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Econ Ch 3
Chapter 3
64
Economics
Undergraduate 1
04/12/2012

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Term
Measure of Inflation
Definition
Percent change in the cost of the same good in the following year
Term
Consumer Price Index
Definition

Index of the cost of purchasing certain bundles of goods. 

 

Set at 100 (So 106.5 = Inflation rate of 6.5)

Term

Absolute VS Relative

Prices

Definition

Absolute Price Changes: Change in the whole economy's general price level

 

Relative Price Change: Differing increases / decreases in the prices of two differenct goods

Term
How to determine the price a good would be in a future year from a past year
Definition

CPI of Future Year DIVIDED BY CPI of Past Year

 

= X

 

X MUPTIPLIED BY Past price = adjusted current price

Term

The law of demand placed a qualitative restriction on the demand slope


but does not place a quantitative restriction on the demand slope. 

Explain.

Definition

Qualitative: Demand slop is negative

 

Quantitative: Law does not say to what degree slope is negative (steepness)

Term

Slope Formula for Demand Equation

Price       Quantity

4            5

10          1


Definition

y1 - y2

x1 - x2


10 - 4   =  6   =  -2

  1-5        -3 


(Lower quantity on bottom, higher quantity on top)

Remember, slope is always NEGATIVE for demand

Term

Change in quantity of demand

vs

Change in demand


Definition

Change in quantity of demand: Movement ALONG the demand curve

 

Change in demand: Demand curve shifts to the right (incr) or left (decr)

Term
Quantity Supplied
Definition
The amount of a good a producer supplies at a given price
Term
Market Demand
Definition

Lateral sum of individual demand curves

 

Shows total amount demanded by ALL consumers at a given price

Term
Why do people buy less of a good as price increases?
Definition

1. They switch to a substitute  w/ lower cost

 

2. They simply cannot afford it

Term
Demand Equation
Definition

P = a + bQd

 

P = price

a = intercept (At this price, Q=0)

b = slope (always negative in demand curve)

Qd = quantity demanded. 

Term

You are given two points on a demand curve


(1, 10) and (3, 6)

 

Use demand formula to determine quantity demanded when P = $4

 

Definition

(3, 6) and (1, 10) means: (Q1, P1) (Q2, P2)

P    Q

6    3

10  1

Slope (B)

10 - 6   =  4   =  -2

  1-3     -2 

Intercept(A)

 10=a-2(1)   =   12

Solve for when P=4

P = a +bQd

4 = 12 -2(Qd)     4  = 12 -2         Qd = 12 - 2 (4)     Qd =  4

                      Qd


Term

Intercept Formula for Demand Equation

Definition

Use one of the given points used to find slope

 

Input P and Qd

 

Solv

Term

Intercept Formula for Demand Equatation



Suppose P = 10, B = -4, 

Definition

After finding slope...         P=a+bQd

 

Use one of the points you used to find slope and plug in P and Qd

 

 

Term

Change in quantity of supply

vs

Change in supply

Definition

Change in quantity of supply: Movement ALONG the supply curve

 

Change in supply: Supply curve shifts to the right (incr) or left (decr)

Term
Competetive Market
Definition
Where one producers and buyers exchange at different market prices, which cannot be determined by one individual prod/cons alone
Term

Jane has choice of two jobs. She values variety at $400.

 

Job #1: Pays $1000 a week, w/o variety

Job #2: Pays $800 a week, with variety

 

Which job will she choose?

Definition

Job #1

$1000 benefit

$400 opp cost (of variety forgone)

Job # 2:

$800 benefit

$400 benefit (of utility)

She will choose job #2 b/c it has a higher total value to her

Term
Explan how does an increase in income can have two different effects of demand based on the kind of good demanded.
Definition

Normal good:

When income increases, demand increases. 

When income decreases, demand decreases.

        (most goods)

Inferior good

When income increases, demand decreases. 

When income decreases, demand increases.

        (Goods purchased b/c of income restraints,

         like ramen)

Term

How do the affects of

"increase in price of a substitute"

and

"Expectation of higher prices in future"

relate?

Definition

Buying a good today 

 

is a SUBSTITUTE for

 

Buying a good tomorrow

Term

 

Law of Supply

Definition
If the price of a good increases, the quantity supplied increase, all things remaining the same
Term
Suply Schedule
Definition
Lists quantity supplied at different prices
Term

Year A --> Year B

 

 If CPI rises 10% and income rises 10%

 

What is the expected outcome?

 

Definition

No constraints have changes, so we would expect no change in behavior

 

Term

Year A --> Year B


If CPI increases 10%

and

The price of a good A increases 6%


What happens to the real/relative price of good A?

Definition
The real price decreases by 6%
Term

Explain how money is a good


What is the price of money?


If a pizza is $5, what is the price of money for that good

Definition

Money is a good b/c it is useful. It lowers the cost of transacting

 

Price of money: amount of other goods consumer is willing to give up in order to retain 1 unit of currency ($1)

 

If a pizza is $5, price of money is 1/5 pizza

Term

Explain inflation in terms of the


marginal value of money

Definition

When a government prints more money

in greater amounts than goods available

the consequence is a decreased

marginal value of money, 

and equivalenty,

increase in prices of all goods. 

Term

What is the cost of holding onto wealth from

year A --> year B

 


Definition

The percent of inflation from year A --> year B

 

Term

Inflation rate from year A --> year B

is 10%


what is the cost of holding onto $100 of wealth

from year A --> year B

Definition

Cost is $10

 

With $100, you will only be able to purchase $90 worth of goods next year

Term

As inflation increases, cash holdings decrease

 

(b/c of increased cost of inflation on stored money)


What does this postulate, then, infer about the velocity of money

Definition

The velocity of money, or the # of transactions

 

a given amount of money will support

 

will INCREASE

Term


Define Elasticity


and


Elastic vs Inelastic vs Unit Elastic

Definition

Elasticity: Responsiveness of quantity demanded/supplied as price changes

Elastic: When % change in quantity is GREATER than % change in price 

InelasticWhen % change in quantity is LESS than % change in price.

Unit Elastic

Term
Elasticity Equation
Definition

E = P  x      1   

      Q     |slope|



Term
How to calculate slope for elasticity equation
Definition

(Point A is higher on demand curve than point B)

Slope =  Qb – Qa

                  Pb - Pa

Term
How are alternative goods and elasticity related?
Definition

The more alternative goods, the more elastic

 

The less alternative goods, the more inelastic

 

Term

What is perfectly elastic?


When does this hapen?

Definition

Perfectly elastic: Demand curve is horizontal.

If price is one unit more, no one will buy. If price is one unit less, supply will run out

 

This happens w/ price takers, who have no influence on price

     Ex: Small company w/in large market

          Indv consumer w/in large market

Term

What is perfect inelasticity?



Definition

Demand curve is vertical

 

With any price change, quantity remains the same

 

Term

Why are higher-quality goods usually shipped farther away than lower-quality goods?

(assume goods are substituts)

Suppose you ship both a high quality good and a low quality good far away. What happens to the price of the high quality good? 

Qd for high quality good? Overall demand?

Definition

The cost of transportation is relatively less for a higher-valued good than a lower-valued good

 

The same transportation costs applied to both goods, so increasing cost of both goods by same amount decreases difference in prices, so people buy more high-quality goods

 

Overall demand decreases because overall prices increase

Term

At home, good steak costs $4, so-so steak costs $2

 

At a resturaunt, good steak costs $24

                       so-so steak costs $20

Where will relatively more good steak be consumed?

Definition

At home: 2:1

Cost of good steak is value of TWO so-so steaks

At resturaunt: 12:11

Cost of good steak is FRACTION of a so-so steak

 

More good steaks will be consumed at the resturaunt

Term
Why demand curve is downward sloping
Definition

As price increases...

1. People switch to substitutes

2. People can't afford good

Term

Compliment Goods

vs

Subsitute Goods


and affects of price incr/decr of other good's D or Qd

Definition

Compliment Goods:

Decr P of good A = Incr Qd of good A

                       = Incr demand of good B

Substitute Goods:

Incr P of good A = Decr Qd of good A

                       = Incr demand of good A

 

Term
Some trade is preferred to no trade
Definition

Trade = mutual benefits

so

NO trade = benefits of trades forgone

Term
As price rises, supply increases for two reasons
Definition

1. Production more costly

2. New sellers enter market at their min price

 

Term
Law of One Price
Definition

A single price at all transactions of a good

 

Why?

This maximizes mutual benefits from trade

Term
Arbitrage
Definition

One seller selling good at lower price than all the others

 

Term
Factors That Cause Increase in Supply
Definition

Decrease in...

cost of materials

Increase in...

Labor/other inputs

Improvements in technology/weather

Number of suppliers


& expectation of lower prices in future

Term

If the demand and price of a good increases


What happens to that good's substitute

Definition
Supply decreases. Suppliers gain more from selling a good at a higher price
Term

Define income elasticity


Give Equation

Definition

Percent change in consumption due to a percent change in income

 

Total Income    x   Change in quantity

   Total quantity        Change in income

Term

Define cross elasticity


Give Equation

Definition

How demand for good A changes w/ price of good Y

 

=  PriceofGoodY  x   %changeQdx

    PriceofGoodX      %changePy

 

For substitutes: positive, for complementary, negative. 

Term

Income Elastic

 

vs

 

Income Inelastic

Definition

Income Elastic: Incr in cons greater than incr in income

 

Income Inelastic: Incr in cons less than incr in income

Term

If price elasticity = X

 

a Y% decrease in quantity of a good

 

will result in a ___ decrease in quantity

Definition

X times Y = % decrease in Q

 

If incr in P > decr in Q,

revenue decreases

 

 

Term

If Demand is Elastic...

 

INCREASE in price will ____ total expenditure


DECREASE in price will ____ total expenditure

Definition

INCREASE in price will decrease total expenditure

    (Incr P < Decr Q)


DECREASE in price will increase total expenditure

    (Decr P < Incr Q)

Term

If Demand is Inelastic...

 

INCREASE in price will ____ total expenditure


DECREASE in price will ____ total expenditure

Definition

INCREASE in price will INCREASE total expenditure

      (Incr P > Incr Q)


DECREASE in price will DECREASE total expenditure

      (Decr P > Incr Q)

Term
Midpoint Formula
Definition

       NewP + InitialP

                 2

 _____________________     x         1   

        NewQ + InitialQ                   Slope

                  2

Term

How do substitution possibilities affect elasticity?

 

Definition

More substitutions = more elastic

 

 

Term
How does budget share affect elasticity?
Definition
As an item makes up more of your budget it will become more elastic
Term
How does time affect elasticity?
Definition

The more time passes from a price change,

 

the more elastic. 

 

(more time to find alternatives)

Term

If supply function passes through origin, price elasticity is....


If supply function does not pass through origin, price elasticity...

Definition

Zero along the whole curve

 

will become more elastic as you move along curve

Term

If inputs can be used in a variety of production, price elasticity will be relatively...

Definition

More elastic. 

 

Options of subsitutes, producers will use inputs for cheapest production

Term

When the cross price elasticity is negative, goods are 

Definition
compliments
Term

When the cross price elasticity is positive, goods are 

Definition
substitutes
Term

Income elasticity has 3 categories

Definition

1)  >1  

     -normal good

     -income elastic

     -luxury good)

2) <1 but <0

      -normal good

      -income inelastic

3) >0

      -inferior good

Term
Cutoffs for Price Elasticity
Definition

Elastic: more than 1

 

Inelastic: less than 1

 

Unit elastic: 1

Term

How to calculate % change in Q 

 

and

 

% change in P

Definition

% change in Q

|new Qd - old Qd|

        old Qd

 

% change in P

|new P - old P|

        old P

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