrium. (the equilibrium is found to be the intersection of D and S) Opportunity cost: the next best cost foregone. Scarcity forces individuals to make a decision about ‘ what to produce’ , and choices feature an ‘opportunity cost’ of foregone alternatives that could have been pursued. The key to the market’s ability to allocate resources can be found in the role of prices as signals and prices as incentives. Price rise 1. As demand increases, there is an upward pressure on price. This is due to how some individuals aren’t able to buy the good they want, and are willing to offer more. 2. The increase in price signals to everyone that a shortage has emerged. 3. Price therefore rises as producers are incentivized to produce more as they earn greater profits. At the same time this causes consumers to ration their income. 4. More resources are ultimately distributed to the creation of these goods. Price fall 1. As demand decreased, there is a downward pressure on price. This is due to how supplies are unwilling to incur an extra cost. 2. The drop in price acts as a signal to everyone that a surplus has occurred. 3. Firms will therefore ration their resources as they are incurring excess costs. Lower costs will incentivize consumers to spend more. 4. Less resources are ultimately distributed to the creation of these goods. Market efficiency Consumer surplus: the benefit gained by consumers from paying a price that is lower that which they are prepared to pay Currently, good A is being sold at the market price. However, there are some consumers who are willing to pay more for good A. As such, these consumers gain extra satisfaction from paying for a price that is lower than what they are willing to pay. It is the difference between what the consumers are willing to pay , and what they actually have to pay. Producer surplus: The benefit gained by the producer from selling a good that is higher than which they are prepared to supply it at. Currently, good A is being sold at the market price. However, there are some suppliers who are willing to provide the good at a lower cost than the market price. They gain in the fact that they have made a gain in terms of what they would have accepted for them in the first place. Essentially, it is the difference between what a supplier is willing to provide a good at , and what they actually have to provide Allocative efficiency: When resources are optimally allocated, and when utility /community surplus is maximised. The market is producing the amount wanted by society, and maximising utility to all parties. Total utility/Community surplus: Consumer surplus + Producer surplus If we look at the demand/supply curve, and look at it from the point of view of the quantity, we are able to see that as the quantity of a good increases, the marginal price consumers are willing to pay for one unit decreases. Thus, it can be said that the demand line represents the marginal benefit line, which demonstrates how the more consumers buy a good, the less utility they get out of it per unit of good. In addition, we are able to see that when the overall quantity of a good supplied increases, the marginal cost suppliers are willing/able to supply for one unit of a good increases as well. Thus, the supply curve represents the marginal cost. If we move right of the equilibrium point, we find that the marginal social cost of producing certain goods exceeds the benefits derived from it, and as such, it is inefficient to produce quantities of that amount, as the utility of producing falls as it increases, incurring a deadweight loss. If we move left of the equilibrium point, we find that the marginal social benefit exceeds the marginal social cost of producing. However, we must take into account the total utility gained from selling this certain product. If we produce at a quantity to the left of Qe, it will result in a loss of potential utility, creating a deadweight loss. The total utility gained is at it’s greatest when it’s at the equilibrium point. Deadweight loss: the loss of potential utility/welfare. Price elasticity of demand: The responsiveness of the quantity demanded to changes in the price of a good or service. The value is always negative because of the negative correlation between the changes in price and the quantity demanded. %𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑑𝑒𝑚𝑎𝑛𝑑𝑒𝑑 %𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑝𝑟𝑖𝑐𝑒 After calculating the elasticity of demand, the final elasticity should then be changed to a positive value. If PED is 1, that good is unit elastic. That means that when there is a percentage change in price, there will be an equal percentage change in quantity demanded. 0