ECON 102 Midterm Review: Supply and Demand, Elasticity, Costs and Market Structures

Terms in this set (30)

1. What is opportunity cost?The value of the next-best alternative given up when making a choice. Spending an evening studying costs the wages you could have earned working.
2. Absolute vs comparative advantageAbsolute advantage: producing more with the same resources. Comparative advantage: producing at a lower opportunity cost. Trade gains come from comparative advantage.
3. What does a point inside the production possibilities frontier mean?Resources are unemployed or used inefficiently; more of one good could be made without giving up the other. Points outside are unattainable now.
4. Change in quantity demanded vs change in demandA change in the good's own price moves along the demand curve (quantity demanded). Other factors such as income, tastes or related prices shift the whole curve.
5. List the main determinants that shift demand.Income, prices of related goods (substitutes, complements), tastes, expectations, and number of buyers.
6. Normal vs inferior goodFor a normal good, demand rises when income rises. For an inferior good, demand falls when income rises (e.g. generic store brands for some consumers).
7. Substitutes vs complementsSubstitutes: a rise in one's price increases demand for the other (coffee and tea). Complements: a rise in one's price decreases demand for the other (cars and gasoline).
8. A frost destroys much of the orange crop. Effect on orange juice price and quantity?Supply shifts left: equilibrium price rises and equilibrium quantity falls.
9. If both demand and supply increase, what happens to equilibrium price and quantity?Quantity definitely rises; the price change is ambiguous, depending on which shift is larger.
10. Formula for price elasticity of demand (midpoint method)Ed = (% change in Qd)/(% change in P), with % changes computed as change divided by the average of start and end values. Use absolute value.
11. If demand is elastic (|Ed| > 1), what happens to total revenue when price rises?Total revenue falls, because quantity demanded falls by a larger percentage than price rises. With inelastic demand, revenue rises.
12. Factors that make demand more elasticMany close substitutes, the good is a luxury, it takes a large share of budget, a narrowly defined market, and a longer time horizon.
13. What is the sign of cross-price elasticity for substitutes and for complements?Positive for substitutes and negative for complements.
14. Consumer surplus vs producer surplusConsumer surplus is willingness to pay minus price paid (area below demand, above price). Producer surplus is price received minus cost (area above supply, below price).
15. Effect of a binding price ceiling (e.g. rent control)Set below equilibrium, it creates a shortage (Qd > Qs) and deadweight loss, and can lead to waiting lists and lower quality.
16. Effect of a binding price floor (e.g. minimum wage)Set above equilibrium, it creates a surplus (Qs > Qd); in the labor market that surplus is unemployment.
17. Does tax incidence depend on who legally pays the tax?No. The burden falls more on whichever side of the market is less elastic, regardless of whether buyers or sellers send the payment.
18. What is deadweight loss?The loss of total surplus from transactions that would have been mutually beneficial but no longer happen, e.g. because of a tax or price control.
19. Negative externality and its market outcomeA cost imposed on third parties (pollution). The market overproduces relative to the efficient level; a Pigouvian tax equal to the external cost can correct it.
20. Public goods: two defining characteristicsNonexcludable (can't prevent people from using them) and nonrival (one person's use doesn't reduce another's). Example: national defense. They face the free-rider problem.
21. Fixed cost vs variable costFixed costs don't change with output in the short run (rent); variable costs rise with output (raw materials). TC = FC + VC.
22. What is marginal cost and why does it eventually rise?MC = change in TC / change in Q. It rises due to diminishing marginal returns: adding variable inputs to fixed capital adds less output each time.
23. Why does the MC curve cross ATC at ATC's minimum?When marginal cost is below average cost it pulls the average down; above it pulls the average up. So they meet at the lowest point of ATC.
24. Profit-maximizing rule for any firmProduce the quantity where marginal revenue equals marginal cost (MR = MC).
25. When should a perfectly competitive firm shut down in the short run?When price falls below minimum average variable cost (P < AVC), since it cannot cover even variable costs. It loses only fixed costs by shutting down.
26. Long-run outcome in perfect competitionFree entry and exit drive economic profit to zero, so P = minimum ATC = MC, which is both productively and allocatively efficient.
27. Accounting profit vs economic profitAccounting profit = revenue - explicit costs. Economic profit = revenue - explicit - implicit costs (opportunity costs such as the owner's foregone salary).
28. How does a monopolist's output and price compare with competition?The monopolist sets MR = MC and charges a price above MC from the demand curve, producing less at a higher price, which creates deadweight loss.
29. What is a Nash equilibrium?An outcome where each player's strategy is the best response to the others' strategies, so no one can gain by changing strategy alone.
30. Why do cartel members tend to cheat (prisoner's dilemma)?Each firm earns more by producing beyond its quota if others comply, so cheating is a dominant strategy, even though all are worse off when everyone cheats.

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