Midterm 1 Self-Review Checklist PDF

Midterm 1 Self-Review Topic Checklist Budget, Utility, Consumer Choice (Chapter 3) o Budget ▪ 𝑝𝑥 ⋅ 𝑥 + 𝑝𝑦 ⋅ 𝑦 = 𝐼 𝑝𝑥 ▪ Use to quantify tradeoffs between 𝑥 and 𝑦 in in terms of their prices....

Midterm 1 Self-Review Topic Checklist Budget, Utility, Consumer Choice (Chapter 3) o Budget ▪ 𝑝𝑥 ⋅ 𝑥 + 𝑝𝑦 ⋅ 𝑦 = 𝐼 𝑝𝑥 ▪ Use to quantify tradeoffs between 𝑥 and 𝑦 in in terms of their prices. 𝑝𝑦 ▪ How does a change in price 𝑝𝑥 or 𝑝𝑦 affect your budget line? ▪ How does a change in your income/budget 𝐼 affect your budget line? ▪ When the consumer experiences multiple shocks in 𝑝𝑥 , 𝑝𝑦 , and/or 𝐼, budgets may shift in/out, and at the same time, experience a change in slope. Can you envision how the budget line will move when multiple factors change together? o Preference ▪ Indifference curve ▪ Marginal utilities (MU). Compute 𝑀𝑈𝑥 , 𝑀𝑈𝑦 for linear utility function (perfect substitutes) Δ𝑦 𝑀𝑈𝑥 ▪ Marginal rate of substitution (MRS): 𝑀𝑅𝑆 = =− Δ𝑥 𝑀𝑈𝑦 ▪ Diminishing MRS (and sometimes, diminishing MUs) o Consumer Choice (Utility Maximization Problem) ▪ Two conditions for optimal consumer choice: Budget condition binds: 𝑝𝑥 ⋅ 𝑥 + 𝑝𝑦 ⋅ 𝑦 = 𝐼 𝑝𝑥 Tangency: 𝑀𝑅𝑆 = − 𝑝𝑦 ▪ Evaluate the optimality of a bundle on the budget by comparing: 𝑀𝑈𝑥 𝑝𝑥 vs. 𝑀𝑈𝑦 𝑝𝑦 𝑀𝑈𝑥 𝑀𝑈𝑦 vs. 𝑝𝑥 𝑝𝑦 When the above are not equal, is the indifference curve steeper or flatter than the budget line? ▪ Solve for consumer choice 𝑥 ∗ and 𝑦 ∗. Special Cases: Cobb-Douglas, perfect complements, perfect substitutes Demand (Chapter 4) o Derive graphically demand curve from consumer choice problem. ▪ Special Cases: Perfect substitutes, perfect complements, Cobb-Douglas o Effect of income, own-price, and cross-price on consumer choice 𝑥(𝑝𝑥 ) ▪ Effect of (own) price: Movement along the demand curve ▪ Effect of income Two types of goods: Normal vs. inferior good Income as a demand shifter ▪ Effect of cross-price Two types of relations between goods: Substitutes vs. complements Other goods’ price as a demand shifter o Movement along the demand curve: All else equal, as the good’s own price 𝑝𝑥 varies, the consumption 𝑥 changes as the consumer reoptimize. o Shifts of the demand: All else equal, as other factors (consumer’s own preference, income, another good’s price), the consumption 𝑥 changes as the consumer reoptimize. Demand can shift left or right depending on the shocks. o Elasticity Δ𝑄% ▪ (Own-price) elasticity of demand: 𝑒 𝑑 = Δ𝑃% 1  Project percentage changes in consumption following a price shock? I.e., compute Δ𝑄% following some Δ𝑃%. Project percentage changes in expenditure/revenue, following a price shock? I.e., compute Δ(𝑃𝑄)% following some Δ𝑃%. Δ𝑄% Δ𝑄 𝑃 Calculate the elasticity for a linear demand using 𝑒 = = ⋅ Δ𝑃% Δ𝑃 𝑄 Δ𝑄% ▪ Income elasticity 𝑒 𝑑 = Δ𝐼% Income elasticity for normal, luxury, necessity, and inferior goods Project percentage changes in consumption and expenditure following an income shock? I.e., compute Δ𝑄% and Δ(𝑃𝑄)% following some Δ𝐼%. ▪ Cross-price elasticity When symmetric, the cross-price elasticity between x and y is: Δ𝑄𝑦 % Δ𝑄𝑥 % 𝑒𝑥,𝑦 = 𝑒𝑦,𝑥 = = Δ𝑃𝑥 % Δ𝑃𝑦 % Project percentage changes in consumption and expenditure, following a price shock of another good? I.e., compute Δ𝑄% and Δ(𝑃𝑄)% following some Δ𝑃% of another good. o Decompose own-price effect into: ▪ Substitution effect + income effect ▪ Direction of these two effects: Substitution effect: always the same as the law of demand. Income effect: Can be either, depending on normal/inferior goods. ▪ Magnitude of these two effects: Substitution effect: Depending on substitutable goods in the market Income effect: Depending on the income elasticity. ▪ Applications: Explain/speculate why the price elasticity is relatively high/low for some goods by analyzing: the size of substitution effect the direction and size of the income effect o Substitution Bias from CPI o Lump-sum tax & subsidy vs. per-unit tax and subsidy Production, Isoquant, and MRTS (Part of Chapter 7) o Production basics ▪ Total product (TP); MP and AP of an input (e.g., MPL and APL) ▪ AP vs MP: Why does AP increase when MP > AP, and fall when MP < AP? ▪ TP vs MP: Why does TP increase when MP > 0, and fall when MP < 0? ▪ Compute MP and AP ▪ Diminishing MP o Isoquant for the production of 2 inputs ▪ Production function 𝐹(𝐿, 𝐾) ▪ Isoquant at a certain quantity 𝑄0 , i.e., input combos such that 𝐹(𝐿, 𝐾) = 𝑄0 ▪ What does a higher isoquant curve mean? o MRTS and Productivity Tradeoff ▪ Understand and calculate Marginal Product, e.g., 𝑀𝑃𝐿 and 𝑀𝑃𝐾 Δ𝐼𝑛𝑝𝑢𝑡2 Δ𝐾 ▪ 𝑀𝑅𝑇𝑆 = , e.g., for 𝐿 and 𝐾, 𝑀𝑅𝑇𝑆 = Δ𝐼𝑛𝑝𝑢𝑡1 Δ𝐿 𝑀𝑃1 ▪ 𝑀𝑅𝑇𝑆 = − , where 𝑀𝑃1 is the marginal product of the first input on the x-axis and 𝑀𝑃2 is the 𝑀𝑃2 𝑀𝑃𝐿 marginal product of the second input on the y-axis. E.g., for 𝐿 and 𝐾, 𝑀𝑅𝑇𝑆 = − 𝑀𝑃𝐾 o Diminishing MRTS (and sometimes diminishing MPs) 2