Ultimate Review Packet (Microeconomics) Answer Key PDF

## Microeconomics Unit 1: Basic Economics Concepts ### Key Terms - **Scarcity:** Individuals, businesses, and governments have unlimited wants but limited resources. - **Consumer Goods vs. Capital Goods:** - Consumer goods - goods made for direct consumption (e.g., pizza). - Capital goods...

## Microeconomics Unit 1: Basic Economics Concepts ### Key Terms - **Scarcity:** Individuals, businesses, and governments have unlimited wants but limited resources. - **Consumer Goods vs. Capital Goods:** - Consumer goods - goods made for direct consumption (e.g., pizza). - Capital goods - goods made for indirect consumption. Goods that make consumer goods (e.g., restaurant oven). - **Trade-offs:** All possible options given up when you make a choice. - **Opportunity Cost:** The one best option given up when you make a choice, including money, time, and forgone opportunities. ### 3 Economic Systems 1. **Centrally Planned Economies:** Economic system where the government owns the resources and decides what to make, how to make it, and who gets it. Total government control of the economy. 2. **Free-Market Economies (Capitalism):** Economic system where individual citizens own the resources and decide what to make, how to make it, and who gets it. Little or no government involvement in the economy. 3. **Mixed Economies:** Almost all economies are a mixture of the above systems. ### Production Possibilities Curve (Frontier) **Use the chart to create a PPC to the right.** | Hats | Shoes | |---|---| | 0 | 30 | | 1 | 29 | | 2 | 25 | | 3 | 15 | | 4 | 0 | **Label the following three points on the graph:** - **X** - Unemployment/Inefficiency - **Y** - Efficient - **Z** - Impossible given current resource **Calculate the Opportunity Cost:** - A→B: 1 Shoe - B→C: 4 Shoes - C→D: 1 Hat - E→A: 2 Hats **Constant Opportunity Cost** - Why does this occur? Resources are easily adaptable between both products. **Increasing Opportunity Cost** - Why does this occur? Resources are **not** easily adaptable between both products. **Efficiency** - **Difference between allocative and productive efficiency:** - **Productive Efficiency:** Products are being produced in the least costly way (any point ON the curve). - **Allocative Efficiency:** The products being produced are the ones most desired by society. The optimal point depends on the desires of society. **Shifting the PPC** - **Identify the three shifters of the PPC** 1. Change in resource quantity or quality 2. Change in Technology 3. Change in Trade (Doesn't change the amount they can produce, but it does change the amount they can consume) **Production Possibilities Practice (draw 3 PPCs with pizza and cars)** * **Scenario:** Increase in consumer demand for pizza * **Scenario:** Workers loose their jobs due to a recession * **Scenario:** More resources that improve the production of cars ### Absolute and Comparative Advantage **Output Questions** The table shows the amount of sugar and each country can make with the same number of resources. | Country | Cars | Sugar (tons) | |---|---|---| | Cuba | 40 | 10 | | Mexico | 50 | 100 | 1. **Which country has an absolute advantage in sugar? How about cars?** Mexico/Mexico 2. **What is Cuba's opportunity cost for producing one car?** 4 sugar 3. **Which country has a comparative advantage in cars? How about sugar?** Mexico/Cuba 4. **For both countries to benefit from trade, how much sugar can be traded for each car?** 1 Car for 1 sugar (any number between 4 and 2) **Input Questions** The table shows the number of hours it takes to produce a ton of sausage and a ton of computers: | Country | Sausage | Computers | |---|---|---| | Canada | 2 | 6 | | UK | 10 | 10 | 1. **Which country has an absolute advantage in sausage? How about computers?** Canada/Canada 2. **What is Canada's opportunity cost for producing one computer?** 3 sausage. 3. **Which country has a comparative advantage in computers? How about sausage?** UK/Canada 4. **For both countries to benefit from trade, how many sausages can be traded for each computer?** 1 comp sausage (any number between 3 and 1) ### Circular Flow Matrix (Model) - **Product Market:** Places where individuals buy goods and services from businesses. - **Factor (Resource) Market:** Places where businesses buy the factors (land, labor, capital) from individuals. - **Factor Payments:** Payments made by businesses. Rent for land, wages for labor, interest for capital. - **Transfer Payments:** Payments made by the government to meet a specific goal rather than pay for goods and services (ex: welfare). ## Microeconomics Unit 2: Demand, Supply, and Consumer Choice ### Demand **The Law of Demand:** - Inverse relationship between price and quantity demanded. _P↑ Qd↓_ , _P↓ Qd↑_. **The Law of Supply:** - Direct relationship between price and quantity supplied. _P↑ Qs↑_ , _P↓ Qs↓_. **What is the difference between a change in quantity demanded and a change in demand?** - A change in quantity demanded is movement along the curve due to a change in price. - A change in demand is when the entire demand curve shifts left or right due to a change in one of the shifters. ### Changes in Demand and Supply (Shifting the Curve) **What changes demand? (5 Shifters of Demand)** 1. Tastes and preferences 2. Number of consumers 3. Price of related goods - substitutes and complements 4. Income 5. Future expectations **What changes supply? (5 Shifters of Supply)** 1. Prices/availability of inputs (resources) 2. Number of producers 3. Technology 4. Government action: taxes & subsidies 5. Expectations of future profit **Substitutes:** _Price of A↑ Demand for B↓_ _Price of A↓ Demand for B↑_ **Complements:** _Price of A↑ Demand for B↓_ _Price of A↓ Demand for B↑_ **Equilibrium and Disequilibrium** - **Draw a shortage:** - **Draw a surplus:** **Supply and Demand Practice** - **Demand Decrease:** - **Demand Increase:** - **Supply Decrease:** - **Supply Increase:** - **Double Shift Rule:** If two curves shift at the same time, **EITHER** price or quantity will be indeterminate. ### Inelastic Demand - **Characteristics:** 1. Necessity 2. Few substitutes 3. Elasticity coefficient less than 1 - **Equation:** Percent change in quantity demanded/ Percent change in price - Perfectly Inelastic = 0 - Relatively Inelastic = Less than 1 - Unit Elastic = 1 - Relatively Elastic = Greater than 1 - Perfectly Elastic = ∞ ### Elastic Demand - **Characteristics:** 1. Luxury 2. Many substitutes 3. Elasticity coefficient greater than 1 - **Equation:** Percent change in quantity supplied/ Percent change in price - Perfectly Inelastic = 0 - Relatively Inelastic = Less than 1 - Unit Elastic = 1 - Relatively Elastic = Greater than 1 - Perfectly Elastic = ∞ ### Total Revenue Test - **Inelastic Demand:** - Price ↑, TR↓ - Price↓, TR↑ - **Elastic Demand:** - Price ↑, TR↑ - Price↓, TR↓ ### Cross-Price Elasticity of Demand - **Definition:** Shows what happens to one product when the price changes for a different product. - **Equation:** Percent change in quantity of product A/ Percent change in price of product B - Positive: Substitute - Negative: Complement ### Income Elasticity of Demand - **Definition:** Shows what happens to a product when there is a change in income. - **Equation:** Percent change in quantity/Percent change in income - Positive: Normal good - Negative: Inferior good ### Consumer Surplus (CS) and Producer Surplus (PS) - **Consumer Surplus (CS):** Difference between how much people are willing to pay and the price they do pay. - **Producer Surplus (PS):** Difference between the price and how much the seller is willing to sell the product for. - **Deadweight Loss (DWL):** Lost efficiency when the optimal quantity is not being produced. ### Welfare Economics and International Trade - **The graph shows the domestic market for rice.** Identify and calculate the following at equilibrium: - Consumer surplus - Producer surplus - Total surplus - **Identify the following if this country buys rice from other countries for $5:** - Quantity produced domestically - Quantity imported - Consumer surplus - Producer surplus - **Identify if the government places a tariff of $1:** - Consumer surplus - Tariff revenue - Deadweight Loss ## Unit 3: Costs of Production and Perfect Competition ### Production and the Law of Diminishing Marginal Returns - Calculate MP. Plot TP and MP on Graph. - Define the law of diminishing marginal returns. - After which worker does diminishing marginal returns set in? ### Revenue and Costs - Define the following: - Total Revenue - Accounting Profit - Economic Profit - Normal Profit - Fixed Cost - Variable Cost - Total Cost - Marginal Cost - Identify the three stages of returns: increasing, decreasing, and negative marginal returns. ### Short Run Cost Curves - Draw and label ATC, AVC, and MC. ### Long-Run Cost Curves - _LRATC_ - Economies of Scale: Long run average total cost (LRATC) falls because mass production techniques are used. - Diseconomies of Scale: Long run average total cost (LRATC) increase as the firm gets too big and difficult to manage. ### Calculating ATC, AVC, AFC, and MC - Fill in the blanks for a firm producing boxes of oranges: | Output (boxes)| Variable Cost | Total Cost | AVC | AFC | ATC | MC | |---|---|---|---|---|---|---| | 0 | $0 | $10 | | | | | | 1 | $20 | $30 | | | | | | 2 | $30 | $40 | | | | | | 3 | $60 | $70 | | | | | | 4 | $100 | $110 | | | | | ### Shut Down Point - Shut Down Rule: A firm should shut down if the price falls below the minimum AVC. - Short-Run Supply Curve: The MC curve above minimum AVC. ### Per-Unit vs. Lump-Sum 1. A per unit tax shifts _MC, AVC, and ATC_ so quantity will _change (decrease)_. 2. A lump sum tax shifts _AFC and ATC_ so quantity will _NOT change_. ### Graphing Perfect Competition - Draw side-by-side graphs showing a perfectly competitive market and firm. Draw the firm making profit. - Draw a perfectly competitive market and a firm with the firm making a loss. ### Calculation Practice - Assume this firm is in a perfectly competitive market and the price is $35 for each box. - How many boxes should they produce? Why? - Calculate the profit at that quantity. ### Characteristics of Perfect Competition 1. Many small firms 2. Identical products 3. No barriers to entry 4. No control over the price 5. No economic profit in long run 6. Efficient ## Unit 4: Imperfect Competition ### Characteristics of the Four Market Structures - **Perfect Competition:** - Many small firms - Identical products - Easy to enter and exit - No need to advertise - Firms are "Price Takers" - **Monopolistic Competition:** - Large number of sellers - Differentiated products - Easy to enter and exit - A lot of non-price competition - Some control over price - **Oligopoly:** - A Few Large Firms (Less than 10) - High Barriers - Control Over Price - Mutual Interdependence - **Monopoly:** - One firm - Unique product - High barriers to enter and exit - Price Maker ### Demand and Marginal Revenue - Why is demand greater than marginal revenue for all imperfectly competitive firms? - Why are monopolies inefficient? ### Monopoly Graph (Profit) - Draw and label a monopoly making profit. ### Monopoly Graph (Loss) - Draw and label a monopoly making a loss. ### Barriers to Entry - Identify four common barriers to entry that allow companies to gain and maintain market power: - Economies of Scale - Control of Scarce Resources - Governmental or Legal Barriers - Technological Superiority ### Natural Monopolies - What is a natural monopoly? ### Regulating Monopolies - Label a monopoly unregulated, socially optimal, and fair return. ### Price Discrimination - Identify the three conditions necessary for a firm to price discriminate. - If a regular unregulated monopoly started perfectly price discriminating, what would happen to consumer surplus and deadweight loss? ## Unit 5: The Resource Market ### Define Key Terms - The Resource (Factor) Market: All markets where the factors of production (land, labor, capital) are sold by households to businesses. - Derived Demand: The demand for resources is determined (derived) by the products they help produce. (ex: the demand for carpenters is derived by the demand of homes). - Demand for Labor: The number of workers that businesses are willing and able to hire at different wages. - Supply for Labor: The number of workers that are willing and able to sell their labor at different wages. - Marginal Revenue Product (MRP): The additional revenue generated by an addition resource (worker). - Marginal Resource Cost (MRC): The additional cost of an additional resource (worker). ### Demand and Supply for Labor - Draw a competitive market for plumbers. Label the equilibrium wage and quantity. - Assume the government establishes a certification process that makes it harder to be a plumber. Show on the graph what will happen to the wage and quantity. ### Minimum Wage - Draw the results of a minimum wage. Label the quantity supplies (Qs) & the quantity demanded (Qd). ### Resource Shifters and Equilibrium - **Shifters of Labor Demand:** - Change in the demand for the product - Change in the productivity of the resource - Change in the price of related resources (substitute and complementary resources) - **Shifters of Labor Supply:** - Number of qualified workers - Government regulation/licensing - Personal values regarding leisure and societal roles - If the equilibrium wage for electricians is $15 an hour and the government established a minimum wage of $10 an hour, what will happen to the wage and quantity? ### Labor Market Practice 1. If the demand for houses increases, the wage of carpenters *will ↑ and the quantity will ↑*. 2. Assume bricks and wood are substitute resources. If the price of bricks increases, the price of wood *↑* and the quantity *↑*. 3. If the government removes all regulations for becoming a dentist. The wages for dentists *will ↓* and the quantity *will ↑*. 4. If demand for accountants falls at the same time that the supply increases, the wage *will ↓* and the quantity *will be indeterminate*. 5. Will a binding minimum wage lead to relatively less unemployment when the demand for labor is inelastic or when it is elastic? *When the demand is inelastic there will be less unemployment.* The quantity demanded will decrease a little since employers still need these workers. ### Perfectly Competitive Labor Market and Firm - Draw side-by-side graphs showing a perfectly competitive market and firm hiring workers. - **Calculating MRP and MRC** - Plot the MRP and MRC for the firm. - The firm should hire a worker as long as the revenue the worker generates is greater than the cost to hire them. Firms hire where MRP = MRC. ### Monopsony - Draw a monopsony and label the unregulated wage and quantity. ### Combining Resources - Least cost rule when combing resources: _Marginal Product Labor = Marginal Product of Capital/ Price of Labor/ Price of Capital_ - Profit maximizing rule for combing resources: _MRPx = MRPү= 1/MRCY/ MRCX_ ### Excess Capacity - The gap between the minimum ATC output and the profit maximizing output. ### What are the two goals of advertising? 1. Increase the demand for the product or service 2. Make the demand more inelastic ## Unit 6: Market Failures and the Role of the Government ### Public Goods - Why are public goods a market failure? - Two Characteristic of Public Goods: - Nonexclusion - Shared consumption - Maximizing Rule for Public Goods: Public goods should be produced as long as the additional benefit to society is greater than the additional cost. Produce where MSB = MSC ### Negative Externalities - Draw a negative externality. Label the free market quantity, optimal quantity, and deadweight loss. ### Correcting Externalities - Solutions to solve a negative externality: - Per unit tax - Government regulation decreasing output - Solutions to solve a positive externality: - Per unit subsidy - Government regulation that increases output - How does Coase Theorem seek to solve negative externalities? ### Positive Externalities - Draw a positive externality. Label the free market quantity, optimal quantity, and deadweight loss. ### Regulating Monopolies - Label a monopoly unregulated, socially optimal, and fair return. ### What are transfer payments? - Government payments to individuals or businesses designed to meet a specific objective rather than pay for goods or resources. (Ex: Welfare) ### What is the Gini Coefficient? - A statistical measurement of income equality where perfect equality is 0 and perfect inequality is 1. ### Types of Taxes - Progressive Tax - Proportional Tax - Regressive Tax ### Income Distribution Practice 1. **What is the difference between income inequality and wealth inequality?** - Income looks at how earnings are distributed and wealth inequality looks at how assets are distributed. 2. **An increase in job training for low-skilled workers would likely ↓ income inequality and cause the Gini coefficient to ↓** ### Tax Incidence - Label the amount consumers and producers pay of tax. - **Who pays more of the tax:** 1. If demand is elastic and supply is inelastic? Producers 2. If demand is inelastic and supply is elastic? Consumers 3. If demand is perfectly inelastic? Consumers pay all ## Unit 7: Externalities - **Negative Externality:** A situation that results in external costs on others causing the marginal social cost to be higher than the marginal private cost. - **Positive Externality:** A situation that results in external benefits on others causing the marginal social benefit to be higher than the marginal private benefit. - **Why are externalities a market failure?** They cause markets to produce the wrong output. - **Tragedy of the Commons:** A lack of property rights causes individuals to uses resources in a way that is contrary to the benefits of society (example- overfishing). ## Unit 8: The Government - The government's role is to regulate the economy and provide public goods. - The government can use fiscal policy (changes in government spending and taxes) and monetary policy (changes in the money supply) to stabilize the economy. - The government can also use regulation to address market failures such as pollution and monopoly. ## Unit 9: International Trade - **Comparative Advantage:** The ability of a country to produce a good or service at a lower opportunity cost than other countries. - **Free Trade:** The ability of countries to trade goods and services without government restrictions. - **Protectionism:** Government policies designed to protect domestic industries from foreign competition. - **Tariffs:** Taxes on imported goods. - **Quotas:** Limits on the quantity of imported goods. - **The Benefits of Free Trade:** - Lower prices for consumers - Greater variety of goods and services - Increased economic efficiency - Lower costs for producers - Increased jobs - **The Costs of Free Trade:** - Job losses in industries that cannot compete with foreign producers - Environmental damage - Loss of national sovereignty ## Unit 10: International Finance - **Exchange Rate:** The price of one currency in terms of another currency. - **Appreciation:** An increase in the value of a currency. - **Depreciation:** A decrease in the value of a currency. - **The Balance of Payments:** A record of all economic transactions between a country and the rest of the world. - **The Current Account:** A record of a country's trade in goods, services, and income receipts. - **The Capital Account:** A record of a country's trade in financial assets. - **The Balance of Trade:** The difference between a country's exports and imports of goods and services. - **A Trade Deficit:** When a country imports more goods and services than it exports. - **A Trade Surplus:** When a country exports more goods and services than it imports.